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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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Form 10-Q



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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF

THE SECURITIES EXCHANGE
ACT OF 1934



For the quarterly period ended September 30,
2004



Commission file number 000-28401



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MAXYGEN, INC.

(Exact name of registrant as specified in its charter)



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|                         |  |                                     
|------------------------ |  | ------------------------------------
|Delaware                 |  | 77-0449487                          
|(State of incorporation) |  | (I.R.S. Employer Identification No.)



515 Galveston Drive

Redwood City, California 94063

(Address of principal executive offices, including zip code)



(650) 298-5300

(Registrants telephone number, including area
code)



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



Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange
Act).    Yesx    No ̈



As of November 1, 2004, there were 35,354,416 shares of the registrants
common stock, $0.0001 par value per share, outstanding, which is the only class of common or voting stock of the registrant issued.



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MAXYGEN, INC.

FORM 10-Q

QUARTER ENDED SEPTEMBER 30, 2004



INDEX



|                             |  |                                                                                                                        |  |   
|---------------------------- |  | ---------------------------------------------------------------------------------------------------------------------- |  | --
|                             | 
|Part I FINANCIAL INFORMATION |  |                                                                                                                       
|                             |  |                                                                                                                       
|Item 1:                      |  | Unaudited Financial Statements:                                                                                        |  |   
|                             |  |                                                                                                                       
|                             |  | Condensed Consolidated Balance Sheets as of December 31, 2003 and September 30, 2004                                   |  | 3 
|                             |  |                                                                                                                       
|                             |  | Condensed Consolidated Statements of Operations for the three and nine month periods ended September 30, 2003 and 2004 |  | 4 
|                             |  |                                                                                                                       
|                             |  | Condensed Consolidated Statements of Cash Flows for the nine month periods ended September 30, 2003 and 2004           |  | 5 
|                             |  |                                                                                                                       
|                             |  | Notes to Condensed Consolidated Financial Statements                                                                   |  | 6 
|                             |  |                                                                                                                       
|Item 2:                      |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                                  |  | 17
|                             |  |                                                                                                                       
|Item 3:                      |  | Quantitative and Qualitative Disclosures About Market Risk                                                             |  | 36
|                             |  |                                                                                                                       
|Item 4:                      |  | Controls and Procedures                                                                                                |  | 36
|                             | 
|Part II OTHER INFORMATION    |  |                                                                                                                       
|                             |  |                                                                                                                       
|Item 1:                      |  | Legal Proceedings                                                                                                      |  | 37
|                             |  |                                                                                                                       
|Item 2:                      |  | Changes in Securities and Use of Proceeds                                                                              |  | 38
|                             |  |                                                                                                                       
|Item 3:                      |  | Defaults Upon Senior Securities                                                                                        |  | 38
|                             |  |                                                                                                                       
|Item 4:                      |  | Submission of Matters to a Vote of Security Holders                                                                    |  | 38
|                             |  |                                                                                                                       
|Item 5:                      |  | Other Information                                                                                                      |  | 38
|                             |  |                                                                                                                       
|Item 6:                      |  | Exhibits                                                                                                               |  | 38
|                             | 
|SIGNATURES                   |  | 39                                                                                                                    



This report and the disclosures herein
include, on a consolidated basis, the continuing business and operations of Maxygen, Inc. and its wholly-owned subsidiaries, Maxygen ApS and Maxygen Holdings Ltd., as well as its majority-owned subsidiary Codexis, Inc., unless, in each case, the
context indicates that the disclosure applies only to a named subsidiary. The operations of Verdia, Inc. prior to its sale on July 1, 2004 are reflected as discontinued operations.



We make available on our website all reports filed with the Securities and Exchange Commission, including our reports on Form 10-K, 10-Q and
8-K, as soon as reasonably practicable after they have been filed. Our website is located at www.maxygen.com. Information contained on our website is not a part of this report.



Maxygen is a registered trademark, and MolecularBreeding is a trademark, of Maxygen, Inc. Codexis is a trademark of Codexis, Inc. Verdia is
a trademark of Verdia, Inc. The use of the word partner and partnership does not mean a legal partner or legal partnership.



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PART I  FINANCIAL INFORMATION

ITEM 1

FINANCIAL STATEMENTS



MAXYGEN, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)



|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---------------- | -------- | - | ----------------- | - | -------- | -
|                                                                                                                                                                                  |  | December 31,2003 |          |   | September 30,2004 |  
|                                                                                                                                                                                  |  | (Note 1)         |          |   | (unaudited)       |  
|ASSETS                                                                                                                                                                            |  |                  |          |   |                   |   |          |  
|Current assets:                                                                                                                                                                   |  |                  |          |   |                   |   |          |  
|Cash and cash equivalents                                                                                                                                                         |  | $                | 21,353   |   |                   | $ | 47,826   |  
|Short-term investments                                                                                                                                                            |  |                  | 91,116   |   |                   |   | 186,820  |  
|Accounts receivable and other receivables                                                                                                                                         |  |                  | 3,528    |   |                   |   | 3,783    |  
|Due from Verdia                                                                                                                                                                   |  |                  | 1,442    |   |                   |   |         |  
|Prepaid expenses and other current assets                                                                                                                                         |  |                  | 4,868    |   |                   |   | 5,418    |  
|Assets of discontinued operations                                                                                                                                                 |  |                  | 7,316    |   |                   |   |         |  
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|Total current assets                                                                                                                                                              |  |                  | 129,623  |   |                   |   | 243,847  |  
|Property and equipment, net                                                                                                                                                       |  |                  | 11,509   |   |                   |   | 8,908    |  
|Goodwill                                                                                                                                                                          |  |                  | 12,192   |   |                   |   | 12,192   |  
|Long-term investments                                                                                                                                                             |  |                  | 79,399   |   |                   |   | 6,912    |  
|Deposits and other long-term assets                                                                                                                                               |  |                  | 1,346    |   |                   |   | 2,501    |  
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|Total assets                                                                                                                                                                      |  | $                | 234,069  |   |                   | $ | 274,360  |  
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                                              |  |                  |          |   |                   |   |          |  
|Current liabilities:                                                                                                                                                              |  |                  |          |   |                   |   |          |  
|Accounts payable                                                                                                                                                                  |  | $                | 1,599    |   |                   | $ | 2,232    |  
|Accrued compensation                                                                                                                                                              |  |                  | 2,439    |   |                   |   | 5,256    |  
|Other accrued liabilities                                                                                                                                                         |  |                  | 1,904    |   |                   |   | 2,082    |  
|Deferred revenue                                                                                                                                                                  |  |                  | 4,776    |   |                   |   | 4,103    |  
|Current portion of equipment financing obligations                                                                                                                                |  |                  | 55       |   |                   |   | 446      |  
|Liabilities of discontinued operations                                                                                                                                            |  |                  | 3,126    |   |                   |   |         |  
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|Total current liabilities                                                                                                                                                         |  |                  | 13,899   |   |                   |   | 14,119   |  
|Deferred revenue                                                                                                                                                                  |  |                  | 695      |   |                   |   | 1,500    |  
|Non-current equipment financing obligations                                                                                                                                       |  |                  |         |   |                   |   | 1,497    |  
|Other long-term liabilities                                                                                                                                                       |  |                  | 41       |   |                   |   | 25       |  
|Minority interest                                                                                                                                                                 |  |                  | 21,210   |   |                   |   | 31,932   |  
|Commitments and contingencies                                                                                                                                                     |  |                  |          |   |                   |   |          |  
|Stockholders equity:                                                                                                                                                             |  |                  |          |   |                   |   |          |  
|Preferred stock, $0.0001 par value, 5,000,000 shares authorized, no shares issued and outstanding at December 31, 2003 and September 30,
2004                                     |  |                  |         |   |                   |   |         |  
|Common stock, $0.0001 par value, 100,000,000 shares authorized, 34,909,799 and 35,335,984 shares issued and outstanding at December 31, 2003
and September 30, 2004, respectively |  |                  | 3        |   |                   |   | 3        |  
|Additional paid-in capital                                                                                                                                                        |  |                  | 394,966  |   |                   |   | 397,292  |  
|Deferred stock compensation                                                                                                                                                       |  |                  | (251     | ) |                   |   |         |  
|Accumulated other comprehensive loss                                                                                                                                              |  |                  | (1,366   | ) |                   |   | (1,610   | )
|Accumulated deficit                                                                                                                                                               |  |                  | (195,128 | ) |                   |   | (170,398 | )
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|Total stockholders equity                                                                                                                                                        |  |                  | 198,224  |   |                   |   | 225,287  |  
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  
|Total liabilities and stockholders equity                                                                                                                                        |  | $                | 234,069  |   |                   | $ | 274,360  |  
|                                                                                                                                                                                  |  |                  |          |   |                   |   |          |  



See accompanying notes.



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##### Table of Contents

MAXYGEN, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(IN THOUSANDS, EXCEPT PER SHARE DATA)

(UNAUDITED)



|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|---------------------------------------------------------------------------- |  | ------------------------------- | ------ | - | ------------------------------ | - | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                             |  | Three months endedSeptember 30, |        |   | Nine months endedSeptember 30, |  
|                                                                             |  | 2003                            |        |   | 2004                           |   |         | 2003 |  |   | 2004    |  
|Collaborative research and development revenue                               |  | $                               | 4,633  |   |                                | $ | 3,451   |      |  | $ | 15,846  |   |  | $ | 11,087  |  
|Grant revenue                                                                |  |                                 | 419    |   |                                |   | 474     |      |  |   | 1,578   |   |  |   | 1,267   |  
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Total revenues                                                               |  |                                 | 5,052  |   |                                |   | 3,925   |      |  |   | 17,424  |   |  |   | 12,354  |  
|Operating expenses:                                                          |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Research and development                                                     |  |                                 | 10,974 |   |                                |   | 14,428  |      |  |   | 32,442  |   |  |   | 37,041  |  
|General and administrative                                                   |  |                                 | 2,412  |   |                                |   | 3,670   |      |  |   | 8,156   |   |  |   | 9,950   |  
|Stock compensation expense (1)                                               |  |                                 | 404    |   |                                |   | 65      |      |  |   | 1,865   |   |  |   | 347     |  
|Amortization of goodwill and other intangible assets                         |  |                                 | 126    |   |                                |   |        |      |  |   | 698     |   |  |   |        |  
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Total operating expenses                                                     |  |                                 | 13,916 |   |                                |   | 18,163  |      |  |   | 43,161  |   |  |   | 47,338  |  
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Loss from operations                                                         |  |                                 | (8,864 | ) |                                |   | (14,238 | )    |  |   | (25,737 | ) |  |   | (34,984 | )
|Interest income and other (expense), net                                     |  |                                 | 1,029  |   |                                |   | 1,015   |      |  |   | 3,789   |   |  |   | 2,286   |  
|Equity in losses of minority investee                                        |  |                                 | (231   | ) |                                |   |        |      |  |   | (231    | ) |  |   | (1,000  | )
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Loss from continuing operations                                              |  |                                 | (8,066 | ) |                                |   | (13,223 | )    |  |   | (22,179 | ) |  |   | (33,698 | )
|Discontinued operations:                                                     |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Loss from discontinued operations                                            |  |                                 | (871   | ) |                                |   |        |      |  |   | (699    | ) |  |   | (2,769  | )
|Gain on sale of discontinued operations (net of taxes and transaction costs) |  |                                 |       |   |                                |   | 61,197  |      |  |   |        |   |  |   | 61,197  |  
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Net income (loss) from discontinued operations                               |  |                                 | (871   | ) |                                |   | 61,197  |      |  |   | (699    | ) |  |   | 58,428  |  
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Net income (loss)                                                            |  |                                 | (8,937 | ) |                                |   | 47,974  |      |  |   | (22,878 | ) |  |   | 24,730  |  
|Subsidiary preferred stock accretion                                         |  |                                 | (319   | ) |                                |   | (250    | )    |  |   | (957    | ) |  |   | (750    | )
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Income (loss) applicable to common stockholders                              |  | $                               | (9,256 | ) |                                | $ | 47,724  |      |  | $ | (23,835 | ) |  | $ | 23,980  |  
|                                                                             |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Basic and diluted income (loss) per share:                                   |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Continuing operations                                                        |  | $                               | (0.23  | ) |                                | $ | (0.38   | )    |  | $ | (0.65   | ) |  | $ | (0.96   | )
|Discontinued operations                                                      |  | $                               | (0.03  | ) |                                | $ | 1.74    |      |  | $ | (0.02   | ) |  | $ | 1.67    |  
|Applicable to common stockholders                                            |  | $                               | (0.27  | ) |                                | $ | 1.35    |      |  | $ | (0.69   | ) |  | $ | 0.68    |  
|                                                                             |  |                                 |        |  
|Shares used in per share calculations:                                       |  |                                 |        |   |                                |   |         |      |  |   |         |   |  |   |         |  
|Basic and diluted                                                            |  |                                 | 34,667 |   |                                |   | 35,236  |      |  |   | 34,338  |   |  |   | 35,082  |  

---

|(1) | Stock compensation expense related to the following:
|--- | ----------------------------------------------------



|                           |  |   |     |  |   |    |  |   |       |  |   |    
|-------------------------- |  | - | --- |  | - | -- |  | - | ----- |  | - | ---
|Research and development   |  | $ | 286 |  | $ | 50 |  | $ | 1,419 |  | $ | 288
|General and administrative |  |   | 118 |  |   | 15 |  |   | 446   |  |   | 59 
|                           |  |   |     |  |   |    |  |   |       |  |   |    
|                           |  | $ | 404 |  | $ | 65 |  | $ | 1,865 |  | $ | 347
|                           |  |   |     |  |   |    |  |   |       |  |   |    

See accompanying notes.



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MAXYGEN, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

(UNAUDITED)



|                                                                                                                     |  |                                |          |   |      |   |          |  
|-------------------------------------------------------------------------------------------------------------------- |  | ------------------------------ | -------- | - | ---- | - | -------- | -
|                                                                                                                     |  | Nine months endedSeptember 30, |         
|                                                                                                                     |  | 2003                           |          |   | 2004 |  
|Operating activities                                                                                                 |  |                                |          |   |      |   |          |  
|Loss from continuing operations                                                                                      |  | $                              | (22,179  | ) |      | $ | (33,698  | )
|Adjustments to reconcile loss from continuing operations to net cash used in operating activities:                   |  |                                |          |   |      |   |          |  
|Depreciation and amortization                                                                                        |  |                                | 4,669    |   |      |   | 4,636    |  
|Amortization of intangible assets                                                                                    |  |                                | 698      |   |      |   |         |  
|Equity in losses of minority investee                                                                                |  |                                |         |   |      |   | 1,000    |  
|Non-cash stock compensation                                                                                          |  |                                | 1,828    |   |      |   | 538      |  
|Common stock issued and stock options granted to consultants for services rendered and for certain technology rights |  |                                | 710      |   |      |   | 535      |  
|Changes in operating assets and liabilities:                                                                         |  |                                |          |   |      |   |          |  
|Accounts receivable and other receivables                                                                            |  |                                | (122     | ) |      |   | (255     | )
|Prepaid expenses and other current assets                                                                            |  |                                | 314      |   |      |   | (333     | )
|Deposits and other assets                                                                                            |  |                                | (194     | ) |      |   | (1,155   | )
|Accounts payable                                                                                                     |  |                                | 303      |   |      |   | 633      |  
|Accrued compensation                                                                                                 |  |                                | 1,511    |   |      |   | 2,817    |  
|Other accrued liabilities                                                                                            |  |                                | (1,502   | ) |      |   | 162      |  
|Deferred revenue                                                                                                     |  |                                | 464      |   |      |   | 132      |  
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Net cash used in operating activities                                                                                |  |                                | (13,500  | ) |      |   | (24,988  | )
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Investing activities                                                                                                 |  |                                |          |   |      |   |          |  
|Purchases of available-for-sale securities                                                                           |  |                                | (151,689 | ) |      |   | (104,678 | )
|Maturities of available-for-sale securities                                                                          |  |                                | 141,714  |   |      |   | 80,939   |  
|Investment in minority investee                                                                                      |  |                                |         |   |      |   | (1,000   | )
|Acquisition of property and equipment                                                                                |  |                                | (3,023   | ) |      |   | (1,964   | )
|Proceeds from the sale of Verdia                                                                                     |  |                                |         |   |      |   | 62,616   |  
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Net cash provided by (used in) investing activities                                                                  |  |                                | (12,998  | ) |      |   | 35,913   |  
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Financing activities                                                                                                 |  |                                |          |   |      |   |          |  
|Repayments under equipment financing obligation                                                                      |  |                                | (540     | ) |      |   | (299     | )
|Borrowings under equipment financing obligation                                                                      |  |                                |         |   |      |   | 2,187    |  
|Equity adjustment from foreign currency translation                                                                  |  |                                | (178     | ) |      |   | (8       | )
|Minority investment                                                                                                  |  |                                | (69      | ) |      |   | 9,972    |  
|Proceeds from issuance of common stock                                                                               |  |                                | 1,785    |   |      |   | 2,254    |  
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Net cash provided by financing activities                                                                            |  |                                | 998      |   |      |   | 14,106   |  
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Cash provided from (used for) discontinued operations                                                                |  |                                | (675     | ) |      |   | 1,442    |  
|                                                                                                                     |  |                               
|Net increase (decrease) in cash and cash equivalents                                                                 |  |                                | (26,175  | ) |      |   | 26,473   |  
|Cash and cash equivalents at beginning of period                                                                     |  |                                | 58,600   |   |      |   | 21,353   |  
|                                                                                                                     |  |                                |          |   |      |   |          |  
|Cash and cash equivalents at end of period                                                                           |  | $                              | 32,425   |   |      | $ | 47,826   |  
|                                                                                                                     |  |                                |          |   |      |   |          |  



See accompanying notes.



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MAXYGEN, INC.



NOTES TO CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)



1. Basis of Presentation and Significant Accounting Policies



Basis of Presentation



The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information. The information as of September
30, 2004, and for the three months and nine months ended September 30, 2003 and September 30, 2004 includes all adjustments (consisting only of normal recurring adjustments) that the management of Maxygen, Inc. (Maxygen or the
Company) believes necessary for fair presentation of the results for the periods presented. The Condensed Consolidated Balance Sheet as of December 31, 2003 has been derived from the audited financial statements at that date.



Results for any interim period are not necessarily indicative of results for any future
interim period or for the entire year. The accompanying Condensed Consolidated Financial Statements should be read in conjunction with the financial statements and notes thereto included in the Companys Annual Report on Form 10-K for the year
ended December 31, 2003.



On June 2, 2004, the Company agreed to sell Verdia,
Inc. (its wholly-owned subsidiary) to Pioneer Hi-Bred International, Inc., a wholly-owned subsidiary of E.I. du Pont de Nemours and Company. This transaction closed on July 1, 2004 (see Notes 7 and 8). The Company has reclassified the operating
results of Verdia to discontinued operations in the Consolidated Financial Statements for the three months and nine months ended September 30, 2003 and September 30, 2004 as a result of the Companys sale of Verdia. The assets, liabilities and
results of operations and cash flows of Verdia. have been reported separately as discontinued operations in the Companys Condensed Consolidated Financial Statements for all periods presented.



Principles of Consolidation



The consolidated financial statements include the amounts of the Company and its
wholly-owned subsidiaries, Maxygen ApS (Denmark) and Maxygen Holdings Ltd. (Cayman Islands), as well as its majority-owned subsidiary, Codexis, Inc.



The Companys ownership in Codexis was 51.4% as of September 30, 2004, based upon the voting rights of the issued and outstanding shares of Codexis common and
preferred stock. In accordance with EITF Consensus 96-16, Investor Accounting for an Investee When the Investor Has a Majority of the Voting Interest but the Minority Stockholder or Stockholders Have Certain Approval or Veto Rights and
paragraph 1 of ARB No. 51, Consolidated Financial Statements, the Company has included 100% of the net losses of Codexis in the determination of the Companys consolidated net loss. The Company records minority interest in the
Condensed Consolidated Balance Sheets to account for the ownership interest of the minority owners of Codexis.



On September 13, 2002, Codexis sold $15 million of Codexis series B convertible preferred stock to investors, of which $5 million was purchased by Maxygen and $10 million was purchased by several unrelated investors.
On October 1, 2002, Codexis sold an additional $10 million of series B convertible preferred stock to unrelated investors. On July 26, 2004, Codexis sold $10 million of series C convertible preferred stock to Pfizer. Series B convertible preferred
stock included a redemption provision, which provided that the holders of at least a majority of the outstanding shares of series B convertible preferred stock (excluding the Series B convertible preferred stock held by Maxygen and its affiliates),
voting together as a separate class, may require Codexis to redeem the Series B convertible preferred stock. The redemption price for each share will be payable in cash in exchange for the shares of Series B convertible preferred stock to be
redeemed at a sum equal to the applicable original issue price per share plus five percent (5%) of the original issue price per year from the original issue date until the applicable redemption date, plus declared and unpaid dividends. Notice of
redemption can be given at any time on or after the fifth anniversary of the original issue date. In connection with these redemption rights, Maxygen has recorded accretion of the redemption premium for the series B convertible preferred stock,
excluding the shares owned by Maxygen, in the amount of $957,000 and $750,000 for the nine months ended September 30, 2003 and 2004, respectively. The accretion is recorded as subsidiary preferred stock accretion on the Condensed Consolidated
Statement of Operations and as a reduction of additional paid-in capital on the Condensed Consolidated Balance



6



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##### Table of Contents

Sheets. Any obligation to make redemption payments is solely an obligation of Codexis and any payments are to be made
solely from assets of Codexis. Codexis had 8,101,101 shares of series B convertible preferred stock outstanding at September 30, 2004, and the total redemption value of these outstanding shares was $27.5 million at September 30, 2004; the total
redemption value less the redemption value relating to Maxygens shares is reflected as minority interest on the Condensed Consolidated Balance Sheets.



The Companys investment in Avidia Research Institute, formed by the Company and several outside investors in July 2003, in which the Company has an equity interest
of 45.9%, is being accounted for under the equity method of accounting.



Reclassifications



Certain previously reported amounts have
been reclassified to conform with the current period presentation. These reclassifications, when made, did not have any affect on loss applicable to common stockholders, total assets or total liabilities and stockholders equity.



Revenue Recognition



The Company recognizes revenue from multiple element arrangements under collaborative
research agreements, which include license payments, research and development services, milestones, and royalties. Revenue arrangements with multiple deliverables are accounted for under the provisions of Emerging Issues Task Force Issue No. 00-21,
Revenue Arrangements with Multiple Deliverables, and are divided into separate units of accounting if certain criteria are met, including whether the delivered item has stand-alone value to the customer and whether there is objective and
reliable evidence of the fair value of the undelivered items in the arrangement. If applicable, the consideration the Company receives is allocated among the separate units of accounting based on their respective fair values, and the applicable
revenue recognition criteria are considered separately for each of the separate units.



Non-refundable up-front payments received in connection with research and development collaboration agreements, including license fees, and technology advancement funding that is intended for the development of the Companys core
technology, are deferred and recognized on a straight-line basis over the relevant periods specified in the agreement, generally the research term.



Revenue related to collaborative research payments with the Companys corporate collaborators is recognized as research services are performed over the related
funding periods for each contract. Under these agreements, the Company is typically required to perform research and development activities as specified in each respective agreement. Generally, the payments received are not refundable and are based
on a contractual cost per full-time equivalent employee working on the project. Research and development expenses under the collaborative research agreements approximate or exceed the research funding revenue recognized under such agreements over
the term of the respective agreements. Deferred revenue may result when the Company does not incur the required level of effort during a specific period in comparison to funds received under the respective contracts. Payments received related to
substantive, at-risk incentive milestones, if any, are recognized as revenue upon achievement of the incentive milestone event because the Company has no future performance obligations related to the payment. Incentive milestone payments are
triggered either by the results of the Companys research efforts or by events external to the Company, such as regulatory approval to market a product.



The Company receives royalties from licensees, which are typically based on third-party sales of licensed products or use of licensed technologies. Royalties are recorded
as earned in accordance with the contract terms when third-party results can be reliably measured and collectibility is reasonably assured.



The Company has been awarded grants from the Defense Advanced Research Projects Agency (DARPA), National Institute of Standards and Technology-Advanced
Technology Program, the U.S. Agency for International Development and the U.S. Army Medical Research and Materiel Command for various research and development projects. The terms of each of these grant agreements are three years with various
termination dates, the last of which is August 2005 for existing agreements. Revenue related to grant agreements is recognized as related research and development expenses are incurred.



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Income (Loss) per common share



Basic and diluted income (loss) per common share has been computed using the weighted-average number of shares of common stock outstanding
during the period, less shares subject to repurchase. The following table presents the calculation of basic and diluted income (loss) per common share (in thousands, except per share data):



|                                                                                    |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|----------------------------------------------------------------------------------- |  | ------------------------------- | ------ | ------------------------------ | ---- | - | ------ |  | - | ------- | - |  | - | ------ | -
|                                                                                    |  | Three months endedSeptember 30, |        | Nine months endedSeptember 30, |     
|                                                                                    |  | 2003                            |        |                                | 2004 |   | 2003   |  |   | 2004    |  
|Income (loss) applicable to common stockholders                                     |  | $                               | (9,256 | )                              |      | $ | 47,724 |  | $ | (23,835 | ) |  | $ | 23,980 |  
|                                                                                    |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|Basic and diluted:                                                                  |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|Weighted-average shares of common stock outstanding                                 |  |                                 | 34,822 |                                |      |   | 35,236 |  |   | 34,611  |   |  |   | 35,084 |  
|Less: weighted-average shares subject to repurchase                                 |  |                                 | (155   | )                              |      |   |       |  |   | (273    | ) |  |   | (2     | )
|                                                                                    |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|Weighted-average shares used in computing basic and diluted income (loss) per share |  |                                 | 34,667 |                                |      |   | 35,236 |  |   | 34,338  |   |  |   | 35,082 |  
|                                                                                    |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|Basic and diluted income (loss) per common share                                    |  | $                               | (0.27  | )                              |      | $ | 1.35   |  | $ | (0.69   | ) |  | $ | 0.68   |  
|                                                                                    |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  



In accordance with FAS 128,
Earnings Per Share, the Company has excluded all outstanding stock options, outstanding warrants and shares subject to repurchase from the calculation of diluted income (loss) per common share because all such securities are antidilutive
to loss from continuing operations for all applicable periods presented. The total number of shares excluded from the calculations of diluted income (loss) per share, prior to application of the treasury stock method for options, was 9,970,309 at
September 30, 2003 and 9,260,210 at September 30, 2004.



Comprehensive
Income (Loss)



Comprehensive income (loss) is primarily comprised of net
income (loss), net unrealized gains or losses on available-for-sale securities, and foreign currency translation adjustments. Comprehensive income (loss) and its components for the three month and nine month periods ended September 30, 2003 and
September 30, 2004 were as follows (in thousands):



|                                                                   |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|------------------------------------------------------------------ |  | ------------------------------- | ------ | ------------------------------ | ---- | - | ------ |  | - | ------- | - |  | - | ------ | -
|                                                                   |  | Three months endedSeptember 30, |        | Nine months endedSeptember 30, |     
|                                                                   |  | 2003                            |        |                                | 2004 |   | 2003   |  |   | 2004    |  
|Net income (loss)                                                  |  | $                               | (8,937 | )                              |      | $ | 47,974 |  | $ | (22,878 | ) |  | $ | 24,730 |  
|Changes in unrealized gain (loss) on securities available-for-sale |  |                                 | 39     |                                |      |   | 194    |  |   | (45     | ) |  |   | (521   | )
|Changes in foreign currency translation adjustments                |  |                                 | (88    | )                              |      |   | 60     |  |   | (386    | ) |  |   | 277    |  
|                                                                   |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  
|Comprehensive income (loss)                                        |  | $                               | (8,986 | )                              |      | $ | 48,228 |  | $ | (23,309 | ) |  | $ | 24,486 |  
|                                                                   |  |                                 |        |                                |      |   |        |  |   |         |   |  |   |        |  



The components of accumulated other
comprehensive loss were as follows (in thousands):



|                                                   |  |                  |        |   |                   |   |        |  
|-------------------------------------------------- |  | ---------------- | ------ | - | ----------------- | - | ------ | -
|                                                   |  | December 31,2003 |        |   | September 30,2004 |  
|Unrealized gains on securities available-for-sale  |  | $                | 200    |   |                   | $ | 5      |  
|Unrealized losses on securities available-for-sale |  |                  | (82    | ) |                   |   | (408   | )
|Foreign currency translation adjustments           |  |                  | (1,484 | ) |                   |   | (1,207 | )
|                                                   |  |                  |        |   |                   |   |        |  
|Accumulated other comprehensive loss               |  | $                | (1,366 | ) |                   | $ | (1,610 | )
|                                                   |  |                  |        |   |                   |   |        |  



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Recent Accounting Pronouncements



In January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46 (or FIN 46), Consolidation
of Variable Interest Entities. FIN 46 requires a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entitys activities or entitled to receive a
majority of the entitys residual returns or both. A variable interest entity is a corporation, partnership, trust, or any other legal structures used for business purposes that either (a) does not have equity investors with voting rights or
(b) has equity investors that do not provide sufficient financial resources for the entity to support its activities. A variable interest entity often holds financial assets, including loans or receivables, real estate or other property. A variable
interest entity may be essentially passive or it may engage in research and development or other activities on behalf of another entity. The consolidation requirements of FIN 46 apply to variable interest entities created after January 31, 2003. In
December 2003, the FASB completed deliberations of proposed modifications to FIN 46 (Revised Interpretations) resulting in multiple effective dates based on the nature as well as the creation date of the variable interest entity. Variable interest
entities created after January 31, 2003, but prior to January 1, 2004, may be accounted for either based on the original interpretation or the Revised Interpretations. However, the Revised Interpretations must be applied no later than the first
quarter of fiscal year 2004. Variable interest entities created after January 1, 2004 must be accounted for under the Revised Interpretations. There has been no material impact to the Companys financial statements from potential variable
interest entities entered into after January 31, 2003 or from the adoption of the deferred provisions in the first quarter of fiscal year 2004.



In November 2003, the Emerging Issues Task Force reached consensus on paragraph 18 of Issue No. 03-01 (EITF 03-01), The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments. Effective for years ending after December 15, 2003, EITF 03-01 requires that certain quantitative and qualitative disclosures should be required for debt and marketable equity securities
classified as available-for-sale or held-to-maturity under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities and SFAS No. 124, Accounting for Certain Investments Held by Not-for-Profit
Organizations that are impaired at the balance sheet date but for which an other-than-temporary impairment has not been recognized. The provisions of this consensus do not have a significant effect on the Companys financial position or
operating results.



On March 31, 2004, the Financial Accounting Standards Board
(FASB) issued an exposure draft of a statement titled Share-Based Payment, that addresses the accounting for share-based payment transactions in which an enterprise receives employee services in exchange for (a) equity
instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprises equity instruments or that may be settled by the issuance of such equity instruments. The statement would eliminate the ability to account for
share-based compensation transactions using APB Opinion No. 25, Accounting for Stock Issued to Employees, and generally would require instead that such transactions be accounted for using a fair-value-based method.



The Company currently applies the recognition and measurement principles of APB Opinion No.
25. Under this opinion, no stock-based employee compensation expense is charged for options that were granted at an exercise price that was equal to the market value of the underlying common stock on the date of grant. Pro forma information
regarding net income and earnings per share is required to be disclosed in the footnotes to the Companys financial statements by Statement of Financial Accounting Standards (SFAS) No. 123, as amended by SFAS No. 148, as if the
Company had accounted for the employee stock options under the fair value method of that statement.



On October 13, 2004, the FASB concluded that the statement would be effective for public companies for interim or annual periods beginning after June 15, 2005. The FASB currently plans to issue a final statement on or
around December 15, 2004. When the Company adopts the new statement, if it is approved by the FASB as anticipated, the Company will have to recognize substantially more compensation expense. This could have a material adverse impact on the
Companys results of operations.



Stock-Based Compensation



The Company accounts for common stock options granted to employees using
the intrinsic value method and, thus, recognizes no compensation expense for options granted with exercise prices equal to or greater than the fair value of the Companys common stock on the date of the grant.



In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation, Transition and Disclosure. SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value based



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method of accounting for stock-based employee compensation. SFAS No. 148 also requires that disclosures of the pro forma
effect of using the fair value method of accounting for stock-based employee compensation be displayed more prominently and in a tabular format. Additionally, SFAS No. 148 requires disclosure of the pro forma effect in interim financial statements.
The transition and annual disclosure requirements of SFAS No. 148 are effective for years ending after December 15, 2002.



As permitted under SFAS No. 148, the Company has elected to continue to follow the intrinsic value method in accounting for its stock-based employee compensation
arrangement as defined by Accounting Principles Board Opinion (APB) No. 25, Accounting for Stock Issued to Employees, and related interpretations including FASB Interpretation No. 44, Accounting for Certain Transactions
involving Stock Compensation, an interpretation of APB No. 25. The following table illustrates the effect on net loss and net loss per common share if the Company had applied the fair value recognition provisions of SFAS No. 123, as amended by
SFAS No. 148, using the Black-Scholes option-pricing model, to determine stock-based employee compensation (in thousands, except per share data):



|                                                                                                                    |  |                                 |         |   |                                |   |        |      |  |   |         |   |  |   |        |  
|------------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | ------- | - | ------------------------------ | - | ------ | ---- |  | - | ------- | - |  | - | ------ | -
|                                                                                                                    |  | Three months endedSeptember 30, |         |   | Nine months endedSeptember 30, |  
|                                                                                                                    |  | 2003                            |         |   | 2004                           |   |        | 2003 |  |   | 2004    |  
|Net income (loss), as reported                                                                                      |  | $                               | (8,937  | ) |                                | $ | 47,974 |      |  | $ | (22,878 | ) |  | $ | 24,730 |  
|Add: Stock based employee compensation cost included in the determination of net loss, as reported                  |  |                                 | 381     |   |                                |   | 59     |      |  |   | 1,811   |   |  |   | 237    |  
|Deduct: Total stock based employee compensation expense determined under the fair value-based method for all awards |  |                                 | (4,630  | ) |                                |   | (1,639 | )    |  |   | (10,303 | ) |  |   | (6,847 | )
|                                                                                                                    |  |                                 |         |   |                                |   |        |      |  |   |         |   |  |   |        |  
|Pro forma net income (loss)                                                                                         |  | $                               | (13,186 | ) |                                | $ | 46,394 |      |  | $ | (31,370 | ) |  | $ | 18,120 |  
|                                                                                                                    |  |                                 |         |   |                                |   |        |      |  |   |         |   |  |   |        |  
|Net income (loss) per common share                                                                                  |  |                                 |         |   |                                |   |        |      |  |   |         |   |  |   |        |  
|Basic and diluted                                                                                                   |  | $                               | (0.26   | ) |                                | $ | 1.36   |      |  | $ | (0.66   | ) |  | $ | 0.70   |  
|                                                                                                                    |  |                                 |         |   |                                |   |        |      |  |   |         |   |  |   |        |  
|Basic and diluted  pro forma                                                                                       |  | $                               | (0.38   | ) |                                | $ | 1.32   |      |  | $ | (0.91   | ) |  | $ | 0.52   |  
|                                                                                                                    |  |                                 |         |   |                                |   |        |      |  |   |         |   |  |   |        |  



The Black-Scholes option-pricing model
was developed for use in estimating the fair value of traded options that have no restrictions and are fully transferable and negotiable in a free trading market. Black-Scholes does not consider the employment, transfer or vesting restrictions that
are inherent in the Companys employee options. Use of an option valuation model, as required by SFAS No. 123, includes highly subjective assumptions based on long-term predictions, including the expected stock price volatility and average life
of each option grant. Because the Companys employee stock options have characteristics significantly different from those of freely traded options, and because changes in the subjective input assumptions can materially affect the
Companys estimate of the fair value of those options, in the Companys opinion, existing valuation models, including Black-Scholes, are not reliable single measures and may misstate the fair value of the Companys employee stock
options. The Black-Scholes weighted average estimated fair values of stock options granted during the three months ended September 30, 2003 and 2004 were $5.31 and $4.72 per share, respectively and for the nine months ended September 30, 2003 and
2004 were $4.30 and $4.89 per share, respectively.



2. Investments



Management determines the appropriate classification of debt securities
at the time of purchase and reevaluates such designation as of each balance sheet date. The Companys debt securities are classified as available-for-sale and are carried at estimated fair value in cash equivalents and investments. Unrealized
gains and losses are reported as accumulated other comprehensive loss in stockholders equity. The amortized cost of debt securities in this category is adjusted for amortization of premiums and accretion of discounts to maturity. Such
amortization is included in interest income. Realized gains and losses on available-for-sale securities and declines in value deemed to be other than temporary, if any, are included in interest income and expense. The cost of securities sold is
based on the specific identification method. Interest and dividends on securities classified as available-for-sale are included in interest income. The Companys cash equivalents and investments as of September 30, 2004 were as follows (in
thousands):



|                                            |  |               |         |   |                      |   |                       |  |   |                     |   |  |   |         |  
|------------------------------------------- |  | ------------- | ------- | - | -------------------- | - | --------------------- |  | - | ------------------- | - |  | - | ------- | -
|                                            |  | AmortizedCost |         |   | GrossUnrealizedGains |   | GrossUnrealizedLosses |  |   | EstimatedFair Value |  
|Money market funds                          |  | $             | 30,352  |   |                      | $ |                      |  | $ |                    |   |  | $ | 30,352  |  
|Corporate bonds                             |  |               | 144,104 |   |                      |   |                      |  |   | (387                | ) |  |   | 143,717 |  
|Commercial paper                            |  |               | 46,627  |   |                      |   | 4                     |  |   | (4                  | ) |  |   | 46,627  |  
|Government bonds                            |  |               | 20,878  |   |                      |   | 1                     |  |   | (17                 | ) |  |   | 20,862  |  
|                                            |  |               |         |   |                      |   |                       |  |   |                     |   |  |   |         |  
|Total                                       |  |               | 241,961 |   |                      |   | 5                     |  |   | (408                | ) |  |   | 241,558 |  
|Less amounts classified as cash equivalents |  |               | (47,826 | ) |                      |   |                      |  |   |                    |   |  |   | (47,826 | )
|                                            |  |               |         |   |                      |   |                       |  |   |                     |   |  |   |         |  
|Total investments                           |  | $             | 194,135 |   |                      | $ | 5                     |  | $ | (408                | ) |  | $ | 193,732 |  
|                                            |  |               |         |   |                      |   |                       |  |   |                     |   |  |   |         |  



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Realized gains or losses on the sale of available-for-sale securities for the three month and nine month periods ended
September 30, 2003 and September 30, 2004 were insignificant.



At September 30,
2004, the contractual maturities of investments were as follows (in thousands):



|                    |  |               |         |                     |   |        
|------------------- |  | ------------- | ------- | ------------------- | - | -------
|                    |  | AmortizedCost |         | EstimatedFair Value
|Due within one year |  | $             | 187,185 |                     | $ | 186,820
|Due after one year  |  |               | 6,950   |                     |   | 6,912  
|                    |  |               |         |                     |   |        
|                    |  | $             | 194,135 |                     | $ | 193,732
|                    |  |               |         |                     |   |        



3. Derivatives and Financial
Instruments



The Company addresses certain financial exposures through a
program of risk management that includes the use of derivative financial instruments. To date, the Company has only entered into foreign currency forward exchange contracts generally expiring within fifteen months to reduce the effects of
fluctuating foreign currency exchange rates on forecasted cash requirements.



All derivatives are recognized on the balance sheet at their fair value. The Company has designated its derivatives as foreign currency cash flow hedges. Changes in the fair value of derivatives that are highly effective as, and that are
designated and qualify as, foreign currency cash flow hedges are recorded in other comprehensive income until the associated hedged transaction impacts earnings.



The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk-management objective and
strategy for undertaking various hedge transactions. The Company also formally assesses, both at the hedges inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting
changes in fair values or cash flows of hedged items. When it is determined that a derivative is not highly effective as a hedge or that it has ceased to be a highly effective hedge, the Company discontinues hedge accounting prospectively.



The purpose of the hedging activities is to minimize the effect of foreign
currency exchange rate movements on the cash flows related to the Companys funding of Maxygen ApS. To date, foreign currency contracts are denominated in Danish kroner. At September 30, 2004, the Company had foreign currency contracts
outstanding in the form of forward exchange contracts totaling $8.7 million.



4. Collaborative Agreements



Pfizer



On July 26, 2004, Codexis entered into a multi-year collaborative research agreement and a
license agreement with Pfizer to discover and develop biocatalysts, and associated processes that use such biocatalysts, in the manufacture of pharmaceutical products for Pfizer. Under the terms of these agreements, Pfizer provided Codexis an
upfront technology access fee and will provide research funding over a multi-year period. Codexis is also eligible to receive milestone payments, a license fee in the event that Pfizer exercises its option to acquire a non-exclusive worldwide
license to certain Codexis gene shuffling technologies, and royalties.



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##### Table of Contents

Concurrent with the execution of the multi-year collaborative research agreement and the license agreement, Codexis and
Pfizer also entered into a stock purchase agreement in which Pfizer purchased from Codexis Series C convertible preferred stock for net proceeds of approximately $10 million. With the Pfizer investment, Maxygens ownership of Codexis was
reduced to 51.4%.



5. Litigation



In December 2001 a lawsuit was filed in the U.S. District Court for the Southern District of
New York against Maxygen, Inc., certain officers of the Company, and certain underwriters of the Companys initial public offering and secondary public offering of common stock. The complaint, which alleges claims under Sections 11, 12(a)(2)
and 15 of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934, is among the so-called laddering cases that have been commenced against over 300 companies that had public offerings of securities in 1999 and
2000. The complaint has been consolidated with other laddering claims in a proceeding styled In re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS), pending before the Honorable Shira A. Scheindlin. In February 2003, the
court dismissed the Section 10(b) claim against the officers of the Company; the remainder of the case remains pending.



In June 2003 the Company agreed to the terms of a tentative settlement agreement along with other defendant issuers in In re Initial Public Offering Securities
Litigation. The tentative settlement provides that the 309 defendant issuers and their insurers will pay to the plaintiffs $1 billion less any recovery of damages the plaintiffs receive from the defendant underwriters. If the plaintiffs receive
over $5 billion in damages from the defendant underwriters, the Company will be entitled to reimbursement of various expenses incurred by the Company as a result of the litigation. As part of the tentative settlement, the Company will assign to the
plaintiffs its excess compensation claims and certain other of its claims against the defendant underwriters as a result of the alleged actions of the defendant underwriters. The settlement is subject to acceptance by a substantial
majority of defendants and execution of a definitive settlement agreement. The settlement is also subject to court approval, which cannot be assured. The Company believes that its portion of the tentative settlement of the litigation, if any, will
be covered by existing insurance.



If the settlement is not accepted by the
requisite number of defendants or if it does not receive court approval, the Company intends to defend the lawsuit vigorously. However, the litigation is in the preliminary stage, and the Company cannot predict its outcome. The litigation process is
inherently uncertain. If the outcome of the litigation is adverse to the Company and if the Company is required to pay significant damages, the Companys business would be significantly harmed.



From time to time, the Company becomes involved in claims and legal proceedings that arise in
the ordinary course of its business. The Company does not believe that the resolution of any such claims will have a material adverse effect on its financial statements.



6. Segment Information



For the period ended September 30, 2003 the Company had four reportable segments: human therapeutics, chemicals, agriculture and all other. However, later in 2003 the
Company reorganized into three segments - human therapeutics, chemicals and agriculture. On July 1, 2004 the Company disposed of its agriculture segment (see Notes 7 and 8). The Company has determined its reportable operating segments based upon how
the business is managed and operated. The accounting policies of the segments described above are the same as those described in Note 1.



Segment Loss



During the period ended September 30, 2003 the Company evaluated the performance of its operating segments without considering the effects of net interest income and other (expense), amortization of intangibles and
stock compensation expense, all of which were managed by corporate headquarters. Later in 2003 the Company began to evaluate its segments on a standalone, fully allocated, basis. Therefore the segment loss for the three and nine months ended
September 30, 2003 have been adjusted to be consistent with the 2003 reorganization. Corporate administrative costs are generally allocated based on headcount.



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|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|-------------------------------------------------------------- |  | ----------------- | ------- | - | ------------------ | - | ------- | ------------------------- |  | - | ------- | -
|(in thousands)                                                 |  | HumanTherapeutics |         |   | Chemicals(Codexis) |   |         | Maxygen, Inc.Consolidated | 
|Three months ended September 30, 2003                          |  |                   |         |   |                    |   |         |                           |  |   |         |  
|                                                               |  |                   |        
|Segment loss                                                   |  | $                 | (5,699  | ) |                    | $ | (2,635  | )                         |  | $ | (8,334  | )
|Stock compensation                                             |  |                   | (404    | ) |                    |   |        |                           |  |   | (404    | )
|Amortization of intangibles                                    |  |                   | (126    | ) |                    |   |        |                           |  |   | (126    | )
|Interest income and other (expense), net                       |  |                   | 964     |   |                    |   | 65      |                           |  |   | 1,029   |  
|Equity in losses of minority investee                          |  |                   | (231    | ) |                    |   |        |                           |  |   | (231    | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss from continuing operations                                |  |                   | (5,496  | ) |                    |   | (2,570  | )                         |  |   | (8,066  | )
|Subsidiary preferred stock accretion                           |  |                   |        |   |                    |   | (319    | )                         |  |   | (319    | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss applicable to common stockholders  continuing operations |  | $                 | (5,496  | ) |                    | $ | (2,889  | )                         |  | $ | (8,385  | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Three months ended September 30, 2004                          |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Segment loss                                                   |  | $                 | (10,941 | ) |                    | $ | (3,232  | )                         |  | $ | (14,173 | )
|Stock compensation                                             |  |                   | (58     | ) |                    |   | (7      | )                         |  |   | (65     | )
|Interest income and other (expense), net                       |  |                   | 982     |   |                    |   | 33      |                           |  |   | 1,015   |  
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss from continuing operations                                |  |                   | (10,017 | ) |                    |   | (3,206  | )                         |  |   | (13,223 | )
|Subsidiary preferred stock accretion                           |  |                   |        |   |                    |   | (250    | )                         |  |   | (250    | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss applicable to common stockholders  continuing operations |  | $                 | (10,017 | ) |                    | $ | (3,456  | )                         |  | $ | (13,473 | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|                                                               |  |                   |        
|(in thousands)                                                 |  | HumanTherapeutics |         |   | Chemicals(Codexis) |   |         | Maxygen, Inc.Consolidated | 
|Nine months ended September 30, 2003                           |  |                   |         |   |                    |   |         |                           |  |   |         |  
|                                                               |  |                   |        
|Segment loss                                                   |  | $                 | (18,526 | ) |                    | $ | (4,648  | )                         |  | $ | (23,174 | )
|Stock compensation                                             |  |                   | (1,865  | ) |                    |   |        |                           |  |   | (1,865  | )
|Amortization of intangibles                                    |  |                   | (698    | ) |                    |   |        |                           |  |   | (698    | )
|Interest income and other (expense), net                       |  |                   | 3,555   |   |                    |   | 234     |                           |  |   | 3,789   |  
|Equity in losses of minority investee                          |  |                   | (231    | ) |                    |   |        |                           |  |   | (231    | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss from continuing operations                                |  |                   | (17,765 | ) |                    |   | (4,414  | )                         |  |   | (22,179 | )
|Subsidiary preferred stock accretion                           |  |                   |        |   |                    |   | (957    | )                         |  |   | (957    | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss applicable to common stockholders  continuing operations |  | $                 | (17,765 | ) |                    | $ | (5,371  | )                         |  | $ | (23,136 | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Nine months ended September 30, 2004                           |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Segment loss                                                   |  | $                 | (24,977 | ) |                    | $ | (9,660  | )                         |  | $ | (34,637 | )
|Stock compensation                                             |  |                   | (324    | ) |                    |   | (23     | )                         |  |   | (347    | )
|Interest income and other (expense), net                       |  |                   | 2,209   |   |                    |   | 77      |                           |  |   | 2,286   |  
|Equity in minority interests                                   |  |                   | (1,000  | ) |                    |   |        |                           |  |   | (1,000  | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss from continuing operations                                |  |                   | (24,092 | ) |                    |   | (9,606  | )                         |  |   | (33,698 | )
|Subsidiary preferred stock accretion                           |  |                   |        |   |                    |   | (750    | )                         |  |   | (750    | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  
|Loss applicable to common stockholders  continuing operations |  | $                 | (24,092 | ) |                    | $ | (10,356 | )                         |  | $ | (34,448 | )
|                                                               |  |                   |         |   |                    |   |         |                           |  |   |         |  



13



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##### Table of Contents

Segment Revenue



Revenues for each operating segment are derived from the Companys research collaboration agreements and government grants and are categorized based on the industry
of the product or technology under development. The following table presents revenues for each reporting segment (in thousands):



|                                      |  |                                 |       |                                |   |       |  |      |        |  |   |       
|------------------------------------- |  | ------------------------------- | ----- | ------------------------------ | - | ----- |  | ---- | ------ |  | - | ------
|                                      |  | Three months endedSeptember 30, |       | Nine months endedSeptember 30,
|                                      |  | 2003                            |       | 2004                           |   | 2003  |  | 2004
|Human therapeutics                    |  | $                               | 3,694 |                                | $ | 2,575 |  | $    | 10,684 |  | $ | 8,968 
|Chemicals                             |  |                                 | 1,358 |                                |   | 1,350 |  |      | 6,740  |  |   | 3,386 
|                                      |  |                                 |       |                                |   |       |  |      |        |  |   |       
|Total revenue  continuing operations |  | $                               | 5,052 |                                | $ | 3,925 |  | $    | 17,424 |  | $ | 12,354
|                                      |  |                                 |       |                                |   |       |  |      |        |  |   |       



Identifiable Assets



The following table presents indentifiable assets for each reporting segment (in
thousands):



|                                     |  |                   |         |                    |   |        
|------------------------------------ |  | ----------------- | ------- | ------------------ | - | -------
|                                     |  | December 31, 2003 |         | September 30, 2004
|Human therapeutics                   |  | $                 | 206,455 |                    | $ | 248,735
|Chemicals                            |  |                   | 20,298  |                    |   | 25,625 
|                                     |  |                   |         |                    |   |        
|Total assets  continuing operations |  | $                 | 226,753 |                    | $ | 274,360
|                                     |  |                   |         |                    |   |        



7. Discontinued Operations



On July 1, 2004 the Company completed the sale of Verdia, its agriculture
subsidiary and sole component of its agriculture segment, to Pioneer Hi-Bred International, Inc., a wholly-owned subsidiary of E.I. du Pont de Nemours and Company, for $64 million in cash, less estimated income taxes and transaction costs of $1.4
million. Results of discontinued operations provided below reflect the results of Verdia until and including July 1, 2004.



Summarized balance sheet information for the discontinued operations as of December 31, 2003 is as follows (in thousands):



|                                       |  |                  |      
|-------------------------------------- |  | ---------------- | -----
|                                       |  | December 31,2003
|ASSETS                                 |  |                  |      
|Current assets                         |  | $                | 5,555
|Property and equipment, net            |  |                  | 935  
|Deposits and other assets              |  |                  | 826  
|                                       |  |                  |      
|Assets of discontinued operations      |  | $                | 7,316
|                                       |  |                  |      
|LIABILITIES                            |  |                  |      
|Current liabilities                    |  | $                | 2,949
|Other liabilities                      |  |                  | 177  
|                                       |  |                  |      
|Liabilities of discontinued operations |  | $                | 3,126
|                                       |  |                  |      



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##### Table of Contents

Summary operating results for the discontinued operations through the date of disposition are as follows (in thousands):



|                                                                  |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  
|----------------------------------------------------------------- |  | ------------------------------- | ----- | ------------------------------ | ---- | - | ---- |  | - | ------ | - |  | - | ------ | -
|                                                                  |  | Three months endedSeptember 30, |       | Nine months endedSeptember 30, |     
|                                                                  |  | 2003                            |       |                                | 2004 |   | 2003 |  |   | 2004   |  
|Collaborative research and development revenue                    |  | $                               | 2,056 |                                |      | $ |     |  | $ | 8,237  |   |  | $ | 2,721  |  
|Collaborative research and development revenue from related party |  |                                 | 1,143 |                                |      |   |     |  |   | 2,764  |   |  |   | 2,454  |  
|Grant revenue                                                     |  |                                 | 250   |                                |      |   |     |  |   | 560    |   |  |   | 311    |  
|                                                                  |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  
|Total revenues                                                    |  |                                 | 3,449 |                                |      |   |     |  |   | 11,561 |   |  |   | 5,486  |  
|Operating expenses:                                               |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  
|Research and development                                          |  |                                 | 3,325 |                                |      |   |     |  |   | 9,668  |   |  |   | 6,165  |  
|General and administrative                                        |  |                                 | 281   |                                |      |   |     |  |   | 905    |   |  |   | 616    |  
|                                                                  |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  
|Total operating expenses                                          |  |                                 | 3,606 |                                |      |   |     |  |   | 10,573 |   |  |   | 6,781  |  
|                                                                  |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  
|Income (loss) from operations of discontinued operations          |  |                                 | (157  | )                              |      |   |     |  |   | 988    |   |  |   | (1,295 | )
|Interest income and other, net                                    |  |                                 | 28    |                                |      |   |     |  |   | 96     |   |  |   | 32     |  
|Equity in net loss of joint venture                               |  |                                 | (742  | )                              |      |   |     |  |   | (1,783 | ) |  |   | (1,506 | )
|                                                                  |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  
|Income (loss) from discontinued operations                        |  | $                               | (871  | )                              |      | $ |     |  | $ | (699   | ) |  | $ | (2,769 | )
|                                                                  |  |                                 |       |                                |      |   |      |  |   |        |   |  |   |        |  



Verdias investment in its joint
venture with Delta and Pine Land Company called DeltaMax Cotton LLC in which Verdia had an equity interest of 50% as of July 1, 2004 was accounted for under the equity method of accounting. As a result of the Companys sale of Verdia on July 1,
2004, Verdias portion of the DeltaMax loss as of July 1, 2004 is included in the income (loss) from discontinued operations on the Condensed Consolidated Statement of Operations and Verdias investment in DeltaMax as of December 31, 2003
is included in the assets of discontinued operations on the Condensed Consolidated Balance Sheets.



8. Sale of Verdia



On July 1, 2004, the
Company completed the sale of Verdia, its agriculture subsidiary and sole component of its agriculture segment to Pioneer Hi-Bred International, Inc., a wholly-owned subsidiary of E.I. du Pont de Nemours and Company, for $64 million in cash, less
estimated income taxes and transaction costs of $1.4 million. The operating results of Verdia have been reclassified as discontinued operations for all periods presented (see Note 7). The Company has recorded a gain from the sale of Verdia as
follows (in thousands):



|                                              |  |   |        |  
|--------------------------------------------- |  | - | ------ | -
|Cash received from sale                       |  | $ | 64,000 |  
|Less: Basis in Verdia                         |  |   | (1,419 | )
|Less: Estimated income tax expense            |  |   | (921   | )
|Less: transaction costs:                      |  |   |        |  
|Compensation related expense                  |  |   | (325   | )
|Legal, accounting and other fees and expenses |  |   | (138   | )
|                                              |  |   |        |  
|Gain on sale of discontinued operations       |  | $ | 61,197 |  
|                                              |  |   |        |  



9. Guarantees and Indemnifications



In November 2002, the FASB issued Interpretation No. 45,
Guarantors Accounting and Disclosure Requirements for Guarantees, including Indirect Guarantees of Indebtedness of Others(FIN 45). FIN 45 requires that upon issuance of a guarantee, the guarantor must recognize
a liability for the fair value of the obligations it assumes under that guarantee.



As permitted under Delaware law and in accordance with the Companys Bylaws, the Company indemnifies its officers and directors for certain events or occurrences, subject to certain limits, while the officer or director is or was
serving at the Companys request in such capacity. The indemnification agreements with the Companys officers and directors terminate upon termination of their employment, but the termination does not affect claims for indemnification
relating to events occurring prior to the effective date of termination. The maximum amount of potential future indemnification is unlimited; however, the Companys director and officer insurance policy reduces the Companys exposure and
may enable the Company to recover a portion of any future amounts paid. The Company believes that the fair value of these indemnification agreements is minimal. Accordingly, the Company has not recorded any liabilities for these agreements as of
September 30, 2004.



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##### Table of Contents

10. Equipment Financing



In February 2004, Codexis entered into an equipment financing agreement with a financing company for up to $4.8 million of equipment purchases. The financing agreement
expires on March 31, 2005. The equipment loans will be repaid over 48 months from the date of each drawdown at an interest rate tied to the prime lending rate at the time of each drawdown. The loans are secured by the related equipment. In
connection with this financing agreement, Codexis issued to the financing company, a warrant to purchase 46,176 shares of Codexis common stock at $0.40 per share. As of September 30, 2004 Codexis had outstanding loan balances totaling $1.9
million. Any obligations under this equipment financing agreement are solely obligations of Codexis and repayments are to be made solely from assets of Codexis.



At September 30, 2004, Codexis future minimum principal payments under the equipment financing arrangements were as follows (in thousands):



|                                         |  |   |      
|---------------------------------------- |  | - | -----
|For the quarter ending December 31, 2004 |  | $ | 106  
|                                         | 
|Year ending December 31,                 |  |  
|2005                                     |  | $ | 457  
|2006                                     |  |   | 501  
|2007                                     |  |   | 550  
|2008                                     |  |   | 329  
|                                         |  |   |      
|                                         |  | $ | 1,837
|                                         |  |   |      



11. Commitments



The Company has entered into various operating leases for its facilities and certain
computer equipment and material contracts. The leases expire on various dates in 2005 through 2011. The facilities leases also include scheduled rent increases. The scheduled rent increases are recognized on a straight-line basis over the term of
the leases. The material contracts expire on various dates in 2005 through 2006.



Minimum annual commitments under operating leases and material contracts are as follows (in thousands):



|                                         |  |   |       
|---------------------------------------- |  | - | ------
|For the quarter ending December 31, 2004 |  | $ | 2,999 
|                                         | 
|Year ending December 31,                 |  |  
|2005                                     |  | $ | 9,101 
|2006                                     |  |   | 1,860 
|2007                                     |  |   | 1,153 
|2008                                     |  |   | 893   
|2009                                     |  |   | 916   
|Thereafter                               |  |   | 1,019 
|                                         |  |   |       
|                                         |  | $ | 14,942
|                                         |  |   |       



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##### Table of Contents

Forward Looking Statements



This report contains forward-looking statements within the meaning of federal securities laws that relate to future events or our future
financial performance. In some cases, you can identify forward-looking statements by terminology such as may, can, will, could, should, expect, plan,
anticipate, believe, estimate, predict, intend, potential or continue or the negative of these terms or other comparable terminology. Examples of these
forward-looking statements include, but are not limited to, statements regarding the following:



| |  | product and product candidate development timetables;
| | - | -----------------------------------------------------



| |  | future revenues;
| | - | ----------------



| |  | expected research and development expenses;
| | - | -------------------------------------------



| |  | anticipated administrative and general expenses;
| | - | ------------------------------------------------



| |  | forecasted dates of expected regulatory filings; and
| | - | ----------------------------------------------------



| |  | operational and legal risks.
| | - | ----------------------------



We believe it is important to communicate our expectations to our current and prospective investors. However, there may be events in the future that we are not able to predict accurately or that we do not fully
control that could cause actual results to differ materially from those expressed or implied in our forward-looking statements. Since risks and uncertainties and the occurrence of other events could cause actual results to differ materially from
these predictions you should not place undue reliance on any forward-looking statement. Factors that could cause or contribute to such differences include those discussed below under Risk Factors That May Affect Results of Operations and
Financial Condition, as well as those discussed in our Annual Report on Form 10-K for the year ended December 31, 2003.



Although we believe that the expectations reflected in the forward-looking statements made in this report are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Further, any forward-looking statement speaks only as of the date upon which it is made, and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date
upon which the statement is made, or to reflect the occurrence of unanticipated events. New factors emerge from time to time, and it is not possible for us to predict which factors will arise. In addition, we cannot assess the impact of each factor
on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.



ITEM 2

MANAGEMENTS DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



Executive Summary



We are a leader in the application of directed molecular evolution, a process by which genes are modified for specific commercial uses. Maxygen began operations in March
1997 with the mission to develop important commercial products through the use of biotechnology. Since then, we have established a focus in human therapeutics, particularly optimized protein pharmaceuticals.



Our business model focuses on developing next-generation protein pharmaceuticals that address
significant markets, on our own or with partners. We currently have four next-generation protein therapeutic leads in pre-clinical development. The four lead product candidates seek to address significant opportunities and deficiencies in
first-generation marketed protein products. The four product candidates are: an optimized alpha interferon for the treatment of hepatitis C virus infection, partnered with Roche; an optimized gamma interferon for the treatment of idiopathic
pulmonary fibrosis and other indications, partnered with InterMune; and two leads to which we retain all rights: an optimized beta interferon for the treatment of indications that may include multiple sclerosis, cancer or stroke; and an optimized
G-CSF for the treatment of neutropenia.



The successful development of our
product candidates is highly uncertain. Product development costs and timelines can vary significantly for each product candidate and are difficult to accurately predict. Various statutes



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##### Table of Contents

and regulations also govern or influence the manufacturing, safety, labeling, storage, record keeping and marketing of
each product. The lengthy process of seeking these approvals, and the subsequent compliance with applicable statutes and regulations, require the expenditure of substantial resources. Any failure by us to obtain, or any delay in obtaining,
regulatory approvals could materially adversely affect our business.



In
additional to our focus in human therapeutics, we established two industrial subsidiaries. Our majority-owned subsidiary Codexis focuses on the development of biocatalysis and fermentation processes and products for the pharmaceutical industry.
Codexis now has five processes operating at commercial scale, each process generating royalty payments from partners. Codexis also has over 15 potential products and processes in development with partners or in its own research and development
pipeline. On July 1, 2004 we completed the sale of Verdia, our agriculture subsidiary, to Pioneer Hi-Bred International, Inc., a wholly-owned subsidiary of E.I. du Pont de Nemours and Company, for cash proceeds of $64 million, less estimated income
taxes and transaction costs of $1.4 million.



To date, we have generated
revenues from research collaborations with pharmaceutical, chemical, agriculture and petroleum companies and from government grants. Moving forward, we anticipate establishing additional strategic alliances. However, as our internal resources and
expertise have grown, we have strategically shifted our dependence on collaborative partner funding to advance our products and business to an increased focus on internal product development in order to capture more of the potential value resulting
from our efforts. We believe that this is an important step in building long-term value in Maxygen. Our continuing operations consist of results of Maxygen, Inc. and our wholly-owned subsidiaries, Maxygen ApS (Denmark) and Maxygen Holdings Ltd.
(Cayman Islands), as well as our majority-owned subsidiary, Codexis, Inc. Consistent with our strategic shift, revenue from continuing operations from strategic alliances and government grants decreased from $28.7 million in 2002 to $22.9 in 2003.
Our revenues from continuing operations for the nine months ended September 30, 2003 were $17.4 million, compared to $12.4 million during the nine months ended September 30, 2004. We anticipate that our revenue from continuing operations from
strategic alliances and government grants will continue to decrease in 2004 as compared to 2003, to approximately $15 million to $20 million.



We continue to maintain a strong cash position to fund our expanded internal product development, with cash, cash equivalents and marketable securities totaling $241.6
million as of September 30, 2004. Of this amount, $19.5 million is held by Codexis, leaving a balance of approximately $222.1 million for our therapeutics business.



We have incurred significant losses since our inception. As of September 30, 2004, our accumulated deficit was $170.4 million. We have
invested heavily in establishing our proprietary technologies. Our research and development expenses from continuing operations for the nine months ended September 30, 2004 were $37.0 million compared to $32.4 million during the nine months ended
September 30, 2003. We expect to incur additional operating losses over at least the next several years.



Critical Accounting Policies and Estimates



Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United
States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. We base
our estimates on historical experience and on various other assumptions that we believe are reasonable. These estimates are the basis for our judgments about the carrying values of assets and liabilities, which in turn may impact our reported
revenue and expenses. Actual results may differ from these estimates under different assumptions or conditions.



An accounting policy is deemed to be critical if it requires an accounting estimate to be made based upon assumptions about matters that are highly uncertain at the time
the estimate is made, and if different estimates that reasonably could have been used, or changes in the accounting estimate that are reasonably likely to occur periodically, could materially change the financial statements. We believe there have
been no significant changes during the three-month and nine-month periods ended September 30, 2004 to the items that we disclosed as our critical accounting policies and estimates under Part II, Item 7, Managements Discussion and
Analysis of Financial Condition and Results of Operations, in our Annual Report on Form 10-K for the year ended December 31, 2003.



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##### Table of Contents

Deferred Compensation



In connection with the grant of stock options to employees before our initial public offering (IPO), we recorded deferred stock compensation of approximately
$2.4 million in 1998 and $19.5 million in 1999. These amounts were initially recorded as a component of stockholders equity and were amortized as charges to operations over the vesting period of the options using a graded vesting method. We
recognized stock compensation expense related to the deferred compensation amortization on these option grants, which are split between research and development expense and general and administrative expense, as shown in the following table (in
thousands):



|                                         |  |                                 |     |                                |   |      |  |      |     |  |   |    
|---------------------------------------- |  | ------------------------------- | --- | ------------------------------ | - | ---- |  | ---- | --- |  | - | ---
|                                         |  | Three months endedSeptember 30, |     | Nine months endedSeptember 30,
|                                         |  | 2003                            |     | 2004                           |   | 2003 |  | 2004
|Research and development                 |  | $                               | 144 |                                | $ | 44   |  | $    | 514 |  | $ | 178
|General and administrative               |  |                                 | 118 |                                |   | 15   |  |      | 446 |  |   | 59 
|                                         |  |                                 |     |                                |   |      |  |      |     |  |   |    
|Total deferred compensation amortization |  | $                               | 262 |                                | $ | 59   |  | $    | 960 |  | $ | 237
|                                         |  |                                 |     |                                |   |      |  |      |     |  |   |    



We have now fully amortized to expense
all deferred compensation relating to pre-IPO grants of stock options to employees. Stock compensation expense in connection with the grant of stock options to consultants for the three and nine months ended September 30, 2003 and 2004 was
insignificant.



In connection with the Maxygen ApS acquisition in August 2000,
stock options were granted in exchange for outstanding warrants to purchase Maxygen ApS securities. In connection with this exchange we recorded aggregate deferred compensation totaling $1.5 million. This amount was amortized over the remaining
vesting period of the options, of which $8,000 was expensed in the nine months ended September 30, 2003. No amount was expensed in the three months ended September 30, 2003 or the three or nine months ended September 30, 2004 as the amount was fully
amortized to expense in April 2003. Also in connection with the Maxygen ApS acquisition, Maxygen shares were exchanged for Maxygen ApS shares. For the shares exchanged that had a right of repurchase, we recorded deferred compensation of $13.1
million. This amount was amortized to expense over a three-year graded vesting period. A total of $121,000 was recognized as expense for the three months ended September 30, 2003 and $844,000 was expensed in the nine months ended September 30, 2003.
No amount was expensed in the three or nine months ended September 30, 2004 as the amount was fully amortized to expense during 2003.



Results of Operations



Revenues



Our total revenues from continuing operations were $5.1 million and $17.4 million in the three and nine months ended September 30, 2003 and were $3.9 million and $12.4
million in the comparable periods of 2004. The net decrease in collaborative research and development revenue of $1.2 million between the three month period ended September 30, 2003 and the three month period ended September 2004 was primarily due
to a decrease in partner funding as the funded research terms of Maxygens collaborations with Lundbeck and ALK-Abelló A/S, and Codexis collaboration with Chevron, wound down on schedule, partially offset by additional revenue from
Codexis collaboration with Pfizer, which commenced in the third quarter of 2004. The net decrease in collaborative research and development revenue of $5.0 million for the nine month periods is primarily due to a decrease in partner funding as
the funded research terms of Maxygens collaborations with Lundbeck and ALK-Abelló A/S wound down on schedule, and the receipt by Codexis in the first quarter of 2003 of a $2.5 million payment from Hercules to terminate its collaboration
agreement with Codexis, partially offset by additional revenue from Maxygens collaboration with Roche, which commenced in the third quarter of 2003. Codexis has no ongoing obligations related to the payment received from Hercules. The increase
in grant revenue during the three months ended September 30, 2004 primarily reflects an increase in external grant related activity. The decrease in grant revenue during the nine months ended September 30, 2004 primarily reflects the decrease in
activity on our existing grant projects. In 2004, we expect our consolidated revenue from continuing operations to be approximately $15 million to $20 million, consisting of collaboration revenue, grant revenue and royalties on partner sales of
products incorporating our technologies.



Revenues for each operating segment
are derived from our research collaboration agreements and government research grants and are categorized based on the industry of the product or technology under development. Results of Codexis are shown as Maxygens chemicals segment. The
following table presents revenues for each operating segment (in thousands).



19



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##### Table of Contents

|                   |  |                                 |       |                                |   |       |  |      |        |  |   |       
|------------------ |  | ------------------------------- | ----- | ------------------------------ | - | ----- |  | ---- | ------ |  | - | ------
|                   |  | Three months endedSeptember 30, |       | Nine months endedSeptember 30,
|                   |  | 2003                            |       | 2004                           |   | 2003  |  | 2004
|Human therapeutics |  | $                               | 3,694 |                                | $ | 2,575 |  | $    | 10,684 |  | $ | 8,968 
|Chemicals          |  |                                 | 1,358 |                                |   | 1,350 |  |      | 6,740  |  |   | 3,386 
|                   |  |                                 |       |                                |   |       |  |      |        |  |   |       
|Total revenue      |  | $                               | 5,052 |                                | $ | 3,925 |  | $    | 17,424 |  | $ | 12,354
|                   |  |                                 |       |                                |   |       |  |      |        |  |   |       



The decrease in revenue for our human
therapeutics segment between the three month periods ended September 30, 2003 and 2004, respectively, primarily reflects the scheduled winding down of the funded research term of our collaborations with Lundbeck and ALK-Abelló A/S. The
decrease in revenue for our human therapeutics segment for the nine month periods primarily reflects the scheduled winding down of the funded research term of our collaborations with Lundbeck and ALK-Abelló A/S, partially offset by additional
revenue from our collaboration with Roche, which commenced in the third quarter of 2003. Revenue for our human therapeutics segment for the next several quarters is expected to decline as we continue to implement our strategy of concentrating on
internally funded research and development and reduce our dependence on partner funded research and development.



The decrease in revenue for our chemicals segment (Codexis) between the three month periods ended September 30, 2003 and 2004, respectively, primarily reflects a decrease
in partner funding as the funded research term of Codexis collaboration with Chevron wound down on schedule, partially offset by additional revenue from Codexis collaboration with Pfizer, which commenced in the third quarter of 2004. The
decrease in revenue for our chemicals segment (Codexis) between the nine month periods ended September 30, was primarily due to the termination of the Hercules collaboration in the first quarter of 2003 and the receipt in 2003 of a $2.5 million
payment from Hercules to terminate the collaboration, partially offset by additional revenue in 2004 from Codexis collaborations with Sandoz and Pfizer. Codexis has no ongoing obligations related to the Hercules payment.



Research and Development Expenses



We do not generally track fully burdened research and development costs or capital
expenditures by project. However, we estimate, based on full-time equivalent effort, that the percentage of research and development efforts (as measured in hours incurred, which approximates costs excluding manufacturing costs of clinical trials
materials) undertaken for continuing operations for collaborative projects funded by our collaborators and government grants was 31% and 28% for the three and nine months ended September 30, 2003 and was 26% and 25% for the comparable periods in
2004. The decreased percentage of efforts on collaborative projects funded by our collaborators and government grants reflects scheduled reduced efforts in the Lundbeck and ALK-Abelló A/S collaborations and the termination of the Hercules
collaboration, partially offset by the commencement of the Roche collaboration and Codexis Pfizer collaboration. The percentage of research effort (as measured by hours incurred, which approximates costs) undertaken for continuing operations
for our own internally funded research projects was 69% and 72% for the three and nine months ended September 30, 2003 and was 74% and 75% for the comparable periods in 2004.



Due to the nature of our research and our dependence on our collaborative partners to commercialize the results of the research, we cannot
predict with any certainty whether any particular collaboration or research effort will ultimately result in a commercial product and therefore whether we will receive future milestone payments or royalty payments under our various collaborations.



Most of our human therapeutic and chemical product development programs are at
an early stage and may not result in any marketed products. Product candidates that may appear promising at early stages of development may not reach the market for a number of reasons. Human therapeutic product candidates may be found ineffective
or cause harmful side effects during clinical trials, may take longer to pass through clinical trials than had been anticipated, may fail to receive necessary regulatory approvals and may prove impracticable to manufacture in commercial quantities
at reasonable costs and with acceptable quality. Superior, or less expensive and equally effective, products may also be developed by our competitors. Chemical product candidates or processes may be found ineffective, product candidates may cause
undesirable side effects or may prove impracticable to manufacture in commercial quantities at reasonable costs and with acceptable quality. Furthermore, it is uncertain which of our internally developed product candidates will be subject to future
collaborative arrangements. The participation of a collaborative partner may accelerate the time to completion and reduce the cost to us of a product candidate or it may delay the time and increase the cost to us due to the



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alteration of our existing strategy. The risks and uncertainties associated with our research and development projects
are discussed more fully in the section of this report titled Risk Factors That May Affect Results of Operations and Financial Condition. Because of these risks and uncertainties, we cannot predict when or whether we will successfully
complete the development of our product candidates or the ultimate product development cost in any particular case.



Our research and development expenses consist primarily of salaries and other personnel-related expenses, facility costs, research consultants, external collaborative
research expenses, supplies, depreciation of facilities, manufacturing costs of clinical trials materials, and laboratory equipment. Research and development expenses for continuing operations increased from $11.0 million and $32.4 million in the
three and nine months ended September 30, 2003 to $14.4 million and $37.0 million in the comparable periods of 2004. The increase in research and development expenses for continuing operations between the three and nine month periods relates to
increased expenditures associated with the development of our product candidates, including the manufacture of product candidates in preparation for clinical trials. Stock compensation expense related to research and development for continuing
operations was $286,000 and $1.4 million for the three and nine months ended September 30, 2003 and was $50,000 and $288,000 for the comparable periods of 2004. The decrease in stock compensation expenses was primarily the result of the completion
of amortization expense related to deferred compensation for the shares subject to repurchase that were exchanged in connection with the Maxygen ApS acquisition in August 2000 and the deferred compensation related to the Maxygen ApS acquisition.
These items of deferred compensation were fully amortized to expense in 2003. In addition, the decrease in stock compensation expenses includes a decrease in amortization of deferred compensation related to pre-IPO grants of stock options to our
employees. These items of deferred compensation were fully amortized to expense in the third quarter of 2004.



We expect research and development expenses for continuing operations to increase during the balance of 2004 as we increase our efforts on internally funded projects and focus on development of our product candidates,
including the manufacture of product candidates in preparation for clinical trials. We expect to continue to devote substantial resources to research and development and we expect research and development expenses to increase in the next several
years if we are successful in advancing our human therapeutic product candidates into clinical trials. To the extent we out-license our human therapeutic product candidates prior to commencement of clinical trials or collaborate with others with
respect to clinical trials, increases in research and development expenses for continuing operations may be delayed, reduced or avoided. We intend to manage the level of our expenditures for research and development, including clinical trials, to
balance advancing our human therapeutic product candidates against maintaining adequate cash resources for our continuing operations.



General and Administrative Expenses



Our general and administrative expenses consist primarily of personnel costs for finance, human resources, business development, legal and general management, as well as
insurance premiums and professional expenses, such as legal and accounting. General and administrative expenses for continuing operations increased from $2.4 million and $8.2 million for the three and nine months ended September 30, 2003 to $3.7
million and $10.0 million in the comparable periods of 2004. The increase in total general and administrative expenses for continuing operations is primarily due to increases in professional fees, regulatory compliance costs and improvements to
infrastructure.



We expect general and administrative expenses for continuing
operations for the remainder of 2004 will increase modestly as a result of increased professional fees and regulatory compliance costs.



Amortization of Other Intangible Assets



In connection with the Maxygen ApS acquisition, we allocated $26.2 million to goodwill and other intangible assets. Upon adoption of SFAS 142 in January 2002, we stopped
amortizing goodwill and assembled workforce. However, we continued to amortize the purchased core technology over its three year useful life. Such technology was fully amortized to expense in September 2003.



Interest Income and Other (Expense), net



Interest income and other (expense), net represents income earned on our cash, cash
equivalents and marketable securities net of interest expense on our equipment leases and currency transaction gains or losses. Interest income and other (expense), net for continuing operations remained constant at $1.0 million for the three months
ended September 30, 2003 and September 30, 2004. Interest income and other (expense), net for continuing



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operations decreased from $3.8 million in the nine months ended September 30, 2003 to $2.3 million in the nine months
ended September 30, 2004. The decrease in the nine month periods was due to lower average balances of cash, cash equivalents and marketable securities and foreign exchange transactions related to the funding of our Danish subsidiary Maxygen ApS,
which include a $237,000 foreign currency gain in the three months ended September 30, 2003, a $93,000 foreign currency gain in the three months ended September 30, 2004, a $1.1 million foreign currency gain in the nine months ended September 30,
2003 and a $84,000 foreign currency loss in the nine months ended September 30, 2004.



Equity in Losses of Minority Investee



Included in our results of operations is equity in losses of minority investee reflecting our share of the net loss of Avidia Research Institute. Avidia Research Institute was formed in July 2003 and is being accounted for under the equity
method of accounting. In June 2004, we provided a $1.0 million loan to Avidia. This loan will be converted into equity of Avidia upon a future sale of Avidia equity securities. The loan has an interest rate of 3% per annum. As of September 30, 2004,
we had recorded losses equal to our investment basis in Avidia, which includes the $1.0 million loan to Avidia in June 2004. We do not currently expect to record any additional losses from Avidia in 2004. Maxygen is not obligated to further fund
Avidias operating losses. The equity in losses of minority investee was $231,000 during the three and nine month periods ended September 30, 2003. Equity in losses of minority investee was $1.0 million for the nine month period ended September
30, 2004. There were no such equity in losses in minority investee during the three month period ended September 30, 2004.



Subsidiary Preferred Stock Accretion



On September 13, 2002, Codexis sold $15 million of Codexis Series B convertible preferred stock to investors, of which $5 million was purchased by Maxygen and $10 million
was purchased by several unrelated investors. On October 1, 2002, Codexis sold an additional $10 million of Series B convertible preferred stock to unrelated investors. Series B convertible preferred stock includes a redemption provision, which
provides that the holders of at least a majority of the outstanding shares of Series B convertible preferred stock (excluding the Series B convertible preferred stock held by Maxygen and its affiliates), voting together as a separate class, may
require Codexis to redeem the Series B convertible preferred stock. The redemption price for each share will be payable in cash in exchange for the shares of Series B convertible preferred stock to be redeemed at a sum equal to the applicable
original issue price per share plus five percent (5%) of the original issue price per year from the original issue date until the applicable redemption date, plus declared and unpaid dividends. Notice of redemption can be given at any time on or
after the fifth anniversary of the original issue date. In connection with these redemption rights, we recorded accretion of the redemption premium for the Series B convertible preferred stock, excluding the shares owned by Maxygen, in the amount of
$319,000 and $957,000 for the three and nine months ended September 30, 2003 and $250,000 and $750,000 for the three and nine months ended September 30, 2004. The accretion is recorded as subsidiary preferred stock accretion on the Condensed
Consolidated Statement of Operations and as a reduction of additional paid-in capital on the Condensed Consolidated Balance Sheets. Any obligation to make redemption payments is solely an obligation of Codexis and any payments are to be made solely
from assets of Codexis.



Recent Accounting Pronouncements



In January 2003, the FASB issued Interpretation No. 46 (or FIN 46),
Consolidation of Variable Interest Entities. FIN 46 requires a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entitys activities or
entitled to receive a majority of the entitys residual returns or both. A variable interest entity is a corporation, partnership, trust, or any other legal structures used for business purposes that either (a) does not have equity investors
with voting rights or (b) has equity investors that do not provide sufficient financial resources for the entity to support its activities. A variable interest entity often holds financial assets, including loans or receivables, real estate or other
property. A variable interest entity may be essentially passive or it may engage in research and development or other activities on behalf of another entity. The consolidation requirements of FIN 46 apply to variable interest entities created after
January 31, 2003. In December 2003, the FASB completed deliberations of proposed modifications to FIN 46 (Revised Interpretations) resulting in multiple effective dates based on the nature as well as the creation date of the variable interest
entity. Variable interest entities created after January 31, 2003, but prior to January 1, 2004, may be accounted for either based on the original interpretation or the Revised Interpretations. However, the Revised Interpretations must be applied no
later than the first quarter of fiscal year 2004. Variable interest entities created after January 1, 2004 must be accounted for under the Revised Interpretations. There has been no material impact to the Companys financial statements from
potential variable interest entities entered into after January 31, 2003 or from the adoption of the deferred provisions in the first quarter of fiscal year 2004.



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In November 2003, the Emerging Issues Task Force reached consensus on paragraph 18 of Issue No. 03-01 (EITF
03-01), The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. Effective for years ending after December 15, 2003, EITF 03-01 requires that certain quantitative and qualitative disclosures should
be required for debt and marketable equity securities classified as available-for-sale or held-to-maturity under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities and SFAS No. 124, Accounting for
Certain Investments Held by Not-for-Profit Organizations that are impaired at the balance sheet date but for which an other-than-temporary impairment has not been recognized. The provisions of this consensus do not have a significant effect on
our financial position or operating results.



On March 31, 2004, the Financial
Accounting Standards Board (FASB) issued an exposure draft of a statement titled Share-Based Payment, that addresses the accounting for share-based payment transactions in which an enterprise receives employee services
in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprises equity instruments or that may be settled by the issuance of such equity instruments. The statement would eliminate
the ability to account for share-based compensation transactions using APB Opinion No. 25, Accounting for Stock Issued to Employees, and generally would require instead that such transactions be accounted for using a
fair-value-based method.



We currently apply the recognition and measurement
principles of APB Opinion No. 25. Under this opinion, no stock-based employee compensation expense is charged for options that were granted at an exercise price that was equal to the market value of the underlying common stock on the date of grant.
Pro forma information regarding net income and earnings per share is required to be disclosed in the footnotes to our financial statements by Statement of Financial Accounting Standards (SFAS) No. 123, as amended by SFAS No. 148, as if
we had accounted for our employee stock options under the fair value method of that statement.



On October 13, 2004, the FASB concluded that the statement would be effective for public companies for interim or annual periods beginning after June 15, 2005. The FASB currently plans to issue a final statement on or
around December 15, 2004. When we adopt the new statement, if it is approved by the FASB as anticipated, we will have to recognize substantially more compensation expense. This could have a material adverse impact on our results of operations.



Liquidity and Capital Resources



Since inception, we have financed our continuing operations primarily through private
placements and public offerings of equity securities, receiving aggregate consideration from such sales totaling $302.5 million and committed research and development funding from collaborators and government grants totaling approximately $180.7
million. In addition, on July 1, 2004 we received $64.0 million in cash as proceeds, less estimated income taxes and transaction costs of $1.4 million, from the sale of our agriculture segment, Verdia. Our majority-owned subsidiary, Codexis, also
has received $35 million from private placements of its equity securities, $30 million from third party investors and $5 million from Maxygen. As of September 30, 2004, we had $241.6 million in cash, cash equivalents and marketable securities. This
includes $19.5 million of which may only be used for Codexis operations.



Net
cash used in operating activities for continuing operations was $13.5 million for the nine months ended September 30, 2003 and was $25.0 million for the nine months ended September 30, 2004. Uses of cash in operating activities for continuing
operations were principally to fund operating losses. The increase in cash used in operating activities for continuing operations primarily relates to increased expenditures during the nine months ended September 30, 2004 relating to advancing
product candidates into manufacturing and toward clinical trials, lower interest income during the nine months ended September 30, 2004, increased equity in losses of minority investee during the nine months ended September 30, 2004 and a smaller
net loss for the nine months ended September 30, 2003, due partially to a one-time non-recurring $2.5 million payment from Hercules to terminate its collaborative agreement with Codexis recognized as revenue in the first quarter of 2003.



Net cash used in investing activities for continuing operations was $13.0 million for the
nine months ended September 30, 2003 and net cash provided by investing activities for continuing operations was $35.9 million for the nine months ended September 30, 2004. The cash used in investing activities for continuing operations during the
nine months ended September 30, 2003 primarily represented purchases of available-for-sale securities net of the maturities of available-for-sale securities and additions of property and equipment of $3.0 million. Cash provided by investing
activities for continuing operations during the nine months ended September 30, 2004 relates primarily to the cash received from the sale of Verdia of $62.6 million offset by purchases of available-for-sale



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securities net of maturities of available-for-sale securities of $23.7 million, investment in Avidia of $1.0 million and
purchases of property and equipment of $1.9 million. The majority of the additions of property and equipment for the nine months ended September 30, 2004 relates to Codexis investment in its manufacturing facility. We expect to continue
to make investments in the purchase of property and equipment to support our operations. We expect to use a portion of our cash to acquire or invest in businesses, products or technologies, or to obtain the right to use such technologies.



Net cash provided for continuing operations by financing activities was
$998,000 for the nine months ended September 30, 2003 and was $14.1 million for the nine months ended September 30, 2004. The cash provided for continuing operations during the nine months ended September 30, 2003 was primarily from the proceeds of
the sale of common stock in connection with our Employee Stock Purchase Plan and the exercise of stock options by employees, partially offset by payments on equipment financing obligations. The cash provided for continuing operations during the nine
months ended September 30, 2004 was primarily related to Codexis receipt of $10 million from a private placement of its equity securities by Pfizer, the proceeds of $2.2 million from equipment loans entered into by Codexis and the proceeds of
$2.2 million from the sale of common stock in connection with our Employee Stock Purchase Plan and the exercise of stock options by employees. In February 2004, Codexis entered into an equipment financing agreement with a financing company for up to
$4.8 million of equipment purchases. The financing agreement expires on March 31, 2005. The equipment loans will be repaid over 48 months from the date of each drawdown at an interest rate tied to the prime lending rate at the time of each drawdown.
The loans are secured by the related equipment. In connection with this loan agreement, Codexis issued to the lender, a warrant to purchase 46,176 shares of Codexis common stock at $0.40 per share. As of September 30, 2004 Codexis had
outstanding loan balances totaling $1.9 million. Any obligations under this equipment financing agreement are solely obligations of Codexis and repayments are to be made solely from assets of Codexis.



Cash used for discontinued operations was $675,000 for the nine months ended September 30,
2003. Cash provided from discontinued operations was $1.4 million for the nine months ended September 30, 2004. The changes in cash provided from (used for) discontinued operations relate to the amounts owed to Maxygen from Verdia for services
provided to Verdia by Maxygen and reimbursement to Maxygen for payments made on behalf of Verdia. The cash used for discontinued operations for the nine months ended September 30, 2003 relates to an increase in the services provided to Verdia and
reimbursement to Maxygen for payments made on behalf of Verdia over the nine months. The cash provided for discontinued operations for the nine months ended September 30, 2004 relates to Verdias final payment for services provided by Maxygen
and reimbursement to Maxygen for payments made on behalf of Verdia prior to the sale of Verdia to Pioneer Hi-Bred International, Inc.



Since inception we have received $159.6 million of cash from our collaborators and from government grants, which includes $55.5 million of funding received by
Verdia, our agriculture subsidiary and sole component of our agriculture segment, prior to its disposition, and $5.1 million of deferred revenue from continuing operations to be recognized over the next two years. Approximately $127.7 million was
received from our collaborators and $32.0 million was received from government funding. Assuming our research efforts for existing collaborations and grants from continuing operations continue for their full research terms, as of September 30, 2004
we had total committed funding of approximately $21.1 million remaining to be received over the next two years. Potential milestone payments from our existing collaborations from continuing operations could exceed $400 million based on the
accomplishment of specific performance criteria. We may also earn royalties on product sales. In general, the obligation of our corporate collaborators to provide research funding cannot be terminated by either party before the end of the research
term unless there has been a material breach of contract or either party has become bankrupt or insolvent. In the case of such an event, the agreement specifies the rights, if any, that each party will retain. In addition, on July 1, 2004 we
received $64.0 million, less estimated income taxes and transaction costs of $1.4 million, as proceeds from the sale of our agriculture segment, Verdia.



We believe that our current cash, cash equivalents, short-term investments and long-term investments, together with funding received from collaborators and government
grants, will be sufficient to satisfy our anticipated cash needs for working capital and capital expenditures for at least the next twelve months. However, it is possible that we will seek additional financing within this timeframe. We may raise
additional funds through public or private financing, collaborative relationships or other arrangements. Additional funding, if sought, may not be available on terms favorable to us. Further, any additional equity financing may be dilutive to
stockholders, and debt financing, if available, may involve restrictive covenants. Our failure to raise capital when needed may harm our business and operating results.



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Discontinued Operations



Included in our results of operations is a loss from discontinued operations (formerly our agriculture segment) of $871,000 and $699,000 for the three and nine months
ended September 30, 2003 and a loss from discontinued operations of $2.8 million for the nine months ended September 30, 2004.



Collaborative research and development revenue from discontinued operations was $2.1 million and $8.2 million in the three and nine months ended September 30, 2003 and
was $2.7 million in the nine months ended September 30, 2004. There was no collaborative research and development revenue from discontinued operations in the three months ended September 30, 2004. Collaborative research and development revenue from
related party from discontinued operations was $1.1 million and $2.8 million in the three and nine months ended September 30, 2003 and was $2.5 million in the nine months ended September 30, 2004. There was no collaborative research and development
revenue from related party from discontinued operations in the three months ended September 30, 2004. Grant revenue from discontinued operations was $250,000 and $560,000 in the three and nine months ended September 30, 2003 and was $311,000 in the
nine months ended September 30, 2004. There was no grant revenue from discontinued operations in the three months ended September 30, 2004.



Research and development expenses from discontinued operations were $3.3 million and $9.7 million in the three and nine months ended September 30, 2003 and $6.2 million
in the nine months ended September 30, 2004. There were no research and development expenses from discontinued operations in the three months ended September 30, 2004. General and administrative expenses from discontinued operations were $281,000
and $905,000 in the three and nine months ended September 30, 2003 and $616,000 in the nine months ended September 30, 2004. There were no general and administrative expenses from discontinued operations in the three months ended September 30, 2004.



Interest income and other, net from discontinued operations was $28,000 and
$96,000 in the three and nine months ended September 30, 2003 and $32,000 in the nine months ended September 30, 2004. There was no interest income and other, net from discontinued operations in the three months ended September 30, 2004. Equity in
net loss of joint venture from discontinued operations was $742,000 and $1.8 million in the three and nine months ended September 30, 2003 and was $1.5 million in the nine month period ended September 30, 2004. There was no equity in net loss of
joint venture from discontinued operations in the three months ended September 30, 2004.



RISK FACTORS THAT MAY AFFECT RESULTS OF OPERATIONS AND FINANCIAL CONDITION



You should carefully consider the risks described below, together with all of the other information included in this report, in considering our business and prospects.
The risks and uncertainties described below are not the only ones facing Maxygen. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations. If any of the following
risks actually occur, our business could be harmed. In such case, the trading price of our common stock could decline, and you may lose all or part of your investment.



We Have a History of Net Losses. We Expect to Continue to Incur Net Losses and We May Not Achieve or Maintain Profitability.



We have incurred net losses since our inception, including a loss
applicable to common stockholders of $33.9 million in 2002 and $33.7 million in 2003. During the nine months ended September 30, 2004 we recognized income applicable to common stockholders, primarily due to the sale of Verdia, of $24.0 million, but
our loss from continuing operations was $33.7 million. As of September 30, 2004, we had an accumulated deficit of $170.4 million. We expect to incur net losses and negative cash flow from operating activities for at least the next several years. The
size of these net losses will depend, in part, on the rate of growth, if any, in our revenues and on the level of our expenses. To date, we have derived substantially all our revenues from collaborations and grants and expect to derive a substantial
majority of our revenue from such sources for at least the next several years. Revenues from collaborations and grants are uncertain because our existing agreements have fixed terms and because our ability to secure future agreements will depend
upon our ability to address the needs of current and potential future collaborators. We expect to spend significant amounts to fund development of products and further research and development to enhance our core technologies. As a result, we expect
that our operating expenses will exceed revenues in the near term and we do not expect to achieve profitability during the next several years. If the time required for us to achieve profitability is longer than we anticipate, we may not be able to
continue our business.



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We Need to Contain Costs in Order to Achieve Profitability.



We are continuing our efforts to contain costs. We believe strict cost containment in the
near term is essential if our current funds are to be sufficient to allow us to achieve future profitability. We assess market conditions on an ongoing basis and plan to take appropriate actions as required. If we are not able to effectively contain
our costs and achieve an expense structure commensurate with our business activities and revenues, we may have inadequate levels of cash for future operations or for future capital requirements, which could significantly harm our ability to operate
the business.



Acquisitions Could Result in Dilution, Operating Difficulties
and Other Harmful Consequences.



If appropriate opportunities present
themselves, we will acquire businesses and technologies that complement our capabilities. The process of integrating any acquisition may create unforeseen operating difficulties and expenditures and is itself risky. The areas where we may face
difficulties include:



| |  | diversion of management time (both ours and that of the acquired company) from focus on operating the businesses to issues of integration during the period of negotiation through
closing and further diversion of such time after closing;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | decline in employee morale and retention issues resulting from changes in compensation, reporting relationships, future prospects, or the direction of the business;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the need to integrate each companys accounting, management information, human resource and other administrative systems to permit effective management and the lack of control
if such integration is delayed or not implemented; and
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the need to implement controls, procedures and policies appropriate for a larger public company in companies that before acquisition had been smaller, private companies.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We do not have extensive experience in managing this integration
process. Moreover, the anticipated benefits of any or all of these acquisitions may not be realized.



Future acquisitions could result in potentially dilutive issuances of equity securities, the incurrence of debt, contingent liabilities or amortization expenses related to intangible assets, any of which could harm
our business. Future acquisitions may require us to obtain additional equity or debt financing, which may not be available on favorable terms or at all. Even if available, this financing may be dilutive.



We Are an Early Stage Company Deploying Unproven Technologies. If We Do Not Develop
Commercially Successful Products, We May Be Forced to Cease Operations.



You must evaluate us in light of the uncertainties and complexities affecting an early stage biotechnology company. Our proprietary technologies are in the early stage of development. We may not develop products that prove to be safe and
efficacious, meet applicable regulatory standards, are capable of being manufactured at reasonable costs or can be marketed successfully.



We may not be successful in the commercial development of products. Successful products will require significant development and investment, including testing, to
demonstrate their cost-effectiveness before their commercialization. To date, companies in the biotechnology industry have developed and commercialized only a limited number of products. We have not proven our ability to develop and commercialize
products. We must conduct a substantial amount of additional research and development before any regulatory authority will approve any of our potential products. Our research and development may not indicate that our products are safe and effective,
in which case regulatory authorities may not approve them. Problems frequently encountered in connection with the development and utilization of new and unproven technologies and the competitive environment in which we operate might limit our
ability to develop commercially successful products.



Legislative Actions,
Potential New Accounting Pronouncements and Higher Compliance Costs are Likely to Adversely Impact Our Future Financial Position and Results of Operations.



Future changes in financial accounting standards, including the possibility that we will be required to expense all stock option grants and other stock-based
compensation to employees, may cause adverse, unexpected earnings fluctuations and affect our financial position and results of operations. New accounting pronouncements and varying interpretations of such pronouncements have occurred with frequency
in the recent past and may occur in the future. In addition we may make changes in our accounting policies in the future. Compliance with changing regulation of corporate governance and public disclosure will also result in additional expenses.
Changing laws,



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regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of
2002, new SEC regulations and Nasdaq National Market listing requirements, are creating uncertainty for companies such as ours and compliance costs are increasing as a result of this uncertainty and other factors. We are committed to maintaining
high standards of corporate governance and public disclosure. As a result, we intend to invest all reasonably necessary resources to comply with evolving standards, and this investment will result in increased general and administrative expenses and
may cause a diversion of management time and attention from revenue-generating activities to compliance activities.



If We Elect or Are Required to Account for Employee Stock Options Using the Fair Value Method, it Would Significantly Increase Our Net Loss.



There has been ongoing public debate concerning whether stock options granted to employees
should be treated as a compensation expense and, if so, how to properly value such charges. On March 31, 2004, the Financial Accounting Standard Board (FASB) issued an exposure draft, Share-Based Payment, that would require a company to
recognize, as an expense, the fair value of stock options and other stock-based compensation to employees. On October 13, 2004, the FASB concluded that the statement would be effective for public companies for interim or annual periods beginning
after June 15, 2004. The FASB currently plans to issue a final statement on or around December 15, 2004. Upon adoption, we will be required to record an expense for our stock-based compensation plans using the fair value method as described in the
exposure draft and we will have significant and ongoing accounting charges. Such charges would significantly increase our net loss and would delay our ability to achieve profitability.



We Conduct Proprietary Research Programs, and Any Conflicts With Our Collaborators or Any Inability to Commercialize Products Resulting
from This Research Could Harm Our Business.



An important part of our
strategy involves conducting proprietary research programs. We may pursue opportunities in fields that could conflict with those of our collaborators. Moreover, disagreements with our collaborators could develop over rights to our intellectual
property. Any conflict with our collaborators could reduce our ability to obtain future collaboration agreements and negatively impact our relationship with existing collaborators, which could reduce our revenues.



Certain of our collaborators could become our competitors in the future. Our collaborators
could develop competing products, preclude us from entering into collaborations with their competitors, fail to obtain timely regulatory approvals, terminate their agreements with us prematurely or fail to devote sufficient resources to allow the
development and commercialization of products. Any of these developments could harm our product development efforts.



We will either commercialize products resulting from our proprietary programs directly or through licensing to other companies. We have no experience in manufacturing and
marketing, and we currently do not have the resources or capability to manufacture products on a commercial scale. In order for us to commercialize these products directly, we would need to develop, or obtain through outsourcing arrangements, the
capability to manufacture, market and sell products. We do not have these capabilities, and we may not be able to develop or otherwise obtain the requisite manufacturing, marketing and sales capabilities. If we are unable to successfully
commercialize products resulting from our proprietary research efforts, we will continue to incur losses.



We Do Not Completely Control Codexis, and Codexis May Make Decisions That Are Not in the Best Interests of Maxygen Stockholders.



Codexis operates as an independent subsidiary of Maxygen. While we owned 51.4% of Codexis as of September 30, 2004, our representatives do
not control management, nor do they constitute a majority of the board of directors. Thus we do not have control over the operating or other decisions of Codexis. The interests of Codexis and its stockholders may not always coincide with our
interests or the interests of our stockholders. Since Maxygen is currently required to consolidate the financial statements of Codexis with its own financial statements, Codexis may enter into agreements or conduct its operations in a manner that
could have a direct material adverse impact on our financial statements and results of operations. Since Maxygen and Codexis presently operate from shared facilities, Codexis also could conduct its operations in a manner that adversely affects our
business or reputation in the community and/or in the biotechnology industry, making it more difficult to operate in the community, secure additional alliances and maintain existing collaborations. This could have an adverse impact on our ability to
conduct business.



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We May Encounter Difficulties in Managing Our Operations. These Difficulties Could Increase Our Losses.



Our ability to manage our operations effectively requires us to continue
to expend funds to enhance our operational, financial and management controls, reporting systems and procedures and to attract and retain sufficient numbers of talented employees. If we are unable to implement improvements to our management
information and control systems in an efficient or timely manner, or if we encounter deficiencies in existing systems and controls, then management may have access to inadequate information to manage our day-to-day operations. Failure to attract and
retain sufficient numbers of talented employees will further strain our human resources and our ability to satisfy our obligations under collaboration agreements. This would reduce our revenue, increase our losses and harm our reputation in the
marketplace.



Our operational requirements were increased as a result of the
increasing independence of Codexis and Verdia (prior to its sale). At present we provide a number of operational, financial and reporting services to Codexis and Verdia under services agreements. Such services agreements terminate in early 2005 and
could lead to excess administrative infrastructure. Failure to efficiently manage operational expenses will increase our losses.



Since Our Technologies Can Be Applied to Many Different Potential Products, If We Focus Our Efforts on Potential Products That Fail to Produce Viable Products, We May
Fail to Capitalize on More Profitable Areas.



We have limited financial
and managerial resources. Since our technologies may be applicable to numerous, diverse potential products, we must prioritize our application of resources to discrete efforts. This requires us to focus on product candidates in selected areas and
forego efforts with regard to other products and areas. Our decisions may not produce viable commercial products and may divert our resources from more profitable market opportunities.



We May Need Additional Capital in the Future. If Additional Capital is Not Available, We May Have to Curtail or Cease Operations.



Our future capital requirements will depend on many factors including
payments received under collaborative agreements, joint ventures and government grants, the progress and scope of our collaborative and independent research and development projects, the extent to which we advance products into clinical trials with
our own resources, the effect of any acquisitions, and the filing, prosecution and enforcement of patent claims.



Changes may also occur that would consume available capital resources significantly sooner than we expect. We may be unable to raise sufficient additional capital. The
current difficult economic climate means that the current ability of biotechnology companies to raise capital is severely limited, particularly companies such as Maxygen without human therapeutic products in late clinical development. If we fail to
raise sufficient funds, we may have to curtail or cease operations. We anticipate that existing cash and cash equivalents and income earned thereon, together with anticipated revenues from collaborations, joint ventures and grants, will enable us to
maintain our currently planned operations for at least the next twelve months. If our capital resources are insufficient to meet future capital requirements, we will have to raise additional funds to continue the development of our technologies and
complete the commercialization of products, if any, resulting from our technologies. If adequate funds are not available, we will not be able to successfully execute our business plan.



Our Business and Our Ability to Grow Revenues has been Adversely Impacted by the Economic Slowdown and Related Uncertainties Affecting
Markets in Which We Operate.



Adverse economic conditions worldwide have
contributed to a slowdown in the biotechnology industry and impacted our business resulting in:



| |  | reduced demand for our technology and the products resulting there from;
| | - | ------------------------------------------------------------------------



| |  | increased competition for a decreasing number of research and development collaborations and joint ventures; and
| | - | ----------------------------------------------------------------------------------------------------------------



| |  | a reduction in the ability of biotechnology companies to raise capital.
| | - | -----------------------------------------------------------------------



Recent political and social turmoil in many parts of the world, including actual incidents and potential future acts of terrorism and war, may continue to put pressure on
global economic conditions. These political, social and economic conditions and uncertainties make it difficult for Maxygen and our existing and potential collaboration partners to accurately forecast and plan future business activities. This
reduced predictability challenges our ability to increase revenues and reach profitability. In particular, it is difficult to develop and implement strategies, sustainable business models and efficient operations, and effectively manage
collaboration relationships due to difficult macroeconomic conditions. If the current economic or market conditions continue or further deteriorate, there could be a material adverse impact on our financial position, revenues, results of operations
and cash flow.



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The Operation of International Locations May Increase Operating Expenses and Divert Management Attention.



Since August 2000, when we acquired Maxygen ApS, a Danish biotechnology
company, we have been operating with international business locations. Operation as an international entity requires additional management attention and resources. We have limited experience in operating internationally and in conforming our
operations to local cultures, standards and policies. We also must compete with local companies who understand the local situation better than we do. Due to these operational impediments we may have trouble generating revenues from foreign
operations. Even if we are successful, the costs of operating internationally are expected to continue to exceed our international revenues for at least the next several years. As we continue to operate internationally, we are subject to risks of
doing business internationally, including the following:



| |  | regulatory requirements that may limit or prevent the offering of our products in local jurisdictions;
| | - | ------------------------------------------------------------------------------------------------------



| |  | local legal and governmental limitations on company-wide employee benefit practices, such as the operation of our employee stock option plan in local jurisdictions;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | government limitations on research and/or research involving genetically engineered products or processes;
| | - | ----------------------------------------------------------------------------------------------------------



| |  | difficulties in staffing and managing foreign operations;
| | - | ---------------------------------------------------------



| |  | longer payment cycles, different accounting practices and problems in collecting accounts receivable;
| | - | -----------------------------------------------------------------------------------------------------



| |  | currency exchange risks;
| | - | ------------------------



| |  | cultural non-acceptance of genetic manipulation and genetic engineering; and
| | - | ----------------------------------------------------------------------------



| |  | potentially adverse tax consequences.
| | - | -------------------------------------



Substantial Sales of Shares May Adversely Impact the Market Price of our Common Stock.



If our stockholders sell substantial amounts of our common stock, including shares issued upon the exercise of outstanding options, the
market price of our common stock may decline. Our common stock trading volume is low and thus the market price of our common stock is particularly sensitive to trading volume. Our low trading volume may also make it more difficult for us to sell
equity or equity related securities in the future at a time and price that we deem appropriate. Significant sales of our common stock may adversely impact the then-prevailing market price of our common stock.



Public Perception of Ethical and Social Issues May Limit the Use of Our Technologies,
Which Could Reduce Our Revenues.



Our success will depend in part upon our
ability to develop products discovered through our technologies. Governmental authorities could, for social or other purposes, limit the use of genetic processes or prohibit the practice of our directed molecular evolution technologies or other
technologies. Ethical and other concerns about our directed molecular evolution technologies or other technologies, particularly the use of genes from nature for commercial purposes, and products resulting therefrom, could adversely affect their
market acceptance.



If the Public Rejects Genetically Engineered Products,
There Will Be Lower Demand for Our Products.



The commercial success of
our potential products will depend in part on public acceptance of the use of genetically engineered products; including drugs. Claims that genetically engineered products are unsafe for consumption or pose a danger to the environment may influence
public attitudes. Our genetically engineered products may not gain public acceptance. Negative public reaction to genetically modified organisms and products could result in greater government regulation of genetic research and resultant products,
including stricter labeling laws or regulations, and could cause a decrease in the demand for our products.



The subject of genetically modified organisms has received negative publicity in Europe and the United States, which has aroused public debate. The adverse publicity could lead to greater regulation and trade
restrictions on genetic research and the resultant products could be subject to greater domestic or international regulation. Such regulation and restrictions could cause a decrease in the demand for our products.



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Many Potential Competitors Who Have Greater Resources and Experience Than We Do May Develop Products and Technologies
That Make Ours Obsolete.



The biotechnology industry is characterized by
rapid technological change, and the area of gene research is a rapidly evolving field. Our future success will depend on our ability to maintain a competitive position with respect to technological advances. Rapid technological development by others
may result in our products and technologies becoming obsolete.



We face, and
will continue to face, intense competition from organizations such as large and small biotechnology companies, as well as academic and research institutions and government agencies that are pursuing competing technologies for modifying DNA and
proteins. These organizations may develop technologies that are alternatives to our technologies. Further, our competitors in the protein optimization field may be more effective at implementing their technologies to develop commercial products.
Some of these competitors have entered into collaborations with leading companies within our target markets to produce commercial products.



Any products that we develop through our technologies will compete in multiple, highly competitive markets. Most of the organizations competing with us in the markets for
such products have greater capital resources, research and development and marketing staffs and facilities and capabilities, and greater experience in modifying DNA and proteins, obtaining regulatory approvals, manufacturing products and marketing.



Accordingly, our competitors may be able to develop technologies and products
more easily, which would render our technologies and products and those of our collaborators obsolete and noncompetitive.



Any Inability to Adequately Protect Our Proprietary Technologies Could Harm Our Competitive Position.



Our success will depend in part on our ability to obtain patents and maintain adequate
protection of our intellectual property for our technologies and products in the U.S. and other countries. If we do not adequately protect our intellectual property, competitors may be able to practice our technologies and erode our competitive
advantage. The laws of some foreign countries do not protect proprietary rights to the same extent as the laws of the U.S., and many companies have encountered significant problems in protecting their proprietary rights in these foreign countries.
These problems can be caused by, for example, a lack of rules and processes allowing for meaningfully defending intellectual property rights.



We will be able to protect our proprietary rights from unauthorized use by third parties only to the extent that our proprietary technologies are covered by valid and
enforceable patents or are effectively maintained as trade secrets. The patent positions of biopharmaceutical and biotechnology companies, including our patent positions, are often uncertain and involve complex legal and factual questions. We apply
for patents covering our technologies and potential products as we deem appropriate. However, we may not obtain patents on all inventions for which we seek patents, and any patents we obtain may be challenged and may be narrowed in scope or
extinguished as a result of such challenges. Our existing patents and any future patents we obtain may not be sufficiently broad to prevent others from practicing our technologies or from developing competing products. Others may independently
develop similar or alternative technologies or design around our patented technologies or products. In addition, others may challenge or invalidate our patents, or our patents may fail to provide us with any competitive advantages.



We rely upon trade secret protection for our confidential and proprietary information. We
have taken security measures to protect our proprietary information. These measures may not provide adequate protection for our trade secrets or other proprietary information. We seek to protect our proprietary information by entering into
confidentiality agreements with employees, collaborators and consultants. Nevertheless, employees, collaborators or consultants may still disclose or misuse our proprietary information, and we may not be able to meaningfully protect our trade
secrets. In addition, others may independently develop substantially equivalent proprietary information or techniques or otherwise gain access to our trade secrets.



Litigation or Other Proceedings or Third Party Claims of Intellectual Property Infringement Could Require Us to Spend Time and Money and
Could Shut Down Some of Our Operations.



Our ability to develop products
depends in part on not infringing patents nor proprietary rights of third parties, and not breaching any licenses that we have entered into with regard to our technologies and products. Others have filed, and in the future are likely to file, patent
applications covering genes or gene fragments or corresponding proteins or peptides that we may wish to utilize with our proprietary technologies, or products that are similar to products developed with the use of our technologies or alternative
methods of generating gene diversity. If these patent applications result in issued patents and we wish to use the patented technology, we would need to obtain a license from the third party.



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Third parties may assert that we are employing their proprietary technology without authorization. In addition, third
parties may obtain patents in the future and claim that use of our technologies infringes these patents. We could incur substantial costs and diversion of the time and attention of management and technical personnel in defending ourselves against
any of these claims or enforcing our patents or other intellectual property rights against others. Furthermore, parties making claims against us may be able to obtain injunctive or other equitable relief that could effectively block our ability to
further develop, commercialize and sell products, and such claims could result in the award of substantial damages against us. In the event of a successful claim of infringement against us, we may be required to pay damages and obtain one or more
licenses from third parties. We may not be able to obtain these licenses at a reasonable cost, if at all. In that event, we could encounter delays in product introductions while we attempt to develop alternative methods or products or be required to
cease commercializing affected products.



We monitor the public disclosures of
other companies operating in our industry regarding their technological development efforts. If we determine that these efforts violate our intellectual property or other rights, we intend to take appropriate action, which could include litigation.
Any action we take could result in substantial costs and diversion of management and technical personnel. Furthermore, the outcome of any action we take to protect our rights may not be resolved in our favor.



If We Lose Key Personnel or Are Unable to Attract and Retain Additional Personnel We May
Be Unable to Pursue Collaborations or Develop Our Own Products.



We are
highly dependent on the principal members of our management and scientific staff, the loss of whose services might adversely impact the achievement of our objectives. In addition, recruiting and retaining qualified scientific personnel to perform
future research and development work will be critical to our success. We do not currently have sufficient executive management personnel to execute fully our business plan. Although we believe we will be successful in attracting and retaining
qualified personnel, competition for experienced scientists from numerous companies and academic and other research institutions may limit our ability to do so on acceptable terms. Failure to attract and retain personnel could prevent us from
pursuing collaborations or developing our products or core technologies.



Our
planned activities will require additional expertise in specific industries and areas applicable to the products developed through our technologies. These activities will require the addition of new personnel, including management, and the
development of additional expertise by existing management personnel. The inability to acquire these services or to develop this expertise could impair the growth, if any, of our business.



Some of Our Programs Depend on Government Grants, Which May Be Withdrawn. The Government
Has License Rights to Technology Developed With Its Funds.



We have
received and expect to continue to receive funds under various U.S. government research and technology development programs. The government may reduce funding in the future for a number of reasons. For example, some programs are subject to a yearly
appropriations process in Congress. Additionally, we may not receive funds under existing or future grants because of budgeting constraints of the agency administering the program. There can be no assurance that we will receive the entire funding
under our existing or future grants.



Our grants from the U.S. government
provide the U.S. government with a non-exclusive, paid-up license to practice for or on behalf of the U.S. government inventions made with federal funds. If the government exercises these rights, the U.S. government could use these inventions and
our potential market could be reduced.



Our Potential Therapeutic Products
Are Subject to a Lengthy and Uncertain Regulatory Process. If Our Potential Products Are Not Approved, We Will Not Be Able to Commercialize Those Products.



The Food and Drug Administration must approve any vaccine or therapeutic product before it can be marketed in the U.S. Before we can file a new drug application or
biologic license application with the FDA, the product candidate must undergo extensive testing, including animal and human clinical trials, which can take many years and require substantial expenditures. Data obtained from such testing are
susceptible to varying interpretations that could delay, limit or prevent regulatory approval. In addition, changes in regulatory policy for product approval during the period of product development and regulatory agency review of each submitted new
application or product license application may cause delays or rejections. The regulatory process is expensive and time consuming. The regulatory agencies of foreign governments must also approve our therapeutic products before the products can be
sold in those other countries.



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Because our potential products involve the application of new technologies and may be based upon new therapeutic
approaches, they may be subject to substantial review by government regulatory authorities and government regulatory authorities may grant regulatory approvals more slowly for our products than for products using more conventional technologies. We
have not submitted an application to the FDA or any other regulatory authority for any product candidate, and neither the FDA nor any other regulatory authority has approved any therapeutic product candidate developed with our MolecularBreeding
directed evolution platform for commercialization in the U.S. or elsewhere. We may not be able to, or our collaborators may not be able to, conduct clinical testing or obtain the necessary approvals from the FDA or other regulatory authorities for
our products.



Even if we receive regulatory approval, this approval may entail
limitations on the indicated uses for which we can market a product. Further, once regulatory approval is obtained, a marketed product and its manufacturer are subject to continual review, and discovery of previously unknown problems with a product
or manufacturer may result in restrictions on the product, manufacturer or manufacturing facility, including withdrawal of the product from the market. In certain countries, regulatory agencies also set or approve prices.



If Approval of Our Potential Products Is Delayed or Potential Products Do Not Perform as
Expected, Our Stock Price and Ability to Raise Capital Will be Reduced.



The development and regulatory process for human therapeutic products is long and uncertain. Most product candidates fail before entering clinical trials and most clinical trials do not result in a marketed product. In addition, due to the
nature of human therapeutic research and development, the expected timing of product development and initiation of clinical trials and the results of such development and clinical trials are uncertain and subject to change at any point. This
uncertainty may result in research delays; product candidate failures and clinical trial delays and failures. Such delays and failures could drastically reduce the price of our stock and our ability to raise capital. Without sufficient capital, we
would need to reduce operations and could be forced to cease operations.



Preclinical Development is a Long, Expensive and Uncertain Process, and We May Terminate One or More of our Current Preclinical Development Programs.



We may determine that certain preclinical product candidates or programs do not have sufficient potential to warrant further funding.
Accordingly, we may elect to terminate our programs for such product candidates or programs at any time. If we terminate a preclinical program in which we have invested significant resources, our financial condition and results of operations may be
adversely affected, as we will have expended resources on a program that will not provide a return on our investment and we will have missed the opportunity to have allocated those resources to potentially more productive uses. Termination of such
programs could cause the price of our stock to drop drastically.



Health
Care Reform and Restrictions on Reimbursements May Limit Our Returns on Pharmaceutical Products.



Our future products are expected to include pharmaceutical products. The continuing efforts of governmental and other third-party payors to contain or reduce the cost of healthcare through various means may adversely
affect our ability to successfully commercialize our products. In most foreign markets, the pricing and/or profitability of prescription pharmaceuticals are subject to governmental control. In the United States, we expect that there will continue to
be federal and state proposals to implement similar governmental control. For example, federal legislation was enacted on December 8, 2003 that provides a new Medicare prescription drug benefit beginning in 2006 and mandates other reforms. Although
we cannot predict the full effects on our business of the implementation of this new legislation, it is possible that the new Medicare benefit, which will be managed by private health insurers, pharmacy benefit managers and other managed care
organizations, will result in decreased reimbursement for prescription drugs, which may further exacerbate industry-wide pressure to reduce the prices charged for prescription drugs. In addition, increasing emphasis on managed care in the United
States will continue to put pressure on the pricing of pharmaceutical products. These new and any future cost-control initiatives could decrease the price that we would receive for any products we may develop in the future, which would reduce our
revenues and potential profitability.



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Commercialization of Our Technologies Depends on Collaborations With Other Companies. If We Are Unable to Find
Collaborators in the Future, We May Not Be Able to Develop Our Technologies or Products.



Since we do not currently possess the resources necessary to develop and commercialize potential products that may result from our technologies, or the resources to complete any approval processes that may be required
for these products, we must enter into collaborative arrangements, including joint ventures, to develop and commercialize products. We have entered into collaborative agreements and joint ventures with other companies to fund the development of new
products for specific purposes. We have also entered into agreements to manufacture certain of our product candidates for use in clinical trials. These contracts expire after a fixed period of time. If they are not renewed or if we do not enter into
new collaborative agreements or joint ventures, our revenues will be reduced and our potential products may not be commercialized.



We have limited or no control over the resources that any collaborator may devote to our potential products. Any of our present or future collaborators may not perform
their obligations as expected. These collaborators may breach or terminate their agreement with us or otherwise fail to conduct their collaborative activities successfully and in a timely manner. Further, our collaborators may elect not to develop
potential products arising out of our collaborative arrangements or devote sufficient resources to the development, manufacture, marketing or sale of these products. If any of these events occur, we may not be able to develop our technologies or
commercialize our potential products.



The Manufacturing of our Products
Candidates Present Technological, Logistical and Regulatory Risks, Each of Which May Adversely Affect our Potential Revenues.



The manufacturing and manufacturing development of pharmaceuticals, and, in particular, biologicals, are technologically and logistically complex and heavily regulated by
the FDA and other governmental authorities. The manufacturing and manufacturing development of our products and product candidates present many risks, including, but not limited to, the following:



| |  | before we can obtain approval of any of our products or product candidates for the treatment of a particular disease, we must demonstrate to the satisfaction of the FDA and other
governmental authorities that the drug manufactured for the clinical trials is comparable to the drug manufactured for commercial use and that the manufacturing facility complies with applicable laws and regulations;
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | it may not be technically feasible to scale up an existing manufacturing process to meet demand or such scale-up may take longer than anticipated; and
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | failure to comply with strictly enforced good manufacturing practices regulations and similar foreign standards may result in delays in product approval or withdrawal of an approved
product from the market.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Any of these factors could delay
clinical trials, regulatory submissions and/or commercialization of our products, entail higher costs and result in our being unable to effectively sell our products.



Our Manufacturing Strategy, Which Relies on Third-Party Manufacturers, Exposes us to Additional Risks as a Result of Which We May Lose
Potential Revenues.



We do not currently have the resources, facilities or
experience to manufacture any product candidates or potential products ourselves. Completion of our clinical trials and commercialization of our products will require access to, or development of, manufacturing facilities that meet FDA standards to
manufacture a sufficient supply of our potential products. We currently depend on third parties for the scale up and manufacture of our product candidates for preclinical and clinical purposes. If our third party manufacturers are unable to
manufacture clinical supplies in a timely manner or are unable or unwilling to satisfy our needs or FDA requirements, it could delay clinical trials, regulatory submissions or commercialization of our potential products, entail higher costs and
result in our being unable to effectively sell our products. In addition, technical problems or other manufacturing delays could delay the advancement of potential products into clinical trials or result in the termination of development of
particular product candidates, adversely affecting our product development timetable, which in turn could adversely affect our stock price.



Destructive Actions By Activists or Terrorists Could Damage Our Facilities, Interfere with Our Research Activities and Cause Ecological Harm. Any Such Adverse Events
Could Damage Our Ability to Develop Products and Generate Adequate Revenue to Continue Operations.



Activists and terrorists have shown a willingness to injure people and damage physical facilities, equipment and biological materials to publicize and/or further their ideological causes. Recent bombings in Boston, MA
and



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Emeryville, CA also show that biotechnology companies could be a specific target of certain groups. Our operations and
research activities could be adversely impacted depending upon the nature and extent of such acts. Such damage could include disability or death of our personnel, damage to our physical facilities, destruction of animals and biological materials,
disruption of our communications and/or data management software used for research and/or destruction of research records. Any such damage could delay our research projects and decrease our ability to conduct future research and development. Damage
caused by activist and/or terrorist incidents could also cause the release of hazardous materials, including chemicals, radioactive and biological materials, which could damage our reputation in the community. Clean-up of any such releases could
also be time consuming and costly.



Any significant interruptions in our
ability to conduct our business operations or research and development activities could reduce our revenue and increase our expenses.



We Use Hazardous Chemicals and Radioactive and Biological Materials in Our Business. Any Claims Relating to Improper Handling, Storage or Disposal of These Materials
Could Be Time Consuming and Costly.



Our research and development
processes involve the controlled use and disposal of hazardous materials, including chemicals, infectious disease agents and radioactive and biological materials. Some of these materials may be novel, including viruses with novel properties and
animal models for the study of viruses. Our operations also produce hazardous waste products. We cannot eliminate the risk of accidental contamination or discharge and any resultant injury from these materials. Federal, state and local laws and
regulations govern the use, manufacture, storage, handling and disposal of these materials. We believe that our current operations comply in all material respects with these laws and regulations. We could be subject to civil damages in the event of
an improper or unauthorized release of, or exposure of individuals to, hazardous materials. In addition, claimants may sue us for injury or contamination that results from our use or the use by third parties of these materials, and our liability may
exceed our total assets. Compliance with environmental laws and regulations may be expensive, and current or future environmental regulations may impair our research, development, or production efforts. We believe that our current operations comply
in all material respects with applicable Environmental Protection Agency regulations.



In addition, certain of our collaborators are working with these types of hazardous materials in connection with our collaborations. To our knowledge, the work is performed in accordance with biosafety regulations. In the event of a lawsuit
or investigation, we could be held responsible for any injury caused to persons or property by exposure to, or release of, these viruses and hazardous materials. Further, under certain circumstances, we have agreed to indemnify our collaborators
against damages and other liabilities arising out of development activities or products produced in connection with these collaborations.



We May Be Sued for Product Liability.



We may be held liable if any product we develop, or any product that is made with the use or incorporation of any of our technologies, causes injury or is found otherwise
unsuitable during product testing, manufacturing, marketing or sale. These risks are inherent in the development of chemical and pharmaceutical products. Although we intend in the future to obtain product liability insurance, we do not have such
insurance currently. Any such insurance that we seek to obtain may be prohibitively expensive or may not fully cover our potential liabilities. Inability to obtain sufficient insurance coverage at an acceptable cost or otherwise to protect against
potential product liability claims could prevent or inhibit the commercialization of products developed by us or our collaborators. If we are sued for any injury caused by our products, our liability could exceed our total assets.



Our Stock Price Has Been, and May Continue to Be, Extremely Volatile, and an Investment in
Our Stock Could Decline in Value.



The trading prices of life science
company stocks in general, and ours in particular, have experienced significant price fluctuations in the last several years. During the twelve-month period ended September 30, 2004, the closing price of our common stock on the Nasdaq National
Market ranged from $8.28 to $12.19. The valuations of many life science companies without consistent product revenues and earnings, including ours, are high based on valuation standards such as price to sales ratios and progress in product
development and/or clinical trials. Trading prices based on these valuations may not be sustained. Any negative change in the publics perception of the prospects of biotechnology or life science companies could depress our stock price
regardless of our results of operations. Other broad market and industry factors may decrease the trading price of our common stock, regardless of our performance. Market fluctuations, as well as general political and economic conditions such as



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recession or interest rate or currency rate fluctuations, also may decrease the trading price of our common stock. In
addition, our stock price could be subject to wide fluctuations in response to factors including the following:



| |  | our failure to meet our publicly announce revenue and/or expense projections and/or product development timetables;
| | - | -------------------------------------------------------------------------------------------------------------------



| |  | adverse results or delays in preclinical development or clinical trials;
| | - | ------------------------------------------------------------------------



| |  | any decisions to discontinue or delay development programs or clinical trials;
| | - | ------------------------------------------------------------------------------



| |  | announcements of new technological innovations or new products by us or our competitors;
| | - | ----------------------------------------------------------------------------------------



| |  | changes in financial estimates by securities analysts;
| | - | ------------------------------------------------------



| |  | conditions or trends in the biotechnology and life science industries;
| | - | ----------------------------------------------------------------------



| |  | changes in the market valuations of other biotechnology or life science companies;
| | - | ----------------------------------------------------------------------------------



| |  | developments in domestic and international governmental policy or regulations;
| | - | ------------------------------------------------------------------------------



| |  | announcements by us or our competitors of significant acquisitions, strategic partnerships, joint ventures or capital commitments;
| | - | ----------------------------------------------------------------------------------------------------------------------------------



| |  | developments in or challenges relating to patent or other proprietary rights; and
| | - | ---------------------------------------------------------------------------------



| |  | sales of our common stock or other securities in the open market.
| | - | -----------------------------------------------------------------



In the past, stockholders have often instituted securities class action litigation after periods of volatility in the market price of a companys securities. If a
stockholder files a securities class action suit against us, we would incur substantial legal fees and our managements attention and resources would be diverted from operating our business to respond to the litigation.



In December 2001 a lawsuit was filed in the U.S. District Court for the Southern District of
New York against Maxygen, Inc., certain officers of the Company, and certain underwriters of the Companys initial public offering and secondary public offering of common stock. The complaint, which alleges claims under Sections 11, 12(a)(2)
and 15 of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934, is among the so-called laddering cases that have been commenced against a number of companies that had public offerings of securities prior to
December 2000. The complaint has been consolidated with other laddering claims in a proceeding styled In re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS), pending before the Honorable Shira A. Scheindlin. In February 2003,
the court dismissed the Section 10(b) claim against the officers of the Company; the remainder of the case remains pending. We believe the lawsuit against Maxygen and its officers is without merit and intend to defend against it vigorously. See also
Part II, Item 1, Legal Proceedings in this report.



We Expect
that Our Quarterly Results of Operations Will Fluctuate, and This Fluctuation Could Cause Our Stock Price to Decline.



Our quarterly operating results have fluctuated in the past and are likely to do so in the future. These fluctuations could cause our stock price to fluctuate
significantly or decline. Some of the factors that could cause our operating results to fluctuate include:



| |  | expiration of research contracts with collaborators or government research grants, which may not be renewed or replaced;
| | - | ------------------------------------------------------------------------------------------------------------------------



| |  | the success rate of our discovery efforts leading to milestones and royalties;
| | - | ------------------------------------------------------------------------------



| |  | the timing and willingness of collaborators to commercialize our products, which would result in royalties; and
| | - | ---------------------------------------------------------------------------------------------------------------



| |  | general and industry specific economic conditions, which may affect our collaborators research and development expenditures.
| | - | -----------------------------------------------------------------------------------------------------------------------------



A large portion of our expenses are relatively fixed, including expenses for facilities,
equipment and personnel. Accordingly, if revenues decline or do not grow as anticipated due to expiration of research contracts or government research grants, failure to obtain new contracts or other factors, we may not be able to immediately reduce
our operating expenses. Failure to achieve anticipated levels of revenues could therefore significantly harm our operating results for a particular fiscal period.



Due to the possibility of fluctuations in our revenues and expenses, we believe that quarter-to-quarter comparisons of our operating results
are not a good indication of our future performance. Our operating results in some quarters may not meet the expectations of stock market analysts and investors. In that case, our stock price would likely decline.



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Some of Our Existing Stockholders Can Exert Control Over Us, and May Not Make Decisions that Are in the Best Interests
of All Stockholders.



Our executive officers, directors and principal
stockholders together control approximately 30% of our outstanding common stock, including GlaxoSmithKline plc, which owns approximately 19% of our outstanding common stock. As a result, these stockholders, if they act together, and GlaxoSmithKline
plc by itself, could exert a significant degree of influence over our management and affairs and over matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions. In addition, this
concentration of ownership may delay or prevent a change in control of Maxygen and might affect the market price of our common stock, even when a change may be in the best interests of all stockholders. In addition, the interests of this
concentration of ownership may not always coincide with our interests or the interests of other stockholders and accordingly, they could cause us to enter into transactions or agreements that we would not otherwise consider. This concentration of
ownership could also depress our stock price.



ITEM 3

QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK



Market risk
management



Our cash flow and earnings are subject to fluctuations due to
changes in foreign currency exchange rates, interest rates, the fair value of equity securities held and our stock price. We attempt to limit our exposure to some or all of these market risks through the use of various financial instruments. There
were no significant changes in our market risk exposures during the nine months ended September 30, 2004. These activities are discussed in further detail in Part II, Item 7A, Quantitative and Qualitative Disclosures About Market Risk of
our Annual Report on Form 10-K for the year ended December 31, 2003.



ITEM 4

CONTROLS AND PROCEDURES



Quarterly Controls Evaluation and Related CEO and CFO Certifications. Company
management, with the participation of our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), has evaluated the effectiveness of our disclosure controls and procedures (Disclosure Controls) as of the
end of the period covered by this report.



Appearing as Exhibits 31.1 and 31.2
of this report are the certifications of our CEO and CFO, which are required in accordance with Rule 13a-14 of the Exchange Act. This Controls and Procedures section includes the information concerning the controls evaluation referred to in the
certifications and it should be read in conjunction with the certifications for a more complete understanding of the topics presented.



Definition of Disclosure Controls. Disclosure Controls are controls and procedures designed to ensure that information required to be disclosed in our reports
filed under the Exchange Act, such as this report, is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms. Disclosure Controls are also designed to ensure that such information is
accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure. Our Disclosure Controls include components of our internal control over financial reporting
(Internal Controls), which consists of control processes designed with the objective of providing reasonable assurance that (1) our transactions are properly authorized; (2) our assets are safeguarded against unauthorized or improper use
and (3) our transactions are properly recorded and reported, all to permit the preparation of our financial statements in conformity with generally accepted accounting principles.



Limitations on the Effectiveness of Controls.Our management, including our CEO and CFO, does not expect that our Disclosure Controls
will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system
must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance
that all control issues and instances of fraud, if any, within Maxygen have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or
mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls also is based in part upon certain



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assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in
achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or deterioration in the degree of compliance with the policies or procedures. Because of the inherent
limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.



Scope of the Controls Evaluation.The CEO/CFO evaluation of our Disclosure Controls included a review of the controls objectives and design, the
controls implementation by Maxygen and the effect of the controls on the information generated for use in this report. In the course of the controls evaluation, we sought to identify errors, controls problems or acts of fraud. Elements of our
controls are also evaluated on an ongoing basis by personnel in our Finance department. The overall goals of these various evaluation activities are to monitor our Disclosure Controls and to make modifications as necessary. Our intent in this regard
is that the Disclosure Controls will be maintained as dynamic systems that change (including with improvements and corrections) as conditions warrant.



Among other matters, we sought in our evaluation to determine whether there were any significant deficiencies or material weaknesses in our Internal Controls, or whether
we had identified any acts of fraud involving personnel who have a significant role in our Internal Controls. This information was important both for the controls evaluation generally and because item 5 in the certifications of our CEO and CFO
require that the CEO and CFO disclose that information to our Audit Committee and to our independent auditors and to report on related matters in this section of the report.



Conclusions.Based upon the controls evaluation, our CEO and CFO have concluded that our Disclosure Controls were effective as of
September 30, 2004 to ensure that material information relating to Maxygen and its consolidated subsidiaries is made known to management, including the CEO and CFO, particularly during the period when our periodic reports are being prepared.



During the fiscal period covered by this report there have been no significant
changes in our internal controls over financial reporting or in other factors that could significantly affect our internal controls over financial reporting, including any corrective actions with regard to significant deficiencies and material
weaknesses.



PART II  OTHER INFORMATION



ITEM 1

LEGAL PROCEEDINGS



In December 2001 a lawsuit was filed in the U.S. District Court for the Southern District of
New York against Maxygen, Inc., certain officers of the Company, and certain underwriters of the Companys initial public offering and secondary public offering of common stock. The complaint, which alleges claims under Sections 11, 12(a)(2)
and 15 of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934, is among the so-called laddering cases that have been commenced against over 300 companies that had public offerings of securities in 1999 and
2000. The complaint has been consolidated with other laddering claims in a proceeding styled In re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS), pending before the Honorable Shira A. Scheindlin. In February 2003, the
court dismissed the Section 10(b) claim against the officers of the Company; the remainder of the case remains pending.



In June 2003 the Company agreed to the terms of a tentative settlement agreement along with other defendant issuers in In re Initial Public Offering Securities
Litigation. The tentative settlement provides that the 309 defendant issuers and their insurers will pay to the plaintiffs $1 billion less any recovery of damages the plaintiffs receive from the defendant underwriters. If the plaintiffs receive
over $5 billion in damages from the defendant underwriters, the Company will be entitled to reimbursement of various expenses incurred by the Company as a result of the litigation. As part of the tentative settlement, the Company will assign to the
plaintiffs its excess compensation claims and certain other of its claims against the defendant underwriters as a result of the alleged actions of the defendant underwriters. The settlement is subject to acceptance by a substantial
majority of defendants and execution of a definitive settlement agreement. The settlement is also subject to court approval, which cannot be assured. The Company believes that its portion of the tentative settlement of the litigation, if any, will
be covered by existing insurance.



If the settlement is not accepted by the
requisite number of defendants or if it does not receive court approval, the Company intends to defend the lawsuit vigorously. However, the litigation is in the preliminary stage, and the



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Company cannot predict its outcome. The litigation process is inherently uncertain. If the outcome of the litigation is
adverse to the Company and if the Company is required to pay significant damages, the Companys business would be significantly harmed.



ITEM 2

CHANGES IN SECURITIES AND USE
OF PROCEEDS



Recent Sales of Unregistered
Securities



On June 7, 2004 we issued 5,000 shares of our common stock to
a service provider in partial payment for services provided to us. On August 4, 2004 we issued a total of 12,220 shares of our common stock in connection with the acquisition of a license of certain technology. There was no underwriter employed in
connection with any of the above described transactions. The issuances of securities were deemed to be exempt from registration under the Securities Act of 1933, as amended (the Securities Act) in reliance upon Section 4(2) of the
Securities Act and Regulation D promulgated thereunder as transactions by an issuer not involving a public offering. The recipients of the securities represented their intentions to acquire the securities for investment only and not with a view to
or for sale in connection with any distribution thereof and appropriate legends were affixed to the share certificates issued in the transactions. The recipients either received adequate information about us or had access, through employment or
other relationships, to such information. The recipients, either alone or together with their duly appointed purchaser representatives, were knowledgeable, sophisticated and experienced in making investment decisions of this kind and received
adequate information about us.



ITEM 3

DEFAULTS UPON SENIOR SECURITIES



Not applicable.



ITEM 4

SUBMISSION OF MATTERS TO A
VOTE OF SECURITY HOLDERS



None.



ITEM 5

OTHER INFORMATION



PRE-APPROVAL OF
NON-AUDIT SERVICES



During the
three month period ended September 30, 2004, the Audit Committee of the Board of Directors approved the following non-audit services to be performed by Ernst & Young LLP: (i) audit-related consultation regarding the implementation of various
regulatory requirements, (ii) consultation regarding various accounting issues related to the sale of Verdia and (iii) consultation regarding several audit-related matters.



The Audit Committee has determined that the rendering of the non-audit services described above by Ernst & Young LLP is compatible with
maintaining the auditors independence.



ITEM 6



EXHIBITS



The following exhibits are filed as part of this report:



|     |  |                                                                                                                                   
|---- |  | ----------------------------------------------------------------------------------------------------------------------------------
|31.1 |  | Certification of Chief Executive Officer as required by Section 302 of the Sarbanes-Oxley Act of 2002.                            
|     | 
|31.2 |  | Certification of Chief Financial Officer as required by Section 302 of the Sarbanes-Oxley Act of 2002.                            
|     | 
|32.1 |  | Certification of Chief Executive Officer and Chief Financial Officer as required by Section 906 of the Sarbanes-Oxley Act of 2002.



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SIGNATURES



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



|                 |  |               |  |                        
|---------------- |  | ------------- |  | -----------------------
|                 |  | MAXYGEN, INC.
|                 |  |              
|November 8, 2004 |  | By:           |  | /s/ Russell J. Howard  
|                 |  |               |  | Russell J. Howard      
|                 |  |               |  | Chief Executive Officer
|                 |  |              
|November 8, 2004 |  | By:           |  | /s/ Lawrence W. Briscoe
|                 |  |               |  | Lawrence W. Briscoe    
|                 |  |               |  | Chief Financial Officer



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