Table of Contents

 

 

 

**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON, D.C. 20549**

 

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**FORM 10-Q**

 

**(Mark One)**

 
| **x**      | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**                              |
|------------|--------------------------------------------------------------------------------------------------------------------------------------|
| ** ** | ** **                                                                                                                           |
| ** ** | **FOR THE QUARTERLY PERIOD ENDED  SEPTEMBER 30, 2009**                                                                               |
| ** ** | ** **                                                                                                                           |
| ** ** | **OR**                                                                                                                               |
| ** ** |
| **o**      | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                              |
| ** ** | ** **                                                                                                                           |
| ** ** | **FOR THE TRANSITION PERIOD FROM        TO        ** |

 

**Commission File Number 0-29889**

 

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**Rigel Pharmaceuticals, Inc.**

(Exact name of registrant as specified in itscharter)

 

| **Delaware**                                      | ** ** | **94-3248524**                        |
|---------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of incorporation or |       | (I.R.S. Employer  Identification No.) |
| organization)                                     |       |                                  |
|                                              |       |                                  |
| **1180  Veterans Blvd.**                          | ** ** | ** **                            |
| **South  San Francisco, CA**                      | ** ** | **94080**                             |
| (Address of  principal executive offices)         |       | (Zip Code)                            |

 

**(650) 624-1100**

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant: (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.  Yes x  No o

 

Indicate by check mark whether the registrant hassubmitted electronically and posted on its corporate Web site, if any, everyInteractive Data File required to be submitted and posted pursuant to Rule 405of Regulation S-T (§232.405 of this chapter) during thepreceding 12 months (or for such shorter period that the registrant wasrequired to submit and post such files).  Yes o  No o

 

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, a non-accelerated filer, or asmaller reporting company. See the definitions of “large accelerated filer,” “acceleratedfiler,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

| Large  accelerated filer x                    |   | Accelerated  filer o         |
|-----------------------------------------------|--------|------------------------------|
|                                          |   |                         |
| Non-accelerated  filer o                      |   | Smaller  reporting company o |
| (Do not check if a smaller reporting company) |   |                         |

 

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

 

Asof October 30, 2009, there were 51,821,947 shares of the registrant’scommon stock outstanding.

 

 

 

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Table of Contents

 

**RIGEL PHARMACEUTICALS, INC.QUARTERLY REPORT ON FORM 10-QFOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2009**

** **

**INDEX**

** **
| ** **       | ** **                                                                                                         | ** ** | **Page** |
|------------------|--------------------------------------------------------------------------------------------------------------------|------------|----------|
| **PART I**  | **FINANCIAL  INFORMATION**                                                                                         | ** ** | 3        |
| **Item 1.**      | Condensed  Financial Statements                                                                                    |       | 3        |
|             | Condensed  Balance Sheets — September 30, 2009 (Unaudited) and December 31,  2008                   |       | 3        |
|             | Condensed Statements of Operations (Unaudited) —three  and nine months ended September 30, 2009 and 2008 |       | 4        |
|             | Condensed Statements of Cash Flows (Unaudited) —nine  months ended September 30, 2009 and 2008           |       | 5        |
|             | Notes to Condensed Financial Statements (Unaudited)                                                                |       | 6        |
|             | Report of Independent Registered Public Accounting  Firm                                                           |       | 14       |
| **Item 2.**      | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                        |       | 15       |
| **Item 3.**      | Quantitative  and Qualitative Disclosures About Market Risk                                                        |       | 27       |
| **Item 4.**      | Controls and  Procedures                                                                                           |       | 27       |
| **PART II** | **OTHER INFORMATION**                                                                                              |       | 28       |
| **Item 1.**      | Legal Proceedings                                                                                                  |       | 28       |
| **Item 1A.**     | Risk Factors                                                                                                       |       | 28       |
| **Item 6.**      | Exhibits                                                                                                           |       | 40       |
|             |                                                                                                               |       |     |
| **Signatures**   |                                                                                                               |       | 41       |

 

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**PART I.FINANCIAL INFORMATION**

 

**Item 1.****    Condensed Financial Statements**

 

**RIGELPHARMACEUTICALS, INC.**

**CONDENSED BALANCE SHEETS**

**(Inthousands, except share and per share amounts)**

** **
| ** **                                                                                                                                                                                       | ** ** | **September 30,** | ** ** | **December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                       | ** ** | **2009**               | ** ** | **2008 (1)**          | ** ** |
| ** **                                                                                                                                                                                       | ** ** | **(unaudited)**        | ** ** | ** **            | ** ** |
| **Assets**                                                                                                                                                                                       |       |                   |       |                  |       |
| Current  assets:                                                                                                                                                                                 |       |                   |       |                  |       |
| Cash  and cash equivalents                                                                                                                                                                       |       | $                      | 94,745     |                  | $          | 46,005 |   |
| Available-for-sale  securities                                                                                                                                                                   |       | 61,333                 |       | 88,472                |       |
| Prepaid  expenses and other current assets                                                                                                                                                       |       | 3,066                  |       | 3,610                 |       |
| Total  current assets                                                                                                                                                                            |       | 159,144                |       | 138,087               |       |
|                                                                                                                                                                                             |       |                   |       |                  |       |
| Property  and equipment, net                                                                                                                                                                     |       | 2,605                  |       | 3,567                 |       |
| Other  assets                                                                                                                                                                                    |       | 2,546                  |       | 2,204                 |       |
|                                                                                                                                                                                             |       | $                      | 164,295    |                  | $          | 143,858 |   |
|                                                                                                                                                                                             |       |                   |       |                  |       |
| **Liabilities and stockholders’ equity**                                                                                                                                                    |       |                   |       |                  |       |
| Current  liabilities:                                                                                                                                                                            |       |                   |       |                  |       |
| Accounts  payable                                                                                                                                                                                |       | $                      | 3,504      |                  | $          | 5,984 |   |
| Accrued  compensation                                                                                                                                                                            |       | 3,844                  |       | 1,625                 |       |
| Other  accrued liabilities                                                                                                                                                                       |       | 11,848                 |       | 12,029                |       |
| Capital  lease obligations                                                                                                                                                                       |       | 1,114                  |       | 1,339                 |       |
| Deferred  rent                                                                                                                                                                                   |       | —                 |       | 3,174                 |       |
| Total  current liabilities                                                                                                                                                                       |       | 20,310                 |       | 24,151                |       |
|                                                                                                                                                                                             |       |                   |       |                  |       |
| Long-term  portion of capital lease obligations                                                                                                                                                  |       | 1,155                  |       | 2,053                 |       |
| Long-term  portion of deferred rent                                                                                                                                                              |       | 12,360                 |       | 13,311                |       |
| Other  long-term liabilities                                                                                                                                                                     |       | 162                    |       | 178                   |       |
|                                                                                                                                                                                             |       |                   |       |                  |       |
| Commitments  and contingencies                                                                                                                                                                   |       |                   |       |                  |       |
|                                                                                                                                                                                             |       |                   |       |                  |       |
| Stockholders’  equity:                                                                                                                                                                      |       |                   |       |                  |       |
| Preferred  stock, $0.001 par value; 10,000,000 shares authorized; none issued and  outstanding as of September 30, 2009 and December 31, 2008                                          |       | —                 |       | —                |       |
| Common  stock, $0.001 par value; 100,000,000 shares authorized; 51,821,947 and 36,646,397  shares issued and outstanding as of September 30, 2009 and December 31,  2008, respectively |       | 52                     |       | 37                    |       |
| Additional  paid-in capital                                                                                                                                                                      |       | 718,469                |       | 605,509               |       |
| Accumulated  other comprehensive income                                                                                                                                                          |       | 18                     |       | 396                   |       |
| Accumulated  deficit                                                                                                                                                                             |       | (588,231               | )          | (501,777              | )          |
| Total  stockholders’ equity                                                                                                                                                                 |       | 130,308                |       | 104,165               |       |
|                                                                                                                                                                                             |       | $                      | 164,295    |                  | $          | 143,858 |   |

 

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(1)  Thebalance sheet at December 31, 2008 has been derived from the auditedfinancial statements at that date included in Rigel’s Annual Report on Form 10-Kfor the year ended December 31, 2008.

 

See AccompanyingNotes.

 

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**RIGELPHARMACEUTICALS, INC.**

**CONDENSED STATEMENTS OF OPERATIONS**

**(Inthousands, except per share amounts)**

**(unaudited)**

 
| ** **                                                                       | ** ** | **Three Months Ended September 30,** | ** ** | **Nine Months Ended September 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|----------------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                                                                       | ** ** | **2009**                                                 | ** ** | **2008**                                                | ** ** | **2009** | ** ** | **2008** | ** ** |
| Contract  revenues                                                               |       | $                                                        | —     |                                                    | $          | — |   | $ | — |   | $ | — |   |
| Costs  and expenses:                                                             |       |                                                     |       |                                                    |       |   |   |   |   |
| Research  and development                                                        |       | 21,082                                                   |       | 31,232                                                  |       | 70,568 |   | 81,268 |   |
| General  and administrative                                                      |       | 5,573                                                    |       | 7,450                                                   |       | 15,226 |   | 21,436 |   |
| Restructuring  charges                                                           |       | —                                                   |       | —                                                  |       | 1,141 |   | — |   |
|                                                                             |       | 26,655                                                   |       | 38,682                                                  |       | 86,935 |   | 102,704 |   |
|                                                                             |       |                                                     |       |                                                    |       |   |   |   |   |
| Loss  from operations                                                            |       | (26,655                                                  | )          | (38,682                                                 | )          | (86,935 | ) | (102,704 | ) |
| Interest  income                                                                 |       | 48                                                       |       | 1,034                                                   |       | 554 |   | 3,853 |   |
| Interest  expense                                                                |       | (44                                                      | )          | (43                                                     | )          | (166 | ) | (131 | ) |
| Loss  before income taxes                                                        |       | (26,651                                                  | )          | (37,691                                                 | )          | (86,547 | ) | (98,982 | ) |
| Income  tax benefit                                                              |       | —                                                   |       | —                                                  |       | 93 |   | — |   |
| Net  loss                                                                        |       | $                                                        | (26,651    | )                                                       | $          | (37,691 | ) | $ | (86,454 | ) | $ | (98,982 | ) |
| Net  loss per share, basic and diluted                                           |       | $                                                        | (0.70      | )                                                       | $          | (1.03 | ) | $ | (2.32 | ) | $ | (2.76 | ) |
| Weighted  average shares used in computing net loss per share, basic and diluted |       | 38,135                                                   |       | 36,581                                                  |       | 37,185 |   | 35,837 |   |

 

See AccompanyingNotes.

 

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**RIGELPHARMACEUTICALS, INC.**

**CONDENSED STATEMENTS OF CASH FLOWS**

**(Inthousands)**

**(unaudited)**

 
| ** **                                                                   | ** ** | **Nine Months Ended**  | ** ** |
|------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                   | ** ** | **September 30,** | ** ** |
| ** **                                                                   | ** ** | **2009**               | ** ** | **2008** | ** ** |
| **Operating activities**                                                     |       |                   |       |   |   |
| Net  loss                                                                    |       | $                      | (86,454    | ) | $ | (98,982 | ) |
| Adjustments  to reconcile net loss to net cash used in operating activities: |       |                   |       |   |   |
| Depreciation  and amortization                                               |       | 1,057                  |       | 1,064 |   |
| Stock-based  compensation expense                                            |       | 9,657                  |       | 17,801 |   |
| Changes  in assets and liabilities:                                          |       |                   |       |   |   |
| Prepaid  expenses and other current assets                                   |       | 544                    |       | (203 | ) |
| Other  assets                                                                |       | 274                    |       | 115 |   |
| Accounts  payable                                                            |       | (2,480                 | )          | 588 |   |
| Accrued  compensation                                                        |       | 2,219                  |       | (3,182 | ) |
| Other  accrued liabilities                                                   |       | (181                   | )          | 6,927 |   |
| Deferred  rent and other long-term liabilities                               |       | (4,141                 | )          | (506 | ) |
| Net  cash used in operating activities                                       |       | (79,505                | )          | (76,378 | ) |
| **Investing activities**                                                     |       |                   |       |   |   |
| Purchases  of available-for-sale securities                                  |       | (82,871                | )          | (170,146 | ) |
| Maturities  of available-for-sale securities                                 |       | 101,440                |       | 131,089 |   |
| Sale  of available-for-sale securities                                       |       | 8,192                  |       | — |   |
| Capital  expenditures                                                        |       | (95                    | )          | (1,759 | ) |
| Net  cash provided by (used in) investing activities                         |       | 26,666                 |       | (40,816 | ) |
| **Financing activities**                                                     |       |                   |       |   |   |
| Proceeds  from capital lease financings                                      |       | —                 |       | 1,363 |   |
| Payments  on capital lease obligations                                       |       | (1,123                 | )          | (903 | ) |
| Net  proceeds from issuances of common stock                                 |       | 102,702                |       | 129,949 |   |
| Net  cash provided by financing activities                                   |       | 101,579                |       | 130,409 |   |
| Net  increase in cash and cash equivalents                                   |       | 48,740                 |       | 13,215 |   |
| Cash  and cash equivalents at beginning of period                            |       | 46,005                 |       | 44,503 |   |
| Cash  and cash equivalents at end of period                                  |       | $                      | 94,745     |   | $ | 57,718 |   |
|                                                                         |       |                   |       |   |   |
| **Supplemental disclosure of cash flow information**                         |       |                   |       |   |   |
| Interest  paid                                                               |       | $                      | 142        |   | $ | 129 |   |
|                                                                         |       |                   |       |   |   |
| **Schedule of non cash transactions**                                        |       |                   |       |   |   |
| Issuance  of warrant with lease amendment                                    |       | $                      | 616        |   | $ | — |   |

 

See Accompanying Notes.

 

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**RigelPharmaceuticals, Inc.**

**Notes toCondensed Financial Statements**

**(unaudited)**

** **

In this report, “Rigel,” “we,” “us”and “our” refer to Rigel Pharmaceuticals, Inc.

 

**1.****             ****Nature of Operations**

 

We were incorporated in the state of Delaware on June 14,1996. We are engaged in the discovery and development of novel, small-moleculedrugs for the treatment of inflammatory/autoimmune diseases, as well as forcertain cancers and metabolic diseases.

 

**2.****             ****Basis of Presentation**

 

Our accompanying unaudited condensed financial statementshave been prepared in accordance with U.S. generally accepted accountingprinciples, or GAAP, for interim financial information and pursuant to theinstructions to Form 10-Q and Article 10 of Regulation S-X.Accordingly, they do not include all of the information and notes required byU.S. GAAP for complete financial statements. These unaudited condensedfinancial statements include all normal and recurring adjustments that webelieve are necessary to fairly state our financial position and the results ofour operations and cash flows. Interim-period results are not necessarilyindicative of results of operations or cash flows for a full-year. The balancesheet at December 31, 2008 has been derived from audited financialstatements at that date, but does not include all disclosures required by U.S.GAAP for complete financial statements. Because all of the disclosures requiredby U.S. GAAP for complete financial statements are not included herein, theseinterim unaudited condensed financial statements and the notes accompanyingthem should be read in conjunction with our audited financial statements andthe notes thereto included in our Annual Report on Form 10-K for the yearended December 31, 2008.

 

The preparation of financialstatements in conformity with U.S. GAAP requires management to make estimatesand assumptions that affect the amounts reported in the financial statementsand accompanying notes. We base our estimates on historical experience and onvarious other assumptions that we believe to be reasonable under thecircumstances. Actual results could differ from these estimates.

 

Inaccordance with Financial Accounting Standards Board, or FASB, AccountingStandards Codification, or ASC, Topic No. 855, *Subsequent Events,*we evaluated subsequent events forrecognition or disclosure through November 3, 2009, the date ouraccompanying condensed financial statements were issued.

 

**3.****             ****Recent Accounting Pronouncements**

 

In October 2009, theFASB issued Accounting Standards Update, or ASU, No. 2009-13 (formerlyEmerging Issues Task Force, or EITF, No. 08-1) on ASC Topic No. 605for revenue recognition related to multiple-deliverable revenue arrangements.  The ASU provides amendments to the existingcriteria for separating consideration in multiple-deliverablearrangements.  The amendments establish aselling price hierarchy for determining the selling price of a deliverable,eliminate the residual method of allocation of arrangement consideration to alldeliverables and require the use of the relative selling price method inallocation of arrangement consideration to all deliverables, require thedetermination of the best estimate of a selling price in a consistent manner,and significantly expand the disclosures related to the multiple-deliverablerevenue arrangements. The amendments will be effective in fiscal yearsbeginning on or after June 15, 2010, and early adoption is permitted. Weare currently evaluating the impact on our financial statements of adoptingthese amendments to ASC Topic No. 605 and cannot estimate the impact ofadoption at this time.

 

On July 1, 2009, theFASB launched the FASB AccountingStandards CodificationTM, or the Codification, as the singlesource of authoritative U.S. GAAP recognized by the FASB. The Codificationreorganizes various U.S. GAAP pronouncements into accounting topics anddisplays them using a consistent structure. All existing accounting standardsdocuments are superseded as described in SFAS No. 168, *The**FASB Accounting StandardsCodification**TM** **and the Hierarchy of GenerallyAccepted Accounting Principles*which is now part of ASCTopic No. 105*.** *All of thecontents of the Codification carry the same level of authority, effectivelysuperseding SFAS No. 162, *The Hierarchy of Generally AcceptedAccounting Principles,* which identified and ranked the sources ofaccounting principles and the framework for selecting the principles used inpreparing the financial statements in conformity with U.S. GAAP. Also includedin the Codification, as a reference for public companies, are rules andinterpretive releases of the U.S. Securities and Exchange Commission, or theSEC, under authority of federal securities laws which are also sources ofauthoritative U.S. GAAP for SEC registrants. The Codification is effective forinterim and annual periods ending after September 15, 2009. We adoptedSFAS No. 168 on July 1, 2009 and concluded it had no material impacton our financial statements other than changing the way specific accountingstandards are referenced in our financial statements.

 

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InSeptember 2006, the FASB issued SFAS, No. 157, *“Fair Value Measurements,”*or SFAS No. 157, which now forms partof ASC Topic No. 820. This standard defines fair value, establishesa framework for measuring fair value under U.S. GAAP, and expands disclosuresabout fair value measurements. SFAS No. 157 is effective for financialstatements issued for fiscal years beginning after November 15, 2007,except that under FASB Staff Position, or FSP 157-2, *“Effective Date of FASB Statement No. 157,”* which nowforms part of ASC Topic No. 820, companies are allowed to delay theeffective date of SFAS No. 157 for non-financial assets and non-financialliabilities that are not recognized or disclosed at fair value on a recurringbasis until fiscal years beginning after November 15, 2008. In October 2008,FSP 157-3, *“Determining the Fair Value of aFinancial Asset When the Market for that Asset is Not Active,”* orFSP 157-3, which now forms part of ASC Subtopic No. 820-10, was issued andeffective upon issuance, including prior periods for which financial statementshave not been issued. FSP 157-3 clarified the application of SFAS No. 157in a market that is not active. Effective January 1, 2008, we adopted theprovisions of SFAS No. 157 for all financial assets and liabilities.  EffectiveJanuary 1, 2009, we adopted SFAS No. 157 for non-financial assets andliabilities. There was no material impact on our financial statements from theadoption of SFAS No. 157 for our financial or non-financial assets andliabilities.

 

**4.****             ****Basic and Diluted Net Loss Per Share**

 

Basic and diluted net loss pershare was computed by dividing the net loss for the period by the weightedaverage number of shares of common stock outstanding during the period. Thecalculation of diluted net loss per share excluded shares of potential commonstock, consisting of stock options and warrants, because their effect wouldhave been anti-dilutive.

 

**5.****             ****Stock Award Plans**

 

Total stock-based compensation expense related toall of our stock-based awards that we recognized was as follows (in thousands):

 
| ** **                              | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended**  | ** ** |
|-----------------------------------------|------------|------------------------|------------|------------------------|------------|
| ** **                              | ** ** | **September 30,** | ** ** | **September 30,** | ** ** |
| ** **                              | ** ** | **2009**               | ** ** | **2008**               | ** ** | **2009** | ** ** | **2008** | ** ** |
| Research  and development               |       | $                      | 2,356      |                   | $          | 3,035 |   | $ | 6,309 |   | $ | 9,229 |   |
| General  and administrative             |       | 1,176                  |       | 3,001                  |       | 3,226 |   | 8,572 |   |
| Restructuring  charges                  |       | —                 |       | —                 |       | 122 |   | — |   |
| Total  stock-based compensation expense |       | $                      | 3,532      |                   | $          | 6,036 |   | $ | 9,657 |   | $ | 17,801 |   |

 

In February 2009, we announced that we cut ourresearch programs in virology and oncology as well as terminated certainrelated development and administrative staff, which resulted in the dismissalof 36 employees, or approximately 20% of our workforce. This measure wasintended to maintain our emphasis on our active preclinical and clinicalprograms, while conserving our resources. As part of a package we offered theterminated employees, we extended the date the terminated employees had to exercisetheir vested options to December 31, 2009 rather than 90 days from thetermination date as is typically required under our equity incentive plan. Werecorded $122,000 of non-cash stock-based compensation expense related to thismodification in the first quarter of 2009.

 

The fair value of each option award is estimated on the date of grantusing the Black-Scholes option pricing model. We have segregated option awardsinto three homogenous groups for purposes of determining fair values ofoptions: officers and directors, all other employees, and consultants.

 

We determined weighted-average valuation assumptions separately foreach of these groups as follows:

 

·                  Volatility—We estimatedvolatility using the historical share price performance over the expected lifeof the option up to the point where we have historical market data. We alsoconsidered other factors, such as implied volatility, our current clinicaltrials and other company activities that may affect the volatility of our stockin the future. We determined that at this time historical volatility is moreindicative of our expected future stock performance than implied volatility.

 

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·                  Expected term—We worked withvarious historical data to determine the applicable expected term for eachoption group. This data include: (1) for exercised options, the term ofthe options from option grant date to exercise date; (2) for cancelledoptions, the term of the options from option grant date to cancellation date,excluding unvested option forfeitures; and (3) for options that remainedoutstanding at the balance sheet date, the term of the options from optiongrant date to the end of the reporting period and the estimated remaining termof the options. The consideration and calculation of the above data gave usreasonable estimates of the expected term for each option group. We alsoconsidered the vesting schedules of the options granted and factors surroundingexercise behavior of the option groups, our current market price and companyactivity that may affect our market price. In addition, we considered theoptionee type (i.e., officers and directors, all other employees andconsultants) and other factors that may affect the expected term of the option.For options granted to consultants, we use the contractual term of the option,which is generally ten years, for the initial valuation of the option and theremaining contractual term of the option for the succeeding periods.

 

·                  Risk-free interest rate—Therisk-free interest rate is based on U.S. Treasury constant maturity rates withsimilar terms to the expected term of the options for each option group.

 

·                  Forfeiture rate—We estimatedthe forfeiture rate using our historical experience with pre-vesting options.We review our forfeiture rates each quarter and make changes as factorsaffecting our forfeiture rate calculations and assumptions change.

 

·                  Dividend yield—The expected dividend yield is0% as we have not paid and do not expect to pay dividends.

 

Thefollowing table summarizes the weighted-average assumptions relating to optionsgranted pursuant to our equity incentive plans for the three and nine monthsended September 30, 2009 and 2008:

 
| ** **                | ** ** | **Equity Incentive Plans** | ** ** | **Equity Incentive Plans** | ** ** |
|---------------------------|------------|----------------------------|------------|----------------------------|------------|
| ** **                | ** ** | **Three Months Ended**     | ** ** | **Nine Months Ended**      | ** ** |
| ** **                | ** ** | **September 30,**     | ** ** | **September 30,**     | ** ** |
| ** **                | ** ** | **2009**                   | ** ** | **2008**                   | ** ** | **2009** | ** ** | **2008** | ** ** |
| Risk-free  interest rate  |       | 2.5                        | %          | 3.1                        | %          | 1.8 | % | 2.8 | % |
| Expected  term (in years) |       | 4.0                        |       | 4.0                        |       | 4.4 |   | 4.5 |   |
| Dividend  yield           |       | 0.0                        | %          | 0.0                        | %          | 0.0 | % | 0.0 | % |
| Expected  volatility      |       | 103.5                      | %          | 92.1                       | %          | 98.4 | % | 93.0 | % |

 

Options are priced at the market price of our commonstock on the date immediately preceding the date of grant, become exercisableat varying dates and generally expire ten years from the date of grant. Wegranted options to purchase 2,066,708 shares of common stock during the ninemonths ended September 30, 2009, with a grant-date weighted average fairvalue of $4.65 per share. We granted options to purchase 1,528,180 shares ofcommon stock during the nine months ended September 30, 2008, with agrant-date weighted average fair value of $18.03 pershare.  As of September 30, 2009,there was approximately $11.9 million of total unrecognized stock-basedcompensation cost, net of estimated forfeitures, related to unvested optionsgranted under our equity incentive plans. At September 30, 2009, 2,673,643shares of common stock were available for future grant under our equityincentive plans and options to purchase 129,839 shares were exercised duringthe nine months ended September 30, 2009.

 

***Employee Stock PurchasePlan (ESPP)***

 

The fair value of awards grantedunder our ESPP is estimated on the date of grant using the Black-Scholes optionpricing model, which uses weighted-average assumptions. Our ESPP provides for atwenty-four month offering period comprised of four six-month purchase periodswith a look-back option. A look-back option is a provision in our ESPP underwhich eligible employees can purchase shares of our common stock at a price pershare equal to the lesser of 85% of the fair market value on the first day ofthe offering period or 85% of the fair market value on the purchase date.

 

Our ESPP also includes a feature that provides for anew offering period to begin when the fair market value of our common stock onany purchase date during an offering period falls below the fair market valueof our common stock on the first day of such offering period. This feature iscalled a “reset.” Participants are automatically enrolled in the new offeringperiod. We had a “reset” on January 2, 2009 because the fair market valueof our stock on December 31, 2008 was lower than the fair market value ofour stock on July 1, 2008, the first day of the offering period. Weapplied modification accounting in accordance with ASC Topic No. 718, *Stock Compensation*, to determine the incremental fairvalue associated with this ESPP “reset” and recognized the related stock-basedcompensation expense according to the FASB ASC Subtopic No. 718-50, *Employee Share Purchase Plan*.  The total incremental fair value for thisESPP “reset” was $1,443,848, and is being recognized over the new twenty-fourmonth offering period.

 

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As of September 30,2009, there were approximately 1,314,220 shares reserved for future issuanceunder the ESPP and 95,711 shares were purchasedunder the ESPP during the nine months ended September 30, 2009. The following table summarizes the weighted-averageassumptions related to our ESPP for the nine months ended September 30,2009 and 2008. Expected volatilities for our ESPP are based on the historicalvolatility of our stock. Expected term represents the weighted average of thepurchase periods within the offering period. The risk-free interest rate forperiods within the expected term is based on U.S. Treasury constant maturityrates.

 
| ** **                | ** ** | **Employee Stock Purchase Plan  Nine Months Ended  September 30,** | ** ** |
|---------------------------|------------|-------------------------------------------------------------------------|------------|
| ** **                | ** ** | **2009**                                                                | ** ** | **2008** | ** ** |
| Risk-free  interest rate  |       | 1.1                                                                     | %          | 2.1 | % |
| Expected  term (in years) |       | 1.3                                                                     |       | 1.3 |   |
| Dividend  yield           |       | 0.0                                                                     | %          | 0.0 | % |
| Expected  volatility      |       | 112.0                                                                   | %          | 99.0 | % |

 

**6.****             ****Revenue Recognition**

 

We recognize revenue from our collaboration arrangements under ASCTopic No. 808, *Collaboration Arrangements*.Our revenue arrangements with multiple elements are evaluated under ASCSubtopic No. 605-25, *Multiple-ElementArrangements*, and are divided into separate units of accounting ifcertain criteria are met, including whether the delivered element hasstand-alone value to the customer and whether there is objective and reliableevidence of the fair value of any undelivered items. The consideration wereceive is allocated among the separate units based on their respective fairvalues, and the applicable revenue recognition criteria are applied to each ofthe separate units. Advance payments received in excess of amounts earned areclassified as deferred revenue until earned.

 

Non-refundable, up-front payments received in connection with researchand development collaboration agreements, including technology access fees, aredeferred and recognized on a straight-line basis over the relevant periods ofcontinuing involvement, generally the research term. When a research term isnot specified, we estimate the time it will take us to complete ourdeliverables under the contract and recognize the upfront fee using thestraight-line method over that time period. We review our estimates everyquarter for reasonableness.

 

Revenues related to collaborative research with our corporatecollaborators are recognized as research services are performed over therelated development periods for each agreement. Under these agreements, we arerequired to perform research and development activities as specified in eachrespective agreement. The payments received are not refundable and aregenerally based on a contractual cost per full-time equivalent employee workingon the project. Our research and development expenses under the collaborativeresearch agreements approximate the revenue recognized under such agreementsover the term of the respective agreements. It is our policy to recognizerevenue based on our level of effort expended, however, revenue recognized willnot exceed amounts billable under the agreement.

 

Revenues associated with at-risk milestones pursuantto collaborative agreements are recognized upon achievement of the milestonesas set forth in the applicable agreement.

 

###### ***7.***              Research and Development Accruals

###### *** ***

We have various contracts with third parties relatedto our research and development activities. Costs that are incurred but notbilled to us as of the end of the period are accrued. We make estimates of theamounts incurred in each period based on the information available to us andour knowledge of the nature of the contractual activities generating suchcosts. Clinical trial contract expenses are accrued based on units of activityreported by third parties. Expenses related to other research and developmentcontracts, such as research contracts, toxicology study contracts andmanufacturing contracts are estimated to be incurred generally on astraight-line basis over the duration of the contracts. Raw materials and studymaterials purchased by third parties are expensed at the time of purchase.

 

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**8.****             ****Cash, Cash Equivalents and Available-For-Sale Securities**

 

Cash, cash equivalents andavailable-for-sale securities consisted of the following (in thousands):

 
| ** **                                  | ** ** | **September 30,** | ** ** | **December 31,** | ** ** |
|---------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                  | ** ** | **2009**               | ** ** | **2008**              | ** ** |
| Checking  account                           |       | $                      | 129        |                  | $          | 491 |   |
| Money  market funds                         |       | 80,297                 |       | 45,514                |       |
| U.  S. treasury bills                       |       | 26,417                 |       | 26,085                |       |
| Government-sponsored  enterprise securities |       | 37,140                 |       | 34,641                |       |
| Corporate  bonds and commercial paper       |       | 12,095                 |       | 27,746                |       |
|                                        |       | $                      | 156,078    |                  | $          | 134,477 |   |
| Reported  as:                               |       |                   |       |                  |       |
| Cash  and cash equivalents                  |       | $                      | 94,745     |                  | $          | 46,005 |   |
| Available-for-sale  securities              |       | 61,333                 |       | 88,472                |       |
|                                        |       | $                      | 156,078    |                  | $          | 134,477 |   |

 

Cash equivalents and available-for-sale securities includethe following securities with unrealized gains and losses (in thousands):

 
| ** **                                  | ** ** | ** **    | ** ** | **Gross**      | ** ** | **Gross**      | ** ** | ** **     | ** ** |
|---------------------------------------------|------------|---------------|------------|----------------|------------|----------------|------------|----------------|------------|
| ** **                                  | ** ** | **Amortized** | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | ** **     | ** ** |
| **September 30, 2009**                 | ** ** | **Cost**      | ** ** | **Gains**      | ** ** | **Losses**     | ** ** | **Fair Value** | ** ** |
| U. S.  treasury bills                       |       | $             | 26,408     |           | $          | 9              |       | $              | —     |   | $ | 26,417 |   |
| Government-sponsored  enterprise securities |       | 37,129        |       | 20             |       | (9             | )          | 37,140         |       |
| Corporate  bonds and commercial paper       |       | 12,097        |       | —         |       | (2             | )          | 12,095         |       |
| Total                                       |       | $             | 75,634     |           | $          | 29             |       | $              | (11        | ) | $ | 75,652 |   |

 
| ** **                                  | ** ** | ** **    | ** ** | **Gross**      | ** ** | **Gross**      | ** ** | ** **     | ** ** |
|---------------------------------------------|------------|---------------|------------|----------------|------------|----------------|------------|----------------|------------|
| ** **                                  | ** ** | **Amortized** | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | ** **     | ** ** |
| **December 31, 2008**                  | ** ** | **Cost**      | ** ** | **Gains**      | ** ** | **Losses**     | ** ** | **Fair Value** | ** ** |
| U.  S. treasury bills                       |       | $             | 25,972     |           | $          | 113            |       | $              | —     |   | $ | 26,085 |   |
| Government-sponsored  enterprise securities |       | 34,501        |       | 140            |       | —         |       | 34,641         |       |
| Corporate  bonds and commercial paper       |       | 27,603        |       | 143            |       | —         |       | 27,746         |       |
| Total                                       |       | $             | 88,076     |           | $          | 396            |       | $              | —     |   | $ | 88,472 |   |

 

As of September 30,2009, the contractual maturities of our available-for-sale securities were (inthousands):

 
| ** **                                  | ** ** | **Years to Maturity** | ** ** |
|---------------------------------------------|------------|-----------------------|------------|
| ** **                                  | ** ** | ** **            | ** ** | **After One Year** | ** ** |
| ** **                                  | ** ** | **Within One**   | ** ** | **Through** | ** ** |
| ** **                                  | ** ** | **Year**              | ** ** | **Five Years** | ** ** |
| U.  S. treasury bills                       |       | $                     | 26,417     |   | $ | — |   |
| Government-sponsored  enterprise securities |       | 35,139                |       | 2,001 |   |
| Corporate  bonds and commercial paper       |       | 12,095                |       | — |   |
|                                        |       | $                     | 73,651     |   | $ | 2,001 |   |

 

As of September 30,2009, our available-for-sale securities had a weighted averagetime to maturity of approximately 109 days. We view our available-for-saleportfolio as available for use in current operations. Accordingly, we haveclassified certain available-for-sale investments as short-term in the balancesheet although the stated maturity date may be over one year from the currentbalance sheet date.  We have the abilityto hold all investments as of September 30, 2009 to maturity. At September 30, 2009 and December 31,2008, we had no investments that had been in a continuous unrealized lossposition for more than twelve months.  Asof September 30, 2009, a total of 16 individual securities were in anunrealized loss position for twelve months or less and the losses were deemedto be temporary.

 

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Thefollowing table shows the fair value and gross unrealized losses of ourinvestments in individual securities that are in an unrealized loss position,aggregated by investment category (in thousands):

 
| ** **                                  | ** ** | ** **     | ** ** | **Unrealized** | ** ** |
|---------------------------------------------|------------|----------------|------------|----------------|------------|
| **September 30, 2009**                 | ** ** | **Fair Value** | ** ** | **Losses**     | ** ** |
| Government-sponsored  enterprise securities |       | $              | 21,451     |           | $          | (9 | ) |
| Corporate  bonds and commercial paper       |       | 7,095          |       | (2             | )          |
| Total                                       |       | $              | 28,546     |           | $          | (11 | ) |

 

**9.****             ****Fair Value**

 

Under ASC Topic No. 820, *Fair Value Measurementsand Disclosures*, fair value is defined as the price at which anasset could be exchanged or a liability transferred in a transaction betweenknowledgeable, willing parties in the principal or most advantageous market forthe asset or liability. Where available, fair value is based on observablemarket prices or parameters or derived from such prices or parameters. Whereobservable prices or parameters are not available, valuation models areapplied.

 

Assets and liabilities recorded at fair value in our financialstatements are categorized based upon the level of judgment associated with theinputs used to measure their fair value. Hierarchical levels directly relatedto the amount of subjectivity associated with the inputs to fair valuation ofthese assets and liabilities, are as follows:

 

Level 1—Inputs are unadjusted, quoted prices in active markets foridentical assets at the reporting date. Active markets are those in whichtransactions for the asset or liability occur in sufficient frequency andvolume to provide pricing information on an ongoing basis.

 

The fair valued assets we hold that are generally included under thisLevel 1 are money market securities where fair value is based on publiclyquoted prices.

 

Level 2—Are inputs,  otherthan quoted prices included in Level 1, that are either directly orindirectly observable for the asset or liability through correlation withmarket data at the reporting date and for the duration of the instrument’santicipated life.

 

Thefair valued assets we hold that are generally assessed under Level 2included government-sponsored enterprise securities, U. S. Treasury bills andcorporate bonds and commercial paper where fair value is based on valuationmethodologies such as models using observable market inputs, includingbenchmark yields, reported trades, broker/dealer quotes, bids, offers and otherreference data.

 

Level 3—Unobservable inputs that are supported by little or nomarket activity and that are significant to the fair value of the assets orliabilities and which reflect management’s best estimate of what marketparticipants would use in pricing the asset or liability at the reporting date.Consideration is given to the risk inherent in the valuation technique and therisk inherent in the inputs to the model.

 

***FairValue on a Recurring Basis***

 

Financial assets measured atfair value on a recurring basis are categorized in the tables below based uponthe lowest level of significant input to the valuations (in thousands):

 
| ** **                                  | ** ** | **Assets at Fair Value as of September 30, 2009** | ** ** |
|---------------------------------------------|------------|--------------------------------------------------------|------------|
| ** **                                  | ** ** | **Level 1**                                            | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
| Money  market fund                          |       | $                                                      | 80,297     |   | $ | — |   | $ | — |   | $ | 80,297 |   |
| U.  S. treasury bills                       |       | —                                                 |       | 26,417 |   | — |   | 26,417 |   |
| Government-sponsored  enterprise securities |       | —                                                 |       | 37,140 |   | — |   | 37,140 |   |
| Corporate  bonds and commercial paper       |       | —                                                 |       | 12,095 |   | — |   | 12,095 |   |
| Total                                       |       | $                                                      | 80,297     |   | $ | 75,652 |   | $ | — |   | $ | 155,949 |   |

 

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| ** **                                  | ** ** | **Assets at Fair Value as of December 31, 2008** | ** ** |
|---------------------------------------------|------------|-------------------------------------------------------|------------|
| ** **                                  | ** ** | **Level 1**                                           | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
| Money  market fund                          |       | $                                                     | 45,514     |   | $ | — |   | $ | — |   | $ | 45,514 |   |
| U.  S. treasury bills                       |       | —                                                |       | 26,085 |   | — |   | 26,085 |   |
| Government-sponsored  enterprise securities |       | —                                                |       | 34,641 |   | — |   | 34,641 |   |
| Corporate  bonds and commercial paper       |       | —                                                |       | 27,746 |   | — |   | 27,746 |   |
| Total                                       |       | $                                                     | 45,514     |   | $ | 88,472 |   | $ | — |   | $ | 133,986 |   |

 

***Fair Value on a Non-Recurring Basis***

 

On March 31, 2009, we issued a new warrantgranting our landlord the right to purchase 200,000 shares of common stock, andcancelled an existing warrant to purchase 100,000 shares of common stock, inconnection with the amendment of our build-to-suit lease agreement (see Note 11below for more details).   Weused the Black Scholes option-pricing model and calculated an incremental fairmarket value of $616,000 related to the new warrant in accordance with ASCTopic No. 718.  The new warrant wascategorized as level 3 under ASC Topic No. 820due to the unobservable inputs we used in the Black Scholes option-pricingmodel.

 

Thefollowing table summarizes the assumptions used relating to the valuation ofthe new warrant:

 
| Risk-free interest rate  |   | 2.2  | %      |
|--------------------------|--------|------|--------|
| Expected term (in years) |   | 7.0  |   |
| Dividend yield           |   | 0.0  | %      |
| Expected volatility      |   | 99.2 | %      |

 

**10.****      ****Restructuring Charges**

 

In February 2009, we announced that we cut ourresearch programs in virology and oncology as well as terminated certainrelated development and administrative staff, which resulted in the dismissalof 36 employees, or approximately 20% of our workforce. As a result of therestructuring, we recorded restructuring charges of $1.1 million in the firstquarter of 2009, including $1.0 million of workforce reduction costs (which hadbeen substantially paid as of March 31, 2009) and $122,000 of non-cashstock-based compensation expense as a result of the extension of the date theterminated employees have to exercise their vested options to December 31,2009 rather than 90 days from the termination date as is typically requiredunder our equity incentive plan.

 

**11.****      ****Amendment to theBuild-to-Suit Lease Agreement**

 

On March 31,2009, we amended our build-to-suit lease agreement with our landlord, HCP BTC,LLC (formerly known as Slough BTC, LLC), to defer certain rental obligations inthe aggregate amount of $6.9 million for a period of up to seventeenmonths.  Under the terms of thisamendment, we are obligated to repay the deferred rental amounts, includinginterest accruing at 12% during the deferral period, based on a timeline thatcan vary depending upon the occurrence of certain financing or collaborativetransactions. In addition, the amendment to the lease agreement also providedfor the cancellation of an existing warrant granting HCP Estates USA Inc. (anaffiliate of our landlord) the right to purchase 100,000 shares of common stockand the issuance of a new warrant granting our landlord the right to purchase200,000 shares of common stock.  Theexercise price per share of the new warrant is $6.61, which is the averageclosing price of our common stock for the three business days immediatelypreceding the execution of the amendment to the lease agreement. The newwarrant remains exercisable for 7 years from the date of issuance. We appliedmodification accounting in accordance with ASC Topic No. 718 andcalculated an incremental fair market value of the new warrant of $616,000.This amount has been deferred in other assets and is being amortized into rentexpense over the remaining term of the lease.

 

Asdiscussed in Note 12 below, on September 22, 2009, we completed anunderwritten public offering in which we received net proceeds of approximately$101.5 million after deducting underwriting discounts and commissions andoffering expenses.  As a result of theabove financing, we are obligated to pay our landlord $3.7 million, or 50% ofthe deferred rental amounts, plus interest at 12%, within 45 days from the dateof closing the public offering.  We areobligated to pay the remaining deferred rental amounts, including relatedinterest, of approximately $4.5 million on or before July 1, 2011.

 

**12.****      ****Equity Financing**

 

OnSeptember 22, 2009, we completed an underwritten public offering in whichwe sold 14,950,000 shares of our common stock at a price to the public of $7.25per share. We received net proceeds of approximately $101.5 million afterdeducting underwriting discounts and commissions and offering expenses.

 

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**13.****      ****Contingencies**

 

OnFebruary 6, 2009, a purported securities class action lawsuit wascommenced in the United States District Court for the Northern District ofCalifornia, naming as defendants us and certain of our officers, directors andunderwriters for our February 2008 stock offering.  An additional purported securities classaction lawsuit containing similar allegations was subsequently filed in theUnited States District Court for the Northern District of California on February 20,2009.  By order of the Court dated March 19,2009, the two lawsuits were consolidated into a single action.  On April 7, 2009, Inter-Local PensionFund GCC/IBT filed a motion for appointment as lead plaintiff in the case, andfor appointment of its counsel as lead counsel. On June 9, 2009, the Court issued an order naming the Inter-LocalPension Fund GCC/IBT as lead plaintiff and Coughlin Stoia as lead counsel. Thelead plaintiff filed an amended complaint on July 24, 2009.  The lawsuit alleges violations of theSecurities Act of 1933 and the Securities Exchange Act of 1934 in connectionwith allegedly false and misleading statements made by us related to theresults of the Phase 2a clinical trial of our product candidate R788. Theplaintiffs seek damages, including rescission or rescissory damages forpurchasers in the stock offering, an award of their costs and injunctive and/orequitable relief for purchasers of our common stock during the period between December 13,2007 and February 9, 2009, including purchasers in the stock offering. Wefiled a motion to dismiss these claims on September 8, 2009, and a hearingon that motion is set for December 4, 2009.  It is possible that additional suits will befiled with respect to these same matters and also naming us and/or our officersand directors as defendants. If any such additional suits are filed in the samecourt, we believe that they would be consolidated into the consolidated action.

 

Thislawsuit and any other related lawsuits are subject to inherent uncertaintiesand the actual costs to be incurred relating to the lawsuit will depend uponmany unknown factors. The outcome of the litigation is necessarily uncertainand we could be forced to expend significant resources in the defense of thissuit, and we may not prevail. We are not currently able to estimate thepossible cost to us from this matter, as this lawsuit is currently at an earlystage and we cannot ascertain how long it may take to resolve this matter. Wehave not established any reserve for any potential liability relating to thislawsuit. We believe that we have meritorious defenses and intend to defend thislawsuit vigorously.

 

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**Report of Independent Registered Public Accounting Firm**

 

The Board of Directors

Rigel Pharmaceuticals, Inc.

 

We have reviewed the condensed balance sheet of RigelPharmaceuticals, Inc. as of September 30, 2009, and the relatedcondensed statements of operations for the three-month and nine-month periodsended September 30, 2009 and 2008, and the condensed statements of cashflows for the nine-month periods ended September 30, 2009 and 2008. Thesefinancial statements are the responsibility of the Company’s management.

 

We conducted our review in accordance with the standards ofthe Public Company Accounting Oversight Board (United States). A review ofinterim financial information consists principally of applying analyticalprocedures and making inquiries of persons responsible for financial andaccounting matters. It is substantially less in scope than an audit conductedin accordance with the standards of the Public Company Accounting OversightBoard, the objective of which is the expression of an opinion regarding the financialstatements taken as a whole. Accordingly, we do not express such an opinion.

 

Based on our review, we are not aware of any materialmodifications that should be made to the condensed financial statementsreferred to above for them to be in conformity with US generally acceptedaccounting principles.

 

We have previously audited, in accordance with thestandards of the Public Company Accounting Oversight Board (United States), thebalance sheet of Rigel Pharmaceuticals, Inc. as of December 31, 2008,and the related statements of operations, stockholders’ equity, and cash flowsfor the year then ended (not presented herein) and in our report dated February 24,2009, we expressed an unqualified opinion on those financial statements.  In our opinion, the information set forth inthe accompanying condensed balance sheet as of December 31, 2008, isfairly stated, in all material respects, in relation to the balance sheet fromwhich it has been derived.

 
|                  |   | /s/ Ernst & Young LLP |
|-----------------------|--------|--------------------------------|
| Palo Alto, California |   |                           |
| November 3, 2009 |   |                           |

 

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**Item 2.    Management’s Discussionand Analysis of Financial Condition and Results of Operations**

 

*This discussion and analysis should be readin conjunction with our financial statements and the accompanying notesincluded in this report and the audited financial statements and accompanyingnotes included in our Annual Report on Form 10-K for the year ended December 31,2008. Operating results for the three and nine months ended September 30,2009 are not necessarily indicative of results that may occur in futureperiods.*

 

*This Quarterly Report on Form 10-Q containsstatements indicating expectations about future performance and otherforward-looking statements within the meaning of Section 27A of theSecurities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934, as amended, that involve risks and uncertainties.**We usually use words such as “may,” “will,” “should,” “could,” “expect,”“plan,” “anticipate,” “believe,” “estimate,” “predict,” “intend,” or thenegative of these terms or similar expressions to identify theseforward-looking statements. These statements appear throughout this QuarterlyReport on Form 10-Q and are statements regarding our current expectation,belief or intent, primarily with respect to our operations and related industrydevelopments. Examples of these statements include, but are not limited to,statements regarding the following: our business and scientific strategies; theprogress of our product development programs, including clinical testing, andthe timing of results thereof; our corporate collaborations, including our planto enter into a collaboration agreement for further development of R788 andrevenues that may be received from collaborations; our drug discoverytechnologies; our research and development expenses; protection of ourintellectual property; sufficiency of our cash resources; and our operationsand legal risks. You should not place undue reliance on these forward-lookingstatements. Our actual results could differ materially from those anticipatedin these forward-looking statements for many reasons, including as a result ofthe risks and uncertainties discussed in the “Risk Factors” in Item 1A of Part IIof this Quarterly Report on Form 10-Q. Any forward-looking statementspeaks only as of the date on which it is made, and we undertake no obligationto update any forward-looking statement to reflect events or circumstancesafter the date on which the statement is made or to reflect the occurrence ofunanticipated events. New factors emerge from time to time, and it is notpossible for us to predict which factors will arise. In addition, we cannotassess the impact of each factor on our business or the extent to which anyfactor, or combination of factors, may cause actual results to differmaterially from those contained in any forward-looking statements.*

 

**Overview**

 

****We are aclinical-stage drug development company that discovers and develops novel, small-moleculedrugs for the treatment of inflammatory/autoimmune diseases, as well as forcertain cancers and metabolic diseases. Our pioneering research focuses onintracellular signaling pathways and related targets that are critical todisease mechanisms. We have product development programs ininflammatory/autoimmune diseases such as rheumatoid arthritis, or RA,thrombocytopenia and asthma, as well as in cancer. ****R788is our lead product candidate. We are developing R788 for the treatment of RA, and we recently completed our *TASKi2*and *TASKi3*Phase2b clinical trials of R788 in RA patients. We are also developing R788 for thetreatment of B-cell and T-celllymphomas, and in the future intend to develop R788 for the treatment of immunethrombocytopenic purpura, or ITP, and systemic lupus erythematosus based on ourprevious clinical trials. R788 is also being evaluated by the NationalCancer Institute, or NCI, partof the U.S. National Institutes of Health, for the treatment of certain solidtumors. Our other product candidates are being developed for the treatment ofpsoriasis and possible topical applications, certain cancers and asthma. ****Our productivity hasresulted in strategic collaborations with large pharmaceutical partners todevelop and market certain of our product candidates.****

 

Wehave not been profitable and have incurred operating losses since we wereincorporated in June 1996. The extent of our future losses and the timingof potential profitability are highly uncertain, and we may never achieve profitableoperations. We incurred net losses of approximately $86.5 million for thenine months ended September 30, 2009, $132.3 million for the yearended December 31, 2008 and $74.3 million for the year ended December 31,2007. Currently, our revenues may be generated solely from research milestonepayments pursuant to our collaboration agreements and licenses and would beinsufficient to generate profitable operations. In addition, we have funded ouroperations primarily through private and public offerings of our common stock.As of September 30, 2009, we had an accumulated deficit of approximately$588.2 million. We expect to incur losses for at least the next severalyears and expect that these losses could increase as we expand our research anddevelopment activities and incur significant clinical and testing costs. Untilwe are able to generate a sufficient amount of product revenue, we expect tofinance future cash needs through collaboration and licensing arrangements orpublic and/or private equity or debt offerings, as well as through interestincome earned on the investment of our cash balances and short-terminvestments.

 

Forthe foreseeable future, our operations will require significant additionalfunding, in large part due to our research and development expenses, futurepreclinical and clinical-testing costs, and the absence of any revenues fromproduct sales. The amount of future funds needed will depend largely on thetiming and structure of potential future collaborations, including, in particular,with respect to R788. Weanticipate that we will enter into a collaboration agreement with respect toR788 in the first half of 2010, but we may not be able to do so on acceptableterms, or at all. With the exception of milestone and royalty paymentsthat we may receive under our existing collaborations, we do not currently haveany commitments for future funding. We do not know whetheradditional financing will be available when needed, or that, if available, wewill obtain financing on reasonable terms.

 

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Wecontinue to pursue a collaboration partner for our lead product candidate,R788, and intend to enter into a collaboration agreement prior to initiatingPhase 3 clinical trials. We have engaged in discussions with variousparties regarding such a partnership. The recently announced results of our *TASKi2* Phase 2bclinical trial, which showed significant, early andsustained efficacy, combined with a good safety profile supports our plans toconduct corporate partnership discussions with respect to R788 and initiate aPhase 3 clinical trial with R788 in RA in the first half of 2010 with acollaboration partner. We believe the recently announced results ofour *TASKi3* Phase 2b clinical trial,which did not meet the primary efficacy endpoint in RA patients who hadpreviously failed biologic therapies, will not prevent us from securingfavorable terms with a collaboration partner.

 

In September 2009, wecompleted an underwritten public offering in which we sold 14,950,000 shares ofour common stock at a price to the public of $7.25 per share. We received netproceeds of approximately $101.5 million after deducting underwriting discountsand commissions and offering expenses.

 

We believe that our existingcapital resources will be sufficient to support our current and projectedfunding requirements throughat least the next 12 months.  We have based this estimate on assumptionsthat may prove to be wrong, and we could utilize our available capitalresources sooner than we currently expect. Because of the numerous risks anduncertainties associated with the development of our product candidates andother research and development activities, including risks and uncertaintiesthat could impact the rate of progress of our development activities, we areunable to estimate with certainty the amounts of increased capital outlays andoperating expenditures associated with our current and anticipated clinicaltrials and other research and development activities.

 

##### **Product Development Programs**

##### ** **

Ourproduct development portfolio features multiple novel small molecule drugcandidates whose specialized mechanisms of action are intended to providetherapeutic benefit for a range of inflammatory/autoimmune diseases as well asfor certain cancers.  Our multipleproduct candidates in development are as follows:

 

·                  *R788 (fostamatinibdisodium)—Product Candidate for Rheumatoid Arthritis (RA).* R788, our lead product candidate, is anorally bio-available inhibitor of spleen tyrosine kinase, or Syk.  It has a novel mechanism of action for thetreatment of RA, inhibiting receptor signaling of immunoglobulin G, or IgG, invarious immune cells, including macrophages and B-cells. RA is an autoimmunedisease characterized by chronic inflammation that affects multiple tissues,but typically produces its most pronounced symptoms in the joints.  We believe the development of R788 may resultin a safe oral disease modifying anti-rheumatic drug that can be used early inthe course of the disease, preventing its progression prior to major bone andcartilage destruction.

 

In July 2009, weannounced that R788 produced significant clinical improvement in RA patients inthe recently completed *TASKi2* Phase 2bclinical trial in which 457 RA patients were treated for up to six months. *TASKi2* was a multi-center, randomized, double blind, placebocontrolled, parallel dose clinical trial involving RA patients in the U.S.,Latin America and Europe who had failed to respond to methotrexate alone.Patients received either 100 mg of R788 bid (twice a day), 150 mg qd (once aday) or placebo bid or qd.  Efficacyassessments for each participant were based on the American College ofRheumatology criteria, which denotes at least a 20% (ACR 20) improvement, atleast a 50% (ACR 50) improvement, or at least a 70% (ACR 70) improvement, aswell as improvement in the Disease Activity Score (DAS28), from the baselineassessment at the end of the six month treatment period. The groups treatedwith 100 mg of R788 bid and 150 mg qd reported higher ACR 20, ACR 50, ACR 70and DAS28 response rates than the placebo group. The efficacy results for thetwo dosing groups were comparable, although the response rates for the 100 mgbid group was uniformly greater. Consistent with the previous Phase 2a clinicaltrial *(TASKi1)*, the onset ofeffect of R788 occurred within one week after the initiation of therapy and wasmaintained. The most frequent adverse events were expected based on *TASKi1* and appear to be manageable. Themost common clinically meaningful drug-related adverse events noted in *TASKi2* were diarrhea and hypertension.Dose reduction options were pre-specified in the trial protocol and, in caseswhere doses were reduced, patients generally completed the clinical trial withminimal safety issues. The mean increase in blood pressure from baseline at sixmonths, using a last observation carry forward methodology, was less than 0.5mmHg for the 150 mg qd dose group and approximately 1 mmHg for the 100mg biddose group.  In patients that had a history of high blood pressure, anelevated blood pressure level at screening or baseline, or were on bloodpressure medication, approximately 29% and 39% of these patients in the 150 mgqd dose and the 100 mg bid dose groups, respectively, had blood pressuremedication adjusted or initiated during the course of the study, compared with12% of these patients from the placebo group. In patients that did not have ahistory of high blood pressure, were not on blood pressure medication or didnot have an elevated blood pressure level at screening or baseline,approximately 4% and 9% of these patients from the 150 mg qd dose and the 100mg bid dose groups, respectively, had blood pressure medication initiatedduring the course of the study, compared with 3% of these patients from theplacebo group.  For those patients whohad their dose of blood pressure medications adjusted or initiated, their blood

 

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pressure was successfullyreduced and was generally well controlled throughout the remainder of thetrial. The blood pressure medications were standard doses of common bloodpressure medication such as angiotensin-converting enzyme, or ACE, inhibitorsor diuretics. The most common adverse events in the trial overall were relatedto infections, though these were generally evenly distributed among the placeboand R788 groups.

 

In July 2009, wealso announced results for the *TASKi3*Phase 2b clinical trial involving 219 RA patients who had failed to respond toat least one biologic treatment. In the *TASKi3*clinicaltrial, patients received either 100 mg of R788 bid or placebo bid for up tothree months.  The group treated withR788 did not report significantly higher ACR 20, ACR 50, ACR 70 and DAS28 responserates than the placebo group at three months, and therefore, the trial failedto meet its efficacy endpoints. The objective components (C-Reactive Proteinand Erythrocyte Sedimentation Rate) of these ACR scores did show astatistically significant difference; however, the subjective reported responserate components did not as compared to placebo. Although the ACR scores for theR788 group were within the expected range in this patient population, thereported placebo response rates were considerably higher than seen in any otherprevious study of RA biologic failure patients and rose unaccountably betweenweek six (at which point the reported response rates between R788 and placebowere significantly different) and month three (when such reported responserates were no longer significantly different). *TASKi3*was the first clinical trial for R788 in which anatomical changes in thepatients’ wrists and hands were evaluated using Magnetic Resonance Imaging andscored using the RAMRIS (Rheumatoid Arthritis Magnetic Resonance ImagingScoring) system. Those results showed improvements in the treated group versusthe placebo group in the Synovitis and Osteitis scores, while the Erosionscores, known to be the slowest to change, showed no significant effect at threemonths. Similar to *TASKi2*, themost common clinically meaningful drug-related adverse events noted in *TASKi3* were diarrhea and hypertension.Dose reduction options were pre-specified in the trial protocol and, in caseswhere doses were reduced, patients generally completed the clinical trial withminimal safety issues. The mean increase in blood pressure from baseline atthree months, using a last observation carry forward methodology, was 3.2 - 3.6mmHg for the R788 group. In *TASKi3*,patients that had a history of high blood pressure, had an elevated bloodpressure level at screening or baseline, or were on blood pressure medication,approximately 26% of these patients had blood pressure medication adjusted orinitiated during the course of the study, compared with 14% of these patientsfrom the placebo group. In patients that did not have a history of high bloodpressure, were not on blood pressure medication or did not have an elevatedblood pressure level at screening or baseline, approximately 5% of thesepatients had blood pressure medication initiated during the course of thestudy, compared with 3% of these patients from the placebo group. For thosepatients who had their dose of blood pressure medications adjusted orinitiated, their blood pressure was successfully reduced and was generally wellcontrolled throughout the remainder of the trial. The blood pressuremedications were standard doses of common blood pressure medications such asACE inhibitors or diuretics. The most common adverse events in the trialoverall were related to infections, though these were generally evenlydistributed among the placebo and R788 groups.

 

In February 2009, weannounced favorable results in a QTc study for R788, which was conducted toevaluate the cardiac safety of R788. The double-blind, double-dummy,randomized, positive and placebo controlled parallel study of the effects ofR788 on QT/QTc intervals in healthy subjects showed that R788 does not elicit aQT/QTc signal. Under a protocol pre-reviewed by the U.S. Food and DrugAdministration, or the FDA, a total of 208 healthy volunteers were divided intofour dosage groups and were given, in a parallel design, either placebo, astandard dose of 100 mg bid of R788, a super dose of 300 mg bid of R788, ormoxifloxacin (known to elevate QT/QTc intervals in normal healthy adults). Allparticipants were dosed for four days and were evaluated for changes from thetime-matched baseline QT/QTc intervals using extractions from continuous Holtermonitors. There were no significant effects on the QT/QTc intervals ofparticipants in either the 100 mg bid or the 300 mg bid R788 dosage groups. Asexpected, the study found that participants in the moxifloxacin groupexperienced QT/QTc elevations.

 

In October 2009, we metwith representatives of the U.S. FDA to discuss the clinical profile of R788and our proposed Phase 3 development plan for patients with RA. As a result ofthat meeting, we expect to move forward with the plan we proposed to the FDA,including the initiation of a Phase 3 clinical trial in the first half of 2010with a partner, pending the completion of collaboration arrangement. We plan tointeract with representatives of the European Medicines Agency, or EMEA, by theend of 2009 to discuss the European approval requirements.  We continue topursue a collaboration partner for R788 with the intent to enter into acollaboration agreement prior to initiating a Phase 3 clinical trialevaluating R788 in RA patients. We have engaged in discussions with variousparties regarding such a collaboration and, if we are able to enter into acollaboration for R788 in a timely manner, we plan to initiate a Phase 3clinical trial evaluating R788 in RA in the first half of 2010 with thecollaboration partner.

 

·                  *R788—Product Candidate for B-CellLymphoma. *Lymphoma is a large class of bloodcancers that affect the lymphatic system, which is part of the immunesystem.  Research has shown that overactivity of the signaling enzyme Syk appears to have an essential role in thesurvival and proliferation of certain B-cell lymphoma cell lines, and that R788can inhibit the growth of B-cell lymphoma driven by Syk over activity.

 

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In December 2008, we reported the results of a Phase 2 clinicaltrial that showed R788 was well-tolerated by B-cell lymphoma patients and thatalso showed therapeutic benefit in patients suffering from diffuse large B-Celllymphoma, or DLBCL, and chronic lymphocytic leukemia/small lymphocyticlymphoma, or CLL/SLL. A total of 68 patients received 200 mg PO bid (orally,twice daily) of R788 until disease progression occurred. Treatment responserates from patients suffering from DLBCL and CLL/SLL were 22% and 55%,respectively. Response to treatment was evaluated using standard non-Hodgkin’slymphoma response criteria (The Cheson Criteria). Treatment-related adverseevents included cytopenias, fatigue, diarrhea/abdominal discomfort andhypertension. Most adverse events were mild to moderate and were reversible.

 

·                  *R**788—ProductCandidate for T-Cell Lymphoma.*  Recent research has suggestedthat Syk may be important in the growth of some types of T-cell lymphomas.

 

In March 2009, weannounced the enrollment of the first patient in a Phase 2, multi-centerclinical trial of R788 in patients with refractory or relapsed peripheralT-cell lymphoma, or PTCL. The primary objective of the clinical trial is toassess the efficacy of R788 in patients suffering from this subset ofnon-Hodgkin’s lymphoma that originates in the patient’s T-cells. Prior studieshave suggested increased expression of Syk at the cellular level in many ofthese patients with PTCL.

 

The Phase 2 clinicaltrial is being conducted in two stages at several centers in North America,with each patient receiving 200mg of R788 orally twice a day for a minimum ofeight weeks, or until disease progression or withdrawal from the clinicaltrial. During stage one, 19 patients with PTCL who previously failed to respondto standard of care treatment for their disease are expected to be evaluated.Stage two is expected to include the enrollment of approximately 36 patients.Efficacy will be assessed by computerized tomography/positron emissiontomography scans at baseline and CT scans of the disease-involved areas at eightweeks. Safety will be assessed by periodic physical exams, blood tests andclinical laboratory work, among others. Results of the clinical trial areexpected in the second half of 2010.

 

·                  *R**788—Product Candidate for Certain Solid Tumors.*  Recent research has suggested that Sykmay be important in the growth of certain solid tumors.

 

In June 2009, we announced that R788 is beingevaluated in a Phase 2 clinical trial funded, designed and implemented by theNCI. This open-label, single arm clinical trial includes patients with advancedcolorectal, thyroid, non-small cell lung, hepatocellular, head and neck, orrenal cell cancers who failed to respond to at least one line of therapy. TheNCI is conducting the clinical trial and we supply the study drug and willreceive clinical data and trial results.

 

·                  *R788—ProductCandidate for Immune Thrombocytopenic Purpura (ITP). *Platelet destruction from ITP is mediated by IgGsignaling, which signaling pathway is potently inhibited by R788. Inpre-clinical studies, R788 was shown to improve thrombocytopenia in a mousemodel of ITP. We completed an exploratory Phase 2 clinical trial of R788to evaluate its safety and initial efficacy in chronic ITP patients. In thisclinical trial, R788 was orally administered in varying doses for 30 or moredays and demonstrated that it can improve platelet counts in highly refractorypatients. We have postponed expanding this clinical trial of R788 in ITP untilwe secure a collaboration partner for R788 and have further clarity on the developmentpriorities of such partner.

 

·                  *R788—Product Candidate for Systemic LupusErythematosus (SLE or Lupus).*  SLE is anautoimmune disease characterized by excessive and chronic activation ofinflammatory pathways.  The disease leadsto inflammation-mediated organ damage (kidney, brain, joints, and bloodvessels).  Pre-clinical studies haveshown that R788 is highly effective in a mouse model of lupus. The initiationof a clinical trial in lupus patients has been postponed until we secure acollaboration partner for R788 and have further clarity on the developmentpriorities of such partner.

 

·                  *R348—Product Candidate for Psoriasis andOther Immune Disorders. *R348 is a potent and selective janustyrosine kinase 3, or JAK3, inhibitor. JAK3 is a cytoplasmic tyrosine kinasethat plays an important role in modulating cytokine signaling in T and B cells,as well as affecting lymphocyte differentiation and proliferation in a varietyof autoimmune diseases.

 

We completed a Phase 1clinical trial of R348, indicating a favorable safety profile.  Moving forward, we plan to focus on psoriasisand possible topical applications of R348 in conjunction with a potentialcollaboration partner.

 

We are currently in the process of selecting a lead candidate for ouroral JAK3 inhibitor program for the treatment of transplant rejection, and weexpect to identify this lead candidate in 2009.

 

·                  *R763—Product Candidate for Oncology.*R763/AS703569 is a potent,highly-selective, small-molecule inhibitor of aurora kinase.  Aurora kinase plays a central role in celldivision, and its over-expression has been associated with several cancertypes.  Inhibition of aurora kinase isthus believed to be a potential treatment for many different types of cancer.

 

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In October 2005, we signed a licensing agreement with Merck SeronoS.A., or Merck Serono, that gave Merck Serono an exclusive license to developand commercialize inhibitors in our aurora kinase program, includingR763/AS703569. In November 2007, Merck Serono exercised its option to addJapan to the territories covered under the current aurora kinase collaborationwith respect to R763/AS703569, resulting in a milestone payment to us of$3.0 million. Under the agreement, Merck Serono is responsible for thefurther development and commercialization of R763/AS703569.  In September 2006, Merck Seronoinitiated a Phase 1, multi-center clinical trial to evaluate R763/AS703569for the treatment of patients with refractory solid tumors. In February 2007,Merck Serono began an additional Phase 1 clinical trial evaluatingR763/AS703569 on patients with hematological malignancies. In July 2007,Merck Serono initiated its third Phase 1 clinical trial, designed todetermine the maximum tolerated dose, safety and dosing regimen ofR763/AS703569 in combination with gemcitabine, a commonly prescribedchemotherapeutic agent administered by intravenous infusion. The clinical trialis evaluating two different treatment regimens in which R763/AS703569 is beinggiven in sequence with the gemcitabine over 21-day cycles. As many as 72patients with advanced malignancies, including pancreatic, ovarian, breast,non-small cell lung and colorectal cancers, are being evaluated. We expect thatMerck Serono will initiate two Phase 2 clinical trials by the first halfof 2010.

 

·                 *R343—Product Candidate for Asthma**.*  R343 is a potent Syk inhibitor thatblocks immunoglobulin E, or IgE, receptor signaling.  Allergic asthma is a potentiallylife-threatening chronic inflammatory disorder of the airways which, in somepatients, is mediated by allergen-induced IgE antibodies that triggerintracellular signaling in mast cells via IgE receptors.  Mast cells play important roles in both earlyand late phase allergic reactions, and Syk inhibitors could potentially preventboth phases.

 

In the first quarter of 2005, we announced a collaborative research andlicense agreement with Pfizer, Inc., or Pfizer, for the development ofinhaled products for the treatment of allergic asthma and other respiratorydiseases, such as chronic obstructive pulmonary disease. The collaboration wasfocused on our pre-clinical small molecule compounds which inhibit Syk. Thecollaboration is now centered on the development of R343. Pfizer has completedthe Phase 1a clinical trial of an inhaled formulation of R343, whichcommenced in December 2007, resulting in a milestone payment of$5.0 million to us. Pfizer initiated a Phase 1b allergen challengeclinical trial in the second quarter of 2009. We expect that Pfizer willinitiate a Phase 2 clinical trial in 2010.

 

**Corporate Collaborations**

 

We conduct research and development programsindependently and in connection with our corporate collaborators. We currentlyhave collaborations with six major pharmaceutical/biotechnology companies.These collaborations are:

 

·                  Janssen Pharmaceutica N.V., a division of Johnson &Johnson, relating to oncology therapeutics and diagnostics;

 

·                  Pfizer, Inc., one initiated in 1999 in immunologyand the other in January 2005, relating to intrapulmonary asthma and allergytherapeutics;

 

·                  Novartis Pharma AG, or Novartis, with respect to fourdifferent programs relating to immunology, oncology and chronic bronchitis;

 

·                  Daiichi Pharmaceuticals Co., Ltd., or Daiichi,relating to oncology;

 

·                  Merck & Co., Inc., or Merck, alsorelating to oncology; and

 

·                  Merck Serono, relating to our aurora kinase inhibitorprogram.

 

None of these collaborations currently provides uswith regular research reimbursement, and we have not derived any revenues fromany of these collaborations since 2007. In all of these collaborations, if certain conditions are met, we areentitled to receive future milestone payments and royalties. We cannotguarantee that these conditions will be met or that research and developmentefforts will be successful. As a result, we may not receive any furthermilestone payments or royalties under these agreements.

 

**Research and Development Expenses**

 

Our research and development expenditures includecosts for scientific personnel, supplies, equipment, consultants, sponsoredresearch, allocated facility costs, costs related to preclinical and clinicaltrials and stock-based compensation.

 

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We do not track fully burdened research anddevelopment costs separately for each of our drug candidates. We review our researchand development expenses by focusing on three categories: research;development; and other. Our research team is focused on creating a portfolio ofproduct candidates that can be developed into small molecule therapeutics inour own proprietary programs or with potential collaborative partners andutilizes our robust discovery engine to rapidly discover and validate newproduct candidates in our focused range of therapeutic indications. “Research”expenses relate primarily to personnel expenses, lab supplies, fees to thirdparty research consultants, and compounds. Our development group leads theimplementation of our clinical and regulatory strategies and prioritizesdisease indications in which our compounds may be studied in clinical trials. “Development”expenses relate primarily to clinical trials, personnel expenses, lab supplies,and fees to third party research consultants. “Other” expenses primarilyinclude allocated stock-based compensation expense relating to personnel inresearch and development groups and allocated facilities costs.

 

In addition to reviewing the three categories ofresearch and development expenses described in the preceding paragraph, we principallyconsider qualitative factors in making decisions regarding our research anddevelopment programs, which include enrollment in clinical trials and theresults thereof, the clinical and commercial potential for our drug candidatesand competitive dynamics. We also make our research and development decisionsin the context of our overall business strategy, which includes the evaluationof potential collaborations for the development of our drug candidates.

 

The following tablepresents our total research and development expenses by category.

 
| ** **      | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended**  | ** ** |
|-----------------|------------|------------------------|------------|------------------------|------------|
| ** **      | ** ** | **September 30,** | ** ** | **September 30,** | ** ** |
| **Categories:** | ** ** | **2009**               | ** ** | **2008**               | ** ** | **2009** | ** ** | **2008** | ** ** |
| Research        |       | $                      | 4,348      |                   | $          | 6,479 |   | $ | 13,536 |   | $ | 18,460 |   |
| Development     |       | 10,088                 |       | 17,398                 |       | 38,084 |   | 40,633 |   |
| Other           |       | 6,646                  |       | 7,355                  |       | 18,948 |   | 22,175 |   |
|            |       |                   |       |                   |       |   |   |   |   |
|            |       | $                      | 21,082     |                   | $          | 31,232 |   | $ | 70,568 |   | $ | 81,268 |   |

 

We have not tracked research and development expensesto date in these categories prior to our preparation of this Quarterly Reporton Form 10-Q. “Other” expenses above mainly represent allocatedstock-based compensation expenses of approximately $2.4 million and $3.0million for the three months ended September 30, 2009 and 2008,respectively,and allocated facilities costs of approximately $4.3 million forthe three months ended September 30, 2009 and 2008.  For the nine months ended September 30,2009 and 2008, allocated stock-based compensation expenses were approximately$6.3 million and $9.2 million, respectively, and allocated facilities costswere approximately $12.7 million and $13.0 million, respectively.

 

For the three and nine months ended September 30,2009 and 2008, respectively, the major portion of our research and developmentexpenses were associated with our two Phase 2b clinical trials *(TASKi2 and TASKi3)*, as well as the related extension trialsin RA patients. The expenses for these programs are included in “Development”expenses above.

 

The scope and magnitude of future research anddevelopment expenses are difficult to predict given the number of clinicaltrials that we will need to conduct for any of our potential products, as wellas our limited capital resources. Preclinical testing and clinical developmentare long, expensive and uncertain processes. In general, biopharmaceuticaldevelopment involves a series of steps, beginning with identification of apotential target and including, among others, proof of concept in animals andPhase 1, 2 and 3 clinical trials in humans. Each of these steps is typicallymore expensive than the previous step. Success in early stages of developmentoften results in increasing expenditures for a given product candidate.Significant delays in clinical testing could materially impact our productdevelopment costs and timing of completion of the clinical trials. We do notknow whether planned clinical trials will begin on time, will need to be haltedor revamped or will be completed on schedule, or at all. Clinical trials can bedelayed for a variety of reasons, including delays in obtaining regulatoryapproval to commence a trial, delays from scale up, delays in reachingagreement on acceptable clinical trial agreement terms with prospectiveclinical sites, delays in obtaining institutional review board approval toconduct a trial at a prospective clinical site or delays in recruiting subjectsto participate in a study.

 

We currently do not have reliable estimates of totalcosts for a particular drug candidate to reach the market. Our potentialproducts are subject to a lengthy and uncertain regulatory process that mayinvolve unanticipated additional clinical trials and may not result in receiptof the necessary regulatory approvals. Failure to receive the necessaryregulatory approvals would prevent us from commercializing the productcandidates affected. In addition, clinical trials of our potential products mayfail to demonstrate safety 

 

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and efficacy, which could prevent or significantlydelay regulatory approval. We do not have a reasonable basis to determine whenor if material net cash inflows from the commercialization and sale of our drugcandidates will occur. Commercialization of our product candidates depends uponsuccessful completion of extensive preclinical studies and clinical trials todemonstrate their safety and efficacy for humans. We do not know whether we, orany of our current or potential future collaborative partners, will undertakeclinical trials of potential products beyond the trials already concluded andthe trials currently in process. It will take us, or our current or potentialfuture collaborative partners, several years to complete any such testing, andfailure can occur at any stage of testing. Interim results of trials do notnecessarily predict final results, and acceptable results in early trials maynot be repeated in later trials. Moreover, we or our current or potentialfuture collaborative partners may decide to discontinue development of anyproject at any time for regulatory, commercial, scientific or other reasons. Todate, we have not commercialized any of our drug candidates, and we may neverdo so.

 

For a discussion of the risks and uncertaintiesassociated with the timing and costs of completing the development of the Company’sdrug candidates, see “Part II. Item 1A. Risk Factors,” including inparticular the following risks:

 

·                  “Our future funding requirements will depend on manyuncertain factors.”

·                  “We might not be able to commercialize our productcandidates successfully if problems arise in the clinical testing and approvalprocess.”

·                  “There is a high risk that drug discovery anddevelopment efforts might not successfully generate good product candidates.”

·                  “Delays in clinical testing could result in increasedcosts to us.”

·                  “Because we expect to be dependent upon collaborativeand license agreements, we might not meet our strategic objectives.”

·                  “If our corporate collaborations or license agreementsare unsuccessful, our research and development efforts could be delayed.”

·                  “If conflicts arise between our collaborators oradvisors and us, any of them may act in their self-interest, which may be adverseto our stockholders’ interests.”

 

For further discussion on research and developmentactivities, see “Research and Development Expenses” under “Results ofOperations” below.

 

**EquityFinancing**

 

In September 2009, we completed an underwritten publicoffering in which we sold 14,950,000 shares of our common stock at a price tothe public of $7.25 per share. We received net proceeds of approximately $101.5million after deducting underwriting discounts and commissions and offeringexpenses.

 

**Recent Accounting Pronouncements**

 

In October 2009, theFASB issued Accounting Standards Update, or ASU, No. 2009-13 (formerlyEmerging Issues Task Force, or EITF, No. 08-1) on ASC Topic No. 605for revenue recognition related to multiple-deliverable revenuearrangements.  The ASU providesamendments to the existing criteria for separating consideration inmultiple-deliverable arrangements.  Theamendments establish a selling price hierarchy for determining the sellingprice of a deliverable, eliminate the residual method of allocation ofarrangement consideration to all deliverables and require the use of therelative selling price method in allocation of arrangement consideration to alldeliverables, require the determination of the best estimate of a selling pricein a consistent manner, and significantly expand the disclosures related to themultiple-deliverable revenue arrangements. The amendments will be effective infiscal years beginning on or after June 15, 2010, and early adoption is permitted.We are currently evaluating the impact on our financial statements of adoptingthese amendments to ASC Topic No. 605 and cannot estimate the impact ofadoption at this time.

 

On July 1, 2009, theFASB launched the FASB AccountingStandards CodificationTM, or the Codification, as the singlesource of authoritative U.S. GAAP recognized by the FASB. The Codificationreorganizes various U.S. GAAP pronouncements into accounting topics anddisplays them using a consistent structure. All existing accounting standardsdocuments are superseded as described in SFAS No. 168, *The**FASB Accounting StandardsCodification**TM** **and the Hierarchy of GenerallyAccepted Accounting Principles*which is now part of ASCTopic No. 105*.** *All of thecontents of the Codification carry the same level of authority, effectivelysuperseding SFAS No. 162, *The Hierarchy of Generally AcceptedAccounting Principles,* which identified and ranked the sources ofaccounting principles and the framework for selecting the principles used inpreparing the financial statements in conformity with U.S. GAAP. Also includedin the Codification, as a reference for public companies, are rules andinterpretive releases of the U.S. Securities and Exchange Commission, or theSEC, under authority of federal securities laws which are also sources ofauthoritative U.S. GAAP for SEC registrants. The Codification is effective forinterim and annual periods ending after September 15, 2009. We adoptedSFAS No. 168 on July 1, 2009 and concluded it had no material impacton our financial statements other than changing the way specific accountingstandards are referenced in our financial statements.

 

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**Critical Accounting Policies and the Use ofEstimates**

 

Ourdiscussion and analysis of our financial condition and results of operations isbased upon our financial statements, which have been prepared in accordancewith U.S. GAAP. The preparation of these financial statements requires us tomake estimates and judgments that affect the reported amounts of assets,liabilities, revenues and expenses, and related disclosure of contingent assetsand liabilities. We evaluate our estimates, including those related to terms ofour research collaborations (i.e. revenue recognition of upfront fees andcertain milestone payments), investments, stock-based compensation, impairmentissues, the estimated useful life of assets and contingencies, on an on-goingbasis. We base our estimates on historical experience and on various otherassumptions that we believe to be reasonable under the circumstances, theresults of which form the basis for making judgments about the carrying valuesof assets and liabilities that are not readily apparent from other sources.Actual results may differ from these estimates under different assumptions orconditions. We believe the following critical accounting policies affect ourmore significant judgments and estimates used in the preparation of ourfinancial statements:

 

***Revenue Recognition***

 

We recognize revenue from our collaboration arrangements under ASCTopic No. 808, *Collaboration Arrangements*.Our revenue arrangements with multiple elements are evaluated under ASCSubtopic No. 605-25, *Multiple-ElementArrangements*, and are divided into separate units of accounting ifcertain criteria are met, including whether the delivered element hasstand-alone value to the customer and whether there is objective and reliableevidence of the fair value of any undelivered items. The consideration wereceive is allocated among the separate units based on their respective fairvalues, and the applicable revenue recognition criteria are applied to each ofthe separate units. Advance payments received in excess of amounts earned areclassified as deferred revenue until earned.

 

Non-refundable, up-front payments received in connection with researchand development collaboration agreements, including technology access fees, aredeferred and recognized on a straight-line basis over the relevant periods ofcontinuing involvement, generally the research term. When a research term isnot specified, we estimate the time it will take us to complete ourdeliverables under the contract and recognize the upfront fee using thestraight-line method over that time period. We review our estimates everyquarter for reasonableness.

 

Revenues related to collaborative research with our corporatecollaborators are recognized as research services are performed over therelated development periods for each agreement. Under these agreements, we arerequired to perform research and development activities as specified in eachrespective agreement. The payments received are not refundable and aregenerally based on a contractual cost per full-time equivalent employee workingon the project. Our research and development expenses under the collaborativeresearch agreements approximate the revenue recognized under such agreementsover the term of the respective agreements. It is our policy to recognizerevenue based on our level of effort expended, however, revenue recognized willnot exceed amounts billable under the agreement.

 

Revenues associated with at-risk milestones pursuantto collaborative agreements are recognized upon achievement of the milestonesas set forth in the applicable agreement.

 

***Stock-based Compensation***

 

The determination of the fair valueof stock-based payment awards on the date of grant using the Black-Scholesoption-pricing model is affected by our stock price as well as assumptionsregarding a number of complex and subjective variables. These variablesinclude, but are not limited to, volatility, expected term, risk-free interestrate and dividends. We estimate volatility using our historical stock priceperformance over the expected life of the option up to the point where we havehistorical market data. For expected term, among other things, we take intoconsideration our historical data of options exercised, cancelled and expired.The risk-free rate is based on the U.S. Treasury constant maturity rate. Wehave not paid and do not expect to pay dividends in the foreseeable future. Inorder to calculate stock-based compensation expense, we also estimate theforfeiture rate using our historical experience with options that cancel beforethey vest.

 

###### ***Research and Development Accruals***

###### *** ***

We have various contracts with third parties relatedto our research and development activities. Costs that are incurred but notbilled to us as of the end of the period are accrued. We make estimates of theamounts incurred in each period based on the information available to us andour knowledge of the nature of the contractual activities generating suchcosts. Clinical trial contract expenses are accrued based on units of activityreported by third parties. Expenses related to other research and development 

 

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contracts,such as research contracts, toxicology study contracts and manufacturingcontracts are estimated to be incurred generally on a straight-line basis overthe duration of the contracts. Raw materials and study materials purchased bythird parties are expensed at the time of purchase. Many of our estimates arebased significantly or in part on information provided by third parties. Ifsuch information were not reported properly, our research and developmentexpense amounts could be misstated.

 

**Results of Operations**

** **

**Three and Nine Months Ended September 30,2009 and 2008**

 

**Revenues**

 

There were no revenues reportedduring the three and nine months ended September 30, 2009 and 2008. We hadno deferred revenue as of September 30, 2009. Our potential futurerevenues may include certain milestone payments and royalties from our currentcollaboration partners or potential revenue from new collaboration partnerswith whom we enter into agreements in the future.

 

**Research andDevelopment Expenses**

 
| ** **                                                                                     | ** ** | **Three Months Ended  September 30,** | ** ** | **Aggregate**      | ** ** | **Nine Months Ended  September 30,** | ** ** | **Aggregate** | ** ** |
|------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|--------------------|------------|-------------------------------------------|------------|---------------|------------|
| ** **                                                                                     | ** ** | **2009**                                   | ** ** | **2008**           | ** ** | **Change**                                | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **                                                                                     | ** ** | **(in thousands)**                         | ** ** | **(in thousands)** | ** ** |
| ***Research and development expenses***                                                        |       | $                                          | 21,082     |               | $          | 31,232                                    |       | $             | (10,150    | ) | $ | 70,568 |   | $ | 81,268 |   | $ | (10,700 | ) |
| ***Stock-based compensation expense******included in research and******development expenses*** |       | 2,356                                      |       | 3,035              |       | (679                                      | )          | 6,309         |       | 9,229 |   | (2,920 | ) |
|                                                                                                |            |                                            |            |                    |            |                                           |            |               |            |  |  |  |  |  |  |  |  |  |  |

 

The decrease inresearch and development expenses for the three months ended September 30,2009, compared to the same period in 2008, was primarily due to the completionof our two Phase 2b clinical trials (*TASKi2*and *TASKi3*), and cost savings as a result of therestructuring implemented in the first quarter of 2009, as discussed under “RestructuringCharges” below, combined with a decrease in stock-based compensation expense asdiscussed under “Stock-Based Compensation” below.

 

The decrease inresearch and development expenses for the nine months ended September 30,2009, compared to the same period in 2008, was primarily due to a decrease instock-based compensation expense as discussed under “Stock-Based Compensation”below, a decrease in clinical trial costs associated with the completion of ourtwo Phase 2b clinical trials (*TASKi2*and *TASKi3*), and cost savings asa result of the restructuring implemented in the first quarter of 2009, asdiscussed under “Restructuring Charges” below.

 

**General and Administrative Expenses**

 
| ** **                                                                                       | ** ** | **Three Months Ended  September 30,** | ** ** | **Aggregate**      | ** ** | **Nine Months Ended  September 30,** | ** ** | **Aggregate** | ** ** |
|--------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|--------------------|------------|-------------------------------------------|------------|---------------|------------|
| ** **                                                                                       | ** ** | **2009**                                   | ** ** | **2008**           | ** ** | **Change**                                | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **                                                                                       | ** ** | **(in thousands)**                         | ** ** | **(in thousands)** | ** ** |
| ***General and administrative expenses***                                                        |       | $                                          | 5,573      |               | $          | 7,450                                     |       | $             | (1,877     | ) | $ | 15,226 |   | $ | 21,436 |   | $ | (6,210 | ) |
| ***Stock-based compensation expense******included in general and******administrative expenses*** |       | 1,176                                      |       | 3,001              |       | (1,825                                    | )          | 3,226         |       | 8,572 |   | (5,346 | ) |
|                                                                                                  |            |                                            |            |                    |            |                                           |            |               |            |  |  |  |  |  |  |  |  |  |  |

 

The decreases in general and administrative expensesfor the three and nine months ended September 30, 2009, as compared to thesame periods in 2008, were primarily attributable to a decrease in stock-basedcompensation expense as discussed under “Stock-Based Compensation” below, anddecreased patent expenses due to active efforts to reduce patent-based costsand decreased international filing needs.

 

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**RestructuringCharges**

 
| ** **                                                                    | ** ** | **Three Months Ended** | ** ** | ** **         | ** ** | **Nine Months Ended**  | ** ** | ** **    | ** ** |
|-------------------------------------------------------------------------------|------------|------------------------|------------|--------------------|------------|------------------------|------------|---------------|------------|
| ** **                                                                    | ** ** | **September 30,** | ** ** | **Aggregate**      | ** ** | **September 30,** | ** ** | **Aggregate** | ** ** |
| ** **                                                                    | ** ** | **2009**               | ** ** | **2008**           | ** ** | **Change**             | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **                                                                    | ** ** | **(in thousands)**     | ** ** | **(in thousands)** | ** ** |
| ***Restructuring Charges***                                                   |       | $                      | —     |               | $          | —                 |       | $             | —     |   | $ | 1,141 |   | $ | — |   | $ | 1,141 |   |
| ***Stock-based compensation expense******included in restructuring charges*** |       | —                 |       | —             |       | —                 |       | 122           |       | — |   | 122 |   |
|                                                                               |            |                        |            |                    |            |                        |            |               |            |  |  |  |  |  |  |  |  |  |  |

 

InFebruary 2009, we announced that we cut our research programs in virologyand oncology as well as terminated certain related development andadministrative staff, which resulted in the dismissal of 36 employees, orapproximately 20% of our workforce. This measure was intended to maintain ouremphasis on our active preclinical and clinical programs, while conserving ourresources. As aresult of the restructuring implemented in the first quarter of 2009, werecorded restructuring charges of $1.1 million, including $1.0 million of workforcereduction costs (which had been substantially paid as of March 31, 2009)and $122,000 of non-cash stock-based compensation expense as a result of theextension of the date the terminated employees have to exercise their vestedoptions to December 31, 2009 rather than 90 days from the termination dateas is typically required under our equity incentive plan.

 

**Stock-Based Compensation**

 
| ** **                                        | ** ** | **Three Months Ended** | ** ** | ** **         | ** ** | **Nine Months Ended**  | ** ** | ** **    | ** ** |
|---------------------------------------------------|------------|------------------------|------------|--------------------|------------|------------------------|------------|---------------|------------|
| ** **                                        | ** ** | **September 30,** | ** ** | **Aggregate**      | ** ** | **September 30,** | ** ** | **Aggregate** | ** ** |
| ** **                                        | ** ** | **2009**               | ** ** | **2008**           | ** ** | **Change**             | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **                                        | ** ** | **(in thousands)**     | ** ** | **(in thousands)** | ** ** |
| **Stock-based compensation****expense from:**     |       |                   |       |               |       |                   |       |          |       |   |   |   |   |
| ***Officer, director and******employee options*** |       | $                      | 3,501      |               | $          | 6,027                  |       | $             | (2,526     | ) | $ | 9,590 |   | $ | 17,607 |   | $ | (8,017 | ) |
| ***Consultant options***                          |       | 31                     |       | 9                  |       | 22                     |       | 67            |       | 194 |   | (127 | ) |
| ***Total***                                       |       | $                      | 3,532      |               | $          | 6,036                  |       | $             | (2,504     | ) | $ | 9,657 |   | $ | 17,801 |   | $ | (8,144 | ) |

 

The decreases in stock-based compensation expense for thethree and nine months ended September 30, 2009, as compared to the sameperiods in 2008, were primarilydue to the lower valuation of options granted in the first quarter of2009 and the full recognition of most of the expense associated with theoptions granted in the first quarter of 2008 as of the end of 2008, as most ofthese options vest over a one year period.

 

**Interest Income**

 
| ** **            | ** ** | **Three Months Ended** | ** ** | ** **         | ** ** | **Nine Months Ended**  | ** ** | ** **    | ** ** |
|-----------------------|------------|------------------------|------------|--------------------|------------|------------------------|------------|---------------|------------|
| ** **            | ** ** | **September 30,** | ** ** | **Aggregate**      | ** ** | **September 30,** | ** ** | **Aggregate** | ** ** |
| ** **            | ** ** | **2009**               | ** ** | **2008**           | ** ** | **Change**             | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **            | ** ** | **(in thousands)**     | ** ** | **(in thousands)** | ** ** |
| ***Interest income*** |       | $                      | 48         |               | $          | 1,034                  |       | $             | (986       | ) | $ | 554 |   | $ | 3,853 |   | $ | (3,299 | ) |
|                       |            |                        |            |                    |            |                        |            |               |            |  |  |  |  |  |  |  |  |  |  |

 

Interest income results from our interest-bearingcash and investment balances. The decreases in interest income for the threeand nine months ended September 30, 2009, as compared to the same periodsin 2008, were due to a lower cash balance that earned interest and lowerinterest rates earned on our investments in the 2009 periods. The net proceedsof our underwritten public offering of approximately $101.5 million werereceived at the end of September 2009 and therefore did not impactinterest income during the period.

 

**Interest Expense**

 
| ** **             | ** ** | **Three Months Ended** | ** ** | ** **         | ** ** | **Nine Months Ended**  | ** ** | ** **    | ** ** |
|------------------------|------------|------------------------|------------|--------------------|------------|------------------------|------------|---------------|------------|
| ** **             | ** ** | **September 30,** | ** ** | **Aggregate**      | ** ** | **September 30,** | ** ** | **Aggregate** | ** ** |
| ** **             | ** ** | **2009**               | ** ** | **2008**           | ** ** | **Change**             | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **             | ** ** | **(in thousands)**     | ** ** | **(in thousands)** | ** ** |
| ***Interest expense*** |       | $                      | 44         |               | $          | 43                     |       | $             | 1          |   | $ | 166 |   | $ | 131 |   | $ | 35 |   |
|                        |            |                        |            |                    |            |                        |            |               |            |  |  |  |  |  |  |  |  |  |  |

 

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Interest expense results from our capital leaseobligations associated with fixed asset acquisitions.  Interest expense was relatively flat for thethree months ended September 30, 2009 and 2008. The increase in interestexpense for the nine months ended September 30, 2009, as compared to thesame period in 2008, was due to the higher outstanding balances on capitallease obligations during the first half of 2009.

 

##### **Incometax benefit**

 
| ** **               | ** ** | **Three Months Ended** | ** ** | ** **         | ** ** | **Nine Months Ended**  | ** ** | ** **    | ** ** |
|--------------------------|------------|------------------------|------------|--------------------|------------|------------------------|------------|---------------|------------|
| ** **               | ** ** | **September 30,** | ** ** | **Aggregate**      | ** ** | **September 30,** | ** ** | **Aggregate** | ** ** |
| ** **               | ** ** | **2009**               | ** ** | **2008**           | ** ** | **Change**             | ** ** | **2009**      | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **               | ** ** | **(in thousands)**     | ** ** | **(in thousands)** | ** ** |
| ***Income tax benefit*** |       | $                      | —     |               | $          | —                 |       | $             | —     |   | $ | 93 |   | $ | — |   | $ | 93 |   |
|                          |            |                        |            |                    |            |                        |            |               |            |  |  |  |  |  |  |  |  |  |  |

 

We recorded an income taxbenefit of approximately $93,000 for the nine months ended September 30,2009 to reflect tax refunds in accordance with the provisions of the AmericanRecovery and Reinvestment Act of 2009.

 

**Liquidity and Capital Resources**

 

**Cash Requirements**

 

Wehave financed our operations from inception primarily through sales of equitysecurities, contract payments under our collaboration agreements and equipmentfinancing arrangements. We have consumed substantial amounts of capital todate, and our operating expenditures are expected to increase over the nextseveral years, in large part due to our research and development expenses,future preclinical and clinical testing costs and the absence of any revenuesfrom product sales.

 

Asof September 30, 2009, we had approximately $156.1 million in cash, cashequivalents and available-for-sale securities, as compared to approximately$134.5 million as of December 31, 2008, an increase of approximately$21.6 million. Theincrease was primarily attributable to net proceeds of approximately $101.5million from our public offering in the third quarter of 2009, offset byoperating expenses for the nine months ended September 30, 2009.  We believe that our existing capitalresources will be sufficient to support our current and projected fundingrequirements through at least the next twelve months. We have basedthis estimate on assumptions that may prove to be wrong, and we could utilizeour available capital resources sooner than we currently expect. Because of thenumerous risks and uncertainties associated with the development of our productcandidates and other research and development activities, including risks anduncertainties that could impact the rate of progress of our developmentactivities, we are unable to estimate with certainty the amounts of increasedcapital outlays and operating expenditures associated with our current andanticipated clinical trials and other research and development activities.

 

Ouroperations will require significant additional funding for the foreseeablefuture. The amount of future funds needed will depend largely on the timing andstructure of potential future collaborations, including in particular with respectto R788. We anticipate that we will enter into a collaboration agreement withrespect to R788 in the first half of 2010, but we may not be able to do so onacceptable terms, or at all. Until we are able to generate a sufficient amountof product revenue, we expect to finance future cash needs through publicand/or private equity offerings, debt financings or collaboration and licensingarrangements, as well as through interest income earned on the investment ofour cash balances and short-term investments. With the exception of milestoneand royalty payments that we may receive under our existing collaborations, wedo not currently have any commitments for future funding. Recently, the creditmarkets and the financial services industry have been experiencing a period ofunprecedented turmoil and upheaval characterized by the bankruptcy, failure,collapse or sale of various financial institutions and an unprecedented levelof intervention from the United States federal government. These events havegenerally made equity and debt financing more difficult to obtain. As a resultof these and other factors, we do not know whether additional financing will beavailable when needed, or that, if available, we will obtain financing onreasonable terms.

 

Tothe extent we raise additional capital by issuing equity securities, ourstockholders could at that time experience substantial dilution. Any debtfinancing that we are able to obtain may involve operating covenants thatrestrict our business. To the extent that we raise additional funds throughcollaboration and licensing arrangements, we may be required to relinquish someof our rights to our technologies or product candidates, or grant licenses onterms that are not favorable to us.

 

Ourfuture funding requirements will depend upon many factors, including, but notlimited to:

 

·                  our ability to establish new collaborationsand the terms thereof;

 

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·                  the progress and success of clinical trialsand preclinical activities (including studies and manufacture of materials) ofour product candidates conducted by us or our collaborative partners orlicensees;

 

·                  the progress of research programs carried outby us;

 

·                  any changes in the breadth of our research anddevelopment programs;

 

·                  our ability to meet the milestones identifiedin our collaborative agreements that trigger payments to us from ourcollaboration partners;

 

·                  the progress of the research and developmentefforts of our collaborative partners;

 

·                  our ability to acquire or license othertechnologies or compounds that we seek to pursue;

 

·                  our ability to manage our growth;

 

·                  competing technological and market developments;

 

·                  the costs and timing of obtaining, enforcingand defending our patent and intellectual property rights;

 

·                  the costs and timing of regulatory approvalsand filings by us and our collaborators; and

 

·                  expenses associated with the pending and potentialadditional related purported securities class action lawsuits, as well as anyunforeseen litigation.

 

Insufficientfunds may require us to delay, scale back or eliminate some or all of ourresearch or development programs, to lose rights under existing licenses or torelinquish greater or all rights to product candidates at an earlier stage ofdevelopment or on less favorable terms than we would otherwise choose or mayadversely affect our ability to operate as a going concern. For the nine monthsended September 30, 2009 and 2008, we maintained an investment portfolioprimarily in money market funds, U.S. treasury bills, government-sponsoredenterprise securities, and corporate bonds and commercial paper. Cash in excessof immediate requirements is invested with regard to liquidity and capitalpreservation. Wherever possible, we seek to minimize the potential effects ofconcentration and degrees of risk.

 

**Cash Flows from Operating, Investing and Financing Activities**

** **
| ** **                                           | ** ** | **Nine Months Ended**  | ** ** |
|------------------------------------------------------|------------|------------------------|------------|
| ** **                                           | ** ** | **September 30,** | ** ** |
| ** **                                           | ** ** | **2009**               | ** ** | **2008** | ** ** |
| Net  cash used in operating activities               |       | $                      | (79,505    | ) | $ | (76,378 | ) |
| Net  cash provided by (used in) investing activities |       | 26,666                 |       | (40,816 | ) |
| Net  cash provided by financing activities           |       | 101,579                |       | 130,409 |   |
| Net  increase in cash and cash equivalents           |       | $                      | 48,740     |   | $ | 13,215 |   |

 

Netcash used in operating activities was $79.5 million for the nine monthsended September 30, 2009, compared to $76.4 million for the ninemonths ended September 30, 2008. The increase in net cash used inoperating activities was primarily due to the increase in cash payments relatedto our research and development programs. The timing of cashrequirements may vary from period to period depending on our research anddevelopment activities, including our planned preclinical and clinical trials,and future requirements to establish commercial capabilities for any productsthat we may develop.

 

Netcash provided by investing activities was $26.7 million for the ninemonths ended September 30, 2009, compared to net cash used in investingactivities of $40.8 million for the nine months ended September 30,2008. Net cash provided by investing activities in 2009 was primarily due tomaturities of available-for-sale securities of $101.4 million and sale ofavailable-for-sale securities of $8.2 million, partially offset by purchases ofavailable-for-sale securities of $82.9 million. Net cash used in investing activities for the nine months ended September 30,2008 related primarily to purchases of short-term investments of $170.1million, partially offset by maturities of short-term investments of $131.1million. Capital expenditures were approximately $95,000 for the nine monthsended September 30, 2009, compared to $1.8 million for the same period in2008.

 

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Netcash provided by financing activities was approximately $101.6 million for thenine months ended September 30, 2009, compared to approximately$130.4 million for the same period in 2008. In the third quarter of 2009,we completed a public offering in which we received net proceeds ofapproximately $101.5 million afterdeducting underwriting discounts and commissions and offering expenses. Net cashprovided by financing activities for the nine months ended September 30,2009 also included proceeds from the exercise of outstanding options and theissuance of shares under our ESPP of approximately $1.2 million, partiallyoffset by payments of capital lease obligations of approximately $1.1 million.In the first quarter of 2008, we completed a public offering in which wereceived net proceeds of approximately $127.5 million afterdeducting underwriting discounts and commissions and offering expenses. We alsoreceived proceeds from the exercise of outstanding options and the issuance ofshares under our ESPP of approximately $2.4 million during the nine monthsended September 30, 2008. Proceeds from capital lease financing wereapproximately $1.4 million and payments for capital lease financing wereapproximately $903,000 during the nine months ended September 30, 2008.

 

**Off-Balance Sheet Arrangements**

 

As of September 30, 2009, we had no off-balance sheet arrangements (as defined in Item303(a)(4)(ii) of Regulation S-K under the Securities Exchange Act of 1934,as amended) that create potential material risks for us and that are notrecognized on our balance sheets.

 

**Contractual Obligations**

 

As of September 30, 2009, we had the followingcontractual commitments:

 
| ** **                        | ** ** | **Payment Due By Period** | ** **  |
|-----------------------------------|------------|---------------------------|-------------|
| ** **                        | ** ** | ** **                | ** **  | **Less than** | ** ** | **1 - 3** | ** ** | **3 - 5** | ** ** | **More than** | ** ** |
| ** **                        | ** ** | **Total**                 | ** **  | **1 Year** | ** ** | **Years** | ** ** | **Years** | ** ** | **5 years** | ** ** |
| ** **                        | ** ** | **(in  thousands)**       | ** **  |
| **Capital Lease obligations (1)** | ** ** | **$**                     | **2,409**   |   | $ | 1,213 |   | $ | 1,196 |   | $ | — |   | $ | — |   |
| **Facilities lease (2)**          | ** ** | **126,520**               |        | 16,722 |   | 30,346 |   | 27,890 |   | 51,562 |   |
| ** **                        | ** ** | ** **                |        |   |   |   |   |   |   |   |   |
| **Total**                         | ** ** | **$**                     | **128,929** |   | $ | 17,935 |   | $ | 31,542 |   | $ | 27,890 |   | $ | 51,562 |   |

 

----

(1)   Asof September 30, 2009, we had approximately $2.4 million in capital leaseobligations (including the interest portion) associated with our equipment. Allexisting capital lease agreements as of September 30, 2009 are secured bythe equipment financed, bear interest at rates between 4.99% and 10.36% and aredue in monthly installments through 2012.

 

(2)   OnMarch 31, 2009, we amended our build-to-suit lease agreement to defercertain rental obligations in the aggregate amount of $6.9 million, for aperiod of up to seventeen months.  Underthe terms of this amendment, we were obligated to repay the deferred amounts,including interest accruing at 12% during the deferral period, based on atimeline that could vary depending upon the occurrence of certain financing orcollaborative transactions.  In September 2009,we completed an underwritten public offering and received net proceeds ofapproximately $101.5 million after deducting underwriting discounts andcommissions and offering expenses.  As aresult of the above financing, we are obligated to pay our landlord $3.7million, or 50% of the deferred rental amounts, plus interest at 12%, within 45days from the date of closing the public offering.  We are obligated to pay the remainingdeferred rental amounts, including related interest, of approximately $4.5million on or before July 1, 2011. The accompanying schedule reflects ourfuture rent obligations to our facilities lease after considering the effectsof the above financing.

 

**Item 3.****   ****Quantitative and Qualitative Disclosures About Market Risk**

 

During the nine months ended September 30,2009, there were no material changes to our market risk disclosures as setforth in Part II, Item 7A, “Quantitative and Qualitative Disclosures AboutMarket Risk,” of our Annual Report on Form 10-K for the year ended December 31,2008.

 

**Item 4.****   ****Controls and Procedures**

 

*Evaluation of Disclosure Controls andProcedures.*Based on the evaluation of our disclosurecontrols and procedures (as defined in Rules 13a-15(e) and 15d-15(e) underthe Securities Exchange Act of 1934, as amended), our chief executive officerand chief financial officer have concluded that, as of the end of the periodcovered by this report, our disclosure controls and procedures were effective.

 

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*Changes in Internal Controls.*Therewere no changes in our internal control over financial reporting that occurredduring the quarter ended September 30, 2009 that have materially affected,or are reasonably likely to materially affect, our internal control overfinancial reporting.

 

*Limitations on the Effectiveness ofControls.*A control system, no matter howwell conceived and operated, can provide only reasonable, not absolute,assurance that the objectives of the controls are met. Because of the inherentlimitations in all control systems, no evaluation of controls can provideabsolute assurance that all control issues, if any, within a company have beendetected. Accordingly, our disclosure controls and procedures are designed toprovide reasonable, not absolute, assurance that the objectives of ourdisclosure control system are met and, as set forth above, our chief executiveofficer and chief financial officer have concluded, based on their evaluationas of the end of the period covered by this report, that our disclosurecontrols and procedures were sufficiently effective to provide reasonableassurance that the objectives of our disclosure control system were met.

 

**PART II. OTHER INFORMATION**

 

**Item 1. Legal Proceedings**

 

OnFebruary 6, 2009, a purported securities class action lawsuit was commencedin the United States District Court for the Northern District of California,naming as defendants us and certain of our officers, directors and underwritersfor our February 2008 stock offering. An additional purported securities class action lawsuit containingsimilar allegations was subsequently filed in the United States District Courtfor the Northern District of California on February 20, 2009.  By order of the Court dated March 19,2009, the two lawsuits were consolidated into a single action.  On April 7, 2009, Inter-Local PensionFund GCC/IBT filed a motion for appointment as lead plaintiff in the case, andfor appointment of its counsel as lead counsel. On June 9, 2009, the Court issued an order naming the Inter-LocalPension Fund GCC/IBT as lead plaintiff and Coughlin Stoia as lead counsel. Thelead plaintiff filed an amended complaint on July 24, 2009.  The lawsuit alleges violations of theSecurities Act of 1933 and the Securities Exchange Act of 1934 in connectionwith allegedly false and misleading statements made by us related to theresults of the Phase 2a clinical trial of our product candidate R788. Theplaintiffs seek damages, including rescission or rescissory damages forpurchasers in the stock offering, an award of their costs and injunctive and/orequitable relief for purchasers of our common stock during the period between December 13,2007 and February 9, 2009, including purchasers in the stock offering. Wefiled a motion to dismiss these claims on September 8, 2009, and a hearingon that motion is set for December 4, 2009.  It is possible that additional suits will befiled with respect to these same matters and also naming us and/or our officersand directors as defendants. If any such additional suits are filed in the samecourt, we believe that they would be consolidated into the consolidated action.

 

Webelieve that we have meritorious defenses and intend to defend the lawsuitvigorously. This lawsuit and any other related lawsuits are subject to inherentuncertainties, and the actual costs to be incurred relating to the lawsuit willdepend upon many unknown factors. The outcome of the litigation is necessarilyuncertain, and we could be forced to expend significant resources in thedefense of this lawsuit, and we may not prevail.

 

**Item 1A.    Risk Factors**

 

*In evaluating our business, youshould carefully consider the following risks, as well as the other informationcontained in this Quarterly Report on Form 10-Q. These risk factors couldcause our actual results to differ materially from those contained inforward-looking statements we have made in this Quarterly Report on Form 10-Qand those we may make from time to time. If any of the following risks actuallyoccurs, our business, financial condition and operating results could beharmed. The risks and uncertainties described below are not the only onesfacing us. Additional risks and uncertainties not presently known to us, orthat we currently see as immaterial, may also harm our business. We have markedwith an asterisk (*) those risk factors below that reflect a substantive changefrom the risk factors included in our Annual Report on Form 10-K filedwith the Securities and Exchange Commission on February 27, 2009.*

 

**We will need additional capital in the future to sufficientlyfund our operations and research.***

 

We have consumedsubstantial amounts of capital to date, and our operating expenditures areexpected to increase over the next several years as we continue our researchand development activities, including preclinical studies and clinical trials.

 

We believe that ourexisting capital resources will be sufficient to support our current andprojected funding requirements through at least the next 12 months. Thisestimate does not include any costs that we may incur in connection with apotential Phase 3 clinical trial evaluating R788 in RA patients, nor does thisestimate include any potential payments that we may receive in connection witha potential collaboration covering the development of R788 for the treatment ofRA. In addition, we have based this estimate on 

 

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assumptions that mayprove to be wrong, and we could utilize our available capital resources soonerthan we currently expect. Because of the numerous risks and uncertaintiesassociated with the development of our product candidates and other researchand development activities, including risks and uncertainties that could impactthe rate of progress of our development activities, we are unable to estimatewith certainty the amounts of increased capital outlays and operatingexpenditures associated with our current and anticipated clinical trials andother research and development activities.

 

For the foreseeablefuture, our operations will require significant additional funding, in largepart due to our research and development expenses, future preclinical andclinical-testing costs, and the absence of any revenues from product sales. Theamount of future funds needed will depend largely on the timing and structureof potential future collaborations, including in particular with respect toR788. We anticipate that we will enter into a collaboration agreement withrespect to R788 in the first half of 2010, but we may not be able to do so onacceptable terms, or at all. Unless and until we are able to generate asufficient amount of product revenue, we expect to finance future cash needsthrough public and/or private offerings of equity securities, debt financingsor collaboration and licensing arrangements, as well as through interest incomeearned on the investment of our cash balances and short-term investments. Withthe exception of milestone and royalty payments that we may receive under ourexisting collaborations, we do not currently have any commitments for futurefunding. We do not know whether additional financing will be available whenneeded, or that, if available, we will obtain financing on reasonable terms.

 

To the extent we raiseadditional capital by issuing equity securities, our stockholders could at thattime experience substantial dilution. Any debt financing that we are able toobtain may involve operating covenants that restrict our business. To the extentthat we raise additional funds through any new collaboration and licensingarrangements, we may be required to relinquish some rights to our technologiesor product candidates, or grant licenses on terms that are not favorable to us

 

**Our future funding requirements will depend on many uncertainfactors.***

 

Ourfuture funding requirements will depend upon many factors, including, but notlimited to:

 

·      our ability to establish newcollaborations and the terms thereof;

 

·      the progress and success ofclinical trials and preclinical activities (including studies and manufactureof materials) of our product candidates conducted by us or our collaborativepartners or licensees;

 

·      the progress of researchprograms carried out by us;

 

·      any changes in the breadth ofour research and development programs;

 

·      our ability to meet themilestones identified in our collaborative agreements that trigger payments tous from our collaboration partners;

 

·      the progress of the researchand development efforts of our collaborative partners;

 

·      our ability to acquire orlicense other technologies or compounds that we seek to pursue;

 

·      our ability to manage ourgrowth;

 

·      competing technological andmarket developments;

 

·      the costs and timing ofobtaining, enforcing and defending our patent and intellectual property rights;

 

·      the costs and timing ofregulatory approvals and filings by us and our collaborators; and

 

·      expenses associated with thepending and potential additional related purported securities class actionlawsuits, as well as any unforeseen litigation.

 

Insufficientfunds may require us to delay, scale back or eliminate some or all of ourresearch and development programs, to lose rights under existing licenses or torelinquish greater or all rights to product candidates at an earlier stage ofdevelopment or on less favorable terms than we would otherwise choose or mayadversely affect our ability to operate as a going concern.

 

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**Our success as a company is uncertain due to our history ofoperating losses and the uncertainty of future profitability.***

 

Due in large part to thesignificant research and development expenditures required to identify andvalidate new product candidates and pursue our development efforts, we have notbeen profitable and have incurred operating losses each year since we wereincorporated in June 1996. The extent of our future losses and the timingof potential profitability are highly uncertain, and we may never achieveprofitable operations. We incurred net losses of approximately $86.5 millionfor the nine months ended September 30, 2009, $132.3 million for theyear ended December 31, 2008 and $74.3 million for the year ended December 31,2007. Currently, our only potential source of revenues is research anddevelopment milestone and royalty payments pursuant to our collaborationarrangements. We have not derived any revenues from these sources since 2007,and do not know whether we will recognize any additional revenues from ourexisting collaboration arrangements. Any future revenues that we receive may beinsufficient to generate profitable operations. As of September 30, 2009,we had an accumulated deficit of approximately $588.2 million. We expectto incur losses for at least the next several years and expect that theselosses could increase as we expand our research and development activities andincur significant clinical and testing costs.

 

**There is a high risk that drug discovery and developmentefforts might not successfully generate good product candidates.***

 

At the present time, themajority of our operations are in various stages of drug identification anddevelopment. We currently have four product compounds in the clinical testingstage: one with indications for RA, ITP, B-cell lymphoma, T-cell lymphoma, andcertain solid tumors, which is proprietary to our company; one which hascompleted Phase 1 safety testing and is intended for psoriasis and possibletopical applications, which is proprietary to our company; one with sixindications for oncology, which is subject to a collaboration agreement withMerck Serono S.A., or Merck Serono; and one in Phase 1b testing and intendedfor allergic asthma, which is subject to a collaboration agreement with Pfizer, Inc.,or Pfizer. In our industry, it is statistically unlikely that the limitednumber of compounds that we have identified as potential product candidateswill actually lead to successful product development efforts, and we do notexpect any drugs resulting from our research to be commercially available forseveral years, if at all.

 

Our compounds in clinicaltrials and our future leads for potential drug compounds are subject to therisks and failures inherent in the development of pharmaceutical products.These risks include, but are not limited to, the inherent difficulty inselecting the right drug and drug target and avoiding unwanted side effects aswell as unanticipated problems relating to product development, testing,obtaining regulatory approvals, maintaining regulatory compliance,manufacturing, competition and costs and expenses that may exceed currentestimates. For example, in our recently completed*TASKi2* and*TASKi3*, two Phase 2b clinical trialsfor R788 in RA, the most common clinically meaningful drug-related adverseevents noted were diarrhea and hypertension. In both of our *TASKi2* and*TASKi3*Phase 2b clinical trials, a meaningfully higherpercentage of patients in the R788 treatment groups had blood pressuremedication adjusted or initiated during the course of the clinical trials ascompared to the placebo group. In larger future clinical trials, we maydiscover additional side effects and/or higher frequency of side effects thanthose observed in completed clinical trials. If approved by the U.S. Food andDrug Administration, or the FDA, the side effect profile of R788 may alsoresult in a narrowly approved indication for use of the product, especially inlight of other drugs currently available to treat RA, dependent on the safetyprofile of R788 relative to those drugs.

 

The results ofpreliminary and mid-stage studies do not necessarily predict clinical orcommercial success, and larger later-stage clinical trials may fail to confirmthe results observed in the previous studies. Similarly, a clinical trial mayshow that a product candidate is safe and effective for certain patientpopulations in a particular indication, but other clinical trials may fail toconfirm those results in a subset of that population or in different patientpopulation, which may limit the potential market for that product candidate.For example, R788 produced significant clinical improvement in RA patients whohad failed to respond to methotrexate alone in our *TASKi2*Phase 2b clinical trial, but our *TASKi3*Phase 2b clinical trial failedto meet its efficacy endpoints in RA patients who had failed to respond to atleast one biologic treatment. In addition, if we were to repeat either of the *TASKi2* and *TASKi3*Phase 2b clinical trials, any such additionaltrials may not confirm the results observed in the original trials. As anadditional example, our Phase 2 clinical trial for ITP was conducted inhighly refractory patients, as opposed to treatment-naive patients. If efficacyis not demonstrated among treatment-naive patients, any approved indication forITP will be limited to a subset of the patient population. Furthermore, we planto continue to conduct corporate partnership discussions with respect toR788.  If we are able to enter into acollaboration for R788 and initiate a Phase 3 clinical trial evaluating R788 inRA patients, the Phase 3 clinical trial may not show R788 to be safe andeffective for the treatment of RA patients. Finally, with respect to our owncompounds in development, we have established anticipated timelines withrespect to the initiation or completion of clinical studies based on existingknowledge of the compound. However, we cannot provide assurance that we willmeet any of these timelines for clinical development.

 

Because of theuncertainty of whether the accumulated preclinical evidence (pharmacokinetic,pharmacodynamic, safety and/or other factors) or early clinical results will beobserved in later clinical trials, we can make no assurances regarding thelikely results from our future clinical trials or the impact of those resultson our business.

 

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**We might not be able to commercialize our product candidatessuccessfully if problems arise in the clinical testing and approval process.**

 

Commercializationof our product candidates depends upon successful completion of extensivepreclinical studies and clinical trials to demonstrate their safety andefficacy for humans. Preclinical testing and clinical development are long,expensive and uncertain processes.

 

Inconnection with clinical trials of our product candidates, we face the risks that:

 

·      the product candidate may notprove to be effective;

 

·      we may discover that aproduct candidate may cause harmful side effects;

 

·      the results may not replicatethe results of earlier, smaller trials;

 

·      we or the FDA or similarforeign regulatory authorities may suspend the trials;

 

·      the results may not bestatistically significant;

 

·      patient recruitment may beslower than expected;

 

·      patients may drop out of thetrials; and

 

·      regulatory requirements maychange.

 

Wedo not know whether we, or any of our collaborative partners, will be permittedto undertake clinical trials of potential products beyond the trials alreadyconcluded and the trials currently in process. It will take us, or ourcollaborative partners several years to complete any such testing, and failurecan occur at any stage of testing. Interim results of trials do not necessarilypredict final results, and acceptable results in early trials may not berepeated in later trials. A number of companies in the pharmaceutical industry,including biotechnology companies, have suffered significant setbacks inadvanced clinical trials, even after achieving promising results in earliertrials. Moreover, we or our collaborative partners or regulators may decide todiscontinue development of any or all of these projects at any time forcommercial, scientific or other reasons.

 

**Delays in clinical testing could result in increased costs tous.***

 

Significant delays inclinical testing could materially impact our product development costs and timing.We do not know whether planned clinical trials will begin on time, will need tobe halted or redesigned or will be completed on schedule, or at all. Forexample, we do not expect to initiate Phase 3 clinical trials for R788 in RAprior to entering into a collaboration agreement with a third party for R788.Accordingly, the timing of Phase 3 clinical trials for R788 in RA is dependenton our ability to enter into such a collaboration agreement, and, if enteredinto, the terms of such collaboration agreement, including those governing thedesign of the clinical trial, as well as the amount and timing of resourcesthat a collaborative partner devotes to R788. In addition, clinical trials canbe delayed for a variety of reasons, including delays in obtaining regulatoryapproval to commence a study, delays from scaling up of a study, delays inreaching agreement on acceptable clinical study agreement terms withprospective clinical sites, delays in obtaining institutional review boardapproval to conduct a study at a prospective clinical site or delays inrecruiting subjects to participate in a study.

 

In addition, we typicallyrely on third-party clinical investigators to conduct our clinical trials andother third-party organizations to oversee the operations of such trials and toperform data collection and analysis. The clinical investigators are not ouremployees, and we cannot control the amount or timing of resources that theydevote to our programs. Failure of the third-party organizations to meet theirobligations could adversely affect clinical development of our products. As aresult, we may face additional delaying factors outside our control if theseparties do not perform their obligations in a timely fashion. While we have notyet experienced delays that have materially impacted our clinical trials orproduct development costs, delays of this sort could occur for the reasonsidentified above or other reasons. If we have delays in testing or obtainingregulatory approvals, our product development costs will increase. For example,we may need to make additional payments to third-party investigators andorganizations to retain their services or we may need to pay recruitmentincentives. If the delays are significant, our financial results and the commercialprospects for our product candidates will be harmed, and our ability to becomeprofitable will be delayed. Moreover, these third-party investigators andorganizations may also have relationships with other commercial entities, someof which may compete with us. If these third-party investigators andorganizations assist our competitors at our expense, it could harm ourcompetitive position.

 

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**We lack the capability to manufacture compounds fordevelopment and rely on third parties to manufacture our product candidates,and we may be unable to obtain required material in a timely manner, at anacceptable cost or at a quality level required to receive regulatory approval.***

 

We currently do not havethe manufacturing capabilities or experience necessary to produce our productcandidates for clinical testing, including R788.  For each clinical trial of our unpartneredproduct candidates, we rely on a sole manufacturer for the activepharmaceutical ingredients, as well as various manufacturers to manufacturestarting components, excipients and formulated drug products. We rely onmanufacturers to produce and deliver all of the materials required for ourclinical trials, and many of our preclinical efforts, on a timely basis and tocomply with applicable regulatory requirements, including the FDA’s currentGood Manufacturing Practices, or cGMP. In addition, we rely on our suppliers todeliver sufficient quantities of materials produced under cGMP conditions toenable us to conduct planned preclinical studies and clinical trials.

 

Our current andanticipated future dependence upon these third-party manufacturers may adverselyaffect our ability to develop and commercialize product candidates on a timelyand competitive basis. These manufacturers may not be able to produce materialon a timely basis or manufacture material at the quality level or in thequantity required to meet our development timelines and applicable regulatoryrequirements and may also experience a shortage in qualified personnel. We maynot be able to maintain or renew our existing third-party manufacturingarrangements, or enter into new arrangements, on acceptable terms, or at all.Our third-party manufacturers could terminate or decline to renew ourmanufacturing arrangements based on their own business priorities, at a timethat is costly or inconvenient for us. If we are unable to contract for the productionof materials in sufficient quantity and of sufficient quality on acceptableterms, our planned clinical trials may be significantly delayed. Manufacturingdelays could postpone the filing of our investigational new drug, or IND,applications and/or the initiation of clinical trials that we have currentlyplanned.

 

Drug manufacturers aresubject to ongoing periodic unannounced inspection by the FDA, the DrugEnforcement Administration, and other federal and state agencies to ensurestrict compliance with cGMP and other government regulations and correspondingforeign standards. We do not have control over third-party manufacturers’compliance with these regulations and standards and they may not be able tocomply. Switching manufacturers may be difficult because the number ofpotential manufacturers is limited. It may be difficult or impossible for us tofind a replacement manufacturer quickly on acceptable terms, or at all.Additionally, if we are required to enter into new supply arrangements, we maynot be able to obtain approval from the FDA of any alternate supplier in atimely manner, or at all, which could delay or prevent the clinical developmentand commercialization of any related product candidates. Failure of ourthird-party manufacturers or us to comply with applicable regulations couldresult in sanctions being imposed on us, including fines, civil penalties,delays in or failure to grant marketing approval of our product candidates,injunctions, delays, suspension or withdrawal of approvals, license revocation,seizures or recalls of products and compounds, operating restrictions andcriminal prosecutions, any of which could significantly and adversely affectour business.

 

**Because we expect to be dependent upon collaborative andlicense agreements, we might not meet our strategic objectives.***

 

Our ability to generaterevenue in the near term depends on our ability to enter into additionalcollaborative agreements with third parties, including in particular withrespect to R788, and to maintain the agreements we currently have in place. Ourability to enter into new collaborations and the revenue, if any, that may berecognized under these collaborations is highly uncertain. If we are unable toenter into one or more new collaborations, our business prospects could beharmed, which could have an immediate adverse effect on our ability to continueto develop our compounds, including R788, and on the trading price of ourstock. Our ability to enter into a collaboration may be dependent on many factors,such as the results of our clinical trials, competitive factors and the fit ofone of our programs with another company’s risk tolerance, including towardregulatory issues, patent portfolio, clinical pipeline, the stage of theavailable data, particularly if it is early, overall corporate goals andfinancial position.

 

To date, most of ourrevenues have been related to the research phase of each of our collaborativeagreements. Such revenues are for specified periods, and the impact of suchrevenues on our results of operations is partially offset by correspondingresearch costs. Following the completion of the research phase of eachcollaborative agreement, additional revenues may come only from milestonepayments and royalties, which may not be paid, if at all, until some time wellinto the future. This risk is heightened due to the fact that unsuccessfulresearch efforts may preclude us from receiving any milestone payments underthese agreements. Our receipt of revenues from collaborative arrangements isalso significantly affected by the timing of efforts expended by us and ourcollaborators and the timing of lead compound identification. We have receivedmilestone payments from our collaborations with Janssen Pharmaceutica N.V., adivision of Johnson & Johnson, Novartis Pharma AG, or Novartis,Daiichi Pharmaceuticals Co., Ltd., or Daiichi, Merck & Co., Inc.,or Merck, Merck Serono and Pfizer. Under many agreements, however, milestonepayments may not be earned until the collaborator has advanced productcandidates into clinical testing, which may never occur or may not occur untilsome time well into the future. For example, we have not received any milestonepayments from our collaborators since 2007. If we are not able to generaterevenue under our collaborations when and in accordance with our expectationsor the expectations of industry analysts, this failure could harm our businessand have an immediate adverse effect on the trading price of our common stock.

 

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Our business requires usto generate meaningful revenue from royalties and licensing agreements. Todate, we have not received any revenue from royalties for the commercial saleof drugs, and we do not know when we will receive any such revenue, if at all.Likewise, other than in connection with our collaborations, we have notlicensed any lead compounds or drug development candidates to third parties,and we do not know whether any such license will be entered into on acceptableterms in the future, if at all.

 

**If our corporate collaborations or license agreements areunsuccessful, our research and development efforts could be delayed.***

 

Our strategy depends upon the formation and sustainability of multiplecollaborative arrangements and license agreements with third parties in thefuture. We rely on these arrangements for not only financial resources, butalso for expertise that we expect to need in the future relating to clinicaltrials, manufacturing, sales and marketing, and for licenses to technologyrights. To date, we have entered into several such arrangements with corporatecollaborators; however, we do not know if these collaborations or additionalthird parties with which we collaborate, if any, will dedicate sufficientresources or if any development or commercialization efforts by third partieswill be successful. Should a collaborative partner fail to develop orcommercialize a compound or product to which it has rights from us for anyreason, including corporate restructuring, such failure might delay our ongoingresearch and development efforts, because we might not receive any futuremilestone payments, and we would not receive any royalties associated with suchcompound or product. In addition, the continuation of some of our partnereddrug discovery and development programs may be dependent on the periodicrenewal of our corporate collaborations.

 

The research phase of our collaboration with Johnson & Johnsonended in 2003, and the research phases conducted at our facilities under ourbroad collaboration with Novartis ended in 2004. The research phase of ourcollaboration agreement with Daiichi ended in 2005. In 2004, we signed a newcollaboration agreement with Merck, and the research phase of thiscollaboration ended in May 2007. In 2005, we signed a new collaborationagreement with Pfizer, and the research phase of this collaboration ended in February 2007.Our collaboration agreement with Merck Serono, entered into in 2005, does notinclude a research phase. Each of our collaborations could be terminated by theother party at any time, and we may not be able to renew these collaborationson acceptable terms, if at all, or negotiate additional corporatecollaborations on acceptable terms, if at all. If these collaborationsterminate or are not renewed, any resultant loss of revenues from thesecollaborations or loss of the resources and expertise of our collaborativepartners could adversely affect our business.

 

Conflicts also might arise with collaborative partners concerningproprietary rights to particular compounds. While our existing collaborativeagreements typically provide that we retain milestone payments and royaltyrights with respect to drugs developed from certain derivative compounds, anysuch payments or royalty rights may be at reduced rates, and disputes may ariseover the application of derivative payment provisions to such drugs, and we maynot be successful in such disputes.

 

We are also a party tovarious license agreements that give us rights to use specified technologies inour research and development processes. The agreements pursuant to which wehave in-licensed technology permit our licensors to terminate the agreementsunder certain circumstances. If we are not able to continue to license theseand future technologies on commercially reasonable terms, our productdevelopment and research may be delayed or otherwise adversely affected.

 

**If conflicts arise between our collaborators or advisors andus, any of them may act in their self-interest, which may be adverse to ourstockholders’ interests.**

 

Ifconflicts arise between us and our corporate collaborators or scientificadvisors, the other party may act in its self-interest and not in the interestof our stockholders. Some of our corporate collaborators are conductingmultiple product development efforts within each disease area that is thesubject of the collaboration with us or may be acquired or merged with acompany having a competing program. In some of our collaborations, we haveagreed not to conduct, independently or with any third party, any research thatis competitive with the research conducted under our collaborations. Ourcollaborators, however, may develop, either alone or with others, products inrelated fields that are competitive with the products or potential productsthat are the subject of these collaborations. Competing products, eitherdeveloped by our collaborators or to which our collaborators have rights, mayresult in their withdrawal of support for our product candidates.

 

Ifany of our corporate collaborators were to breach or terminate its agreementwith us or otherwise fail to conduct the collaborative activities successfullyand in a timely manner, the preclinical or clinical development orcommercialization of the affected product candidates or research programs couldbe delayed or terminated. We generally do not control the amount and timing ofresources that our corporate collaborators devote to our programs or potentialproducts. We do not know whether current or future collaborative partners, ifany, might pursue alternative technologies or develop alternative productseither on their own or in collaboration with others, including our competitors,as a means for developing treatments for the diseases targeted by collaborativearrangements with us.

 

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**Our success is dependent on intellectual property rights heldby us and third parties, and our interest in such rights is complex anduncertain.***

 

Our success will dependto a large part on our own, our licensees’ and our licensors’ ability to obtainand defend patents for each party’s respective technologies and the compoundsand other products, if any, resulting from the application of suchtechnologies. We have over 110 pending patent applications and over 155 issuedpatents in the United States as well as numerous pending corresponding foreignpatent applications. In the future, our patent position might be highlyuncertain and involve complex legal and factual questions. For example, we maybe involved in interferences before the United States Patent and TrademarkOffice. Interferences are complex and expensive legal proceedings and there isno assurance we will be successful in any such proceedings. An interferencecould result in our losing our patent rights and/or our freedom to operate and/orrequire us to pay significant royalties. Additional uncertainty may resultbecause no consistent policy regarding the breadth of legal claims allowed inbiotechnology patents has emerged to date. Accordingly, we cannot predict thebreadth of claims allowed in our or other companies’ patents.

 

Because the degree offuture protection for our proprietary rights is uncertain, we cannot ensurethat:

 

·      we were the first to make the inventions covered byeach of our pending patent applications;

 

·      we were the first to file patent applications forthese inventions;

 

·      others will not independently develop similar oralternative technologies or duplicate any of our technologies;

 

·      any of our pending patent applications will result inissued patents;

 

·      any patents issued to us or our collaborators willprovide a basis for commercially-viable products or will provide us with anycompetitive advantages or will not be challenged by third parties;

 

·      we will develop additional proprietary technologiesthat are patentable; or

 

·      the patents of others will not have a negative effecton our ability to do business.

 

We rely on trade secretsto protect technology where we believe patent protection is not appropriate orobtainable; however, trade secrets are difficult to protect. While we requireemployees, collaborators and consultants to enter into confidentialityagreements, we may not be able to adequately protect our trade secrets or otherproprietary information in the event of any unauthorized use or disclosure or thelawful development by others of such information.

 

We are a party to certainin-license agreements that are important to our business, and we generally donot control the prosecution of in-licensed technology. Accordingly, we areunable to exercise the same degree of control over this intellectual propertyas we exercise over our internally-developed technology. Moreover, some of ouracademic institution licensors, research collaborators and scientific advisorshave rights to publish data and information in which we have rights. If wecannot maintain the confidentiality of our technology and other confidentialinformation in connection with our collaborations, our ability to receivepatent protection or protect our proprietary information may otherwise be impaired.In addition, some of the technology we have licensed relies on patentedinventions developed using U.S. government resources. The U.S. governmentretains certain rights, as defined by law, in such patents, and may choose toexercise such rights. Certain of our in-licenses may be terminated if we failto meet specified obligations. If we fail to meet such obligations and any ofour licensors exercise their termination rights, we could lose our rights underthose agreements. If we lose any of our rights, it may adversely affect the waywe conduct our business. In addition, because certain of our licenses aresublicenses, the actions of our licensors may affect our rights under thoselicenses.

 

**If a dispute arises regarding the infringement or misappropriationof the proprietary rights of others, such dispute could be costly and result indelays in our research and development activities and partnering.**

 

Oursuccess will depend, in part, on our ability to operate without infringing ormisappropriating the proprietary rights of others. There are many issuedpatents and patent applications filed by third parties relating to products orprocesses that are similar or identical to our licensors or ours, and othersmay be filed in the future. There can be no assurance that our activities, orthose of our licensors, will not infringe patents owned by others. We believethat there may be significant litigation in the industry regarding patent andother intellectual property rights, and we do not know if our collaborators orwe would be successful in any such litigation. Any legal action against ourcollaborators or us claiming damages or seeking to enjoin commercial activitiesrelating to the affected products, our methods or processes could:

 

·      require our collaborators orus to obtain a license to continue to use, manufacture or market the affectedproducts, methods or processes, which may not be available on commerciallyreasonable terms, if at all;

 

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·      prevent us from using thesubject matter claimed in the patents held by others;

 

·      subject us to potentialliability for damages;

 

·      consume a substantial portionof our managerial and financial resources; and

 

·      result in litigation oradministrative proceedings that may be costly, whether we win or lose.

 

**The restructuring of our research programs could result inmanagement distractions, operational disruptions and other difficulties.**

 

In February 2009, weannounced that we cut our research programs in virology and oncology, as wellas terminated certain related development and administrative staff, whichresulted in the dismissal of 36 employees, or approximately 20% of ourworkforce. Employees whose positions were eliminated in connection with thisreduction may seek future employment with our competitors. Although allemployees are required to sign a confidentiality agreement with us at the timeof hire, we cannot assure you that the confidential nature of our proprietaryinformation will be maintained in the course of such future employment. Anyadditional restructuring efforts could divert the attention of our managementaway from our operations, harm our reputation and increase our expenses. Wecannot assure you that we will not undertake additional restructuringactivities, that any of our restructuring efforts will be successful, or thatwe will be able to realize the cost savings and other anticipated benefits fromour previous or future restructuring plans. In addition, if we reduce ourworkforce further in the future, it may adversely impact our ability tocontinue to develop our product candidates.

 

**If we are unable to obtain regulatory approval to marketproducts in the United States and foreign jurisdictions, we will not bepermitted to commercialize products from our research and development.***

 

Due,in part, to the early stage of our product candidate research and developmentprocess, we cannot predict whether regulatory clearance will be obtained forany product that we, or our collaborative partners, hope to develop.Satisfaction of regulatory requirements typically takes many years, isdependent upon the type complexity and novelty of the product and requires theexpenditure of substantial resources. Of particular significance to us are therequirements relating to research and development and testing.

 

Beforecommencing clinical trials in humans in the United States, we, or ourcollaborative partners, will need to submit and receive approval from the FDAof an IND. Clinical trials are subject to oversight by institutional reviewboards and the FDA and:

 

·      must be conducted inconformance with the FDA’s good clinical practices and other applicableregulations;

 

·      must meet requirements forinstitutional review board oversight;

 

·      must meet requirements forinformed consent;

 

·      are subject to continuing FDAoversight;

 

·      may require large numbers oftest subjects; and

 

·      may be suspended by us, ourcollaborators or the FDA at any time if it is believed that the subjectsparticipating in these trials are being exposed to unacceptable health risks orif the FDA finds deficiencies in the IND or the conduct of these trials.

 

Whilewe have stated that we intend to file additional INDs, this is only a statementof intent, and we may not be able to do so because we may not be able toidentify potential product candidates. In addition, the FDA may not approve anyIND in a timely manner, or at all.

 

Before receiving FDA approvalto market a product, we must demonstrate with substantial clinical evidencethat the product is safe and effective in the patient population and theindication that will be treated. Data obtained from preclinical and clinicalactivities are susceptible to varying interpretations that could delay, limitor prevent regulatory approvals. In addition, delays or rejections may beencountered based upon additional government regulation from future legislationor administrative action or changes in FDA policy during the period of productdevelopment, clinical trials and FDA regulatory review. Failure to comply withapplicable FDA or other applicable regulatory requirements may result incriminal prosecution, civil penalties, recall or seizure of products, total orpartial suspension of production or injunction, adverse publicity, as well asother regulatory action against our 

 

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potential products or us.Additionally, we have limited experience in conducting and managing theclinical trials necessary to obtain regulatory approval.

 

If regulatory approval ofa product is granted, this approval will be limited to those indications ordisease states and conditions for which the product is demonstrated throughclinical trials to be safe and efficacious. We cannot ensure that any compounddeveloped by us, alone or with others, will prove to be safe and efficacious inclinical trials and will meet all of the applicable regulatory requirementsneeded to receive marketing approval.

 

Outside the UnitedStates, our ability, or that of our collaborative partners, to market a productis contingent upon receiving a marketing authorization from the appropriateregulatory authorities. This foreign regulatory approval process typicallyincludes all of the risks and costs associated with FDA approval describedabove and may also include additional risks and costs.

 

**If our competitors develop technologies that are moreeffective than ours, our commercial opportunity will be reduced or eliminated.**

 

Thebiotechnology and pharmaceutical industries are intensely competitive andsubject to rapid and significant technological change. Many of the drugs thatwe are attempting to discover will be competing with existing therapies. Inaddition, a number of companies are pursuing the development of pharmaceuticalsthat target the same diseases and conditions that we are targeting. We face,and will continue to face, intense competition from pharmaceutical andbiotechnology companies, as well as from academic and research institutions andgovernment agencies, both in the United States and abroad. Some of thesecompetitors are pursuing the development of pharmaceuticals that target thesame diseases and conditions as our research programs. Our major competitorsinclude fully integrated pharmaceutical companies that have extensive drugdiscovery efforts and are developing novel small molecule pharmaceuticals. Wealso face significant competition from organizations that are pursuing the sameor similar technologies, including the discovery of targets that are useful incompound screening, as the technologies used by us in our drug discoveryefforts.

 

Competitionmay also arise from:

 

·      new or better methods oftarget identification or validation;

 

·      other drug developmenttechnologies and methods of preventing or reducing the incidence of disease;

 

·      new small molecules; or

 

·      other classes of therapeuticagents.

 

Ourcompetitors or their collaborative partners may utilize discovery technologiesand techniques or partner with collaborators in order to develop products morerapidly or successfully than we or our collaborators are able to do. Many ofour competitors, particularly large pharmaceutical companies, havesubstantially greater financial, technical and human resources and largerresearch and development staffs than we do. In addition, academic institutions,government agencies and other public and private organizations conductingresearch may seek patent protection with respect to potentially competitiveproducts or technologies and may establish exclusive collaborative or licensingrelationships with our competitors.

 

Webelieve that our ability to compete is dependent, in part, upon our ability tocreate, maintain and license scientifically-advanced technology and upon ourand our collaborators’ ability to develop and commercialize pharmaceuticalproducts based on this technology, as well as our ability to attract and retainqualified personnel, obtain patent protection or otherwise develop proprietarytechnology or processes and secure sufficient capital resources for theexpected substantial time period between technological conception andcommercial sales of products based upon our technology. The failure by any ofour collaborators or us in any of those areas may prevent the successfulcommercialization of our potential drug targets.

 

Manyof our competitors, either alone or together with their collaborative partners,have significantly greater experience than we do in:

 

·      identifying and validatingtargets;

 

·      screening compounds againsttargets; and

 

·      undertaking preclinicaltesting and clinical trials.

 

Accordingly,our competitors may succeed in obtaining patent protection, identifying orvalidating new targets or discovering new drug compounds before we do.

 

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Our competitors might develop technologies and drugsthat are more effective or less costly than any that are being developed by usor that would render our technology and product candidates obsolete andnoncompetitive. In addition, our competitors may succeed in obtaining theapproval of the FDA or other regulatory agencies for product candidates morerapidly. Companies that complete clinical trials, obtain required regulatoryagency approvals and commence commercial sale of their drugs before theircompetitors may achieve a significant competitive advantage, including certainpatent and FDA marketing exclusivity rights that would delay or prevent ourability to market certain products. Any drugs resulting from our research anddevelopment efforts, or from our joint efforts with our existing or futurecollaborative partners, might not be able to compete successfully withcompetitors’ existing or future products or obtain regulatory approval in theUnited States or elsewhere.

 

We face and will continue toface intense competition from other companies for collaborative arrangementswith pharmaceutical and biotechnology companies, for establishing relationshipswith academic and research institutions and for licenses to additionaltechnologies. These competitors, either alone or with their collaborativepartners, may succeed in developing technologies or products that are moreeffective than ours.

 

**Our ability to generate revenues will be diminished ifour collaborative partners fail to obtain acceptable prices or an adequatelevel of reimbursement for products from third-party payors or governmentagencies.**

 

The drugs we hope to developmay be rejected by the marketplace due to many factors, including cost. Ourability to commercially exploit a drug may be limited due to the continuingefforts of government and third-party payors to contain or reduce the costs ofhealth care through various means. For example, in some foreign markets,pricing and profitability of prescription pharmaceuticals are subject togovernment control. In the United States, we expect that there will continue tobe a number of federal and state proposals to implement similar governmentcontrol. In addition, increasing emphasis on managed care in the United Stateswill likely continue to put pressure on the pricing of pharmaceutical products.Cost control initiatives could decrease the price that any of our collaboratorswould receive for any products in the future. Further, cost control initiativescould adversely affect our collaborators’ ability to commercialize our productsand our ability to realize royalties from this commercialization.

 

Our ability to commercializepharmaceutical products with collaborators may depend, in part, on the extentto which reimbursement for the products will be available from:

 

·      government and health administration authorities;

 

·      private health insurers; and

 

·      other third-party payors.

 

Significant uncertaintyexists as to the reimbursement status of newly-approved healthcare products.Third-party payors, including Medicare, are challenging the prices charged formedical products and services. Government and other third-party payorsincreasingly are attempting to contain healthcare costs by limiting bothcoverage and the level of reimbursement for new drugs and by refusing, in somecases, to provide coverage for uses of approved products for diseaseindications for which the FDA has not granted labeling approval. Third-partyinsurance coverage may not be available to patients for any products wediscover and develop, alone or with collaborators. If government and otherthird-party payors do not provide adequate coverage and reimbursement levelsfor our products, the market acceptance of these products may be reduced.

 

**If product liability lawsuits are successfully broughtagainst us, we may incur substantial liabilities and may be required to limitcommercialization of our products.***

 

The testing and marketing of medical products entailan inherent risk of product liability. If we cannot successfully defendourselves against product liability claims, we may incur substantialliabilities or be required to limit commercialization of our products. We carryproduct liability insurance that is limited in scope and amount and may not beadequate to fully protect us against product liability claims. Our inability toobtain sufficient product liability insurance at an acceptable cost to protectagainst potential product liability claims could prevent or inhibit thecommercialization of pharmaceutical products we develop, alone or withcorporate collaborators. We, or our corporate collaborators, might not be ableto obtain insurance at a reasonable cost, if at all. While under variouscircumstances we are entitled to be indemnified against losses by our corporatecollaborators, indemnification may not be available or adequate should anyclaim arise.

 

**Our research and development efforts will be seriouslyjeopardized, if we are unable to attract and retain key employees andrelationships.**

 

As a small company, oursuccess depends on the continued contributions of our principal management andscientific personnel and on our ability to develop and maintain importantrelationships with leading academic institutions, scientists and companies inthe face of intense competition for such personnel. In particular, our researchprograms depend on our ability to attract and retain highly skilled chemists,other scientists, and development, regulatory and clinical personnel. If welose the services of any of our key personnel, our research and developmentefforts could be seriously and adversely affected. Our employees can terminatetheir employment with us at any time.

 

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**We depend on various scientific consultants andadvisors for the success and continuation of our research and developmentefforts.**

 

We work extensively withvarious scientific consultants and advisors. The potential success of our drugdiscovery and development programs depends, in part, on continuedcollaborations with certain of these consultants and advisors. We, and variousmembers of our management and research staff, rely on certain of theseconsultants and advisors for expertise in our research, regulatory and clinicalefforts. Our scientific advisors are not our employees and may have commitmentsto, or consulting or advisory contracts with, other entities that may limittheir availability to us. We do not know if we will be able to maintain suchconsulting agreements or that such scientific advisors will not enter intoconsulting arrangements, exclusive or otherwise, with competing pharmaceuticalor biotechnology companies, any of which would have a detrimental impact on ourresearch objectives and could have a material adverse effect on our business,financial condition and results of operations.

 

**If we use biological and hazardous materials in amanner that causes injury or violates laws, we may be liable for damages.**

 

Our research and developmentactivities involve the controlled use of potentially harmful biologicalmaterials as well as hazardous materials, chemicals and various radioactivecompounds. We cannot completely eliminate the risk of accidental contaminationor injury from the use, storage, handling or disposal of these materials. Inthe event of contamination or injury, we could be held liable for damages thatresult, and such liability could exceed our resources. We are also subject tofederal, state and local laws and regulations governing the use, storage,handling and disposal of these materials and specified waste products. The costof compliance with, or any potential violation of, these laws and regulationscould be significant.

 

**Our facilities are located near known earthquake faultzones, and the occurrence of an earthquake or other catastrophic disaster couldcause damage to our facilities and equipment, which could require us to ceaseor curtail operations.**

 

Our facilities are located inthe San Francisco Bay Area near known earthquake fault zones and are vulnerableto significant damage from earthquakes. We are also vulnerable to damage fromother types of disasters, including fires, floods, power loss, communicationsfailures and similar events. If any disaster were to occur, our ability tooperate our business at our facilities would be seriously, or potentiallycompletely, impaired, and our research could be lost or destroyed. In addition,the unique nature of our research activities and of much of our equipment couldmake it difficult for us to recover from a disaster. The insurance we maintainmay not be adequate to cover our losses resulting from disasters or otherbusiness interruptions.

 

**Future interest income and value of our investments maybe impacted by further declines in interest rates and the broader effects ofthe recent turmoil in the global credit markets.**

 

Recently, the credit marketsand the financial services industry have been experiencing a period ofunprecedented turmoil and upheaval. As a result of this turmoil, the interestpaid on certain of our investments may decrease and the value of certainsecurities we hold may decline in the future, which could negatively affect ourfinancial condition, cash flow and reported earnings.

 

**We have been named a defendant in a purportedsecurities class action lawsuit. This, and potential similar or relatedlitigation, could result in substantial damages and may divert management’stime and attention from our business.***

 

On February 6, 2009, a purported securities classaction lawsuit was commenced in the United States District Court for theNorthern District of California, naming as defendants us, certain of ourofficers and directors, and the underwriters for our February 2008 stockoffering. An additional purported securities class action lawsuit containingsimilar allegations was subsequently filed in the United States District Courtfor the Northern District of California on February 20, 2009.  Byorder of the Court dated March 19, 2009, the two lawsuits wereconsolidated into a single action.  On June 9, 2009, the Court issuedan order naming the Inter-Local Pension Fund GCC/IBT as lead plaintiff. Thelead plaintiff filed an amended complaint on July 24, 2009.  Thelawsuit alleges violations of the Securities Act of 1933 and the SecuritiesExchange Act of 1934 in connection with allegedly false and misleadingstatements made by us related to the results of the Phase 2a clinical trial ofour product candidate R788. The plaintiff seeks damages, including rescissionor rescissory damages for purchasers in the stock offering, an award of theircosts and injunctive and/or equitable relief for purchasers of our common stockduring the period between December 13, 2007 and February 3, 2009,including purchasers in the February 2008 stock offering. We filed amotion to dismiss these claims on September 8, 2009, and a hearing on thatmotion is set for December 4, 2009. It is possible that additional suits will be filed with respect to thesesame matters and also naming us and/or our officers and directors asdefendants. If any such additional suits are filed in the same court, webelieve that they would be consolidated into the consolidated action.

 

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We believe that we havemeritorious defenses and intend to defend the lawsuit vigorously. This lawsuitand any other related lawsuits are subject to inherent uncertainties, and theactual costs to be incurred relating to the lawsuit will depend upon manyunknown factors. The outcome of the litigation is necessarily uncertain, and wecould be forced to expend significant resources in the defense of this suit,and we may not prevail. Monitoring and defending against legal actions istime-consuming for our management and detracts from our ability to fully focusour internal resources on our business activities. In addition, we may incursubstantial legal fees and costs in connection with the litigation. We are notcurrently able to estimate the possible cost to us from this matter, as thislawsuit is currently at an early stage and we cannot be certain how long it maytake to resolve this matter or the possible amount of any damages that we maybe required to pay. We have not established any reserves for any potentialliability relating to this lawsuit. It is possible that we could, in thefuture, incur judgments or enter into settlements of claims for monetarydamages. A decision adverse to our interests on this action could result in thepayment of substantial damages, or possibly fines, and could have a materialadverse effect on our cash flow, results of operations and financial position.In addition, the uncertainty of the currently pending litigation could lead toincreased volatility in our stock price.

 

**Our stock price may be volatile, and our stockholders’investment in our stock could decline in value.***

 

Themarket prices for our common stock and the securities of other biotechnologycompanies have been highly volatile and may continue to be highly volatile inthe future. The following factors, in addition to other risk factors describedin this section, may have a significant impact on the market price of ourcommon stock:

 

·      our ability to establish newcollaborations and the terms thereof;

 

·      the progress and success ofclinical trials and preclinical activities (including studies and manufactureof materials) of our product candidates conducted by us or our collaborativepartners or licensees;

 

·      the receipt or failure toreceive the additional funding necessary to conduct our business;

 

·      selling by largestockholders;

 

·      presentations of detailedclinical trial data at medical and scientific conferences and investorperception thereof;

 

·      announcements oftechnological innovations or new commercial products by our competitors or us;

 

·      developments concerningproprietary rights, including patents;

 

·      developments concerning ourcollaborations;

 

·      publicity regarding actual orpotential medical results relating to products under development by ourcompetitors or us;

 

·      regulatory developments inthe United States and foreign countries;

 

·      litigation;

 

·      economic and other externalfactors or other disaster or crisis; and

 

·      period-to-period fluctuationsin financial results.

 

**Future equity issuances or a sale of a substantial number ofshares of our common stock may cause the price of our common stock to decline.**

 

Becausewe may need to raise additional capital in the future to continue to expand ourbusiness and our research and development activities, among other things, wemay conduct additional equity offerings. If we or our stockholders sellsubstantial amounts of our common stock (including shares issued upon theexercise of options and warrants) in the public market, the market price of ourcommon stock could fall. A decline in the market price of our common stock couldmake it more difficult for us to sell equity or equity-related securities inthe future at a time and price that we deem appropriate.

 

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**Anti-takeover provisions in our charter documents and underDelaware law may make an acquisition of us, which may be beneficial to ourstockholders, more difficult.**

 

Provisionsof our amended and restated certificate of incorporation and bylaws, as well asprovisions of Delaware law, could make it more difficult for a third party toacquire us, even if doing so would benefit our stockholders. These provisions:

 

·      establish that members of theboard of directors may be removed only for cause upon the affirmative vote ofstockholders owning a majority of our capital stock;

 

·      authorize the issuance of“blank check” preferred stock that could be issued by our board of directors toincrease the number of outstanding shares and thwart a takeover attempt;

 

·      limit who may call a specialmeeting of stockholders;

 

·      prohibit stockholder actionby written consent, thereby requiring all stockholder actions to be taken at ameeting of our stockholders;

 

·      establish advance noticerequirements for nominations for election to the board of directors or forproposing matters that can be acted upon at stockholder meetings;

 

·      provide for a board ofdirectors with staggered terms; and

 

·      provide that the authorizednumber of directors may be changed only by a resolution of our board ofdirectors.

 

Inaddition, Section 203 of the Delaware General Corporation Law, whichimposes certain restrictions relating to transactions with major stockholders,may discourage, delay or prevent a third party from acquiring us.

 

**Item 6.****   ****Exhibits**

 

Theexhibits listed on the accompanying index to exhibits are filed or incorporatedby reference (as stated therein) as part of this Quarterly Report on Form 10-Q.

 
| **Exhibit  Number** | ** ** | **Description of Document**                                                                                                                                                            |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **          | ** ** | ** **                                                                                                                                                                                       |
| 3.1                 |       | Amended and Restated Certificate of Incorporation. (1)                                                                                                                                           |
|                |       |                                                                                                                                                                                             |
| 3.2                 |       | Amended and Restated Bylaws. (2)                                                                                                                                                                 |
|                |       |                                                                                                                                                                                             |
| 4.1                 |       | Form of warrant to purchase shares of common stock.  (3)                                                                                                                                    |
|                |       |                                                                                                                                                                                             |
| 4.2                 |       | Specimen Common Stock Certificate. (4)                                                                                                                                                           |
|                |       |                                                                                                                                                                                             |
| 4.3                 |       | Warrant issued to HCP BTC, LLC for the purchase of shares  of common stock. (5)                                                                                                                  |
|                |       |                                                                                                                                                                                             |
| 10.7A               |       | Amendment No. Two to Build-to-Suit Lease between the  Company and Slough BTC, LLC, dated January 31, 2005.                                                                             |
|                |       |                                                                                                                                                                                             |
| 10.7B               |       | Amendment No. Three to Build-to-Suit Lease between  the Company and Slough BTC, LLC dated July 24, 2006.                                                                               |
|                |       |                                                                                                                                                                                             |
| 15.1                |       | Letter regarding unaudited interim financial information.                                                                                                                                        |
|                |       |                                                                                                                                                                                             |
| 31.1                |       | Certification required by Rule 13a-14(a) or  Rule 15d-14(a) of the Exchange Act.                                                                                             |
|                |       |                                                                                                                                                                                             |
| 31.2                |       | Certification required by Rule 13a-14(a) or  Rule 15d-14(a) of the Exchange Act.                                                                                             |
|                |       |                                                                                                                                                                                             |
| 32.1                |       | Certification required by Rule 13a-14(b) or  Rule 15d-14(b) of the Exchange Act and Section 1350 of Chapter  63 of Title 18 of the United States Code (18 U.S.C. 1350). |

 

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| (1)    |   | Filed as an exhibit to Rigel’s Current Report on  Form 8-K filed on June 24, 2003 and incorporated herein by  reference.                        |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                           |
| (2)    |   | Filed as an exhibit to Rigel’s  Current Report on Form 8-K filed on February 2, 2007 and  incorporated herein by reference.                     |
|   |   |                                                                                                                                                           |
| (3)    |   | Filed as an exhibit to Rigel’s  Registration Statement on Form S-1 (No. 333-45864), as amended, and  incorporated herein by reference.          |
|   |   |                                                                                                                                                           |
| (4)    |   | Filed as an exhibit to Rigel’s  Current Report on Form 8-K (No. 000-29889) filed on June 24,  2003, and incorporated herein by reference.  |
|   |   |                                                                                                                                                           |
| (5)    |   | Filed as an exhibit to Rigel’s  Quarterly Report on Form 10-Q (No. 000-29889) filed on May 5,  2009, and incorporated herein by reference. |

 

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** **

**SIGNATURES**

** **

Pursuant to the requirements of the Securities Exchange Actof 1934, as amended, the registrant has duly caused this report to be signed onits behalf by the undersigned, thereunto duly authorized.

 
|   | RIGEL PHARMACEUTICALS, INC.  |
|--------|------------------------------|
|   |                         |   |
|   | By:                          | /s/ JAMES M. GOWER |
|   |                         | James M. Gower |
|   |                         | Chief Executive Officer |
|   |                         | (Principal Executive Officer) |
|   |                         |   |
|   | Date: November 3,  2009 |
|   |                         |   |
|   | By:                          | /s/ RYAN D. MAYNARD |
|   |                         | Ryan D. Maynard |
|   |                         | Vice President and Chief Financial Officer |
|   |                         | (Principal Financial and Accounting Officer) |
|   |                         |   |
|   | Date: November 3, 2009  |

 

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** **

**INDEX TOEXHIBITS**

 
| **Exhibit  Number** | ** ** | **Description of Document**                                                                                                                                                            |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |       | Amended and Restated Certificate of Incorporation. (1)                                                                                                                                           |
|                |       |                                                                                                                                                                                             |
| 3.2                 |       | Amended and Restated Bylaws. (2)                                                                                                                                                                 |
|                |       |                                                                                                                                                                                             |
| 4.1                 |       | Form of warrant to purchase shares of common stock.  (3)                                                                                                                                    |
|                |       |                                                                                                                                                                                             |
| 4.2                 |       | Specimen Common Stock Certificate. (4)                                                                                                                                                           |
|                |       |                                                                                                                                                                                             |
| 4.3                 |       | Warrant issued to HCP BTC, LLC for the purchase of shares  of common stock. (5)                                                                                                                  |
|                |       |                                                                                                                                                                                             |
| 10.7A               |       | Amendment No. Two to Build-to-Suit Lease between the  Company and Slough BTC, LLC, dated January 31, 2005.                                                                             |
|                |       |                                                                                                                                                                                             |
| 10.7B               |       | Amendment No. Three to Build-to-Suit Lease between  the Company and Slough BTC, LLC dated July 24, 2006.                                                                               |
|                |       |                                                                                                                                                                                             |
| 15.1                |       | Letter regarding unaudited interim financial information.                                                                                                                                        |
|                |       |                                                                                                                                                                                             |
| 31.1                |       | Certification required by Rule 13a-14(a) or  Rule 15d-14(a) of the Exchange Act.                                                                                             |
|                |       |                                                                                                                                                                                             |
| 31.2                |       | Certification required by Rule 13a-14(a) or  Rule 15d-14(a) of the Exchange Act.                                                                                             |
|                |       |                                                                                                                                                                                             |
| 32.1                |       | Certification required by Rule 13a-14(b) or  Rule 15d-14(b) of the Exchange Act and Section 1350 of Chapter  63 of Title 18 of the United States Code (18 U.S.C. 1350). |

 

----

| (1)    |   | Filed as an exhibit to Rigel’s Current Report on  Form 8-K filed on June 24, 2003 and incorporated herein by  reference.                        |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                           |
| (2)    |   | Filed as an exhibit to Rigel’s  Current Report on Form 8-K filed on February 2, 2007 and  incorporated herein by reference.                     |
|   |   |                                                                                                                                                           |
| (3)    |   | Filed as an exhibit to Rigel’s  Registration Statement on Form S-1 (No. 333-45864), as amended, and  incorporated herein by reference.          |
|   |   |                                                                                                                                                           |
| (4)    |   | Filed as an exhibit to Rigel’s  Current Report on Form 8-K (No. 000-29889) filed on June 24,  2003, and incorporated herein by reference.  |
|   |   |                                                                                                                                                           |
| (5)    |   | Filed as an exhibit to Rigel’s  Quarterly Report on Form 10-Q (No. 000-29889) filed on May 5,  2009, and incorporated herein by reference. |

 

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