Exhibit
      10.31

    

      EXECUTION
        COPY

    


     

    EMPLOYMENT
      AGREEMENT

     

    This
      Amended and Restated Employment Agreement (the “Agreement")
      is
      made as of this 4th day of May, 2006, by and between DISCOVERY LABORATORIES,
      INC., a Delaware corporation (the "Company"),
      and
      CHARLES KATZER (the "Executive").

     

    WHEREAS,
      the Executive is currently employed by the Company as its Senior Vice President,
      Manufacturing Operations pursuant to that certain revised and amended employment
      agreement dated as of January 3, 2006, by and between the Company and the
      Executive (the “Employment
      Agreement”);
      and

     

    WHEREAS,
      the Company and the Executive desire to amend and restate the Employment
      Agreement in its entirety as set forth herein.

     

    NOW,
      THEREFORE, in consideration of the covenants contained herein, and for other
      valuable consideration, the Company and the Executive hereby agree to amend
      and
      restate the Employment Agreement in its entirety to read as
      follows:

     

    1.  Certain
      Definitions.
      Certain
      definitions used herein shall have the meanings set forth on Exhibit A attached
      hereto.

     

    2.  Term
      of the Agreement.
      The
      term (“Term”)
      of
      this Agreement shall commence on the date first above written and shall continue
      through December 31, 2007; provided, however, that commencing on January 1,
      2008, and on each January 1st thereafter, the term of this Agreement shall
      automatically be extended for one additional year, unless at least 90 days
      prior
      to such January1st date, the Company or the Executive shall have given notice
      that it does not wish to extend this Agreement. Upon the occurrence of a Change
      of Control during the term of this Agreement, including any extensions thereof,
      this Agreement shall automatically be extended until the end of the Effective
      Period if the end of the Effective Period is after the then current expiration
      date of the Term. Notwithstanding the foregoing, this Agreement shall terminate
      prior to the scheduled expiration date of the Term on the Date of Termination.
      

     

    3.  Executive's
      Duties and Obligations.

     

    (a)  Duties.
      The
      Executive shall continue to serve as the Company's Senior Vice President,
      Manufacturing Operations. The Executive shall continue to be responsible for
      all
      duties customarily associated with this title. The Executive shall at all times
      report directly to the Company’s Chief Executive Officer.

     

    (b)  Location
      of Employment.
      The
      Executive's principal place of business shall continue to be at the Company's
      headquarters to be located within thirty (30) miles of Doylestown, Pennsylvania;
      provided, that the Executive acknowledges and agrees that the performance by
      the
      Executive of his duties shall require frequent travel including, without
      limitation, overseas travel from time to time.

     

    
      
        
        

      

      
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    (c)  Proprietary
      Information and Inventions Matters.
      In
      consideration of the covenants contained herein, and further in consideration
      of
      the Term extension provided by this Agreement in relation to the Employment
      Agreement, the Executive hereby agrees to execute the Company's standard form
      of
      Proprietary Information and Inventions Agreement (the "Confidentiality
      Agreement"),
      a
      copy of which is attached to this Agreement as Exhibit B. The Executive shall
      comply at all times with the terms and conditions of the Confidentiality
      Agreement and all other reasonable policies of the Company governing its
      confidential and proprietary information.

     

    4.  Devotion
      of Time to Company's Business.

     

    (a)  Full-Time
      Efforts.
      During
      his employment with the Company, the Executive shall devote substantially all
      of
      his time, attention and efforts to the proper performance of his implicit and
      explicit duties and obligations hereunder to the reasonable satisfaction of
      the
      Company.

     

    (b)  No
      Other Employment.
      During
      his employment with the Company, the Executive shall not, except as otherwise
      provided herein, directly or indirectly, render any services of a commercial
      or
      professional nature to any other person or organization, whether for
      compensation or otherwise, without the prior written consent of the Executive
      Committee or the Board.

     

    (c)  Non-Competition
      During and After Employment.
      During
      the Term and for 12 months from the Date of Termination, the Executive shall
      not, directly or indirectly, without the prior written consent of the Company,
      either as an employee, employer, consultant, agent, principal, partner,
      stockholder, corporate officer, director, or in any other individual or
      representative capacity (X) compete with the Company in the business of
      developing or commercializing pulmonary surfactants or any other category of
      compounds which forms the basis of the Company's material products or any
      material products under development on the Date of Termination, or (Y) solicit,
      encourage, induce or endeavor to entice away from the Company, or otherwise
      interfere with the relationship of the Company with, any person who is employed
      or engaged by the Company as an employee, consultant or independent contractor
      or who was so employed or engaged at any time during the preceding six (6)
      months; provided,
      that
      nothing herein shall prevent the Executive from engaging in discussions
      regarding employment, or employing, any such employee, consultant or independent
      contractor (i) if such person shall voluntarily initiate such discussions
      without any such solicitation, encouragement, enticement or inducement prior
      thereto on the part of the Executive or (ii) if such discussions shall be held
      as a result of or employment be the result of the response by any such person
      to
      a written employment advertisement placed in a publication of general
      circulation, general solicitation conducted by executive search firms,
      employment agencies or other general employment services, not directed
      specifically at any such employee, consultant or independent contractor.


     

    (d)  Injunctive
      Relief.
      In the
      event that the Executive breaches any provisions of Section 4(c) or of the
      Confidentiality Agreement or there is a threatened breach thereof, then, in
      addition to any other rights which the Company may have, the Company shall
      be
      entitled, without the posting of a bond or other security, to injunctive relief
      to enforce the restrictions contained therein. In the event that an actual
      proceeding is brought in equity to enforce the provisions of Section 4(c) or
      the
      Confidentiality Agreement, the Executive shall not urge as a defense that there
      is an adequate remedy at law nor shall the Company be prevented from seeking
      any
      other remedies which may be available.

     

    
      
        
        

      

      
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    (e)  Reformation.
      To the
      extent that the restrictions imposed by Section 4(c) are interpreted by any
      court to be unreasonable in geographic and/or temporal scope, such restrictions
      shall be deemed automatically reduced to the extent necessary to coincide with
      the maximum geographic and/or temporal restrictions deemed by such court not
      to
      be unreasonable.

     

    5.  Compensation
      and Benefits.

     

    (a)  Base
      Compensation.
      During
      the Term, the Company shall pay to the Executive (i) base annual compensation
      ("Base
      Salary")
      of at
      least $215,000, payable in accordance with the Company's regular payroll
      practices and less all required withholdings and (ii) additional compensation,
      if any, and benefits as hereinafter set forth in this Section 5. The Base Salary
      shall be reviewed at least annually for the purposes of determining increases,
      if any, based on the Executive's performance, the performance of the Company,
      inflation, the then prevailing salary scales for comparable positions and other
      relevant factors; provided,
      however,
      that
      any such increase in Base Salary shall be solely within the discretion of the
      Company.

     

    (b)  Bonuses.
      During
      the Term, the Executive shall be eligible for such year-end bonus, which may
      be
      paid in either cash or equity, or both, as is awarded solely at the discretion
      of the Compensation Committee of the Board after consultation with the Company’s
      Chief Executive Officer, provided,
      that
      the Company shall be under no obligation whatsoever to pay such discretionary
      year-end bonus for any year. Any such equity bonus shall contain such rights
      and
      features as are typically afforded to other Company employees of similar level
      in connection with comparable equity bonuses awarded by the Company.


     

    (c)  Benefits.
      During
      the Term, the Executive shall be entitled to participate in all employee benefit
      plans, programs and arrangements made available generally to the Company's
      senior executives or to its employees on substantially the same basis that
      such
      benefits are provided to such executives or employees (including, without
      limitation profit-sharing, savings and other retirement plans (e.g., a 401(k)
      plan) or programs, medical, dental, hospitalization, vision, short-term and
      long-term disability and life insurance plans or programs, accidental death
      and
      dismemberment protection, travel accident insurance, and any other employee
      welfare benefit plans or programs that may be sponsored by the Company from
      time
      to time, including any plans or programs that supplement the above-listed types
      of plans or programs, whether funded or unfunded); provided,
      however,
      that
      nothing in this Agreement shall be construed to require the Company to establish
      or maintain any such plans, programs or arrangements. Anything contained herein
      to the contrary notwithstanding, throughout the Term, Executive shall be
      entitled to receive life insurance on behalf of Executive’s named beneficiaries
      in the amount of Executive’s then current annual salary for the Term of this
      Agreement at no cost to the Executive, except the Company shall have no
      liability whatsoever for any taxes (whether based on income or otherwise)
      imposed upon or incurred by Executive in connection with any such
      insurance.

     

    (d)  Vacations.
      During
      the Term, the Executive shall be entitled to 20 days paid vacation per year,
      to
      be earned ratably throughout the year, 5 days of which may be carried over
      from
      year to year (provided,
      that in
      no event shall the aggregate number of such vacation days carried over to any
      succeeding year exceed 10 days).

     

    
      
        
        

      

      
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    (e)  Reimbursement
      of Business Expenses.
      The
      Executive is authorized to incur reasonable expenses in carrying out his duties
      and responsibilities under this Agreement and the Company shall reimburse him
      for all such expenses, in accordance with reasonable policies of the
      Company.

     

    6.  Change
      of Control Benefits.

     

    (a)  Bonus.
      The
      Executive shall be awarded an annual cash bonus for each fiscal year of the
      Company ending during the Effective Period at least equal to the Highest Annual
      Bonus.

     

    (b)  Options.
      Notwithstanding any provision to the contrary in the Company’s Amended and
      Restated 1998 Stock Incentive Plan or any stock option or restricted stock
      agreement between the Company and the Executive, all shares of stock and all
      options to acquire Company stock held by the Executive shall accelerate and
      become fully vested and, with respect to restricted stock, all restrictions
      shall be lifted upon the Change of Control Date. In the case of any Change
      of
      Control in which the Company’s common stockholders receive cash, securities or
      other consideration in exchange for, or in respect of, their Company common
      stock, (i) the Executive shall be permitted to exercise his options at a time
      and in a fashion that will entitle him to receive, in exchange for any shares
      acquired pursuant to any such exercise, the same per share consideration as
      is
      received by the other holders of the Company’s common stock, and (ii) if the
      Executive shall elect not to exercise all or any portion of such options, any
      such unexercised options shall terminate and cease to be outstanding following
      such Change of Control, except to the extent assumed by a successor corporation
      (or its parent) or otherwise expressly continued in full force and effect
      pursuant to the terms of such Change of Control.

     

    7.  Termination
      of Employment.

     

    (a)  Termination
      by the Company for Cause or Termination by the Executive without Good Reason,
      Death or Disability.
      

     

    (i)
        In
      the
      event of a termination of the Executive’s employment by the Company for Cause, a
      termination by the Executive without Good Reason, or in the event this Agreement
      terminates by reason of the death or Disability of the Executive, the Executive
      shall be entitled to any unpaid compensation accrued through the last day of
      the
      Executive's employment, a lump sum payment in respect of all accrued but unused
      vacation days (provided,
      that in
      no event shall the aggregate number of such accrued vacation days exceed 10
      days) at his Base Salary in effect on the date such vacation was earned, and
      payment of any other amounts owing to the Executive but not yet paid. The
      Executive shall not be entitled to receive any other compensation or benefits
      from the Company whatsoever (except as and to the extent the continuation of
      certain benefits is required by law). 

     

    (ii)
        In
      the
      case of a termination due to death or disability, notwithstanding any provision
      to the contrary in any stock option or restricted stock agreement between the
      Company and the Executive, all shares of stock and all options to acquire
      Company stock held by the Executive shall accelerate and become fully vested
      upon the Date of Termination (and all options shall thereupon become fully
      exercisable), and all stock options shall continue to be exercisable for the
      remainder of their stated terms.

     

    
      
        
        

      

      
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    (b)  Termination
      by the Company without Cause or by the Executive for Good Reason.
      If (x)
      the Executive’s employment is terminated by the Company other than for Cause,
      death or Disability (i.e., without Cause) or (y) the Executive terminates
      employment with Good Reason, then the Executive shall be entitled to receive
      the
      following from the Company:

     

    (i)
        The
      amounts set forth in Section 7(a)(i); 

     

    (ii)
        Within
      10
      days after the Date of Termination, a lump sum cash payment equal to the Highest
      Annual Bonus multiplied by the fraction obtained by dividing the number of
      days
      in the year through the Date of Termination by 365; 

     

    (iii)
        Within
      10
      days after the Date of Termination, a lump sum cash payment in an amount equal
      to fifty percent (50%) of the sum of (A) the Executive’s Base Salary then in
      effect (determined without regard to any reduction in such Base Salary
      constituting Good Reason) and (B) the Highest Annual Bonus;

     

    (iv)
        For
      six
      months from the Date of Termination, the Company shall either (A) arrange to
      provide the Executive and his dependents, at the Company’s cost (except to the
      extent such cost was borne by the Executive prior to the Date of Termination,
      and further, to the extent that such post-termination coverages are available
      under the Company’s plans), with life, disability, medical and dental coverage,
      whether insured or not insured, providing substantially similar benefits to
      those which the Executive and his dependents were receiving immediately prior
      to
      the Date of Termination, or (B) in lieu of providing such coverage, pay to
      the
      Executive no less frequently than quarterly in advance an amount which, after
      taxes, is sufficient for the Executive to purchase equivalent benefits coverage
      referred to in clause (A); provided,
      however,
      that
      the Company’s obligation under this Section 7(b)(iv) shall be reduced to the
      extent that substantially similar coverages (determined on a benefit-by-benefit
      basis) are provided by a subsequent employer; 

     

    (v)
        Any
      other
      additional benefits then due or earned in accordance with applicable plans
      and
      programs of the Company; and

     

    (vi)
        The
      Company will provide out-placement counseling assistance in the form of
      reimbursement of the reasonable expenses incurred for such assistance within
      the
      12-month period following the Date of Termination. Such reimbursement amount
      shall not exceed $40,000.

     

    (c)  Termination
      in connection with a Change of Control.
      If the
      Executive’s employment is terminated by the Company other than for Cause or by
      the Executive for Good Reason during the Effective Period, then the Executive
      shall be entitled to receive the following from the Company:

     

    (i)
        All
      amounts and benefits described in Section 7(a)(i) above;

     

    (ii)
        Within
      10
      days after the Date of Termination, a lump sum cash payment equal to the Highest
      Annual Bonus multiplied by the fraction obtained by dividing the number of
      days
      in the year through the Date of Termination by 365;

     

    
      
        
        

      

      
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    (iii)
        Within
      10
      days after the Date of Termination, a lump sum cash payment in an amount equal
      to the sum of (A) the Executive’s Base Salary then in effect (determined without
      regard to any reduction in such Base Salary constituting Good Reason) and (B)
      the Highest Annual Bonus;

     

    (iv)
        For
      one
      year from the Date of Termination, the Company shall either (A) arrange to
      provide the Executive and his dependents, at the Company’s cost (except to the
      extent such cost was borne by the Executive prior to the Date of Termination,
      and further, to the extent that such post-termination coverages are available
      under the Company’s plans), with life, disability, medical and dental coverage,
      whether insured or not insured, providing substantially similar benefits to
      those which the Executive and his dependents were receiving immediately prior
      to
      the Date of Termination, or (B) in lieu of providing such coverage, pay to
      the
      Executive no less frequently than quarterly in advance an amount which, after
      taxes, is sufficient for the Executive to purchase equivalent benefits coverage
      referred to in clause (A); provided,
      however,
      that
      the Company’s obligation under this Section 7(c)(iv) shall be reduced to the
      extent that substantially similar coverages (determined on a benefit-by-benefit
      basis) are provided by a subsequent employer;

     

    (v)
        Notwithstanding
      any provision to the contrary in any stock option or restricted stock agreement
      between the Company and the Executive, all shares of stock and all options
      to
      acquire Company stock held by the Executive shall accelerate and become fully
      vested upon the Date of Termination (and all options shall thereupon become
      fully exercisable), and all stock options shall continue to be exercisable
      for
      the remainder of their stated terms;

     

    (vi)
        Any
      other
      additional benefits then due or earned in accordance with applicable plans
      and
      programs of the Company; and

     

    (vii)
        The
      Company will provide out-placement counseling assistance in the form of
      reimbursement of the reasonable expenses incurred for such assistance within
      the
      12-month period following the Date of Termination. Such reimbursement amount
      shall not exceed $40,000.

     

    8.  Notice
      of Termination.
      

     

    (a)  Any
      termination of the Executive’s employment by the Company for Cause, or by the
      Executive for Good Reason shall be communicated by a Notice of Termination
      to
      the other party hereto given in accordance with Section 12. For purposes of
      this
      Agreement, a “Notice of Termination” means a written notice which: (i) is given
      at least 10 days prior to the Date of Termination, (ii) indicates the specific
      termination provision in this Agreement relied upon, (iii) to the extent
      applicable, sets forth in reasonable detail the facts and circumstances claimed
      to provide a basis for termination of the Executive’s employment under the
      provision so indicated, and (iv) specifies the employment termination date.
      The
      failure to set forth in the Notice of Termination any fact or circumstance
      which
      contributes to a showing of Good Reason or Cause will not waive any right of
      the
      party giving the Notice of Termination hereunder or preclude such party from
      asserting such fact or circumstance in enforcing its rights
      hereunder.

     

    (b)  A
      Termination of Employment of the Executive will not be deemed to be for Good
      Reason unless the Executive gives the Notice of Termination provided for herein
      within 12 months after the Executive has actual knowledge of the act or omission
      of the Company constituting such Good Reason.

     

    
      
        
        

      

      
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    9.  Mitigation
      of Damages.
      The
      Executive will not be required to mitigate damages or the amount of any payment
      or benefit provided for under this Agreement by seeking other employment or
      otherwise. Except as otherwise provided in Sections 7(b)(iv) and 7(c)(iv),
      the
      amount of any payment or benefit provided for under this Agreement will not
      be
      reduced by any compensation or benefits earned by the Executive as the result
      of
      self-employment or employment by another employer or otherwise.

     

    10.  Excise
      Tax Gross-Up.

     

    (a)  Anything
      in this Agreement to the contrary notwithstanding, in the event it shall be
      determined that any payment, award, benefit or distribution (including any
      acceleration) by the Company or any entity which effectuates a transaction
      described in Section 280G(b)(2)(A)(i) of the Code to or for the benefit of
      the
      Executive (whether pursuant to the terms of this Agreement or otherwise, but
      determined without regard to any additional payments required under this Section
      10) (a “Payment”)
      would
      be subject to the excise tax imposed by Section 4999 of the Code or any
      interest or penalties are incurred with respect to such excise tax by the
      Executive (such excise tax, together with any such interest and penalties,
      are
      hereinafter collectively referred to as the “Excise
      Tax”),
      then
      the Executive shall be entitled to receive an additional payment (a
“Gross-Up
      Payment”)
      in an
      amount such that after payment by the Executive of all taxes, including, without
      limitation, any income taxes (and any interest and penalties imposed with
      respect thereto) and Excise Taxes imposed upon the Gross-Up Payment, the
      Executive retains an amount of the Gross-Up Payment equal to the Excise Tax
      imposed upon the Payments. For purposes of this Section 10, the Executive shall
      be deemed to pay federal, state and local income taxes at the highest marginal
      rate of taxation for the calendar year in which the Gross Up Payment is to
      be
      made, taking into account the maximum reduction in federal income taxes which
      could be obtained from the deduction of state and local income
      taxes.

     

    (b)  All
      determinations required to be made under this Section 10, including whether
      and
      when a Gross-Up Payment is required and the amount of such Gross-Up Payment
      and
      the assumptions to be utilized in arriving at such determination, shall be
      made
      by the Company’s independent auditors or such other certified public accounting
      firm of national standing reasonably acceptable to the Executive as may be
      designated by the Company (the “Accounting
      Firm”)
      which
      shall provide detailed supporting calculations both to the Company and the
      Executive within 15 business days of the receipt of notice from the Executive
      that there has been a Payment, or such earlier time as is requested by the
      Company. All fees and expenses of the Accounting Firm shall be borne solely
      by
      the Company. Any Gross-Up Payment, as determined pursuant to this Section 10,
      shall be paid by the Company to the Executive within five days of the later
      of
      (i) the due date for the payment of any Excise Tax, and (ii) the receipt of
      the
      Accounting Firm’s determination. If the Accounting Firm determines that no
      Excise Tax is payable by the Executive, it shall furnish the Executive with
      a
      written opinion to such effect, and to the effect that failure to report the
      Excise Tax, if any, on the Executive’s applicable federal income tax return will
      not result in the imposition of a negligence or similar penalty. Any
      determination by the Accounting Firm shall be binding upon the Company and
      the
      Executive. As a result of the uncertainty in the application of
      Section 4999 of the Code at the time of the initial determination by the
      Accounting Firm hereunder, it is possible that Gross-Up Payments which will
      not
      have been made by the Company should have been made (“Underpayment”)
      or
      Gross-up Payments are made by the Company which should not have been made
      (“Overpayments”),
      consistent with the calculations required to be made hereunder. In the event
      the
      Executive is required to make a payment of any Excise Tax, the Accounting Firm
      shall determine the amount of the Underpayment that has occurred and any such
      Underpayment shall be promptly paid by the Company to or for the benefit of
      the
      Executive. In the event the amount of Gross-up Payment exceeds the amount
      necessary to reimburse the Executive for his Excise Tax, the Accounting Firm
      shall determine the amount of the Overpayment that has been made and any such
      Overpayment shall be promptly paid by the Executive (to the extent he has
      received a refund if the applicable Excise Tax has been paid to the Internal
      Revenue Service) to or for the benefit of the Company. The Executive shall
      cooperate, to the extent his expenses are reimbursed by the Company, with any
      reasonable requests by the Company in connection with any contests or disputes
      with the Internal Revenue Service in connection with the Excise
      Tax.

     

    
      
        
        

      

      
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    11.  Legal
      Fees.
      All
      reasonable legal fees and related expenses (including costs of experts, evidence
      and counsel) paid or incurred by the Executive pursuant to any claim, dispute
      or
      question of interpretation relating to this Agreement shall be paid or
      reimbursed by the Company if the Executive is successful on the merits pursuant
      to a legal judgment or arbitration. Except as provided in this Section 11,
      each
      party shall be responsible for its own legal fees and expenses in connection
      with any claim or dispute relating to this Agreement.

     

    12.  Notices.
      All
      notices, requests, demands and other communications hereunder shall be in
      writing and shall be deemed to have been duly given if delivered by hand or
      mailed within the continental United States by first class certified mail,
      return receipt requested, postage prepaid, addressed as follows:

     

    


    (a) if
      to the
      Board or the Company:

     

    Discovery
      Laboratories, Inc. 

    2600
      Kelly Road, Suite 100 

    Warrington,
      PA 18976 

    Attn:
      David Lopez, Esq.

     

    (b) if
      to the
      Executive:


     

    Charles
      Katzer 

    The
      address on file with the records of the Company

     

    Addresses
      may be changed by written notice sent to the other party at the last recorded
      address of that party.

     

    13.  Withholding.
      The
      Company shall be entitled to withhold from payments due hereunder any required
      federal, state or local withholding or other taxes.

     

    14.  Entire
      Agreement.
      This
      Agreement contains the entire agreement between the parties with respect to
      the
      subject matter hereof and supercedes the Employment Agreement and all other
      prior agreements, written or oral, with respect thereto.

     

    
      
        
        

      

      
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    15.  Arbitration.

     

    (a)  If
      the
      parties are unable to resolve any dispute or claim relating directly or
      indirectly to this agreement (a “Dispute”),
      then
      either party may require the matter to be settled by final and binding
      arbitration by sending written notice of such election to the other party
      clearly marked "Arbitration Demand". Thereupon such Dispute shall be arbitrated
      in accordance with the terms and conditions of this Section 15. Notwithstanding
      the foregoing, either party may apply to a court of competent jurisdiction
      for a
      temporary restraining order, a preliminary injunction, or other equitable relief
      to preserve the status quo or prevent irreparable harm.

     

    (b)  The
      arbitration panel will be composed of three arbitrators, one of whom will be
      chosen by the Company, one by the Executive, and the third by the two so chosen.
      If both or either of the Company or the Executive fails to choose an arbitrator
      or arbitrators within 14 days after receiving notice of commencement of
      arbitration, or if the two arbitrators fail to choose a third arbitrator within
      14 days after their appointment, the American Arbitration Association shall,
      upon the request of both or either of the parties to the arbitration, appoint
      the arbitrator or arbitrators required to complete the panel. The arbitrators
      shall have reasonable experience in the matter under dispute. The decision
      of
      the arbitrators shall be final and binding on the parties, and specific
      performance giving effect to the decision of the arbitrators may be ordered
      by
      any court of competent jurisdiction.

     

    (c)  Nothing
      contained herein shall operate to prevent either party from asserting
      counterclaim(s) in any arbitration commenced in accordance with this Agreement,
      and any such party need not comply with the procedural provisions of this
      Section 15 in order to assert such counterclaim(s).

     

    (d)  The
      arbitration shall be filed with the office of the American Arbitration
      Association ("AAA")
      located in New York, New York or such other AAA office as the parties may agree
      upon (without any obligation to so agree). The arbitration shall be conducted
      pursuant to the Commercial Arbitration Rules of AAA as in effect at the time
      of
      the arbitration hearing, such arbitration to be completed in a 60-day period.
      In
      addition, the following rules and procedures shall apply to the
      arbitration:

     

    (i)
        The
      arbitrators shall have the sole authority to decide whether or not any Dispute
      between the parties is arbitrable and whether the party presenting the issues
      to
      be arbitrated has satisfied the conditions precedent to such party's right
      to
      commence arbitration as required by this Section 15. 

     

    (ii)
        The
      decision of the arbitrators, which shall be in writing and state the findings,
      the facts and conclusions of law upon which the decision is based, shall be
      final and binding upon the parties, who shall forthwith comply after receipt
      thereof. Judgment upon the award rendered by the arbitrator may be entered
      by
      any competent court. Each party submits itself to the jurisdiction of any such
      court, but only for the entry and enforcement to judgment with respect to the
      decision of the arbitrators hereunder.

     

    (iii)
        The
      arbitrators shall have the power to grant all legal and equitable remedies
      (including, without limitation, specific performance) and award compensatory
      damages provided by applicable law, but shall not have the power or authority
      to
      award punitive damages. No party shall seek punitive damages in relation to
      any
      matter under, arising out of, or in connection with or relating to this
      Agreement in any other forum.

     

    
      
        
        

      

      
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    (iv)
        Except
      as
      provided in Section 11, the parties shall bear their own costs in preparing
      for
      and participating in the resolution of any Dispute pursuant to this Section
      15,
      and the costs of the arbitrator(s) shall be equally divided between the
      parties.

     

    (v)
        Except
      as
      provided in the last sentence of Section 15(a), the provisions of this Section
      15 shall be a complete defense to any suit, action or proceeding instituted
      in
      any federal, state or local court or before any administrative tribunal with
      respect to any Dispute arising in connection with this Agreement. Any party
      commencing a lawsuit in violation of this Section 15 shall pay the costs of
      the
      other party, including, without limitation, reasonable attorney’s fees and
      defense costs.

     

    16.  Miscellaneous.

     

    (a)  Governing
      Law.
      This
      Agreement shall be interpreted, construed, governed and enforced according
      to
      the laws of the State of New York without regard to the application of choice
      of
      law rules.

     

    (b)  Amendments.
      No
      amendment or modification of the terms or conditions of this Agreement shall
      be
      valid unless in writing and signed by the parties hereto.

     

    (c)  Severability.
      If one
      or more provisions of this Agreement are held to be invalid or unenforceable
      under applicable law, such provisions shall be construed, if possible, so as
      to
      be enforceable under applicable law, or such provisions shall be excluded from
      this Agreement and the balance of the Agreement shall be interpreted as if
      such
      provision were so excluded and shall be enforceable in accordance with its
      terms.

     

    (d)  Binding
      Effect.
      This
      Agreement shall be binding upon and inure to the benefit of the beneficiaries,
      heirs and representatives of the Executive (including the Beneficiary) and
      the
      successors and assigns of the Company. The Company shall require any successor
      (whether direct or indirect, by purchase, merger, reorganization, consolidation,
      acquisition of property or stock, liquidation, or otherwise) to all or
      substantially all of its assets, by agreement in form and substance satisfactory
      to the Executive, expressly to assume and agree to perform this Agreement in
      the
      same manner and to the same extent that the Company would be required to perform
      this Agreement if no such succession had taken place. Regardless whether such
      agreement is executed, this Agreement shall be binding upon any successor of
      the
      Company in accordance with the operation of law and such successor shall be
      deemed the Company for purposes of this Agreement.

     

    (e)  Successors
      and Assigns.
      Except
      as provided in Section16(d) in the case of the Company, or to the Beneficiary
      in
      the case of the death of the Executive, this Agreement is not assignable by
      any
      party and no payment to be made hereunder shall be subject to anticipation,
      alienation, sale, transfer, assignment, pledge, encumbrance or other
      charge.

     

    (f)  Remedies
      Cumulative; No Waiver.
      No
      remedy conferred upon either party by this Agreement is intended to be exclusive
      of any other remedy, and each and every such remedy shall be cumulative and
      shall be in addition to any other remedy given hereunder or now or hereafter
      existing at law or in equity. No delay or omission by either party in exercising
      any right, remedy or power hereunder or existing at law or in equity shall
      be
      construed as a waiver thereof, and any such right, remedy or power may be
      exercised by such party from time to time and as often as may be deemed
      expedient or necessary by such party in such party’s sole
      discretion.

     

    
      
        
        

      

      
        10

        
          

        

      

      
        
        

      

    

     

    (g)  Survivorship.
      Notwithstanding anything in this Agreement to the contrary, all terms and
      provisions of this Agreement that by their nature extend beyond the termination
      of this Agreement shall survive such termination.

     

    (h)  Entire
      Agreement.
      This
      Agreement sets forth the entire agreement of the parties hereto with respect
      to
      the subject matter contained herein and supersedes all prior agreements,
      promises, covenants or arrangements, whether oral or written, with respect
      thereto. 

     

    (i)  Counterparts.
      This
      Agreement may be executed in two or more counterparts, each of which shall
      constitute an original, but all of which, when taken together, shall constitute
      one document.

     

    17.  No
      Contract of Employment.
      Nothing
      contained in this Agreement will be construed as a right of the Executive to
      be
      continued in the employment of the Company, or as a limitation of the right
      of
      the Company to discharge the Executive with or without Cause.

     

    18.  Executive
      Acknowledgement.
      The
      Executive hereby acknowledges that he has read and understands the provisions
      of
      this Agreement, that he has been given the opportunity for his legal counsel
      to
      review this Agreement, that the provisions of this Agreement are reasonable
      and
      that he has received a copy of this Agreement. 

     

    
      
        
        

      

      
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    IN
      WITNESS WHEREOF, the parties hereto have caused this Employment Agreement to
      be
      executed as of the date first above written.

     

    


    DISCOVERY
      LABORATORIES, INC. 

     

    


    By:  /s/
      Robert Capetola____________

    Name:
      Robert J. Capetola, Ph.D.

    Title:
      President and CEO

     

    


    /s/
      Charles Katzer   

    Charles
      Katzer

     

    
      
        
        

      

      
        12

        
          

        

      

      
        
        

      

    


    EXHIBIT
      A

     

    


     

    (a)  “Beneficiary”
      means
      any individual, trust or other entity named by the Executive to receive the
      payments and benefits payable hereunder in the event of the death of the
      Executive. The Executive may designate a Beneficiary to receive such payments
      and benefits by completing a form provided by the Company and delivering it
      to
      the General Counsel of the Company. The Executive may change his designated
      Beneficiary at any time (without the consent of any prior Beneficiary) by
      completing and delivering to the Company a new beneficiary designation form.
      If
      a Beneficiary has not been designated by the Executive, or if no designated
      Beneficiary survives the Executive, then the payment and benefits provided
      under
      this Agreement, if any, will be paid to the Executive’s estate, which shall be
      deemed to be the Executive’s Beneficiary.

     

    (b)  “Cause”
      means:
      (i) the Executive’s willful and continued neglect of the Executive’s duties with
      the Company (other than as a result of the Executive’s incapacity due to
      physical or mental illness), after a written demand for substantial performance
      is delivered to the Executive by the Company which specifically identifies
      the
      manner in which the Company believes that the Executive has neglected his
      duties; (ii) the final conviction of the Executive of, or an entering of a
      guilty plea or a plea of no contest by the Executive to, a felony; or (iii)
      the
      Executive’s willful engagement in illegal conduct or gross misconduct which is
      materially and demonstrably injurious to the Company. 

     

    For
      purposes of this definition, no act or failure to act on the part of the
      Executive shall be considered “willful” unless it is done, or omitted to be
      done, by the Executive in bad faith or without a reasonable belief that the
      action or omission was in the best interests of the Company. Any act, or failure
      to act, based on authority given pursuant to a resolution duly adopted by the
      Board of Directors of the Company (the “Board”),
      or
      the advice of counsel to the Company, will be conclusively presumed to be done,
      or omitted to be done, by the Executive in good faith and in the best interests
      of the Company.

     

    (c)  “Change
      of Control”
      means
      the occurrence of any one of the following events: 

     

    (i)
        any
      “person” (as defined in Sections 13(d) and 14(d) of the Securities Exchange Act
      of 1934 (the “Exchange
      Act”)),
      other than the Company, any trustee or other fiduciary holding securities under
      an employee benefit plan of the Company, an underwriter temporarily holding
      securities pursuant to an offering of such securities or any corporation owned,
      directly or indirectly, by the stockholders of the Company in substantially
      the
      same proportions as their ownership of stock of the Company, directly or
      indirectly acquires “beneficial ownership” (as defined in Rule 13d-3 under the
      Exchange Act) of securities representing 35% of the combined voting power of
      the
      Company’s then outstanding securities;

     

    (ii)
        persons
      who, as of the date of this Agreement constitute the Board (the “Incumbent
      Directors”)
      cease
      for any reason, including without limitation, as a result of a tender offer,
      proxy contest, merger or similar transaction, to constitute at least a majority
      thereof; provided,
      that
      any person becoming a director of the Company subsequent to the date of this
      Agreement shall be considered an Incumbent Director if such person’s election or
      nomination for election was approved by a vote of at least two-thirds (2/3)
      of
      the Incumbent Directors in an action taken by the Board or a Committee thereof;
      provided,
      further,
      that
      any such person whose initial assumption of office is in connection with an
      actual or threatened election contest relating to the election of members of
      the
      Board or other actual or threatened solicitation of proxies or consents by
      or on
      behalf of a “person” (as defined in Section 13(d) and 14(d) of the Exchange
      Act) other than the Board, including by reason of agreement intended to avoid
      or
      settle any such actual or threatened contest or solicitation, shall not be
      considered an Incumbent Director;

     

    
      
        
        

      

      
        13

        
          

        

      

      
        
        

      

    

     

    (iii)
        the
      consummation of a reorganization, merger, statutory share exchange,
      consolidation or similar corporate transaction (each, a “Business
      Combination”)
      other
      than a Business Combination in which all or substantially all of the individuals
      and entities who were the beneficial owners of the Company’s voting securities
      immediately prior to such Business Combination beneficially own, directly or
      indirectly, more than 50% of the combined voting power of the voting securities
      of the entity resulting from such Business Combination (including, without
      limitation, an entity which as a result of the Business Combination owns the
      Company or all or substantially all of the Company’s assets either directly or
      through one or more subsidiaries) in substantially the same proportions as
      their
      ownership of the Company’s voting securities immediately prior to such Business
      Combination; or

     

    (iv)
        the
      Company consummates a sale of all or substantially all of the assets of the
      Company or the stockholders of the Company approve a plan of complete
      liquidation of the Company.

     

    (d)  “Change
      of Control Date”
      means
      any date after the date hereof on which a Change of Control occurs; provided,
      however, that if a Change of Control occurs and if the Executive’s employment
      with the Company is terminated or an event constituting Good Reason (as defined
      below) occurs prior to the Change of Control, and if it is reasonably
      demonstrated by the Executive that such termination or event (i) was at the
      request of a third party who has taken steps reasonably calculated to effect
      the
      Change of Control, or (ii) otherwise arose in connection with or in anticipation
      of the Change of Control then, for all purposes of this Agreement, the Change
      of
      Control Date shall mean the date immediately prior to the date of such
      termination or event. 

     

    (e)  “Code”
      means
      the Internal Revenue Code of 1986, as amended and the regulations promulgated
      thereunder.

     

    (f)  “Date
      of Termination”
      means
      the date specified in a Notice of Termination pursuant to Section 8 hereof,
      or
      the Executive’s last date as an active employee of the Company before a
      termination of employment due to death, Disability or other reason, as the
      case
      may be.

     

    (g)  “Disability”
      means a
      mental or physical condition that renders the Executive substantially incapable
      of performing his duties and obligations under this Agreement, after taking
      into
      account provisions for reasonable accommodation, as determined by a medical
      doctor (such doctor to be mutually determined in good faith by the parties)
      for
      three or more consecutive months or for a total of six months during any 12
      consecutive months; provided,
      that
      during such period the Company shall give the Executive at least 30 days’
written notice that it considers the time period for disability to be running.
      

     

    
      
        
        

      

      
        14

        
          

        

      

      
        
        

      

    

     

    (h)  “Effective
      Period”
      means
      the period beginning on the Change of Control Date and ending 24 months after
      the date of the related Change of Control.

     

    (i)  “Good
      Reason”
      means,
      unless the Executive has consented in writing thereto, the occurrence of any
      of
      the following: (i) the assignment to the Executive of any duties inconsistent
      with the Executive’s position, including any change in status, title, authority,
      duties or responsibilities or any other action which results in a material
      diminution in such status, title, authority, duties or responsibilities; (ii)
      a
      reduction in the Executive’s Base Salary by the Company; (iii) the relocation of
      the Executive’s office to a location more than 30 miles from Doylestown,
      Pennsylvania; (iv) the failure of the Company to comply with the provisions
      of
      Section 6(a); (v) following a Change of Control, unless a plan providing a
      substantially similar compensation or benefit is substituted, (A) the failure
      by
      the Company to continue in effect any material fringe benefit or compensation
      plan, retirement plan, life insurance plan, health and accident plan or
      disability plan in which the Executive was participating prior to the Change
      of
      Control, or (B) the taking of any action by the Company which would adversely
      affect the Executive’s participation in or materially reduce his benefits under
      any of such plans or deprive him of any material fringe benefit; or (vi) the
      failure of the Company to obtain the assumption in writing of the Company’s
      obligation to perform this Agreement by any successor to all or substantially
      all of the assets of the Company within 15 days after a Business Combination
      or
      a sale or other disposition of all or substantially all of the assets of the
      Company.

     

    (j)  “Highest
      Annual Bonus”
      means
      the largest annual cash bonus paid to the Executive by the Company with respect
      to the three fiscal years of the Company immediately preceding the year
      containing the Change of Control Date or the Date of Termination, as applicable
      (annualized for any fiscal year consisting of less than 12 full months);
      provided, however, that, solely in the event of a Change of Control occurring
      prior to Executive’s receipt of an annual cash bonus paid to the Executive by
      the Company, the Highest Annual Bonus shall mean that amount which is equal
      to
      25% of Executive’s then current base salary.

     

     

     

    15