---



UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



---



FORM 10-K



---



|x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ------------------------------------------------------------------------------------



For the fiscal year ended December 31, 2004



OR



| ̈ | 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 33-60134



---



HOLLIS-EDEN PHARMACEUTICALS, INC.

(Exact name of Registrant as specified in
its charter)



---



|                                                              |  |                                    
|------------------------------------------------------------- |  | -----------------------------------
|Delaware                                                      |  | 13-3697002                         
|(State or other jurisdictionof incorporation or organization) |  | (I.R.S. EmployerIdentification No.)
|                                                              | 
|4435 Eastgate Mall, Suite 400San Diego, CA                    |  | 92121                              
|(Address of principal executive offices)                      |  | (Zip Code)                         



Registrants
telephone number, including area code: (858) 587-9333



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

None



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

Common stock, $.01 par value per share



---



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 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 requirement for the past 90 days. YES  x    NO ̈



Indicate by check mark if disclosure of delinquent
filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrants knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. ̈



Indicate by check mark whether the Registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). YES  x    NO ̈



The aggregate market value of the voting stock held by nonaffiliates of the Registrant as of June 30, 2004, the end of
Hollis-Eden Pharmaceuticals most recently completed second fiscal quarter, was approximately $197,084,992 based on the closing stock price of $12.05 for the Registrants Common Stock as reported by the Nasdaq National Market.



As of March 1, 2005, there were outstanding 19,288,072 shares of the
Registrants Common Stock, $.01 par value per share.



DOCUMENTS INCORPORATED BY REFERENCE



Certain
portions of Registrants definitive proxy statement to be filed with the Securities and Exchange Commission pursuant to Regulation 14A in connection with the solicitation of proxies for our 2005 Annual Meeting of Stockholders to be held on
June 17, 2005, are incorporated by reference into Part III of this Report.



---



---

Hollis-Eden Pharmaceuticals, Inc.

Form 10-K



For the Fiscal Year Ended December 31, 2004



INDEX



|         |  |                                                                                       |  |     
|-------- |  | ------------------------------------------------------------------------------------- |  | ----
|         |  |                                                                                       |  | Page
|PART I   |  |                                                                                      
|         |  |                                                                                      
|Item 1   |  | Business                                                                              |  | 3   
|         |  |                                                                                      
|Item 2   |  | Properties                                                                            |  | 26  
|         |  |                                                                                      
|Item 3   |  | Legal Proceedings                                                                     |  | 26  
|         |  |                                                                                      
|Item 4   |  | Submission of Matters to a Vote of Security Holders                                   |  | 26  
|         | 
|PART II  |  |                                                                                      
|         |  |                                                                                      
|Item 5   |  | Market for Registrants Common Stock and Related Stockholder Matters                  |  | 27  
|         |  |                                                                                      
|Item 6   |  | Selected Financial Data                                                               |  | 28  
|         |  |                                                                                      
|Item 7   |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 29  
|         |  |                                                                                      
|Item 7A  |  | Quantitative and Qualitative Disclosures About Market Risk                            |  | 32  
|         |  |                                                                                      
|Item 8   |  | Financial Statements and Supplementary Data                                           |  | 33  
|         |  |                                                                                      
|Item 9   |  | Changes in and Disagreements with Accountants                                         |  | 58  
|         |  |                                                                                      
|Item 9A  |  | Controls and Procedures                                                               |  | 58  
|         |  |                                                                                      
|Item 9B  |  | Other Information                                                                     |  | 60  
|         | 
|PART III |  |                                                                                      
|         |  |                                                                                      
|Item 10  |  | Directors and Executive Officers of the Registrant                                    |  | 61  
|         |  |                                                                                      
|Item 11  |  | Executive Compensation                                                                |  | 61  
|         |  |                                                                                      
|Item 12  |  | Security Ownership of Certain Beneficial Owners and Management                        |  | 61  
|         |  |                                                                                      
|Item 13  |  | Certain Relationships and Related Transactions                                        |  | 61  
|         |  |                                                                                      
|Item 14  |  | Principal Accountants Fees and Services                                               |  | 61  
|         | 
|PART IV  |  |                                                                                      
|         |  |                                                                                      
|Item 15  |  | Exhibits and Financial Statement Schedules                                            |  | 62  
|         |  |                                                                                      
|         |  | Signatures                                                                            |  | 63  



2



---

FORWARD-LOOKING STATEMENTS



This Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. In particular, statements about
our expectations, beliefs, plans, objectives, assumptions or future events or performance are contained or incorporated by reference in this report. We have based these forward-looking statements on our current expectations about future events.
While we believe these expectations are reasonable, such forward-looking statements are inherently subject to risks and uncertainties, many of which are beyond our control. The actual future results for Hollis-Eden Pharmaceuticals, Inc. may differ
materially from those discussed here for various reasons, including those discussed in this report under the heading Risk Factors, Part II, Item 7 entitled Managements Discussion and Analysis of Financial Condition and
Results of Operations and elsewhere throughout this Annual Report. Given these risks and uncertainties, you are cautioned not to place undue reliance on such forward-looking statements. The forward-looking statements included in this report
are made only as of the date hereof. We do not undertake and specifically decline any obligation to update any such statements or to publicly announce the results of any revisions to any of such statements to reflect future events or developments.
When used in the report, unless otherwise indicated, we, our and us refers to Hollis-Eden Pharmaceuticals, Inc. and its subsidiaries.



PART I



|Item 1. | Business
|------- | --------



GENERAL



OVERVIEW



Hollis-Eden Pharmaceuticals, Inc., a development-stage pharmaceutical
company, is engaged in the discovery, development and commercialization of products for the treatment of diseases and disorders in which the body is unable to mount an appropriate immune response. Our initial technology development efforts are
primarily focused on a series of hormones and hormone analogs that we have labeled immune regulating hormones (IRHs). We believe these compounds are key components of the bodys natural regulatory system that potentially can be useful in
treating a wide variety of medical conditions.



Preclinical and
early clinical studies with these compounds indicate that they have the ability to significantly reduce a number of well known inflammatory mediators, while also stimulating innate and adaptive immunity and reversing bone marrow suppression. In
addition, these compounds have a very attractive safety profile to date, are cost-effective to manufacture and are unlikely to produce resistance.



The initial commercial application we are pursuing with this class of compounds is focused on protecting the body from the acute effects of radiation
injury. Our lead compound in this area is NEUMUNE
(HE2100), which is being co-developed with the U.S. military. Because of the potential to use such an agent in Homeland Defense, there are a number of unusual features of the development and commercialization pathway that we believe make this a
particularly attractive initial commercial opportunity for a small biotechnology company.



Specifically, unlike traditional medical indications, NEUMUNE may be reviewed for approval on the basis of efficacy in animals and safety in humans. This potentially avoids the need to conduct large and expensive
studies in humans to establish efficacy. Further, in addition to the potential to supply the military with NEUMUNE, we are pursuing an advance purchase contract under Project BioShield to provide NEUMUNE to the Strategic National Stockpile for use
by first responders and civilians who may be at risk of radiation injury. Project BioShield is a recently adopted piece of legislation that allocates $6 billion towards advance purchase contracts for development stage compounds that may be useful as
medical countermeasures to weapons of mass destruction such as radiological or nuclear weapons. We believe that supplying NEUMUNE to the U.S. government under this program would also require us to have significantly less commercial infrastructure
than would be necessary to launch a new drug for a traditional indication.



3



---

We have generated a substantial amount of data regarding the safety and activity of NEUMUNE in the
setting of radiation injury in non-human primates. In 2005 we expect to initiate human clinical trials with NEUMUNE to establish safety and also anticipate producing significant additional data on the efficacy of the compound in non-human primates.
We have also commenced work on scaling-up the manufacturing of this compound for potential commercial use.



Because of the attractive aspects of this market opportunity, we acquired an additional non-IRH development-stage compound for radiation protection with
our acquisition of Congressional Pharmaceutical Corporation (CPC) and its lead product candidate, PHOSPHONOL (a phosphothioate). PHOSPHONOL is being developed to protect against the long-term complications of radiation exposure such as genetic mutations that can lead to cancer. We believe its
development and commercialization path may have similar attributes to that of NEUMUNE.



Like radiation, many current cancer therapies can also cause damage to the bone marrow and lead to an increased number of genetic mutations. As a result, we believe there may be a significant opportunity for compounds
similar to NEUMUNE and PHOSPHONOL in the area of protecting against the damaging effects of cancer chemotherapy. While these applications would require traditional clinical trial programs, we believe the market opportunity in these areas is
significant. We are currently conducting preclinical studies with second-generation compounds that we believe may be well suited for development in this indication.



We have also generated a large amount of preclinical data indicating that IRHs have a potential role to play in treating
autoimmune conditions such as multiple sclerosis, asthma and arthritis. We are continuing to profile second-generation compounds in these preclinical models for further development in autoimmune diseases.



Another IRH, HE2000, is a Phase II clinical stage compound that has shown
clinical activity in infectious diseases, including HIV and malaria, and may be a candidate for further development as a compound to be used in treating global infectious disease epidemics, as well as in combating bioterrorism.



We are pursuing a partially integrated approach to building our business. As
such, we are utilizing third parties for many of our activities. We believe by being involved in the design and supervision of these activities, but not the day-to-day execution, we can preserve our flexibility and limit our expenditures during the
development phase. If we are able to successfully develop our investigational drug candidates, we anticipate marketing them directly in the U.S. and potentially elsewhere. For certain therapeutic indications or geographic regions, we anticipate
establishing strategic collaborations to commercialize these opportunities.



Our principal executive offices are located at 4435 Eastgate Mall, Suite 400, San Diego, CA 92121, and our telephone number is (858) 587-9333. We are incorporated in Delaware. We maintain a website at
www.holliseden.com. The reference to our worldwide web address does not constitute incorporation by reference of the information contained on our website.



Our periodic and current reports that we file with the Securities and Exchange Commission, or SEC, are available free of charge, on our website, as soon
as reasonably practicable after we have electronically filed them with, or furnished them to, the SEC.



TECHNOLOGY DESCRIPTION



Immune
Regulating Hormones



Our primary technology
development efforts are focused on a class of hormones and analogs of hormones found in the body that we believe are important components of the bodys regulatory system. These compounds have demonstrated significant preclinical activity in
protecting the bone marrow from the damaging effects of radiation and chemotherapy. In addition, IRHs appear to reduce inflammation in a broad-spectrum fashion while



4



---

also improving a number of components of the immune system in conditions of immune suppression. These hormones are known to be depleted as we age, and this
process can be accelerated as a result of infectious diseases and other chronic immune system disorders.



Hematopoiesis.    One of our key focus areas for immune regulating hormones revolves around their role in the
hematopoietic system. Hematopoiesis is the process by which the body produces a number of key blood cell types, including neutrophils and platelets. Neutrophils are white blood cells that are critical early responders involved in combating foreign
pathogens. When they are depleted, the host becomes highly susceptible to life-threatening infections. Similarly, a significant loss of platelets, which are key clotting elements in the blood, can lead to life-threatening bleeding episodes.



Neutrophils and platelets are produced by the bone marrow.
Radiation and chemotherapy can significantly damage bone marrow, which can lead to life-threatening complications.



A number of preclinical studies with our immune regulating hormones indicate that these compounds can increase both neutrophils and platelets, as well as
other important immune cells following radiation injury or chemotherapy. In addition, those cells that are produced following treatment with IRHs appear to be more effective at killing pathogens than untreated cells.



Mechanistically, IRHs appear both to increase the proliferative potential of
residual bone marrow cells after injury and accelerate the rate at which new cells are generated. In addition, the ability of IRHs to regulate reactive oxygen species and reduce systemic inflammation may also contribute to preventing death of
remaining bone marrow cells.



Because of these characterisitcs,
immune regulating hormones have the potential to be quite useful in treating a variety of conditions in which the bone marrow is damaged.



Role of Inflammation.    The role of inflammation in disease pathogenesis has become increasingly recognized by the
medical community. Chronic inflammation is generally believed to be caused by an over-stimulation of certain components of the immune system, such as reactive oxygen species and pro-inflamatory cytokines, due to persistent low-grade infections or
the bodys inability to differentiate between certain cells or tissues in the body and foreign pathogens. Published studies have now implicated chronic inflammation in a host of diseases ranging from autoimmune conditions such as arthritis and
psoriasis, to infectious diseases, including HIV, malaria, and tuberculosis, and more recently to cardiovascular disease and a number of different cancer types.



One of the most widely used classes of agent for treating inflammation is the corticosteroid class. Industry market research indicates that there are
more than 60 million new prescriptions for corticosteroids issued by physicians in the U.S. each year for a wide range of conditions. While these drugs are very potent anti-inflammatory agents, their chronic use can lead to immune suppression and
other side effects including bone loss.



In the last several
years a number of new agents for treating inflammation have been introduced that are focused on inhibiting a specific component of the inflammatory cascade, such as agents that block specific inflammatory cytokines, including TNF-alpha and IL-1
beta, as well as drugs that inhibit specific enzymes, such as COX-2. These drugs have shown impressive activity in a number of clinical conditions such as arthritis, inflammatory bowel disease and psoriasis. However, by focusing on a specific
mediator, these agents may not be able to overcome the redundancy built into the immune system and can also cause immune suppression and other side effects in certain patient populations. In addition, the cost of producing a number of these new
agents is quite high.



Our immune regulating hormones have been
shown to regulate a broad array of reactive oxygen species and pro-inflammatory cytokines involved in inflammation and produce anti-inflammatory activities comparable to that historically seen with corticosteroids. In addition, certain members of
our class of compounds has been



5



---

shown in early clinical trials to produce long-lasting reductions in a number of key inflammatory mediators, including TNF-alpha, IL-1 beta and IL-6. Unlike
most approaches to reducing inflammation, however, immune regulating hormones appear to boost a variety of immune responses in conditions of immune suppression, including innate and adaptive cell-mediated immunity and hematopoiesis.



Innate and Cell-Mediated
Immunity.    Humans have three lines of defense against infection. The physical barrier of our skin and mucosal surfaces provides our first line of defense. This effectively protects us from numerous pathogens found in
our immediate surroundings. Should a microbe gain entry through a break in the skin, by ingestion or by other means, protection comes from the next two lines of defense  innate and adaptive immunity.



Innate immunity refers to the all-purpose, immediate antimicrobial response
that occurs regardless of the nature of the invader. For example, natural killer cells roam our body and recognize and destroy foreign cells they encounter. This response serves to fight the infection after initial exposure, pending development of
adaptive immunity.



The adaptive immune system mounts a highly
sophisticated and specialized immune response to protect us against specific invaders, and provides long-term protection or immunity from subsequent exposure to those invaders. Adaptive immunity can be divided into two branches, the cellular or
cell-mediated immune response, also known as Th1-type response, and the humoral immune response, also known as Th2-type response. These two interconnected immune functions work in concert through finely tuned checks and balances to mount an
appropriate defense. In response to an intracellular pathogen, B-cells of the humoral arm (Th2) proliferate and produce large amounts of appropriate antibodies that flag invaders for elimination from the body. The cellular (Th1) immune response
employs specialized T-cells to recognize and destroy host cells showing signs of infection by intracellular pathogens. The relative mobilization of each branch of the immune system depends on the specific disease or condition, and the nature of the
response can be influenced by the pathogen itself and where it enters the body.



The balance between the cellular (Th1) and humoral (Th2) arms of the immune system is modulated by a highly integrated network of molecular and cellular interactions driven by cytokines, small proteins that act as
intercellular chemical messengers. These cytokines, which are regulated by hormones generated by the endocrine system, can be classified as either Th1 or Th2 depending on their role. Th1 cytokines such as interleukin 2 (IL-2), interferon gamma
(IFN-gamma) and interleukin 12 (IL-12) stimulate the cellular response and suppress the humoral response. Th2 cytokines, such as interleukin 10 (IL-10), interleukin 6 (IL-6) and interleukin 4 (IL-4), stimulate the humoral response and suppress the
cellular response.



Generally, in healthy individuals the
immune system is in homeostasis, or has balanced expression of Th1 and Th2 cytokines. If a foreign invader triggers an adaptive cellular or Th1-type response, the feedback mechanism within the immune system greatly reduces the humoral or Th2-type
response. Once the invader is controlled or eliminated, a combination of hormones and cytokines act quickly to return the system back towards homeostasis through the same feedback mechanism.



Unfortunately, a wide variety of viruses including HIV, certain parasites
such as malaria, and bacteria such as tuberculosis, have evolved ways of evading destruction by the immune system by causing the body to overproduce Th2 cytokines and underproduce Th1 cytokines. This in turn leads to a corresponding overproduction
of cells unable to fight these pathogens and an underproduction of cells that can. A key element in this dysregulation is believed to be a state of chronic inflammation that is produced in these conditions.



Our therapeutic strategy is based on the observation that this complicated
balance of cytokines is regulated by competing levels of certain adrenal hormones. In young, healthy adults, the balance between corticosteroids such as cortisol, which have immunosuppressive properties, and the immune regulating hormones we are
developing is a key determinant in whether appropriate levels of cytokines are produced to properly regulate



6



---

immune responses. As we age, and under conditions of stress and chronic infections, levels of these immune regulating hormones that counteract the
immunosuppressive effect of corticosteroids fall significantly, leading to a decline in the ability to fight off infections that would otherwise be contained by a well functioning immune system.



As described above, certain pathogens have found ways to accelerate this
process through natural selection. For example, in HIV, most patients cortisol levels rise (and counter-regulatory adrenal hormones fall) as the disease progresses from HIV to AIDS. This then leads to a corresponding increase in Th2 cytokines
relative to Th1 cytokines. As this situation continues, the immune system is dominated by Th2 cells unable to fight viral and other infections rather than the necessary cell-mediated Th1 cells. In this state of immune system dysregulation, the
patient becomes highly susceptible to infection.



Certain HIV
patients, however, maintain their ability to continue to produce high levels of Th1 cytokines and, in this small percentage of patients, HIV appears to take much longer to progress to AIDS. These patients are termed HIV long-term
non-progressors. These observations have led to the belief that if patients can be brought from a predominant Th2 immune status back towards a Th1 dominant condition through drug therapy, the immune system may be able to contain or eliminate a
number of such infectious pathogens that are plaguing millions of people around the world. This Th1/Th2 imbalance is seen not just with infectious disease, but also in cancer and autoimmune diseases. Thus, a drug that effectively corrects immune
dysregulation could have the potential to address a wide variety of human ailments.



Hollis-Edens Approach.    With the advent of the technology revolution of the last several decades, scientists have been presented with a whole new series of tools that allow
them to study very specific aspects of biological function. This led to a scientific approach that largely centered on how a certain drug might interact with a specific signaling function or target for a specific disease. While this approach has
resulted in a number of successful drugs, frequently these compounds are not as effective in clinical practice as anticipated and produce a number of unintended side effects due to the complexity of interactions amongst different systems in human
biology.



In the last several years, the research community has
increasingly begun to embrace the concept of a systems biology approach to drug development  one that accounts for the complexity of interactions between cellular pathways. This approach recognizes that enhancing or inhibiting just
one signal in this complex cascade of events is likely to be too simplistic an approach to overcome many of the more intractable health problems facing medicine today. Researchers in this emerging field are attempting to integrate a number of
different scientific disciplines, such as molecular biology, high speed computing and engineering, to understand these intricate interactions in immune and metabolic function and the dysregulation in these pathways that can lead to a very diverse
set of diseases and conditions at an upstream level. The concept is that there may be common links between diseases such as arthritis, cardiovascular disease, HIV, Alzheimers disease and cancer that can all benefit from an appropriate upstream
re-regulation of immune and/or metabolic function.



While most
researchers in this area are taking aground up approach to understanding each specific component in these intricate cascades and how they relate to one another, and then trying to design drugs that can successfully intervene in correcting
dysregulation across all of these pathways, our approach is moretop down: identify the hormones that have been developed through millions of years of evolution to be the master signalers involved in initiating these cascades and look at
conditions where their modulation is dysregulated. By then applying the latest tools of pharmaceutical development, our goal is to design compounds and routes of administration that deliver these signals when and where they are needed to intervene
in this systemic dysregulation.



As factors such as chronic
inflammation, innate and adaptive immunity and metabolic function are implicated in a host of diseases including virtually all diseases of aging, successfully applying this approach has potential utility for a number of important pharmaceutical
markets. The hormone series that we are focused on is known to be involved in cell signaling at an upstream level, and these hormones are known to be depleted as we



7



---

age. This depletion can be accelerated as a result of a number of the conditions we are pursuing. We believe that by starting with the lessons that
evolutionary biology has taught us, the time to develop new therapeutics that target these systemic abnormalities will be shortened relative to theground up approach being pursued by others.



Phosphothioate Technology



In February 2004, we acquired Congressional Pharmaceutical Corporation
(CPC). CPC is a company that was formed to commercialize a series of compounds that have the potential to protect against DNA mutations that can occur as a result of radiation injury or chemotherapy. This DNA damage (mutagenesis) has been associated
with an increased risk of a variety of different cancers and is believed to be a primary cause of the harmful long-term effects of radiation injury. CPCs lead compound, PHOSPHONOL, is part of a series of compounds from the phosphothioate class
that has been licensed from the University of Chicago. These compounds appear to provide a molecular scaffolding around DNA that helps protect the genomic stability of DNA, reducing the chance for mutation. By improving the genomic stability,
phosphothioates such as PHOSPHONOL may thus reduce the likelihood that genetic mutation will subsequently lead to cancers.



PRODUCTS IN DEVELOPMENT



We are currently focusing our development activities on a series of immune regulating hormones, as well as PHOSPHONOL, the compound recently obtained
through the acquisition of CPC. NEUMUNE is being co-developed with the U.S. military for use in protecting the body from acute radiation injury. This compound is being developed pursuant to a new rule enacted by the U.S. Food and Drug Administration
(FDA) under which approval may be granted on the basis of efficacy in animals and safety in humans. PHOSPHONOL is being developed to protect against the long-term effects of radiation injury and may be subject to the same rule. A number of IRHs have
shown significant benefits in preclinical models of chemotherapy-induced immune suppression, and we intend to test one of these compounds in Phase I/II clinical trials in this indication. IMMUNITIN is our lead infectious disease compound and has
shown activity in Phase II clinical trials in malaria, HIV and AIDS, and in a number of preclinical tuberculosis models. We are pursuing public/private partnerships with a number of organizations that may provide funding to allow us to conduct a
Phase II/III clinical trial with IMMUNITIN in infectious disease. In addition, IMMUNITIN and other immune regulating hormones may be useful as countermeasures against a number of pathogens that could be used as biowarfare agents. In addition, given
the anti-inflammatory and immune stimulating effects seen with many of our IRHs, we are screening new IRHs in preclinical models of autoimmune conditions.



NEUMUNE



NEUMUNE is being developed as a treatment for Acute Radiation Syndrome (ARS). ARS, also referred to as radiation sickness, is an acute illness caused by
high doses of radiation exposure over a significant portion of the body in a relatively short time period. This exposure results in the depletion of hematopoietic stem cells and progenitors in the bone marrow, resulting in severe neutropenia (loss
of white blood cells known as neutrophils) and thrombocytopenia (loss of key clotting elements known as platelets). Severe neutropenia can significantly increase an individuals susceptibility to life threatening infections, while
thrombocytopenia increases the risk of bleeding. Either of these conditions can lead to mortality, which usually occurs in the first thirty to sixty days following exposure. If an individual can survive this initial period of insult, the bone marrow
will generally return to normal production of these critical blood cell components.



To date, there are no therapeutics approved to mitigate ARS. Current treatment recommendations call for hospitalization of the exposed individual during this period of vulnerability so that these critical blood
elements can be monitored aggressively and supportive care can be given where necessary. Unfortunately, in the type of mass casualty scenario that could occur following a nuclear or radiological event, local hospitals and treatment facilities are
likely to be completely overwhelmed and such a treatment strategy is unlikely to be available for the vast majority of victims. What is needed is an agent that could potentially be useful on an outpatient basis, without the need for hospitalization,
that could protect those exposed from these life-threatening complications.



8



---

NEUMUNE is being developed by Hollis-Eden and the Armed Forces Radiobiology Research Institute (AFRRI) in
the U.S. military to potentially fulfill this need. Published studies by AFRRI with our immune regulating hormone NEUMUNE have shown dramatic survival improvements in NEUMUNE-treated animals versus controls in models of radiation-induced immune
suppression. The ability of NEUMUNE to stimulate both neutrophils and platelets as well as other components of innate immunity is believed to be the mechanism by which NEUMUNE exerted its protective effects in these studies.



AFRRI is a leader in studying the short-term and long-term effects of
radiation injury. A principal AFRRI mission is the development of pharmaceutical agents that can be used to prevent injury from radiation caused by a nuclear accident or event. Over the years, AFRRI, in concert with another Department of Defense
project, has screened thousands of compounds in an effort to find an acute radioprotectant suitable for widespread use. Out of this screening and profiling effort, NEUMUNE has emerged as a leading candidate based on its significant efficacy in
preclinical models to date, its safety profile, and the comparatively low-cost nature of its manufacturing process.



The FDA has informed us that NEUMUNE would qualify for review for radiation protection under a new rule adopted in 2002. Traditional drug development
programs require large-scale clinical studies to establish efficacy in humans. However, pursuant to the new rule, in cases where traditional efficacy studies would be deemed unethical in evaluating a drug intended for use against lethal or
permanently disabling toxic substances (such as in this situation, which would otherwise require healthy human volunteers to be exposed to potentially lethal effects of radiation), approval may be granted solely on the basis of proof of efficacy in
relevant animal species and proof of safety in humans.



Given
the accelerated potential development path for NEUMUNE and the significant and largely untapped market opportunity for compounds that can treat acute radiation injury, this program has become a top priority for us. We have demonstrated that NEUMUNE
has significant activity over a range of doses in maintaining neutrophils and platelets in studies involving more than 200 non-human primates. These studies also suggest NEUMUNE can provide a survival benefit versus placebo-treated animals. We
anticipate initiating clinical trials in humans with NEUMUNE in the first half of 2005. The initial studies are expected to help us establish the safety of NEUMUNE in humans and to help us determine the concentration of the compound that can be
achieved in human plasma. This information can then be used in selecting the final dose for the pivotal efficacy study in non-human primates and the larger human safety study that would be required. If results from these studies are successful, we
anticipate being able to file a New Drug Application (NDA) with the FDA in 2006.



We believe the market opportunity for a drug that could be used to ameliorate the effects of acute radiation injury would be significant. Because the window of opportunity to treat radiation injury is short, we
believe any drug to treat this condition will need to be stockpiled on a local level to be appropriately available for high risk populations. In light of the current risk of terrorism, high-risk areas may include any military installation or theater
of operations, any urban or metropolitan area that is at risk of a radiological attack, and a 10 to 50 mile radius around any nuclear power plant or spent fuel facility. Such a definition would encompass a large portion of the highly populated areas
in the U.S. In addition, we believe similar market opportunities exist in Europe and Asia. The only drug that has been widely stockpiled for radiation injury is potassium iodide. Potassium iodide is only effective against the long-term risk of
thyroid cancer, and does not protect the body from the acute effects on the bone marrow, which can lead to rapid fatalities. Despite this limitation, potassium iodide has been stockpiled broadly for years in Europe and Japan for civilians living
within close proximity of nuclear power plants, and the U.S. has recently begun purchasing millions of doses of the drug for similar uses in this country. Given that NEUMUNE may be useful in protecting against the immediate life-threatening effects
of radiation, we believe there may be strong interest by government agencies to adopt a similar stockpiling strategy if NEUMUNE is successfully developed.



As a result of the increased threat, the U.S. government is allocating significant funding for the stockpiling of drugs that act as medical
countermeasures to weapons of mass destruction. As an incentive to industry to develop these countermeasures, the U.S. government recently enacted Project BioShield, legislation that provides



9



---

a mechanism for placing large advance orders for investigational products in this area, even before they are approved. A total of $6 billion has been
allocated to purchase the initial round of medical countermeasures under this legislation. In late 2004, the Department of Health and Human Services (HHS) issued a Request for Information (RFI) for therapeutics to treat ARS. The request was
specifically targeted at therapies that could protect neutrophils and platelets from the damaging effects of radiation injury when given shortly after exposure to total body irradiation. We filed a formal response to this request detailing the
potential for NEUMUNE in this indication. We believe the next step in the procurement process for countermeasures to ARS will likely be a formal Request for Proposal (RFP) process which would detail the specific requirements of any such order. There
can be no assurance when or if HHS will move to the next stage of this procurement process and whether we will be able to participate.



Project BioShield also contains provisions enabling HHS to begin purchasing new medical countermeasures for the Strategic National Stockpile in advance of
formal FDA approval. This provision, known as an Emergency Use Authorization, has already been implemented for other development stage medical countermeasures to weapons of mass destruction. In preparation for a similar potential order for NEUMUNE,
Hollis-Eden has begun manufacturing scale-up activities. A decision by the U.S. Government to enter into a commitment to purchase NEUMUNE prior to FDA approval is largely out of our control. Our development plans and timelines may vary substantially
depending on whether we receive such a commitment and the size of such commitment, if any.



IRHs in Chemotherapy Protection



As a result of our increasing knowledge of structure-activity relationships with this class of compounds, we are now profiling second-generation IRHs which we believe may be well suited for use in chemotherapy
protection in cancer patients. As with radiation injury, chemotherapy can damage the bone marrow, causing depletion of neutrophils and platelets, which can be life-threatening. Preclinical data in non-human primates with several of our immune
regulating hormones in models of chemotherapy-induced immune suppression indicate that these compounds could significantly protect both neutrophils and platelets. Assuming our profiling efforts are successful, we plan to select one of these
compounds for clinical development in chemotherapy protection. Drugs that only stimulate neutrophils in this setting currently generate sales in excess of $2.5 billion annually, although we can not guarantee that our compounds, if approved, will
generate significant sales.



PHOSPHONOL



We acquired exclusive commercialization rights to PHOSPHONOL in our recent
acquisition of CPC. Like NEUMUNE, PHOSPHONOL is being developed to protect against the effects of radiation injury. However, whereas NEUMUNE addresses the short-term effects of radiation injury, PHOSPHONOL is designed to treat the long-term effects
of radiation exposure. PHOSPHONOL appears to have the potential to stabilize the genome after radiation injury, thus reducing genetic mutations. By reducing genetic mutations, PHOSPHONOL may also reduce a variety of cancers that can occur a number
of years after radiation injury.



We believe it may be possible
to develop PHOSPHONOL pursuant to the same animal efficacy rule we are following with NEUMUNE. We have begun profiling PHOSPHONOL and other compounds in this series in a number of preclinical models designed to assess safety, efficacy and oral
bioavailability. We are also preparing to open discussions with government authorities about specific objectives that would be required for a compound for this indication.



We believe that if PHOSPHONOL can be successfully developed along with our product candidate NEUMUNE, it would give us a
compelling portfolio of products to treat the short- and long-term effects of radiation injury. We also believe that the experience and relationships we are building in both developing NEUMUNE and in attempting to secure advance stockpiling orders
for the compound may be directly transferable to PHOSPHONOL. Because PHOSPHONOL addresses exposure to low levels of radiation, we believe the market opportunity in this case may also include stockpiling for people who are exposed to



10



---

inadvertent environmental radiation as well as for use in response to acts of terrorism and nuclear accidents. As with our immune regulating hormones, we
also believe PHOSPHONOL and related compounds may potentially play an important role in protecting against damage from chemotherapy.



IMMUNITIN and Other IRHs in Infectious Disease



IMMUNITIN is a clinical-stage IRH that we have tested in clinical trials in infectious disease. While the primary market opportunities for pharmaceuticals
have traditionally been in the U.S., Europe and Japan, our immune regulating hormones have a number of attributes that make them potentially useful globally. Included in these attributes are the potential broad-spectrum activity in multiple
infectious diseases, the attractive safety profile to date, the low likelihood of resistance and the relative ease of manufacture. Increasing focus on the crisis that infectious diseases such as HIV, malaria and tuberculosis have created in the
developing world has led to a number of recent third party initiatives designed to provide funding for effective approaches to these diseases. If we are able to receive support from these initiatives for both development and commercialization,
subject to obtaining regulatory approvals, marketing IMMUNITIN and our other compounds in developing countries could become commercially attractive. In addition, as described above, similar funding initiatives and incentives have now been adopted by
the U.S. government under Project BioShield to encourage the development of new drugs to serve as countermeasures against weapons of mass destruction. While NEUMUNE is being developed to protect against radiological and nuclear weapons, we believe
IMMUNITIN and other IRHs may be useful against biological or chemical weapons. We are continuing to pursue opportunities in these areas under Project BioShield as well.



IMMUNITIN has been tested in a series of Phase I/II and Phase II clinical trials in HIV/AIDS patients in the U.S. and South
Africa. In all of these studies, IMMUNITIN treatment appeared to be generally well tolerated with mild to moderate pain at the injection site being the most common adverse event. In addition to assessing the safety profile of IMMUNITIN in the
trials, we have also assessed the effect of IMMUNITIN on a wide variety of immune and inflammatory markers that are associated with disease progression.



Results from a study employing intermittent subcutaneous dosing of IMMUNITIN in South African HIV patients receiving no other therapy demonstrated
long-lasting, statistically significant declines in a number of key inflammatory mediators, including TNF-alpha, IL-1 and IL-6 compared to placebo-treated patients.



In this study, we also observed significant increases relative to placebo-treated patients in a wide variety of immune cell
subsets associated with innate and cell-mediated immunity following dosing with IMMUNITIN. These increases appeared to be long lasting despite the fact that IMMUNITIN was only administered in intermittent treatment courses. In addition, patients
receiving IMMUNITIN in this trial experienced a fall in virus levels over the course of the study, which reached a 0.6 log drop in the most effective dose group at the end of the 8-month monitoring period.



We have also tested IMMUNITIN as a monotherapy in late-stage AIDS patients.
During this study, IMMUNITIN-treated patients experienced a statistically significant reduction in the number of opportunistic infections compared to those treated with placebo.



The ability of IMMUNITIN to reduce inflammation while stimulating innate and cell-mediated immunity seen in our HIV clinical
trials also has possible implications for a number of other infectious diseases, including parasitic infections such as malaria. As a result, we entered into a collaboration with the U.S. Navy on a preclinical program in malaria with IMMUNITIN.
Based on favorable results in multiple preclinical studies with the compound, we then proceeded with two Phase II clinical studies in malaria patients in Thailand. Results from these studies indicated that IMMUNITIN was very effective at reducing
parasite count and cleared malarial parasites in most patients within seven days when the compound was delivered either by injection or as a buccal tablet.



11



---

We have also shown in a series of preclinical studies in models of tuberculosis that IMMUNITIN is
effective when given as a monotherapy in either the acute or chronic phase of this bacterial infection. In addition, IMMUNITIN appears to have an additive effect when combined with the current three-drug regimen standard of care of antibiotic
treatment for TB in this model system.



The finding that
IMMUNITIN appears active in humans in HIV and malaria and also appears to provide benefit preclinically against TB makes it and other IRHs promising candidates against biowarfare agents. Government officials have expressed concern that if terrorists
or rogue nations were to unleash a biowarfare agent, it may well be one that has been genetically engineered to be resistant to all known antibiotics. As such, the government is interested in developing compounds that are capable of boosting host
immunity rather than attacking a specific pathogen. It is believed that such agents may provide protection against a number of different potential pathogens and would be unlikely to be affected by resistance issues.



We are profiling IMMUNITIN as well as second-generation analogs of IMMUNITIN
in additional preclinical models and believe one or more of these compounds may be useful against biowarfare agents.



IRHs in Autoimmune Disease



Given the anti-inflammatory and immune stimulating effects seen with IMMUNITIN and other IRHs in preclinical and early clinical trials, we are also
interested in exploring the potential for IRHs in autoimmune diseases. First-generation immune regulating hormones such as IMMUNITIN have been shown in preclinical and early clinical studies to provide broad-spectrum anti-inflammatory activity.
These small molecule drug candidates are structurally similar to widely used corticosteroids, but unlike corticosteroids they do not appear to cause immune suppression or bone losstwo common side effects of corticosteroids. Recently, striking
anti-inflammatory effects were seen with IRHs in in vivo models of pleurisy (a model of lung inflammation), EAE (experimental autoimmune encephalomyelitis, a model of multiple sclerosis) and LPS challenge (lipopolysaccharide, a lethal model
of endotoxic shock). In addition to these anti-inflammatory properties, IRHs were shown to improve immune function (rather than suppress it as would be expected with corticosteroids) in a popliteal lymph node assay and were also shown to counteract
cortocisteroid-induced changes responsible for bone loss in in vitro studies. Compounds profiled in one or more of these studies included first-generation IRHs as well as a series of more than 10 new second-generation IRHs that were able to
demonstrate more potent activity than the first-generation IRHs.



Hollis-Eden is continuing to profile these and other new IRHs in a number of preclinical models of autoimmunity and, if these results are successful, plans to enter one or more of these compounds into development for additional autoimmune
indications. We are also collaborating with Cystic Fibrosis Foundation Therapeutics, the non-profit drug discovery and development arm of the Cystic Fibrosis Foundation, to develop a new anti-inflammatory agent for use in Cystic Fibrosis.



Competition



Given the large market opportunities we are pursuing, most major
pharmaceutical companies and a number of biotechnology companies have programs directed toward finding drugs to treat indications we are exploring. In the field of hematopoiesis, the leading products on the market designed to enhance the production
of neutrophils in patients receiving chemotherapy treatment are Neupogen and Neulasta from Amgen. Other companies also have products either on the market or in development to enhance hematopoiesis.



In the area of immune modulators for correcting immune dysregulation, a
number of companies are targeting inhibition or enhancement of a single cytokine or other mediator. For example, Amgens Enbrel targets TNF-alpha, as does Johnson & Johnsons Remicade. Drugs such as Celebrex from Pfizer target COX-2.
While these targeted approaches have shown clinical benefit and have generated significant sales volumes, redundant mechanisms in the immune system limit their effectiveness. In addition, side effects and cost issues may limit



12



---

their global utility. In contrast, our immune regulating hormones appear to affect multiple cytokines and inflammatory mediators in a physiologic way that
may make them more attractive drug candidates than currently available therapies.



In infectious disease, most current approaches are targeted at creating pathogen-specific compounds rather than drugs that target correcting dysregulations in the immune system. As described above, while these
approaches have had success, their limitations in the areas of side effects, resistance and cost have become increasingly recognized. In addition, we believe they can be expected to have different profiles than our compounds and may therefore be
complementary to our efforts. Companies like GlaxoSmithKline, Merck and Abbott have developed drugs for treating diseases such as HIV, and many other drugs candidates are in development.



Government Regulation



General



The manufacturing and marketing of Hollis-Edens proposed products and its research and development activities are and will continue to be subject to
regulation by federal, state and local governmental authorities in the United States and other countries. In the United States, pharmaceuticals are subject to rigorous regulation by the FDA, which reviews and approves the marketing of drugs. The
Federal Food, Drug and Cosmetic Act, the regulations promulgated thereunder, and other federal and state statutes and regulations govern, among other things, the testing, manufacturing, labeling, storage, record keeping, advertising and promotion of
our potential products.



Approval Process



The process of obtaining FDA approval for a new drug may take many years and
generally involves the expenditure of substantial resources. The steps required before a new drug can be produced and marketed for human use include clinical trials and the approval of a New Drug Application.



Preclinical Testing.    The promising compound is
subjected to extensive laboratory and animal testing to determine if the compound is biologically active and safe.



Investigational New Drug (IND).    Before human tests can start, the drug sponsor must file an IND application with the FDA,
showing how the drug is made and the results of animal testing. IND status allows initiation of clinical investigation within 30 days of filing if the FDA does not respond with questions during the 30-day period.



Human Testing (Clinical).    The human clinical
testing program usually involves three phases which generally are conducted sequentially, but which, particularly in the case of anti-cancer and other life-saving drugs, may overlap or be combined. Clinical trials are conducted in accordance with
protocols that detail the objectives of the study, the parameters to be used to monitor safety and the efficacy criteria to be evaluated. Each protocol is submitted to the FDA as part of the IND filing. Each clinical study is conducted under the
auspices of an independent Institutional Review Board, or IRB, for each institution at which the study will be conducted. The IRB will consider, among other things, all existing pharmacology and toxicology information on the product, ethical
factors, the risk to human subjects and the potential benefits of therapy relative to risk.



In Phase I clinical trials, studies usually are conducted on healthy volunteers or, in the case of certain terminal illnesses such as AIDS, patients with disease that has failed to respond to other treatment, to
determine the maximum tolerated dose, side effects and pharmacokinetics of a product. Phase II studies are conducted on a small number of patients having a specific disease to determine initial efficacy in humans for that specific disease, the most
effective doses and schedules of administration, and possible adverse effects and safety risks. Phase II/III differs from Phase II in that the trials involved may include more patients and, at the sole discretion



13



---

of the FDA, be considered the pivotal trials, or trials that will form the basis for FDA approval. Phase III normally involves the pivotal trials
of a drug, consisting of wide-scale studies on patients with the same disease, in order to evaluate the overall benefits and risks of the drug for the treated disease compared with other available therapies. The FDA continually reviews the clinical
trial plans and results and may suggest design changes or may discontinue the trials at any time if significant safety or other issues arise.



As described above, for several of the product opportunities we are pursuing, we may apply for approval based upon a new rule adopted by the FDA in 2002,
titled Approval of New Drugs When Human Efficacy Studies Are Not Ethical or Feasible (Part 314, Subpart I), which is also referred to as the animal efficacy rule. Pursuant to this new rule, in situations where it would be
unethical to conduct traditional Phase II and Phase III efficacy studies in humans, as is the case with countermeasures to a number of weapons of mass destruction, the FDA will review new drugs for approval on the basis of safety in humans and
efficacy in relevant animal models.



New Drug Application
(NDA).    Upon successful completion of Phase III clinical trials, the drug sponsor files an NDA for approval containing all information that has been gathered. The NDA must include the chemical composition of the drug,
scientific rationale, purpose, animal and laboratory studies, results of human tests, formation and production details, and proposed labeling.



Post Approval.    If an NDA is approved, the drug sponsor is required to submit reports periodically to the FDA containing
adverse reactions, production, quality control and distribution records. The FDA may also require post-marketing testing to support the conclusion of efficacy and safety of the product, which can involve significant expense. After FDA approval is
obtained for initial indications, further clinical trials may be necessary to gain approval for the use of the product for additional indications.



The testing and approval process is likely to require substantial time and effort, and there can be no assurance that any FDA approval will be granted on
a timely basis, if at all. The approval process is affected by a number of factors, primarily the side effects of the drug (safety) and its therapeutic benefits (efficacy). Additional preclinical or clinical trials may be required during the FDA
review period and may delay marketing approval. The FDA may also deny an NDA if applicable regulatory criteria are not met.



Outside the United States, we will be subject to foreign regulatory requirements governing human clinical trials and marketing approval for our products.
The requirements governing the conduct of clinical trials, product licensing, pricing and reimbursements vary widely from country to country.



Manufacturing



We do not have, and do not intend to establish, manufacturing facilities to produce our product candidates or any future products. We plan to control our
capital expenditures by using contract manufacturers to make our products. We believe that there are a sufficient number of high quality FDA approved contract manufacturers available, and we have had discussions and in some cases established
relationships to fulfill our near-term production needs for both clinical and commercial use.



The manufacture of our product candidates or any future products, whether done by outside contractors as planned or internally, will be subject to rigorous regulations, including the need to comply with the FDAs
current Good Manufacturing Practice standards. As part of obtaining FDA approval for each product, each of the manufacturing facilities must be inspected, approved by and registered with the FDA. In addition to obtaining FDA approval of the
prospective manufacturers quality control and manufacturing procedures, domestic and foreign manufacturing facilities are subject to periodic inspection by the FDA and/or foreign regulatory authorities.



Patents



We currently own or have obtained a license to over 100 issued U.S. and foreign patents and over 100 pending U.S. and
foreign patent applications.



14



---

We consider the protection of our technology, whether owned or licensed, to the exclusion of use by
others, to be vital to our business. While we intend to focus primarily on patented or patentable technology, we may also rely on trade secrets, unpatented property, know-how, regulatory exclusivity, patent extensions and continuing technological
innovation to develop our competitive position. In the United States and certain foreign countries, the exclusivity period provided by patents covering pharmaceutical products may be extended by a portion of the time required to obtain regulatory
approval for a product.



In certain countries, pharmaceuticals
are not patentable or only recently have become patentable, and enforcement of intellectual property rights in many countries has been limited or non-existent. Future enforcement of patents and proprietary rights in many countries can be expected to
be problematic or unpredictable. We cannot guarantee that any patents issued or licensed to us will provide us with competitive advantages or will not be challenged by others. Furthermore, we cannot be certain that others will not independently
develop similar products or will not design around patents issued or licensed to us.



In most cases, patent applications in the United States are maintained in secrecy until 18 months after the earliest filing or priority date. Publication of discoveries in the scientific or patent literature, if made,
tends to lag behind actual discoveries by at least several months. U.S. patent applicants can elect to prevent publication until the application issues by agreeing not to file the application outside the U.S. This option is rarely used for
pharmaceutical patent applications. Consequently, we cannot be certain that a licensor of its intellectual property was the first to invent certain technology or compounds covered by pending patent applications or issued patents or that it was the
first to file patent applications for such inventions. In addition, the patent positions of biotechnology companies, including our own, are generally uncertain, partly because they involve complex legal and factual questions.



In addition to the considerations discussed above, companies that obtain
patents claiming products, uses or processes that are necessary for, or useful to, the development of our product candidates or future products could bring legal actions against us claiming infringement. Patent litigation is typically costly and
time consuming, and if such an action were brought against us, it could result in significant cost and diversion of our time. We may be required to obtain licenses to other patents or proprietary rights, and we cannot guarantee that licenses would
be made available on terms acceptable to us. If we do not obtain such licenses, we could encounter delays in product market introductions while we attempt to license technology designed around such patents or could find that the development,
manufacture or sale of products requiring such licenses is foreclosed.



Further, we cannot guarantee that patents that are issued will not be challenged, invalidated or infringed upon or designed around by others, or that the claims contained in such patents will not infringe the patent claims of others, or
provide us with significant protection against competitive products, or otherwise be commercially valuable. We may need to acquire licenses under patents belonging to others for technology potentially useful or necessary to us. If any such licenses
are required, we cannot be certain that they will be available on terms acceptable to us, if at all. To the extent that we are unable to obtain patent protection for our products or technology, our business may be materially adversely affected by
competitors who develop substantially equivalent technology.



Technology
Agreements



In December 1999, we entered into a license
agreement with Dr. Roger M. Loria. Dr. Loria exclusively licensed to us all rights to NEUMUNE and HE2200, together with all related patents and patent applications. This agreement was amended on April 9, 2002. Dr. Loria is a Professor of
Microbiology and Immunology at Virginia Commonwealth University. He is a leading expert in the field of immune regulating hormones and is a scientific consultant to Hollis-Eden.



Also during January 2000, we entered into two new technology agreements with Patrick T. Prendergast, Colthurst Ltd. and
Edenland, Inc. The first agreement, the Technology Assignment Agreement, replaced the Colthurst License Agreement dated May 18, 1994 among Hollis-Eden, Mr. Prendergast and Colthurst. This agreement assigned to us ownership of all patents, patent
applications and current or future improvements of the



15



---

technology under the Colthurst License Agreement, including IMMUNITIN. Upon signing the agreement, we issued to Colthurst 132,000 shares of common stock,
with an additional 528,000 shares and warrants to be issued over time upon the satisfaction of certain conditions. Because all of these conditions were not satisfied, we have not issued any additional shares or warrants to Colthurst, and we believe
that we have no obligation to issue any additional shares or warrants. The second agreement, the Sponsored Research and License Agreement, replaced both the Edenland License Agreement and the Research, Development and Option Agreement, each dated
August 25, 1994, among Hollis-Eden, Mr. Prendergast and Edenland. Pursuant to the Sponsored Research and License Agreement, Edenland exclusively licensed to us a number of additional compounds, together with all related patents and patent
applications.



On May 17, 2004, we received a copy of a Demand
for Arbitration from Colthurst, Edenland and Mr. Prendergast, claiming, among other things, that we breached the agreements with them when we did not issue to Colthurst the remaining 528,000 shares of our common stock and declared that the warrant
to purchase up to 400,000 shares of our common stock would not vest as to any shares, as described above.



While we cannot guarantee that, as a result of this dispute, additional equity will not be issued or that an additional accounting charge will not be
made, we are confident in our analysis that Colthurst did not satisfy the conditions required to receive the additional shares of our common stock and the shares underlying the warrant, and we believe that the claims underlying the demand for
arbitration are without merit. We intend to contest these claims vigorously, and we have filed a counterclaim in arbitration seeking damages from Colthurst, Edenland and Mr. Prendergast for numerous breaches of these agreements by them. We do not
believe that this litigation will have a material adverse effect on our company or our financial condition.



In August 2002, we entered into a Sublicense Agreement with Pharmadigm, Inc. Under the agreement, we obtained exclusive worldwide rights to certain
intellectual property of Pharmadigm and the University of Utah and we agreed to make aggregate payments of $0.9 million in cash or in shares of our common stock, at our option, over the next year. We elected to make such payments in equity and have
issued a total of 168,921 shares of our common stock in complete satisfaction of this requirement. We will also make additional milestone and royalty payments to Pharmadigm if we meet specified development and commercialization milestones for
products covered by the patents. No such mentioned milestones have been met to date. The principal patents licensed under the agreement, originally licensed to Pharmadigm from the University of Utah, relate to inventions by Dr. Raymond Daynes and
Dr. Barbara A. Areneo. Dr. Daynes served as a scientific consultant to Hollis-Eden from 1999 to mid-2003.



In February 2004, we acquired CPC and replaced CPC as the exclusive licensee to certain intellectual property rights held by the University of Chicago.
These intellectual property rights consist of a series of patents and patent applications that relate to discoveries made by David J. Grdina, Ph.D., Professor of Radiation and Cellular Oncology at the University of Chicago. The patented technology
covers a series of compounds, which are currently in the preclinical stages of development that have the potential to protect against DNA mutations that can occur as a result of radiation injury or chemotherapy. In the acquisition we issued
approximately 50,000 shares of our common stock to the former stockholders of CPC. In addition, if we achieve certain development milestones, we will be required to issue additional shares of our common stock to the former stockholders of CPC. In
the event all of the milestones are achieved, the total number of additional shares that we would be required to issue to the former stockholders of CPC is 275,000, more than half of which would be issued only upon FDA approval of CPCs
product. Furthermore, upon regulatory approval and commercialization of products covered by the licensed intellectual property, we may be required to pay royalties to the former stockholders of CPC and the University of Chicago. Following the
acquisition, Dr. Grdina agreed to an exclusive consulting arrangement with us in the fields of hematopoiesis and radiation and chemotherapy exposure.



Employees



As of March 1, 2005, we had 62 full-time, non-union employees. We believe that our relations with our employees are good.



16



---

Executive Officers and Senior Management



Our executive officers and senior management and their ages as of March 1, 2005 are as follows:



|                              |  |     |  |                                                             
|----------------------------- |  | --- |  | ------------------------------------------------------------
|Name                          |  | Age |  | Position                                                    
|Richard B. Hollis             |  | 52  |  | Chairman of the Board, President and Chief Executive Officer
|Daniel D. Burgess             |  | 43  |  | Chief Operating Officer and Chief Financial Officer         
|James M. Frincke, Ph.D.       |  | 54  |  | Chief Scientific Officer                                    
|Steven A. Gordziel, Ph.D.     |  | 58  |  | Vice President, Product Development                         
|Jessie R. Groothuis           |  | 58  |  | Vice President, Clinical Affairs                            
|Eric J. Loumeau               |  | 42  |  | Vice President, Corporate General Counsel                   
|Robert L. Marsella            |  | 52  |  | Sr.Vice President, Business Development and Marketing       
|Christopher L. Reading, Ph.D. |  | 57  |  | Executive Vice President, Scientific Development            
|Dwight R. Stickney, M.D.      |  | 62  |  | Vice President, Medical Affairs                             
|Robert W. Weber               |  | 54  |  | Chief Accounting Officer and Vice PresidentController      



Richard B.
Hollis founded Hollis-Eden in August 1994. Mr. Hollis currently serves as our Chairman, President and Chief Executive Officer. Mr. Hollis has over 25 years experience in the health care industry, has a proven track record of lanching and
marketing important new medical products, and a distinguished career of managing the growth and operations of companies in a variety of senior management positions. Prior to founding Hollis-Eden, Mr. Hollis served as Chief Operating Officer of
Bioject Medical from 1991 to 1994 and as Vice President Marketing and Sales/General Manager for Instromedix from 1989 to 1991. From 1986 to 1989, Mr. Hollis served as a general manager of the Western business unit of Genentech, Inc., a manufacturer
of biopharmaceuticals. Prior to joining Genentech, Mr. Hollis served as a divisional manager of Imed Corporation, Inc., a manufacturer of drug delivery systems. Mr. Hollis began his career in the health care industry with Baxter Travenol. Mr. Hollis
received his B.A. in Psychology from San Francisco State University.



Daniel D. Burgess became Chief Operating Officer and Chief Financial Officer of Hollis-Eden Pharmaceuticals, Inc. in August 1999. Mr. Burgess joined Hollis-Eden from Nanogen Inc., where he served as Vice President and Chief
Financial Officer. Prior to joining Nanogen in 1998, Mr. Burgess spent ten years with Gensia Sicor, Inc. (acquired by Teva Pharmaceutical Industries Limited) and Gensia Automedics, Inc., a partially owned subsidiary of Gensia Sicor. He served as
President and a director of Gensia Automedics, where he was responsible for all functional areas of this medical products company. In addition, he was Vice President and Chief Financial Officer of Gensia Sicor, where he was responsible for finance,
investor relations, business development and other administrative functions. Prior to joining Gensia, Mr. Burgess held positions at Castle & Cooke, Inc. and Smith Barney, Harris Upham and Company. He received a degree in Economics from Stanford
University and an MBA from Harvard Business School. Mr. Burgess is a member of the Board of Directors of Santarus, Inc. and Metabasis Therapeutics, Inc.



James M. Frincke, Ph.D. joined Hollis-Eden as Vice President, Research and Development in November 1997, was promoted to Executive Vice
President in March 1999, and to Chief Scientific Officer in December 2001. Dr. Frincke joined Hollis-Eden from Prolinx, Inc., where he served as Vice President, Therapeutics Research and Development from 1995 to 1997. During his 20 years in the
biotechnology industry, Dr. Frincke has managed major development programs including drugs, biologicals, and cellular and gene therapy products aimed at the treatment of cancer, infectious diseases and organ transplantation. Since joining the
biotechnology industry, Dr. Frincke has held vice president, research and development positions in top tier biotechnology companies including Hybritech/Eli Lilly and SyStemix Inc. (acquired by Novartis). In various capacities, he has been
responsible for all aspects of pharmaceutical development including early stage research programs, product evaluation, pharmacology, manufacturing, and the management of regulatory and clinical matters for lead product opportunities. Dr. Frincke has
authored or co-authored more than 100 scientific articles, abstracts and regulatory filings. Dr. Frincke received his B.S. in Chemistry and his Ph.D. in Chemistry from the University of California, Davis. Dr. Frincke completed his postdoctoral work
at the University of California, San Diego.



17



---

Steven A. Gordziel, Ph.D., joined Hollis-Eden in 2004 as Vice President, Product
Development. His 30-year career in the pharmaceutical industry has encompassed the full spectrum of product development and manufacturing disciplines with a wide range of compounds, product formulations and manufacturing processes. Prior to joining
Hollis-Eden, Dr. Gordziel was Vice President of Pharmaceutical Development at Penwest Pharmaceutical Company. At Penwest, he managed a team of 30 members responsible for formulation development, analytical development and validation, stability
evaluation, scale up and process development and preparation of clinical supplies for regulatory filings and clinical studies. Previously, Dr. Gordziel was Vice President, Development Research, for the Wallace Pharmaceuticals Division of Carter
Wallace, Inc. With Carter Wallace for more than 20 years, Dr. Gordziel had the opportunity to build the companys product development capabilities and assume increasing management responsibility in all aspects of product development. During
this time Dr. Gordziel was heavily involved in numerous Investigational New Drug (IND) and New Drug Application (NDA) submissions. Dr. Gordziel began his career at Ortho Pharmaceuticals and Wyeth Laboratories as a formulations scientist. He earned a
B.S. in Pharmacy from the Philadelphia College of Pharmacy, and his Ph.D. in Pharmaceutical Chemistry from the University of Connecticut, Storrs.



Jessie R. Groothuis M.D.,joined Hollis-Eden in 2004 as Vice President, Clinical Affairs. Before joining Hollis-Eden, Dr. Groothuis was
Global Medical Director, Immunoscience Development at Abbott Laboratories, where she managed the global clinical trials and strategy for her division. Most recently at Abbott, Dr. Groothuis managed a 20-member team, oversaw large multi-site global
clinical trials, and was responsible for the registration and launch of Synagis, a monoclonal antibody, in a number of international markets. Throughout her seven-year tenure with Abbott, she managed all phases of development for multiple drug
candidates, and was lead investigator for four separate drugs in Abbotts pipeline. Prior to Abbott, Dr. Groothuis was Director of the Neonatal High Risk Follow Up Clinic and Professor of Pediatrics at the University of Colorado School
of Medicine and The Childrens Hospital, Department of Pediatrics. In this position she was lead clinical investigator on a number of large clinical trials in the area of immunology. Dr. Groothuis is board certified by the American Board of
Pediatrics and the National Board of Medical Examiners. She received her B.S. from Stanford University, her M.D. from the University of Chicago and post-doctoral training at Vanderbilt University.



Eric J. Loumeaubecame Vice President, Corporate General
Counsel in September 1999. Mr. Loumeau joined Hollis-Eden from the law firm of Cooley Godward LLP, where he had primary responsibility for Hollis-Edens account for the previous four years. As a partner at Cooley Godward, Mr. Loumeau
represented a number of private and public companies in corporate and securities law matters. He joined the firm in 1995 from Skadden, Arps, Slate, Meagher and Flom, where he was an associate for four years. Mr. Loumeau attended Harvard Law School
and the University of California, Berkeley, Boalt Hall School of Law, where he received a J.D. degree. He holds a B.S. degree in Business Administration with an emphasis in finance from Brigham Young University.



Robert L. Marsella became Vice President of Business
Development and Marketing of Hollis-Eden in September 1997, and was promoted to Senior Vice President of Business Development and Marketing in December 2004. Mr. Marsella has more than 24 years of medical sales, marketing, and distribution
experience. Prior to joining Hollis-Eden, Mr. Marsella acted as a distributor of various cardiac related hospital products for a number of years. In addition, he has also served as Regional Manager for Genentech and launched ActivaseTM, t-pa (a biopharmaceutical drug) in the Western United States. Prior to joining Genentech, Mr. Marsella marketed intravenous
infusion pumps for Imed Corporation for four years. Mr. Marsella began his career as a field sales representative and soon after was promoted to regional sales manager for U.S. Surgical Corporation, Auto Suture division. Mr. Marsella received his
B.A. degree from San Diego State University.



Christopher
L. Reading, Ph.D.became Vice President of Scientific Development in January 1999 and was promoted to Executive Vice President, Scientific Development in March 2002. Prior to joining Hollis-Eden, Dr. Reading was Vice President of Product and
Process Development at Novartis Inc.-owned SyStemix Inc. During this time, he successfully filed three investigational new drug applications (INDs) in the areas of stem cell therapy technology and stem cell gene therapy for HIV/AIDS. Prior to
joining SyStemix, Dr. Reading served on the faculty of the M.D. Anderson Cancer Center in Houston for nearly 13 years. His positions there included



18



---

Associate and Assistant Professor of Medicine in the Departments of Hematology and Tumor Biology. During his career, Dr. Reading has given more than 25
national and international scientific presentations, published more than 50 peer-reviewed journal articles and 15 invited journal articles as well as written nearly 20 book chapters, and received numerous grants and contracts which supported his
research activities. Dr. Reading has served on the National Science Foundation Advisory Committee for Small Business Innovative Research Grants (SBIR) as well as on the editorial boards of Journal of Biological Response Modifiers and
Molecular Biotherapy. He holds a number of patents for his work with monoclonal antibodies and devices. Dr. Reading received his Ph.D. in Biochemistry at the University of California at Berkeley and completed postdoctoral study in tumor
biology at The University of California at Irvine. He earned his B.A. in biology at the University of California at San Diego.



Dwight R. Stickney, M.D. was appointed Vice President, Medical Affairs in March 2003. He joined Hollis-Eden as Medical Director, Oncology in
May 2000. Dr. Stickney joined Hollis-Eden from the Radiation Oncology Division of Radiological Associates of Sacramento Medical Group, Inc., in Sacramento, California, where he served as an oncologist since 1993. While at Radiological Associates, he
served as Chairman of the Radiation Oncology Division from 1997 to 1999 and was a member of the Radiation Study section of the National Institute of Healths Division of Research Grants from 1993 to 1997. He also served as the Director of
Radiation Research for Scripps Clinic and Research Foundation in La Jolla, California. Dr. Stickney has taught in medical academia as Associate Professor of Radiation Medicine at Loma Linda University School of Medicine and has served as Director of
the International Order of Forresters Cancer Research Laboratory and on the Board of Directors of the California Division of the American Cancer Society. Earlier in his career, Dr. Stickney held positions with Burroughs Wellcome and the Centers for
Disease Control, and academic teaching appointments at The University of California at Los Angeles and The University of California at Riverside. He has also served as a consultant for a number of biotechnology companies on the design and conduct of
clinical trials. Dr. Stickney holds a Bachelor of Science in Microbiology, a Masters of Science in Immunology, and a M.D. from Ohio State University. In addition, he is certified as a Diplomat of the American Board of Internal Medicine and
Hematology and a Diplomat of the American Board of Radiology, Therapeutic Radiology.



Robert W. Weber joined Hollis-Eden in March 1996 and currently serves as Chief Accounting Officer and Vice President-Controller. Mr. Weber has over twenty-five years of experience in financial
management. Mr. Weber has been employed at executive levels by multiple start-up companies and contributed to the success of several turnaround situations. He previously served as Vice President of Finance at Prometheus Products, a subsidiary of
Sierra Semiconductor (now PMC Sierra), from 1994 to 1996, and Vice President Finance and Chief Financial Officer for Amercom, a personal computer telecommunications software publishing company, from 1993 to 1994. From February 1988 to August 1993,
Mr. Weber served as Vice President Finance and Chief Financial Officer of Instromedix, a company that develops and markets medical devices and software. Mr. Weber brings a broad and expert knowledge of many aspects of financial management. In
various capacities, he has been responsible for all aspects of finance and accounting including cost accounting, cash management, SEC filings, investor relations, private and venture financing, corporate legal matters, acquisitions/divestitures as
well as information services and computer automation. Mr. Weber received a B.S. from GMI Institute of Technology (now Kettering University) and a MBA from the Stanford Graduate School of Business.



Risk Factors



In evaluating our business, you should consider the following discussion of risks, in addition to other information
contained in this report as well as our other public filings with the Securities and Exchange Commission. Any of the following risks could materially adversely affect our business, financial condition, results of operations and prospects.



If we do not obtain government regulatory approval for our products,
we cannot sell our products and we will not generate revenues.



Our principal development efforts are currently centered around immune regulating hormones, a class of drug candidates which we believe shows promise for the treatment of diseases and disorders in which the body is



19



---

unable to mount an appropriate immune response. However, all drug candidates require U.S. FDA and foreign government approvals before they can be
commercialized. These regulations change from time to time and new regulations may be adopted. None of our drug candidates have been approved for commercial sale. We may incur significant additional operating losses over the next several years as we
fund development, clinical testing and other expenses while seeking regulatory approval. While limited clinical trials of our drug candidates have been conducted to date, significant additional trials are required, and we may not be able to
demonstrate that these drug candidates are safe or effective. If we are unable to demonstrate the safety and effectiveness of a particular drug candidate to the satisfaction of regulatory authorities, the drug candidate will not obtain required
government approval. If we do not receive FDA or foreign approvals for our products, we will not be able to sell our products and will not generate revenues. If we receive regulatory approval of a product, such approval may impose limitations on the
indicated uses for which we may market the product, which may limit our ability to generate significant revenues.



If we do not successfully commercialize our products, we may never achieve profitability.



We have experienced significant operating losses to date because of the substantial expenses we have incurred to acquire and
fund development of our drug candidates. We have never had operating revenues and have never commercially introduced a product. Our accumulated deficit was approximately $131.9 million as of December 31, 2004. Our net losses for fiscal years 2004,
2003 and 2002 were $24.8 million, $25.7 million and $17.5 million, respectively. Many of our research and development programs are at an early stage. Potential drug candidates are subject to inherent risks of failure. These risks include the
possibilities that no drug candidate will be found safe or effective, meet applicable regulatory standards or receive the necessary regulatory clearances. Even safe and effective drug candidates may never be developed into commercially successful
drugs. If we are unable to develop safe, commercially viable drugs, we may never achieve profitability. If we become profitable, we may not remain profitable.



The market for treating Acute Radiation Syndrome is uncertain.



We do not believe any drug has ever been approved and commercialized for the treatment of severe acute radiation injury. In addition, the incidence of
large-scale exposure to nuclear or radiological events has been low. Accordingly, even if NEUMUNE, our lead drug candidate to treat Acute Radiation Syndrome (ARS), is approved by the FDA, we cannot predict with any certainty the size of this market.
The potential market for NEUMUNE is largely dependent on the size of stockpiling orders, if any, procured by the U.S. and foreign governments. While a number of governments have historically stockpiled drugs to treat indications such as smallpox,
anthrax exposure, plague, tularemia and certain long-term effects of radiation exposure, we are unaware of any significant stockpiling orders for drugs to treat ARS. While we have filed a formal response to the U.S. Department of Health and Human
Services Request for Information (RFI) for therapeutics to treat ARS, at least one other company has responded to this RFI, and we cannot guarantee that our response to this RFI will result in a U.S. Department of Health and Human Services Request
for Proposal (RFP) or any stockpiling orders. A decision by the U.S. Government to enter into a commitment to purchase NEUMUNE prior to FDA approval is largely out of our control. Our development plans and timelines may vary substantially depending
on whether we receive such a commitment and the size of such commitment, if any. In addition, even if NEUMUNE is approved by regulatory authorities, we cannot guarantee that we will receive any stockpiling orders for NEUMUNE, that any such order
would be profitable to us or that NEUMUNE will achieve market acceptance by the general public.



As a result of our intensely competitive industry, we may not gain enough market share to be profitable.



The biotechnology and pharmaceutical industries are intensely competitive. We have numerous competitors in the United States and elsewhere. Because we are
pursuing potentially large markets, our competitors include major multinational pharmaceutical companies, specialized biotechnology firms and universities and other research institutions. Several of these entities have already successfully marketed
and commercialized products



20



---

that will compete with our products, assuming that our products gain regulatory approval. Companies such as Amgen Inc. have developed or are developing
products to boost neutrophils after chemotherapy. A large number of companies, including Merck & Company, Pfizer Inc., Johnson & Johnson Inc. and Amgen Inc. are also developing and marketing new drugs for the treatment of chronic
inflammatory conditions. Companies such as GlaxoSmithKline, Merck & Company, Roche Pharmaceuticals, Pfizer Inc. and Abbott Laboratories have significant market share for the treatment of a number of infectious diseases such as HIV. In addition,
biotechnology companies such as Gilead Sciences Inc., Chiron Corporation and Vertex Pharmaceuticals Inc., as well as many others, have research and development programs in these fields.



Many of these competitors have greater financial and other resources, larger research and development staffs and more
effective marketing and manufacturing organizations than we do. In addition, academic and government institutions have become increasingly aware of the commercial value of their research findings. These institutions are now more likely to enter into
exclusive licensing agreements with commercial enterprises, including our competitors, to develop and market commercial products.



Our competitors may succeed in developing or licensing technologies and drugs that are more effective or less costly than any we are developing. Our
competitors may succeed in obtaining FDA or other regulatory approvals for drug candidates before we do. If competing drug candidates prove to be more effective or less costly than our drug candidates, our drug candidates, even if approved for sale,
may not be able to compete successfully with our competitors existing products or new products under development. If we are unable to compete successfully, we may never be able to sell enough products at a price sufficient to permit us to
generate profits.



We may need to raise additional money before we
achieve profitability; if we fail to raise additional money, it could be difficult to continue our business.



As of December 31, 2004, our cash and cash equivalents totaled approximately $62.0 million. Based on our current plans, we believe these financial
resources, and interest earned thereon, will be sufficient to meet our operating expenses and capital requirements for at least the next 12 months. However, changes in our research and development plans or other events affecting our operating
expenses may result in the expenditure of such cash before that time. We may require substantial additional funds in order to finance our drug discovery and development programs, fund operating expenses, pursue regulatory clearances, develop
manufacturing, marketing and sales capabilities, and prosecute and defend our intellectual property rights. We may seek additional funding through public or private financing or through collaborative arrangements with strategic partners.



You should be aware that in the future:



| |  |  | we may not obtain additional financial resources when necessary or on terms favorable to us, if at all; and
| | - |  | -----------------------------------------------------------------------------------------------------------



| |  |  | any available additional financing may not be adequate.
| | - |  | -------------------------------------------------------



If we cannot raise additional funds when needed, or on acceptable terms, we will not be able to continue to develop our drug candidates.



Failure to protect our proprietary technology could impair our competitive position.



We own or have obtained a license to over 100 issued
U.S. and foreign patents and over 100 pending U.S. and foreign patent applications. Our success will depend in part on our ability to obtain additional United States and foreign patent protection for our drug candidates and processes, preserve our
trade secrets and operate without infringing the proprietary rights of third parties. We place considerable importance on obtaining patent protection for significant new technologies, products and processes. Legal standards relating to the validity
of



21



---

patents covering pharmaceutical and biotechnology inventions and the scope of claims made under such patents are still developing. In some of the countries
in which we intend to market our products, pharmaceuticals are either not patentable or have only recently become patentable. Past enforcement of intellectual property rights in many of these countries has been limited or non-existent. Future
enforcement of patents and proprietary rights in many other countries may be problematic or unpredictable. Moreover, the issuance of a patent in one country does not assure the issuance of a similar patent in another country. Claim interpretation
and infringement laws vary by nation, so the extent of any patent protection is uncertain and may vary in different jurisdictions. Our domestic patent position is also highly uncertain and involves complex legal and factual questions. The applicant
or inventors of subject matter covered by patent applications or patents owned by or licensed to us may not have been the first to invent or the first to file patent applications for such inventions. Due to uncertainties regarding patent law and the
circumstances surrounding our patent applications, the pending or future patent applications we own or have licensed may not result in the issuance of any patents. Existing or future patents owned by or licensed to us may be challenged, infringed
upon, invalidated, found to be unenforceable or circumvented by others. Further, any rights we may have under any issued patents may not provide us with sufficient protection against competitive products or otherwise cover commercially valuable
products or processes.



Litigation or other disputes regarding patents
and other proprietary rights may be expensive, cause delays in bringing products to market and harm our ability to operate.



The manufacture, use or sale of our drug candidates may infringe on the patent rights of others. If we are unable to avoid infringement of the patent
rights of others, we may be required to seek a license, defend an infringement action or challenge the validity of the patents in court. Patent litigation is costly and time consuming. We may not have sufficient resources to bring these actions to a
successful conclusion. In addition, if we do not obtain a license, develop or obtain non-infringing technology, or fail to successfully defend an infringement action or have the patents we are alleged to infringe declared invalid, we may



| |  |  | incur substantial money damages;
| | - |  | --------------------------------



| |  |  | encounter significant delays in bringing our drug candidates to market;
| | - |  | -----------------------------------------------------------------------



| |  |  | be precluded from participating in the manufacture, use or sale of our drug candidates or methods of treatment without first obtaining licenses to do so; and/or
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | not be able to obtain any required license on favorable terms, if at all.
| | - |  | -------------------------------------------------------------------------



In addition, if another party claims the same subject matter or subject matter overlapping with the subject matter that we have claimed in a United States
patent application or patent, we may decide or be required to participate in interference proceedings in the United States Patent and Trademark Office in order to determine the priority of invention. Loss of such an interference proceeding would
deprive us of patent protection sought or previously obtained and could prevent us from commercializing our products. Participation in such proceedings could result in substantial costs, whether or not the eventual outcome is favorable. These
additional costs could adversely affect our financial results.



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



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



22



---

Existing pricing regulations and reimbursement limitations may reduce our potential profits from the sale of our
products.



The requirements governing product
licensing, pricing and reimbursement vary widely from country to country. Some countries require approval of the sale price of a drug before it can be marketed. In many countries, the pricing review period begins after product-licensing approval is
granted. As a result, we may obtain regulatory approval for a drug candidate in a particular country, but then be subject to price regulations that reduce our profits from the sale of the product. In some foreign markets pricing of prescription
pharmaceuticals is subject to continuing government control even after initial marketing approval. In addition, certain governments may grant third parties a license to manufacture our product without our permission. Such compulsory licenses may be
on terms that are less favorable to us and would likely have the effect of reducing our revenues.



Varying price regulation between countries can lead to inconsistent prices and some re-selling by third parties of products from markets where products
are sold at lower prices to markets where those products are sold at higher prices. Any practice of exploiting price differences between countries could undermine our sales in markets with higher prices and reduce the sales of our future products,
if any.



While we do not have any applications for regulatory
approval of our products currently pending, any decline in the size of the markets in which we may in the future sell commercial products could cause the perceived market value of our business and the price of our common stock to decline.



Our ability to commercialize our products successfully also
will depend in part on the extent to which reimbursement for the cost of our products and related treatments will be available from government health administration authorities, private health insurers and other organizations. Third-party payors are
increasingly challenging the prices charged for medical products and services. If we succeed in bringing any of our potential products to the market, such products may not be considered cost effective and reimbursement may not be available or
sufficient to allow us to sell such products on a profitable or competitive basis.



Delays in the conduct or completion of our preclinical or clinical studies or the analysis of the data from our preclinical or clinical studies may result in delays in our planned filings for regulatory approvals, or adversely affect
our ability to enter into collaborative arrangements.



The current status of our drug candidates is set forth below. We have either completed or are in the midst of:



| |  |  | animal efficacy studies with NEUMUNE in the United States for the treatment of radiation exposure and chemotherapy protection;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------



| |  |  | Phase II clinical trials with IMMUNITIN in South Africa and Phase I/II clinical trials with IMMUNITIN in the United States for the treatment of HIV/AIDS;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Phase II clinical trials with IMMUNITIN in Thailand for the treatment of malaria;
| | - |  | ---------------------------------------------------------------------------------



We may encounter problems with some or all of our completed or ongoing studies that may cause us or regulatory authorities
to delay or suspend our ongoing studies or delay the analysis of data from our completed or ongoing studies. We rely, in part, on third parties to assist us in managing and monitoring our preclinical and clinical studies. We generally do not have
control over the amount and timing of resources that our business partners devote to our drug candidates. Our reliance on these third parties may result in delays in completing or failure to complete studies if third parties fail to perform their
obligations to us. If the results of our ongoing and planned studies for our drug candidates are not available when we expect or if we encounter any delay in the analysis of the results of our studies for our drug candidates:



| |  |  | we may not have the financial resources to continue research and development of any of our drug candidates; and
| | - |  | ---------------------------------------------------------------------------------------------------------------



| |  |  | we may not be able to enter into collaborative arrangements relating to any drug candidate subject to delay in regulatory filing.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------



23



---

Any of the following reasons, among others, could delay or suspend the completion of our ongoing and
future studies:



| |  |  | delays in enrolling volunteers;
| | - |  | -------------------------------



| |  |  | interruptions in the manufacturing of our drug candidates or other delays in the delivery of materials required for the conduct of our studies;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | lower than anticipated retention rate of volunteers in a trial;
| | - |  | ---------------------------------------------------------------



| |  |  | unfavorable efficacy results;
| | - |  | -----------------------------



| |  |  | serious side effects experienced by study participants relating to the drug candidate;
| | - |  | --------------------------------------------------------------------------------------



| |  |  | new communications from regulatory agencies about how to conduct these studies; or
| | - |  | ----------------------------------------------------------------------------------



| |  |  | failure to raise additional funds.
| | - |  | ----------------------------------



If the manufacturers of our products do not comply with current Good Manufacturing Practices regulations, or cannot produce the amount of products we need to
continue our development, we will fall behind on our business objectives.



Manufacturers producing our drug candidates must follow current Good Manufacturing Practices regulations enforced by the FDA and foreign equivalents. If a manufacturer of our drug candidates does not conform to the
Good Manufacturing Practices regulations and cannot be brought up to such a standard, we will be required to find alternative manufacturers that do conform. This may be a long and difficult process, and may delay our ability to receive FDA or
foreign regulatory approval of our products.



We also rely on
our manufacturers to supply us with a sufficient quantity of our drug candidates to conduct clinical trials. If we have difficulty in the future obtaining our required quantity and quality of supply, we could experience significant delays in our
development programs and regulatory process.



Our ability to achieve any
significant revenue may depend on our ability to establish effective sales and marketing capabilities.



Our efforts to date have focused on the development and evaluation of our drug candidates. As we continue clinical studies and prepare for
commercialization of our drug candidates, we may need to build a sales and marketing infrastructure. As a company, we have no experience in the sales and marketing of pharmaceutical products. If we fail to establish a sufficient marketing and sales
force or to make alternative arrangements to have our products marketed and sold by others on attractive terms, it will impair our ability to commercialize our drug candidates and to enter new or existing markets. Our inability to effectively enter
these markets would materially and adversely affect our ability to generate significant revenues.



If we were to lose the services of Richard B. Hollis, or fail to attract or retain qualified personnel in the future, our business objectives would be more difficult to implement, adversely affecting our
operations.



Our ability to successfully implement our
business strategy depends highly upon our Chief Executive Officer, Richard B. Hollis. The loss of Mr. Hollis services could impede the achievement of our objectives. We also highly depend on our ability to hire and retain qualified scientific
and technical personnel. The competition for these employees is intense. Thus, we may not be able to continue to hire and retain the qualified personnel needed for our business. Loss of the services of or the failure to recruit key scientific and
technical personnel could adversely affect our business, operating results and financial condition.



We may face product liability claims related to the use or misuse of our products, which may cause us to incur significant losses.



We are currently exposed to the risk of product liability claims due to administration of our drug candidates in clinical
trials, since the use or misuse of our drug candidates during a clinical trial could potentially result in injury or death. If we are able to commercialize our products, we will also be subject to the risk of losses in the



24



---

future due to product liability claims in the event that the use or misuse of our commercial products results in injury or death. We currently maintain
liability insurance on a claims-made basis in an aggregate amount of $5 million. Because we cannot predict the magnitude or the number of claims that may be brought against us in the future, we do not know whether the insurance policies
coverage limits are adequate. The insurance is expensive, difficult to obtain and may not be available in the future on acceptable terms, or at all. Any claims against us, regardless of their merit, could substantially increase our costs and cause
us to incur significant losses.



Trading in our securities could be
subject to extreme price fluctuations that could adversely affect your investment.



The market prices for securities of life sciences companies, particularly those that are not profitable, have been highly volatile, especially recently. Publicized events and announcements may have a significant
impact on the market price of our common stock. For example:



| |  |  | biological or medical discoveries by competitors;
| | - |  | -------------------------------------------------



| |  |  | public concern about the safety of our drug candidates;
| | - |  | -------------------------------------------------------



| |  |  | delays in the conduct or analysis of our preclinical or clinical studies;
| | - |  | -------------------------------------------------------------------------



| |  |  | unfavorable results from preclinical or clinical studies;
| | - |  | ---------------------------------------------------------



| |  |  | unfavorable developments concerning patents or other proprietary rights; or
| | - |  | ---------------------------------------------------------------------------



| |  |  | unfavorable domestic or foreign regulatory developments;
| | - |  | --------------------------------------------------------



may have the effect of temporarily or permanently driving down the price of our common stock. In addition, the stock market from time to time experiences extreme price
and volume fluctuations which particularly affect the market prices for emerging and life sciences companies, such as ours, and which are often unrelated to the operating performance of the affected companies. For example, our stock price has ranged
from $6.51 to $16.50 between January 1, 2004 and March 1, 2005.



These broad market fluctuations may adversely affect the ability of a stockholder to dispose of his shares at a price equal to or above the price at which the shares were purchased. In addition, in the past, following periods of volatility
in the market price of a companys securities, securities class-action litigation has often been instituted against that company. Any litigation against our company, including this type of litigation, could result in substantial costs and a
diversion of managements attention and resources, which could materially adversely affect our business, financial condition and results of operations.



We may be delisted from The Nasdaq National Market, which could materially limit the trading market for our common stock.



Our common stock is quoted on The Nasdaq National Market. In order to
continue to be included in The Nasdaq National Market, a company must meet Nasdaqs maintenance criteria. We may not be able to continue to meet these listing criteria. Failure to meet Nasdaqs maintenance criteria may result in the
delisting of our common stock from The Nasdaq National Market. If our common stock is delisted, in order to have our common stock relisted on The Nasdaq National Market we would be required to meet the criteria for initial listing, which are more
stringent than the maintenance criteria. Accordingly, if we were delisted we may not be able to have our common stock relisted on The Nasdaq National Market. If our common stock is removed from listing on The Nasdaq National Market, it may become
more difficult for us to raise funds through the sale of our common stock or securities convertible into our common stock.



Because stock ownership is concentrated, you and other investors will have minimal influence on stockholders decisions.



Assuming that outstanding warrants and options have not been exercised,
Richard B. Hollis, our Chief Executive Officer, owns approximately 12% of our outstanding common stock as of December 31, 2004. Assuming that Mr. Hollis exercises all of his outstanding warrants and options that vest within 60 days of



25



---

December 31, 2004, Mr. Hollis would beneficially own approximately 15% of our outstanding common stock. As a result, Mr. Hollis may be able to significantly
influence the management of Hollis-Eden and all matters requiring stockholder approval, including the election of directors. Such concentration of ownership may also have the effect of delaying or preventing a change in control of Hollis-Eden.



Substantial sales of our stock may impact the market price of our common
stock.



Future sales of substantial amounts of our
common stock, including shares that we may issue upon exercise of options and warrants, could adversely affect the market price of our common stock. Further, if we raise additional funds through the issuance of common stock or securities convertible
into or exercisable for common stock, the percentage ownership of our stockholders will be reduced and the price of our common stock may fall.



Issuing preferred stock with rights senior to those of our common stock could adversely affect holders of common stock.



Our charter documents give our board of directors the authority to issue
series of preferred stock without a vote or action by our stockholders. The board also has the authority to determine the terms of preferred stock, including price, preferences and voting rights. The rights granted to holders of preferred stock may
adversely affect the rights of holders of our common stock. For example, a series of preferred stock may be granted the right to receive a liquidation preference  a pre-set distribution in the event of a liquidation  that would reduce
the amount available for distribution to holders of common stock. In addition, the issuance of preferred stock could make it more difficult for a third party to acquire a majority of our outstanding voting stock. As a result, common stockholders
could be prevented from participating in transactions that would offer an optimal price for their shares.



|Item 2. | Properties
|------- | ----------



Our corporate headquarters are currently located at 4435 Eastgate Mall, Suite 400, San Diego, CA 92121, where we have leased approximately 22,000 square
feet of office space through December 2007. In addition, we have leased, in San Diego, CA., 7,876 square feet of laboratory and office space through November 2005. We believe that our facilities are adequate for our current operations and we have
lease extension options.



|Item 3. | Legal Proceedings
|------- | -----------------



From time to time, we may be involved in litigation relating to claims arising out of our operations in the normal course of business. As of the date of
this Annual Report on Form 10-K, we are not engaged in any legal proceedings that are expected, individually or in the aggregate, to have a material adverse effect on our business, financial condition or operating results.



|Item 4. | Submission of Matters to a Vote of Security Holders
|------- | ---------------------------------------------------



No matters were submitted to a vote of security holders during the fourth quarter of 2004.



26



---

PART II



|Item 5. | Market for Registrants Common Stock and Related Stockholder Matters
|------- | --------------------------------------------------------------------



Our common stock is traded on the Nasdaq National Market System under the symbol HEPH.



The following table sets forth the quarterly high and low bid quotations
and/or selling prices for our common stock from January 1, 2003 through March 1, 2005.



|             |  |                     |  |     |       |  |   |      
|------------ |  | ------------------- |  | --- | ----- |  | - | -----
|Common Stock |  | High                |  | Low
|2003         |  |                     |  |     |       |  |   |      
|             |  | First Quarter       |  | $   | 6.70  |  | $ | 5.00 
|             |  | Second Quarter      |  |     | 17.50 |  |   | 5.78 
|             |  | Third Quarter       |  |     | 36.25 |  |   | 12.22
|             |  | Fourth Quarter      |  |     | 22.30 |  |   | 9.41 
|2004         |  |                     |  |     |       |  |   |      
|             |  | First Quarter       |  | $   | 16.50 |  | $ | 8.46 
|             |  | Second Quarter      |  |     | 13.27 |  |   | 6.51 
|             |  | Third Quarter       |  |     | 14.40 |  |   | 7.87 
|             |  | Fourth Quarter      |  |     | 12.20 |  |   | 8.50 
|2005         |  |                     |  |     |       |  |   |      
|             |  | January 1  March 1 |  | $   | 9.62  |  | $ | 7.25 



On March 1, 2005, the
closing price of our common stock as reported by the Nasdaq National Market System was $7.36 per share. There were approximately 7,000 shareholders of record and beneficial stockholders of our common stock as of such date. We have not paid cash
dividends on our common stock and do not intend to do so in the foreseeable future.



The following table provides information as of December 31, 2004 with respect to all of our compensation plans under which we are authorized to issue equity securities of the company.



Equity Compensation Plan Information



|                                                                        |  |                                                                                          |  |                                                                          |      |                                                                                                                                    |        
|----------------------------------------------------------------------- |  | ---------------------------------------------------------------------------------------- |  | ------------------------------------------------------------------------ | ---- | ---------------------------------------------------------------------------------------------------------------------------------- | -------
|Plan Category                                                           |  | Number of securities to beissued upon exercise ofoutstanding options,warrants and rights |  | Weighted-averageexercise price ofoutstanding options,warrants and rights |      | Number of securitiesremaining available forfuture issuance
underequity compensation plans(excluding securities in thefirst column)
|Stock option equity compensation plans approved by security holders     |  | 4,306,650                                                                                |  | $                                                                        | 9.50 |                                                                                                                                    | 752,665
|Stock option equity compensation plans not approved by security holders |  | 1,920,000                                                                                |  | $                                                                        | 7.04 |                                                                                                                                    |       
|Warrant equity compensation plans not approved by security holders      |  | 956,386                                                                                  |  | $                                                                        | 9.96 |                                                                                                                                    |       
|                                                                        |  |                                                                                          |  |                                                                          |      |                                                                                                                                    |        
|Total                                                                   |  | 7,183,036                                                                                |  |                                                                          |      |                                                                                                                                    | 752,665
|                                                                        |  |                                                                                          |  |                                                                          |      |                                                                                                                                    |        



The material features
of each compensation plan or arrangement adopted without the approval of securities holders is included in Note 9 (Stock OptionsNon-Plan Options) and Note 10 (Common Stock Purchase Warrants) in our Notes To Financial
Statements.



Unregistered Sales of Equity Securities and Use of Proceeds



There were no sales of unregistered equity securities in
the fourth quarter 2004.



We made no repurchases of our
securities during the year ended December 31, 2004.



27



---

|Item 6. | Selected Financial Data
|------- | -----------------------



The following data summarizes certain selected financial data for each of the five years ended December 31, 2004 through 2000 and the period from
inception (August 15, 1994) to December 31, 2004. The information presented should be read in conjunction with the financial statements and related notes included elsewhere in this report (in thousands, except per share amounts).



|                                                                        |  |      |         |   |      |   |         |      |  |   |         |   |  |      |         |   |                                                         |   |         |     |  |   |          |  
|----------------------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | - |  | ---- | ------- | - | ------------------------------------------------------- | - | ------- | --- |  | - | -------- | -
|                                                                        |  | 2004 |         |   | 2003 |   |         | 2002 |  |   | 2001    |   |  | 2000 |         |   | Period fromInception(Aug. 15, 1994) toDecember 31, 2004 |  
|Statement of Operations Data:                                           |  |      |         |   |      |   |         |      |  |   |         |   |  |      |         |   |                                                         |   |         |     |  |   |          |  
|Contract revenues                                                       |  | $    | 63      |   |      | $ |        |      |  | $ |        |   |  | $    |        |   |                                                         | $ |        |     |  | $ | 63       |  
|Research and development                                                |  |      | 18,918  |   |      |   | 10,764  |      |  |   | 13,083  |   |  |      | 11,870  |   |                                                         |   | 17,933  | (3) |  |   | 86,405   |  
|General and administrative                                              |  |      | 6,786   |   |      |   | 7,327   | (1)  |  |   | 4,787   |   |  |      | 5,091   |   |                                                         |   | 4,157   |     |  |   | 46,468   |  
|                                                                        |  |      |         |   |      |   |         |      |  |   |         |   |  |      |         |   |                                                         |   |         |     |  |   |          |  
|Total operating expenses                                                |  |      | 25,704  |   |      |   | 18,091  |      |  |   | 17,870  |   |  |      | 16,961  |   |                                                         |   | 22,090  |     |  |   | 132,873  |  
|Other income (expense)                                                  |  |      | 884     |   |      |   | (7,580  | )(2) |  |   | 368     |   |  |      | 1,199   |   |                                                         |   | 2,575   |     |  |   | 962      |  
|                                                                        |  |      |         |   |      |   |         |      |  |   |         |   |  |      |         |   |                                                         |   |         |     |  |   |          |  
|Net loss                                                                |  | $    | (24,757 | ) |      | $ | (25,671 | )    |  | $ | (17,502 | ) |  | $    | (15,762 | ) |                                                         | $ | (19,515 | )   |  | $ | (131,848 | )
|                                                                        |  |      |         |   |      |   |         |      |  |   |         |   |  |      |         |   |                                                         |   |         |     |  |   |          |  
|Net loss per share, basic and diluted                                   |  | $    | (1.28   | ) |      | $ | (1.67   | )    |  | $ | (1.35   | ) |  | $    | (1.35   | ) |                                                         | $ | (1.74   | )   |  |   |          |  
|Weighted average number of common Shares outstanding, basic and diluted |  |      | 19,267  |   |      |   | 15,381  |      |  |   | 12,932  |   |  |      | 11,654  |   |                                                         |   | 11,240  |     |  |   |          |  
|                                                                        |  |      |         |   |      |  
|Balance Sheet Data:                                                     |  |      |         |   |      |   |         |      |  |   |         |   |  |      |         |   |                                                         |   |         |     |  |   |          |  
|Cash and equivalents                                                    |  | $    | 61,991  |   |      | $ | 84,852  |      |  | $ | 13,087  |   |  | $    | 30,567  |   |                                                         | $ | 34,298  |     |  |   |          |  
|Total assets                                                            |  |      | 63,242  |   |      |   | 85,381  |      |  |   | 13,982  |   |  |      | 31,462  |   |                                                         |   | 35,099  |     |  |   |          |  
|Accounts payable and accrued expenses                                   |  |      | 5,008   |   |      |   | 3,329   |      |  |   | 2,950   |   |  |      | 3,602   |   |                                                         |   | 2,636   |     |  |   |          |  
|Stockholders equity                                                    |  | $    | 58,234  |   |      | $ | 82,052  |      |  | $ | 11,032  |   |  | $    | 27,860  |   |                                                         | $ | 32,463  |     |  |   |          |  

---

|(1) | 2003 General and administrative expenses include $2.2 million for non-cash charges related to options and warrants issued and term changes.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------



|(2) | 2003 Other income includes $7.6 million for non-cash amortization of deemed discount and deferred issuance costs on convertible debentures that was subsequently converted to common
stock.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | 2000 Research and development expenses include $4.5 million for non-cash charges for the purchase of technology and in-process R&D.
|--- | -----------------------------------------------------------------------------------------------------------------------------------



28



---

|Item 7. | Managements Discussion and Analysis of Financial Condition and Results of Operations
|------- | -------------------------------------------------------------------------------------



The following discussion contains forward-looking statements that involve risks and uncertainties. See
Forward-Looking Statements above. This discussion and analysis should be read in conjunction with the financial statements and notes included elsewhere in this report.



General



Hollis-Eden Pharmaceuticals, Inc., a development-stage pharmaceutical company, is engaged in the discovery, development and commercialization of products
for the treatment of diseases and disorders in which the body is unable to mount an appropriate immune response. Our initial development efforts target radiation and chemotherapy induced immune suppression and immune dysregulation caused by a
variety of infections and autoimmune diseases. Our initial technology development efforts are primarily focused on a series of potent hormones and hormone analogs that we believe are key components of the bodys natural regulatory system. We
believe these immune regulating hormones (IRHs) can be used to reestablish host immunity in situations of dysregulation.



We have been unprofitable since our inception and we expect to incur substantial additional operating losses for at least the next few years as we
increase expenditures on research and development and begin to allocate significant and increasing resources to clinical testing and other activities. In addition, during the next few years, we may have to meet the substantial new challenge of
developing the capability to market products. Accordingly, our activities to date are not as broad in depth or scope as the activities we must undertake in the future, and our historical operations and financial information are not indicative of the
future operating results or financial condition or ability to operate profitably as a commercial enterprise when and if we succeed in bringing any drug candidates to market.



On March 26, 1997, Hollis-Eden, Inc., a Delaware corporation, was merged with and into us, then known as Initial Acquisition
Corp. (IAC), a Delaware corporation. Upon consummation of the merger of Hollis-Eden, Inc. with IAC (the Merger), Hollis-Eden, Inc. ceased to exist, and IAC changed its name to Hollis-Eden Pharmaceuticals, Inc.



Results of Operations



We have devoted substantially all of our resources to the payment of research and development expenses and general and
administrative expenses. From inception until December 31, 2004, we have incurred expenses of approximately $86.4 million in research and development and $46.5 million in general and administrative expenses. In the second quarter of 2004, we
generated, for the first time, a small amount of revenue. This revenue resulted from funding of research and development expenses under our Study Funding Agreement with Cystic Fibrosis Foundation Therapeutics, Inc. (CFFT). We have received $1.0
million in net other income comprised of $9.0 million in interest income, which was partially offset by $7.6 million in deemed discount expense and $0.4 million in interest expense. The combination of these resulted in a net loss of $131.9 million
for the period from inception until December 31, 2004.



Research and development expenses were $18.9 million, $10.8 million and $13.1 million in 2004, 2003 and 2002, respectively. The research and development expenses relate primarily to the ongoing development, preclinical testing, and clinical
trials for NEUMUNE, IMMUNITIN and other immune regulating hormones. Research and development expenses increased $8.1 million in 2004 compared to 2003. The increase in research and development expenses was due mainly to the advancement of NEUMUNE
into late stages of development as well as growth in our laboratory operations, other preclinical activities, consulting and personnel. Research and development also increased as a result of our investment in Congressional Pharmaceutical Corporation
(CPC), which was expensed as in-process R&D in the first quarter of 2004. Research and development expenses decreased $2.3 million in 2003 compared to 2002. The decrease in 2003 research and development expenses was due mainly to reduced
preclinical and clinical trial activities after streamlining our operations and focusing our research and development expenditures in the second half of 2002.



29



---

General and administrative expenses were $6.8 million, $7.3 million and $4.8 million in 2004, 2003 and
2002, respectively. General and administrative expenses relate to salaries and benefits, facilities, legal, accounting/auditing, investor relations, consultants, insurance and travel. General and administrative expenses decreased $0.5 million in
2004 compared to 2003 primarily due to non-cash charges totaling $2.2 million for 2003, comprised as detailed in the following paragraph. Excluding the non-cash charges in 2004 and 2003, general and administrative expenses increased $1.7 million in
2004 compared to 2003. The increase is due mainly to increases in consulting, travel and accounting/audit fees (including costs associated with complying with Section 404 of the Sarbanes-Oxley Act of 2002), as well as increases in personnel and
recruiting.



General and administrative expenses increased $2.5
million in 2003 compared to 2002 primarily due to non-cash charges totaling $2.2 million for 2003. The non-cash charges are comprised of: $0.7 million in non-cash charges related to the issuance of a warrant and a change in the terms of a warrant to
a service provider; $1.3 million in non-cash charges related to the issuance of a warrant to a director and issuance of stock options to an officer and a director; and $0.2 million in non-cash charges related to stock options issued to consultants.



Other income and expenses were $0.9 million, $(7.6) million
and $0.4 million in 2004, 2003 and 2002, respectively. During 2004, interest income totaling $0.9 million was the major component of other income and expense. For 2003, other income and expense included $0.4 million of interest income and $(8.0)
million for items associated with convertible debentures converted to common stock that year. This $(8.0) million is comprised of the following charges: an expense of $(7.6) million for the non-cash amortization of the deemed discount and deferred
issuance costs on the convertible debentures, plus interest expense on the convertible debentures totaling $(0.4) million. Other income and expense for 2002 was interest income totaling $0.4 million. The interest income increase in 2004 compared to
2003 was due to higher average balances of cash and cash equivalents.



Liquidity and Capital Resources



We have
financed our operations since inception primarily through the sale of shares of common stock. During the year ended December 31, 1995, we received cash proceeds of $250,000 from the sale of securities. In May 1996, we completed a private placement
of shares of common stock, from which we received aggregate gross proceeds of $1.3 million. In March 1997, the Merger of IAC and Hollis-Eden, Inc. provided us with $6.5 million in cash and other receivables. In May 1998, we completed a private
placement of common stock and warrants, from which we received gross proceeds of $20 million. During January 1999, we completed two private placements of common stock raising approximately $25 million. In December 2001, we completed a private
placement of common stock and warrants, from which we received gross proceeds of $11.5 million. In February 2003, we completed a private placement of convertible debentures and warrants, from which we received gross proceeds of $10.0 million. In
June 2003, we completed a private placement of common stock and warrants, from which we received gross proceeds of $14.7 million. In October 2003 we completed a public offering of our common stock from which we received $62.5 million in gross
proceeds. In addition, we have received a total of $17.3 million from the exercise of warrants and stock options from inception.



On June 20, 2003, convertible debentures with a face value of $0.5 million were converted into 87,720 shares of our common stock, leaving a $9.5 million
aggregate principal amount of convertible debentures outstanding.



We became entitled to convert the outstanding debentures into common stock in August 2003 and the remaining aggregate principal amount of convertible debentures with a face value of $9.5 million were converted into 1,666,680 shares of our
common stock with a value of $5.70 per share.



A summary of our
current contractual obligations is as follows (in thousands):



|                        |  |                        |       |                   |   |                   |  |                    |       |                      |   |    |  |   |  
|----------------------- |  | ---------------------- | ----- | ----------------- | - | ----------------- |  | ------------------ | ----- | -------------------- | - | -- |  | - | -
|                        |  | Payments Due by Period
|Contractual Obligations |  | Total                  |       | Less thanone year |   | One tothree years |  | Three tofive years |       | More than Five years
|Operating Leases        |  | $                      | 2,228 |                   | $ | 890               |  | $                  | 1,306 |                      | $ | 32 |  | $ | 



30



---

We may also be required to make substantial milestone or royalty payments in cash based on the terms of
some of our agreements.



Our operations to date have consumed
substantial capital without generating any revenues other than the small amount received under the CFFT collaboration in 2004, and we will continue to require substantial and increasing amounts of funds to conduct necessary research and development
and preclinical and clinical testing of our drug candidates, and to market any drug candidates that receive regulatory approval. With the possible exception of sales of our NEUMUNE product for radiation treatment, we do not expect to generate
revenue from operations for the foreseeable future, and our ability to meet our cash obligations as they become due and payable may depend for at least the next several years on our ability to sell securities, borrow funds or some combination
thereof. Based upon our current plans, we believe that our existing capital resources, together with interest thereon, will be sufficient to meet our operating expenses and capital requirements for at least the next 12 months. However, changes in
our research and development plans or other events affecting our operating expenses may result in the expenditure of such cash before that time. We may not be successful in raising necessary funds.



Our future capital requirements will depend upon many factors, including
progress with preclinical testing and clinical trials, whether we receive an advance purchase contract from the U.S. government for NEUMUNE, the number and breadth of our programs, the time and costs involved in preparing, filing, prosecuting,
maintaining and enforcing patent claims and other proprietary rights, the time and costs involved in obtaining regulatory approvals, competing technological and market developments, and our ability to establish collaborative arrangements, effective
commercialization, marketing activities and other arrangements. We may incur increasing negative cash flows and net losses for the foreseeable future. We may seek additional funding through public or private financing or through collaborative
arrangements with strategic partners.



Critical Accounting Policies



Certain of our accounting policies require the
application of judgment and estimates by management, which may be affected by different assumptions and conditions. These estimates are typically based on historical experience, terms of existing contracts, trends in the industry and information
available from other outside sources, as appropriate. We believe the estimates and judgments associated with our reported amounts are appropriate in the circumstances. Actual results could materially vary from those estimates under different
assumptions or conditions.



All research and development costs
are expensed as incurred. The value of acquired in-process research and development is charged to expense on the date of acquisition. Research and development expenses include, but are not limited to, acquired in-process technology deemed to have no
alternative future use, license fees related to license agreements, preclinical and clinical trial studies, payroll and personnel expense, and lab supplies, consulting and research-related overhead. Research and development expenses paid in the form
of cash and Company stock to related parties aggregated $11.5 million for the period from inception (August 15, 1994) to December 31, 2003 (see Note 6, Colthurst, Edenland and Mr. Prendergest and Aeson Threapeutics). No such
related party expenses were incurred in 2004.



Impact of Recently Issued
Accounting Pronouncements



In December 2004, SFAS No.
123(R), Share-Based Payment, which addresses the accounting for employee stock options, was issued. SFAS 123(R) revises the disclosure provisions of SFAS 123 and supercedes APB Opinion No. 25. SFAS 123(R) requires that the cost of all
employee stock options, as well as other equity-based compensation arrangements, be reflected in the financial statements based on the estimated fair value of the awards. This statement is effective for all public entities that file as of the
beginning of the first interim or annual reporting period that begins after June 15, 2005. We are currently evaluating the provisions of FAS 123R and its effect on our financial statements. We have not elected to early implement SFAS 123(R) for the
year ended December 31, 2004.



31



---

In December 2004, the FASB issued SFAS 153, Exchanges of Nonmonetary Assets, an amendment of APB Opinion
No. 29 (SFAS 153). The guidance in APB Opinion No. 29, Accounting for Nonmonetary Transactions, is based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in APB
Opinion No. 29, however, included certain exceptions to that principle. SFAS 153 amends APB Opinion No. 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of
nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. SFAS 153 is effective for nonmonetary
asset exchanges in fiscal periods beginning after June 15, 2005. We do not believe that the adoption of SFAS 153 will have a material impact on our results of operations or financial position.



|Item 7A. | Quantitative and Qualitative Disclosures About Market Risk
|-------- | ----------------------------------------------------------



At December 31, 2004, our investment portfolio included only cash and money market accounts and does not contain fixed-income securities. There would be
no material impact to our investment portfolio, in the short term, associated with any change in interest rates, and any decline in interest rates over time will reduce our interest income, while increases in interest rates over time will increase
our interest income.



32



---

|Item 8. | Financial Statements and Supplementary Data
|------- | -------------------------------------------



|                                                                                                                                                                                                                                                                                 |  |     
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----
|                                                                                                                                                                                                                                                                                 |  | Page
|Balance Sheets as of December 31, 2004 and 2003                                                                                                                                                                                                                                  |  | 34  
|                                                                                                                                                                                                                                                                                 | 
|Statements of Operations for the Fiscal Years Ended December 31, 2004, December 31, 2003, December 31, 2002 and the Period From Inception (August 15, 1994) to December 31, 2004                                                                                                 |  | 35  
|                                                                                                                                                                                                                                                                                 | 
|Statements of Stockholders Equity for the Fiscal Years Ended December 31, 1994, December 31, 1995, December 31, 1996, December 31, 1997, December 31, 1998, December 31, 1999, December 31, 2000, December 31, 2001, December
31, 2002, December 31, 2003 and December 31, 2004 |  | 36  
|                                                                                                                                                                                                                                                                                 | 
|Statements of Cash Flows for the Fiscal Years Ended December 31, 2004, December 31 2003, December 31, 2002 and the Period from Inception (August 15, 1994) to December 31, 2004                                                                                                  |  | 38  
|                                                                                                                                                                                                                                                                                 | 
|Notes to Financial Statements                                                                                                                                                                                                                                                    |  | 39  
|                                                                                                                                                                                                                                                                                 | 
|Report of Independent Registered Public Accounting Firm                                                                                                                                                                                                                          |  | 57  



33



---

Hollis-Eden Pharmaceuticals, Inc.

(A Development Stage Company)



Balance Sheets



|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|-------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | -------- | - | ---- | - | -------- | -
|                                                                                                                                       |  | December 31,                    |         
|                                                                                                                                       |  | 2004                            |          |   | 2003 |  
|                                                                                                                                       |  | (In thousands,except par value) |         
|ASSETS:                                                                                                                                |  |                                 |          |   |      |   |          |  
|Current assets:                                                                                                                        |  |                                 |          |   |      |   |          |  
|Cash and cash equivalents                                                                                                              |  | $                               | 61,991   |   |      | $ | 84,852   |  
|Prepaid expenses                                                                                                                       |  |                                 | 176      |   |      |   | 134      |  
|Deposits                                                                                                                               |  |                                 | 44       |   |      |   | 27       |  
|Other receivable                                                                                                                       |  |                                 | 9        |   |      |   |         |  
|Receivable from related party (Note 4)                                                                                                 |  |                                 |         |   |      |   | 18       |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|Total current assets                                                                                                                   |  |                                 | 62,220   |   |      |   | 85,031   |  
|                                                                                                                                       |  |                                
|Property and equipment, net of accumulated depreciation of $462 and $434                                                               |  |                                 | 961      |   |      |   | 282      |  
|Deposits                                                                                                                               |  |                                 | 61       |   |      |   | 68       |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|Total assets                                                                                                                           |  | $                               | 63,242   |   |      | $ | 85,381   |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|LIABILITIES AND STOCKHOLDERS EQUITY:                                                                                                  |  |                                 |          |   |      |   |          |  
|Current liabilities:                                                                                                                   |  |                                 |          |   |      |   |          |  
|Accounts payable and accrued expenses                                                                                                  |  | $                               | 5,008    |   |      | $ | 3,329    |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|Total current liabilities                                                                                                              |  |                                 | 5,008    |   |      |   | 3,329    |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|Commitments and contingencies (Notes 6, 11, 12)                                                                                        |  |                                 |          |   |      |   |          |  
|Stockholders equity: (Notes 3, 7, 8, 9, 10)                                                                                           |  |                                 |          |   |      |   |          |  
|Preferred stock, no par value, 10,000 shares authorized; no shares outstanding                                                         |  |                                 |         |   |      |   |         |  
|Common stock, $.01 par value, 50,000 shares authorized; 19,347 and 19,272 shares issued and 19,288 and 19,213 outstanding
respectively |  |                                 | 193      |   |      |   | 193      |  
|Paid-in capital                                                                                                                        |  |                                 | 190,235  |   |      |   | 189,296  |  
|Cost of treasury stock (59 shares)                                                                                                     |  |                                 | (346     | ) |      |   | (346     | )
|Deficit accumulated during development stage                                                                                           |  |                                 | (131,848 | ) |      |   | (107,091 | )
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|Total stockholders equity                                                                                                             |  |                                 | 58,234   |   |      |   | 82,052   |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  
|Total liabilities and stockholders equity                                                                                             |  | $                               | 63,242   |   |      | $ | 85,381   |  
|                                                                                                                                       |  |                                 |          |   |      |   |          |  



The accompanying notes
are an integral part of these financial statements.



34



---

Hollis-Eden Pharmaceuticals, Inc.

(A Development Stage Company)



Statements of Operations



|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|------------------------------------------------------------------------------------------------------- |  | ---------------------------------------- | ------- | - | ------------------------------------------------------- | - | ------- | ---- |  | - | ------- | - |  | - | -------- | -
|                                                                                                        |  | For the year ended December 31,          |         |   | Period fromInception(Aug. 15, 1994) toDecember 31, 2004 |  
|                                                                                                        |  | 2004                                     |         |   | 2003                                                    |   |         | 2002 |  |  
|                                                                                                        |  | (In thousands, except per share amounts) |        
|Revenue:                                                                                                |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Contract R&D revenue                                                                                    |  | $                                        | 63      |   |                                                         | $ |        |      |  | $ |        |   |  | $ | 63       |  
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Total revenue                                                                                           |  |                                          | 63      |   |                                                         |   |        |      |  |   |        |   |  |   | 63       |  
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Operating expenses:                                                                                     |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Research and development                                                                                |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|R & D operating expenses                                                                                |  |                                          | 18,915  |   |                                                         |   | 10,442  |      |  |   | 13,017  |   |  |   | 80,738   |  
|R & D costs related to common stock and stock option grants for collaborations and technology purchases |  |                                          | 3       |   |                                                         |   | 322     |      |  |   | 66      |   |  |   | 5,667    |  
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Total research and development                                                                          |  |                                          | 18,918  |   |                                                         |   | 10,764  |      |  |   | 13,083  |   |  |   | 86,405   |  
|General and administrative                                                                              |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|G & A operating expenses                                                                                |  |                                          | 6,653   |   |                                                         |   | 5,161   |      |  |   | 4,523   |   |  |   | 34,128   |  
|G & A costs related to options / warrants granted                                                       |  |                                          | 133     |   |                                                         |   | 2,166   |      |  |   | 264     |   |  |   | 12,340   |  
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Total general and administrative                                                                        |  |                                          | 6,786   |   |                                                         |   | 7,327   |      |  |   | 4,787   |   |  |   | 46,468   |  
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Total operating expenses                                                                                |  |                                          | 25,704  |   |                                                         |   | 18,091  |      |  |   | 17,870  |   |  |   | 132,873  |  
|Other income (expense):                                                                                 |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Loss on disposition of assets                                                                           |  |                                          | (33     | ) |                                                         |   | (2      | )    |  |   | (21     | ) |  |   | (56      | )
|Non-cash amortization of deemed discount and deferred issuance costs on convertible debentures          |  |                                          |        |   |                                                         |   | (7,627  | )    |  |   |        |   |  |   | (7,627   | )
|Interest income                                                                                         |  |                                          | 917     |   |                                                         |   | 387     |      |  |   | 389     |   |  |   | 9,033    |  
|Interest expense                                                                                        |  |                                          |        |   |                                                         |   | (338    | )    |  |   |        |   |  |   | (388     | )
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Total other income (expense), net                                                                       |  |                                          | 884     |   |                                                         |   | (7,580  | )    |  |   | 368     |   |  |   | 962      |  
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Net loss                                                                                                |  | $                                        | (24,757 | ) |                                                         | $ | (25,671 | )    |  | $ | (17,502 | ) |  | $ | (131,848 | )
|                                                                                                        |  |                                          |         |   |                                                         |   |         |      |  |   |         |   |  |   |          |  
|Net loss per share, basic and diluted                                                                   |  | $                                        | (1.28   | ) |                                                         | $ | (1.67   | )    |  | $ | (1.35   | ) |  |   |          |  
|Weighted average number of common shares outstanding, basic and diluted                                 |  |                                          | 19,267  |   |                                                         |   | 15,381  |      |  |   | 12,932  |   |  |   |          |  



The accompanying notes
are an integral part of these financial statements



35



---

Hollis-Eden Pharmaceuticals, Inc.

(A Development Stage Company)



Statements of Stockholders Equity



|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  
|---------------------------------------------------------------------------------------- |  | --------------------------- | - | ------------------------ | ------ | ---------------------------- | ------ | ----- | ------------------------------- | - | -------------------- | ------ | - | ------------------------------------------ | - |  | ----- |  | - |  | - | ------ | - |  | - | ------- | - |  | - | ------- | -
|                                                                                         |  | Preferred stockat par value |   | Common stockat par value |        | Capital inexcess ofpar value |        |       | Cost of RepurchasedCommon Stock |   | Deferredcompensation |        |   | Deficit accumulatedduringdevelopment stage |   |  | Total | 
|                                                                                         |  | Shares                      |   |                          | Amount |                              | Shares |       | Amount                          |   |                      | Shares |   | Amount                                     |   |  |      
|                                                                                         |  | ( In thousands )            |  
|Contribution by stockholder                                                              |  |                            |   |                          | $      |                             |        |      |                                 | $ |                     |        | $ | 103                                        |   |  |      |  |  |  | $ |       |   |  | $ |        |   |  | $ | 103     |  
|Common stock issued for cash                                                             |  |                            |   |                          |        |                             |        | 2,853 |                                 |   |                     |        |   | 25                                         |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 25      |  
|Common stock issued as consideration for the license agreements (Note 6)                 |  |                            |   |                          |        |                             |        | 543   |                                 |   |                     |        |   | 5                                          |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 5       |  
|Net loss                                                                                 |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   |       |   |  |   | (1,277  | ) |  |   | (1,277  | )
|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  
|Balance at December 31, 1994                                                             |  |                            |   |                          |        |                             |        | 3,396 |                                 |   |                     |        |   | 133                                        |   |  |      |  |  |  |   |       |   |  |   | (1,277  | ) |  |   | (1,144  | )
|Common stock issued for cash                                                             |  |                            |   |                          |        |                             |        | 679   |                                 |   |                     |        |   | 250                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 250     |  
|Common stock issued as consideration for amendments to the license agreements (Note 6)   |  |                            |   |                          |        |                             |        | 76    |                                 |   |                     |        |   | 28                                         |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 28      |  
|Net loss                                                                                 |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   |       |   |  |   | (672    | ) |  |   | (672    | )
|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  
|Balance at December 31, 1995                                                             |  |                            |   |                          |        |                             |        | 4,151 |                                 |   |                     |        |   | 411                                        |   |  |      |  |  |  |   |       |   |  |   | (1,949  | ) |  |   | (1,538  | )
|Common stock issued in conversion of debt (Note 7)                                       |  |                            |   |                          |        |                             |        | 165   |                                 |   |                     |        |   | 371                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 371     |  
|Common stock issued for cash, net of expenses (Note 7)                                   |  |                            |   |                          |        |                             |        | 580   |                                 |   |                     |        |   | 1,234                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 1,234   |  
|Common stock issued as consideration for termination of a finance agreement              |  |                            |   |                          |        |                             |        | 15    |                                 |   |                     |        |   | 34                                         |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 34      |  
|Warrants issued to consultants for services rendered                                     |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 24                                         |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 24      |  
|Net loss                                                                                 |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   |       |   |  |   | (692    | ) |  |   | (692    | )
|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  
|Balance at December 31, 1996                                                             |  |                            |   |                          |        |                             |        | 4,911 |                                 |   |                     |        |   | 2,074                                      |   |  |      |  |  |  |   |       |   |  |   | (2,641  | ) |  |   | (567    | )
|Recapitalization of Company upon the merger with Initial Acquisition Corp. (Note 3)      |  |                            |   |                          |        |                             |        | 883   |                                 |   | 58                   |        |   | 6,213                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 6,271   |  
|Warrants issued to a certain director upon the successful closure of the merger (Note 3) |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 570                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 570     |  
|Exercise of warrants, net of expenses                                                    |  |                            |   |                          |        |                             |        | 978   |                                 |   | 10                   |        |   | 5,619                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 5,629   |  
|Deferred compensation  stock options (Note 9)                                           |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 1,848                                      |   |  |      |  |  |  |   | (1,848 | ) |  |   |        |   |  |   |        |  
|Amortization of deferred compensation                                                    |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   | 282    |   |  |   |        |   |  |   | 282     |  
|Exercise of stock options                                                                |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 1                                          |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 1       |  
|Net loss                                                                                 |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   |       |   |  |   | (5,253  | ) |  |   | (5,253  | )
|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  
|Balance at December 31, 1997                                                             |  |                            |   |                          |        |                             |        | 6,772 |                                 |   | 68                   |        |   | 16,325                                     |   |  |      |  |  |  |   | (1,566 | ) |  |   | (7,894  | ) |  |   | 6,933   |  
|Exercise of warrants                                                                     |  |                            |   |                          |        |                             |        | 399   |                                 |   | 4                    |        |   | 1,196                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 1,200   |  
|Exercise of stock options                                                                |  |                            |   |                          |        |                             |        | 53    |                                 |   | 1                    |        |   | 155                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 156     |  
|Private Placement, net of expenses (Note 7)                                              |  | 4                           |   |                          |        |                             |        | 1,329 |                                 |   | 13                   |        |   | 19,877                                     |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 19,890  |  
|Warrants issued for services in lieu of cash (Note 10)                                   |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 408                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 408     |  
|Stock issued for license fee (Note 6)                                                    |  |                            |   |                          |        |                             |        | 33    |                                 |   |                     |        |   | 500                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 500     |  
|Stock issued for services in lieu of cash                                                |  |                            |   |                          |        |                             |        | 6     |                                 |   |                     |        |   | 95                                         |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 95      |  
|Options issued for services in lieu of cash (Note 9)                                     |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 240                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 240     |  
|Amortization of deferred compensation                                                    |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   | 308    |   |  |   |        |   |  |   | 308     |  
|Net loss                                                                                 |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   |       |   |  |   | (5,427  | ) |  |   | (5,427  | )
|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  
|Balance at December 31, 1998                                                             |  | 4                           |   |                          | $      |                             |        | 8,592 |                                 | $ | 86                   |        | $ | 38,796                                     |   |  |      |  |  |  | $ | (1,258 | ) |  | $ | (13,321 | ) |  | $ | 24,303  |  
|Exercise of warrants                                                                     |  |                            |   |                          |        |                             |        | 755   |                                 |   | 8                    |        |   | 5,136                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 5,144   |  
|Exercise of stock options                                                                |  |                            |   |                          |        |                             |        | 10    |                                 |   |                     |        |   | 75                                         |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 75      |  
|Private Placement, net of expenses (Note 7)                                              |  |                            |   |                          |        |                             |        | 1,368 |                                 |   | 14                   |        |   | 24,759                                     |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 24,773  |  
|Preferred Stock Conversion (Note 7,8)                                                    |  | (4                          | ) |                          |        |                             |        | 346   |                                 |   | 3                    |        |   | (3                                         | ) |  |      |  |  |  |   |       |   |  |   |        |   |  |   |        |  
|Deferred compensation-Options forfeited (Note 9)                                         |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | (1,207                                     | ) |  |      |  |  |  |   | 1,258  |   |  |   |        |   |  |   | 51      |  
|Amortization of non-employee options                                                     |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 559                                        |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 559     |  
|Warrants issued for services in lieu of cash (Note 10)                                   |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 2,140                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 2,140   |  
|Options accelerated vesting (Note 9)                                                     |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   | 4,900                                      |   |  |      |  |  |  |   |       |   |  |   |        |   |  |   | 4,900   |  
|Net loss                                                                                 |  |                            |   |                          |        |                             |        |      |                                 |   |                     |        |   |                                           |   |  |      |  |  |  |   |       |   |  |   | (15,320 | ) |  |   | (15,320 | )
|                                                                                         |  |                             |   |                          |        |                              |        |       |                                 |   |                      |        |   |                                            |   |  |       |  |   |  |   |        |   |  |   |         |   |  |   |         |  



36



---

|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  
|------------------------------------------------------ |  | --------------------------- |  | ------------------------ |  | ---------------------------- |  | ------------------------------- | --- |  | -------------------- | ------- | ------------------------------------------ | ------ | - | ----- | - | ---- | - |  | - |  | - | -------- | - |  | - | ------- | -
|                                                       |  | Preferred stockat par value |  | Common stock atpar value |  | Capital inexcess ofpar value |  | Cost of RepurchasedCommon Stock |     |  | Deferredcompensation |         | Deficit accumulatedduringdevelopment stage |        |   | Total |  
|                                                       |  | shares                      |  | Amount                   |  | Shares                       |  | Amount                          |     |  | Shares               |         |                                            | Amount |   |       |   |     
|                                                       |  | ( In thousands )            | 
|Balance at December 31, 1999                           |  |                            |  |                         |  | 11,071                       |  |                                 | 111 |  |                      | 75,155  |                                            |       |   |       |   |     |   |  |  |  |   | (28,641  | ) |  |   | 46,625  |  
|Exercise of warrants                                   |  |                            |  |                         |  | 133                          |  |                                 | 2   |  |                      | 758     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 760     |  
|Exercise of stock options                              |  |                            |  |                         |  | 1                            |  |                                 |    |  |                      | 5       |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 5       |  
|Common Stock issued for 401k/401m plan                 |  |                            |  |                         |  | 6                            |  |                                 |    |  |                      | 63      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 63      |  
|Common Stock issued for In-Process R&D (Note 6)        |  |                            |  |                         |  | 209                          |  |                                 | 2   |  |                      | 1,998   |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 2,000   |  
|Options granted for license fee                        |  |                            |  |                         |  | 38                           |  |                                 |    |  |                      | 598     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 598     |  
|Amortization of non-employee options                   |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 79      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 79      |  
|Common Stock issued for purchase of technology         |  |                            |  |                         |  | 132                          |  |                                 | 1   |  |                      | 1,847   |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 1,848   |  
|Net loss                                               |  |                            |  |                         |  |                             |  |                                 |    |  |                      |        |                                            |       |   |       |   |     |   |  |  |  |   | (19,515  | ) |  |   | (19,515 | )
|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  
|Balance at December 31, 2000                           |  |                            |  |                         |  | 11,590                       |  |                                 | 116 |  |                      | 80,503  |                                            |       |   |       |   |     |   |  |  |  |   | (48,156  | ) |  |   | 32,463  |  
|Exercise of stock options                              |  |                            |  |                         |  | 10                           |  |                                 |    |  |                      | 22      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 22      |  
|Common Stock issued for 401k/401m plan                 |  |                            |  |                         |  | 16                           |  |                                 |    |  |                      | 96      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 96      |  
|Private Placement, net of expenses (Note 7)            |  |                            |  |                         |  | 1,280                        |  |                                 | 13  |  |                      | 10,644  |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 10,657  |  
|Warrants issued for services in lieu of cash (Note 10) |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 80      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 80      |  
|Amortization of non-employee options                   |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 96      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 96      |  
|Warrants issued for services                           |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 208     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 208     |  
|Net loss                                               |  |                            |  |                         |  |                             |  |                                 |    |  |                      |        |                                            |       |   |       |   |     |   |  |  |  |   | (15,762  | ) |  |   | (15,762 | )
|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  
|Balance at December 31, 2001                           |  |                            |  |                         |  | 12,896                       |  |                                 | 129 |  |                      | 91,649  |                                            |       |   |       |   |     |   |  |  |  |   | (63,918  | ) |  |   | 27,860  |  
|Exercise of stock options                              |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 2       |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 2       |  
|Common Stock issued for 401k/401m plan                 |  |                            |  |                         |  | 26                           |  |                                 |    |  |                      | 137     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 137     |  
|Common Stock issued for sublicense agreement (Note 6)  |  |                            |  |                         |  | 50                           |  |                                 | 1   |  |                      | 204     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 205     |  
|Common Stock issued to consultants                     |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 17      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 17      |  
|Amortization of non-employee options                   |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 66      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 66      |  
|Warrants issued for services                           |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 247     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 247     |  
|Net loss                                               |  |                            |  |                         |  |                             |  |                                 |    |  |                      |        |                                            |       |   |       |   |     |   |  |  |  |   | (17,502  | ) |  |   | (17,502 | )
|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  
|Balance at December 31, 2002                           |  |                            |  |                         |  | 12,972                       |  |                                 | 130 |  |                      | 92,322  |                                            |       |   |       |   |     |   |  |  |  |   | (81,420  | ) |  |   | 11,032  |  
|Common Stock issued for 401k/401m plan                 |  |                            |  |                         |  | 32                           |  |                                 |    |  |                      | 223     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 223     |  
|Exercise of warrants                                   |  |                            |  |                         |  | 467                          |  |                                 | 5   |  |                      | 3,323   |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 3,328   |  
|Exercise of stock options                              |  |                            |  |                         |  | 85                           |  |                                 | 1   |  |                      | 955     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 956     |  
|Stock options issued                                   |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 561     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 561     |  
|Private Placement, net of expenses                     |  |                            |  |                         |  | 1,283                        |  |                                 | 13  |  |                      | 14,290  |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 14,303  |  
|Common Stock issued for sublicense agreement (Note 6)  |  |                            |  |                         |  | 119                          |  |                                 | 1   |  |                      | 644     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 645     |  
|Common Stock issued for milestone payment              |  |                            |  |                         |  | 50                           |  |                                 | 1   |  |                      | 281     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 282     |  
|Debt Conversion                                        |  |                            |  |                         |  | 1,755                        |  |                                 | 17  |  |                      | 9,983   |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 10,000  |  
|Common Stock issued in lieu of cash / interest         |  |                            |  |                         |  | 9                            |  |                                 |    |  |                      | 142     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 142     |  
|Public Offering, net of expenses                       |  |                            |  |                         |  | 2,500                        |  |                                 | 25  |  |                      | 58,576  |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 58,601  |  
|Deemed discount on convertible debentures              |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 6,470   |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 6,470   |  
|Warrants issued for services                           |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 1,398   |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 1,398   |  
|Amortization of non-employee options                   |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 128     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 128     |  
|Purchase of treasury stock                             |  |                            |  |                         |  |                             |  |                                 |    |  |                      |        |                                            | (59    | ) |       |   | (346 | ) |  |  |  |   |         |   |  |   | (346    | )
|Net loss                                               |  |                            |  |                         |  |                             |  |                                 |    |  |                      |        |                                            |       |   |       |   |     |   |  |  |  |   | (25,671  | ) |  |   | (25,671 | )
|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  
|Balance at December 31, 2003                           |  |                            |  |                         |  | 19,272                       |  |                                 | 193 |  |                      | 189,296 |                                            | (59    | ) |       |   | (346 | ) |  |  |  |   | (107,091 | ) |  |   | 82,052  |  
|Common Stock issued for 401k/401m plan                 |  |                            |  |                         |  | 17                           |  |                                 |    |  |                      | 147     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 147     |  
|Exercise of warrants                                   |  |                            |  |                         |  | 6                            |  |                                 |    |  |                      | 11      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 11      |  
|Exercise of stock options                              |  |                            |  |                         |  | 4                            |  |                                 |    |  |                      | 16      |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 16      |  
|Common Stock issued for In-Process R&D (Note 6)        |  |                            |  |                         |  | 48                           |  |                                 |    |  |                      | 629     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 629     |  
|Amortization of non-employee options                   |  |                            |  |                         |  |                             |  |                                 |    |  |                      | 136     |                                            |       |   |       |   |     |   |  |  |  |   |         |   |  |   | 136     |  
|Net loss                                               |  |                            |  |                         |  |                             |  |                                 |    |  |                      |        |                                            |       |   |       |   |     |   |  |  |  |   | (24,757  | ) |  |   | (24,757 | )
|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  
|Balance at December 31, 2004                           |  |                            |  |                         |  | 19,347                       |  | $                               | 193 |  | $                    | 190,235 |                                            | (59    | ) |       | $ | (346 | ) |  |  |  | $ | (131,848 | ) |  | $ | 58,234  |  
|                                                       |  |                             |  |                          |  |                              |  |                                 |     |  |                      |         |                                            |        |   |       |   |      |   |  |   |  |   |          |   |  |   |         |  



The accompanying notes
are an integral part of these financial statements.



37



---

Hollis-Eden Pharmaceuticals, Inc.

(A Development Stage Company)



Statements of Cash Flows



|                                                                                                            |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|----------------------------------------------------------------------------------------------------------- |  | -------------- | ------- | - | ---- | - | ------- | ---- |  | - | ----------------------------------------------------- | - |  | - | -------- | -
|                                                                                                            |  | 2004           |         |   | 2003 |   |         | 2002 |  |   | Period fromInception(Aug. 15, 1994)toDecember 31,2004 |  
|                                                                                                            |  | (In thousands) |        
|Cash flows from operating activities:                                                                       |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Net loss                                                                                                    |  | $              | (24,757 | ) |      | $ | (25,671 | )    |  | $ | (17,502                                               | ) |  | $ | (131,848 | )
|Adjustments to reconcile net loss to net cash used in operating activities:                                 |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Depreciation                                                                                                |  |                | 218     |   |      |   | 118     |      |  |   | 122                                                   |   |  |   | 793      |  
|Disposal of assets                                                                                          |  |                | 33      |   |      |   | 2       |      |  |   | 21                                                    |   |  |   | 63       |  
|Amortization of deemed discount on convertible debentures                                                   |  |                |        |   |      |   | 6,470   |      |  |   |                                                       |   |  |   | 6,470    |  
|Amortization of deferred issuance cost                                                                      |  |                |        |   |      |   | 1,157   |      |  |   |                                                       |   |  |   | 1,157    |  
|Common stock issued for 401k/401m plan                                                                      |  |                | 147     |   |      |   | 223     |      |  |   | 137                                                   |   |  |   | 666      |  
|Common stock issued as consideration for amendments to the license agreements                               |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 33       |  
|Common stock issued as consideration for termination of a finance agreement                                 |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 34       |  
|Common stock and options issued as consideration for license fees, milestone payment, interest and services |  |                | 136     |   |      |   | 552     |      |  |   | 271                                                   |   |  |   | 2,829    |  
|Expense related to warrants issued as consideration to consultants                                          |  |                |        |   |      |   | 1,518   |      |  |   | 247                                                   |   |  |   | 4,113    |  
|Expense related to warrants issued to a director for successful closure of merger                           |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 570      |  
|Expense related to stock options issued                                                                     |  |                |        |   |      |   | 561     |      |  |   | 17                                                    |   |  |   | 5,718    |  
|Expense related to common stock issued for the purchase of technology                                       |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 1,848    |  
|Common stock issued as consideration for In-Process R&D                                                     |  |                | 629     |   |      |   |        |      |  |   |                                                      |   |  |   | 2,629    |  
|Deferred compensation expense related to options issued                                                     |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 1,210    |  
|Changes in assets and liabilities:                                                                          |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Prepaid expenses                                                                                            |  |                | (42     | ) |      |   | (11     | )    |  |   | 46                                                    |   |  |   | (176     | )
|Deposits                                                                                                    |  |                | (10     | ) |      |   | (8      | )    |  |   | (60                                                   | ) |  |   | (105     | )
|Other receivable                                                                                            |  |                | (9      | ) |      |   | 13      |      |  |   | (13                                                   | ) |  |   | (9       | )
|Other Receivable from related party                                                                         |  |                | 18      |   |      |   | 3       |      |  |   | 3                                                     |   |  |   |         |  
|Accounts payable and accrued expenses                                                                       |  |                | 1,679   |   |      |   | 1,024   |      |  |   | (652                                                  | ) |  |   | 5,652    |  
|                                                                                                            |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Net cash used in operating activities                                                                       |  |                | (21,958 | ) |      |   | (14,049 | )    |  |   | (17,363                                               | ) |  |   | (98,353  | )
|Cash flows provided by investing activities:                                                                |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Purchase of property and equipment                                                                          |  |                | (930    | ) |      |   | (4      | )    |  |   | (119                                                  | ) |  |   | (1,817   | )
|Payback of loan by a company officer                                                                        |  |                |        |   |      |   | 253     |      |  |   |                                                      |   |  |   |         |  
|                                                                                                            |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Net cash provided by (used in) investing activities                                                         |  |                | (930    | ) |      |   | 249     |      |  |   | (119                                                  | ) |  |   | (1,817   | )
|Cash flows from financing activities:                                                                       |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Contributions from stockholder                                                                              |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 104      |  
|Net proceeds from sale of preferred stock                                                                   |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 4,000    |  
|Net proceeds from sale of common stock                                                                      |  |                |        |   |      |   | 72,413  |      |  |   |                                                      |   |  |   | 125,242  |  
|Net proceeds from issuance of convertible debentures and warrants                                           |  |                |        |   |      |   | 9,214   |      |  |   |                                                      |   |  |   | 9,214    |  
|Purchase of treasury stock                                                                                  |  |                |        |   |      |   | (346    | )    |  |   |                                                      |   |  |   | (346     | )
|Proceeds from issuance of debt                                                                              |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 371      |  
|Net proceeds from recapitalization                                                                          |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 6,271    |  
|Net proceeds from warrants/options exercised                                                                |  |                | 27      |   |      |   | 4,284   |      |  |   | 2                                                     |   |  |   | 17,305   |  
|                                                                                                            |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Net cash provided by financing activities                                                                   |  |                | 27      |   |      |   | 85,565  |      |  |   | 2                                                     |   |  |   | 162,161  |  
|Net increase (decrease) in cash and equivalents                                                             |  |                | (22,861 | ) |      |   | 71,765  |      |  |   | (17,480                                               | ) |  |   | 61,991   |  
|Cash and equivalents at beginning of period                                                                 |  |                | 84,852  |   |      |   | 13,087  |      |  |   | 30,567                                                |   |  |   |         |  
|                                                                                                            |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Cash and equivalents at end of period                                                                       |  | $              | 61,991  |   |      | $ | 84,852  |      |  | $ | 13,087                                                |   |  | $ | 61,991   |  
|                                                                                                            |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Supplemental disclosure of cash flow information:                                                           |  |                |         |   |      |   |         |      |  |   |                                                       |   |  |   |          |  
|Interest paid                                                                                               |  | $              |        |   |      | $ | 338     |      |  | $ |                                                      |   |  | $ | 388      |  
|Conversion of debt to equity                                                                                |  |                |        |   |      |   | 10,000  |      |  |   |                                                      |   |  |   | 10,371   |  
|Warrants issued to consultants in lieu of cash, no vesting                                                  |  |                |        |   |      |   |        |      |  |   | 247                                                   |   |  |   | 559      |  
|Warrants issued in lieu of cash, commissions on private placement                                           |  |                |        |   |      |   |        |      |  |   |                                                      |   |  |   | 733      |  
|Warrants issued in connection with convertible debentures                                                   |  |                |        |   |      |   | 371     |      |  |   |                                                      |   |  |   | 371      |  



The accompanying notes
are an integral part of these financial statements.



38



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



Notes to Financial Statements



|1. | The Company
|-- | -----------



Hollis-Eden Pharmaceuticals, Inc. (Hollis-Eden or the Company), a development stage pharmaceutical company, is engaged in the
discovery, development and commercialization of products for the treatment of diseases and disorders in which the body is unable to mount an appropriate immune response. From inception (August 15, 1994) through March 1997, the Companys efforts
were directed toward organizing, licensing technology and preparing for offerings of shares of its common stock. Since 1997, the Company has been expanding its intellectual property, developing its lead drug candidates, performing preclinical tests
and has entered into multiple Phase II clinical studies. Our initial technology development efforts are focused on a series of potent hormones and hormone analogs that we believe are key components of the bodys natural regulatory system. We
believe these immune regulating hormones can be used to reestablish host immunity in situations of dysregulation. In the second quarter of 2004, we generated, for the first time, a small amount of revenue. This revenue resulted from providing
research and development services under our Study Funding Agreement with Cystic Fibrosis Foundation Therapeutics, Inc. To date, the Company has not developed commercial products or generated any product sales for the period since inception (August
15, 1994 through December 31, 2004).



|2. | Summary of Accounting Policies
|-- | ------------------------------



Cash Equivalents



The Company considers any liquid investments with a maturity of three months or less when purchased to be cash equivalents. At December 31, 2004 the
Companys cash equivalents are approximately $62.0 million and are deposited primarily in a money market mutual fund with a large financial institution.



Property and Equipment



Property and equipment is stated at cost and depreciated over the estimated useful lives or the lease term of the assets (five and seven years) using the
straight-line method.



Revenue Recognition



In December 2003, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 104 Revenue Recognition (SAB 104), which updates and summarizes the Commissions views on the application of generally accepted accounting principles to revenue recognition in financial statements. The
Company believes that its revenue recognition policies conform to the requirements of SAB 104.



Contract revenue is recognized as the services are performed on a cost reimbursement basis. Revenue associated with development milestones, if any, is recognized based upon the achievement of the milestones, as
defined in the respective agreements. Overall, revenue is considered to be realized or realizable and earned when there is persuasive evidence of a revenue arrangement in the form of a contract or purchase order, the services have been performed,
the price is fixed or determinable and collectability is reasonably assured.



Research and Development



All research
and development costs are expensed as incurred. The value of acquired in-process research and development is charged to expense on the date of acquisition. Research and development expenses include, but are not limited to, acquired in-process
technology deemed to have no alternative future use, license fees related to license agreements, preclinical and clinical trial studies, payroll and personnel expense, and lab supplies,



39



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



consulting and research-related overhead. Research and development expenses paid in the form of cash and Company stock to related parties aggregated $11.5
million for the period from inception (August 15, 1994) to December 31, 2003 (see Note 6, Colthurst, Edenland and Mr. Prendergest and Aeson Therapeutics). No such related party expenses were incurred in 2004.



Accounting for Stock-Based Compensation



The Company has elected to follow Accounting Principles Board Opinion No. 25
(APB 25), Accounting for Stock Issued to Employees, and related interpretations in accounting for its employee stock options rather than the alternative fair value accounting provided for under SFAS No. 123,
Accounting and Disclosure for Stock-Based Compensation. The Company has also adopted the pro forma disclosure requirements of SFAS No. 148, Accounting for Stock-Based CompensationTransition and Disclosure an
amendment of FASB Statement No. 123. In accordance with APB 25, compensation cost relating to stock options granted by the Company is measured as the excess, if any, of the market price of the Companys stock at the date of grant over
the exercise price of the stock options. This expense is recognized over the vesting period of the stock options.



As required by SFAS No. 148 and SFAS No. 123, the Company provides pro forma net income and pro forma net income per common share disclosures for
stock-based awards made during the periods presented as if the fair-value-based method defined in SFAS No. 123 had been applied.



For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options vesting period. The
Companys pro forma information for the years ended December 31 is as follows (in thousands, except per share amounts):



|                                                                                                                |  |                         |         |   |      |   |         |      |  |   |         |  
|--------------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------- | -
|                                                                                                                |  | Year ended December 31, |        
|                                                                                                                |  | 2004                    |         |   | 2003 |   |         | 2002 | 
|Net lossAs reported                                                                                            |  | $                       | (24,757 | ) |      | $ | (25,671 | )    |  | $ | (17,502 | )
|Add: Stock-based employee compensation expense included in reported net loss, net of tax                        |  |                         | -0-     |   |      |   | 122     |      |  |   | -0-     |  
|Deduct: Total stock-based employee compensation expense determined under fair-value-based method for all awards |  |                         | (5,203  | ) |      |   | (4,865  | )    |  |   | (5,570  | )
|                                                                                                                |  |                         |         |   |      |   |         |      |  |   |         |  
|Net lossPro forma                                                                                              |  | $                       | (29,960 | ) |      | $ | (30,414 | )    |  | $ | (23,072 | )
|Basic and diluted net loss per shareAs reported                                                                |  | $                       | (1.28   | ) |      | $ | (1.67   | )    |  | $ | (1.35   | )
|Basic and diluted net loss per sharePro forma                                                                  |  | $                       | (1.55   | ) |      | $ | (1.98   | )    |  | $ | (1.78   | )



Income Taxes



The Company provides for income taxes under the principles of SFAS 109
which requires that provision be made for taxes currently due and for the expected future tax effects of temporary differences between book and tax bases of assets and liabilities.



Financial Instruments



The Companys financial instruments consist primarily of cash, other receivables and accounts payable. These financial instruments are stated at
their respective carrying values, which approximate their fair values, due to their short term nature.



40



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



Use of Estimates



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



Net Loss per Share



Basic net loss per share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted net loss per share is computed in a manner consistent with basic net loss per share after
giving effect to potentially dilutive securities. Potential common shares of 7,813,643, 7,097,978, and 6,254,853 related to the Companys outstanding stock option and warrants were excluded from the computation of diluted net loss per share for
the years ended December 31, 2004, 2003 and 2002 because their effect on net loss per share is anti-dilutive.



Recent Accounting Pronouncements



In December 2004, SFAS No. 123(R), Share-Based Payment, which addresses the accounting for employee stock options, was issued. SFAS 123(R) revises the disclosure provisions of SFAS 123 and supercedes APB
Opinion No. 25. SFAS 123(R) requires that the cost of all employee stock options, as well as other equity-based compensation arrangements, be reflected in the financial statements based on the estimated fair value of the awards. This statement is
effective for all public entities that file as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. We are currently evaluating the provisions of FAS 123R and its effect on our financial statements. The
effect of adopting this statement on the Companys historical statements of operations is reflected on a proforma basis in the Accounting for Stock-Based Compensation section of Note 2 to the financial statements. The Company has
not elected to early implement SFAS 123(R) for the year ended December 31, 2004.



In December 2004, the FASB issued SFAS 153, Exchanges of Nonmonetary Assets, an Amendment of APB Opinion No. 29 (SFAS 153). The guidance in APB Opinion No. 29, Accounting for Nonmonetary Transactions, is based on the
principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in APB Opinion No. 29, however, included certain exceptions to that principle. SFAS 153 amends APB Opinion No. 29 to
eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the
future cash flows of the entity are expected to change significantly as a result of the exchange. SFAS 153 is effective for nonmonetary asset exchanges in fiscal periods beginning after June 15, 2005. We do not believe that the adoption of SFAS 153
will have a material impact on our results of operations or financial position.



|3. | Recapitalization
|-- | ----------------



During March 1997, Hollis-Eden Inc. was merged (the Merger) with and into the Company (then known as Initial Acquisition Corp. (IAC)). Upon
consummation of the Merger, Hollis-Eden Inc. ceased to exist, and IAC changed its name to Hollis-Eden Pharmaceuticals, Inc. IAC (now called Hollis-Eden Pharmaceuticals, Inc.) remains the continuing legal entity and registrant for Securities and
Exchange Commission reporting purposes. The Merger was accounted for as a recapitalization of Hollis-Eden Inc. by an exchange of Common Stock of Hollis-Eden Inc., for the net assets of IAC, consisting primarily of $6.5 million in cash and other
receivables.



41



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



Under the terms of the merger agreement, each share of Hollis-Eden Inc. Common Stock outstanding
converted into one share of Common Stock of Hollis-Eden Pharmaceuticals, Inc. Common Stock (Company Common Stock), and all warrants and options to purchase Hollis-Eden Inc. Common Stock outstanding converted into the right to receive the
same number of shares of Company Common Stock.



Upon the
consummation of the Merger, pursuant to an agreement, the Company issued warrants to purchase an aggregate of 50,000 shares of Company Common Stock at an exercise price of $0.10 per share to a director and former officer. Additional paid-in capital
was increased by $570,000 with an offsetting $570,000 charge recorded to operations during the three months ended March 31, 1997.



|4. | Receivable from Related Party
|-- | -----------------------------



On April 23, 2001, the Company entered into a promissory note with a stockholder/officer in the amount of $16,875. Interest was at 4.5% per annum. The
promissory note was paid in full prior to the due date of April 23, 2004, with three annual payments.



On May 22, 1998, the Company entered into a promissory note with a stockholder/officer in the amount of $200,000. Interest was at 5.5% per annum. The note
was repaid in full in May 2003.



|5. | Income Taxes
|-- | ------------



The Company has available a net operating loss carryforward of approximately $103 million at December 31, 2004 which may be carried forward as an
offset to taxable income, if any, in future years through its expiration in 2012 to 2024. The Company has a net deferred tax asset of approximately $41 million at December 31, 2004 comprised of capitalized start-up costs, research and development
credits, and the net operating loss carryforward. The net deferred tax asset has been fully reserved due to the uncertainty of the Company being able to generate taxable income under the more likely than not criteria of SFAS 109. If certain
substantial changes in the Companys ownership should occur, there would potentially be an annual limitation on the amount of the carryforwards, which could be utilized in a tax year. The Company has not performed a section 382
change in control test to date. Until this test is performed, the Company cannot be certain of the use of the loss carryforwards.



|6. | Related Party Licenses and other Agreements and Contingencies
|-- | -------------------------------------------------------------



Colthurst, Edenland and Mr. Prendergast



During 1994, the Company entered into two license agreements and one research, development and option agreement as discussed in the following paragraphs.



Pursuant to a license agreement dated May 18, 1994
(Colthurst License Agreement) with related parties, Patrick T. Prendergast, a significant stockholder at the time, and with Colthurst Limited, a company controlled by Mr. Prendergast, the Company acquired the exclusive worldwide rights
to Mr. Prendergasts patent rights, know-how and background technology relating to the treatment of human/animal immunodeficiency. The agreement was amended on August 11, 1995 to change the license fee payment terms as discussed below in
paragraph four of this Note. Per the license agreement, the Company agreed to pay royalties on product revenues.



On August 25, 1994, the Company entered into a license agreement (Edenland License Agreement) with a related party, Edenland Inc., a company
controlled by Mr. Prendergast, for the exclusive worldwide rights to



42



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



Mr. Prendergasts patent rights, know-how and background technology related to the substance tradenamed HE317 and to any other pharmaceutical
product that became subject to the license agreement under the research, development and option agreement discussed below. The agreement was amended on August 11, 1995 to change the license fee payment terms as discussed in the following paragraph.
Per the Edenland License Agreement, the Company agreed to pay royalties on product revenues.



Effective August 11, 1995, Edenland, Inc., Colthurst Limited and the Company entered into amendments concerning the license fee payment terms to the two agreements described above. Under this amendment, the Company
agreed to pay a license fee by April 28, 1996 plus additional license fees within 24 months of April 1996. The balances of these fees were paid in full by May 1997. As consideration for entering into certain amendments, the Company issued
75,472 shares of the Companys common stock to Edenland, Inc. and Colthurst Limited.



Per the amended Colthurst License Agreement, a renewal annual license fee was payable commencing May 1998. The Company paid this fee in 1998 by issuing shares of its common stock and, in 1999, paid in cash.



In August 1994, the Company entered into a Research,
Development and Option Agreement, with Edenland, Inc. and Mr. Prendergast. The agreement provided for the development of HE317 to a certain stage of development and granted the Company the right of first option on new products developed by Edenland,
Inc. The agreement committed the Company to pay for certain development costs up to the amount of $3.0 million with certain contingencies for funding. In October 1996, the Company and Edenland, Inc. entered into an amendment, which accelerated the
date that the $3.0 million payment for HE317 or other product development costs was to be made. The Company paid $2.7 million during 1997 and the remaining $300,000 in April 1998.



During November 1999, the Company filed two separate requests for arbitration with Mr. Prendergast, Colthurst and Edenland.
The first arbitration sought clarification of certain operational issues with respect to roles and responsibilities set forth in the license agreement covering IMMUNITIN. The second arbitration sought to rescind both of the agreements with Edenland
covering future potential drug candidates other than IMMUNITIN.



On January 20, 2000, Hollis-Eden reached a settlement on its pending arbitrations with Mr. Prendergast, Colthurst and Edenland. The Settlement and Mutual Release Agreement completely disposed of all of the matters that were at issue in the
pending arbitrations. In addition, the parties entered into two new technology agreements, the Technology Assignment Agreement and the Sponsored Research and License Agreement.



The Technology Assignment Agreement replaces the Colthurst License Agreement. Pursuant to the Technology Assignment
Agreement, Mr. Prendergast and Colthurst assigned to Hollis-Eden ownership of all patents, patent applications and current or future improvements of the technology under the Colthurst License Agreement, including IMMUNITIN, Hollis-Edens lead
clinical compound. The annual license fee of $500,000 and the royalty obligations under the Colthurst License Agreement were eliminated. In consideration for the foregoing, Hollis-Eden agreed to issue to Colthurst 660,000 shares of Common Stock and
a warrant to purchase an aggregate of 400,000 shares of Common Stock at $25 per share. Only 132,000 of such shares of Common Stock were issued in 2000, with the remaining 528,000 shares to be issued over the next four years conditioned on continued
compliance with the agreement and, in particular, satisfaction of the Conditions (as defined below). In addition, all of the shares under the warrant vest over four years conditioned on continued compliance with the agreement and, in particular,
satisfaction of the Conditions (as defined below). The Sponsored Research and License Agreement replaces the Edenland License Agreement and the Research, Development and Option Agreement. Pursuant to the Sponsored Research and License Agreement,
Edenland exclusively licensed to



43



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



Hollis-Eden a number of compounds, together with all related patents and patent applications, and Hollis-Eden agreed to fund additional preclinical research
projects conducted by Edenland. Hollis-Eden will also have exclusive license rights to all results of such research and will have royalty obligations to Edenland on sales of new products, if any, resulting from such research.



As stated above, the issuance of the additional shares of Common Stock and
the vesting of the warrant was dependent upon the satisfaction of certain conditions (the Conditions), including (i) support of Hollis-Edens actions by Mr. Prendergast and Colthurst, by voting their shares of Hollis-Eden stock in
favor of management and (ii) Mr. Prendergast and his affiliated companies not conducting research and development activities relating to the transferred technology. In accordance with Emerging Issues Task Force No. 96-18, Accounting for Equity
Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services, these future events could not be determined at the date of the agreements (January 2000). Accordingly, the shares and
warrants are accounted for as they vest or are issued. During 2000, the Company recorded a research and development charge for $1.9 million representing the fair value of the 132,000 shares issued under the agreement.



Because all of the Conditions have not been satisfied, Hollis-Eden has not
issued any additional shares to Colthurst and believes it has no obligation to issue any additional shares and that the warrant will not vest as to any shares of Common Stock.



On May 17, 2004, the Company received a copy of a Demand for Arbitration from Colthurst, Edenland and Mr. Prendergast,
claiming, among other things, that the Company breached the agreements with them when the Company did not issue to Colthurst the remaining 528,000 shares of the Companys common stock and declared that the warrant to purchase up to 400,000
shares of the Companys common stock would not vest as to any shares, as described above.



While the Company cannot guarantee that, as a result of this dispute, additional equity will not be issued or that an additional accounting charge will not be made, the Company is confident in the analysis that
Colthurst did not satisfy the conditions required to receive the additional shares of the Companys common stock and the shares underlying the warrant, and the Company believes that the claims underlying the demand for arbitration are without
merit. The Company intends to contest these claims vigorously, and has filed a counterclaim in arbitration seeking damages from Colthurst, Edenland and Mr. Prendergast for numerous breaches of these agreements by them. The Company does not believe
that this litigation will have a material adverse effect on the Company or the Companys financial condition.



Aeson Therapeutics



In October 2000, the Company acquired a 21% equity stake in Aeson Therapeutics Inc. (Aeson) and an exclusive worldwide sublicense to three
issued patents in the area of adrenal steroids in exchange for $2.0 million in cash and 208,672 shares of Common Stock valued at $2 million. The cash and shares were expensed as in-process R&D during the fourth quarter of 2000. As part of the
transaction, Aeson and its shareholders granted the Company an exclusive option to acquire the remainder of Aeson at a predetermined price.



In March 2002, the Company amended certain of its agreements with Aeson. Under the amendments, the Company paid Aeson $1.2 million, which extended the
initial date by which the Company could exercise its option to acquire the remainder of Aeson to September 30, 2002. Hollis-Eden also received additional equity securities as a result of its $1.2 million payment and now has approximately a 25%
equity stake in Aeson. The $1.2 million payment was expensed as in-process R&D.



44



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



Hollis-Eden elected not to exercise the option to acquire the remainder of Aeson by September 30,
2002. Accordingly, the option to acquire Aeson has now expired. The Company continues to hold a 25% equity interest in Aeson which is accounted for under the equity method.



Pharmadigm



In August 2002, we entered into a Sublicense Agreement with Pharmadigm, Inc. Under the agreement, we obtained exclusive worldwide rights to certain
intellectual property of Pharmadigm and the University of Utah and we agreed to make aggregate payments of $0.9 million in cash or in shares of our common stock, at our option, over the next year. This cost was expensed in the third quarter of 2002.
We elected to make such payments in equity and have issued a total of 168,921 shares of our common stock in complete satisfaction of this requirement (of which 118,921 were issued the quarter ended March 31, 2003). We may also make substantial
additional milestone and royalty payments in cash to Pharmadigm if we meet specified development and commercialization milestones for products covered by the patents. To date, no such milestones have been met to date. The principal patents licensed
under the agreement, originally licensed to Pharmadigm from the University of Utah, relate to inventions by Dr. Raymond Daynes and Dr. Barbara A. Areneo. Dr. Daynes served as a scientific consultant to Hollis-Eden from 1999 to mid-2003.



Congressional Pharmaceutical



In February 2004, the Company acquired Congressional Pharmaceutical
Corporation (CPC) and replaced CPC as the exclusive licensee to certain intellectual property rights held by the University of Chicago. These intellectual property rights consist of a series of patents and patent applications that relate
to discoveries made by David J. Grdina, Ph.D., Professor of Radiation and Cellular Oncology at the University of Chicago. The patented technology covers a series of compounds that have the potential to protect against DNA mutations that can occur as
a result of radiation injury or chemotherapy. In the acquisition the Company issued approximately 50,000 shares of common stock to the former stockholders of CPC valued at approximately $650,000, in accordance with Emerging Issues Task Force No.
99-12. In addition, if the Company achieves certain development milestones, it will be required to issue additional shares of our common stock to the former stockholders of CPC. In the event all of the milestones are achieved, the total number of
additional shares that the Company would be required to issue to the former stockholders of CPC is 275,000, more than half of which would be issued only upon FDA approval of CPCs product. No such milestone has been met to date. Furthermore,
upon regulatory approval and commercialization of products covered by the licensed intellectual property, the Company may be required to pay royalties to the former stockholders of CPC and the University of Chicago. Following the acquisition, Dr.
Grdina agreed to an exclusive consulting arrangement with the Company in the fields of hematopoiesis and radiation and chemotherapy exposure.



|7. | Common Stock
|-- | ------------



Reverse Stock Splits



During February 1995, there was a 3-for-5 reverse stock split of the Companys common stock and in March 1996, a 1-for-2.65 reverse stock split of the Companys common stock. Both reverse stock splits have been retroactively
reflected for all periods presented.



Common Stock Financings



In January 1996, the Company completed a $367,522
round of debt financing with a group of private investors. These notes, with an 8% interest rate, were due on or before the earlier of (i) January 21, 1997 or (ii)



45



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



the closing of a private or public offering of securities. During April 1996, the debt financing, plus accrued interest, was converted into 164,962 shares of
common stock at a price of $2.25 per share. In April 1996, the Company privately issued 580,005 shares of the Companys common stock at an offering price of $2.25 per share. Total proceeds from this offering aggregated $1,234,499.



During May 1998, the Company completed a private financing totaling $20.6
million in gross proceeds. The Company issued 1,329,201 shares of common stock, (of which 192,061 shares were subject to adjustment based on future average stock price (Adjustable Common Stock)), 4,000 shares of 5% Series A Convertible
Preferred Stock and warrants to purchase 1,437,475 shares of common stock in the financing. The warrants entitled the holders to purchase up to a total of 1,437,475 shares of common stock at a price of $17.00 per share.



The Convertible Preferred Stock had an initial conversion price of $20.30 for
the first seven months, after which it could be adjusted, either up or down, based on the future stock prices of the Companys common stock. The Convertible Preferred Stock was converted to common stock in January 1999 (See Note 8).



In January 1999, the Company completed two private placements of an
aggregate of 1,367,868 shares of common stock at prices ranging from $18.00 to $18.50 per share. In connection with the private placements, the Company issued warrants to purchase an aggregate of 90,000 shares of the Companys common stock,
with an exercise price of $18.25 per share, as a finders fee. The Company raised approximately $25.0 million in gross proceeds.



During December 2001, the Company raised $11.5 million in gross proceeds from the sale of 1.28 million shares of newly issued common stock in a private
placement at a price of $9.00 per share. The investors were a group of qualified institutional buyers and institutional accredited investors. The Company also issued warrants to purchase up to 128,000 shares of common stock having an exercise price
of $12.00 per share to investors. As a finders fee, the Company issued to its placement agent two warrants for a total of 112,640 shares of common stock, one warrant with an exercise price of $9.00 and the other with an exercise price of $12.00.



On February 25, 2003, we completed a private placement in
which we issued $10.0 million aggregate principal amount of three-year convertible debentures (debentures), bearing interest at 7.5% per year, and warrants to purchase up to 701,760 shares of common stock. The debentures were convertible
into common stock at a price of $5.70 per share, which represented a discount from the price of our common stock on the commencement date. Also issued in connection with this private placement were warrants to purchase up to 350,880 shares of common
stock which are exercisable at a price per share of $6.17, subject to adjustment, and warrants to purchase up to 350,880 shares of common stock which are exercisable at a price per share of $6.71, subject to adjustment. The warrants are exercisable
until February 25, 2007.



In connection with the issuance of
the debentures and warrants, we recorded approximately $3.5 million related to the beneficial conversion feature and approximately $3.0 million for the detachable warrants on the debentures. The total amount of the deemed discount on the debentures
as a result of the warrant issuance and the beneficial conversion feature amounts to $6.5 million. The beneficial conversion feature and warrant value (deemed discount) were amortized over the term of the debentures and as conversion of the
debentures occurred.



On June 20, 2003, convertible debentures
with a face value of $0.5 million were converted into 87,720 shares of our common stock leaving a $9.5 million aggregate principle amount of convertible debentures outstanding. On August 11, 2003, the remaining aggregate principal amount of
convertible debentures with a face value of $9.5 million were converted into 1,666,680 shares of our common stock with a value of $5.70 per share.



46



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



During June 2003, the Company completed a private placement of common stock and warrants, from which
it received gross proceeds of $14.7 million. In October 2003 the Company completed a public offering of an aggregate of 2,500,000 shares of common stock at a price of $25.00 per share and received $62.5 million in gross proceeds from this offering.



|8. | Preferred Stock
|-- | ---------------



During May 1998, as part of a private placement, the Company issued 4,000 shares of Convertible Preferred Stock for proceeds of $4.0 million. The proceeds
of the offering are included in the proceeds to the May 1998 financing described in Note 7, above.



During January 1999, the Company issued 346,127 shares of common stock in connection with the conversion of the Series A Convertible Preferred Stock and
additional shares relating to the Adjustable Common Stock. The Adjustable Common Stock was issued during the private placement of May 1998 and was subject to adjustment based on the future average stock price of the Companys common stock as
described in Note 7. Upon conversion, all outstanding shares of Preferred stock and Adjustable Common stock were eliminated.



In November 1999, the Company adopted a Shareholders Rights Plan in which Preferred Stock purchase rights (Rights) were distributed as a
dividend at the rate of one Right for each share of common stock held as of the close of business on November 29, 1999. Each right entitles stockholders to buy, upon certain events, one one-hundredth of a share of a new Series B junior participating
preferred stock of the Company at an exercise price of $100.00. The Rights are designed to guard against partial tender offers and other abusive tactics that might be used in an attempt to gain control of the Company or to deprive stockholders of
their interest in the long-term value of the Company. The Rights are exercisable only if a person or group acquires 15% or more of the Companys common stock or announces a tender offer of which the consummation would result in ownership by a
person or group of 15% or more of the Companys common stock. The Rights are redeemable for one cent per Right at the option of the Board of Directors prior to this event occurring. The Rights expire on November 14, 2009.



47



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



|9. | Stock Options
|-- | -------------



1997 Stock Option Plan



The 1997 Stock Option Plan (the Plan) was approved by the Companys stockholders in 1997. Under the Plan, 5,150,000 shares of common stock have been reserved for issuance to employees, officers, directors, and consultants
of the Company and provides for the grant of incentive and nonstatutory stock options. The Board of Directors determines terms of the stock option agreements, including vesting requirements. The exercise price of incentive stock options must equal
at least the fair market value on the date of grant. The options expire not later than ten years from the date of the grant and generally are exercisable ratably over a three-year or four-year period beginning one-year from the date of the grant.
The following table summarizes stock option activity under the Plan for 1997 through 2004 (in thousands, except per share amounts):



|                               |  |        |  |                 |             |                  |   |      
|------------------------------ |  | ------ |  | --------------- | ----------- | ---------------- | - | -----
|                               |  |        |  | Price Per Share
|                               |  | Shares |  | Range           |             | Weighted Average
|1997                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 518    |  | $               | 6.75-8.70   |                  | $ | 7.13 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1997 |  | 518    |  | $               | 6.75-8.70   |                  | $ | 7.13 
|                               |  |        | 
|1998                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 341    |  |                 | 13.25-16.75 |                  |   | 14.52
|Forfeited                      |  | 100    |  |                 | 8.70        |                  |   | 8.70 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1998 |  | 759    |  | $               | 6.75-16.75  |                  | $ | 10.24
|                               |  |        | 
|1999                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 776    |  |                 | 10.56-16.63 |                  |   | 12.70
|Forfeited                      |  | 61     |  |                 | 14.06-14.63 |                  |   | 14.63
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1999 |  | 1,474  |  | $               | 6.75-16.75  |                  | $ | 11.36
|                               |  |        | 
|2000                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 774    |  |                 | 6.50-15.06  |                  |   | 8.18 
|Exercised                      |  | 1      |  |                 | 6.75        |                  |   | 6.75 
|Forfeited                      |  | 24     |  |                 | 6.75-15.13  |                  |   | 14.22
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2000 |  | 2,223  |  | $               | 6.50-16.75  |                  | $ | 10.22
|                               |  |        | 
|2001                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 170    |  |                 | 3.53-11.84  |                  |   | 6.13 
|Forfeited                      |  | 65     |  |                 | 5.09-16.63  |                  |   | 13.31
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2001 |  | 2,328  |  | $               | 3.53-16.75  |                  | $ | 9.80 
|                               |  |        | 
|2002                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 696    |  |                 | 5.15-10.10  |                  |   | 9.48 
|Forfeited                      |  | 55     |  |                 | 5.13-13.13  |                  |   | 8.17 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2002 |  | 2,969  |  | $               | 3.53-16.75  |                  | $ | 10.98
|                               |  |        | 
|2003                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 943    |  |                 | 2.25-17.83  |                  |   | 6.59 
|Exercised                      |  | 85     |  |                 | 4.50-13.13  |                  |   | 11.25
|Forfeited                      |  | 66     |  |                 | 4.00-16.75  |                  |   | 12.17
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2003 |  | 3,761  |  | $               | 2.25-17.83  |                  | $ | 8.88 
|                               |  |        | 
|2004                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 596    |  |                 | 8.54-15.20  |                  |   | 13.69
|Exercised                      |  | 4      |  |                 | 3.53-5.29   |                  |   | 3.75 
|Forfeited                      |  | 46     |  |                 | 10.56-17.83 |                  |   | 13.66
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2004 |  | 4,307  |  | $               | 2.25-17.83  |                  | $ | 9.50 



48



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



The Company entered into stock option agreements with certain directors, officers and consultants.
These options became exercisable according to a schedule of vesting as determined by the Board of Directors. During 2002, 2003 and 2004 the Company granted options to certain directors, officers, and consultants, and will recognize $17,000, $730,000
and $100,800, respectively, in expense related to these options over the vesting periods. Expenses related to options for consultants and directors were $66,000, $630,000 and $34,000 in 2002, 2003 and 2004, respectively. The remaining $56,000 charge
for these options will be expensed over the remaining vesting period of the options.



As of December 31, 2004, the total remaining shares of common stock available for grant on the 1997 Stock Option Plan is 752,665.



Non-Plan Options



During 1995 and 1996, the Company granted non-statutory stock options to purchase a total of 608,000 shares to directors, officers and consultants. In
2004, the Company granted non-statutory stock options to purchase a total of 170,000 shares to directors and officers. As of December 31, 2004, options to purchase 170,000 shares were outstanding.



In February 1997, as part of an employment agreement, the Company granted a
non-statutory stock option to an executive to purchase 2,400,000 shares of the Companys common stock at a price of $5.00 per share, which option vested ratably over a six-year period. The intrinsic value of the options was $1,848,000. As a
result, the Company recorded as deferred compensation a non-cash charge of $1,848,000, which was being amortized ratably over the six-year vesting period. Through February 1999, the Company had amortized a total of $641,333. In March 1999, the
Company announced the resignation of this executive, at which time the Company and the executive agreed that the option would remain outstanding for a total of 1,200,000 shares, including the acceleration of vesting of 400,000 shares. This
acceleration is considered to be a new grant of options and, as such, the Company took a one-time non-cash charge of $4.9 million during the first quarter of 1999. No change was made to the terms of the option for the remaining 800,000 shares.



In March 1999, the Company granted a non-statutory stock
option to purchase 300,000 shares to an officer.



On June 18,
2004, the Company granted stock options to purchase a total of 80,000 shares of common stock of the Company, at an exercise price of $11.75 per share, the fair market value of the date of grant, to two new directors. Options to purchase one-third of
the total number of shares vest upon the first anniversary of the grant, and options to purchase the remaining shares vest in equal monthly installments over the following two years.



On June 24, 2004, the Company granted stock options to purchase 50,000 shares of common stock of the Company, at an exercise
price of $11.70 per share, the fair market value at the date of grant, to a new executive officer. Options to purchase one-fourth of the total number of shares vest upon the first anniversary of the grant, and options to purchase the remaining
shares vest in equal monthly installments over the following three years.



On September 20, 2004, the Company granted stock options to purchase 40,000 shares of common stock of the Company, at an exercise price of $10.79 per share, the fair market value at the date of grant, to a new
executive officer. Options to purchase one-fourth of the total number of shares vest upon the first anniversary of the grant, and options to purchase the remaining shares vest in equal monthly installments over the following three years.



49



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



The following table summarizes stock option activity not pursuant to the Plan for 1995 through 2004
(in thousands, except per share amounts):



|                               |  |        |  |                 |             |                  |   |      
|------------------------------ |  | ------ |  | --------------- | ----------- | ---------------- | - | -----
|                               |  |        |  | Price Per Share
|                               |  | Shares |  | Range           |             | Weighted Average
|1995                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 38     |  | $               | 2.65-7.95   |                  | $ | 4.64 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1995 |  | 38     |  | $               | 2.65-7.95   |                  | $ | 4.64 
|                               |  |        | 
|1996                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 570    |  |                 | 2.25        |                  |   | 2.25 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1996 |  | 608    |  | $               | 2.25-7.95   |                  | $ | 2.40 
|                               |  |        | 
|1997                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 2,400  |  |                 | 5.00        |                  |   | 5.00 
|Forfeited                      |  | 50     |  |                 | 2.25        |                  |   | 2.25 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1997 |  | 2,958  |  | $               | 2.25-7.95   |                  | $ | 4.51 
|                               |  |        | 
|1998                           |  |        |  |                 |             |                  |   |      
|Exercised                      |  | 53     |  |                 | 2.25-5.30   |                  |   | 2.93 
|Forfeited                      |  | 50     |  |                 | 2.25        |                  |   | 2.25 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1998 |  | 2,855  |  | $               | 2.25-7.95   |                  | $ | 4.58 
|                               |  |        | 
|1999                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 300    |  |                 | 16.63       |                  |   | 16.63
|Exercised                      |  | 10     |  |                 | 7.95        |                  |   | 7.95 
|Forfeited                      |  | 1,220  |  |                 | 2.25-5.00   |                  |   | 4.95 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 1999 |  | 1,925  |  | $               | 2.25-16.63  |                  | $ | 6.16 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2000 |  | 1,925  |  | $               | 2.25-16.63  |                  | $ | 6.16 
|                               |  |        | 
|2001                           |  |        |  |                 |             |                  |   |      
|Exercised                      |  | 10     |  |                 | 2.25        |                  |   | 2.25 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2001 |  | 1,915  |  | $               | 2.25-16.63  |                  | $ | 6.23 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2002 |  | 1,915  |  | $               | 2.25-16.63  |                  | $ | 6.23 
|                               |  |        | 
|2003                           |  |        |  |                 |             |                  |   |      
|Forfeited                      |  | 165    |  |                 | 2.25        |                  |   | 2.25 
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2003 |  | 1,750  |  | $               | 2.25-16.63  |                  | $ | 6.60 
|                               |  |        | 
|2004                           |  |        |  |                 |             |                  |   |      
|Granted                        |  | 170    |  | $               | 10.79-11.75 |                  | $ | 11.51
|                               |  |        |  |                 |             |                  |   |      
|Outstanding, December 31, 2004 |  | 1,920  |  | $               | 2.25-16.63  |                  | $ | 7.04 



50



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



For various price ranges, weighted average characteristics of outstanding stock options at December
31, 2004 were as follows:



|                        |        |                     |                       |                     |                       |   |        |  |                       |  |   |      
|----------------------- | ------ | ------------------- | --------------------- | ------------------- | --------------------- | - | ------ |  | --------------------- |  | - | -----
|Range ofExercise Prices |        | Outstanding options |                       | Exercisable options
|                        | Shares |                     | Remaininglife (years) |                     | Weightedaverage price |   | Shares |  | Weightedaverage price
|$  2.25-$  4.99         |        | 441,146             |                       | 2.2                 |                       | $ | 2.38   |  | 437,384               |  | $ | 2.36 
|$  5.00-$  8.99         |        | 2,883,456           |                       | 5.3                 |                       |   | 5.69   |  | 2,520,749             |  |   | 5.69 
|$  9.00-$12.99          |        | 1,532,548           |                       | 7.0                 |                       |   | 10.64  |  | 1,032,547             |  |   | 10.48
|$13.00-$17.99           |        | 1,369,500           |                       | 6.0                 |                       |   | 15.15  |  | 876,990               |  |   | 15.28
|                        |        |                     |                       |                     |                       |   |        |  |                       |  |   |      
|Balance as of12/31/2004 |        | 6,226,650           |                       | 5.66                |                       | $ | 8.76   |  | 4,867,670             |  | $ | 8.14 



Pro Forma
Disclosures of Net Income



The Company has elected to
account for its stock-based compensation plans under APB 25 (see Note 2); however, for pro forma disclosure purposes, the Company has computed the value of all options granted to employees during 2002 through 2004, using the Black-Scholes option
pricing model with the following weighted average assumptions:



|                        |  |         |  |         |  |        
|----------------------- |  | ------- |  | ------- |  | -------
|                        |  | 2004    |  | 2003    |  | 2002   
|Risk free interest rate |  | 3.34%   |  | 3.27%   |  | 4.25%  
|Expected divided yield  |  | 0%      |  | 0%      |  | 0%     
|Expected lives          |  | 5 years |  | 5 years |  | 5 years
|Expected volatility     |  | 180%    |  | 122%    |  | 93%    



The Black-Scholes
option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions
including the expected stock price volatility. Because the Companys employee stock options have characteristics significantly different from those of traded options, and because changes in subjective input assumptions can materially affect the
fair value estimate, in managements opinion, the existing models do not necessarily provide a reliable single measure of the fair value of the Companys options.



The weighted average, estimated fair values of employee stock options granted during fiscal 2004, 2003 and 2002 were $11.49,
$6.31 and $8.00 per share, respectively.



|10. | Common Stock Purchase Warrants
|--- | ------------------------------



Series A Warrants



During April 1996, in accordance with anti-dilution privileges triggered by an offering in March 1995, the Company issued 1,018,866 Series A Warrants to
all stockholders of record as of March 1995 to purchase the same number of shares of common stock at a price of $11.02 per share. The warrants expired January 2002, except for one warrant for 393,250 shares, which expires January 7, 2006.



51



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



IAC Management Warrants



During April 1994, the Company issued warrants, to existing shareholders and management, to purchase 160,000 units (the
Units) at $10.00 per Unit, each unit to be identical to the Units issued as part of its initial public offering. Each Unit consists of (i) one share of common stock, $.01 par value per share and (ii) one Class A Warrant entitling the
holder to purchase one share of common stock at a price of $9.00 per share. The warrants have expired except for one warrant to purchase 50,000 units, which expires March 18, 2005.



Representatives Warrants



In connection with the Companys initial public offering, the Company issued warrants to the underwriters for 60,000
Units at an exercise price of $11.00 per Unit and 24,000 Class B Warrants at an exercise price of $5.775 per warrant and were exercisable until May 2000. Each Class B Warrant entitled the holder to purchase one Unit (i.e. one share of common stock
and one Class A Warrant). The unexercised warrants have expired.



Investor Relations Warrant



During
February 1998, as part of payment for services relating to investor relations, the Company issued a warrant to purchase 150,000 shares with an exercise price of $14.75 per share and an expiration date of February 1999. The warrant was estimated to
have a value of $408,000, which was expensed in 1998. This warrant was exercised.



1998 Private Placement Warrants



In connection with the May 1998 private placement, the Company issued warrants to purchase 1,437,475 shares of common stock at an exercise price of $17.00 per share. The warrants were exercisable until May 2001. Of
the warrants issued, 157,000 were issued as finders fees, and 1,280,475 were issued to the private placement investors. These warrants have expired.



1999 Agent Warrants



In connection with the January 1999, private placement, the Company issued warrants as a finders fee to purchase 90,000 shares of common stock at an
exercise price of $18.25 per shares. The warrants expired January 2002.



1999 Consulting Warrant



During March
1999, the Company entered into a three-year agreement with a financial consulting organization affiliated with a director of the Company. The Company agreed to issue as compensation for services, a warrant to purchase 500,000 shares of common stock
with an exercise price of $20.50 per share and an expiration date of March 2002. The warrant was not subject to any vesting provisions. The warrant was estimated to have a value of approximately $2.1 million, which was expensed as a non-cash charge
during the first quarter of 1999. During 2001, the expiration date for this warrant was extended to March 2003.



During March 2003, the Company amended the consulting arrangement with the same financial organization affiliated with a director. The Company amended the
warrant so that the warrant is now exercisable into an aggregate of 250,000 shares of common stock with an exercise price of $10.00 per share and an expiration date of the earlier of March 12, 2006 or thirty days after the consulting agreement is
terminated. A



52



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



non-cash charge of approximately $0.8 million was expensed. For accounting purposes, the original warrant was considered cancelled and a new warrant issued
as a replacement.



2001 Consulting Warrants



During April 2001, the Company issued warrants to
purchase 25,000 shares of common stock at an exercise price of $3.09. The warrants expire April 30, 2006. During July 2001, the Company issued warrants to purchase 25,000 shares of common stock at an exercise price of $6.225. These warrants are
exercisable until July 31, 2006. These warrants, collectively, were issued for compensation for services and were estimated to have a combined value of approximately $208,000, which was expensed as a non-cash charge. Approximately 15% of these
warrants have been exercised.



During the fourth quarter of
2001, the Company issued three-year warrants to purchase 16,870 shares of common stock with exercise prices ranging from $4.72 to $10.10. The warrants have no vesting period, an estimated value of approximately $80,000 was expensed, and were issued
in lieu of cash for services. The majority of these warrants have not been exercised. The unexercised warrants have expired.



2001 Private Placement Warrants



In connection with the December 2001 private placement, the Company issued warrants to purchase 128,000 shares of common stock to investors with an
exercise price of $12.00. Warrants to purchase 68,329 shares of our common stock were exercised and the remaining warrants expired December 11, 2003.



As a finders fee, the Company issued two warrants with an expiration date of December 11, 2006 to the placement agent for a total of 112,640 shares of
common stock. One warrant has an exercise price of $9.00 and the other an exercise price of $12.00. The value ascribed to these warrants based on the Black-Scholes pricing model was $1.5 million and was included as a charge to equity. These warrants
have not been exercised.



2002 Consulting Warrants



In March 2002, the Company agreed to issue a
three-year warrant to a consultant, Dr. Joseph Hollis, to purchase up to 60,000 shares of common stock at an exercise price of $11.00 per share for services rendered in 2002. Dr. Hollis is the brother of Richard B. Hollis.



During the fourth quarter of 2002, the Company issued a three-year warrant to
purchase up to 10,000 shares of common stock at exercise price of $4.54 per share. The warrants were issued in lieu of cash for consulting services performed for the Company during 2002.



All of the 2002 warrants were valued at a total of $247,000 using the Black-Scholes pricing model. The value of the warrants
was expensed and is included in the 2002 operating expenses.



2003 Convertible Note and Warrants



On
February 25, 2003, the Company completed a private placement in which the Company issued $10.0 million aggregate principal amount of three-year convertible debentures (debentures), bearing interest at 7.5% per year, and warrants to
purchase up to 701,760 shares of common stock. The debentures are convertible into common stock at a price of $5.70 per share, which represented a discount from the price of common stock on the commencement date. Also issued in connection with this
private placement were warrants to purchase up to



53



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



350,880 shares of common stock which are exercisable at a price per share of $6.17, subject to adjustment, and warrants to purchase up to 350,880 shares of
common stock which are exercisable at a price per share of $6.71, subject to adjustment. The warrants are exercisable until February 25, 2007. Approximately half of these warrants have been exercised.



In connection with the issuance of the debentures and warrants, the Company
recorded approximately $3.5 million related to the beneficial conversion feature and approximately $3.0 million for the detachable warrants on the debentures. The total amount of the deemed discount on the debentures as a result of the warrant
issuance and the beneficial conversion feature amounts to $6.5 million. The beneficial conversion feature and warrant value (deemed discount) were amortized over the term of the debentures and as conversion of the debentures occurred.



The placement agent received a warrant to purchase 73,684 shares of common
stock having an exercise price of $5.99 per share. This warrant is exercisable until February 25, 2008. The value ascribed to this warrant based on the Black-Scholes pricing model was $0.4 million and was expensed as a non-cash charge. This warrant
has not been exercised.



2003 Private Placement Warrants



In connection with the June 2003 private placement,
the Company issued warrants to purchase 192,456 shares of common stock to investors with an exercise price of $15.45. These warrants expire June 19, 2007. These warrants have not been exercised.



As a finders fee, the Company issued a warrant with an expiration date of
June 19, 2008 to the placement agent, for a total of 44,266 shares of common stock with an exercise price of $13.22. The value ascribed to this warrant based on the Black-Scholes pricing model was $0.5 million. This warrant has not been exercised.



2004 Consulting Warrants



During 2004, the Company issued two two-year warrants to purchase up to a
total of 12,000 shares of common stock at exercise prices of $10.15 and $11.75 per share. The warrants were issued for consulting services performed for the Company.



The 2004 warrants were valued at a total of $108,280 using the Black-Scholes pricing model. The value of the warrants is
amortized according to the vesting period which approximates the period over which the services are performed. In 2004, $102,860 was expensed and is included in the 2004 operating expenses, the additional $5,420 will be expensed in 2005, over the
remaining vesting period.



54



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



The following table summarizes stock warrant activity for 2002 through 2004 (in thousands, except per
share amounts):



|                               |  |        |  |                  |             |  |   |      
|------------------------------ |  | ------ |  | ---------------- | ----------- |  | - | -----
|                               |  | Shares |  | Price Per Share 
|                               |  | Range  |  | Weighted Average
|Outstanding, December 31, 2001 |  | 2,005  |  | $                | 3.09-20.50  |  | $ | 13.40
|                               |  |        | 
|2002                           |  |        |  |                  |             |  |   |      
|Issued                         |  | 70     |  |                  | 4.54-11.00  |  |   | 10.08
|Forfeited                      |  | 704    |  |                  | 11.02-18.25 |  |   | 11.94
|                               |  |        |  |                  |             |  |   |      
|Outstanding, December 31, 2002 |  | 1,371  |  | $                | 3.09-20.50  |  | $ | 13.97
|                               |  |        | 
|2003                           |  |        |  |                  |             |  |   |      
|Issued                         |  | 1,262  |  |                  | 5.99-15.45  |  |   | 8.73 
|Exercised                      |  | 467    |  |                  | 3.09-15.45  |  |   | 7.49 
|Forfeited                      |  | 579    |  |                  | 3.09-20.50  |  |   | 19.26
|                               |  |        |  |                  |             |  |   |      
|Outstanding, December 31, 2003 |  | 1,587  |  | $                | 3.09-15.45  |  | $ | 9.85 
|                               |  |        | 
|2004                           |  |        |  |                  |             |  |   |      
|Issued                         |  | 12     |  |                  | 10.15-11.75 |  |   | 11.22
|Exercised                      |  | 6      |  |                  | 4.72-10.10  |  |   | 5.15 
|Forfeited                      |  | 6      |  |                  | 4.72-10.10  |  |   | 6.99 
|                               |  |        |  |                  |             |  |   |      
|Outstanding, December 31, 2004 |  | 1,587  |  | $                | 3.09-15.45  |  | $ | 9.82 



For various price
ranges, the following table summarizes the weighted average prices of outstanding warrants as of December 31, 2004 (in thousands, except per share amounts):



|                        |  |                      |  |                       |       |        |       |                       |   |      
|----------------------- |  | -------------------- |  | --------------------- | ----- | ------ | ----- | --------------------- | - | -----
|                        |  | Outstanding Warrants |  | Exercisable Warrants 
|Range ofExercise Prices |  | Shares               |  | Weightedaverage price |       | Shares |       | Weightedaverage price
|$  3.00-$  5.00         |  | 31                   |  | $                     | 3.57  |        | 31    |                       | $ | 3.57 
|$  5.01-$10.00          |  | 868                  |  |                       | 8.06  |        | 868   |                       |   | 8.06 
|$10.01-$15.00           |  | 509                  |  |                       | 11.23 |        | 508   |                       |   | 11.23
|$15.01-$20.00           |  | 179                  |  |                       | 15.45 |        | 179   |                       |   | 15.45
|                        |  |                      |  |                       |       |        |       |                       |   |      
|Balance as of12/31/2004 |  | 1,587                |  | $                     | 9.82  |        | 1,586 |                       | $ | 9.82 



|11. | Employment Agreement
|--- | --------------------



Pursuant to an employment agreement between Hollis-Eden and Mr. Richard B. Hollis entered into in November 1996 (the Hollis Employment
Agreement), Mr. Hollis annual base salary was increased to $225,000 upon the consummation of the Merger, with bonuses, future salary increases and equity compensation as determined by the Hollis-Eden Pharmaceuticals Board of Directors.
Effective January 1, 2004, Mr. Hollis base salary was increased from $462,000 to $485,000. If Mr. Hollis employment is terminated without cause, for insufficient reason or pursuant to a change in
control (as such terms are defined in the Hollis Employment Agreement), Mr. Hollis will receive as severance (i) an amount equal to five times his then current annual base salary plus five times the amount of the bonus awarded to him in the
prior calendar year, (ii) immediate vesting of all unvested stock options of Hollis-Eden Pharmaceuticals (or the surviving corporation in



55



---

HOLLIS-EDEN PHARMACEUTICALS, Inc.

(A Development Stage Company)



NOTES TO FINANCIAL STATEMENTS(Continued)



a change in control, if applicable) held by him and (iii) continued benefits under all employee benefit plans and programs for a period of three years. All
of such payments are to be made in one lump sum within 30 days of termination. If Mr. Hollis employment is terminated with cause or if Mr. Hollis resigns other than for sufficient reason, Mr. Hollis compensation
and benefits will cease immediately and Mr. Hollis will not be entitled to severance benefits.



|12. | Leases
|--- | ------



Rental expenses for principal leased facilities under non-cancelable operating leases were approximately $902,000, $754,000 and $644,000 for 2004, 2003
and 2002 respectively. Future minimum payments for operating leases are as follows (in thousands):



|                             |  |                  |      
|---------------------------- |  | ---------------- | -----
|                             |  | Operating Leases
|2005                         |  | $                | 890  
|2006                         |  |                  | 640  
|2007                         |  |                  | 666  
|2008                         |  |                  | 23   
|2009                         |  |                  | 9    
|                             |  |                  |      
|Total minimum lease payments |  | $                | 2,228
|                             |  |                  |      



|13. | Supplementary Financial Data (Unaudited)
|--- | ----------------------------------------



Interim Financial Information



(Unaudited)



|                             |  |                                  |        |   |            |   |        |           |  |   |          |   |  |   |        |   |  |   |        |  
|---------------------------- |  | -------------------------------- | ------ | - | ---------- | - | ------ | --------- |  | - | -------- | - |  | - | ------ | - |  | - | ------ | -
|                             |  | Quarter Ended                    |        |   | Total Year |  
|                             |  | March                            |        |   | June       |   |        | September |  |   | December |   | 
|                             |  | (In thousands, except per share) |       
|Year Ended December 31, 2004 |  |                                  |        |   |            |   |        |           |  |   |          |   |  |   |        |   |  |   |        |  
|R&D operating expenses       |  | $                                | 4,665  |   |            | $ | 3,425  |           |  | $ | 4,259    |   |  | $ | 6,566  |   |  | $ | 18,915 |  
|G&A operating expenses       |  |                                  | 1,429  |   |            |   | 1,693  |           |  |   | 1,483    |   |  |   | 2,048  |   |  |   | 6,653  |  
|Non-cash charges             |  |                                  | 12     |   |            |   | 15     |           |  |   | 71       |   |  |   | 38     |   |  |   | 136    |  
|Net loss                     |  |                                  | 5,901  |   |            |   | 4,879  |           |  |   | 5,586    |   |  |   | 8,391  |   |  |   | 24,757 |  
|Net loss per share           |  |                                  | (0.31  | ) |            |   | (0.25  | )         |  |   | (0.29    | ) |  |   | (0.44  | ) |  |   | (1.28  | )
|Cash and cash equivalents    |  |                                  | 79,215 |   |            |   | 73,116 |           |  |   | 68,177   |   |  |   | 61,991 |   |  |   | 61,991 |  
|                             |  |                                  |        |   |           
|Year Ended December 31, 2003 |  |                                  |        |   |            |   |        |           |  |   |          |   |  |   |        |   |  |   |        |  
|R&D operating expenses       |  | $                                | 2,305  |   |            | $ | 1,741  |           |  | $ | 2,619    |   |  | $ | 3,777  |   |  | $ | 10,442 |  
|G&A operating expenses       |  |                                  | 973    |   |            |   | 1,155  |           |  |   | 1,197    |   |  |   | 1,836  |   |  |   | 5,161  |  
|Non-cash charges             |  |                                  | 1,656  |   |            |   | 725    |           |  |   | 91       |   |  |   | 16     |   |  |   | 2,488  |  
|Net loss                     |  |                                  | 5,197  |   |            |   | 4,731  |           |  |   | 10,328   |   |  |   | 5,415  |   |  |   | 25,671 |  
|Net loss per share           |  |                                  | (0.40  | ) |            |   | (0.36  | )         |  |   | (0.66    | ) |  |   | (0.28  | ) |  |   | (1.67  | )
|Cash and cash equivalents    |  |                                  | 19,424 |   |            |   | 32,796 |           |  |   | 29,720   |   |  |   | 84,852 |   |  |   | 84,852 |  



56



---

Report of Independent Registered Public Accounting Firm



The Board of Directors and Stockholders

Hollis-Eden Pharmaceuticals, Inc.



We have audited the accompanying balance sheets of Hollis-Eden Pharmaceuticals, Inc. (the Company)
(a development stage company) as of December 31, 2004 and 2003 and the related statements of operations, stockholders equity and cash flows for each of the years in the three-year period ended December 31, 2004 and for the period from
inception (August 15, 1994) to December 31, 2004. These financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on our audits.



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



In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Hollis-Eden Pharmaceuticals, Inc. as of December 31, 2004 and 2003, and the results of its
operations and cash flows for each of the years in the three year period ended December 31, 2004 and for the period from inception (August 15, 1994) to December 31, 2004, in conformity with accounting principles generally accepted in the United
States of America.



We have also audited, in accordance with
the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Companys internal control over financial reporting as of December 31, 2004, based on the criteria established in Internal Control
 Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 4, 2005 expressed an unqualified opinion on managements assessment of the effectiveness of the
Companys internal control over financial reporting and an unqualified opinion on the effectiveness of the Companys internal control over financial reporting.



/s/    BDO Seidman, LLP



Costa Mesa, California

March 4, 2005



57



---

|Item 9. | Changes in and Disagreements with Accountants
|------- | ---------------------------------------------



Not applicable.



|Item 9A. | Controls and Procedures
|-------- | -----------------------



Evaluation of Disclosure Controls and Procedures



As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the
Hollis-Edens management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e) 15d-15(e). Based
upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in enabling the Company to record, process, summarize and report information required to be included in
the Companys periodic SEC filings within the required time period.



Managements Report on Internal Control over Financial Reporting



Management is responsible for establishing and maintaining adequate internal control over financial reporting for Hollis-Eden. Hollis-Edens internal control system was designed to provide reasonable assurance to
Company management and board of directors regarding the preparation and fair presentation of published financial statements in accordance with accounting principles generally accepted in the United States of America.



Management recognizes its responsibility for fostering a strong ethical
climate so that the Companys affairs are conducted according to the highest standards of personal and corporate conduct.



The Companys internal control over financial reporting includes those policies and procedures that:



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



| |  |  | provide reasonable assurance that transactions are recorded properly to allow for the preparation of financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and Directors of the Company;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Companys assets that could have a material effect
on the financial statements; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | provide reasonable assurance as to the detection of fraud.
| | - |  | ----------------------------------------------------------



Because of its inherent limitations, a system of internal control over financial reporting can provide only reasonable assurance and may not prevent or
detect misstatements. Further, because of changing conditions, effectiveness of internal control over financial reporting may vary over time. The Companys processes contain self-monitoring mechanisms, and actions are taken to correct
deficiencies as they are identified.



Management has assessed
the effectiveness of Hollis-Edens internal control over financial reporting as of December 31, 2004, based on the criteria for effective internal control described in Internal ControlIntegrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission. Based on its assessment, management concluded that the Companys internal control over financial reporting was effective as of December 31, 2004.



BDO Seidman LLP, the independent registered public accounting firm that
audited the financial statements included in this Annual Report on Form 10-K, was engaged to attest to and report on managements assessment of the effectiveness of Hollis-Edens internal control over financial reporting as of December 31,
2004. Its report is included herein.



58



---

Report of Independent Registered Public Accounting Firm



To the Board of Directors and Stockholders of

Hollis-Eden Pharmaceuticals, Inc.



We have audited managements assessment, included in the accompanying Managements Report on Internal Control over Financial Reporting,
that Hollis-Eden Pharmaceuticals, Inc. (the Company) maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal ControlIntegrated Frameworkissued by the
Committee of Sponsoring Organizations of the Treadway Commission. The Companys management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over
financial reporting. Our responsibility is to express an opinion on managements assessment and an opinion on the effectiveness of the Companys internal control over financial reporting based on our audit.



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



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



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



In our opinion, managements assessment that the Company maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the criteria
established in Internal ControlIntegrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission. Also in our opinion, the Company maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2004, based on the criteria established in Internal ControlIntegrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission.



We have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the financial statements as of December 31, 2004 and 2003 and the related statements of operations, stockholders equity and cash flows for each of the years in the three year period ended December
31, 2004 and for the period from inception (August 15, 1994) to December 31, 2004, and our report dated March 4, 2005 expressed an unqualified opinion on those financial statements.



/s/    BDO Seidman, LLP



Costa Mesa, California

March 4, 2005



59



---

Changes in Internal Control over Financial Reporting



There were no changes in Hollis-Edens internal controls over financial
reporting that occurred during the quarter ended December 31, 2004 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.



|Item 9B. | Other Information
|-------- | -----------------



At its meeting on December 16, 2004, the Compensation Committee of the Board of Directors took the following actions with respect to the
compensation of the Companys named executive officers (as defined in Regulation S-K item 402(a)(3)):



|                                                                               |  |                  |         |            |   |        
|------------------------------------------------------------------------------ |  | ---------------- | ------- | ---------- | - | -------
|Executive Officer                                                              |  | 2005 Base Salary |         | 2004 Bonus
|Richard B. Hollis Chairman of the Board, President and Chief Executive Officer |  | $                | 500,000 |            | $ | 325,000
|Dwight R. Stickney, M.D. Vice President, Medical Affairs                       |  |                  | 335,000 |            |   | 52,000 
|Daniel D. Burgess Chief Operating Officer and Chief Financial Officer          |  |                  | 322,000 |            |   | 52,000 
|James M. Frincke, Ph.D. Chief Scientific Officer                               |  |                  | 280,000 |            |   | 52,000 
|Eric J. Loumeau Vice President, Corporate General Counsel                      |  |                  | 255,000 |            |   | 45,000 



60



---

PART III



|Item 10. | Directors and Executive Officers of the Registrant
|-------- | --------------------------------------------------



See the section entitled Executive Officers and Senior Management in Part I, Item 1 hereof for information regarding executive officers and
senior management.



The other information required by this item
is incorporated by reference from Hollis-Edens definitive Proxy Statement to be filed with the Commission pursuant to Regulation 14A in connection with the Hollis-Edens 2005 Annual Meeting (the Proxy Statement).



|Item 11. | Executive Compensation
|-------- | ----------------------



The information concerning executive compensation is set forth in the Proxy Statement under the heading Executive Compensation, which
information is incorporated herein by reference.



|Item 12. | Security Ownership of Certain Beneficial Owners and Management
|-------- | --------------------------------------------------------------



The information concerning security ownership of certain beneficial owners and management is set forth in the Proxy Statement under the heading
Security Ownership of Certain Beneficial Owners and Management, which information is incorporated herein by reference.



|Item 13. | Certain Relationships and Related Transactions
|-------- | ----------------------------------------------



The information concerning certain relationships and related transactions is set forth in the Proxy Statement under the heading Certain
Transactions, which information is incorporated herein by reference.



|Item 14. | Principal Accountant Fees and Services
|-------- | --------------------------------------



The information concerning Principal Accountant Fees and Services is set forth in the Proxy Statement under the heading Ratification of Selection of
Independent Auditors, which information is incorporated herein by reference.



61



---

PART IV



|Item 15. | Exhibits and Financial Statement Schedules
|-------- | ------------------------------------------



(a) The following documents have been filed as part of this Annual Report to Stockholders on Form 10-K:



| | 1. | Financial Statements: The information required by this item is included in Item 8 of Part II of this report.
| | -- | ------------------------------------------------------------------------------------------------------------



| | 2. | Financial Statement Schedules:Financial statement schedules required under the related instructions are not applicable for the three years ended December 31, 2004, and have
therefore been omitted.
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | 3. | Exhibits: The exhibits listed in the Exhibit Index attached to this report are filed or incorporated by reference as part of this Annual Report.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------



62



---

SIGNATURES



Pursuant to the
requirements of the Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, on March 1, 2005.



HOLLIS-EDEN PHARMACEUTICALS, INC.By:

/s/    RICHARD B. HOLLISRichard B. Hollis,Chairman of the Board of Directors,Chief Executive Officer, President and Director




KNOW ALL PERSONS
BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints RICHARD B. HOLLIS, DANIEL D. BURGESS and ROBERT W. WEBER, and each of them, as his true and lawful attorneys-in-fact and agents, with full power of
substitution and resubstitution, for him and in his name, place, and stead, in any and all capacities, to sign any and all amendments to this Report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with
the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith, as fully
to all intents and purposes as he might or could do in person, hereby ratifying and confirming that all said attorneys-in-fact and agents, or any of them or their or his substitute or substituted, may lawfully do or cause to be done by virtue
hereof.



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



|                                                             |  |                                                                                      |  |              
|------------------------------------------------------------ |  | ------------------------------------------------------------------------------------ |  | -------------
|Signature                                                    |  | Title                                                                                |  | Date         
|                                                             |  |                                                                                     
|/s/    RICHARD B.
HOLLISRichard B.
Hollis                    |  | Chairman of the Board of Directors,Chief Executive Officer, President And Director   |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    DANIEL D.
BURGESSDaniel D.
Burgess                    |  | Chief Operating Officer/ChiefFinancial Officer (Principal Financial Officer)         |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    ROBERT W. WEBERRobert W. Weber                        |  | Chief Accounting Officer and VicePresidentController (Principal Accounting Officer) |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    PAUL BAGLEYPaul Bagley                                |  | Director                                                                             |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    JEROME M. HAUERJerome M. Hauer                        |  | Director                                                                             |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    BRENDAN R.
MCDONNELLBrendan R.
McDonnell              |  | Director                                                                             |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    THOMAS C. MERIGAN JR.
M.D.Thomas C. Merigan, Jr. M.D. |  | Director                                                                             |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    MARC R. SARNIMarc R. Sarni                            |  | Director                                                                             |  | March 1, 2005
|                                                             |  |                                                                                     
|/s/    SALVATORE J.
ZIZZASalvatore J.
Zizza                  |  | Director                                                                             |  | March 1, 2005



63



---

INDEX TO EXHIBITS



|              |  |                                                                                                                                                                                                                                                                                                                                                   
|------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description of Document                                                                                                                                                                                                                                                                                                                           
|              | 
|*3.1          |  | Amended and Restated Certificate of Incorporation of the Registrant (incorporated by reference to Exhibit 4.1 to Registrants
Registration Statement on Form S-4 (No. 333-18725), as amended (the Form S-4)).                                                                                                                                   
|              | 
|*3.2          |  | Bylaws of Registrant (incorporated by reference to Exhibit 4.2 to the Form S-4).                                                                                                                                                                                                                                                                  
|              | 
|*3.3          |  | Certificate of Designation of Series B Junior Participating Preferred Stock (incorporated by reference to Exhibit 4.1 to Registrants
Current Report on Form 8-K dated November 15, 1999).                                                                                                                                                        
|              | 
|*3.4          |  | Certificates of Amendment of Certificate of Incorporation (incorporated by reference to Exhibit 3.4 to Registrants Quarterly
Report on Form 10-Q for the quarter ended June 30, 2001.)                                                                                                                                                           
|              | 
|*4.1          |  | Rights Agreement dated as of November 15, 1999 among Registrant and American Stock Transfer and Trust Company (incorporated by reference to
Exhibit 99.2 to the Registrants Current Report on Form 8-K dated November 15, 1999).                                                                                                                 
|              | 
|*10.1        |  | Registrants 1997 Incentive Stock Option Plan (the Option Plan) as amended (incorporated by reference to Exhibit 10.1 to
the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).                                                                                                                                   
|              | 
|*10.2        |  | Forms of Incentive Stock Options and Nonstatutory Stock Options under the Option Plan (incorporated by reference to Exhibit 10.5 to the
Form S-4).                                                                                                                                                                                                
|              | 
|*10.3        |  | Form of Nonstatutory Stock Options outside the Option Plan (including Annex I, identifying the officers and directors who are holders of
such options and their respective option amounts and exercise prices), (incorporated by reference to Exhibit 10.3 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).
|              | 
|*10.4        |  | Employment Agreement by and between Registrant and Richard B. Hollis dated November 1, 1996 (incorporated by reference to Exhibit 10.6 to
the Form S-4).                                                                                                                                                                                          
|              | 
|*10.5        |  | Employment Agreement by and between Registrant and Robert W. Weber dated March 16, 1996 (incorporated by reference to Exhibit 10.9 to the
Registrants Annual Report on Form 10-K for the year ended December 31, 1998).                                                                                                                          
|              | 
|*10.6        |  | Consulting Agreement and Warrant by and between Registrant and William H. Tilley and Jacmar/Viking, L.L.C. dated March 8, 1999
(incorporated by reference to Exhibit 10.5 to the Registrants Annual Report on Form 10-K for the year ended December 31, 1999).                                                                                   
|              | 
|*10.7        |  | Amendments to Consulting Agreement and Warrant by and between Registrant and William H. Tilley and Jacmar/Viking L.L.C. dated
March 12, 2001 (incorporated by reference to Exhibit 10.7 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).                                                                   
|              | 
|*10.8        |  | Nonstatutory Stock Option by and between Registrant and Terren S. Peizer effective as of February 6, 1997 (incorporated by reference to
Exhibit 10.8 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).                                                                                                      
|              | 
|*10.9        |  | Separation and Mutual Release Agreement by and between Registrant and Terren S. Peizer effective as of February 25, 1999 (incorporated by
reference to Exhibit 10.10 to the Registrants Quarterly Report on Form 10-Q for the quarter ended March 31, 1999).                                                                                     
|              | 
|*10.10       |  | Nonstatutory Stock Option by and between Registrant and Richard B. Hollis effective as of January 1, 1999 (incorporated by reference
to Exhibit 10.10 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).                                                                                                     



64



---

|              |  |                                                                                                                                                                                                                                                                                                
|------------- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description of Document                                                                                                                                                                                                                                                                        
|              | 
|*10.11       |  | Promissory Note, as amended, by and between Registrant and Richard B. Hollis dated May 22, 1998 (incorporated by reference to Exhibit 10.11
to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).                                                            
|              | 
|*10.12       |  | Hollis-Eden Pharmaceuticals, Inc. Series A Warrant Agreement dated May 20, 1997, by and between Registrant and Richard B. Hollis, as
amended on May 5, 2000 (incorporated by reference to Exhibit 10.12 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).
|              | 
|*10.13       |  | Employment Agreement by and between Registrant and Daniel D. Burgess dated July 9, 1999 (incorporated by reference to Exhibit 10.10 to
Registrants Quarterly Report on Form 10-Q for the quarter ended September 30, 1999).                                                                   
|              | 
|*10.14       |  | Employment Agreement by and between Registrant and Eric J. Loumeau dated September 15, 1999 (incorporated by reference to Exhibit 10.11 to
Registrants Quarterly Report on Form 10-Q for the quarter ended September 30, 1999).                                                               
|              | 
|*10.15       |  | Hollis-Eden Pharmaceuticals Unit Warrant, dated April 23, 1994, by and between Registrant and Salvatore J. Zizza, as amended on March 18,
2002 (incorporated by reference to Exhibit 10.15 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2002).             
|              | 
|*10.16        |  | Settlement and Mutual Release Agreement, dated January 20, 2000, among Registrant, Colthurst Limited, Edenland, Inc. and Patrick T.
Prendergast (incorporated by reference to Exhibit 99.2 to Registrants Current Report on Form 8-K dated January 20, 2000).                                 
|              | 
|*10.17        |  | Technology Assignment Agreement, dated January 20, 2000, among Registrant, Colthurst Limited and Patrick T. Prendergast (incorporated by
reference to Exhibit 99.3 to Registrants Current Report on Form 8-K dated January 20, 2000).                                                         
|              | 
|*10.18        |  | Common Stock and Warrant Agreement, dated January 20, 2000, among Registrant and Colthurst Limited (incorporated by reference to Exhibit
99.4 to Registrants Current Report on Form 8-K dated January 20, 2000).                                                                              
|              | 
|*10.19        |  | Warrant, dated January 20, 2000, issued to Colthurst Limited (incorporated by reference to Exhibit 99.5 to Registrants Current Report
on Form 8-K dated January 20, 2000).                                                                                                                    
|              | 
|*10.20        |  | Indemnification Agreement among Registrant and Executive Officers and Directors (incorporated by reference to Exhibit 10.17 to
Registrants Registration Statement on Form S-1 (No. 333-69454).                                                                                                
|              | 
|*10.21        |  | Hollis-Eden Pharmaceuticals, Inc. Discretionary Contribution Plan and Trust Agreement (incorporated by reference to Exhibit 99.2 to
Registrants Registration Statement on Form S-8 (No. 333-92185)).                                                                                          
|              | 
|*10.22        |  | Form of Stock and Warrant Purchase Agreement, dated as of December 11, 2001, between the Registrant and the purchasers listed on Schedule I
attached thereto (incorporated by reference to Exhibit 4.4 to the Registrants Registration Statement on Form S-3 (No. 333-75860)).                
|              | 
|*10.23        |  | Form of Warrant, dated December 11, 2001, issued to the purchasers listed on Schedule I thereto (incorporated by reference to Exhibit 4.5
to the Registrants Registration Statement on Form S-3 (No. 333-75860)).                                                                             
|              | 
|*10.24        |  | Form of Warrant issued to H.C. Wainwright & Co., Inc. in the amounts and on the dates listed on Schedule I attached thereto
(incorporated by reference to Exhibit 4.6 to the Registrants Registration Statement on Form S-3 (No. 333-75860)).                                                 



65



---

|              |  |                                                                                                                                                                                                                                                                                       
|------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description of Document                                                                                                                                                                                                                                                               
|              | 
|*#10.25       |  | Patent License Agreement between the Registrant and Dr. Roger M. Loria (incorporated by reference to Exhibit 10.1 to the Registrants
Registration Statement on Form S-3 (No. 333-75860)).                                                                                            
|              | 
|*10.26        |  | Sublease dated December 19, 2001 between Cooley Godward LLP and Registrant (incorporated by reference to Exhibit 10.16 to the
Registrants Annual Report on Form 10-K for the year ended December 31, 2001).                                                                          
|              | 
|*10.27        |  | Securities Purchase Agreement, dated as of February 25, 2003, by and between Hollis-Eden Pharmaceuticals, Inc. and the purchasers
identified therein (incorporated by reference to Exhibit 10.27 to the Registrants Annual Report on Form 10-K for the year ended December 31, 2002).
|              | 
|*10.28        |  | Form of 7.5% Convertible Debenture issued to the purchasers listed on Schedule I attached thereto on February 25, 2003 (incorporated by
reference to Exhibit 10.28 to the Registrants Annual Report on Form 10-K for the year ended December 31, 2002).                              
|              | 
|*10.29        |  | Form of Stock Purchase Warrant issued to purchasers listed on Schedule I attached thereto on February 25, 2003 (incorporated by reference
to Exhibit 10.29 to the Registrants Annual Report on Form 10-K for the year ended December 31, 2002).                                      
|              | 
|*10.30        |  | Registration Rights Agreement, dated February 25, 2003, by and between Hollis-Eden Pharmaceuticals, Inc. and the purchasers identified
therein (incorporated by reference to Exhibit 10.30 to the Registrants Annual Report on Form 10-K for the year ended December 31, 2002).      
|              | 
|*10.31        |  | Warrant, dated February 25, 2003, issued to SG Cowen Securities Corporation (incorporated by reference to Exhibit 10.30 to the
Registrants Annual Report on Form 10-K for the year ended December 31, 2002).                                                                         
|              | 
|*10.32        |  | Registration Rights Agreement, dated June 19, 2003, by and between Hollis-Eden Pharmaceuticals, Inc. and the purchasers identified therein.
(incorporated by reference to Exhibit 4.4 to the registrants Registration Statement On Form S-3 (No. 333-106835).                        
|              | 
|*10.33        |  | Form of Stock Purchase Warrant issued to purchasers listed on Schedule I attached thereto on June 19, 2003 (incorporated by reference to
Exhibit 4.2 to the Form S-3 (No. 333-106835)).                                                                                               
|              | 
|*10.34        |  | Warrant issued to SG Cowen Securities Corporation on June 19, 2003 (incorporated by reference to Exhibit 4.3 to the Form S-3 (No.
333-106835)).                                                                                                                                       
|              | 
|*#10.35       |  | Study funding Agreement, dated as of June 17, 2003, between the registrant and Cystic Fibrosis Foundation Therapeutics, Inc (incorporated
by reference to Exhibit 10.1 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2003).                        
|              | 
|*10.36        |  | Amendments to Consulting Agreement and Warrant by and between the registrant and William H. Tilley and Jacmar/Viking, L.L.C.
dated March 11, 2003 (incorporated by reference to Exhibit 10.2 to the Registrants Quarterly Report on Form 10-Q for the quarter ended June 30, 2003).  
|              | 
|*10.37        |  | Amended 401(k) Plan (incorporated by reference to Exhibit 10.1 to the Registrants Quarterly Report on Form 10-Q for the quarter ended
September 30, 2003).                                                                                                                           
|              | 
|10.38         |  | First Amendment to Sublease dated December 19, 2001 between Cooley Godward LLP and Registrant.                                                                                                                                                                                        
|              | 
|23.1          |  | Consent of BDO Seidman, LLP.                                                                                                                                                                                                                                                          
|              | 
|24.1          |  | Power of Attorney. Reference is made to signature page hereto                                                                                                                                                                                                                         



66



---

|              |  |                                                                        
|------------- |  | -----------------------------------------------------------------------
|ExhibitNumber |  | Description of Document                                                
|              | 
|31.1          |  | Rule 13a-14(a)/15d-14(a) Certification of Richard B. Hollis.           
|              | 
|31.2          |  | Rule 13a-14(a)/15d-14(a) Certification of Daniel D. Burgess.           
|              | 
|32.1          |  | Section 1350 Certifications of Richard B. Hollis and Daniel D. Burgess.

---

|* | Previously filed.
|- | -----------------

| | Management contract or compensatory plan, contract or arrangement to be filed as an exhibit pursuant to Item 14(c) of Form 10-K.
|- | --------------------------------------------------------------------------------------------------------------------------------

|# | Confidential treatment has been granted with respect to certain portions of this exhibit. Omitted portions have been filed separately with the Securities and Exchange Commission.
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



67