** **

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C.20549**

** **

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** **

**FORM 10-Q**

** **

| **ý**                                   | **Quarterly  report pursuant to section 13 or 15(d) of the Securities Exchange Act of  1934 for the quarterly period ended:**                                                                                            |
|----------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                         |                                                                                                                                                                                                                          |
| **September 30, 2002**                       |
|                                         |                                                                                                                                                                                                                          |
| **o**                                        | **Transition  report pursuant to section 13 or 15(d) of the Securities Exchange Act of  1934 for the transition period from          to         ** |
|                                         |                                                                                                                                                                                                                          |
| **Commission File Number:   000-31145** |

 

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**VERSICOR INC.**

(Exact name of registrant as specified in itscharter)

 

| **Delaware**                                                    |   | **04-3278032**                           |
|-----------------------------------------------------------------|--------|------------------------------------------|
| (State or other jurisdiction  of incorporation or organization) |   | (I.R.S. Employer  Identification Number) |
|                                                            |   |                                     |
| **34790 Ardentech Court, Fremont, California 94555**            |
| (Address of principal executive offices)  (Zip Code)            |
|                                                            |
| **(510) 739-3000**                                              |
| (Registrant’s telephone number, including  area code)      |

 

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Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorterperiod that the registrant was required to file such report(s) and (2) hasbeen subject to such filing requirements for the past90 days. Yes ý  No o.

 

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

 

On November 7, 2002, there were 26,377,770 common shares outstanding ofthe registrant’s only class of common stock.

 

The Exhibit Index begins on page 35.

 

 

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**VERSICOR INC.**

**Quarterly Report on Form 10-Q**

**For the Nine Months Ended September 30, 2002**

 

**INDEX**

 

** **
| **PART I.**  | **FINANCIAL  INFORMATION**                                                                            |
|--------------|-------------------------------------------------------------------------------------------------------|
| **Item 1.**  | **Condensed  Financial Statements**                                                                   |
|         | Condensed Balance Sheets as of  September 30, 2002 and December 31, 2001 (Unaudited)                  |
|         | Statements of Operations for  the Three and Nine Months Ended September 30, 2002 and 2001 (Unaudited) |
|         | Statements of Cash Flows for  the Nine Months Ended September 30, 2002 and 2001 (Unaudited)           |
|         | Notes to Condensed  Financial Statements                                                              |
| **Item 2.**  | **Management’s Discussion and Analysis of  Financial Condition and Results of Operations**       |
| **Item 3.**  | **Quantitative and Qualitative Disclosures  About Market Risk**                                       |
| **Item 4.**  | **Controls and Procedures**                                                                           |
|         |                                                                                                  |
| **PART II.** | **OTHER  INFORMATION**                                                                                |
| **Item 1.**  | **Legal Proceedings**                                                                                 |
| **Item 2.**  | **Changes in Securities and Use of Proceeds**                                                         |
| **Item 3.**  | **Defaults upon Senior Securities**                                                                   |
| **Item 4.**  | **Submission of Matters to a Vote of Security  Holders**                                              |
| **Item 5.**  | **Other Information**                                                                                 |
| **Item 6.**  | **Exhibits and Reports on Form 8-K**                                                                  |
|         | **Signatures**                                                                                        |
|         | **Certifications**                                                                                    |
|         | **Exhibit Index**                                                                                     |

 

 

1

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**PART I****– FINANCIAL INFORMATION**

 

**ITEM 1****.  CONDENSEDFINANCIAL STATEMENTS**

 

**VERSICOR INC.**

**CONDENSEDBALANCE SHEETS**

(unaudited)

(inthousands)

 
|                                            |   | **September  30,  2002** |   | **December  31,  2001** |   |
|-------------------------------------------------|--------|--------------------------|--------|-------------------------|--------|
| **ASSETS**                                      |   |                     |   |                    |   |
| Current assets:                                 |   |                     |   |                    |   |
| Cash and cash equivalents                       |   | $                        | 35,914 |                    | $      | 31,349 |   |
| Marketable securities                           |   | 36,881                   |   | 32,419                  |   |
| Employee notes receivable                       |   | —                   |   | 13                      |   |
| Prepaid expenses and other current assets       |   | 1,916                    |   | 1,624                   |   |
| Total current assets                            |   | 74,711                   |   | 65,405                  |   |
| Property and equipment, net                     |   | 4,869                    |   | 5,197                   |   |
| Other assets                                    |   | 105                      |   | 95                      |   |
| Total assets                                    |   | $                        | 79,685 |                    | $      | 70,697 |   |
|                                            |   |                     |   |                    |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**   |   |                     |   |                    |   |
| Current liabilities:                            |   |                     |   |                    |   |
| Accounts payable                                |   | $                        | 3,477  |                    | $      | 4,335 |   |
| Accrued liabilities                             |   | 9,116                    |   | 6,278                   |   |
| Current portion of term loan payable            |   | 3,500                    |   | 3,950                   |   |
| Deferred revenue                                |   | 635                      |   | 1,561                   |   |
| Total current liabilities                       |   | 16,728                   |   | 16,124                  |   |
| Term loan payable                               |   | 873                      |   | 1,004                   |   |
| Deferred revenue                                |   | 500                      |   | 500                     |   |
| Other long-term liabilities                     |   | 244                      |   | 175                     |   |
| Total liabilities                               |   | 18,345                   |   | 17,803                  |   |
|                                            |   |                     |   |                    |   |
| Stockholders’ equity:                      |   |                     |   |                    |   |
| Common stock                                    |   | 26                       |   | 23                      |   |
| Additional paid-in capital                      |   | 202,262                  |   | 160,163                 |   |
| Deferred stock compensation                     |   | (1,520                   | )      | (3,567                  | )      |
| Accumulated other comprehensive income          |   | 72                       |   | 98                      |   |
| Accumulated deficit                             |   | (139,500                 | )      | (103,823                | )      |
| Total stockholders’ equity                 |   | 61,340                   |   | 52,894                  |   |
| Total liabilities and stockholders’ equity |   | $                        | 79,685 |                    | $      | 70,697 |   |

 

Theaccompanying notes are an integral part of the condensed financial statements.

 

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**VERSICOR INC.**

## **STATEMENTS OF OPERATIONS**

(unaudited)

(inthousands, except per share amounts)

 
|                                                              |   | **Three  Months Ended**  |    | **Nine  Months Ended**   |   |
|-------------------------------------------------------------------|--------|--------------------------|---------|--------------------------|--------|
|                                                              |   | **September  30,  2002** |    | **September  30,  2001** |   | **September  30,  2002** |   | **September  30,  2001** |   |
| Revenues:                                                         |   |                     |    |                     |   |   |   |   |   |
| Collaborative  research and development and contract services     |   | $                        | 1,519   |                     | $      | 1,554 |   | $ | 4,563 |   | $ | 4,594 |   |
| License fees and milestones                                       |   | —                   |    | 9                        |   | 258 |   | 276 |   |
| Total revenues                                                    |   | 1,519                    |    | 1,563                    |   | 4,821 |   | 4,870 |   |
|                                                              |   |                     |    |                     |   |   |   |   |   |
| Operating expenses:                                               |   |                     |    |                     |   |   |   |   |   |
| Research  and development - non-cash stock compensation expense   |   | 173                      |    | 544                      |   | 592 |   | 1,739 |   |
| Research and development - other                                  |   | 12,572                   |    | 8,665                    |   | 34,218 |   | 21,624 |   |
| Total research and development                                    |   | 12,745                   |    | 9,209                    |   | 34,810 |   | 23,363 |   |
|                                                              |   |                     |    |                     |   |   |   |   |   |
| General  and administrative - non-cash stock compensation expense |   | 387                      |    | 32                       |   | 1,259 |   | 2,141 |   |
| General and administrative - other                                |   | 1,756                    |    | 1,458                    |   | 5,421 |   | 4,262 |   |
| Total general and administrative                                  |   | 2,143                    |    | 1,490                    |   | 6,680 |   | 6,403 |   |
| Total operating expenses                                          |   | 14,888                   |    | 10,699                   |   | 41,490 |   | 29,766 |   |
|                                                              |   |                     |    |                     |   |   |   |   |   |
| Loss from operations                                              |   | (13,369                  | )       | (9,136                   | )      | (36,669 | ) | (24,896 | ) |
|                                                              |   |                     |    |                     |   |   |   |   |   |
| Other income (expense):                                           |   |                     |    |                     |   |   |   |   |   |
| Interest income                                                   |   | 399                      |    | 692                      |   | 1,180 |   | 2,824 |   |
| Interest expense                                                  |   | (64                      | )       | (70                      | )      | (188 | ) | (250 | ) |
| Other expense                                                     |   | —                   |    | (60                      | )      | — |   | (60 | ) |
| Net loss                                                          |   | $                        | (13,034 | )                        | $      | (8,574 | ) | $ | (35,677 | ) | $ | (22,382 | ) |
|                                                              |   |                     |    |                     |   |   |   |   |   |
| Net loss per share:                                               |   |                     |    |                     |   |   |   |   |   |
| Basic and diluted                                                 |   | $                        | (0.49   | )                        | $      | (0.37 | ) | $ | (1.41 | ) | $ | (0.97 | ) |
|                                                              |   |                     |    |                     |   |   |   |   |   |
| Weighted average shares                                           |   | 26,353                   |    | 23,085                   |   | 25,217 |   | 23,060 |   |

 

Theaccompanying notes are an integral part of the condensed financial statements.

 

3

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**VERSICOR INC.**

**STATEMENTSOF CASH FLOWS**

(unaudited)

(inthousands)

 
|                                                                         |   | **Nine  Months Ended**   |    |
|------------------------------------------------------------------------------|--------|--------------------------|---------|
|                                                                         |   | **September  30,  2002** |    | **September  30,  2001** |   |
| **Cash flows from operating activities:**                                    |   |                     |    |   |   |
| Net loss                                                                     |   | $                        | (35,677 | ) | $ | (22,382 | ) |
| Adjustments  to reconcile net loss to net cash used in operating activities: |   |                     |    |   |   |
| Depreciation and amortization                                                |   | 945                      |    | 750 |   |
| Loss on disposal of fixed assets                                             |   | —                   |    | 60 |   |
| Non-cash stock compensation expense                                          |   | 1,851                    |    | 3,880 |   |
| Changes in operating assets and liabilities:                                 |   |                     |    |   |   |
| Employee notes receivable                                                    |   | 13                       |    | 522 |   |
| Prepaid expenses and other current assets                                    |   | (292                     | )       | (162 | ) |
| Other assets                                                                 |   | (10                      | )       | (15 | ) |
| Accounts payable                                                             |   | (858                     | )       | 648 |   |
| Accrued liabilities                                                          |   | 2,838                    |    | 3,275 |   |
| Related party payable                                                        |   | —                   |    | (12 | ) |
| Deferred revenue                                                             |   | (926                     | )       | (624 | ) |
| Other long-term liabilities                                                  |   | 69                       |    | (841 | ) |
| Net cash used in operating activities                                        |   | (32,047                  | )       | (14,901 | ) |
|                                                                         |   |                     |    |   |   |
| **Cash flows from investing activities:**                                    |   |                     |    |   |   |
| Purchases of marketable securities                                           |   | (31,816                  | )       | (39,705 | ) |
| Sales/maturities of marketable securities                                    |   | 27,328                   |    | 32,579 |   |
| Additions to property and equipment                                          |   | (617                     | )       | (1,528 | ) |
| Net cash used in investing activities                                        |   | (5,105                   | )       | (8,654 | ) |
|                                                                         |   |                     |    |   |   |
| **Cash flows from financing activities:**                                    |   |                     |    |   |   |
| Proceeds from issuance of common stock                                       |   | 42,298                   |    | 254 |   |
| Proceeds from long-term debt                                                 |   | 491                      |    | — |   |
| Repayments of long-term debt                                                 |   | (1,072                   | )       | (647 | ) |
| Net cash provided by (used in) financing activities                          |   | 41,717                   |    | (393 | ) |
|                                                                         |   |                     |    |   |   |
| Net change in cash and cash equivalents                                      |   | 4,565                    |    | (23,948 | ) |
| Cash and cash equivalents at beginning of period                             |   | 31,349                   |    | 67,989 |   |
| Cash and cash equivalents at end of period                                   |   | $                        | 35,914  |   | $ | 44,041 |   |
|                                                                         |   |                     |    |   |   |
| **Supplemental cash flow information:**                                      |   |                     |    |   |   |
| Cash paid during the period for interest                                     |   | $                        | 187     |   | $ | 250 |   |

 

Theaccompanying notes are an integral part of the condensed financial statements.

 

4

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**NOTES TO CONDENSED FINANCIAL STATEMENTS**

 

**1.  Basis of Presentation**

 

The accompanying interim financial statementsare unaudited and have been prepared in accordance with generally acceptedaccounting principles for interim financial information and with the instructionsto Form 10-Q.  Accordingly, certaininformation and footnote disclosures normally included in annual financialstatements have been condensed or omitted. The year-end condensed balance sheetdata was derived from audited financial statements but does not include alldisclosures required by accounting principles generally accepted in the UnitedStates of America.  The interimfinancial statements, in the opinion of management, reflect all adjustments(including normal recurring accruals) necessary for a fair presentation of theresults for the interim periods ended September 30, 2002 and 2001.

 

The results of operations for the interimperiods are not necessarily indicative of the results of operations to beexpected for the fiscal year or any other interim period.  These condensed interim financial statementsshould be read in conjunction with the audited financial statements for theyear ended December 31, 2001, which are included in the Company’s Annual Reporton Form 10-K for the year ended December 31, 2001.

 

 

**2.****             ****Basic and Diluted Net Lossper Share**

 

Basic net loss per share iscomputed using the weighted-average number of shares of common stockoutstanding. Diluted net loss per share does not differ from basic net loss pershare since potential common shares are anti-dilutive for all periods presentedand therefore are excluded from the calculation of diluted net loss per share.The following potentially dilutive common shares were excluded from thecomputation of net loss per share because their effect was anti-dilutive (inthousands):

 
|                                                  |   | **September  30,** |   |
|-------------------------------------------------------|--------|--------------------|--------|
|                                                  |   | **2002**           |   | **2001** |   |
|                                                  |   |               |   |   |   |
| Common shares issuable upon exercise of stock options |   | 3,541              |   | 2,831 |   |
| Common shares issuable upon exercise of warrants      |   | 271                |   | 421 |   |
| Common shares subject to repurchase                   |   | 1                  |   | 10 |   |
|                                                  |   | 3,813              |   | 3,262 |   |

 

**3.****             ****Merger with Biosearch Italia S.p.A.**

 

On July 30, 2002, we enteredinto an agreement under which we will acquire all of the outstanding shares ofBiosearch Italia S.p.A., a publicly listed company in Italy.  The board of directors of each company hasapproved the transaction which is subject to the approval of each company’sshareholders, certain regulatory approvals in Italy and certain otherconditions set forth in the merger agreement. If the merger is consummated, we will issue 1.77 shares of our commonstock for each outstanding share of Biosearch stock, or approximately 21.4million shares.  We also intend to issueoptions covering approximately 5,787,500 common shares, including optionsissued to replace or assume options currently held by Biosearch employees andconsultants.  The merger is expected toclose in the first quarter of 2003.

 

5

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**ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSISOF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

*Thefollowing discussion of our financial condition and results of operationsshould be read in conjunction with the financial statements and notes to thosestatements included elsewhere in this Quarterly Report on Form 10-Q and ouraudited financial statements for the year ended December 31, 2001 included inour Annual Report on Form 10-K previously filed with the SEC. This discussionmay contain forward-looking statements that involve risks anduncertainties.  The words “believe,”“expect,” “anticipate,” “may,” “will,” or “could” and similar expressions orthe negatives of these words and phrases are intended to identifyforward-looking statements.  As a resultof many factors, such as those set forth under “Risk Factors” and elsewhere inthis document, our actual results may differ significantly from thoseanticipated in these forward-looking statements.*

 

**Overview**

 

We are a biopharmaceutical company focused onthe discovery, development and marketing of pharmaceutical products for thetreatment of bacterial and fungal infections. Since our inception on May 2, 1995 as a wholly owned subsidiary ofSepracor Inc., we have devoted substantially all of our efforts to establishingour business and conducting research and development activities related to ourproprietary product candidates, including anidulafungin and dalbavancin, aswell as collaborative product candidates.

 

Since 1996 we have been operating as anindependent company.  In August 2000, wesold 4,600,000 shares of our common stock at $11 per share in an initial publicoffering, and in September 2000 the underwriters exercised an over-allotmentoption and purchased an additional 690,000 shares.  We received total net proceeds from the initial public offeringand the over-allotment of approximately $52.7 million.

 

On April 9, 2002, we completed a privateplacement of 2,993,800 shares of our common stock to selected institutionalinvestors at a purchase price of $15 per share.  We received net proceeds from the private placement ofapproximately $41.9 million.

 

On July 30, 2002, we enteredinto an agreement under which we will acquire all of the outstanding shares ofBiosearch Italia S.p.A., a publicly listed company in Italy.  The board of directors of each company hasapproved the transaction which is subject to the approval of each company’sshareholders, certain regulatory approvals in Italy and certain otherconditions set forth in the merger agreement. If the merger is consummated, we will issue 1.77 shares of our commonstock for each outstanding share of Biosearch stock, or approximately 21.4million shares.  We also intend to issueoptions covering approximately 5,787,500 common shares, including optionsissued to replace or assume options currently held by Biosearch employees andconsultants.  The merger is expected toclose in the first quarter of 2003

 

Since we began our operations in May 1995, wehave not generated any revenues from product sales.  Our lead antifungal product candidate, anidulafungin, hascompleted enrollment in a Phase III esophageal candidiasis trial and a Phase IIinvasive candidiasis/candidemia trial and is also currently in a Phase IIItrial for aspergillosis.  Our leadantibiotic product candidate, dalbavancin, has completed Phase II clinicaltrials in skin and soft tissue infections and is in Phase II clinical trialsfor bloodstream infections.  We alsohave several lead compounds in preclinical studies.

 

Our revenues in the near term are expected toconsist primarily of collaborative research payments, license fees andmilestone payments to be received from our collaborators.  Some of these payments are dependent onachievement of specified milestones. If our development efforts result inclinical success, regulatory approval and successful commercialization of ourproducts, we will generate revenues from sales of these products and fromreceipt of royalties on sales of these products.

 

Our expenses have consisted primarily of costsincurred when in-licensing existing product candidates, research anddevelopment of new product candidates and in connection with our collaborationagreements, and from general and administrative costs associated with ouroperations. We expect licensing costs to increase as development milestones areachieved, and our research and development expenses to increase

 

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as we continue to develop our productcandidates.  Assuming the completion ofthe proposed merger of Biosearch with and into us, we also expect that ourgeneral and administrative expenses will increase as we add personnel, integrate our operations and continue to expand our research anddevelopment operations.  In addition,our expenses will increase as a result of professional fees incurred inconnection with the proposed merger whether or not the proposed merger iscompleted.  We expect to incur sales andmarketing expenses in the future when we establish our sales and marketingorganization.

 

Since our inception, we have incurredsignificant losses. As of September 30, 2002, we had an accumulated deficit of$139.5 million. We anticipate incurring additional losses, which may increase,for the foreseeable future, including at least through December 31, 2003.

 

We have a limited history ofoperations. We anticipate that our quarterly results of operations willfluctuate for the foreseeable future due to several factors, including paymentsmade or received pursuant to licensing or collaboration agreements, progress ofour research and development efforts, and the timing and outcome of regulatoryapprovals. Our limited operating history makes predictions of future operationsdifficult or impossible.

 

**MajorResearch and Development Projects**

 

Our ongoing clinical trials ofanidulafungin and dalbavancin are our two most significant research anddevelopment projects, comprising 42% and 21%, respectively, of our totalresearch and development expenditure (excluding non-cash stock compensationexpense) since January 1, 2001.

 

**Anidulafungin**

 

Anidulafungin is our lead antifungal productcandidate.  We in-licensed anidulafuginfrom Eli Lilly pursuant to the May 1999 agreement described below.  As of September 30, 2002, the intravenousformulation of anidulafungin is in:

 

•         PhaseIII clinical trials for the treatment of esophageal candidiasis, patientenrollment completed;

•         PhaseIII clinical trials for the treatment of aspergillosis; and

•         PhaseII clinical trials for the treatment of invasive candidiasis/candidemia,patient enrollment completed.

 

In May 1999, we obtained from Eli Lilly an exclusiveworldwide license for the development and commercialization ofanidulafungin.  We paid $11.0 millionfor the license and an additional $3.0 million for product inventory (which wehave received).  As a result, werecognized $14.0 million of research and development costs in 1999.  If specified milestones are achieved on theintravenous formulation of anidulafungin in the United States and Canada, wewill be obligated to make additional payments of up to $14.0 million to EliLilly.  We are also obligated to makeadditional payments of up to $8.0 million to Eli Lilly if specified milestoneson the intravenous formulation of anidulafungin are achieved in Europe, andadditional payments of up to $8.0 million if specified milestones on theintravenous formulation of anidulafungin are achieved in Japan.  We are obligated to make additional paymentsto Eli Lilly of up to $21.0 million if sales of an intravenous formulation ofanidulafungin exceed specified targets in the United States and Canada, Europeand Japan.  We believe that it isunlikely that we will be obligated to make all or a significant portion ofthese payments to Eli Lilly.  Inaddition, we are obligated to make royalty payments in respect of sales of anyproduct resulting from the compound.

 

We are not currently developing an oralformulation of anidulafungin and do not presently intend to do so in thefuture.  However, under the licenseagreement with Eli Lilly, we are obligated to make additional payments to EliLilly of up to $25.0 million if, and only if, specified milestones are achievedon an oral formulation of anidulafungin in the United States, additionalpayments of up to $15.0 million if specified milestones are achieved on an oralformulation of anidulafungin in Europe, and additional payments of up to $15.0million if specified milestones are achieved on an oral formulation ofanidulafungin in Japan.  In addition, weare obligated to make additional payments to Eli Lilly of up to $24.0 million if,and only if, sales of an oral formulation of anidulafungin exceed specifiedtargets worldwide.  Because an oralformulation of

 

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anidulafungin is not currently feasible, webelieve that it is unlikely that we will be obligated to make any of thesepayments to Eli Lilly. We have also granted to Eli Lilly an option to licensethe exclusive worldwide rights to any oral formulation of anidulafungin, whichis exercisable upon successful completion of Phase II clinical trials. If EliLilly exercises this option, Eli Lilly would pay us an up-front fee androyalties based on net product sales, and would reimburse us for any milestonepayments paid plus the value, on a cost-plus basis, of all prior developmentexpenses attributed to the development and commercialization of the oralformulation of anidulafungin. However, due to the speculative nature of theoral formulation of anidulafungin,we believe that it is unlikely that we will be entitled to receive feesor royalties and reimbursement of expenses from Eli Lilly.

 

Research and developmentexpense (excluding non-cash stock compensation expense) allocated to ouranidulafungin project, expressed as a percentage of total research anddevelopment expense for the period (excluding non-cash stock compensationexpense) was:

 

•         46% for the nine months ended September30, 2002 compared to 39% for the nine months ended September 30, 2001;

•         37% for the year 2001 compared to 14%for the year 2000 and 65% for the year 1999; and

•         39% in the aggregate from the inceptionof our company through September 30, 2002.

 

Our development administrationoverhead costs are included in total research and development expense for eachperiod, but are not allocated to our various projects.

 

The goal of our anidulafunginproject is to obtain marketing approval from the U.S. Food and DrugAdministration, or FDA, and analogous international agencies; and we willconsider the project substantially complete if we obtain those approvals eventhough subsequent to that time we might incur additional expenses in conductingadditional clinical trials and follow-up studies.  To obtain the first of such approvals, we hope to file a New DrugApplication, or NDA, with the FDA at the conclusion of our Phase III clinicaltrial for the treatment of esophageal candidiasis, which has completed patientenrollment, assuming that the clinical trial’s results support a filing.  The trial began in the first quarter of2001, and assuming successful completion of the trial, we anticipate filing anNDA for anidulafungin by the end of April 2003.  Subsequent to September 30, 2002 through the submission date ofany NDA, we expect to incur significant additional research and developmentexpenses relating to anidulafungin of at least $10.0 million.  Actual research and development expensesmight be significantly higher as a result of the risks surrounding the clinicaltrial process, including the risk that we may repeat, revise or expand thescope of our ongoing clinical trials or conduct additional clinical trials tosecure marketing approvals and the additional risks listed under the caption“If clinical trials for our products are unsuccessful or delayed, we will beunable to meet our anticipated development and commercialization timelines,which could harm our business and cause our stock price to decline”.  Material cash inflows relating to ouranidulafungin project will not commence until after marketing approvals areobtained, and then only if anidulafungin finds acceptance in themarketplace.  To date, we have notreceived any revenues from product sales of anidulafungin.  Because of the many risks and uncertaintiesrelating to the completion of clinical trials, receipt of marketing approvalsand acceptance in the marketplace, we cannot predict when material cash inflowsfrom our anidulafungin project will commence, if ever.

 

A failure to obtain marketingapproval for anidulafungin would likely have the following results on ouroperations, financial position and liquidity:

 

•                                becauseour research and development projects are independent, a failure to obtainmarketing approval for anidulafungin would not necessarily interrupt ourdevelopment programs for dalbavancin or our pre-clinical compounds; however, wemight reduce our development staff (unless one or more of our other productcandidates is then entering late stage clinical trials, in which case we mightre-assign anidulafungin staff to those projects);

 

•                                wewould be relieved of our contingent obligation to make further milestonepayments and royalty payments to Eli Lilly;

 

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•                                wewould not earn any sales revenue from anidulafungin, which would increase thelikelihood that we would need to obtain additional financing for our otherdevelopment efforts; and

 

•                                ourreputation among investors might be harmed, which might make it more difficultfor us to obtain equity capital on attractive terms or at all.

 

**Dalbavancin**

 

Dalbavancin is our lead antibiotic productcandidate.  We in-license dalbavancinfrom Biosearch pursuant to the February 1998 agreement described below.  As of September 30, 2002, dalbavancin is in:

 

•                                PhaseII clinical trials for the treatment of skin and soft tissue infections,patient enrollment completed; and

•                                PhaseII clinical trials for the treatment of blood stream infections.

 

In February1998, we entered into a license agreement and a collaborative agreement withBiosearch.  Under the license agreement,Biosearch granted us an exclusive license to develop and commercializedalbavancin in the United States and Canada. In exchange for the license and upon the receipt of favorable results inpre-clinical studies, we paid an initial license fee of $2.0 million and issued250,000 shares of our common stock to Biosearch.  In May 2001, we began a Phase II clinical trial for dalbavancinand paid Biosearch an additional milestone payment.  We are obligated to make up to $8.0 million in additionalpayments to Biosearch upon the achievement of specified milestones and are alsorequired to pay Biosearch royalties in respect of sales of any product thatresults from the compound.

 

Research and developmentexpense (excluding non-cash stock compensation expense) allocated to ourdalbavancin project, expressed as a percentage of total research and development expense forthe period (excluding non-cash stock compensation expense) was:

 

•                                18% for the nine months ended September 30,2002 compared to 23% for the nine months ended September 30, 2001;

•                                23% for the year 2001 compared to 7% for theyear 2000 and 5% for the year 1999; and

•                                17% in the aggregate from the inception of ourcompany through September 30,2002.

 

Our development administrationoverhead costs are included in total research and development expense for eachperiod, but are not allocated to our various projects.

 

The goal of our dalbavancinproject is to obtain marketing approval from the FDA and analogousinternational agencies; and we will consider the project substantially completeif we obtain those approvals even though subsequent to that time we might incuradditional expenses in conducting additional clinical trials and follow-upstudies.  Before we can obtain suchmarketing approvals, we will need to complete pivotal Phase III clinical trialswith satisfactory results and submit a NDA to the FDA.  In any case, we would not expect to file aNDA for dalbavancin until the second half of 2004, at the earliest.   We are unable to estimate the costs tocompletion for our dalbavancin project due to the risks surrounding theclinical trial process, including the risk that we may repeat, revise or expandthe scope of our ongoing clinical trials or conduct additional clinical trialsto secure marketing approvals and the additional risks listed under the caption“If clinical trials for our products are unsuccessful or delayed, we will beunable to meet our anticipated development and commercialization timelines,which could harm our business and cause our stock price to decline.”  However, over the next nine months endingJune 30, 2003, we expect to incur significant additional research anddevelopment expense relating to dalbavancin expenses relating to dalbavancin’sdevelopment of at least $18.0 million and we expect our rate of spending on theproject to accelerate as we approach the filing of an NDA. Actual research anddevelopment expenses might be significantly higher.  Material cash inflows relating to our dalbavancin project willnot commence until after marketing approvals are obtained, and then only if dalbavancinfinds acceptance in the marketplace. Because of the many risks and uncertainties relating to the completionof clinical trials, receipt of marketing approvals and acceptance in themarketplace, we cannot predict when material cash inflows from our dalbavancinproject will commence, if ever.

 

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A failure to obtain marketingapproval for dalbavancin would likely have the following results on ouroperations, financial position and liquidity:

 

•                                because our research and development projectsare independent, a failure to obtain marketing approval for dalbavancin wouldnot necessarily interrupt our development programs for anidulafungin or ourpre-clinical compounds; however, we might reduce our development staff (unlessone or more of our other product candidates is then entering late stageclinical trials, in which case we might re-assign dalbavancin staff to thoseprojects);

 

•                                we would be relieved of our contingentobligation to make further milestone payments and royalty payments to Biosearch;

 

•                                we would not earn any sales revenue fromdalbavancin, which would increase the likelihood that we would need to obtainadditional financing for our other development efforts; and

 

•                                our reputation among investors might beharmed, which might make it more difficult for us to obtain equity capital onattractive terms or at all.

 

**Risksrelating to our Major Research and Development Projects**

 

We face manyrisks that could prevent or delay the completion of our anidulafugin anddalbavancin projects, including those listed under the caption, “Risk Factors –Risks Related to Operating in Our Industry.”

 

**ClinicalAdministration**

 

Research and developmentexpense (excluding non-cash stock compensation expense) comprising clinicaladministration overhead costs, expressed as a percentage of total research anddevelopment expense for the period (excluding non-cash stock compensationexpense) was:

 

•                                12% for the nine months ended September 30,2002 compared to 6% for the nine months ended September 30, 2001;

•                                7% for the year 2001 compared to 17% for theyear 2000 and 0% for the year 1999; and

•                                8% in the aggregate from the inception of ourcompany through September 30, 2002.

 

We do not allocate our clinicaladministration costs among our various projects because our clinicaladministration group is managed as a separate cost center and its expendituresare not always project specific.

 

# **Other Researchand Development Projects**

 

The remaining 27% of our total research anddevelopment expenses (excluding non-cash stock compensation expense) sinceJanuary 1, 2001 were generated by various pre-clinical studies and drugdiscovery programs, including our collaborations with Pharmacia and Novartisdescribed below.

 

*Oxazolidinonescollaboration with Pharmacia.*  In March 1999, we entered intoa collaboration agreement with Pharmacia Corporation pursuant to which we arecollaborating to discover, synthesize and develop second and third generationoxazolidinone product candidates.  Inconnection with the collaboration, Pharmacia made an equity investment in us of$3.8 million and paid us research support and license fee payments.  Under the terms of the agreement and inconsideration for our research obligations, we are entitled to receive fundingfrom Pharmacia to support some of our full-time researchers.  If specified milestones are achieved,Pharmacia is obligated to pay us additional payments of up to $14.0 million foreach compound, a portion of which may be credited against future royaltypayments to which we are entitled on the worldwide sales of any drug developedand commercialized from the collaboration. In October 2000, Pharmacia increased its funding for this collaborationby 30%, and in June 2001, we received a milestone payment for the initiation ofclinical development of one of the compounds. In July

 

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2002, we agreed with Pharmacia by amendment toextend the collaboration by an additional three years, through March 2005.  Through September 30, 2002, Pharmacia has madeaggregate payments to us under this collaboration agreement (excluding equityinvestments) of $12.1 million.

 

Researchand development expense (excluding non-cash stock compensation expense)allocated to our collaboration with Pharmacia, expressed as a percentage oftotal research and development expense for the period (excluding non-cash stockcompensation expense) was:

 

•                                7%for the nine months ended September 30, 2002 compared to 11% for the ninemonths ended September 30, 2001;

•                                11%for the year 2001 compared to 22% for the year 2000 and 10% for the year 1999;and

•                                11%in the aggregate from January 1, 1999 through September 30, 2002.

 

The goal of our collaboration with Pharmaciais to discover, synthesize and obtain marketing approval for second and thirdgeneration oxazolidinone product candidates. We supply research product leads and other specified intellectualproperty to the collaboration.  Thecollaboration also depends upon Pharmacia to develop the product candidates, toobtain marketing approval from the FDA and analogous international agencies andto manufacture and sell any products resulting form the collaboration.  Material cash inflows in the form ofroyalties relating to this collaboration will not commence until aftermarketing approvals are obtained, and then only if the product finds acceptancein the marketplace.  One productcandidate resulting from the collaboration has entered into Phase I clinicaltrials.  In order to obtain marketingapproval, Pharmacia will need to complete Phase I, II and III clinical trialswith satisfactory results and submit a NDA to the FDA.  Pharmacia is under no obligation to continuethe development of any product candidate resulting from this collaboration.  Because of this, and the substantial risksand uncertainties relating to the completion of clinical trials, receipt ofmarketing approvals and acceptance in the marketplace, we cannot predict whenmaterial cash inflows from our collaboration with Pharmacia will commence, ifever.

 

*Deformylaseinhibitors collaboration with Novartis.*** **In March 1999,we entered into a collaboration agreement with Novartis Pharma AG pursuant towhich we are collaborating to discover and develop novel deformylaseinhibitors.  In connection with thecollaboration, Novartis made an initial equity investment in us of $3.0million.  We have also received a numberof milestone payments from Novartis and are entitled to receive additionalpayments of up to $2.25 million for each compound, plus up to $13.0 million forour compounds or up to $7.25 million for Novartis compounds upon theachievement of specified milestones. Novartis may deduct a portion of these milestone payments from theroyalties it will obligated to pay us on the worldwide sales of any drugdeveloped and commercialized from this collaboration.  As a result of progress achieved by the collaboration, in July2002 we agreed with Novartis by amendment to extend the collaboration by anadditional year, through March 2003. Through September 30, 2002, Novartis has made aggregate payments to usunder this agreement (excluding equity investments) of $10.4 million.

 

Researchand development expense (excluding non-cash stock compensation expense)allocated to our collaboration with Novartis, expressed as a percentage of totalresearch and development expense for the period (excluding non-cash stockcompensation expense) was:

 

•                                5% for the nine months ended September 30,2002 compared to 9% for the nine months ended September 30, 2001;

•                                8% for the year 2001 compared to 20% for theyear 2000 and 10% for the year 1999; and

•                                9% in the aggregate from January 1, 1999through September 30, 2002.

 

The goal of our collaboration with Novartis isto discover, synthesize and obtain marketing approval for deformylase inhibitorproduct candidates.  We are responsiblefor supplying research to the collaboration, according to a research plandeveloped by a joint research committee. Our research obligations currently extend through March 2003.  Novartis provides us with funding to supportsome of our researchers on this project. The collaboration will depend upon Novartis to conduct the developmentof product candidates and to obtain marketing approval from the FDA andanalogous international agencies. Material cash inflows in the form of royalties relating to thiscollaboration will not commence until after marketing approvals are obtained,and then only if the product finds acceptance in the marketplace.  Currently all

 

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compounds identified by the collaboration arestill in pre-clinical stages.  In orderto obtain marketing approval, Novartis will need to initiate and complete PhaseI, II and III clinical trials with satisfactory results and submit a NDA to theFDA.  Novartis is under no obligation tocontinue the development of any product candidate resulting from thiscollaboration.  Because of this, and themany risks and uncertainties relating to the completion of clinical trials,receipt of marketing approvals and acceptance in the marketplace, we cannotpredict when material cash inflows from our collaboration with Novartis willcommence, if ever.

 

In addition tothe work on deformylase inhibitors, under the collaboration agreement we havebeen delivering to Novartis a series of screening assays based on novelanti-bacterial targets.  For each screenthat Novartis accepts as validated, we receive a milestone payment.  In August 2001 and January 2002, Novartispaid us our fourth and fifth milestone payments, respectively, as a result ofour delivery of our fourth and fifth target-based screens, which we expect willbe used in Novartis’ high-throughput screening laboratory to identify newanti-infectives.

 

A failure byPharmacia or Novartis to pursue or obtain marketing approval for any productcandidate resulting from our collaborations could have the following results onour operations, financial position and liquidity:

 

•                                wewould not receive any further milestone payments or any royalty revenue fromthe collaborations; and

•                                whilewe do not rely on any particular external development collaboration to producemarketable products (and, ultimately, royalty revenues), the failure of all ourexternal development collaborations would increase the likelihood that we wouldneed to obtain additional financing for our internal research and developmentefforts.

 

# **Deferred StockCompensation**

 

We haverecorded deferred stock compensation expense in connection with the grant ofstock options to employees and consultants. Deferred stock compensation foroptions granted to employees is the difference between the fair value forfinancial reporting purposes of our common stock on the date such options weregranted and their exercise price. Deferred stock compensation for optionsgranted to consultants has been determined in accordance with Statement ofFinancial Accounting Standards No. 123, “Accounting for Stock BasedCompensation,” as the fair value of the equity instruments issued. Deferredstock compensation for options granted to consultants is periodicallyremeasured as the underlying options vest in accordance with Emerging IssuesTask Force No. 96-18, “Accounting for Equity Instruments that are Issued toOther Than Employees for Acquiring, or in Conjunction with Selling Goods orServices.”

 

We recorded a reduction indeferred stock compensation of $196,000 and $414,000 in the nine months endedSeptember 30, 2002 and 2001, respectively. These amounts were recorded as a component of stockholders’ equity andare being amortized as charges to operations over the vesting periods of theoptions.  We recorded amortization ofdeferred stock compensation of $1.9 million and $3.9 million in the nine monthsended September 30, 2002 and 2001, respectively.

 

**Results ofOperations**

 

###### ***Three Months Ended September 30, 2002 Comparedto Three Months Ended September 30, 2001***

 

# **Revenues**

 

Revenues were$1.5 million and $1.6 million in the three months ended September 30, 2002 and2001, respectively.  Revenues in bothquarters consisted of collaborative research and development fees fromPharmacia and Novartis

 

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# **Research andDevelopment Expenses**

 

Research anddevelopment expenses were $12.7 million and $9.2 million in the three monthsended September 30, 2002 and 2001, respectively.  The increase is primarily due to increased clinical expenditureof $3.0 million for the development of anidulafungin and dalbavancin.  In the last year, we have started anadditional Phase III clinical trial for anidulafungin and two Phase II clinicaltrials for dalbavancin.  We have alsoincreased our development team headcount resulting in increased expenditure of$702,000.

 

# **General andAdministrative Expenses**

 

General and administrative expenses were $2.1million and $1.5 million in the three months ended September 30, 2002 and 2001,respectively.  This increase isprimarily due to business development activities.

 

**Other Income(Expense)**

 

Net other income (expense) was $335,000 and$562,000 in the three months ended September 30, 2002 and 2001, respectively.  The decrease is due to a significantdecrease in interest rates during the last 12 months and therefore reducedinterest income in 2002.

 

###### ***Nine Months Ended September 30, 2002 Comparedto Nine Months Ended September 30, 2001***

 

# **Revenues**

 

Revenues were$4.8 million and $4.9 million in the nine months ended September 30, 2002 and2001, respectively.  Revenues in bothperiods consisted of collaborative research and development, contract serviceand license fees from Pharmacia Corporation and collaborative research anddevelopment fees and milestone payments from Novartis.

 

# **Research andDevelopment Expenses**

 

Research anddevelopment expenses were $34.8 million and $23.4 million in the nine monthsended September 30, 2002 and 2001, respectively.  The increase is primarily due to increased clinical expenditureof $8.9 million for the development of anidulafungin and dalbavancin.  In the last year, we have started anadditional Phase III clinical trial for anidulafungin and two Phase II clinicaltrials for dalbavancin.  We have alsoincreased our development team headcount resulting in increased expenditure of$2.8 million.

 

# **General andAdministrative Expenses**

 

General and administrative expenses were $6.7million and $6.4 million in the nine months ended September 30, 2002 and 2001,respectively.  General andadministrative expenses include amortization of non-cash stock compensationexpense of $1.3 million and $2.1 million in the nine months ended September 30,2002 and 2001, respectively.  Excludingthese charges, general and administrative expenses increased by $1.2 millionprimarily due to business development activities related to the proposed mergerwith Biosearch.

 

**Other Income (Expense)**

 

Net otherincome (expense) was $992,000 and $2.5 million in the nine months endedSeptember 30, 2002 and 2001, respectively. The 2001 period reflects greater interest income as a result of higheraverage cash and marketable securities balances during the nine months and alsohigher interest rates during that period.

 

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# **Liquidity andCapital Resources**

 

We have funded our operations principally withthe proceeds of $78.5 million from a series of nine preferred stock offeringsover the period 1995 through 1999, and net proceeds of $52.7 million from ourinitial public offering received in August and September 2000.  In addition, on April 9, 2002, we completeda private placement of 2,993,800 shares of common stock to selected institutionalinvestors at a purchase price of $15 per share, from which we received netproceeds of approximately $41.9 million.

 

As of September30, 2002, we have also received approximately $25.5 million in payments forcollaborative research, contract services and milestone payments, as well as licensefees from our collaborators, including Sepracor. Of these payments, $1.1million constitutes deferred revenue as of September 30, 2002.

 

In addition, we have a $6.0 million termloan and $2.0 million equipment note with a commercial bank.  The term loan accrues interest at the primerate plus 0.50% and the equipment note’s interest rate is based on the LIBORrate plus an applicable margin.  As ofSeptember 30, 2002, there was an outstanding loan balance of $2.8 million andan outstanding note balance of $1.6 million. Proceeds from the loan were used to repay Sepracor for leaseholdimprovements to our facilities and for general corporate purposes.  Proceeds from drawdowns on the equipmentnote were used to finance capital expenditure. The final loan balance is payable on December 31, 2002 and the finalnote balance is payable on December 31, 2004.

 

Cash used in operations was $32.0 millionand $14.9 million in the nine months ended September 30, 2002 and 2001,respectively.  The net loss of $35.7million and $22.4 million in 2002 and 2001, respectively, was reduced bynon-cash charges for depreciation and non-cash stock compensation expense of$2.8 million and $4.6 million, respectively. The decrease in non-cash stock compensation expense in 2002 is due tothe fact that the majority of the compensation relates to options issued priorto our initial public offering in August 2000 and is being amortized on anaccelerated basis in accordance with Financial Accounting Standards BoardInterpretation No. 28.  Accruedliabilities increased by $2.8 million and $3.3 million in the nine months endedSeptember 30, 2002 and 2001, respectively, primarily due to the increase indevelopment expenditure associated with our late-stage clinical trials.

 

Cash used in investing activities was $5.1million and $8.7 million in the nine months ended September 30, 2002 and 2001,respectively.  In both periods, theprincipal use of cash resulted from the net purchase of marketable securitiesof $4.5 million and $7.1 million, respectively.  The decrease in 2002 results from lower average cash andmarketable securities balances during that period.  Capital expenditure was $617,000 and $1.5 million in the ninemonths ended September 30, 2002 and 2001, respectively.  Increased expenditure in 2001 related toleasehold improvements at our California facility.

 

Cash provided by financing activities was$41.7 million and $(393,000) in the nine months ended September 30, 2002 and2001, respectively.  The principalsource of cash in the first nine months of 2002 resulted from net proceeds of$41.9 million received from the private placement of 2,993,800 shares of commonstock to selected institutional investors in April 2002.  Net repayments on our long-term debt were$581,000 and $647,000 in the nine months ended September 30, 2002 and 2001,respectively.  In 2002, higher debtrepayments included repayments on our equipment loan that we entered into inthe second half of 2001, but were offset by an additional draw down on the loanof $491,000.

 

At September 30, 2002, our cash, cashequivalents and marketable securities totaled $72.8 million compared to $63.8million at December 31, 2001.

 

We expect to have negative cash flow fromoperations for the foreseeable future. We expect to incur increasing researchand development, and general and administrative expenses, including expensesrelating to clinical development, additions to personnel, production andcommercialization efforts and the integration of our operations with those ofBiosearch.  Our future capitalrequirements will depend on a number of factors, including our success indeveloping markets for our products, payments received or made undercollaboration agreements, the timing and outcome of regulatory approvals, theneed to acquire licenses to new products or compounds, the status ofcompetitive products and the availability of other

 

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financing. We believe our existing cash andcash equivalents and marketable securities will be sufficient to fund ouroperating expenses, debt repayments and capital requirements for at least thenext two years.

 

**Critical Accounting Policies**

 

Our discussion and analysis of our financialcondition and results of operations is based on our financial statements whichhave been prepared in accordance with accounting principles generally acceptedin the United States of America. The preparation of these financial statementsrequires us to make estimates and assumptions that affect the reported amountsof assets and liabilities and disclosure of contingent assets and liabilitiesat the date of the financial statements and the reported amounts of revenuesand expenses during the reporting period. We base our estimates on historicalexperience and other various assumptions that we believe to be reasonable underthe circumstances. Actual results may differ from these estimates.

 

Our critical accounting policies are asfollows:

 

###### ***Revenue Recognition***

We recognize revenues as they are earned.Revenue from license fees and contract services are recognized over the initiallicense or contract service term as the related work is performed, whichgenerally is on a straight-line basis. Nonrefundable milestone paymentsreceived are recognized when they are earned, which is when the specific eventswhich coincide with the achievement of substantive elements in the relatedcollaboration agreements are achieved. Milestone payments received that are creditable against future royaltypayments are deferred and recognized as revenue when the royalties are earnedor when the payment is no longer creditable against future payments.  Collaborative research and developmentpayments are recognized as the related work is performed.

 

###### ***Valuation Allowance***

We have established a valuation allowance toreduce our deferred tax asset to an amount that is more likely than not to berealized. We account for income taxes under the provisions of Statement ofFinancial Accounting Standards No. 109 “Accounting for Income Taxes”. Underthis method, deferred tax assets and liabilities using enacted tax rates ineffect for the year in which the differences are expected to affect taxableincome.

 

# **Risk FactorsAffecting Future Operating Results**

 

*Some of theinformation contained in this Quarterly Report on Form 10-Q consists offorward-looking statements. Important risk factors that could cause actualresults to differ materially from the results implied by those forward-lookingstatements include risks described below and the risks described under theheading “Risk Factors” in our proxy statement/prospectus dated November 5, 2002and filed with the SEC on November 7, 2002.*

 

**Risks Related to Our Business**

 

**Ifwe are unable to develop and successfully commercialize our product candidates,we may never generate significant revenues or become profitable.**

 

You must evaluate us inlight of the uncertainties and complexities present in a biopharmaceuticalcompany. Most of our product candidates are in the early stages of development,and two are in clinical trials. We do not know whether any of our clinicaltrials will result in marketable products. Preclinical testing and clinicaltrials are long, expensive and uncertain processes. It may take us or ourcollaborators several years to complete this testing, and failure can occur atany stage of the process. Success in preclinical testing and early clinicaltrials does not ensure that later clinical trials will be successful. To date,we have not commercialized any products or recognized any revenue from productsales. To do so will require significant additional investment in research anddevelopment, preclinical testing and clinical trials, regulatory approval, andsales and marketing activities. Furthermore, our potential drug candidates willbe subject to the risks of failure inherent in the development ofpharmaceutical products based on new technologies.

 

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These risks include:

 

•                                thepossibilities that any or all of our drug candidates will be found to beunsafe, ineffective or toxic, or otherwise fail to meet applicable regulatorystandards or receive necessary regulatory clearances;

 

•                                thatthese drug candidates, if safe and effective, will be difficult to develop intocommercially viable drugs or to manufacture on a large scale or will beuneconomical to market commercially;

 

•                                thatthird party proprietary rights will preclude us from marketing such drugs; or

 

•                                thatthird parties will market superior or equivalent drugs.

 

Finally, even if ourproduct candidates are successfully developed, they may not generate sufficientor sustainable revenues to enable us to become profitable.

 

**We expectto incur losses for the foreseeable future and may never achieve profitability.**

 

We have incurred netlosses since our inception in 1995. Before deemed dividends and accretion toredemption value of our preferred stock, our net losses were approximately $1.1million in 1995, $4.8 million in 1996, $6.3 million in 1997, $12.6 million in1998, $29.2 million in 1999, $15.3 million in 2000, $32.8 million in 2001 and$35.7 million in the first nine months of 2002.  As of September 30, 2002, our accumulated deficit wasapproximately $139.5 million. Our losses to date have resulted principallyfrom:

 

•                                researchand development costs (including non-cash stock compensation expenses) relatingto the development of our product candidates, which represent approximately 81%of our aggregate operating expenses from the inception of our company throughSeptember 30, 2002;

 

•                                costsof acquiring product candidates; and

 

•                                generaland administrative costs (including non-cash stock compensation expenses)relating to our operations, which represent approximately 19% of our aggregateoperating expenses from the inception of our company through September 30, 2002.

 

We expect to incursubstantial and increasing losses for the foreseeable future as a result ofincreases in our research and development costs, including costs associatedwith conducting preclinical testing and clinical trials, and charges related topurchases of technology or other assets. We also expect that our general and administrative expenses willincrease as we add personnel and integrate our operations and those ofBiosearch Italia.  We expect that theamount of operating losses will fluctuate significantly from quarter to quarteras a result of increases or decreases in our research and development efforts,the execution or termination of collaborative arrangements, the initiation,success or failure of clinical trials, or other factors. Our chances forachieving profitability will depend on numerous factors, including success in:

 

•                                developingand testing new product candidates;

 

•                                licensingrights to our product candidates to third parties;

 

•                                receivingregulatory approvals;

 

•                                manufacturingproducts;

 

•                                marketingproducts; and

 

•                                competingwith products from other companies.

 

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Many of these factors willdepend on circumstances beyond our control. We cannot assure you that we willever become profitable.

 

**Ourrevenues will be subject to significant fluctuations, which will make itdifficult to compare our operating results to prior periods.**

 

We expect thatsubstantially all of our revenues for the foreseeable future will result frompayments under collaborative arrangements. To date, these payments have been inthe form of up-front payments, reimbursement for research and developmentexpenses and milestone payments. We may not be able to generate additionalrevenues under existing or future collaborative agreements. Furthermore,payments to us under our existing and any future collaborative arrangementswill be subject to significant fluctuation in both timing and amount, and maynever be achieved or payable. In addition, we may not be able to generaterevenues from future product sales. Our revenues may not be indicative of ourfuture performance or of our ability to continue to achieve additionalmilestones. Our revenues and results of operations for any period may also notbe comparable to the revenues or results of operations for any other period.

 

**If wecannot enter into new licensing arrangements, our future product portfolio andpotential profitability could be harmed.**

 

An important component ofour business strategy is in-licensing drug compounds developed by otherpharmaceutical and biotechnology companies or academic research laboratories.Competition for promising compounds can be intense. If we are not able toidentify future licensing opportunities and enter into future licensing arrangementson acceptable terms, our future product portfolio and potential profitabilitycould be harmed.

 

**If our collaborators do not perform, we willbe unable to develop our joint product candidates.**

 

We have entered intocollaborative arrangements with third parties to develop certain productcandidates. These collaborations are necessary in order for us to fund ourresearch and development activities and third-party manufacturing arrangements,seek and obtain regulatory approvals and successfully commercialize ourexisting and future product candidates. Only a limited number of productcandidates have been generated pursuant to our collaborations. We cannot assureyou that any of these product candidates will result in commercially successfulproducts. Current or future collaborative arrangements may not be successful.If we fail to maintain our existing collaborative arrangements or fail to enterinto additional collaborative arrangements, the number of product candidatesfrom which we could receive future revenues would decline.

 

Our dependence oncollaborative arrangements with third parties subjects us to a number of risks.These collaborative arrangements may not be on terms favorable to us.Agreements with collaborators typically allow the collaborators significantdiscretion in electing whether to pursue any of the planned activities. Wecannot control the amount and timing of resources our collaborators may devoteto the product candidates or their prioritization of the product candidates,and our collaborators may choose to pursue alternative products. Ourcollaborators may also not perform their obligations as expected. Businesscombinations or significant changes in a collaborator’s business strategy mayadversely affect a collaborator’s willingness or ability to complete itsobligations to us. Moreover, we could become involved in disputes with ourcollaborators which could lead to delays in, or the termination of, ourdevelopment programs with them, as well as time-consuming and expensive litigationor arbitration. Even if we fulfill our obligations under a collaborativeagreement, our collaborators can generally terminate the agreements undercertain circumstances. If any collaborator was to terminate or breach ouragreement with it, or otherwise fail to complete its obligations in a timelymanner, our chances of successfully commercializing products could be harmed.

 

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**Ifclinical trials for our products are unsuccessful or delayed, we will be unableto meet our anticipated development and commercialization timelines, whichcould harm our business and cause our stock price to decline.**

 

Before obtainingregulatory approvals for the commercial sale of any products we develop, wemust demonstrate through preclinical testing and clinical trials that ourproduct candidates are safe and effective for use in humans. Conductingpreclinical testing and clinical trials is a lengthy, time-consuming andexpensive process. Completion of clinical trials may take several years ormore. Our commencement and rate of completion of clinical trials may be delayedby many factors, including:

 

•                                slowerthan expected rate of hospital and patient recruitment;

 

•                                inabilityto manufacture sufficient quantities of the study drug for use in clinicaltrials;

 

•                                unforeseensafety issues;

 

•                                lackof efficacy during the clinical trials;

 

•                                inabilityto adequately follow patients after treatment;

 

•                                governmentalor regulatory delays; or

 

•                                adecision to expand clinical trials or add studies to increase the statisticalsignificance of the results.

 

The results frompreclinical testing and early clinical trials are often not predictive ofresults obtained in later clinical trials. In general, a number of new drugshave shown promising results in clinical trials, but subsequently failed toestablish sufficient safety and efficacy data to obtain necessary regulatoryapprovals. Data obtained from preclinical and clinical activities aresusceptible to varying interpretations, which may delay, limit or preventregulatory approval. In addition, regulatory delays or rejections may beencountered as a result of many factors, including perceived defects in thedesign of clinical trials and changes in regulatory policy during the period ofproduct development.

 

As of September 30, 2002,we had two product candidates in clinical trials; anidulafungin in Phase IIIclinical trials and dalbavancin in Phase II clinical trials.  Patient follow-up for these clinical trialshas been limited and more trials will be required before we will be able toapply for regulatory approvals. We recently extended theanticipated completion date of one of our phase III trials with anidulafunginin order to increase our patient safety data base. Clinical trials conducted by us or by third parties on ourbehalf may not demonstrate sufficient safety and efficacy to obtain therequisite regulatory approvals for anidulafungin and dalbavancin or any otherpotential product candidates. This failure may delay development of otherproduct candidates and hinder our ability to conduct related preclinicaltesting and clinical trials. Regulatory authorities may not permit us toundertake any additional clinical trials for our product candidates. Our otherproduct candidates are in preclinical development, and we have not submittedinvestigational new drug applications, or INDs, to commence clinical trialsinvolving these compounds. Our preclinical development efforts may not besuccessfully completed and we may not file further INDs. Any delays in, ortermination of, our clinical trials will harm our development andcommercialization timelines, which would cause our stock price to decline. Anyof these events would also seriously impede our ability to obtain additionalfinancing.

 

**If ourthird-party clinical trial managers do not perform, clinical trials for ourproduct candidates may be delayed or unsuccessful.**

 

We have limited experiencein conducting and managing clinical trials, and currently have only 21full-time clinical development employees. We rely on third parties, includingour collaborators, clinical research organizations and outside consultants, toassist us in managing and monitoring clinical trials. If these third partiesfail to perform satisfactorily under the terms of our agreements with them,clinical trials

 

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for our product candidatesmay be delayed or unsuccessful. Furthermore, the Food and Drug Administration,or the FDA, may inspect some of our clinical investigational sites, ourcollaborators’ records and our facility and files to determine if the clinicaltrials were conducted according to good clinical practices. If the FDAdetermines that the trials were not in compliance, we may be required to repeatthe clinical trials.

 

**If ourfuture products are not accepted by the market, we are not likely to generatesignificant revenues or become profitable.**

 

Even if we obtainregulatory approval to market products in the future, they may not gain marketacceptance among physicians, patients, healthcare payors and the medicalcommunity. The degree of market acceptance of any pharmaceutical product thatwe develop will depend on a number of factors, including:

 

•                                demonstrationof clinical efficacy and safety;

 

•                                cost-effectiveness;

 

•                                potentialadvantages over alternative therapies, including fewer side effects or easieradministration;

 

•                                reimbursementpolicies of government and third-party payors; and

 

•                                effectivenessof our marketing and distribution capabilities.

 

Physicians will not recommendtherapies using our products until clinical data or other factors demonstratetheir safety and efficacy as compared to other drugs or treatments. Even if theclinical safety and efficacy of therapies using our products is established,physicians may elect not to recommend the therapies for a number of otherreasons, including whether the mode of administration of our products iseffective for certain indications. For example, many antibiotic or antifungalproducts are typically administered by infusion or injection, which requiressubstantial cost and inconvenience to patients and might not be practical innon-hospital settings. Our product candidates, if successfully developed, willcompete with a number of drugs and therapies manufactured and marketed by majorpharmaceutical and other biotechnology companies. Our products may also competewith new products currently under development or developed by others in thefuture. Physicians, patients, third-party payors and the medical community maynot accept and utilize any product candidates that we or our collaboratorsdevelop. If our products do not achieve significant market acceptance, we arenot likely to generate significant revenues or become profitable.

 

**Ifwe are unable to attract and retain key employees and consultants, we will beunable to develop and commercialize our products.**

 

We are highly dependent on theprincipal members of our scientific and management staff. In addition, we havedepended to date on third parties to perform significant management functions.In order to pursue our product development, marketing and commercializationplans, we may need to hire additional personnel with experience in clinicaltesting, government regulation, manufacturing, marketing and finance. We maynot be able to attract and retain personnel on acceptable terms given theintense competition for such personnel among high technology enterprises,including biotechnology, pharmaceutical and healthcare companies, universitiesand non-profit research institutions. Most of our management and scientificstaff do not have employment contracts. If we lose any of these persons, or areunable to attract and retain qualified personnel, our business, financialcondition and results of operations may be harmed. We do not have key personlife insurance on any of our key personnel.

 

In addition, we rely onmembers of our scientific and clinical advisory boards and other consultants toassist us in formulating our research and development strategy. All of ourconsultants and the members of our scientific and clinical advisory boards areemployed by other entities, and they may have commitments

 

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to, or advisory orconsulting agreements with, other entities that may limit their availability tous. If we lose the services of these advisors, the achievement of ourdevelopment objectives may be impeded, and our business, financial conditionand results of operations may be harmed. In addition, except for work performedspecifically for and at our direction, the inventions or processes discoveredby our scientific and clinical advisory board members and other consultantswill not become our intellectual property, but will be the intellectualproperty of the individuals or their institutions. If we desire access to theseinventions, we will be required to obtain appropriate licenses from the owners.We cannot assure you that we will be able to obtain such licenses on favorableterms or at all.

 

**If our third-party manufacturers fail todeliver our product candidates, clinical trials and commercialization of ourproduct candidates could be delayed.**

 

We do not have our ownmanufacturing facilities to produce our product candidates and anticipate thatwe will continue to rely on third parties to manufacture our product candidatesand our products. Our contract manufacturers have a limited number offacilities in which our product candidates can be produced. These manufacturershave limited experience in manufacturing anidulafungin and dalbavancin inquantities sufficient for conducting clinical trials or forcommercialization.  Difficulties areoften encountered in manufacturing new products including problems involvingproduction yields, quality control and assurance, shortage of qualifiedpersonnel, compliance with FDA and other regulations, production costs, anddevelopment of advanced manufacturing techniques and process controls. Ourcontract manufacturers may not perform as agreed or may not remain in thecontract manufacturing business for the time required by us to successfullyproduce and market our product candidates. If our contract manufacturers failto perform satisfactorily under our agreements with them, including failing todeliver the required quantities of our product candidates for clinical use on atimely basis and at commercially reasonable prices, and if we fail to find areplacement manufacturer or develop our own manufacturing capabilities,clinical trials involving our product candidates, or commercialization of ourproducts, could be delayed.

 

**If wefail to establish successful marketing and sales capabilities or fail to enterinto successful marketing arrangements with third parties, we would not be ableto commercialize our products and we would not become profitable.**

 

We intend to sell aportion of our products through our own sales force. We currently have no salesand marketing infrastructure and have no experience in direct marketing, salesand distribution. Our future profitability will depend in part on our abilityto develop a direct sales and marketing force to sell our future products toour customers. We may not be able to attract and retain qualified salespeopleor be able to build an efficient and effective sales and marketing force. To theextent that we enter into marketing and sales arrangements with othercompanies, our revenues will depend on the efforts of others. These efforts maynot be successful. If we are unable to enter into third-party arrangements,then we must substantially expand our marketing and sales force in order toachieve commercial success for certain products, and compete with othercompanies that have experienced and well-funded marketing and sales operations.

 

**Ifcircumstances require us to obtain additional funding, we may be forced todelay or curtail the development of our product candidates.**

 

We expect to incurincreasing research and development and general and administrative expensesover the next several years. Our requirements for additional capital may be substantialand will depend on many factors, some of which are beyond our control,including:

 

•                                paymentsreceived or made under possible future collaborative agreements;

 

•                                continuedprogress in the research and development of our products;

 

•                                costsassociated with protecting our patent and other intellectual property rights;

 

•                                developmentof marketing and sales capabilities; or

 

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•                                marketacceptance of our products.

 

To the extent our capitalresources are insufficient to meet future capital requirements, we will have toraise additional funds to continue the development of our product candidates.Other than with respect to our existing line of credit for equipment financing,we have no committed sources of additional capital. We cannot assure you thatfunds will be available to us on favorable terms, if at all. To the extent thatadditional capital is raised through the sale of equity or convertible debtsecurities, the securities could be sold at a discount to prevailing marketprice and the issuance of those securities could result in dilution to ourstockholders. Moreover, the incurrence of debt financing could result in asubstantial portion of our operating cash flow being dedicated to the paymentof principal and interest on such indebtedness, and we may be subject torestrictive covenants as a result of such debt financing. This could render usmore vulnerable to competitive pressures and economic downturns and couldimpose restrictions on our operations. If adequate funds are not available, wemay be required to delay, reduce the scope of, or eliminate one or more of ourresearch and development programs or otherwise significantly curtailoperations, obtain funds by entering into arrangements with collaborators onunattractive terms or relinquish rights to certain technologies or drugcandidates that we would not otherwise relinquish in order to continueindependent operations. Our inability to raise capital would harm our business,financial condition and results of operations.

 

**If weconsummate any acquisitions, such as the proposed merger with Biosearch, wewill incur a variety of costs and may never realize the anticipated benefits.**

 

If appropriate opportunities become available,we may attempt to acquire products, product candidates or businesses that webelieve are a strategic fit with our business. We have recently entered into an agreement and plan of merger with Biosearchwhereby it is contemplated that Biosearch will merge with and into Versicor.  The process of negotiating theproposed merger with Biosearchand, assuming the consummation of the merger, integrating Biosearch’s products, product candidates or business has and may continue to result in operating difficulties and transaction costs and requiresignificant management attention that would otherwise be available for ongoingdevelopment of our business.  Some of these transaction costs includefinancial advisors, printing, distribution, legal and accounting fees andseverance payments, certain of which will be incurred whether or not theproposed merger is consummated.  Similarrisks may arise in connection with other acquisitions that we may pursue in thefuture.  We may never realize theanticipated benefits of the proposedmerger with Biosearch or any other acquisition. Future acquisitionscould result in potentially dilutive issuances of equity securities, as in the case with the proposed merger withBiosearch, the incurrence of debt, contingent liabilities and/orimpairment expenses related to goodwill and impairment or amortization expensesrelated to other intangible assets, which could harm our business, financialcondition and results of operations.

 

**If the proposed merger withBiosearch does not occur, we may incur payment obligations to Biosearch.**

 

If the agreement and plan of merger withBiosearch is terminated under certain circumstances, we may be required to payBiosearch a $6 million break-up fee.  Ifthe agreement and plan of merger is terminated in certain other circumstances,we may be obligated to pay Biosearch’s expenses incurred in connection with theproposed merger, which may be substantial.

 

**If ouruse of hazardous materials results in contamination or injury, we could suffersignificant financial loss.**

 

Our research andmanufacturing activities involve the controlled use of hazardous materials,primarily biological materials and chemical compounds that are used, stored,collected, analyzed and developed in connection with our research andmanufacturing activities. We cannot eliminate the risk of accidentalcontamination or injury from these materials. In the event of an accident orenvironmental discharge, we may be held liable for any resulting damages, whichmay exceed our financial resources.  Wedo not currently maintain separate insurance to cover contamination or injuriesrelating to hazardous materials, and arguably it may not be covered by ourgeneral liability insurance coverage.

 

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**RisksRelated to Operating in Our Industry**

 

**If we experience delays in obtainingregulatory approvals, or are unable to obtain them at all, we could be delayedin or precluded from commercializing our products.**

 

Our product candidatesunder development are subject to extensive and rigorous domestic governmentregulation. The FDA regulates, among other things, the development, testing,manufacture, safety, efficacy, record-keeping, labeling, storage, approval,advertising, promotion, sale and distribution of pharmaceutical products. If ourproducts are marketed abroad, they will also be subject to extensive regulationby foreign governments. We must provide the FDA and foreign regulatoryauthorities with clinical data that demonstrate our products’ safety andefficacy in humans before they can be approved for commercial sale. None of ourproduct candidates has been approved for sale in the United States or anyforeign market, and we cannot predict whether regulatory clearance will beobtained for any product that we are developing or hope to develop. Theregulatory review and approval process takes many years, is dependent upon thetype, complexity and novelty of the product, requires the expenditure ofsubstantial resources, involves post-marketing surveillance, and may involveongoing requirements for post-marketing studies. Delays in obtaining regulatoryapprovals may:

 

•                                adverselyaffect the commercialization of any drugs that we or our collaborators develop;

 

•                                imposecostly procedures on us or our collaborators;

 

•                                diminishany competitive advantages that we or our collaborators may attain; and

 

•                                adverselyaffect our receipt of revenues or royalties.

 

Any required approvals,once granted, may be withdrawn. Further, if we fail to comply with applicableFDA and other regulatory requirements at any stage during the regulatoryprocess, we may be subject to sanctions, including:

 

•                                delaysin clinical trials or commercialization;

 

•                                refusalof the FDA to review pending market approval applications or supplements toapproval applications;

 

•                                productrecalls or seizures;

 

•                                suspensionof production;

 

•                                withdrawalsof previously approved marketing applications; and

 

•                                fines,civil penalties and criminal prosecutions.

 

We expect to file INDs andgenerally direct the regulatory approval process for proprietary products wedevelop, and we expect to rely on our collaborators to generally direct theregulatory approval process for our collaboration products. Our collaboratorsmay not be able to conduct clinical testing or obtain necessary approvals fromthe FDA or other regulatory authorities for any product candidates. Inaddition, we may encounter delays or rejections based upon additionalgovernment regulation resulting from future legislation or administrativeaction or changes in FDA policy or interpretation during the period of productdevelopment, clinical trials and FDA regulatory review. If we fail to obtainrequired governmental approvals, we or our collaborators will experience delaysin or be precluded from marketing products developed through our research. Inaddition, the commercial use of our products will be limited. If regulatoryclearance for a product is granted, this clearance will be limited to thosedisease states and conditions for which the product is demonstrated throughclinical trials to be safe and efficacious. We

 

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cannot ensure that anycompound developed by us, alone or with others, will prove to be safe andefficacious in clinical trials and will meet all of the applicable regulatoryrequirements needed to receive marketing clearance.

 

We and our contractmanufacturers also are required to comply with the applicable FDA current GoodManufacturing Practice regulations. Good Manufacturing Practice regulationsinclude requirements relating to quality control and quality assurance as wellas the corresponding maintenance of records and documentation. Manufacturingfacilities are subject to inspection by the FDA. These facilities must beapproved before we can use them in commercial manufacturing of our products. Weor our contract manufacturers may not be able to comply with the applicableGood Manufacturing Practice requirements and other FDA regulatory requirements.If we or our contract manufacturers fail to comply, we could be subject tofines or other sanctions, or be precluded from marketing our products.

 

Outside the United States,the ability to market a product is contingent upon receiving a marketingauthorization from the appropriate regulatory authorities. This foreignregulatory approval process typically includes all of the risks associated withFDA clearance described above and may include additional risks.

 

**If we donot compete successfully in the development and commercialization of productsand keep pace with rapid technological change, we will be unable to capture andsustain a meaningful market position.**

 

The biotechnology andpharmaceutical industries are highly competitive and subject to significant andrapid technological change as researchers learn more about diseases and developnew technologies for treatment. Our competitors in the United States andelsewhere are numerous and include, among others, major multinationalpharmaceutical and chemical companies, specialized biotechnology firms anduniversities and other research institutions. We are aware of severalpharmaceutical and biotechnology companies that are actively engaged inresearch and development in areas related to antibiotic and antifungalproducts. These companies have commenced clinical trials or have successfullycommercialized their products. Specifically:

 

•                                if anidulafungin receives FDA andinternational marketing approval, it will face competition from commerciallyavailable drugs such as amphotericin B (marketed by several manufacturers), fluconazole(marketed as Difulcan by Pfizer), itraconazole (marketed as Sporanox by Johnson& Johnson), and potentially from caspofungin (marketed as Cancidas byMerck), which is the first to receive FDA approval of a new class of antifungalagents called echinocandins (which includes anidulafungin). Merck initiallyobtained approval only for the narrow indication of aspergillosis salvagetherapy, but might in the future expand the scope of Cancidas to include otherserious fungal infections, such esophageal and invasive candidiasis; or

 

•                                if dalbavancin receives FDA and internationalmarketing approval, it will face competition from commercially available drugssuch as vancomycin (marketed generically by several manufacturers), teicoplanin(marketed as Targocid by Aventis only outside of the United States), linezolid(marketed as Zyvox by Pharmacia) and quinupristin/dalfopristin (marketed asSynercid by Aventis), and drug candidates in clinical development such asdaptomycin (expected to be marketed as Cidecin by Cubist), which is currentlyin Phase III clinical trials.

 

Many of these companiesare addressing the same diseases and disease indications as we, or ourcollaborators, are addressing. Many of these companies and institutions, eitheralone or together with their collaborators, have substantially greaterfinancial resources and larger research and development and marketing teamsthan we do. In addition, many of these competitors, either alone or togetherwith their collaborators, have significantly greater experience than we do indeveloping, manufacturing and marketing products.

 

Developments by others mayrender our product candidates or technologies obsolete or noncompetitive. Weface and will continue to face intense competition from other companies forcollaborative arrangements with pharmaceutical and biotechnology companies forestablishing relationships with academic and

 

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research institutions, andfor licenses of proprietary technology. These competitors, either alone or withtheir collaborators, may succeed in developing technologies or products thatare more effective, less expensive, have fewer side effects or are easier toadminister than ours. In addition, some of our competitors have greaterexperience than us in conducting preclinical and human clinical trials andobtaining FDA and other regulatory approvals. Accordingly, our competitors maysucceed in obtaining FDA or other regulatory approvals for drug candidates morerapidly than us. Companies that complete clinical trials, obtain requiredregulatory agency approvals and commence commercial sales of their drugs beforetheir competitors may achieve a significant competitive advantage, includingcertain patent and FDA marketing exclusivity rights that would delay ourability to market certain products. There can be no assurance that drugsresulting from our research and development efforts, or from joint efforts withour collaborators, will obtain regulatory approval in the United States orelsewhere or will be able to compete successfully with our competitors’existing products or products under development.  In any such case, sales of our eventual products would likelysuffer and we might never recoup the significant investments we are making todevelop these product candidates.

 

**If ourintellectual property rights do not adequately protect our product candidates,others could compete against us more directly, which would hurt our business.**

 

Our success depends inpart on our ability to:

 

•                  obtainpatents or rights to patents;

 

•                  protecttrade secrets;

 

•                  operatewithout infringing upon the proprietary rights of others; and

 

•                  preventothers from infringing on our proprietary rights.

 

We will be able to protectour proprietary rights from unauthorized use by third parties only to theextent that our proprietary rights are covered by valid and enforceable patentsor are effectively maintained as trade secrets.  As of September 30, 2002, we have four issuedU.S. patents and eight U.S. patent applications. Our license agreement with EliLilly with respect to anidulafungin includes 12 U.S. patents, 12 U.S. patentapplications, 37 foreign patents and 132 foreign patent applications.  Thepatent position of biopharmaceutical companies involves complex legal andfactual questions, and, therefore, we cannot predict with certainty whetherthey will be enforceable. We have in the past andmight in the future receive office actions or other notices from U.S. orforeign patent authorities seeking to limit or otherwise qualify some patentclaims.  Patents, if issued, may be challenged, invalidated orcircumvented. Thus, any patents that we own or license from third parties maynot provide any protection against competitors. Our pending patentapplications, those we may file in the future, or those we may license fromthird parties, may not result in patents being issued. Also, patent rights maynot provide us with adequate proprietary protection or competitive advantagesagainst competitors with similar technologies. The laws of certain foreigncountries do not protect our intellectual property rights to the same extent asdo the laws of the United States.

 

In addition to patents, werely on trade secrets and proprietary know-how. We seek protection, in part, throughconfidentiality and proprietary information agreements. These agreements maynot provide meaningful protection or adequate remedies for our technology inthe event of unauthorized use or disclosure of confidential and proprietaryinformation. Failure to protect our proprietary rights could seriously impairour competitive position and harm our business.

 

**If thirdparties claim we are infringing their intellectual property rights, we couldsuffer significant litigation or licensing expenses or be prevented frommarketing our products.**

 

Research has beenconducted for many years in the areas in which we have focused our research anddevelopment efforts. This has resulted in a substantial number of issuedpatents and an even larger number

 

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of still-pending patentapplications. Patent applications in the United States are, in most cases,maintained in secrecy until patents are issued. The publication of discoveriesin the scientific or patent literature frequently occurs substantially laterthan the date on which the underlying discoveries were made. Our commercialsuccess depends significantly on our ability to operate without infringing thepatents and other proprietary rights of third parties. Our technologies mayinfringe the patents or violate other proprietary rights of third parties. Inthe event an infringement claim is brought against us, we may be required topay legal and other expenses to defend such claim and, if we are unsuccessful,we and our collaborators may be prevented from pursuing product development andcommercialization and may be subject to damage awards.

 

The biotechnology andpharmaceutical industries have been characterized by extensive litigationregarding patents and other intellectual property rights. The defense andprosecution of intellectual property suits, United States Patent and TrademarkOffice interference proceedings and related legal and administrativeproceedings in the United States and internationally involve complex legal andfactual questions. As a result, such proceedings are costly and time-consumingto pursue and their outcome is uncertain. Litigation may be necessary to:

 

•                                enforcepatents that we own or license;

 

•                                protecttrade secrets or know-how that we own or license; or

 

•                                determinethe enforceability, scope and validity of the proprietary rights of others.

 

If we become involved inany litigation, interference or other administrative proceedings, we will incursubstantial expense and the efforts of our technical and management personnelwill be significantly diverted. An adverse determination may subject us to lossof our proprietary position or to significant liabilities, or require us toseek licenses that may not be available from third parties. We may berestricted or prevented from manufacturing and selling our products, if any, inthe event of an adverse determination in a judicial or administrativeproceeding or if we fail to obtain necessary licenses. Costs associated withthese arrangements may be substantial and may include ongoing royalties.Furthermore, we may not be able to obtain the necessary licenses onsatisfactory terms, if at all.

 

**If thegovernment and third-party payors fail to provide adequate coverage andreimbursement rates for our product candidates, our revenues and prospects forprofitability will be harmed.**

 

In both domestic andforeign markets, sales of our product candidates will depend in part upon theavailability of reimbursement from third-party payors. Such third-party payorsinclude government health administration authorities, managed care providers,private health insurers and other organizations. These third-party payors areincreasingly challenging the price, and examining the cost effectiveness, ofmedical products and services. In addition, significant uncertainty exists asto the reimbursement status of newly approved healthcare products. We may needto conduct post-marketing studies in order to demonstrate thecost-effectiveness of our products. Such studies may require us to commit asignificant amount of management time and financial and other resources. Ourproduct candidates may not ultimately be considered cost-effective. Adequatethird-party reimbursement may not be available to enable us to maintain pricelevels sufficient to realize an appropriate return on our investment in productdevelopment. Domestic and foreign governments continue to propose and passlegislation designed to reduce the cost of healthcare. For example, in someforeign markets, the government controls prescription pharmaceuticals’ pricingand profitability. In the United States, we expect that there will continue tobe federal and state proposals to implement similar governmental control. Inaddition, increasing emphasis on managed care in the United States willcontinue to put pressure on pharmaceutical product pricing. Cost controlinitiatives could decrease the price that we would receive for any products inthe future, which would limit our revenues and profitability. Accordingly,legislation and regulations affecting the pricing of pharmaceuticals may changebefore our proposed products are approved for marketing. Adoption of suchlegislation could further limit reimbursement for pharmaceuticals.

 

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**If a successful product liability claim orseries of claims is brought against us for uninsured liabilities or in excessof insured liabilities, we could be forced to pay substantial damage awards.**

 

The use of any of ourproduct candidates in clinical trials, and the sale of any approved products,may expose us to product liability claims. We have obtained limited productliability insurance coverage for our clinical trials. Our product liabilityinsurance coverage limits are $10 million per occurrence and $10 million in theaggregate. Such insurance coverage may not protect us against all of the claimsto which we may become subject. We may not be able to maintain adequateinsurance coverage at a reasonable cost or in sufficient amounts or scope toprotect us against potential losses. In the event a claim is brought againstus, we may be required to pay legal and other expenses to defend the claim, aswell as uncovered damage awards resulting from a claim brought successfullyagainst us. Furthermore, whether or not we are ultimately successful indefending any such claims, we may be required to direct financial andmanagerial resources to such defense and adverse publicity could result, all ofwhich could harm our business.

 

**Risks Related to Ownership of Our Stock**

 

**Our stock price has been and is likely tocontinue to be volatile, and your investment could suffer a decline in value.**

 

The trading price of ourcommon stock is likely to be highly volatile and could be subject to widefluctuations in price in response to various factors, many of which are beyondour control, including:

 

•                                clinicaltrial data;

 

•                                generaleconomic conditions;

 

•                                changesin, or failure to achieve, financial estimates by securities analysts;

 

•                                futuresales of equity or debt securities;

 

•                                newproducts or services introduced or announced by us or our competitors;

 

•                                announcementsof scientific innovations by us or our competitors;

 

•                                actualor anticipated variations in our annual and quarterly operating results;

 

•                                conditionsor trends in the biotechnology and pharmaceutical industries;

 

•                                announcementsby us of significant acquisitions, strategic partnerships, joint ventures orcapital commitments;

 

•                                additionsor departures of key personnel;

 

•                                newregulatory legislation adopted in the United States or abroad; and

 

•                                salesof our common stock.

 

In addition, the stock marketin general, and the Nasdaq National Market and the market for biotechnologystocks in particular, have experienced significant price and volume fluctuations.  Over the 52-week period endingOctober 31, 2002, the intra-day sales prices of our common stock as reported onthe Nasdaq National Market have ranged from a high of $25.40 to a low of$7.71.  Volatility in the marketprice for particular companies has often been unrelated or disproportionate tothe operating performance of those companies. Further, there has beenparticular volatility in the market prices of securities of biotechnology andpharmaceutical companies. These broad market and industry factors may seriouslyharm the market price of our common stock, regardless of our operatingperformance. In addition, securities class action

 

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litigation has often beeninitiated following periods of volatility in the market price of a company’ssecurities. A securities class action suit against us could result insubstantial costs, potential liabilities and the diversion of management’sattention and resources.

 

**We have implemented anti-takeover provisionsthat could discourage or prevent a takeover, even if an acquisition would bebeneficial to our stockholders.**

 

Provisions of our restatedcertificate of incorporation and our amended and restated bylaws could make itmore difficult for a third-party to acquire us, even if doing so would bebeneficial to our stockholders. These provisions include:

 

•                                establishinga classified board of directors of which approximately one-third of the membersof the board will be elected each year, lengthening the time needed to elect anew majority of the board;

 

•                                authorizingthe issuance of “blank check” preferred stock that could be issued by our boardof directors to increase the number of outstanding shares or change the balanceof voting control and thwart a takeover attempt;

 

•                                prohibitingstockholder action by written consent and requiring all stockholder actions tobe taken at a meeting of our stockholders; and

 

•                                requiringthe affirmative vote of 75% of our capital stock to approve amendments to ourbylaws and certain provisions of our restated certificate of incorporation.

 

In addition, in June 2001,our board of directors adopted a shareholder rights plan in which preferredstock purchase rights were distributed to our common stockholders as adividend. These provisions may make it more difficult for stockholders to takecorporate actions and may have the effect of delaying or preventing a change incontrol. We are also subject to the anti-takeover provisions of Section 203 ofthe Delaware General Corporation Law. Subject to specified exceptions, thissection provides that a corporation may not engage in any business combinationwith any interested stockholder during the three-year period following the timethat such stockholder becomes an interested stockholder. This provision couldhave the effect of delaying or preventing a change in our control. Theforegoing factors could also limit the price that investors or an acquirermight be willing to pay in the future for shares of our common stock.

 

**We may need additional capital in thefuture, which could dilute our shareholders or impose burdensome financialrestrictions on our business, and we may not be able to obtain any funds weneed.**

 

We anticipate that ouravailable cash resources will be sufficient to fund our operating losses for atleast the next two years.  In thefuture, we may not have any bank credit facility or other working capitalcredit line under which we may borrow funds for working capital or othergeneral corporate purposes.  If ourplans or assumptions change or are inaccurate, we may need to seek capitalsooner than anticipated.  We may seek toraise any funds we need through public or private debt or equityofferings.  Additional equity financingmay be dilutive to the holders of our common stock.  If we obtain funds through a bank credit facility or throughissuance of debt securities or preferred shares, this indebtedness or preferredshares would have rights senior to the rights of holders of our common stock,and their terms could impose significant restrictions on our operations.  If we need to raise additional funds, we maynot be able to do so on favorable terms, or at all.  If we cannot obtain adequate funds on acceptable terms, we maynot be able to carry out our business strategy.

 

**Future sales of shares of our common stockmay cause our stock price to decline.**

 

Our stockholders hold asubstantial number of shares of our common stock which they are able to sell inthe public market today.  Sales ofshares of our common stock, or the perception that these sales could

 

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occur, could materially andadversely affect the market price of our common stock and impair our ability toraise capital through the sale of additional equity securities.

 

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**ITEM3.  QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK**

# ** **

# **Interest rates**

 

Our exposure to interest rate risk relates toour cash and cash equivalents and marketable securities as well as our term loanand equipment note with a commercial bank. Our marketable securities are subject to interest rate risk and coulddecline in value if interest rates fluctuate. However, due to the conservative and short-term nature of theseinvestments, such exposure is limited. Borrowings under our term loan and equipment note are also exposed tointerest rate risk as they are subject to interest rates based on the bank’sbase rate or LIBOR.

 

The table below presents principal amounts andrelated weighted average interest rates by year of maturity for our cash andcash equivalents and marketable securities (in thousands):

 

|                      |   | **2002** |   | **2003** |   |
|---------------------------|--------|----------|--------|----------|--------|
|                      |   |     |   |     |   |
| Cash and cash equivalents |   | $        | 35,914 |     | $      | — |   |
| Average interest rate     |   | 1.78     | %      | —   |   |
|                      |   |     |   |     |   |
| Marketable securities     |   | $        | 11,668 |     | $      | 25,141 |   |
| Average interest rate     |   | 2.20     | %      | 2.07     | %      |

 

The estimated fair value of our cash and cashequivalents and marketable securities approximate the principal amountsreflected above based on the short-term maturities of these financialinstruments.

 

The estimated fair value of our debtobligations approximates the principal amounts due based on the interest ratescurrently available to us for debt with similar terms and remaining maturities.

 

# **Inflation**

 

We do not believe that inflation has had amaterial adverse impact on our business or operating results during thequarters presented.

 

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**ITEM4.****  CONTROLS AND PROCEDURES**

 

We maintain disclosure controls andprocedures that are designed to ensure that information required to bedisclosed in our Exchange Act reports is recorded, processed, summarized andreported within the time periods specified in the SEC’s rules and forms, andthat such information is accumulated and communicated to our management, includingour President and Chief Executive Officer and Chief Financial Officer, asappropriate, to allow timely decisions regarding required disclosure.Management necessarily applied its judgment in assessing the costs and benefitsof such controls and procedures which, by their nature, can provide onlyreasonable assurance regarding management’s control objectives.

 

Within 90days prior to the date of this report, we carried out an evaluation, under thesupervision and with the participation of our management, including ourPresident and Chief Executive Officer along with our Chief Financial Officer,of the effectiveness of the design and operation of our disclosure controls andprocedures pursuant to Exchange Act Rule 13a-14. Based upon the foregoing, ourPresident and Chief Executive Officer along with our Chief Financial Officerconcluded that our disclosure controls and procedures are effective in timelyalerting them to material information relating to our company required to beincluded in our Exchange Act reports. There have been no significant changes inour internal controls or in other factors which could significantly affectinternal controls subsequent to the date we carried out our evaluation.

 

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**PART II****– OTHER INFORMATION**

 

**ITEM 1.  LEGALPROCEEDINGS**

 

We are not a party to any significant legalproceedings.

 

# **ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS**

 

On August 8, 2000 we sold 4,600,000 shares ofcommon stock at $11 per share in an initial public offering and on September 7,2000, the underwriters executed an overallotment option and purchased anadditional 690,000 shares of common stock at $11.  We received net proceeds from the initial public offering and theoverallotment of approximately $52.7 million. The net proceeds are being used for the clinical development of our twoproduct candidates, anidulafungin and dalbavancin, as well as for generalcorporate and working capital purposes.

 

On April 9, 2002, we completed a privateplacement of 2,993,800 shares of our common stock to selected institutionalinvestors for gross proceeds of $44.9 million. The private placement was conducted pursuant to an exception under Rule506 of Regulation D of the Securities Act. These shares were subsequently registered with the SEC.

 

**ITEM 3.  DEFAULTS UPON SENIOR SECURITIES**

 

None.

 

# **ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

None.

 

# **ITEM 5. OTHER INFORMATION**

 

None.

 

# **ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K**

 

*Exhibits*

 

The exhibits listed on the Exhibit List, whichappears below following the signature page, are included or incorporated byreference in this Quarterly Report.

 

*Reports on Form 8-K*

 

Form 8-K dated July 30, 2002 reported under Item 5, “Other Events” forthe following:

 

•                                First Amendment to Shareholder RightsAgreement.

•                                Merger Agreement with Biosearch Italia S.p.A.

•                                Financial results for the second quarter of2002.

 

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**SIGNATURES**

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.

 

 
|                    | **VERSICOR  INC.**                                                                                |
|-------------------------|---------------------------------------------------------------------------------------------------|
|                    |                                                                                              |
|                    |                                                                                              |
| Date: November 13, 2002 | /s/ GEORGE F. HORNER III                                                                          |
|                    | George F. Horner III                                                                              |
|                    | President and Chief Executive Officer(Principal Executive Officer)                                |
|                    |                                                                                              |
|                    |                                                                                              |
| Date: November 13, 2002 | /s/ DOV A. GOLDSTEIN, M.D.                                                                        |
|                    | Dov A. Goldstein, M.D.                                                                            |
|                    | Vice President, Finance and Chief Financial Officer  (Principal Financial and Accounting Officer) |

 

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**CERTIFICATIONS**

 

I, George F.Horner III, certify that:

 

1.     I have reviewed thisquarterly report on Form 10-Q of Versicor Inc.;

 

2.     Based on my knowledge, thisquarterly report does not contain any untrue statement of a material fact oromit to state a material fact necessary to make the statements made, in lightof the circumstances under which such statements were made, not misleading withrespect to the period covered by this quarterly report;

 

3.     Based on my knowledge, thefinancial statements, and other financial information included in thisquarterly report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this quarterly report;

 

4.     The registrant’s othercertifying officers and I are responsible for establishing and maintainingdisclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and15d-14) for the registrant and we have:

 

a)     Designed such disclosurecontrols and procedures to ensure that material information relating to theregistrant, including its consolidated subsidiaries, is made known to us byothers within those entities, particularly during the period in which thisquarterly report is being prepared;

 

b)    Evaluated the effectivenessof the registrant’s disclosure controls and procedures as of a date within 90days prior to the filing date of this quarterly report (the “Evaluation Date”);and

 

c)     Presented in this quarterlyreport our conclusions about the effectiveness of the disclosure controls andprocedures based on our evaluation as of the Evaluation Date;

 

5.     The registrant’s othercertifying officers and I have disclosed, based on our most recent evaluation,to the registrant’s auditors and the audit committee of registrant’s board ofdirectors (or persons performing the equivalent function):

 

a)     All significantdeficiencies in the design or operation of internal controls which couldadversely affect the registrant’s ability to record, process, summarize andreport financial data and have identified for the registrant’s auditors anymaterial weaknesses in internal controls; and

 

b)    Any fraud, whether or notmaterial, that involves management or other employees who have a significant rolein the registrant’s internal controls; and

 

6.     Theregistrant’s other certifying officers and I have indicated in this quarterlyreport whether or not there were significant changes in internal controls or inother factors that could significantly affect internal controls subsequent tothe date of our most recent evaluation, including any corrective actions withregard to significant deficiencies and material weaknesses.

 

 
| Date:   November 13, 2002 | /s/  GEORGE F. HORNER III                |   |
|--------------------------------|------------------------------------------|--------|
|                           | **George F. Horner  III**                |
|                           | *President  and Chief Executive Officer* |

 

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I, Dov A.Goldstein, certify that:

 

1.     I have reviewed thisquarterly report on Form 10-Q of Versicor Inc.;

 

2.     Based on my knowledge, thisquarterly report does not contain any untrue statement of a material fact oromit to state a material fact necessary to make the statements made, in lightof the circumstances under which such statements were made, not misleading withrespect to the period covered by this quarterly report;

 

3.     Based on my knowledge, thefinancial statements, and other financial information included in thisquarterly report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this quarterly report;

 

4.     The registrant’s othercertifying officers and I are responsible for establishing and maintainingdisclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and15d-14) for the registrant and we have:

 

a)     Designed such disclosurecontrols and procedures to ensure that material information relating to theregistrant, including its consolidated subsidiaries, is made known to us byothers within those entities, particularly during the period in which thisquarterly report is being prepared;

 

b)    Evaluated the effectivenessof the registrant’s disclosure controls and procedures as of a date within 90days prior to the filing date of this quarterly report (the “Evaluation Date”);and

 

c)     Presented in this quarterlyreport our conclusions about the effectiveness of the disclosure controls andprocedures based on our evaluation as of the Evaluation Date;

 

5.     The registrant’s othercertifying officers and I have disclosed, based on our most recent evaluation,to the registrant’s auditors and the audit committee of registrant’s board ofdirectors (or persons performing the equivalent function):

 

a)     All significantdeficiencies in the design or operation of internal controls which couldadversely affect the registrant’s ability to record, process, summarize andreport financial data and have identified for the registrant’s auditors anymaterial weaknesses in internal controls; and

 

b)    Any fraud, whether or notmaterial, that involves management or other employees who have a significantrole in the registrant’s internal controls; and

 

6.     Theregistrant’s other certifying officers and I have indicated in this quarterlyreport whether or not there were significant changes in internal controls or inother factors that could significantly affect internal controls subsequent tothe date of our most recent evaluation, including any corrective actions withregard to significant deficiencies and material weaknesses.

 

 
| Date:  November 13, 2002 | /s/ DOV A. GOLDSTEIN, M.D.                              |   |
|-------------------------------|---------------------------------------------------------|--------|
|                          | **Dov A. Goldstein,  M.D.**                             |
|                          | *Vice  President, Finance and Chief Financial  Officer* |

 

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**EXHIBITINDEX**

 

Pursuant to Item 601(a)(2) of Regulation S-K,this exhibit index immediately precedes the exhibits.

 

The following exhibits are part of thisQuarterly Report on Form 10-Q (and are numbered in accordance with Item 601 ofRegulation S-K).

 
| **No.** |   | **Description**                                                                                                                             |
|---------|--------|---------------------------------------------------------------------------------------------------------------------------------------------|
| 2.1     |   | Agreement and Plan of  Merger, dated as of July 30, 2002 by and between Versicor Inc. and Biosearch  Italia, S.p.A.(1)                      |
| 2.2     |   | First Amendment to  Agreement and Plan of Merger dated as of August 14, 2002 by and between  Versicor Inc. and Biosearch Italia S.p.A.(2)   |
| 2.3     |   | Second Amendment  to Agreement and Plan of Merger dated as of October 29, 2002 by and between  Versicor Inc. and Biosearch Italia S.p.A.(3) |
| 3.1     |   | Restated Certificate of  Incorporation of Versicor Inc.(4)                                                                             |
| 3.2     |   | Amended and Restated  Bylaws of Versicor Inc.(5)                                                                                       |
| 4.1     |   | Form of Common Stock  Certificate (4)                                                                                                  |
| 4.2     |   | Form of Warrant for  the Purchase of Shares of Series C Preferred Stock dated as of  December 9, 1997(4)                     |
| 4.3     |   | Form of Warrant for  the Purchase of Shares of Series F Preferred Stock dated as of  June 25, 1999(4)                        |
| 4.5     |   | Second Amended and  Restated Investor Rights Agreement (4)                                                                                  |
| 4.6     |   | Registration Rights  Agreement dated as of April 8, 2002(6)                                                                                 |
| 99.1    |   | Certification under  Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith                                                          |

 

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(1)                                  The Agreement and Plan of Merger was previously filed as anexhibit to the Company’s Form 8-K filed with the SEC on July 31, 2002 and isincorporated by reference herein.

 

(2)                                  Previously filed as an exhibit to the Company’s registrationstatement on Form S-4 (file no. 333-98935) filed with the SEC on August 29,2002 and is incorporated by reference herein.

 

(3)                                  Previously filed as an exhibit to the Company’s registrationstatement on Form S-4/A (file no. 333-98935) filed with the SEC on November 5,2002 and is incorporated by reference herein.

 

(4)                                  Previously filed as an exhibit to theCompany’s registration statement on Form S-1, as amended, effectiveAugust 2, 2000, and incorporated herein by reference.

 

(5)                                  Previously filed as an exhibit to the Company’s currentreport on Form 8-K filed with the SEC on March 22, 2002, and incorporatedherein by reference.

 

(6)                                  Previously filed as an exhibit to the Company’s currentreport on Form 8-K filed with the SEC on April 10, 2002, and incorporatedherein by reference.

 

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