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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549  FORM 10-Q þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended March 31, 2005 or o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to Commission file number: 000-50642 Memory Pharmaceuticals Corp. 
  Delaware
    
    04-3363475(State or Other Jurisdiction of Incorporation or
    
    (I.R.S. Employer Identification No.)Organization)100 Philips Parkway, Montvale, New Jersey
    
    07645(Address of Principal Executive Offices)
    
    (Zip Code)
 (201) 802-7100 
  None. 
  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. þ
Yes       o No Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act): o
Yes       þ No As of May 6, 2005 the registrant had 20,806,442 shares of common stock, $0.001 par value
per share, outstanding.




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MEMORY PHARMACEUTICALS CORP. Table of Contents Part I. Financial Information
    
    
    3Item 1.
Financial Statements (unaudited)
    
    
    3BALANCE SHEETS
    
    
    3STATEMENTS OF OPERATIONS
    
    
    4STATEMENTS OF CASH FLOWS
    
    
    5NOTES TO FINANCIAL STATEMENTS
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    12Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    31Item 4. Controls and Procedures
    
    
    31Part II. Other Information
    
    
    32Item 6. Exhibits
    
    
    32SIGNATURES
    
    
    33EX-31.1: CERTIFICATIONEX-31.2: CERTIFICATIONEX-32.1: CERTIFICATE
 2




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial
Statements (unaudited) MEMORY PHARMACEUTICALS CORP. 
 BALANCE SHEETS
 (unaudited)
 (in thousands, except for share and per share amounts)
 March 31,
    
    
    December 31,2005
    
    
    2004ASSETSCurrent assets:Cash and cash equivalents
    
    $
    23,507
    
    
    $
    31,220Marketable securities
    
    
    7,484
    
    
    
    9,876Receivables
    
    
    921
    
    
    
    875Prepaid and other current assets
    
    
    1,059
    
    
    
    538Total current assets
    
    
    32,971
    
    
    
    42,509Property and equipment, net
    
    
    10,233
    
    
    
    10,376Restricted cash
    
    
    505
    
    
    
    505Other assets
    
    
    
    
    
    
    7Total assets
    
    $
    43,709
    
    
    $
    53,397LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    1,556
    
    
    $
    1,691Accrued expenses
    
    
    2,627
    
    
    
    3,177Current portion of equipment notes payable
    
    
    1,701
    
    
    
    1,806Deferred revenue  current
    
    
    5,952
    
    
    
    7,095Total current liabilities
    
    
    11,836
    
    
    
    13,769Equipment notes payable, less current portion
    
    
    1,769
    
    
    
    1,714Deferred revenue  long-term
    
    
    10,810
    
    
    
    10,472Total liabilities
    
    
    24,415
    
    
    
    25,955Stockholders equity:Common stock, $0.001 par value per share;
100,000,000 shares authorized and 20,760,714
issued and outstanding at March 31, 2005,
and 100,000,000 shares authorized and
20,547,442 issued and outstanding at
December 31, 2004;
    
    
    21
    
    
    
    21Additional paid-in capital
    
    
    148,454
    
    
    
    148,182Accumulated deficit
    
    
    (128,883
    )
    
    
    (120,434
    )Accumulated other comprehensive loss
    
    
    (52
    )
    
    
    (45
    )Deferred compensation
    
    
    (246
    )
    
    
    (282
    )Total stockholders equity
    
    
    19,294
    
    
    
    27,442Total liabilities and stockholders equity
    
    $
    43,709
    
    
    $
    53,397
 See accompanying notes to financial statements. 3




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MEMORY PHARMACEUTICALS CORP. 
 STATEMENTS OF
OPERATIONS
 (unaudited)
 (in thousands, except
for share and per share amounts)
 Three Months EndedMarch 31,2005
    
    
    2004Revenue
    
    $
    2,430
    
    
    $
    2,371Operating expenses:Research and development
    
    
    8,926
    
    
    
    5,815General and administrative
    
    
    2,086
    
    
    
    1,378Total operating expenses
    
    
    11,012
    
    
    
    7,193Loss from operations
    
    
    (8,582
    )
    
    
    (4,822
    )Interest:Income
    
    
    208
    
    
    
    97Expense
    
    
    (73
    )
    
    
    (105
    )Interest income (expense), net
    
    
    135
    
    
    
    (8
    )Net loss before income taxes
    
    
    (8,447
    )
    
    
    (4,830
    )Income taxes
    
    
    2
    
    
    
    2Net loss
    
    
    (8,449
    )
    
    
    (4,832
    )Less redeemable convertible preferred stock dividends
and accretion
    
    
    
    
    
    
    1,917Net loss attributable to common stockholders
    
    $
    (8,449
    )
    
    $
    (6,749
    )Basic and diluted net loss per share of common stock
    
    $
    (0.41
    )
    
    $
    (5.89
    )Basic and diluted weighted average number of shares
of common stock outstanding
    
    
    20,689,320
    
    
    
    1,146,307
 See accompanying notes to financial statements. 4




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MEMORY PHARMACEUTICALS CORP. 
 STATEMENTS OF CASH FLOWS
 (unaudited)
 (in thousands)
 Three Months EndedMarch 31,2005
    
    
    2004Cash flows used in operating activities:Net loss
    
    $
    (8,449
    )
    
    $
    (4,832
    )Adjustments to reconcile net loss to net cash used in operating activities:Depreciation and amortization
    
    
    534
    
    
    
    464Non-cash stock based compensation
    
    
    36
    
    
    
    197Changes in operating accounts:Receivables
    
    
    (46
    )
    
    
    2,019Prepaid and other current assets
    
    
    (521
    )
    
    
    (1,414
    )Other assets
    
    
    7
    
    
    
    8Accounts payable
    
    
    (135
    )
    
    
    (773
    )Accrued expenses
    
    
    (550
    )
    
    
    33Deferred revenue
    
    
    (805
    )
    
    
    (745
    )Net cash used in operating activities
    
    
    (9,929
    )
    
    
    (5,043
    )Cash flows used in investing activities:Purchases of marketable securities
    
    
    
    
    
    
    (7,405
    )Sales of marketable securities
    
    
    2,385
    
    
    
    2,549Additions to property and equipment
    
    
    (391
    )
    
    
    (1,828
    )Net cash provided by / (used in) investing activities
    
    
    1,994
    
    
    
    (6,684
    )Cash flows provided by financing activities:Proceeds from issuance of common stock
    
    
    272
    
    
    
    8Proceeds from equipment notes payable
    
    
    495
    
    
    
    960Principal repayment equipment notes payable
    
    
    (545
    )
    
    
    (570
    )Net cash provided by financing activities
    
    
    222
    
    
    
    398Net decrease in cash and cash equivalents
    
    
    (7,713
    )
    
    
    (11,329
    )Cash and cash equivalents, beginning of period
    
    
    31,220
    
    
    
    16,884Cash and cash equivalents, end of period
    
    $
    23,507
    
    
    $
    5,555Supplemental cash flow information:Cash paid for interest
    
    $
    73
    
    
    $
    105Cash paid for taxes
    
    
    
    
    
    
    4Accrued dividends on redeemable convertible preferred stock
    
    
    
    
    
    
    1,765Accretion of redeemable convertible preferred stock to liquidation value
    
    
    
    
    
    
    152
 See accompanying notes to financial statements. 5




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MEMORY PHARMACEUTICALS CORP. 
 NOTES TO FINANCIAL STATEMENTS
(unaudited)
  (1)
    Basis of PresentationAs used herein, we, us, the Company and similar terms refer to Memory Pharmaceuticals
Corp. We are a biopharmaceutical company focused on the development of innovative drug
candidates for the treatment of a broad range of central nervous system, or CNS, conditions that
exhibit significant impairment of memory and other cognitive functions. These conditions include
neurological diseases associated with aging, such as Alzheimers disease, vascular dementia and
mild cognitive impairment, or MCI, and also include certain psychiatric disorders such as
depression and schizophrenia.The financial statements included herein have been prepared from our books and records pursuant
to the rules and regulations of the Securities and Exchange Commission (SEC) for reporting on
Form 10-Q. The information and footnote disclosures normally included in complete financial
statements prepared in accordance with U.S. generally accepted accounting principles (U.S. GAAP)
have been condensed or omitted pursuant to these rules and regulations. The interim financial
statements should be read in conjunction with the audited financial statements and notes thereto
included in our Annual Report on Form 10-K for the year ended December 31, 2004.We are responsible for the financial statements included in this document. Our interim
financial statements are unaudited. Interim results may not be indicative of the results and
trends that may be expected for the year. However, we believe all adjustments considered
necessary for a fair presentation of these interim statements have been included and are of a
normal and recurring nature.(2)
    Recent Accounting DevelopmentsOn December 16, 2004 the FASB issued Statement No. 123 (revised 2004), Share-Based Payment(SFAS
123R). This Statement requires that the cost resulting from all share-based payment
transactions be recognized in the financial statements and establishes fair value as the
measurement objective in accounting for all share-based payment arrangements. On March 29,
2005,the SEC issued Staff Accounting Bulletin No. 107, Stock-based Payment,which summarizes
the views of the staff regarding the interaction between SFAS 123R and certain SEC rules and
regulations and provides the staffs views regarding the valuation of share-based payment
arrangements for public companies. SFAS 123R was originally effective as of the beginning of
the first interim or annual reporting period after June 15, 2005.However, on April 14, 2005
the SEC announced a new rule that amended the effective dates for SFAS 123R. The new rule
allows companies to implement SFAS 123R at the beginning of their next fiscal year, instead of
the next reporting period beginning after June 15, 2005. As such, we will adopt SFAS 123R as of
the beginning of the first quarter of 2006. The adoption of this Statement is expected to have a
material effect on our financial statements.(3)
    Stock-Based CompensationWe apply the intrinsic-value based method of accounting prescribed by APB Opinion No. 25, and
related interpretations including FASB Interpretation No. 44, Accounting for Certain
Transactions involving Stock Compensation, an interpretation of APB Opinion No. 25, issued in
March 2000, to account for our fixed-plan employee stock options. Under this method,
compensation expense is recorded on the date of grant only if the current market price of the
underlying stock exceeded the exercise price. SFAS No. 123, Accounting for Stock-Based
Compensation, as amended by SFAS No. 148, Accounting for Stock-Based Compensation, Transition
and Disclosure,established accounting and disclosure requirements using a fair-value based
method of accounting for stock-based employee compensation plans. As allowed by SFAS No. 123
and No. 148, we have elected to continue to apply the intrinsic-value based method of accounting
for employee stock options described above, and have adopted only the disclosure requirements of
SFAS No. 148.We account for stock options and warrants granted to non-employees based on the fair value of
the stock option or warrant. Fair market value is determined using the Black-Scholes
option-pricing model based on assumptions for expected stock price volatility, expected term of
the option, the risk-free interest rate and expected dividend yield at the grant date. Prior to
April 5, 2004, our common stock was not publicly traded. As a result, in valuing our common
stock, stock options and warrants issued prior to this date, we considered the pricing of private equity sales, company-specific events,
independent valuations, economic 6




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trends and the rights and preferences of the security being valued. The following table illustrates the effect on net loss attributable to common stockholders if
the fair-value based method had been applied to all outstanding and unvested awards each period.
The assumptions used to value the awards are included below. Because options granted during
2005 and 2004 vest over several years and additional awards are expected to be issued in the
future, the pro forma results shown below are not likely to be representative of the effects on
future years of the application of the fair-value based method. Three Months ended March 31,2005
    
    
    2004(in thousands, except per share amounts)Net loss attributable to common stockholders, as reported
    
    $
    (8,449
    )
    
    $
    (6,749
    )Add: Stock-based employee compensation expense included in reported net
loss
    
    
    36
    
    
    
    197Deduct: Employee stock-based compensation expense for stock option grants
under fair-value based method
    
    
    (448
    )
    
    
    (215
    )Deduct: Employee compensation for 2004 Employee Stock Purchase Plan under
fair-value based method
    
    
    (21
    )
    
    
    Pro forma net loss attributable to common stockholders
    
    $
    (8,882
    )
    
    $
    (6,767
    )Pro forma basic and diluted net loss per share of common stock
    
    $
    (0.43
    )
    
    $
    (5.90
    )Net loss attributable to common stockholders, as reported
    
    $
    (8,449
    )
    
    $
    (6,749
    )Basic and diluted net loss per share of common stock, as reported
    
    $
    (0.41
    )
    
    $
    (5.89
    )
 The fair values of these option grants were calculated using weighted averages of assumptions
for the multiple stock options granted during the three-month periods ended March 31, 2005 and
2004. Three Months endedMarch 31, 2005
    
    
    March 31, 2004Expected stock price volatility
    
    
    70
    %
    
    
    60
    %Expected term until exercise
    
    5 years
    
    
    5 yearsRisk-free interest rate
    
    
    4.0
    %
    
    
    3.2
    %Expected dividend yield
    
    
    0
    %
    
    
    0
    %
 The per share weighted average fair value of stock options granted during the three months ended
March 31, 2005 and 2004 was determined using the Black-Scholes option-pricing model. These
assumptions resulted in weighted average fair values of $3.06 and $11.97 per share for stock
options granted in the three months ended March 31, 2005 and 2004, respectively. Stock Options During the three months ended March 31, 2004, we granted an option to purchase 100,000 shares of
common stock to an employee at an exercise price of $2.70 per share pursuant to our 1998
Employee, Director and Consultant Stock Option Plan. Deferred compensation expense of $1.1
million attributable to the intrinsic value of the options granted was measured at the
measurement date for the grant. The compensation expense associated with that option grant was
recognized ratably over the expected four-year vesting period. The Company recognized $197,000
of total compensation expense during the three-month period ended March 31, 2004. The employee
terminated his employment with us subsequent to March 31, 2004. In connection
with the resignation of our former President, we agreed to extend the
period during which he would be entitled to exercise certain vested
stock options to purchase our common stock from three months
following the effective date of his resignation, April 1, 2005,
to 12 months following such effective date. We will record any associated
compensation expense related to a modification of the exercise period in the second quarter
of 2005. 7




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(4)
    Net Loss Per ShareBasic net loss per share is calculated by dividing net loss attributable to common stockholders
by the weighted average number of shares of common stock outstanding during the period. Diluted
net loss per share is computed by dividing net loss attributable to common stockholders by the
weighted average number of shares of common stock and the dilutive potential common stock
equivalents then outstanding. Potential common stock equivalents consist of stock options,
warrants and redeemable convertible preferred stock.Since we had a net loss in each of the periods presented, basic and diluted net loss per share
is the same. As a result, the computation of diluted net loss per share excludes the effect of
the potential exercise of options to purchase shares of common stock and warrants to purchase
shares of common stock, because the effect would be anti-dilutive. In addition, the diluted
weighted average number of shares outstanding for the three-month period ended March 31, 2004
excludes redeemable convertible preferred stock that would have converted into 13,295,427 shares
of common stock, since the effects would be anti-dilutive. Such shares are summarized as
follows: Three Months Ended March 31,2005
    
    
    2004Common stock options
    
    
    2,899,078
    
    
    
    2,483,597Warrants
    
    
    119,907
    
    
    
    164,514Redeemable convertible preferred stock
    
    
    
    
    
    
    13,295,427Total
    
    
    3,018,985
    
    
    
    15,943,538
 Pro Forma Net Loss Per Share Pro forma net loss per share is calculated using the weighted average number of shares of common
stock outstanding, including the pro forma effects of the automatic conversion of all
outstanding redeemable convertible preferred stock into shares of the Companys common stock
effective upon the closing of the Companys initial public offering, as if such conversion had
occurred at the date of the original issuance. The following table sets forth the calculation of basic and diluted net loss per share and pro
forma basic and diluted net loss per share for the three-month period ended March 31, 2004 as
compared to the three-month period ended March 31, 2005: Three Months ended March 31,(in thousands, except share and per share amounts)
    
    2005
    
    
    2004Reported basic and diluted:Net loss
    
    $
    (8,449
    )
    
    $
    (4,832
    )Dividends and accretion to redemption value
    
    
    
    
    
    
    (1,917
    )Net loss attributable to common stockholders
    
    
    (8,449
    )
    
    
    (6,749
    )Basic and diluted weighted average number of shares of
common stock outstanding
    
    
    20,689,320
    
    
    
    1,146,307Basic and diluted net loss per share
    
    $
    (0.41
    )
    
    $
    (5.89
    )Pro forma basic and diluted:Net loss
    
    
    (8,449
    )
    
    
    (4,832
    )Basic and diluted weighted average number of shares of
common stock outstanding
    
    
    20,689,320
    
    
    
    1,146,307Weighted average number of shares of common stock
outstanding assuming the conversion of all redeemable
convertible preferred stock and exercise of certain
warrants at the date of original issuance
    
    
    
    
    
    
    13,296,963Pro forma basic and diluted weighted average shares of
common stock outstanding
    
    
    20,689,320
    
    
    
    14,443,270Pro forma basic and diluted net loss per share
    
    $
    (0.41
    )
    
    $
    (0.33
    )
 Upon the closing of our initial public offering in April 2004, all of the outstanding shares of
our redeemable convertible preferred stock, including accrued but unpaid dividends, were automatically converted into 13,295,427
shares of common stock. 8




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Additionally, 1,536 shares of common stock were issued upon the net
share settled exercise of warrants, which occurred immediately prior to the closing of our
initial public offering.Dividends on the redeemable convertible preferred stock accrued at an annual rate of 8%, whether
or not funds were legally available or dividends were declared by our board of directors. Upon
the closing of our initial public offering on April 8, 2004, all of our preferred stock
converted into common stock, and all related accrued dividends in the amount of $19.5 million
were forfeited.(5)
    Initial Public Offering of Common StockIn April 2004, we sold 5,000,000 shares of our common stock in our initial public offering at a
price of $7.00 per share. We also issued an additional 750,000 shares of common stock through
an over-allotment option exercised by our managing underwriters in April 2004, at $7.00 per
share. After deducting underwriting discounts and expenses and estimated offering-related
expenses, the initial public offering resulted in net proceeds to us of approximately $35.3
million. In connection with the initial public offering, all of the outstanding shares of the
Companys redeemable convertible preferred stock were automatically converted into shares of our
common stock as described in Note 6  Redeemable Convertible Preferred Stock.(6)
    Redeemable Convertible Preferred StockOn April 8, 2004, the closing date of our initial public offering, all of the outstanding shares
of our redeemable convertible preferred stock, including accrued but unpaid dividends, were
automatically converted into 13,295,427 shares of common stock.Common stock issued upon the automatic conversion was as follows: CommonShares
    
    
    Carrying
    
    
    Conversion
    
    
    StockSeries
    
    Date Issued
    

Issued
    
    
    Amount
    
    
    Ratio
    
    
    IssuedA
    
    April 1998
    
    
    1,000,000
    
    
    $
    987,000
    
    
    
    0.3333
    
    
    
    333,332B
    
    December 1998, March 1999
    
    
    6,142,857
    
    
    
    10,732,000
    
    
    
    0.3333
    
    
    
    2,047,615C(1)
    
    June, August 2000
    
    
    10,000,000
    
    
    
    24,976,000
    
    
    
    0.3559
    
    
    
    3,558,521D
    
    March, April 2002
    
    
    19,290,130
    
    
    
    40,541,000
    
    
    
    0.3333
    
    
    
    6,430,033Roche(2)
    
    September 2003
    
    
    2,777,778
    
    
    
    9,522,000
    
    
    
    0.3333
    
    
    
    925,926$
    86,758,000
    
    
    
    
    
    
    
    13,295,427
   (1)
    
    As a result of our issuance of Series D redeemable convertible preferred stock at a
price per share less than $2.50, the conversion ratio of the number of shares of common
stock into which each share of Series C is convertible was adjusted so that each share of
Series C is convertible into 0.3559 shares of common stock. Pursuant to this anti-dilution
provision, the conversion of Series C would have resulted in the issuance of an additional 225,195
shares of common stock. However, we recorded a deemed dividend of $169,000 during 2002 to recognize
the value attributable to the increase in conversion ratio based on an estimated fair value
of the common stock.(2)
    
    We issued 2,777,778 shares of Series Roche redeemable convertible preferred stock and
115,740 warrants to purchase common stock at $12.96 per share to Roche for $10.0 million.
The proceeds of $10.0 million were allocated to redeemable convertible preferred stock and
additional paid-in capital based on the relative fair value of the preferred stock and the
warrants. We also recorded a beneficial conversion feature of $584,000, which increased the
net loss attributable to common stockholders during the year ended December 31, 2003. 9




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(7)
    Marketable SecuritiesOur marketable securities are debt securities primarily consisting of government obligations,
mortgage-backed securities, and corporate debt securities. We classify all of our marketable
securities as available-for-sale, as defined by Statement of Financial Accounting Standards
(SFAS) No. 115, Accounting for Certain Investments in Debt and Equity Securities.
Available-for-sale securities are carried at fair value, with unrealized gains and losses
reported as a component of stockholders equity in accumulated other comprehensive loss.
Interest income, realized gains and losses, and declines in value judged to be
other-than-temporary on securities are included in our statements of operations. March 31,
    
    
    December 31,2005
    
    
    2004Fair Value
    
    
    Unrealized Loss
    
    
    Fair Value
    
    
    Unrealized Loss(in thousands)Corporate debt securities
    
    $
    3,432
    
    
    $
    31
    
    
    $
    5,360
    
    
    $
    27Obligations of US government agencies
    
    $
    1,199
    
    
    
    5
    
    
    
    1,302
    
    
    
    2Mortgage-backed and asset-backed
securities
    
    $
    2,853
    
    
    
    16
    
    
    
    3,214
    
    
    
    16$
    7,484
    
    
    $
    52
    
    
    $
    9,876
    
    
    $
    45
  We evaluate declines in fair value of our investments in available-for-sale marketable
securities to determine if these declines are other-than-temporary. If a decline in fair value
is determined to be other-than-temporary, an impairment charge would be recorded and a new cost
basis in the investment would be established.(8)
    Comprehensive LossComprehensive loss includes net loss and unrealized gains and losses on available-for-sale
marketable securities. Cumulative unrealized gains and losses on available-for-sale marketable
securities are reflected as accumulated other comprehensive loss in stockholders equity on our
balance sheet. For the three months ended March 31, 2005, comprehensive loss was $8.5 million,
which includes our net loss of $8.4 million, and an unrealized loss on available-for-sale
marketable securities of $7,000. For the three months ended March 31, 2004, comprehensive loss
was $6.7 million, which includes our net loss of $6.7 million offset by an unrealized gain on
available-for-sale marketable securities of $48,000.(9)
    License Agreements and CollaborationsBayer AGIn June 2001, we entered into an exclusive license agreement with Bayer AG (Bayer). Under the
agreement, we have been granted an exclusive worldwide license to Bayers know-how and patents to
commercialize and market a drug candidate to treat human peripheral and CNS-related disorders. As
of March 31, 2005, we have paid $1.0 million in upfront and milestone payments under this
agreement. We are also required to make milestone payments to Bayer and pay royalties to Bayer on
proceeds received by us from the sale of any products incorporating the licensed compound.Hoffmann-LaRoche (2002 Collaboration)In July 2002, we executed a Research Collaboration and License Agreement (2002 Roche Agreement)
with F. Hoffmann-La Roche Ltd./Hoffmann-La Roche Inc., or Roche, for the development of PDE4
inhibitors for neurological and psychiatric indications, and other potential indications. Under
the 2002 Roche Agreement, we granted Roche a worldwide, exclusive, sublicensable license to our
patent rights and know-how with respect to any PDE4 inhibitor for the prevention and treatment of
diseases, in all indications, for either human or veterinary use. 10




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Under the 2002 Roche Agreement, as of March 31, 2005, Roche has made an $8.0 million upfront
license payment and two $2.0 million milestone payments. Roche is obligated to make future
payments if specified developmental milestones are achieved. On August 6, 2004, the research
collaboration under the 2002 Roche Agreement for the development of PDE4 inhibitors was extended
for a two-year period. In connection with this extension, Roche has committed to a minimum of 18
months funding of our research collaboration efforts in the aggregate amount of $5.3 million,
payable quarterly commencing September 2004. On April 15,
2005, we announced that Roche had
decided not to pursue further development on its own of the two named
drug candidates under our PDE4 inhibitor collaboration MEM 1414 and
its back-up MEM 1917 and that the two companies have
commenced discussions to determine the future of these two drug
candidates.During each of the three month periods ended March 31, 2005 and March 31, 2004, we recognized
revenue of $1.3 million, under the 2002 Roche Agreement, representing $412,000, related to the
upfront license payment and milestone payments received, which are being amortized over the
expected development period of 7.5 years from the date of the collaboration, and $875,000,
related to the funding of the research collaboration. As a result of Roches decision not to
pursue further development on its own of MEM 1414 and its back-up
MEM 1917, and subject to the results of our discussions with Roche, we
may reassess the expected development period under the 2002 Roche Agreement.Hoffmann-LaRoche (2003 Collaboration)In September 2003, the Company entered into a second collaboration agreement with Roche (2003
Roche Agreement). Under the 2003 Roche Agreement, the Company granted Roche the right, on a
compound-by-compound basis, to obtain an exclusive, worldwide, sublicensable license to the
Companys patent rights and know-how for any nicotinic alpha-7 partial agonist that the Company
develops during the five years following the commencement of the collaboration. Under the 2003
Roche Agreement, Roche made a $10.0 million upfront nonrefundable payment and will make future
payments based on the Company achieving certain developmental milestones. Additionally, the
agreement provides for Roche to make nonrefundable quarterly payments of $750,000 over a two-year
period for research collaboration efforts.During the second quarter of 2004, we changed our revenue recognition approach for the upfront
nonrefundable payment and the nonrefundable quarterly payments for our research collaboration
efforts received under the 2003 Roche Agreement from two units of accounting to a single unit of
accounting, as defined in the Emerging Issues Task Force (EITF) No. 00-21, Accounting for Revenue
Arrangements with Multiple Deliverables. Since Roche has the right to enter into a license under
our 2003 agreement, the upfront nonrefundable payment and the nonrefundable quarterly payments
for research collaboration efforts are now being amortized over the five-year period following
the commencement of the collaboration. During this period, we are responsible for the
preclinical and clinical development through Phase IIa of nicotinic alpha -7 partial agonist
compounds. This period also reflects the time period that Roche has the right to obtain an
exclusive, sublicensable license to our patent rights and know-how for any nicotinic alpha-7
partial agonist that we develop. We will recognize revenue over the five-year period based on
the level of actual research efforts expended in a period as compared to our estimated efforts
over the full period. The adoption of this single unit of accounting for revenue recognition
treatment under the 2003 Roche Agreement does not have a material impact on the Companys
financial position, results of operations or cash flows.During the three-month periods ended March 31, 2005 and March 31, 2004, the Company recognized
revenue of $1.1 million, under the 2003 Roche Agreement. See
also Recent Developments in Item 2,
Managements Discussion and Analysis of Financial Condition and
Results of Operations.(10)
    Consulting AgreementsIn April 1998, we entered into a consulting agreement with one of the founders of the Company for
an initial term of four years, with the option to automatically extend the term for additional
one-year periods. Under the consulting agreement, we are obligated to pay a consulting fee
during each of the one-year terms. In April 2005, the agreement was automatically extended for a
one-year period.We have entered into consulting arrangements with research consultants and scientific advisory
board members for various consulting services. The terms of these agreements do not exceed two
years and generally require us to pay consulting fees on a monthly or quarterly basis as services
are provided. 11




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Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations This Managements Discussion and Analysis of Financial Condition and Results of Operations (MD&A)
is intended to provide information to help you better understand and evaluate our financial
condition and results of operations. We recommend that you read this section in conjunction with
our financial statements and notes to financial statements in Item 1 and with our Annual Report on
Form 10-K for the year ended December 31, 2004. This quarterly report on Form 10-Q, including the following MD&A, contains forward-looking
statements that you should read in conjunction with the financial statements and notes to financial
statements that we have included in Item 1. These statements are based on our current expectations,
assumptions, estimates and projections about our business and our industry, and involve known and
unknown risks, uncertainties, and other factors that may cause our or our industrys results,
levels of activity, performance or achievements to be materially different from any future results,
levels of activity, performance or achievements expressed or implied in, or contemplated by, the
forward-looking statements. We generally identify these statements by words or phases such as
believe, anticipate, expect, intend, plan, will, may, should, estimate,
predict, potential, continue, or the negative of such terms or other similar expressions. Our
actual results and the timing of events may differ significantly from the results discussed in the
forward-looking statements, and you should not place undue reliance on these statements. Factors
that might cause such a difference include those discussed below under the heading Risk Factors,
as well as those discussed elsewhere in this quarterly report on Form 10-Q. We disclaim any intent
or obligation to update any forward-looking statements as a result of developments occurring after
the period covered by this report or otherwise. OVERVIEW Since our incorporation in March 1997, we have devoted substantially all of our resources to the
discovery and development of innovative drug candidates for the treatment of a broad range of CNS
conditions that exhibit significant impairment of memory and other cognitive functions. We
currently have a number of clinical and preclinical drug candidates in development, as well as other
multiple drug discovery programs addressing specific CNS targets. We seek to leverage our pipeline
of early development candidates through collaborations with leading pharmaceutical and
biotechnology companies. Our development programs target the treatment of a broad range of CNS conditions that exhibit significant impairment of memory and other
cognitive functions. These conditions include neurological diseases associated with aging, such as
Alzheimers disease, vascular dementia and MCI and also include
certain psychiatric disorders such as schizophrenia and depression. We have entered into two separate collaborations with Roche for clinical development, one for PDE4
inhibitors and the other for nicotinic alpha-7 partial agonists. As of March 31, 2005, we had
received $46.9 million in licensing fees, payments for research and development services, milestone
payments and an equity investment under these collaborations. We could receive up to $224.5 million
in milestone payments, including the license fees previously paid and bonus payments for achieving
certain sales milestones, from these collaborations (if we achieve all of the milestones for one neurological product and one psychiatric product under each collaboration agreement). This amount has been revised to reflect
Roches decision not to pursue further development of the two named compounds under the PDE4
collaboration, MEM 1414 and its back up MEM 1917, on its own. These amounts are in addition to
payments to us for research and development services, some of which have previously been paid, and
royalties, which would be payable on product sales. We may not reach all of the milestones, in
which event we would likely receive substantially less than $224.5 million under the
collaborations. On August 6, 2004, the research collaboration for the development of PDE4
inhibitors was extended for a two-year period. In connection with this extension, Roche committed
to a minimum of 18 months funding of our research collaboration efforts in the aggregate amount of
$5.3 million, payable quarterly commencing September 9, 2004. In June 2001, we entered into an agreement with Bayer for the in-license of the compound we refer
to as MEM 1003. As of March 31, 2005, we had paid $1.0 million in upfront and milestone payments
under this agreement. Under the agreement, we are required to make additional milestone payments of
up to $19.0 million upon completion of future milestones (including a $1.0 million milestone
payment which will be due upon commencement of Phase IIa on clinical trials) and to pay royalties on
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Since our inception, we have incurred substantial losses, and as of March 31, 2005, we had an
accumulated deficit of $128.9 million, of which $19.5 million related to preferred stock dividends
that were forfeited upon the conversion of our redeemable convertible preferred stock upon the
closing of our initial public offering on April 8, 2004. These losses and accumulated deficit have
resulted from the significant costs incurred in the research and development of our compounds and
technologies, including payroll and payroll-related costs, manufacturing costs of preclinical and
clinical grade materials, facility and facility-related costs, preclinical study costs, clinical
trial costs, and general and administrative costs. We expect that our losses will continue, and
will likely increase substantially for the foreseeable future as we continue to expand our
research, development, clinical trial activities and infrastructure to support our discovery and
development programs. Because a substantial portion of our revenues for the foreseeable future will depend on achieving
development and clinical milestones, and potentially, from entering into new collaborations, our
revenue may vary substantially from year-to-year and quarter-to-quarter. Our operating expenses may
also vary substantially from year-to-year and quarter-to-quarter based on the timing and level
of our preclinical and clinical activities performed directly by us versus by our collaboration partners.

In particular, we are funding a safety and tolerability study of MEM 1003 in Alzheimers patients
and intend to fund Phase IIa clinical trials for MEM 1003 ourselves. However, we are also
exploring the potential for a collaboration for MEM 1003. If, following the completion of Phase
IIa trials, we have been unable to find a collaboration partner for MEM 1003, we may at that time
choose to continue the program at our own expense. If we do not enter into a collaboration and
decide to advance MEM 1003 beyond Phase IIa on our own, our research
and development expenses will
increase significantly. We believe that period to period comparisons
of our results of operations are not meaningful because of the range
of factors that could affect our results from one quarter to the next
and should not be relied on as indicative of our future performance. RECENT DEVELOPMENTS On April 15, 2005, we announced that Roche has decided not to pursue further development of the two
named compounds under the PDE4 collaboration, MEM 1414 and its back up MEM 1917, on its own and
that the two companies have commenced discussions to determine the future of these two compounds. On May 3, 2005, we announced that we had received a $2.0 million milestone payment from Roche
related to MEM 3454, a drug candidate being developed under our 2003
Roche Agreement. Roche elected to make this first milestone
payment in order to maintain its option to obtain an exclusive license for MEM 3454. The payment
was triggered by our preclinical work on MEM 3454, which satisfied a set of criteria that was
pre-defined by Roche, and the initiation of a Phase I clinical trial for MEM 3454 in February 2005. RESULTS OF OPERATIONS Three Months Ended March 31, 2005 compared to Three Months Ended March 31, 2004 Revenue We do not currently have any commercial products for sale and do not anticipate having any
commercial products for sale within the foreseeable future. To date, our revenue has been derived
solely from our two collaborations with Roche. Any additional revenue that we may receive in the
future is expected to consist primarily of license fees, milestone payments, reimbursement for
research and development services and royalty payments from either Roche or from other
collaborations that we may enter into in the future. Revenue for the three months ended March 31, 2005 was $2.4 million, representing the currently
recognizable portion of licensing fees, milestone payments, and fees for research and development
services from Roche. This represented a 2.5% increase from revenue of $2.4 million for the three
months ended March 31, 2004. 13




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Research and development expense Research and development expense
increased by $3.1 million, or 53.5%, to $8.9 million for the three
months ended March 31, 2005 from $5.8 million for the three
months ended March 31, 2004. Of this
increase, $2.2 million was associated with the safety and tolerability study for MEM 1003, $0.5
million was associated with the Phase I clinical trial for MEM 3454, $0.2 million was attributable
to an increase in building occupancy costs associated with running our expanded research facility,
and $0.2 million was attributable to higher personnel and personnel-related costs as we increased
headcount to support our discovery and development programs. In general, we expect that research
and development expenses will continue to increase as we increase the number of drug candidates and
indications for which we conduct preclinical tests and clinical trials. Research and development costs are charged to operations as incurred. Research and development
costs include an allocation of indirect costs of $1.6 million and $1.3 million for the three months
ended March 31, 2005 and 2004, respectively. Indirect costs principally represent facility and
information technology costs. General and administrative expense General and administrative expense increased by $708,000, or 51.3%, to $2.1 million for the three
months ended March 31, 2005 from $1.4 million for the three
months ended March 31, 2004. This is primarily the result of an
increase from the same period last year of $208,000 costs associated with complying with
public company requirements, such as board of directors fees, public relations costs, and
accounting and auditing fees, $147,000 for insurance premiums, $96,000 in legal fees relating to
the maintenance and expansion of our intellectual property portfolio,
$58,000 for our 401(k) matching benefit, $53,000 for occupancy costs relating to our expanded facility, and $43,000 in
increased Delaware franchise tax. During the remainder of 2005, we expect that general and
administrative expense will be higher than the same period in 2004 due to increased expenses associated with being a public
company. Interest income and interest expense Interest income increased by $111,000, or 114.4%, to $208,000 for the three months ended March 31,
2005 compared to the same period in 2003. Interest expense decreased by $32,000, or 30.5%, to
$73,000 for the three months ended March 31, 2005 compared to the same period in 2003. The increase
in interest income was the result of higher investment balances, due to our receipt of net proceeds
from our initial public offering in April 2004. The decrease in interest expense was primarily due
to the repayment of two equipment notes in the second quarter of 2004. Income taxes For the three months ended March 31, 2005 and March 31, 2004, we recognized $2,000 in state income
taxes. Preferred stock dividends and accretion There were no preferred stock dividends and accretion for the three months ended March 31, 2005 as
compared to $1.9 million for preferred stock dividends and accretion for the three months ended
March 31, 2004. This change was attributable to the conversion of our preferred stock in
connection with our initial public offering in April 2004. Upon the closing of our initial public
offering on April 8, 2004, all of our preferred stock converted into common stock, and all related
accrued dividends were forfeited. Liquidity and capital resources We have financed our operations since inception through the sale of equity securities, payments
received under our collaboration agreements with Roche, equipment financings and interest income.
From inception through March 31, 2005, we have raised net proceeds of $123.8 million from the sale
of equity securities. In addition, as of March 31, 2005, we have received $22.0 million in upfront
and milestone payments, $13.3 million in collaboration agreement fees, $10.1 million from equipment
financings, $1.7 million from research cost reimbursements and $3.8 million in interest income. To
date, inflation has not had a material effect on our business. At March 31, 2005, cash, cash equivalents and marketable securities were $31.0 million as compared
to $41.1 million at December 31, 2004. Our cash, cash equivalents and marketable securities are
highly liquid investments and consist of term deposits and investments in money market funds with
commercial banks and financial institutions, short-term commercial paper, corporate debt
securities, mortgage-backed securities and government obligations. 14




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Net cash used in operating activities was $9.9 million for the three months ended March 31, 2005.
This primarily reflects the net loss of $8.4 million, working capital uses of $1.2 million, and the
recognition of $805,000 of deferred revenues from our two Roche collaborations offset by a non-cash
charge for depreciation expense of $534,000. Net cash provided by investing activities for the
three months ended March 31, 2005 was $2.0 million, which represents a decrease in our net
investment in marketable securities of $2.4 million, offset by funds used for capital expenditures
of $391,000. Net cash provided by financing activities during the three months ended March 31,
2005 was $222,000, which consisted of $272,000 of proceeds from exercises of stock options, and
$495,000 generated from borrowings under equipment notes, and was offset by $545,000 used in
repayment of equipment notes. Our contractual obligations for equipment notes, operating lease payments in connection with the
lease of our current facility, contract research organization obligations, and milestone payments
as of March 31, 2005, have not materially changed since December 31, 2004. We expect to incur losses from operations for the foreseeable future. We expect to incur increasing
research and development expenses, including expenses related to additional preclinical testing and
clinical trials, and hiring of personnel. During the remainder of
2005, we expect that general and administrative expense will be
higher than the same period in 2004 due to expenses associated with being a public
company. We believe that our existing cash and cash equivalents, and marketable securities,
together with payments required to be made by Roche in the future under our 2002 and 2003 Roche
Agreements, will be sufficient to fund our operating expenses, repayment of equipment notes and
capital equipment requirements through the first quarter of 2006. Our future cash requirements will
depend on many factors, including:  Ø
    the number of compounds and drug candidates that we advance through the development process;Ø
    the success of our collaborations with Roche;Ø
    whether we are able to enter into a collaboration with regard to MEM 1003 or PDE10A and
the terms of any such collaborations;Ø
    our ability to establish and maintain additional collaborations;Ø
    the scope and results of our, or our collaborators clinical trials;Ø
    potential in-licensing or acquisition of other compounds or technologies;Ø
    the timing of, and the costs involved in, obtaining regulatory approvals;Ø
    the availability of third parties, and the cost, to manufacture compounds for clinical trial supply;Ø
    the cost of commercialization activities, including product marketing, sales and distribution; andØ
    the costs involved in preparing, filing, prosecuting, maintaining and enforcing patent
claims and other patent-related costs, including litigation costs and the results of such
litigation. Currently we have no committed
sources of capital, however, we are evaluating various financing
options. To the extent our capital resources are
insufficient to meet future capital requirements, we will need to raise additional capital by
selling equity or by incurring additional indebtedness to fund our operations. We
cannot assure you that additional equity or debt financing will be
available on acceptable terms, if at all. If adequate funds are not available, we may be required
to delay, reduce the scope of or eliminate our research and development programs, reduce our
commercialization efforts, or obtain funds through arrangements with collaborators or others that
may require us to relinquish rights to certain drug candidates that we might otherwise seek to
develop or commercialize independently. Additionally, any future equity funding may dilute the
ownership of our equity investors. 15




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CRITICAL ACCOUNTING POLICIES Our discussion and analysis of our financial condition and results of operations is based on our
financial statements, which have been prepared in accordance with US GAAP. The preparation of these
financial statements requires us to make estimates and judgments that affect the reported amounts
of assets, liabilities, revenues and expenses. On an ongoing basis, we evaluate our estimates and
judgments, including those related to revenue recognition, accrued expenses, research and
development and the fair valuation of stock related to stock-based compensation. We base our
estimates on historical experience and on various other assumptions that we believe to be
reasonable under the circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or conditions. We believe the following critical accounting policies affect the judgments and estimates used in
the preparation of our financial statements. Revenue recognition We recognize revenue relating to our collaborations in accordance with the SECs Staff Accounting
Bulletin No. 104, Revenue Recognition. Revenues under such collaborations may include the receipt
of non-refundable license fees, milestone payments and research and development payments. Deferred
revenue consists of payments received in advance of revenue recognition under such collaborations. Given the various types of payments to us under our collaboration agreements, we must evaluate
these agreements to determine units of accounting for revenue recognition purposes. Under the terms
of our 2002 Roche Agreement, because we have licensed to Roche certain intellectual property and we
have continuing performance obligations, we are recognizing the non-refundable license fees and
performance milestone payments as revenue ratably over the period in which we expect to obtain Food
and Drug Administration (FDA) approval of the compound for which the milestone is paid. We are
recognizing the upfront payment ratably over the period in which we expect the first compound to be
so approved. Solely for purposes of revenue recognition under our 2002 Roche Agreement, we have
estimated the period until approval of the first compound as 7.5 years from the date of the
collaboration. As a result of Roches decision not to pursue
further development on its own of the two named drug candidates under
our PDE4 inhibitor collaboration, MEM 1414 and its back-up
MEM 1917, and subject to the results of our discussions with
Roche, we may reassess the expected development period under the 2002
Roche Agreement. We periodically review the estimated development periods and our estimated research
efforts and, to the extent such estimates change, the impact of such change is recorded at that
time. We are applying the provisions of the EITF No. 00-21 prospectively to the 2003 Roche Agreement
using a single unit of accounting, since Roche has the right to enter into a license under this
agreement. Revenue is being recognized over the five-year period that Roche has to obtain a
sublicensable license to our patent rights and know-how for any nicotinic alpha-7 partial agonist
that we develop. We will recognize revenue over the five-year period based on the level of efforts
expended in a period as compared to our estimated efforts over the full period. Payments received from our collaboration partners for research and development services performed
by us that are deemed to be a separate unit of accounting, as defined by EITF No. 00-21, are
recognized as research and development services are performed. Otherwise, the payments are
recognized over the term of the applicable collaboration agreement. Accrued expenses As part of the process of preparing financial statements, we are required to estimate accrued
expenses. This process involves identifying services that have been performed on our behalf and
estimating the level of service performed and the associated cost incurred for such service where
we have not been invoiced or otherwise notified of actual cost. This is done as of each balance
sheet date in our financial statements. Examples of estimated accrued expenses include:  Ø
    professional service fees, such as lawyers and accountants fees;Ø
    preclinical and clinical contract research organization fees;Ø
    fees paid to data management organizations and investigators in conjunction with clinical trials; andØ
    fees paid to manufacturers in conjunction with the production of clinical materials. In connection with the above services, our estimates are most affected by our projections of the
timing of services provided relative to the actual level of services performed by such service
providers. The majority of our service providers invoice us monthly in arrears 16




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for services performed. In the event that we do not identify certain costs that have begun to be
incurred or we under or over estimate the level of services performed or the costs of such
services, our actual expenses could materially differ from such estimates. The date on which
certain services commence, the level of services performed on or before a given date, and the cost
of such services are often subjective determinations. We make these judgments based upon the facts
and circumstances known to us in accordance with U.S. GAAP. Research and development expense Research and development expenses include the costs associated with our internal research and
development activities, including salaries and benefits, occupancy costs, lab supplies and
materials, and research and development conducted for us by third parties, such as sponsored
university-based research and clinical research organizations. In addition, research and
development expenses include the cost of manufacturing clinical trial drug supply shipped to our
clinical research organizations, which amounts are expensed upon purchase. We account for our clinical trial costs by estimating the total cost to treat a patient in each
clinical trial and recognizing this cost as and when the patient receives treatment, beginning when
the patient enrolls in the trial. This estimated cost includes payments to the trial site and
patient-related costs, including laboratory costs related to the conduct of the trial. Cost per
patient varies based on the type of clinical trial, the site of the clinical trial, and the length
of the treatment period for each patient. We adjust our accrual based on actual costs; such changes
in estimates may be material changes in our clinical study accrual, which could also materially
affect our results of operations. Stock-based compensation We have elected to follow APB Opinion No. 25, Accounting for Stock Issued to Employees, and related
interpretations, in accounting for our stock-based employee compensation plans, rather than the
alternative fair value accounting method provided for under SFAS No. 123, Accounting for
Stock-Based Compensation.In the notes to our financial statements, we provide pro forma
disclosures in accordance with SFAS No. 123, as amended by SFAS No. 148, Accounting for Stock-Based
Compensation, Transition and Disclosure, and related pronouncements. We account for stock options and warrants granted to non-employees based on the fair value of the
stock option or warrant using the Black-Scholes option-pricing model based on assumptions for
expected stock price volatility, expected term of the option, risk-free interest rate and expected
dividend yield at the grant date. Prior to April 5, 2004, our common stock was not publicly
traded. As a result, in valuing our common stock, stock options and warrants issued prior to this
date, we considered the pricing of private equity sales, company-specific events, independent
valuations, economic trends and the rights and preferences of the security being valued. Since our
initial public offering, the fair value of stock-based compensation has been based, in part, on the
price of our common stock on the measurement date. 17




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RISK FACTORS Investing in our common stock involves a high degree of risk. You should consider carefully
the risks and uncertainties described below and the other information contained in this report. If
any of the following risks or uncertainties actually occurs, our business, prospects, financial
condition and operating results would likely suffer, possibly materially. In that event, the
market price of our common stock could decline and you could lose part or all of your investment. Risks Relating to our
Business We expect to continue to incur substantial losses, and we may never achieve profitability. We began operations in 1998 and have a limited operating history upon which you can evaluate our
current business and our prospects. We have incurred substantial and increasing operating losses in
each year since inception, and we may never achieve profitability. As of March 31, 2005, we had an
accumulated deficit of approximately $128.9 million, of which $19.5 million related to preferred
stock dividends that were forfeited upon the conversion of our redeemable convertible preferred
stock upon the closing of our initial public offering on April 8, 2004. We expect to incur
substantial and increasing net losses for the foreseeable future as we significantly expand our
clinical trial activity, increase the number of our development programs, and potentially
in-license and acquire technologies. As a result, we will need to generate significant revenue or
obtain external financing to pay these costs. Moreover, these losses have had, and are expected to
continue to have, an adverse impact on our working capital, total assets and stockholders equity. All of our revenue to date has been derived from license fees, milestone payments and payments for
research and development services under our two collaborations with Roche. Additional revenue from
these collaborations is dependent on reaching specified milestones or achieving product sales,
neither of which is within our control. We cannot assure you that any external financing we seek
will be available on favorable terms, if at all. We have not completed development of any drugs,
and we do not expect that any drugs resulting from our or our collaborators research and
development efforts will be commercially available for a significant number of years, if at all. We
do not know whether or when we will become profitable because of the significant uncertainties with
respect to our ability to generate revenue from the sale of products based on our drug candidates. Our drug candidates are novel and in the early stages of development. We are a biopharmaceutical company focused on the discovery and development of novel drug
candidates based on our understanding of the role played by certain biological targets in memory
formation and cognition. All of our current drug candidates are at an early stage of development.
Our drug candidates will require significant additional development, preclinical studies and
clinical trials, regulatory clearances and additional investment by us or our collaborators before
they can be commercialized. Our drug discovery and development methods are unproven and may not lead to commercially viable
drugs for any of several reasons. For example, we may fail to identify appropriate targets or
compounds, our drug candidates may fail to be safe and effective in preclinical and clinical
trials, or we may have inadequate financial or other resources to pursue discovery and development
efforts for new drug candidates. In addition, because we have limited resources, we are focusing on
targets, compounds and indications that we believe are the most promising. As a result, we may
forego or delay pursuit of opportunities with other targets, compounds and indications. The diseases we are targeting are poorly understood, which increases our chances of failure. Our drug development programs principally target a broad range of CNS conditions that exhibit
significant impairment of memory and other cognitive functions. These conditions include
neurological diseases associated with aging, such as Alzheimers, vascular dementia and MCI and
also include certain psychiatric disorders such as schizophrenia and depression. These diseases
and their causes are poorly understood. There are no approved drugs that treat these diseases
through the mechanisms used by our drug candidates, and there is only a limited scientific
understanding of the relationships between these diseases and the neurological pathways targeted by
our drug candidates. These uncertainties increase the risk that one or more of our drug development
programs may fail. 18




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We may not be able to succeed in our business model of seeking to enter into collaborations at
early stages of development. We currently do not have a collaboration partner for MEM 1003, our
most clinically advanced program. Our current strategy for developing, manufacturing and commercializing our drug candidates includes
securing collaborations with pharmaceutical and biotechnology companies relatively early in the
drug development process and for these collaborators to undertake the advanced clinical development
and commercialization of our drug candidates. We have entered into only two collaborations to date,
both of which are with Roche and were entered into prior to commencing clinical trials. It may be
difficult for us to find third parties that are willing to enter into collaborations for our other
drug candidates at an early stage of development or on economic terms that are comparable to the
terms of our collaborations with Roche, if at all. If we do enter into collaborations or
other arrangements for our other drug candidates, we may not accurately evaluate the commercial
potential or target market for a drug candidate and may relinquish valuable rights to that drug
candidate. If we are not able to continue to enter into collaborations for our drug candidates at relatively
early stages, we could be required to undertake and fund further development, clinical trials,
manufacturing and marketing activities solely at our own expense. For example, we are funding a
safety and tolerability study and currently intend to fund our Phase IIa clinical trials for MEM
1003, which we are in the process of designing, ourselves. However, we are also exploring the
potential for a collaboration for MEM 1003. If, following the completion of Phase IIa trials, we
have been unable to find a collaboration partner for MEM 1003, we may at that time choose to
continue the program at our own expense. If we do not engage a collaboration partner for MEM 1003
following Phase IIa clinical trials or if we are unable to engage or retain a collaboration partner
for any other drug candidate, our requirements for capital will substantially increase. Such
capital might not be available on favorable terms, or at all. Alternatively, we would have to
delay, substantially reduce or cease our efforts on certain of our proposed products and drug
candidates and our exploratory programs. We are dependent upon Roche and will be dependent upon any other companies with which we enter into
collaborations to conduct clinical trials and to manufacture, market and sell our products. Based on our strategy of securing collaborations with pharmaceutical and biotechnology companies
that would undertake later-stage clinical development and commercialization of our products, we
have entered into two collaborations with Roche for compounds representing a substantial portion of
our drug development pipeline and representing all of our revenue to date. We do not have
day-to-day control over Roches activities, and we are unlikely to control the activities of any
other collaborators with which we enter into agreements. Roche has, and any other collaborators
will have, significant discretion in determining the efforts and amount of resources that they
dedicate to our collaborations. Roche or any other collaborator may adhere to criteria for
determining whether to proceed with clinical development of a particular compound that leads them
to terminate a clinical development program under circumstances where we might have continued such
a program. For example, in April 2005, Roche decided not to pursue further clinical development, on
its own, of the two named compounds under our PDE4 inhibitor collaboration, MEM 1414 and
its back-up candidate, MEM 1917. We have commenced discussions with Roche regarding the
future of MEM 1414, and its back up MEM 1917, which will include a full review of the data package
for both drug candidates, and we cannot assure you that the development of either of these drug
candidates will continue. In addition, though we continue to work with Roche on other potential
drug candidates from the PDE4 inhibitor program, we cannot assure you that Roche will choose to
pursue their clinical development. Our ability to generate milestone payments and royalties from our collaborators depends on our
collaborators abilities to establish the safety and efficacy of our drug candidates, obtain
regulatory approvals and achieve market acceptance of products developed from our drug candidates.
In addition to testing and seeking regulatory approval, we are dependent on our collaborators for
the manufacturing of clinical scale quantities of some of our drug candidates and would be
dependent on them in the future for commercial scale manufacturing, distribution and direct sales.
Our collaborators may not be successful in manufacturing our drug candidates on a commercial scale
or in successfully commercializing them. Under our collaboration agreements with Roche, Roches termination rights include the ability to
terminate each collaboration with us at any time, with or without cause, on relatively short
notice. Future collaboration partners, if any, are also likely to have the right to terminate the
collaboration on relatively short notice. In addition, under our 2003 Roche agreement, Roche has
the right to obtain an exclusive license for any product covered by that agreement, which currently
includes MEM 3454 and MEM 63908, following the completion of Phase IIa clinical trials by making
payments to us upon our achievement of certain developmental milestones. Alternatively, Roche has
the right to terminate its license option with respect to MEM 3454, MEM 63908 or any other product
covered by that agreement on a product-by-product basis at certain times during the development of
the product. If, Roche chose not to maintain its license option with respect to a product under
our 2003 Roche agreement, we would not receive further milestone payments or other support from
Roche for that products continued development. If Roche or any future collaborator terminates its
collaboration with us or fails to perform or satisfy its obligations to us, the development or
commercialization of our drug candidates would be delayed and our ability to realize milestone
payments and royalty revenue would be adversely affected. 19




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Our collaborations are subject to many risks, which could prevent us from developing and
commercializing our drug candidates. We are dependent on Roche and any other collaborators that we engage in the future for drug
development and commercialization. Our existing collaborations and any future collaboration may not
be scientifically or commercially successful. In addition, any collaborator may be unwilling or
unable to fulfill its obligations to us, including its development and commercialization
responsibilities in respect of our drug candidates. Additional risks that we face in connection
with our collaborations include the following:  Ø
    our collaborators may develop and commercialize, either alone or with others, products
and services that are similar to or competitive with the products that are the subject of
the collaboration with us;Ø
    collaborators may underfund or not commit sufficient resources to the testing,
marketing, distribution or other development of our products;Ø
    our collaborators may not properly maintain or defend our intellectual property rights
or they may utilize our proprietary information in such a way as to invite litigation that
could jeopardize or potentially invalidate our proprietary information or expose us to
potential liability;Ø
    our collaborators may encounter conflicts of interest, changes in business strategy or
other business issues which could adversely affect their willingness or ability to fulfill
their obligations to us (for example, pharmaceutical and biotechnology companies
historically have re-evaluated their priorities following mergers and consolidations,
which have been common in recent years in these industries); andØ
    disputes may arise between us and our collaborators delaying or terminating the
research, development or commercialization of our drug candidates, resulting in
significant litigation or arbitration that could be time-consuming and expensive, or
causing collaborators to act in their own self-interest and not in the interest of our
stockholders. Collaborations with pharmaceutical companies and other third parties often are terminated or
allowed to expire. The termination of any collaboration that we enter into could adversely affect
the future prospects of drug candidates being developed under that collaboration and our ability to
commercialize those drug candidates. Any termination or expiration of a collaboration would
adversely affect us financially and could harm our business reputation. In such event, we might be
required to devote additional resources to a development program or a drug candidate, seek a new
collaborator, or abandon the development of a drug candidate, or an entire development program, any
of which could have a material adverse effect on our business. In addition to our collaborations, we are dependent on certain license relationships. We have in-licensed technology that is important to our business, and we may enter into additional
licenses in the future. For example, we hold a license from Bayer for intellectual property
relating to MEM 1003. Our license from Bayer imposes on us development and commercialization
obligations, milestone and royalty payment obligations and other obligations. Other licenses to
which we are a party contain, and we expect that any future in-licenses will contain, similar
provisions. If we fail to comply with these obligations to Bayer or to any other licensor, the
licensor may have the right to terminate the license, in which event we would not be able to
commercialize drug candidates or technologies that were covered by the license. Also, the milestone
and other payments associated with these licenses could make it less profitable for us to develop
drug candidates utilizing these drug candidates and technologies. In the event that our license agreements are terminated, we may not be able to obtain licenses for
alternative drug candidates or technologies on terms favorable to us, if at all. If any of our
licensors terminates or breaches its agreement with us, such termination or breach could have a
material adverse effect on our business. 20




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Our preclinical and clinical testing results may not be predictive of future trial results and may
not be sufficient to support regulatory approval of future clinical trials. If subsequent study or
trial results are unfavorable or insufficient, we may be forced to stop developing drug candidates
that we currently believe are important to our future. The results of preclinical studies and early stage clinical trials of our drug candidates are not
necessarily predictive of the results of subsequent preclinical studies or later stage clinical
trials. Our approach to drug development involves rigorous preclinical testing with a variety of in
vitroassays and animal models in order to obtain early indications of safety and efficacy. We have
invested in and continue to invest substantial resources in this capability. However, none of our
drug candidates has progressed past Phase I clinical trials, and as a result, we cannot determine
whether our preclinical testing methodologies are predictive of clinical safety or efficacy. In
addition, we cannot assure you that the data collected from the preclinical studies and clinical
trials of our drug candidates will be sufficient to support regulatory approval of our future
clinical trials by the FDA, or by similar agencies in other countries. As we or our collaborators obtain results from further preclinical or clinical trials, we or our
collaborators may elect to discontinue or delay preclinical studies or clinical trials for certain
products in order to focus our resources on more promising products. We or our collaborators may
also change the indication being pursued for a particular drug candidate or otherwise revise the
development plan for that compound. For each of our collaborative programs, we develop multiple
drug candidates for the same class of compounds and for the same indication. Over the course of
preclinical studies, these candidates may not prove to be sufficiently different to warrant
pursuing them individually for the same indication, or at all. Moreover, drug candidates in later
stages of clinical trials may fail to show the desired safety and efficacy traits despite having
progressed through preclinical or initial clinical testing. For example, we are currently
developing PDE4 inhibitors for a variety of indications under our
2002 Roche Agreement. Drugs in this class of compounds developed
by others generally have shown adverse side effect profiles that have limited the ability of these
compounds to be used as effective drugs. We cannot assure you that any PDE4 inhibitors that we or Roche
develop will have a safety and efficacy profile that satisfies us or our collaborators that such candidates are better than the PDE4 inhibitors developed
by others or that appropriate to justify proceeding with further development. If our clinical trials or those of our collaborators are unsuccessful, or if we experience
significant delays in these trials, our ability to commercialize our products will be impaired. Before obtaining regulatory approval for the sale of our drug candidates, they must be subjected to
extensive clinical trials to demonstrate their safety and efficacy for humans. The clinical trials
of any drug candidates that we develop must comply with regulation by numerous federal, state and
local government authorities in the US, principally the FDA, and by similar agencies in other
countries. The requirements that clinical trials must meet include IRB or ethics committee
oversight, informed consent and good clinical practices. Securing FDA approval requires the
submission of extensive preclinical and clinical data and supporting information for each
therapeutic indication to establish the product candidates safety and efficacy. In order for us or our collaborators to conduct human clinical trials in the US for our
drug candidates, we or they must obtain and maintain an effective IND from the FDA. While we have
obtained an Investigational New Drug application, or IND, for MEM 1003, we cannot assure you that
we or our collaborators will be successful in obtaining an IND for any other drug candidate. In
connection with obtaining an IND, we or our collaborators may be required to provide the FDA with
supplementary information regarding our preclinical testing of these drug candidates and the trials
conducted in foreign countries. For example, we are completing an additional three-month animal
toxicology study of MEM 1003 at higher doses than were previously studied, which we conducted on
the FDAs recommendation. The results of this toxicology study will form a part of our submission
to commence Phase IIa clinical trials for MEM 1003. We believe that the results of the toxicology
study, in combination with the results of the Alzheimers patient safety and tolerability study
which we are also conducting, will provide a more comprehensive data package for MEM 1003. We
cannot assure you that we will be able to satisfactorily address any concerns the FDA may have or
that additional studies and clinical trials that we conduct will support our earlier results. If
we are unable to satisfy the FDA with the results of the current studies that we are conducting
with respect to MEM 1003, we may face delays in proceeding with Phase IIa clinical trials for MEM
1003 in the US, or we could be prevented from proceeding with MEM 1003 in the US. In addition, if
we are unable to complete the safety and tolerability study on the time schedule that we have
planned, we may be unable to initiate Phase IIa in the third quarter of 2005 as planned. It takes years to complete the testing of a product, and failure can occur at any stage of testing.
For example, our testing may be delayed or halted due to any of the following: 21




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Ø
    any preclinical test or clinical trial may fail to produce safety and efficacy results
satisfactory to the FDA or foreign regulatory authorities;Ø
    preclinical and clinical data could be interpreted in different ways, which could
delay, limit or prevent regulatory approval;Ø
    negative or inconclusive results from a preclinical test or clinical trial or adverse
medical events during a clinical trial could cause delays in the completion of the
preclinical test or clinical study, or could cause a preclinical study or clinical trial
to be repeated, additional tests to be conducted or a program to be terminated, even if
other studies or trials relating to the program are successful;Ø
    the FDA or foreign regulatory authority could impose conditions on the scope or design
or a clinical trial;Ø
    the FDA or foreign regulatory authority could place a clinical hold on a trial if,
among other reasons, it requires further information regarding certain results or events
during preclinical tests or clinical trials, or it finds that patients enrolled in the
trial are or would be exposed to an unreasonable and significant risk of illness or
injury;Ø
    the FDA or foreign regulatory authority might not approve the manufacturing processes
or facilities that we utilize, or the processes or facilities of our collaborators;Ø
    we may encounter delays in obtaining IRB approval to conduct a clinical trial at a
prospective study site or to revise a clinical trial protocol after the clinical trial has
commenced;Ø
    any regulatory approval we ultimately obtain may be limited or subject to restrictions
or post-approval commitments that render the product not commercially viable;Ø
    we or our collaborators may encounter delays based on changes in regulatory agency
policies during the period in which we develop a drug or the period required for review of
any application for regulatory agency approval;Ø
    our clinical trials may not demonstrate the safety and efficacy of our compounds or
result in marketable products; andØ
    we or our collaborators may encounter delays in obtaining a sufficient supply of a drug
candidate for use in our clinical trials as a result of manufacturing or quality assurance
issues. In addition, we or our collaborators may encounter delays based on our inability to enroll or
retain a sufficient number of healthy volunteers or patients to complete our clinical trials. This
could affect both our ability to complete a clinical trial in the time frame we have planned and
its validity or statistical significance. Enrollment depends on many factors, including: the size
of the patient population, the nature of the trial protocol, the proximity of volunteers/patients
to clinical sites, the eligibility criteria for the study and whether recruitment from the same
patient population is ongoing for clinical trials by other companies. For example, in preparation
for a Phase IIa study of MEM 1003, in January 2005, we commenced a safety and tolerability study in
patients with Alzheimers disease. The timing for the completion of this study was first extended
in March 2005 as a result of slower than expected patient enrollment and our decision to increase
the number of patients being studied and extended again in April 2005 as a result of a continued
low rate of patient enrollment. While we now expect to commence our Phase IIa study in the third
quarter of 2005, our ability to do so will depend upon our achieving patient enrollment sufficient
not only to complete the safety and tolerability study but also to commence the Phase IIa study in
the time frame that we have planned. Delays in planned patient enrollment for a clinical study
result in increased costs, program delays or both, which could have a harmful effect on our ability
to develop products. We cannot assure you that we will achieve sufficient patient enrollment to
complete the safety and tolerability study and commence the Phase IIa study on the time schedule
that we have planned. We cannot assure you that our clinical trials will commence, proceed or be completed on schedule.
For example, we currently anticipate completing the Phase I clinical trials for MEM 3454 by the end
of 2005. However, we cannot assure you that these Phase I clinical trials for MEM 3454 will be
completed in the time frame that we have planned. Delays in our clinical trials or rejections of
data from a clinical trial will result in increased development costs and could have a material
adverse effect on the development of our drug candidates. 22




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We will need additional financing, which may be difficult to obtain. Our failure to obtain
necessary financing, or obtaining financing on unattractive terms, would adversely affect our
development programs and other operations. Although we believe that our existing cash and cash equivalents, and marketable securities,
together with payments for research and development services required to be made in the future by
Roche under our 2002 and 2003 Roche Agreements, should be sufficient to fund our anticipated levels
of operations through the first quarter of 2006, if our actual expenses are higher than anticipated
or our business or operations change, we may consume available resources more rapidly than we
anticipate. Our future capital requirements will depend on many factors, including:  Ø
    the number of compounds and drug candidates that we advance through the development process;Ø
    the success of our two collaborations with Roche;Ø
    whether we are able to enter into a collaboration with regard to MEM 1003 or our PDE10A
inhibitor program, which was added to our pipeline in February 2005, and the terms of any such collaborations;Ø
    our ability to establish and maintain additional collaborations;Ø
    the scope and results of our and our collaborators clinical trials;Ø
    potential in-licensing or acquisition of other compounds or technologies;Ø
    the costs involved in utilizing third party contract research organizations for preclinical studies and clinical trials;Ø
    the timing of, and the costs involved in, obtaining regulatory approvals;Ø
    the availability of third parties, and the cost, to manufacture compounds for clinical trial supply;Ø
    the cost of commercialization activities, including product marketing, sales and distribution; and,Ø
    the costs involved in preparing, filing, prosecuting, maintaining and enforcing patent
claims and other patent-related costs, including litigation costs and the results of such
litigation. We may not be able to obtain additional financing when we need it or on acceptable terms. If we
are unable to obtain adequate financing on a timely basis, we will have to reduce or delay our
efforts on certain of our proposed products and drug candidates and our exploratory programs. In
addition, we may have to obtain funds through arrangements with collaborators that require us to
relinquish greater rights to our technologies or drug candidates than we might otherwise have done.
Either of these alternatives would have a material adverse effect on our business, operating
results, financial condition and future growth prospects. If we raise additional funds by issuing
equity securities, our then existing stockholders will experience dilution, and the terms of any
new equity securities may have preferences over our common stock. We face intense competition in the development and commercialization of our drug candidates. The development and commercialization of new drugs is highly competitive. There are a number of
companies that focus on the CNS disease markets that we are addressing. We face competition from
major pharmaceutical companies, specialty pharmaceutical companies and biotechnology companies
worldwide. Additionally, various large pharmaceutical and biotechnology companies, universities and
public agencies are developing and using technologies to address the treatment of cognitive
disorders. Many of our competitors possess greater financial, managerial, scientific and technical
resources than we do and have significantly more experience in preclinical testing, human clinical
trials, product manufacturing, the regulatory approval process and marketing and distribution than
we do, all of which put us at a competitive disadvantage. We face and will continue to face
competition in the discovery, in-licensing, development and commercialization of our drug
candidates, which could severely impact our ability to generate revenue or achieve significant
market acceptance of our drug candidates. Furthermore, new developments, including the development
of other drugs and technologies and methods of preventing the incidence of disease, such as
vaccines, occur in the pharmaceutical industry at a rapid pace. These developments could render our
drug candidates obsolete or noncompetitive. 23




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We are aware that there are a number of drugs under development by both large pharmaceutical
companies and small biotechnology companies for additional treatments of Alzheimers, schizophrenia
and depression as well as potential therapies for vascular dementia and MCI. We depend on our key scientific and other key personnel and have recently experienced turnover in
our key senior management. If we are not able to retain our key scientific and other key personnel
or recruit additional scientific and technical personnel, our business will suffer. Our performance is substantially dependent on the performance of our senior management and key
scientific and technical personnel, particularly Tony Scullion, our President and Chief Executive
Officer, Dr. David A. Lowe, our Chief Scientific Officer, and Gardiner F. H. Smith, our Chief Business Officer. Our employment agreements with these executive officers are
terminable by us or the executive without notice. The loss of the services of one or more of our
key employees or the inability to attract and retain qualified personnel could have an adverse
impact on our business and prospects. We do not carry key man life insurance on any of our key
personnel. We have experienced turnover in our senior management. In December 2004, we announced the
departure of our Chief Financial Officer, Dennis M. Keane. Most recently, we announced the
departure of Axel J. Unterbeck, Ph.D., our President and Co-founder. While both of these
individuals left for personal reasons, continued turnover of senior management may affect investor
confidence in us and adversely impact our business and our stock price. We have also added new
members to our senior management team. On May 17, 2005, James R. Sulat will be joining us as our
President and Chief Executive Officer and Tony Scullion, our current President and Chief Executive
Officer, will become our full-time Executive Chairman. It may take time for the new members of our
management team to be fully integrated into our organization. If our management team is unable to
work together effectively to implement our strategies and manage our operations and accomplish our
business objectives, our ability to grow our business and successfully meet our objectives could be
severely impaired. In addition, we face competition for research scientists and technical staff from other companies,
academic institutions, government entities, nonprofit laboratories and other organizations. To
pursue our product development plans, we will need to hire additional management personnel and
additional qualified scientific personnel to perform research and development. If we cannot
continue to attract and retain, on acceptable terms, the qualified personnel necessary for the
continued development of our business, we may not be able to sustain our operations or grow. If third-party contract research organizations do not perform in an acceptable and timely manner,
our preclinical testing or clinical trials could be delayed or unsuccessful. We do not have the ability to conduct our preclinical testing or clinical trials independently and
have limited experience in conducting clinical trials. In addition to our collaborators, we rely
and will continue to rely on preclinical and clinical investigators, third-party contract research
organizations and consultants to perform some or all of the functions associated with preclinical
testing or clinical trials. From time to time, preclinical and clinical investigators, third-party
contract research organizations and consultants have not performed in a manner that we believed was
acceptable or timely. In each case we have discussed and resolved these issues with the vendor, and
none of these issues have led to a material delay or other material adverse effect on our
preclinical testing or clinical trials. However, the failure of any vendor to perform in an
acceptable and timely manner in the future, including in accordance with any applicable regulatory
requirements or preclinical testing or clinical trial protocol, could cause a delay or other
material adverse effect on our preclinical testing, clinical trials and ultimately on the timely
advancement of our development programs. If we or our collaborators cannot locate acceptable contractors to run a portion of our or our
collaborators preclinical testing or clinical trials or enter into favorable agreements with them,
or if these third parties do not successfully carry out their contractual duties, satisfy FDA and
other US and foreign legal and regulatory requirements for the conduct of preclinical testing and
clinical trials or meet expected deadlines, our preclinical or clinical development programs and
those of our collaborators could be delayed and otherwise adversely affected. 24




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If we or our collaborators fail to obtain regulatory clearance for our current or future drug
candidates, we will be unable to market and sell any products and therefore may never be able to
generate product revenue or be profitable. We or our collaborators will be required to obtain from the FDA, and to maintain,
an effective IND to conduct human clinical trials in the US and must obtain and maintain regulatory
approval for commercial distribution. This process is expensive, uncertain and takes many years.
In order to obtain regulatory clearance to conduct clinical trials in the US and eventually obtain
approval in the US, we or our collaborators must provide the FDA with data sufficient to
demonstrate the safety and efficacy of each drug candidate. None of our drug candidates is
currently approved for sale by the FDA or by any other regulatory agency in the world, and our drug
candidates may never be approved for sale or become commercially viable. If we, either alone or
with collaborators, are unable to successfully complete clinical trials of any of our current or
future drug candidates, or if the results of these trials are not positive or are only modestly
positive, we or our collaborators may not be able to obtain marketing approval for any drugs or may
obtain approval for indications that are not as broad as we wanted. If this occurs, our business
will be materially harmed, our ability to generate revenue will be severely impaired and our stock
price may decline. In addition, during the clinical development of our drug candidates, the policies of the FDA may
change and additional regulations may be enacted which could prevent or delay regulatory approval
of our drug candidate. Moreover, increased attention to the containment of health care costs in
the US and in foreign markets could result in new government regulations that could have a material
adverse effect on our business. We cannot predict the likelihood, nature or extent of adverse
governmental regulation that might arise from future legislative or administrative action, either
in the US or abroad. Failure to obtain regulatory approval in foreign jurisdictions would prevent us from marketing our
products abroad. We intend to have our products marketed outside the US. In order to market our products in the
European Union and many other foreign jurisdictions, we or our collaborators must obtain separate
regulatory approvals and comply with numerous and varying regulatory requirements. The approval
procedure varies among countries and can involve additional testing. The time required to obtain
approval may differ from that required to obtain FDA approval. The foreign regulatory approval
process entails all of the risks associated with obtaining FDA approval. We and our collaborators
may fail to obtain foreign regulatory approvals on a timely basis, if at all. Approval by the FDA
does not ensure approval by regulatory authorities in other countries, and approval by one foreign
regulatory authority does not ensure approval by regulatory authorities in other foreign countries
or by the FDA. We and our collaborators may not be able to file for, and may not receive, necessary
regulatory approvals to commercialize our products in any market. If we or our collaborators fail
to obtain these approvals, our business, financial condition and results of operations could be
materially and adversely affected. Our potential products may not be commercially viable if we or our collaborators fail to obtain an
adequate level of reimbursement for these products by Medicare and other third-party payors or if
the pricing for these products is set at unsatisfactory levels by foreign countries. Our commercial success will depend in part on third-party payors such as government health
administration authorities, including Medicare, private health insurers and other organizations
agreeing to reimburse patients for the costs of our products. Significant uncertainty exists as to
the reimbursement status of newly approved health care products. Because most persons suffering
from Alzheimers disease are elderly, we expect that coverage for any products that we and our
collaborators successfully develop to treat Alzheimers in the US will be provided primarily
through the Medicare program. Our business would be materially adversely affected if the Medicare
program were to determine that our drugs are not reasonable and necessary and deny reimbursement
of our or our collaborators prospective products. Our business could also be adversely affected if
the Medicare program or other reimbursing bodies or payors limit the indications for which our or
our collaborators prospective products will be reimbursed to a smaller set of indications than we
believe is appropriate. In some foreign countries, particularly the countries of the European Union, the pricing of
prescription pharmaceuticals is subject to governmental control. In these countries, pricing
negotiations with governmental authorities can take 6 to 12 months or longer after the receipt of
regulatory marketing approval for a product. To obtain reimbursement or pricing approval in some
countries, we or our collaborators may be required to conduct a clinical trial that compares the
cost-effectiveness of our products to other available therapies. If reimbursement for our products
in foreign countries is unavailable or limited in scope or amount, or if pricing is set at
unsatisfactory levels, our business could be materially harmed. 25




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If physicians and patients do not accept our product candidates, we may be unable to generate
significant revenue. Even if our drug candidates obtain regulatory approval, they still may not gain market acceptance
among physicians, patients and the medical community, which would limit our ability to generate
revenue and would adversely affect our results of operations. Physicians will not recommend
products developed by us or our collaborators until clinical data or other factors demonstrate the
safety and efficacy of our products as compared to other available treatments. In addition,
competitors may be more effective in marketing their drugs. Even if the clinical safety and
efficacy of products developed from our drug candidates is established, physicians may elect not to
recommend these products for a variety of factors, including the reimbursement policies of
government and third-party payors. We have no manufacturing capacity and depend on third parties to supply us with the compounds under
development, to develop effective formulations and to manufacture our products. We have no manufacturing experience, and we currently lack the resources and capability to develop
formulations and manufacture any of our drug candidates on a clinical or commercial scale. We do
not currently operate manufacturing facilities for clinical or commercial production of our drug
candidates under development, and we do not currently intend to do so in the foreseeable future.
As a result, we are dependent on third parties, including Roche, for the formulation and
manufacture of clinical and commercial scale quantities of our drug candidates. If we or our
collaborators are unable to secure an adequate supply of our compounds under development, or if the
third parties we contract with are unable to develop effective formulations or to timely
manufacture our drug candidates for our clinical trials in accordance with our specifications and
timely deliver the drug candidates to the appropriate clinical trial sites, we may encounter delays
in our clinical trials. Although we believe that there are an adequate number of suppliers for
compounds such as ours, we could experience a shortage of suppliers, or an interruption in supply
if a supplier relationship were terminated, that could have an adverse effect on our or our
collaborators ability to supply products. In addition, in the event of a natural disaster,
equipment failure, power failure, strike or other difficulty, we may be unable to replace our
third-party manufacturers in a timely manner. Manufacturing of our products must meet applicable regulatory standards. We, our collaborators and our third-party manufacturers are required to adhere to federal current
good manufacturing practices requirements. Under these requirements, our drug candidates must be
manufactured and our records maintained in a prescribed manner with respect to manufacturing,
testing, quality control and other activities. Furthermore, the manufacturing facilities used by us
or our collaborators must pass a pre-approval inspection by the FDA and foreign authorities before
obtaining marketing approval, and will be subject to periodic inspection by the FDA and
corresponding foreign regulatory authorities. These inspections may result in compliance issues
that could prevent or delay marketing approval, result in interruption or shortage of clinical or
commercial product or require the expenditure of money or other resources to correct. We cannot
control these manufacturing facilities compliance with FDA requirements and may be limited to
certain contractual remedies and rights of inspection. If these manufacturing facilities fail to
comply with applicable regulatory requirements, we may not be granted approval for marketing, and
we could, among other things, be subject to fines, total or partial suspension of production,
withdrawal of regulatory approvals, product recalls, seizure of products, operating restrictions
and criminal prosecution. We face the risk of product liability claims and may not be able to obtain insurance. Our business exposes us to the risk of product liability claims that is inherent in the development
of drugs. If the use of one or more of our or our collaborators drugs harms people, we may be
subject to costly and damaging product liability claims brought against us by clinical trial
participants, consumers, health care providers, pharmaceutical companies or others selling our
products. We have product liability insurance that covers our clinical trials up to an aggregate of
$10.0 million annually, with a deductible of $25,000 per claim. We believe that this coverage is
consistent with industry practice, but we cannot predict all of the possible harms or side effects
that may result and, therefore, the amount of insurance coverage we currently hold may not be
adequate to cover all liabilities we might incur. We intend to expand our insurance coverage to
include the sale of commercial products if we obtain marketing approval for our drug candidates in
development, but we may be unable to obtain commercially reasonable product liability insurance for
any products approved for marketing. If we are unable to obtain insurance at an acceptable cost or
otherwise protect against potential product liability claims, we will be exposed to significant
liabilities, which may materially and adversely affect our business and financial position. If we
are sued for any injury allegedly caused by our or our collaborators products, our liability could
exceed our total assets and our ability to pay the liability. A successful product liability claim
or series of claims brought against us would decrease our cash and could cause our stock price to
fall. 26




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Our or our collaborators products could be subject to restrictions or withdrawal from the market.
We or they may be subject to penalties if we or they fail to comply with post-approval regulatory
requirements or experience unanticipated problems with any approved products. If we or our collaborators obtain marketing approval for a product, that product, along with the
associated manufacturing processes, any post-approval clinical data and the advertising and
promotional activities for the product will be subject to continual requirements, review and
periodic inspections by the FDA and other regulatory bodies. Even if regulatory approval of a
product is granted, the approval may be subject to limitations on the indicated uses for which the
product may be marketed or to other restrictive conditions of approval. Furthermore, any approval
may contain requirements for costly post-marketing testing and surveillance to monitor the safety
or efficacy of the product. Later discovery of previously unknown problems with our products
supplier processes, or failure to comply with regulatory requirements, may result in:  Ø
    product recalls;Ø
    revocation of previously granted approvals;Ø
    the need to conduct additional clinical trials; andØ
    fines and other censures. We or our collaborators may be slow to adapt, or we or they may not be able to adapt, to changes in
existing regulatory requirements or adoption of new regulatory requirements or policies. Our business activities require compliance with environmental laws. If we violate these laws, we
could be subject to significant fines, liabilities or other adverse consequences. Our research and development programs involve the controlled use of hazardous materials.
Accordingly, we are subject to federal, state and local laws governing the use, handling and
disposal of these materials. Although we believe that our safety procedures for handling and
disposing of these materials comply in all material respects with the standards prescribed by state
and federal regulations, we cannot completely eliminate the risk of accidental contamination or
injury from these materials. In addition, our collaborators may not comply with these laws. In the
event of such an accident or failure to comply with environmental laws, we could be held liable for
damages that result, and any such liability could exceed our assets and resources. 
 Risks Relating to Intellectual Property If we are unable to obtain intellectual property protection for our chemical compounds and research
tools, the value of our technology and products will be adversely affected. Our success depends in part on our ability to obtain and maintain intellectual property protection
for our drug candidates, technology and know-how. Our policy is to seek to protect our chemical
compounds and technologies by, among other methods, filing US and foreign patent applications
related to our proprietary technology, inventions andimprovements that are important to the
development of our business. We or our licensors file patent applications directed to all drug
candidates in an effort to establish intellectual property positions regarding new chemical
entities relating to our drug candidates as well as uses of new chemical entities in the treatment
of CNS diseases. The patent positions of companies like ours are generally uncertain and involve complex legal and
factual questions. Our ability to maintain and solidify our proprietary position for our technology
will depend on our success in obtaining effective patent claims and enforcing those claims once
granted. We do not know whether any of our patent applications or those patent applications that we
license will result in the issuance of any patents. Our issued patents and those that may be issued
in the future, or those licensed to us, may be challenged, invalidated, rendered unenforceable or
circumvented, which could limit our ability to stop competitors from marketing related products or
the length of term of patent protection that we may have for our or our collaborators products. In
addition, the rights granted under any issued patents may not provide us with competitive
advantages against competitors with similar compounds or technologies. Furthermore, our competitors
may independently develop similar technologies or duplicate any technology developed by us in a
manner that does not infringe our patents or other intellectual property. Because of the extensive
time required for development, testing and regulatory review of a potential product, it is possible
that, before any of our products or those developed by our collaborators can be commercialized, any
related patent may expire or remain in force for only a short period following commercialization,
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We rely on trade secrets and other confidential information to maintain our proprietary
position. In addition to patent protection, we also rely on protection of trade secrets, know-how and
confidential and proprietary information. To maintain the confidentiality of trade secrets and
proprietary information, we have entered into confidentiality agreements with our employees,
consultants and collaborators upon the commencement of their relationships with us. These
agreements require that all confidential information developed by the individual or made known to
the individual by us during the course of the individuals relationship with us be kept
confidential and not disclosed to third parties. Our agreements with employees also provide that
inventions conceived by the individual in the course of rendering services to us shall be our
exclusive property. However, we may not obtain these agreements in all circumstances, and
individuals with whom we have these agreements may not comply with their terms. In the event of
unauthorized use or disclosure of our trade secrets or proprietary information, these agreements,
even if obtained, may not provide meaningful protection for our trade secrets or other confidential
information. To the extent that our employees, consultants or contractors use technology or
know-how owned by others in their work for us, disputes may arise as to the rights in related
inventions. Adequate remedies may not exist in the event of unauthorized use or disclosure of our confidential
information. The disclosure of our trade secrets would impair our competitive position and could
have a material adverse effect on our operating results, financial condition and future growth
prospects. We may be involved in lawsuits to protect or enforce our patents or the patents of our
collaborators or licensors, which could be expensive and time consuming. Competitors may infringe our patents or the patents of our collaborators or licensors. To counter
infringement or unauthorized use, we may be required to file infringement claims, which can be
expensive and time-consuming. In addition, in an infringement proceeding, a court may decide that a
patent of ours is not valid or is unenforceable, or may refuse to stop the other party from using
the technology at issue on the grounds that our patents do not cover its technology. An adverse
determination of any litigation or defense proceedings could put one or more of our patents at risk
of being invalidated or interpreted narrowly and could put our patent applications at risk of not
issuing. Interference proceedings brought by the US Patent and Trademark Office may be necessary to
determine the priority of inventions with respect to our patent applications or those of our
collaborators or licensors. Litigation or interference proceedings may fail and, even if
successful, may result in substantial costs and be a distraction to our management. We may not be
able, alone or with our collaborators and licensors, to prevent misappropriation of our proprietary
rights, particularly in countries where the laws may not protect such rights as fully as in the US. Furthermore, because of the substantial amount of discovery required in connection with
intellectual property litigation, there is a risk that some of our confidential information could
be compromised by disclosure during this type of litigation. In addition, during the course of this
kind of litigation, there could be public announcements of the results of hearings, motions or
other interim proceedings or developments. If securities analysts or investors perceive these
results to be negative, it could have a substantial adverse effect on the price of our common
stock. Under our agreement with Bayer, we have the first right, but not the obligation, to defend the
patent rights covered under the agreement against infringement or interference by any third party.
Under our collaborations with Roche, Roche has the first right to bring an action with respect to
the infringement of patent rights covered under the applicable agreement. In the event that Roche
does not exercise this right, we retain the right to bring the infringement action. We may not prevail in any litigation or interference proceeding in which we are involved. Even if
we do prevail, these proceedings can be very expensive and distract our management. Third parties may own or control patents or proprietary rights that are infringed by our
technologies or drug candidates. Our success depends in part on avoiding the infringement of other parties patents and proprietary
rights as well as avoiding the breach of any licenses relating to our technologies and products. In
the US, patent applications filed in recent years are confidential for 18 months, while older
applications are not published until the patent issues. As a result, there may be patents of which
we are unaware, and avoiding patent infringement may be difficult. We may inadvertently infringe
third-party patents or proprietary rights. These third parties could bring claims against us, our
collaborators or our licensors that even if resolved in our favor, could cause us to incur
substantial expenses and, if resolved against us, could additionally cause us to pay substantial
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infringement suit were brought against us, our collaborators or our licensors, we or they could be
forced to stop or delay research, development, manufacturing or sales of any infringing product in
the country or countries covered by the patent we infringe, unless we can obtain a license from the
patent holder. Such a license may not be available on acceptable terms, or at all, particularly if
the third party is developing or marketing a product competitive with the infringing product. Even
if we, our collaborators or our licensors were able to obtain a license, the rights may be
nonexclusive, which would give our competitors access to the same intellectual property. We also may be required to pay substantial damages to the patent holder in the event of an
infringement. Under some circumstances in the US, these damages could be triple the actual damages
the patent holder incurs. If we have supplied infringing products to third parties for marketing or
licensed third parties to manufacture, use or market infringing products, we may be obligated to
indemnify these third parties for any damages they may be required to pay to the patent holder and
for any losses the third parties may sustain themselves as the result of lost sales or damages paid
to the patent holder. Any successful infringement action brought against us may also adversely affect marketing of the
infringing product in other markets not covered by the infringement action, as well as our
marketing of other products based on similar technology. Furthermore, we may suffer adverse
consequences from a successful infringement action against us even if the action is subsequently
reversed on appeal, nullified through another action or resolved by settlement with the patent
holder. The damages or other remedies awarded, if any, may be significant. As a result, any
infringement action against us would likely delay the regulatory approval process, harm our
competitive position, be very costly and require significant time and attention of our key
management and technical personnel. Risks Related to our Common Stock Our executive officers, directors and their affiliates have the ability to significantly influence
all matters submitted to stockholders for approval. As of April 26, 2005, our executive officers, directors and their affiliates who owned more than 5%
of our outstanding common stock, in the aggregate, beneficially owned shares representing
approximately 19% of our capital stock. Accordingly, these executive officers, directors and their
affiliates, acting as a group, have substantial influence over the outcome of corporate actions
requiring stockholder approval, including the election of directors, any merger, consolidation or
sale of all or substantially all of our assets or any other significant corporate transactions.
This concentration of ownership may have the effect of delaying or preventing a change of control
of us, even if such a change of control would benefit our other stockholders. Our stock price is subject to fluctuation, which may cause an investment in our stock to suffer a
decline in value. The trading price of our common stock may be highly volatile and could be subject to wide
fluctuations in price in response to various factors, many of which are beyond our control,
including:  Ø
    announcements regarding the results of preclinical tests or clinical studies involving our product candidates;Ø
    disputes, modifications, terminations or other developments regarding our collaborations with Roche;Ø
    announcements regarding new collaborations or changes to current collaborations;Ø
    announcements regarding technological innovations or new products by us, our collaborators or our competitors;Ø
    changes in the market valuations of similar companies;Ø
    conditions or trends in the biotechnology and pharmaceutical industries;Ø
    developments relating to patents and other intellectual property rights, including
disputes with licensors or other third parties, litigation matters and our ability to
obtain patent protection for our chemical compounds or technologies;Ø
    FDA or international regulatory actions;Ø
    additions to or departures of our key personnel;Ø
    actual or anticipated variations in quarterly operating results; 29




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Ø
    changes in financial estimates by securities analysts; andØ
    sales of our common stock. In addition, public companies in general and companies listed on The Nasdaq National Market in
particular have experienced extreme price and volume fluctuations that have often been unrelated or
disproportionate to the operating performance of those companies. Further, there has been
particular volatility in the market prices of securities of biotechnology and other life sciences
companies. These broad market and industry factors may seriously harm the market price of our
common stock, regardless of our operating performance. In the past, following periods of volatility
in the market, securities class action litigation has often been instituted against companies. Such
litigation, if instituted against us, could result in substantial costs and diversion of
managements attention and resources. Antitakeover provisions that we have in place could entrench our management team and delay or
prevent an acquisition. These provisions could adversely affect the price of our common stock
because purchasers cannot acquire a controlling interest. Provisions of our certificate of incorporation and bylaws and applicable provisions of the General
Corporation Law of the State of Delaware may make it more difficult for or prevent a third party
from acquiring control of us without the approval of our board of directors. These provisions
include:  Ø
    a classified board of directors;Ø
    limitations on the removal of directors;Ø
    limitations on stockholder proposals at meetings of stockholders;Ø
    the inability of stockholders to act by written consent or to call special meetings; andØ
    the ability of our board of directors to designate the terms of and issue new series of
preferred stock without stockholder approval. The affirmative vote of the holders of at least 75% of our shares of capital stock entitled to vote
is necessary to amend or repeal the above provisions of our certificate of incorporation. In
addition, absent approval of our board of directors, our bylaws may only be amended or repealed by
the affirmative vote of the holders of at least 75% of our shares of capital stock entitled to
vote. In addition, because we are incorporated in Delaware, we are governed by the provisions of
Section 203 of the Delaware General Corporation Law, which may prohibit large stockholders from
consummating a merger with or acquisition of us. These provisions may have the effect of entrenching our management team and preventing a merger or
acquisition that would be attractive to stockholders. As a result, these provisions may deprive you
of the opportunity to sell your shares to potential acquirers at a premium over prevailing prices.
This potential inability to obtain a control premium could reduce the market price of our common
stock. An active trading market for our common stock may not develop. We completed our initial public offering in April 2004. Prior to our initial public offering, you
could not buy or sell our common stock publicly. After our initial public offering, the average
daily trading volume for our common stock has been relatively low. An active public market for our
common stock may not continue to develop or be sustained. Because we do not intend to pay dividends, you will benefit from an investment in our common stock
only if it appreciates in value. We have paid no cash dividends on any of our capital stock to date, and we currently intend to
retain our future earnings, if any, to fund the development and growth of our business. As a
result, we do not expect to pay any cash dividends in the foreseeable future. The success of your
investment in our common stock will likely depend entirely upon any future appreciation. There is
no guarantee that our common stock will appreciate in value or even maintain the price at which you
purchased your shares. 30




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If there are substantial sales of our common stock, our stock price could decline. If our existing stockholders sell a large number of shares of our common stock, or the public
market perceives that existing stockholders might sell shares of common stock, the market price of
our common stock could decline significantly. In connection with our initial
public offering, our executive officers and directors and substantially all of our pre-initial
public offering stockholders and option-holders executed lock-up agreements that prohibited them
from selling, offering to sell, contracting or agreeing to sell, hypothecating, pledging, granting
any option to purchase or otherwise dispose of or agree to dispose of any shares of our common
stock for the 180 day period from the date of our initial public offering. This lock-up period
ended on October 2, 2004. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk We do not use derivative financial instruments for speculation or trading purposes. However, we
are exposed to market risk related to changes in interest rates. We currently do not hedge interest
rate exposure. Our current policy is to maintain an investment portfolio consisting mainly of U.S.
money market funds, government obligations, mortgage-backed securities, and corporate debt
securities, directly or through managed funds. Our cash is deposited in and invested through highly
rated financial institutions in North America. Our marketable securities are subject to interest
rate risk and will fall in value if market interest rates increase. If market interest rates were
to increase immediately and uniformly by 10% from levels at March 31, 2005, we estimate that the
fair value of our investment portfolio would decline by an immaterial amount. There has been no
material change to our market risk since December 31, 2004. 
 Item 4. Controls and Procedures Evaluation of disclosure controls and procedures Based on their evaluation as of March 31, 2005, our Chief Executive Officer and Principal Financial
Officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e)
and 15d-15(e) of the Securities Exchange Act of 1934, as amended) were sufficiently effective to
ensure that the information required to be disclosed by us in this quarterly report on Form 10-Q
was recorded, processed, summarized and reported within the time periods specified in the SECs
rules and Form 10-Q. Change in internal control over financial reporting There were no changes in our internal control over financial reporting during the quarter ended
March 31, 2005 that have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting. Limitations on the effectiveness of controls Our disclosure controls and procedures are designed to provide reasonable, not absolute, assurance
that the objectives of our disclosure control system are met. Because of inherent limitations in
all control systems, no evaluation of controls can provide absolute assurance that all control
issues, if any, within a company have been detected. 31




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PART II. OTHER INFORMATION 
 Item 6. Exhibits  31.1
    Certification by the Chief Executive Officer pursuant to Rule 13a-14(a) under the
Securities Exchange Act of 1934.31.2
    Certification by the Principal Financial Officer pursuant to Rule 13a-14(a) under the
Securities Exchange Act of 1934.32.1
    Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002. 32




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. MEMORY PHARMACEUTICALS CORP.By:
    
    /s/ Joseph M. DonabauerJoseph M. DonabauerVice President & Controller(Principal Financial and Accounting Officer andDuly Authorized Officer)
 Date: May 16, 2005 33




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Exhibit Index Exhibit Number
    
    Description31.1
    
    Certification by the Chief Executive Officer pursuant
to Rule 13a-14(a) under the Securities Exchange Act of
193431.2
    
    Certification by the Principal Financial Officer
pursuant to Rule 13a-14(a) under the Securities
Exchange Act of 193432.1
    
    Certification Pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
 34