##### Table of Contents

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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

For the quarterly period ended September 30, 2007

or



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

Commission File Number: 0-21699



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VIROPHARMA INCORPORATED

(Exact Name
of Registrant as Specified in its Charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 23-2789550                          
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)

397 Eagleview Boulevard

Exton, Pennsylvania 19341

(Address of Principal Executive Offices and Zip
Code)

610-458-7300

(Registrants Telephone Number, Including Area Code)



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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2
of the Exchange Act. (Check one):

Large Accelerated Filer ̈Accelerated Filer  x    Non-accelerated filer ̈

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

Number of shares outstanding of the issuers Common Stock, par value $.002 per share, as of October 26, 2007:
69,885,697 shares.



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##### Table of Contents

VIROPHARMA INCORPORATED

INDEX



|           |  |                                                                                                       |  |     
|---------- |  | ----------------------------------------------------------------------------------------------------- |  | ----
|           |  |                                                                                                       |  | Page
|PART I     |  | FINANCIAL INFORMATION                                                                                 |  |     
|           |  |                                                                                                      
|Item 1.    |  | Financial Statements (unaudited)                                                                      |  |     
|           |  | Consolidated Balance Sheet At September 30, 2007 and December 31, 2006                                |  | 3   
|           |  | Consolidated Statements of Operations for the three and nine months ended September 30, 2007 and 2006 |  | 4   
|           |  | Consolidated Statements of Stockholders Equity for the nine months ended September 30, 2007          |  | 5   
|           |  | Consolidated Statements of Cash Flows for the nine months ended September 30, 2007 and 2006           |  | 6   
|           |  | Notes to the Consolidated Financial Statements                                                        |  | 7   
|           |  |                                                                                                      
|Item 2.    |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                 |  | 15  
|           |  |                                                                                                      
|Item 3.    |  | Quantitative and Qualitative Disclosures About Market Risk                                            |  | 26  
|           |  |                                                                                                      
|Item 4.    |  | Controls and Procedures                                                                               |  | 27  
|           |  |                                                                                                      
|PART II    |  | OTHER INFORMATION                                                                                     |  | 28  
|           |  |                                                                                                      
|Item 1a.   |  | Risk Factors                                                                                          |  | 28  
|           |  |                                                                                                      
|Item 5.    |  | Other Information                                                                                     |  | 30  
|           |  |                                                                                                      
|Item 6.    |  | Exhibits                                                                                              |  | 30  
|           | 
|SIGNATURES |  | 31                                                                                                   



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##### Table of Contents

ViroPharma Incorporated

Consolidated Balance Sheet

(unaudited)



|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | ------- | - | ----------------- | - | ------- | -
|(in thousands, except share and per share data)                                                                                                                                    |  | September 30, 2007 |         |   | December 31, 2006 |  
|Assets                                                                                                                                                                             |  |                    |         |   |                   |   |         |  
|Current assets:                                                                                                                                                                    |  |                    |         |   |                   |   |         |  
|Cash and cash equivalents                                                                                                                                                          |  | $                  | 71,749  |   |                   | $ | 51,524  |  
|Short-term investments                                                                                                                                                             |  |                    | 480,475 |   |                   |   | 203,885 |  
|Accounts receivable, net                                                                                                                                                           |  |                    | 21,796  |   |                   |   | 9,447   |  
|Inventory                                                                                                                                                                          |  |                    | 5,771   |   |                   |   | 4,760   |  
|Interest receivable                                                                                                                                                                |  |                    | 5,370   |   |                   |   | 3,290   |  
|Prepaid expenses and other                                                                                                                                                         |  |                    | 541     |   |                   |   | 2,107   |  
|Deferred income taxes                                                                                                                                                              |  |                    | 9,382   |   |                   |   | 9,225   |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Total current assets                                                                                                                                                               |  |                    | 595,084 |   |                   |   | 284,238 |  
|Intangible assets, net                                                                                                                                                             |  |                    | 123,903 |   |                   |   | 122,672 |  
|Property, plant and equipment, net                                                                                                                                                 |  |                    | 10,988  |   |                   |   | 2,828   |  
|Deferred income taxes                                                                                                                                                              |  |                    | 5,783   |   |                   |   | 19,907  |  
|Debt issue costs, net                                                                                                                                                              |  |                    | 7,754   |   |                   |   |        |  
|Other assets                                                                                                                                                                       |  |                    | 12      |   |                   |   | 49      |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Total assets                                                                                                                                                                       |  |                    | 743,524 |   |                   | $ | 429,694 |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|                                                                                                                                                                                   |  |                   
|Liabilities and Stockholders Equity                                                                                                                                               |  |                    |         |   |                   |   |         |  
|Current liabilities:                                                                                                                                                               |  |                    |         |   |                   |   |         |  
|Accounts payable                                                                                                                                                                   |  | $                  | 2,107   |   |                   | $ | 2,743   |  
|Due to corporate partners                                                                                                                                                          |  |                    | 941     |   |                   |   | 783     |  
|Accrued expenses and other current liabilities                                                                                                                                     |  |                    | 16,943  |   |                   |   | 14,129  |  
|Income taxes payable                                                                                                                                                               |  |                    | 1,776   |   |                   |   | 140     |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Total current liabilities                                                                                                                                                          |  |                    | 21,767  |   |                   |   | 17,795  |  
|Non-current income tax payable                                                                                                                                                     |  |                    | 1,262   |   |                   |   |        |  
|Long-term debt                                                                                                                                                                     |  |                    | 250,000 |   |                   |   |        |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Total liabilities                                                                                                                                                                  |  |                    | 273,029 |   |                   |   | 17,795  |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Commitments and Contingencies                                                                                                                                                      |  |                    |         |   |                   |   |         |  
|                                                                                                                                                                                   |  |                   
|Stockholders equity:                                                                                                                                                              |  |                    |         |   |                   |   |         |  
|Preferred stock, par value $0.001 per share. 5,000,000 shares authorized; Series A convertible participating preferred stock; no shares issued
and outstanding                     |  |                    |        |   |                   |   |        |  
|Series A junior participating preferred stock, par value $0.001 per share. 200,000 shares designated; no shares issued and
outstanding                                             |  |                    |        |   |                   |   |        |  
|Common stock, par value $0.002 per share. 175,000,000 shares authorized; issued and outstanding 69,885,705 shares at September 30, 2007
and 69,769,886 shares at December 31, 2006 |  |                    | 140     |   |                   |   | 140     |  
|Additional paid-in capital                                                                                                                                                         |  |                    | 492,382 |   |                   |   | 508,436 |  
|Accumulated other comprehensive (loss) income                                                                                                                                      |  |                    | (275    | ) |                   |   | 57      |  
|Accumulated deficit                                                                                                                                                                |  |                    | (21,752 | ) |                   |   | (96,734 | )
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Total stockholders equity                                                                                                                                                         |  |                    | 470,495 |   |                   |   | 411,899 |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  
|Total liabilities and stockholders equity                                                                                                                                         |  | $                  | 743,524 |   |                   | $ | 429,694 |  
|                                                                                                                                                                                   |  |                    |         |   |                   |   |         |  

See accompanying notes to unaudited consolidated financial statements.



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##### Table of Contents

ViroPharma Incorporated

Consolidated Statements of Operations

(unaudited)



|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|---------------------------------------------- |  | -------------------------------- | ------ | ------------------------------- | ---- | - | ------ |  | - | ------- | - |  | - | ------- | -
|                                               |  | Three months ended September 30, |        | Nine months ended September 30, |     
|(in thousands, except per share data)          |  | 2007                             |        |                                 | 2006 |   | 2007   |  |   | 2006    |  
|Revenues:                                      |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Net product sales                              |  | $                                | 50,944 |                                 |      | $ | 55,105 |  | $ | 156,074 |   |  | $ | 128,163 |  
|License fee and milestone revenue              |  |                                  |       |                                 |      |   | 141    |  |   |        |   |  |   | 423     |  
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Total revenues                                 |  |                                  | 50,944 |                                 |      |   | 55,246 |  |   | 156,074 |   |  |   | 128,586 |  
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Costs and Expenses:                            |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Cost of sales                                  |  |                                  | 2,029  |                                 |      |   | 4,868  |  |   | 6,900   |   |  |   | 16,966  |  
|Research and development                       |  |                                  | 10,543 |                                 |      |   | 7,529  |  |   | 23,365  |   |  |   | 14,834  |  
|Marketing, general and administrative          |  |                                  | 9,027  |                                 |      |   | 7,047  |  |   | 24,341  |   |  |   | 18,711  |  
|Intangible amortization                        |  |                                  | 1,401  |                                 |      |   | 1,341  |  |   | 4,719   |   |  |   | 4,327   |  
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Total costs and expenses                       |  |                                  | 23,000 |                                 |      |   | 20,785 |  |   | 59,325  |   |  |   | 54,838  |  
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Operating income                               |  |                                  | 27,944 |                                 |      |   | 34,461 |  |   | 96,749  |   |  |   | 73,748  |  
|                                               |  |                                  |        |                                
|Other Income (Expense):                        |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Loss on bond redemption                        |  |                                  |       |                                 |      |   |       |  |   |        |   |  |   | (1,127  | )
|Interest income                                |  |                                  | 6,978  |                                 |      |   | 2,512  |  |   | 17,046  |   |  |   | 6,669   |  
|Interest expense                               |  |                                  | (1,435 | )                               |      |   | 179    |  |   | (2,961  | ) |  |   | (686    | )
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Income before income tax expense               |  |                                  | 33,487 |                                 |      |   | 37,152 |  |   | 110,834 |   |  |   | 78,604  |  
|                                               |  |                                  |        |                                
|Income tax expense                             |  |                                  | 12,199 |                                 |      |   | 13,874 |  |   | 35,852  |   |  |   | 29,935  |  
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Net income                                     |  | $                                | 21,288 |                                 |      | $ | 23,278 |  | $ | 74,982  |   |  | $ | 48,669  |  
|                                               |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Net income per share:                          |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Basic                                          |  | $                                | 0.30   |                                 |      | $ | 0.34   |  | $ | 1.07    |   |  | $ | 0.71    |  
|Diluted                                        |  | $                                | 0.26   |                                 |      | $ | 0.33   |  | $ | 0.96    |   |  | $ | 0.69    |  
|                                               |  |                                  |        |                                
|Shares used in computing net income per share: |  |                                  |        |                                 |      |   |        |  |   |         |   |  |   |         |  
|Basic                                          |  |                                  | 69,835 |                                 |      |   | 69,119 |  |   | 69,807  |   |  |   | 68,756  |  
|Diluted                                        |  |                                  | 83,901 |                                 |      |   | 70,292 |  |   | 79,747  |   |  |   | 70,151  |  

See accompanying notes to unaudited consolidated financial statements.



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##### Table of Contents

ViroPharma Incorporated

Consolidated Statements of Stockholders Equity

(unaudited)



|                                                                    |  |                 |  |              |   |                          |        |        |                                      |     |  |                    |         |   |                          |   |      |   |  |   |         |   |  |   |         |  
|------------------------------------------------------------------- |  | --------------- |  | ------------ | - | ------------------------ | ------ | ------ | ------------------------------------ | --- |  | ------------------ | ------- | - | ------------------------ | - | ---- | - |  | - | ------- | - |  | - | ------- | -
|                                                                    |  | Preferred Stock |  | Common Stock |   | Additionalpaid-incapital |        |        | Accumulated othercomprehensiveincome |     |  | Accumulateddeficit |         |   | Totalstockholdersequity |  
|(in thousands)                                                      |  | Numberof shares |  | Amount       |   | Numberof shares          |        | Amount |                                      |     |  |                   
|Balance, December 31, 2006                                          |  |                |  | $            |  |                          | 69,770 |        | $                                    | 140 |  | $                  | 508,436 |   |                          | $ | 57   |   |  | $ | (96,734 | ) |  | $ | 411,899 |  
|Exercise of common stock options                                    |  |                |  |              |  |                          | 110    |        |                                      |    |  |                    | 512     |   |                          |   |     |   |  |   |        |   |  |   | 512     |  
|Issuance of common stock                                            |  |                |  |              |  |                          | 6      |        |                                      |    |  |                    | 81      |   |                          |   |     |   |  |   |        |   |  |   | 81      |  
|Share-based compensation                                            |  |                |  |              |  |                          |       |        |                                      |    |  |                    | 5,491   |   |                          |   |     |   |  |   |        |   |  |   | 5,491   |  
|Cost of call spread options, net                                    |  |                |  |              |  |                          |       |        |                                      |    |  |                    | (23,250 | ) |                          |   |     |   |  |   |        |   |  |   | (23,250 | )
|Unrealized gain on available for sale securities, net of income tax |  |                |  |              |  |                          |       |        |                                      |    |  |                    |        |   |                          |   | (342 | ) |  |   |        |   |  |   | (342    | )
|Stock option tax benefits                                           |  |                |  |              |  |                          |       |        |                                      |    |  |                    | 39      |   |                          |   |     |   |  |   |        |   |  |   | 39      |  
|Tax benefit of call spread options                                  |  |                |  |              |  |                          |       |        |                                      |    |  |                    | 1,073   |   |                          |   |     |   |  |   |        |   |  |   | 1,073   |  
|Cumulative translation adjustment                                   |  |                |  |              |  |                          |       |        |                                      |    |  |                    |        |   |                          |   | 10   |   |  |   |        |   |  |   | 10      |  
|Net income                                                          |  |                |  |              |  |                          |       |        |                                      |    |  |                    |        |   |                          |   |     |   |  |   | 74,982  |   |  |   | 74,982  |  
|                                                                    |  |                 |  |              |   |                          |        |        |                                      |     |  |                    |         |   |                          |   |      |   |  |   |         |   |  |   |         |  
|Balance, September 30, 2007                                         |  |                |  | $            |  |                          | 69,886 |        | $                                    | 140 |  | $                  | 492,382 |   |                          | $ | (275 | ) |  | $ | (21,752 | ) |  | $ | 470,495 |  
|                                                                    |  |                 |  |              |   |                          |        |        |                                      |     |  |                    |         |   |                          |   |      |   |  |   |         |   |  |   |         |  

See accompanying notes to unaudited consolidated financial statements.



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##### Table of Contents

ViroPharma Incorporated

Consolidated Statements of Cash Flows

(unaudited)



|                                                                                  |  |                                 |          |   |      |   |            |  
|--------------------------------------------------------------------------------- |  | ------------------------------- | -------- | - | ---- | - | ---------- | -
|                                                                                  |  | Nine months ended September 30, |         
|(in thousands)                                                                    |  | 2007                            |          |   | 2006 |  
|Cash flows from operating activities:                                             |  |                                 |          |   |      |   |            |  
|Net income                                                                        |  | $                               | 74,982   |   |      | $ | 48,669     |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |                                 |          |   |      |   |            |  
|Loss on bond redemption                                                           |  |                                 |         |   |      |   | 1,127      |  
|Non-cash share-based compensation expense                                         |  |                                 | 5,455    |   |      |   | 3,662      |  
|Non-cash interest expense                                                         |  |                                 | 421      |   |      |   | 75         |  
|Deferred tax provision                                                            |  |                                 | 13,967   |   |      |   | 13,472     |  
|Depreciation and amortization expense                                             |  |                                 | 5,373    |   |      |   | 4,702      |  
|Changes in assets and liabilities:                                                |  |                                 |          |   |      |   |            |  
|Accounts receivable                                                               |  |                                 | (12,349  | ) |      |   | (1,914     | )
|Inventory                                                                         |  |                                 | (1,011   | ) |      |   | 7,372      |  
|Interest Receivable                                                               |  |                                 | (2,080   | ) |      |   |           |  
|Prepaid expenses and other current assets                                         |  |                                 | 1,566    |   |      |   | (531       | )
|Other assets and other liabilities                                                |  |                                 | 37       |   |      |   | (27        | )
|Accounts payable                                                                  |  |                                 | (636     | ) |      |   | (8,012     | )
|Accrued expenses and other current liabilities                                    |  |                                 | 3,008    |   |      |   | (3,834     | )
|Deferred revenue                                                                  |  |                                 |         |   |      |   | (423       | )
|Income taxes payable                                                              |  |                                 | 1,636    |   |      |   | 990        |  
|Non-current income tax payable                                                    |  |                                 | 1,262    |   |      |   |           |  
|                                                                                  |  |                                 |          |   |      |   |            |  
|Net cash provided by operating activities                                         |  |                                 | 91,631   |   |      |   | 65,328     |  
|                                                                                  |  |                                
|Cash flows from investing activities:                                             |  |                                 |          |   |      |   |            |  
|Purchase of property, plant and equipment                                         |  |                                 | (8,814   | ) |      |   | (1,375     | )
|Purchase of Vancocin assets                                                       |  |                                 | (5,950   | ) |      |   | (6,650     | )
|Purchases of short-term investments                                               |  |                                 | (734,905 | ) |      |   | (1,011,809 | )
|Maturities of short-term investments                                              |  |                                 | 457,973  |   |      |   | 893,047    |  
|                                                                                  |  |                                 |          |   |      |   |            |  
|Net cash used in investing activities                                             |  |                                 | (291,696 | ) |      |   | (126,787   | )
|                                                                                  |  |                                
|Cash flows from financing activities:                                             |  |                                 |          |   |      |   |            |  
|Net proceeds from the issuance of senior convertible notes                        |  |                                 | 241,825  |   |      |   |           |  
|Net purchase of call spread transactions                                          |  |                                 | (23,250  | ) |      |   |           |  
|Redemption of subordinated convertible notes                                      |  |                                 |         |   |      |   | (79,596    | )
|Tax benefit from call spread transactions                                         |  |                                 | 1,073    |   |      |   |           |  
|Net proceeds from issuance of common stock                                        |  |                                 | 593      |   |      |   | 10,439     |  
|Tax benefits due to debt conversions                                              |  |                                 |         |   |      |   | 1,349      |  
|Excess tax benefits from share-based payment arrangements                         |  |                                 | 39       |   |      |   | 308        |  
|                                                                                  |  |                                 |          |   |      |   |            |  
|Net cash provided by (used in) financing activities                               |  |                                 | 220,282  |   |      |   | (67,500    | )
|                                                                                  |  |                                
|Effect of exchange rate changes on cash                                           |  |                                 | 10       |   |      |   |           |  
|                                                                                  |  |                                
|Net increase (decrease) in cash and cash equivalents                              |  |                                 | 20,225   |   |      |   | (128,959   | )
|                                                                                  |  |                                
|Cash and cash equivalents at beginning of period                                  |  |                                 | 51,524   |   |      |   | 232,195    |  
|                                                                                  |  |                                 |          |   |      |   |            |  
|Cash and cash equivalents at end of period                                        |  | $                               | 71,749   |   |      | $ | 103,236    |  
|                                                                                  |  |                                 |          |   |      |   |            |  

See accompanying notes to unaudited consolidated financial statements.



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements

Note 1. Organization and Business Activities

ViroPharma Incorporated
and subsidiaries (ViroPharma or the Company) is a biopharmaceutical company dedicated to the development and commercialization of products that address serious infectious diseases, with a focus on products used by physician
specialists or in hospital settings. The Company intends to grow through sales of its marketed product, Vancocin, through continued development of its product pipeline and through potential acquisition or licensing of products or acquisition of
companies.

ViroPharma has one marketed product and multiple product candidates in clinical development. The Company markets and sells Vancocin HCl
capsules, the oral capsule formulation of vancomycin hydrochloride, in the U.S. and its territories. Vancocin is a potent antibiotic approved by the U.S. Food and Drug Administration, or FDA, to treat antibiotic-associated pseudomembranous colitis
caused by Clostridium difficile, or C. difficile, and enterocolitis caused by Staphylococcus aureus, including methicillin-resistant strains.

ViroPharma is developing CamviaTM(maribavir) for the treatment of cytomegalovirus, or CMV, infection and HCV-796 for the treatment of hepatitis C virus, or HCV, infection. The Company has licensed the U.S. and Canadian rights for a third product
candidate, an intranasal formulation of pleconaril, to Schering-Plough for the treatment of picornavirus infections. In addition, ViroPharma has earlier stage programs in both C. difficile and hepatitis C.

Basis of Presentation

The consolidated financial information at
September 30, 2007 and for the three and nine months ended September 30, 2007 and 2006, is unaudited but includes all adjustments (consisting only of normal recurring adjustments) which, in the opinion of management, are necessary to state
fairly the consolidated financial information set forth therein in accordance with accounting principles generally accepted in the United States of America. The interim results are not necessarily indicative of results to be expected for the full
fiscal year. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2006 included in the Companys Annual Report on Form 10-K filed
with the Securities and Exchange Commission.

Adoption of Standards

In July 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertain Tax Positions, (FIN 48) to clarify the criteria for recognizing tax benefits related to uncertain tax
positions under SFAS No. 109, Accounting for Income Taxes, and to require additional financial statement disclosure. FIN 48 requires that the Company recognize in its consolidated financial statements the impact of a tax position if that
position is more likely than not to be sustained upon examination, based on the technical merits of the position. Adoption of FIN 48 as of January 1, 2007 is reflected in Note 8.

Reclassification

Certain prior year amounts have been reclassified to conform to the current year presentation.
Specifically, certain expenses were reclassified within operating expenses.



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



Note 2. Short-Term Investments

Short-term investments consist of fixed income securities with remaining maturities of greater than three months at the date of purchase and debt securities. At September 30, 2007 and December 31, 2006, all
of the investments were classified as available for sale investments.

The following summarizes the available for sale investments at September 30,
2007 and December 31, 2006:



|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|-------------------------------------------- |  | ---- | ------- | ---------------------- | - | ---------------------- |  | ---------- | --- |  | - | -------
|(in thousands)                               |  | Cost |         | Gross unrealized gains |   | Gross unrealizedlosses |  | Fair value
|September 30, 2007                           |  |      |         |                        |   |                        |  |            |     |  |   |        
|Debt securities:                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|US Treasury and other US Government Agencies |  | $    | 216,549 |                        | $ | 42                     |  | $          | 350 |  | $ | 216,241
|Foreign Governments                          |  |      | 42,452  |                        |   | 27                     |  |            | 20  |  |   | 42,459 
|Corporate                                    |  |      | 221,913 |                        |   | 116                    |  |            | 254 |  |   | 221,775
|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|                                             |  | $    | 480,914 |                        | $ | 185                    |  | $          | 624 |  | $ | 480,475
|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|Maturities of investments were as follows:   |  |      |         |                        |   |                        |  |            |     |  |   |        
|Less than one year                           |  | $    | 470,916 |                        | $ | 183                    |  | $          | 624 |  | $ | 470,475
|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|December 31, 2006                            |  |      |         |                        |   |                        |  |            |     |  |   |        
|Certificates of deposit                      |  | $    | 300     |                        | $ |                       |  | $          |    |  | $ | 300    
|Debt securities:                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|US Treasury and other US Government Agencies |  |      | 46,430  |                        |   | 12                     |  |            | 41  |  |   | 46,401 
|Foreign Governments                          |  |      | 44,494  |                        |   | 225                    |  |            | 32  |  |   | 44,687 
|Corporate                                    |  |      | 112,577 |                        |   | 16                     |  |            | 96  |  |   | 112,497
|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|                                             |  | $    | 203,801 |                        | $ | 253                    |  | $          | 169 |  | $ | 203,885
|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        
|Maturities of investments were as follows:   |  |      |         |                        |   |                        |  |            |     |  |   |        
|Less than one year                           |  | $    | 203,801 |                        | $ | 253                    |  | $          | 169 |  | $ | 203,885
|                                             |  |      |         |                        |   |                        |  |            |     |  |   |        

Note 3. Inventory

Inventory is related to Vancocin and is stated at the lower of cost or market using the first-in first-out method. The following represents the components of the inventory at September 30, 2007 and December 31, 2006:



|               |  |                    |       |                   |   |      
|-------------- |  | ------------------ | ----- | ----------------- | - | -----
|(in thousands) |  | September 30, 2007 |       | December 31, 2006
|Raw Materials  |  | $                  | 4,385 |                   | $ | 3,273
|Finished Goods |  |                    | 1,386 |                   |   | 1,487
|               |  |                    |       |                   |   |      
|Total          |  | $                  | 5,771 |                   | $ | 4,760
|               |  |                    |       |                   |   |      



8



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



Note 4. Intangible Assets

The following represents the balance of the intangible assets at September 30, 2007:



|                      |  |                         |         |                          |   |                       |  |   |        
|--------------------- |  | ----------------------- | ------- | ------------------------ | - | --------------------- |  | - | -------
|(in thousands)        |  | Gross Intangible Assets |         | Accumulated Amortization |   | Net Intangible Assets
|Trademarks            |  | $                       | 12,539  |                          | $ | 1,450                 |  | $ | 11,089 
|Know-how              |  |                         | 87,774  |                          |   | 10,147                |  |   | 77,627 
|Customer relationship |  |                         | 39,786  |                          |   | 4,599                 |  |   | 35,187 
|                      |  |                         |         |                          |   |                       |  |   |        
|Total                 |  | $                       | 140,099 |                          | $ | 16,196                |  | $ | 123,903
|                      |  |                         |         |                          |   |                       |  |   |        

The following represents the balance of the intangible assets at December 31, 2006:



|                      |  |                         |         |                          |   |                       |  |   |        
|--------------------- |  | ----------------------- | ------- | ------------------------ | - | --------------------- |  | - | -------
|(in thousands)        |  | Gross Intangible Assets |         | Accumulated Amortization |   | Net Intangible Assets
|Trademarks            |  | $                       | 12,007  |                          | $ | 1,027                 |  | $ | 10,980 
|Know-how              |  |                         | 84,046  |                          |   | 7,192                 |  |   | 76,854 
|Customer relationship |  |                         | 38,096  |                          |   | 3,258                 |  |   | 34,838 
|                      |  |                         |         |                          |   |                       |  |   |        
|Total                 |  | $                       | 134,149 |                          | $ | 11,477                |  | $ | 122,672
|                      |  |                         |         |                          |   |                       |  |   |        

In March 2006, as a result of the Office of Generic Drugs (OGD) change in approach relating to
generic bioequivalence determinations, the Company reviewed the value of the intangible asset and concluded that there was no impairment of the carrying value of the intangible assets or change to the useful lives as estimated at the acquisition
date.

Additionally, on an ongoing periodic basis, the Company evaluates the useful life of these intangible assets and determine if any economic,
governmental or regulatory event has modified their estimated useful lives. This evaluation did not result in a change to the life of the intangible assets during the quarter ended September 30, 2007.

In the event the OGDs revised approach for Vancocin remains in effect, the time period in which a generic competitor may enter the market would be reduced. This
could result in a reduction to the useful life of the Vancocin-related intangible assets. Management currently believes there are no indicators that would require a change in useful life as management believes that Vancocin will continue to be
utilized along with generics that may enter the market.

A reduction in the useful life, as well as the timing and number of generics, will impact cash
flow assumptions and the estimate of fair value, perhaps to a level that could result in an impairment charge. The Company will continue to monitor the actions of the OGD and consider the effects of our opposition actions and the announcements by
generic competitors or other adverse events for additional impairment indicators and will reevaluate the expected cash flows and fair value of our Vancocin-related assets at such time.

The Company is obligated to pay Eli Lilly and Company (Lilly) additional purchase price consideration based on net sales of Vancocin within a calendar year. The additional purchase price consideration is
determined by the annual net sales of Vancocin, is paid quarterly and is due each year through 2011. The Company accounts for these additional payments as additional purchase price in accordance with SFAS No. 141, Business Combinations,
which requires that the additional purchase price consideration is recorded as an increase to the intangible assets of Vancocin, is allocated over the asset classifications described above and is amortized over the remaining estimated useful life of
the intangible assets. In addition, at the time of recording the additional intangible assets, a cumulative adjustment is recorded to accumulated intangible amortization, in addition to ordinary amortization expense, in order to reflect amortization
as if the additional purchase price had been paid in November 2004.



9



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



As of September 30, 2007, the Company has recorded an aggregate of $23.1 million in additional purchase price
consideration, as net sales of Vancocin have surpassed the maximum obligation levels, as summarized below:



|              |  |                                              |  |                           |      |                                                   |   |    
|------------- |  | -------------------------------------------- |  | ------------------------- | ---- | ------------------------------------------------- | - | ---
|(in millions) |  |                                              |  |                          
|Year          |  | Contractual Obligation                       |  | Additional Purchase Price |      | Cumulative Adjustment to Accumulated Amortization
|2007          |  | 35% payment on net sales between $48 and $65 |  | $                         | 6.0  |                                                   | $ | 0.6
|2006          |  | 35% payment on net sales between $46 and $65 |  |                           | 6.6  |                                                   |   | 0.4
|2005          |  | 50% payment on net sales between $44 and $65 |  |                           | 10.5 |                                                   |   | 0.3
|              |  |                                              |  |                           |      |                                                   |   |    
|Total         |  |                                              |  | $                         | 23.1 |                                                   | $ | 1.3
|              |  |                                              |  |                           |      |                                                   |   |    

The Company is obligated to pay Lilly additional amounts at 35% of net sales should annual net sales be between
$45 million and $65 million during years 2008 through 2011. No additional payments are due to Lilly on net sales of Vancocin outside this threshold.

Note 5. Property, Plant and Equipment

The Company purchased its corporate headquarters in Exton, Pennsylvania for $7.65 million, which was
funded from available cash. On January 30, 2007, the purchase was finalized and the operating lease was terminated. In connection with recording the acquisition of the building, the Company reduced the cost of the building by $0.5 million,
which represented deferred rent, previously included as a current liability as of December 31, 2006.

Note 6. Long-Term Debt

On March 26, 2007, the Company issued $250.0 million of 2% senior convertible notes due March 2017 (the senior convertible notes) in a public offering.
The $250.0 million includes an issuance pursuant to the underwriters exercise of an overalloment in the amount of $25.0 million that was closed concurrently on March 26, 2007. Net proceeds from the issuance of the senior convertible notes
were $241.8 million. The senior convertible notes are unsecured unsubordinated obligations and rank equally with any other unsecured and unsubordinated indebtedness. The senior convertible notes bear interest at a rate of 2% per annum, payable
semi-annually in arrears on March 15 and September 15 of each year commencing on September 15, 2007. As of September 30, 2007, the Company has accrued $0.2 million in interest payable to holders of the senior convertible notes.
Debt issuance costs of $8.2 million have been capitalized and are being amortized over the term of the senior convertible notes, with the balance to be amortized as of September 30, 2007 being $7.8 million.

The senior convertible notes are convertible into shares of the Companys common stock at an initial
conversion price of $18.87 per share. The senior convertible notes may only be converted: (i) anytime after December 15, 2016; (ii) during the five business-day period after any five consecutive trading day period (the
measurement period) in which the price per note for each trading day of that measurement period was less than 98% of the product of the last reported sale price of our common stock and the conversion rate on each such day;
(iii) during any calendar quarter (and only during such quarter) after the calendar quarter ending June 30, 2007, if the last reported sale price of our common stock for 20 or more trading days in a period of 30 consecutive trading days
ending on the last trading day of the immediately preceding calendar quarter exceeds 130% of the applicable conversion price in effect on the last trading day of the immediately preceding calendar quarter; or (iv) upon the occurrence of
specified corporate events. Upon conversion, holders of the senior convertible notes will receive shares of common stock, subject to ViroPharmas option to irrevocably elect to settle all future conversions in cash up to the principal amount of
the senior convertible notes, and shares for any excess. We can irrevocably elect this option at any time on or prior to the 35thscheduled trading day
prior to the maturity date of the senior convertible notes. The senior convertible notes may be required to be repaid on the occurrence of certain fundamental changes, as defined in the senior convertible notes. As of September 30, 2007, the
fair value of the $250.0 million convertible senior notes outstanding was approximately $191.6 million, based on the quoted market price.

Concurrent with the issuance of the senior convertible notes the Company purchased call options on its common stock in private transactions with Credit Suisse International, Credit Suisse, New York Branch, as agent for Credit Suisse
International, and Wells Fargo Bank, National Association (the call spread holders). The call options allow ViroPharma to receive up to approximately 13.25 million shares of its common stock at $18.87 from the call spread holders,
equal to the amount of common stock related to



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



the excess conversion value that ViroPharma would pay to the holders of the senior convertible notes upon conversion. These call options will terminate upon
the earlier of the maturity dates of the related senior convertible notes or the first day all of the related senior convertible notes are no longer outstanding due to conversion or otherwise. The cost of the call options, approximately $92.3
million, was recorded as a reduction to additional paid-in-capital.

In a separate transaction with the issuance of the senior convertible notes,
ViroPharma sold warrants to Goldman Sachs and Credit Suisse (the call spread holders) to issue shares of its common stock at an exercise price of $24.92 per share. Pursuant to this transaction, warrants for approximately
13.25 million shares of ViroPharmas common stock were issued. Proceeds received from the issuance of the warrants totaled approximately $69.0 million and were recorded as an increase to additional paid-in-capital. If we have insufficient
shares of common stock available for settlement of the warrants, we may issue shares of a newly created series of preferred stock in lieu of our obligation to deliver common stock. Any such preferred stock would be convertible into 10% more shares
of our common stock than the amount of common stock we would otherwise have been obligated to deliver under the warrants.

Note 7. Share-based
Compensation

In accordance with Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (SFAS
123R), the Company recorded share-based compensation expense as follows:



|                                      |      |                                  |       |                                 |      |       |      |   |       |  |   |      
|------------------------------------- | ---- | -------------------------------- | ----- | ------------------------------- | ---- | ----- | ---- | - | ----- |  | - | -----
|(in thousands)                        |      | Three months ended September 30, |       | Nine months ended September 30,
|                                      | 2007 |                                  | 2006  |                                 | 2007 |       | 2006
|Research and development              |      | $                                | 642   |                                 | $    | 352   |      | $ | 1,616 |  | $ | 825  
|Marketing, general and administrative |      |                                  | 1,472 |                                 |      | 1,255 |      |   | 3,839 |  |   | 2,837
|                                      |      |                                  |       |                                 |      |       |      |   |       |  |   |      
|Total                                 |      | $                                | 2,114 |                                 | $    | 1,607 |      | $ | 5,455 |  | $ | 3,662
|                                      |      |                                  |       |                                 |      |       |      |   |       |  |   |      

Refer to Note 6 of the Companys 2006 Annual Report on Form 10-K for information on the valuation and
accounting for these plans.

Employee Stock Option Plans

The Company currently has three option plans in place: a 1995 Stock Option and Restricted Share Plan (1995 Plan), a 2001 Equity Incentive Plan (2001 Plan) and a 2005 Stock Option and Restricted Share Plan (2005
Plan) (collectively, the Plans).

The following table lists the balances available by Plan at September 30, 2007:



|                                            |  |            |   |  |            |   |  |            |   |  |             |  
|------------------------------------------- |  | ---------- | - |  | ---------- | - |  | ---------- | - |  | ----------- | -
|                                            |  | 1995 Plan  |   |  | 2001 Plan  |   |  | 2005 Plan  |   |  | Combined    |  
|Number of shares authorized                 |  | 4,500,000  |   |  | 500,000    |   |  | 2,850,000  |   |  | 7,850,000   |  
|Number of options granted since inception   |  | (6,997,515 | ) |  | (1,029,600 | ) |  | (2,406,590 | ) |  | (10,433,705 | )
|Number of options cancelled since inception |  | 2,940,233  |   |  | 759,837    |   |  | 140,907    |   |  | 3,840,977   |  
|Number of shares expired                    |  | (442,718   | ) |  |           |   |  |           |   |  | (442,718    | )
|                                            |  |            |   |  |            |   |  |            |   |  |             |  
|Number of shares available for grant        |  |           |   |  | 230,237    |   |  | 584,317    |   |  | 814,554     |  
|                                            |  |            |   |  |            |   |  |            |   |  |             |  

The Company issued 1,237,090 stock options in the first nine months of 2007. The weighted average fair value of
each option grant was estimated at $11.53 per share using the Black-Scholes option-pricing model using the following assumptions:



|                                         |  |              
|---------------------------------------- |  | -------------
|Expected dividend yield                  |  |             
|Range of risk free interest rate         |  | 4.36% - 5.12%
|Weighted-average volatility              |  | 92.8%        
|Range of volatility                      |  | 90.9% - 94.6%
|Range of expected option life (in years) |  | 5.50 - 6.25  



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



The Company has 4,969,228 million option grants outstanding at September 30, 2007 with exercise prices
ranging from $0.99 per share to $38.70 per share and a weighted average remaining contractual life of 7.27 years. The following table lists the outstanding and exercisable option grants as of September 30, 2007:



|            |  |                   |  |                                 |       |                                                    |      |                                          |   |       
|----------- |  | ----------------- |  | ------------------------------- | ----- | -------------------------------------------------- | ---- | ---------------------------------------- | - | ------
|            |  | Number of options |  | Weighted average exercise price |       | Weighted average remaining contractual
term(years) |      | Aggregate intrinsic value (in
thousands)
|Outstanding |  | 4,969,228         |  | $                               | 11.16 |                                                    | 7.27 |                                          | $ | 10,525
|Exercisable |  | 2,359,036         |  | $                               | 10.11 |                                                    | 5.66 |                                          | $ | 7,692 

As of September 30, 2007, there was $20.6 million of total unrecognized compensation cost related to unvested
share-based payments (including share options) granted under the Plans. That cost is expected to be recognized over a weighted-average period of 1.58 years.

Employee Stock Purchase Plan

The Company has an employee stock purchase plan. Under
this plan, there are two plan periods: January 1 through June 30 (Plan Period One) and July 1 through December 31 (Plan Period Two). For Plan Period One in 2007, the fair value was approximately $27,100,
with a risk free interest rate of 4.9%, volatility of 45.0% and an expected option life of 0.50 years. This fair value was amortized over the six month period ending June 30, 2007.

For Plan Period Two in 2007, the fair value was $31,000, with a risk free interest rate of 5.06%, volatility of 34.5% and an expected option life of 0.50 years. This fair value will be amortized over the six month
period ending December 31, 2007, approximately $15,500 of which was amortized as of September 30 2007.

Under this plan, 6,329 shares were sold
to employees during the first nine months of 2007, all related to Plan Period One. During the years ended December 31, 2006 and 2005, 14,395 and 15,894 shares, respectively, were sold to employees. As of September 30, 2007 there are
approximately 286,851 shares available for issuance under this plan.

Non-employee Stock Options

The Company remeasured the fair value of 7,250 options as of September 30, 2007, which resulted in approximately $27,000 reduction to compensation expense in the
first nine months of 2007. The fair value of the non-employee share options was estimated at approximately $20,000 using the Black-Scholes option-pricing model, with a risk free interest rate ranging from 3.4% to 4.2%, volatility ranging from 40.5%
to 71.7%, weighted volatility of 55.4% and an expected option life ranging from 0.11 to 4.55 years.

There were no non-employee share options vested or
exercised during the nine months ended September 30, 2007 or 2006.

Note 8. Income Taxes

The Companys effective income tax rate was 36.4% and 37.3% for the quarters ended September 30, 2007 and 2006, respectively, and 32.3% and 38.1% for the nine
months ended September 30, 2007 and 2006, respectively. Income tax expense includes federal, state and foreign income tax at statutory rates and the effects of various permanent differences. The decrease in the 2007 rate as compared to 2006 is
primarily due to the Companys current estimate of the impact of orphan drug credit for Camvia.

On January 1, 2007, the Company adopted FASB
Interpretation No. 48, Accounting for Uncertainty in Income Taxes(FIN 48). FIN 48 clarifies the criteria for recognizing tax benefits related to uncertain tax positions under SFAS No. 109, Accounting for Income
Taxes, and requires additional financial statement disclosure. FIN 48 requires that the Company recognizes in its consolidated financial statements the impact of a tax position if that position is more likely than not to be sustained upon
examination, based on the technical merits of the position. Adoption of FIN 48 had no net impact on the Companys consolidated results of operations and financial position.



12



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



Upon adoption, the Company identified $1.7 million of uncertain tax positions that the Company currently does not
believe meet the more likely than not recognition threshold under FIN 48 to be sustained upon examination. Since these tax positions have not been utilized and have a related full valuation allowance established, the Company reduced its gross
deferred tax asset and valuation allowance by $1.7 million. This amount relates to unrecognized tax benefits that would impact the effective tax rate if recognized absent the valuation allowance.

The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and various states and will be filing appropriate tax returns in the United
Kingdom related to our subsidiary, ViroPharma Limited. The Company is subject to U.S. federal or state income tax examinations by tax authorities for years after 2002. During the periods open to examination, the Company has utilized net operating
loss and tax credit carry forwards that have attributes from closed periods. Since these NOLs and credit carry forwards were utilized in the open periods, they remain subject to examination.

The Companys policy is to record interest and penalties on uncertain tax positions as income tax expense.

At September 30, 2007, the Company recorded a $1.3 million non-current liability for uncertain tax positions, which includes approximately $65,000 for interest,
which is reflected in income tax expense. This uncertain tax position was recorded in the third quarter of 2007. The Company does not expect any material increase or decrease in its income tax expense, in the next twelve months, related to
examinations or changes in uncertain tax positions.

Note 9. Comprehensive Income

In the Companys annual consolidated financial statements, comprehensive income (loss) is presented as a separate financial statement. For interim consolidated financial statements, the Company is permitted to
disclose the information in the footnotes to the consolidated financial statements. The disclosures are required for comparative purposes. Comprehensive income (loss) items for the Company include unrealized gains and losses on available for sale
securities and foreign currency translation adjustments. The following reconciles net income (loss) to comprehensive income (loss) for the three and nine months ended September 30, 2007 and 2006:



|                                                           |      |                                  |        |                                 |      |        |  |      |        |   |  |   |       
|---------------------------------------------------------- | ---- | -------------------------------- | ------ | ------------------------------- | ---- | ------ |  | ---- | ------ | - |  | - | ------
|(in thousands)                                             |      | Three months ended September 30, |        | Nine months ended September 30,
|                                                           | 2007 |                                  | 2006   |                                 | 2007 |        |  | 2006
|Net income                                                 |      | $                                | 21,288 |                                 | $    | 23,278 |  | $    | 74,982 |   |  | $ | 48,669
|Other comprehensive:                                       |      |                                  |        |                                 |      |        |  |      |        |   |  |   |       
|Unrealized gains/(losses) on available for sale securities |      |                                  | 294    |                                 |      | 305    |  |      | (342   | ) |  |   | 475   
|Foreign currency translation adjustment                    |      |                                  | 10     |                                 |      |       |  |      | 10     |   |  |   |      
|                                                           |      |                                  |        |                                 |      |        |  |      |        |   |  |   |       
|Comprehensive income                                       |      | $                                | 21,592 |                                 | $    | 23,583 |  | $    | 74,650 |   |  | $ | 49,144
|                                                           |      |                                  |        |                                 |      |        |  |      |        |   |  |   |       

The unrealized gains are reported net of federal and state income taxes.



13



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##### Table of Contents

ViroPharma Incorporated

Notes to the Unaudited Consolidated Financial Statements (continued)



Note 10. Earnings per share



|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|------------------------------------------------------------------- | ---- | -------------------------------- | ------ | ------------------------------- | ---- | ------ | ---- | - | ------ |  | - | ------
|(in thousands, except per share data)                               |      | Three months ended September 30, |        | Nine months ended September 30,
|                                                                    | 2007 |                                  | 2006   |                                 | 2007 |        | 2006
|Basic Earnings Per Share                                            |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Net income                                                          |      | $                                | 21,288 |                                 | $    | 23,278 |      | $ | 74,982 |  | $ | 48,669
|Common stock outstanding (weighted average)                         |      |                                  | 69,835 |                                 |      | 69,119 |      |   | 69,807 |  |   | 68,756
|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Basic net income per share                                          |      | $                                | 0.30   |                                 | $    | 0.34   |      | $ | 1.07   |  | $ | 0.71  
|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Diluted Earnings Per Share                                          |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Net income                                                          |      | $                                | 21,288 |                                 | $    | 23,278 |      | $ | 74,982 |  | $ | 48,669
|Add interest expense on senior convertible notes, net of income tax |      |                                  | 893    |                                 |      |       |      |   | 1,843  |  |   |      
|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Diluted net income                                                  |      | $                                | 22,181 |                                 | $    | 23,278 |      | $ | 76,825 |  | $ | 48,669
|                                                                    |      |                                  |        |                                
|Common stock outstanding (weighted average)                         |      |                                  | 69,835 |                                 |      | 69,119 |      |   | 69,807 |  |   | 68,756
|Add shares from senior convertible notes                            |      |                                  | 13,249 |                                 |      |       |      |   | 9,172  |  |   |      
|Add in-the-money stock options                                    |      |                                  | 817    |                                 |      | 1,173  |      |   | 768    |  |   | 1,395 
|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Common stock assuming conversion and stock option exercises         |      |                                  | 83,901 |                                 |      | 70,292 |      |   | 79,747 |  |   | 70,151
|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       
|Diluted net income per share                                        |      | $                                | 0.26   |                                 | $    | 0.33   |      | $ | 0.96   |  | $ | 0.69  
|                                                                    |      |                                  |        |                                 |      |        |      |   |        |  |   |       

The following common shares that are associated with stock options were excluded from the calculations as their
effect would be anti-dilutive:



|                       |      |                                  |      |                                 |      |       |      |      
|---------------------- | ---- | -------------------------------- | ---- | ------------------------------- | ---- | ----- | ---- | -----
|(in thousands)         |      | Three months ended September 30, |      | Nine months ended September 30,
|                       | 2007 |                                  | 2006 |                                 | 2007 |       | 2006
|Common shares excluded |      | 3,014                            |      | 2,826                           |      | 1,761 |      | 2,604

Note 11. Supplemental Cash Flow Information



|                                                                   |      |                                 |        |  |   |       
|------------------------------------------------------------------ | ---- | ------------------------------- | ------ |  | - | ------
|(in thousands)                                                     |      | Nine months ended September 30,
|                                                                   | 2007 |                                 | 2006  
|Supplemental disclosure of non-cash transactions:                  |      |                                 |        |  |   |       
|Employee share-based compensation                                  |      | $                               | 5,491  |  | $ | 3,719 
|Liability classified share-based compensation benefit              |      |                                 | 36     |  |   | 61    
|Unrealized gains on available for sale securities                  |      |                                 | 342    |  |   | 475   
|Initial recognition of liability classified share-based awards     |      |                                 |       |  |   | 116   
|Supplemental disclosure of cash flow information:                  |      |                                 |        |  |   |       
|Cash paid for income taxes                                         |      | $                               | 17,566 |  | $ | 14,065
|Cash paid for interest                                             |      |                                 | 2,444  |  |   | 2,368 
|Cash received for stock exercises and employee stock purchase plan |      |                                 | 652    |  |   | 529   



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|ITEM 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- | -------------------------------------------------------------------------------------

We are a biopharmaceutical company dedicated to the development and commercialization of products that address
serious infectious diseases, with a focus on products used by physician specialists or in hospital settings. We intend to grow through sales of our marketed product, Vancocin® HCl capsules,
through the continued development of our product pipeline and through potential acquisition or licensing of products or acquisition of companies

We have one marketed product and multiple product candidates in development. We market and sell Vancocin® HCl capsules, the oral capsule formulation of vancomycin hydrochloride, in the U.S. and its territories. Vancocin is a potent antibiotic approved by the U.S. Food and Drug Administration, or
FDA, to treat antibiotic-associated pseudomembranous colitis caused by Clostridium difficile, or C. difficile, and enterocolitis caused by S. aureus, including methicillin-resistant strains. We are developing CamviaTM(maribavir) for the prevention and treatment of cytomegalovirus, or CMV, disease, and HCV-796 for the treatment of hepatitis C virus, or HCV, infection. We
have licensed the U.S. and Canadian rights for a third product candidate, an intranasal formulation of pleconaril, to Schering-Plough for the treatment of picornavirus infections. In addition, we have earlier stage programs in both C.
difficile and hepatitis C.

We intend to evaluate in-licensing or other opportunities to acquire products in development, or those that are
currently on the market. We plan to seek products for diseases treated by physician specialists and in hospital settings to complement the markets that we hope our CMV and HCV programs will serve or in which Vancocin is prescribed.

Executive Summary

Since June 30, 2007, we experienced the
following:

Development Activities

CMV:



| |  |  | Began patient recruitment and dosing in a second phase 3 clinical study of Camvia, this one in liver transplant patients.
| | - |  | -------------------------------------------------------------------------------------------------------------------------



| |  |  | Continued patient recruitment and dosing in an ongoing phase 3 clinical study of Camvia in patients undergoing allogeneic stem cell transplant.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Began executing our plan for the Camvia program in Europe.
| | - |  | ----------------------------------------------------------

HCV (with our partner Wyeth):



| |  |  | Discontinued dosing of HCV-796 in an ongoing phase 2 combination study of the drug following a review by the joint safety review board of safety data which showed
elevated liver enzyme levels in a subset of patients; trial participants continue to receive pegylated interferon and ribavirin in this study.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Continued to monitor and follow-up with patients in the phase 2 study.
| | - |  | ----------------------------------------------------------------------



| |  |  | Began evaluation of potential risks to patients to understand if further clinical studies are appropriate.
| | - |  | ----------------------------------------------------------------------------------------------------------

Financial Results



| |  |  | Increased working capital by $31.2 million to $573.3 million, primarily driven by operating income.
| | - |  | ---------------------------------------------------------------------------------------------------



| |  |  | Net sales decreased 8% as compared to the third quarter of 2006 and were impacted by fluctuations in:
| | - |  | -----------------------------------------------------------------------------------------------------



| |  |  | prescriptions, which decreased 1% in the third quarter of 2007 as compared to the third quarter of 2006; and
| | - |  | ------------------------------------------------------------------------------------------------------------



| |  |  | wholesaler inventory levels. While levels increased in both comparative periods, the increase in the 2007 period was significantly lower than in the 2006 period.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | pricing, which was higher in the third quarter of 2007 as compared to the third quarter of 2006.
| | - |  | ------------------------------------------------------------------------------------------------



| |  |  | Increased development costs by $3.0 million over the third quarter of 2006 to $10.5 million.
| | - |  | --------------------------------------------------------------------------------------------

Liquidity



| |  |  | Generated net cash from operating activities of $40.4 million.
| | - |  | --------------------------------------------------------------



| |  |  | Increased cash and cash equivalents and short-term investments by $35.4 million.
| | - |  | --------------------------------------------------------------------------------

During the remainder of 2007 and going forward, we expect to face a number of challenges, which include the following:

The
commercial sale of approved pharmaceutical products is subject to risks and uncertainties. There can be no assurance that future Vancocin sales will meet or exceed the historical rate of sales for the product, for reasons that include, but are not
limited to, generic and non-generic competition for Vancocin and/or changes in prescribing habits or disease incidence.



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##### Table of Contents

Additionally, period over period fluctuations in net product sales are expected to occur as a result of wholesaler buying
decisions.

We cannot assure you that generic competitors will not take advantage of the absence of patent protection for Vancocin to attempt to develop a
competing product. We are not able to predict the time period in which a generic drug may enter the market. On March 17, 2006, we learned that the OGD changed its approach regarding the conditions that must be met in order for a generic drug
applicant to request a waiver of in-vivo bioequivalence testing for copies of Vancocin. We are opposing this attempt. However, in the event this change in approach remains in effect, the time period in which a generic competitor may enter the market
would be reduced and multiple generics may enter the market, which would materially impact our operating results, cash flows and asset valuations.

We will
face intense competition in acquiring additional products to expand further our product portfolio. Many of the companies and institutions that we will compete with in acquiring additional products to expand further our product portfolio have
substantially greater capital resources, research and development staffs and facilities than we have, and substantially greater experience in conducting business development activities. We may need additional financing in order to acquire new
products in connection with our plans as described in this report.

The outcome of our clinical development programs is subject to considerable
uncertainties. We cannot be certain that we will be successful in developing and ultimately commercializing any of our product candidates, that the FDA or other regulatory authorities will not require additional or unanticipated studies or clinical
trial outcomes before granting regulatory approval, or that we will be successful in gaining regulatory approval of any of our product candidates in the timeframes that we expect, or at all. In August 2007, we and Wyeth decided to discontinue dosing
with HCV-796 in a phase 2 study as a result of potential safety concerns. We and Wyeth continue to evaluate the observations that led to this decision in the hope of advancing this potential therapeutic agent in the future, however there can be no
assurance that we will conduct additional HCV studies in the future as the FDA or other regulatory authorities may either prohibit any future studies with HCV-796 or alternatively may require additional or unanticipated studies or clinical trial
outcomes before granting regulatory approval.

We cannot assure you that our current cash, cash equivalents and short-term investments or cash flows from
Vancocin sales will be sufficient to fund all of our ongoing development and operational costs, as well as the interest payable on the senior convertible notes, over the next several years, that planned clinical trials can be initiated, or that
planned or ongoing clinical trials can be successfully concluded or concluded in accordance with our anticipated schedule and costs. Moreover, the results of our business development efforts could require considerable investments.

Our actual results could differ materially from those results expressed in, or implied by, our expectations and assumption described in this Quarterly Report on Form
10-Q. In addition to the other information set forth above and elsewhere in this report, you should carefully consider the factors discussed under the heading Risk Factors in our Form 10-K for the year ended December 31, 2006 and in
our Form 10-Q for the quarter ended March 31, 2007. The risks described in this report, our Form 10-K for the year ended December 31, 2006 and in our Form 10-Q for the quarter ended March 31, 2007, are not the only risks facing our
Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

Results of Operations

Three and Nine-months ended
September 30, 2007 and 2006



|                                      |      |                                          |        |                                         |      |        |      |   |         |  |   |        
|------------------------------------- | ---- | ---------------------------------------- | ------ | --------------------------------------- | ---- | ------ | ---- | - | ------- |  | - | -------
|(in thousands, except per share data) |      | For the three months ended
September 30, |        | For the nine months ended
September 30,
|                                      | 2007 |                                          | 2006   |                                         | 2007 |        | 2006
|Net product sales                     |      | $                                        | 50,944 |                                         | $    | 55,105 |      | $ | 156,074 |  | $ | 128,163
|Total revenues                        |      | $                                        | 50,944 |                                         | $    | 55,246 |      | $ | 156,074 |  | $ | 128,586
|                                      |      |                                          |        |                                        
|Gross product margin                  |      | $                                        | 48,915 |                                         | $    | 50,237 |      | $ | 149,174 |  | $ | 111,197
|                                      |      |                                          |        |                                        
|Operating income                      |      | $                                        | 27,944 |                                         | $    | 34,461 |      | $ | 96,749  |  | $ | 73,748 
|                                      |      |                                          |        |                                        
|Net income                            |      | $                                        | 21,288 |                                         | $    | 23,278 |      | $ | 74,982  |  | $ | 48,669 
|Net income per share:                 |      |                                          |        |                                         |      |        |      |   |         |  |   |        
|Basic                                 |      | $                                        | 0.30   |                                         | $    | 0.34   |      | $ | 1.07    |  | $ | 0.71   
|Diluted                               |      | $                                        | 0.26   |                                         | $    | 0.33   |      | $ | 0.96    |  | $ | 0.69   



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The nine month increase in net income relates primarily to increased net sales, increased gross product margin rates and
higher interest income, offset primarily by increased development costs related to our CMV and HCV programs. The three month decrease in net income is primarily attributable to increased development costs, which are partially offset by higher
interest income.

Revenues

Revenues consisted of the
following:



|                                     |      |                                          |        |                                         |      |        |      |   |         |  |   |        
|------------------------------------ | ---- | ---------------------------------------- | ------ | --------------------------------------- | ---- | ------ | ---- | - | ------- |  | - | -------
|(in thousands)                       |      | For the three months ended
September 30, |        | For the nine months ended
September 30,
|                                     | 2007 |                                          | 2006   |                                         | 2007 |        | 2006
|Net product sales                    |      | $                                        | 50,944 |                                         | $    | 55,105 |      | $ | 156,074 |  | $ | 128,163
|License fees and milestones revenues |      |                                          |       |                                         |      | 141    |      |   |        |  |   | 423    
|                                     |      |                                          |        |                                         |      |        |      |   |         |  |   |        
|Total revenues                       |      | $                                        | 50,944 |                                         | $    | 55,246 |      | $ | 156,074 |  | $ | 128,586
|                                     |      |                                          |        |                                         |      |        |      |   |         |  |   |        

RevenueVancocin product sales

Our net product sales are solely related to Vancocin. We sell Vancocin only to wholesalers who then distribute the product to pharmacies, hospitals and long-term care facilities, among others. Our sales of Vancocin
are influenced by wholesaler forecasts of prescription demand, wholesaler buying decisions related to their desired inventory levels, and, ultimately, end user prescriptions, all of which could be at different levels from period to period.

During the three and nine months ended September 30, 2007, net sales of Vancocin decreased 7.6% and increased 21.8%, respectively, compared to the
same periods in 2006. The third quarter decrease of 7.6% was negatively impacted by changes in wholesaler inventory levels and was partially offset by the impact of a price increase in 2007. The nine month increase of 21.8% resulted from an increase
in units sold, partially due to the positive impact of changes in wholesaler inventory levels, and the impact of a price increase in 2007. Specific to wholesalers inventory levels, during the third quarter of 2007, wholesalers inventory
increased to a lesser degree than in the third quarter of 2006. For the nine month period of 2007, wholesalers inventory increased; whereas, the comparable 2006 period saw a decrease. Specific to prescriptions, we believe, based upon data
reported by IMS Health Incorporated, that prescriptions during the three months ended September 30, 2007 decreased 1.0% as compared to the third quarter in 2006 and prescriptions during the nine months ended September 30, 2007 exceeded
prescriptions in the nine months of 2006 periods by 5.1%.

Approximately 92% of our sales are to three wholesalers. Vancocin product sales are influenced
by prescriptions and wholesaler forecasts of prescription demand, which could be at different levels from period to period. We receive inventory data from two of our three largest wholesalers. We do not independently verify this data. Based on this
inventory data and our estimates, we believe that as of September 30, 2007, the wholesalers did not have excess channel inventory.



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##### Table of Contents

RevenueLicense fee and milestone revenues

License fee and milestone revenues in 2006 represent amortization of payments received under our agreement with Wyeth. There are no comparable amounts in 2007 as the amortization period ended in December 2006.

Our license fee and milestone revenues result from existing or future collaborations of development-stage products and currently vary greatly from period
to period. See Liquidity, Operating Cash Inflows for additional information.

Cost of sales and gross product margin



|                     |      |                                          |        |                                         |      |        |      |   |         |  |   |        
|-------------------- | ---- | ---------------------------------------- | ------ | --------------------------------------- | ---- | ------ | ---- | - | ------- |  | - | -------
|(in thousands)       |      | For the three months ended
September 30, |        | For the nine months ended
September 30,
|                     | 2007 |                                          | 2006   |                                         | 2007 |        | 2006
|Net product sales    |      | $                                        | 50,944 |                                         | $    | 55,105 |      | $ | 156,074 |  | $ | 128,163
|Cost of sales        |      |                                          | 2,029  |                                         |      | 4,868  |      |   | 6,900   |  |   | 16,966 
|                     |      |                                          |        |                                         |      |        |      |   |         |  |   |        
|Gross product margin |      | $                                        | 48,915 |                                         | $    | 50,237 |      | $ | 149,174 |  | $ | 111,197
|                     |      |                                          |        |                                         |      |        |      |   |         |  |   |        

Vancocin cost of sales includes the cost of materials and distribution costs. Our gross product margin rate (net
product sales less cost of sales as a percent of net product sales) for Vancocin increased in the 2007 periods to approximately 95% as compared to the 2006 periods, which were 91% for the quarter ended September 30, 2006 and 87% for the nine
months ended September 30, 2006. This increase primarily results from the sale of units manufactured by Norwich Pharmaceuticals, Inc. (formerly known as OSG Norwich) during the 2007 periods, which carry a lower inventory cost. Additionally, the
nine months of 2006 includes $4.4 million resulting from the November 2005 amendment to our manufacturing agreement with Lilly whereby we increased the amount of Vancocin that Lilly supplied to us, which increased our cost of sales in the first half
of 2006 as specific higher cost units were sold.

Since units are shipped based upon earliest expiration date, our actual margins will be impacted by the
cost associated with the specific units that are sold. Additionally, we may experience fluctuations in quarterly manufacturing yields and if this occurs, we would expect the cost of product sales of Vancocin, and accordingly, gross product margin
percentage, to fluctuate from quarter to quarter.

Research and development expenses

For each of our research and development programs, we incur both direct and indirect expenses. Direct expenses include third party costs related to these programs such as contract research, consulting, cost sharing
payments or receipts, and preclinical and development costs. Indirect expenses include personnel, facility, and other overhead costs. Due to advancements in our clinical development programs, we expect future costs to materially exceed current
costs.

Research and development expenses were divided between our research and development programs in the following manner:



|                        |      |                                          |        |                                         |      |       |      |   |        |  |   |       
|----------------------- | ---- | ---------------------------------------- | ------ | --------------------------------------- | ---- | ----- | ---- | - | ------ |  | - | ------
|(in thousands)          |      | For the three months ended
September 30, |        | For the nine months ended
September 30,
|                        | 2007 |                                          | 2006   |                                         | 2007 |       | 2006
|Direct  Core programs  |      |                                          |        |                                         |      |       |      |   |        |  |   |       
|CMV                     |      | $                                        | 6,262  |                                         | $    | 5,297 |      | $ | 13,329 |  | $ | 8,517 
|HCV                     |      |                                          | 451    |                                         |      | 377   |      |   | 832    |  |   | 378   
|Vancocin / C. difficile |      |                                          | 257    |                                         |      | 135   |      |   | 635    |  |   | 789   
|Indirect                |      |                                          |        |                                         |      |       |      |   |        |  |   |       
|Development             |      |                                          | 3,573  |                                         |      | 1,720 |      |   | 8,569  |  |   | 5,150 
|                        |      |                                          |        |                                         |      |       |      |   |        |  |   |       
|Total                   |      | $                                        | 10,543 |                                         | $    | 7,529 |      | $ | 23,365 |  | $ | 14,834
|                        |      |                                          |        |                                         |      |       |      |   |        |  |   |       



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##### Table of Contents

Direct ExpensesCore Development Programs

Related to our CMV program, during the first nine months of 2007 we continued recruitment into an ongoing phase 3 study of Camvia in patents undergoing allogeneic stem cell transplant and began recruiting patients
into a second phase 3 study in patients undergoing liver transplantation. We began executing on our plans for our clinical, regulatory and commercial activities for the Camvia program in Europe. During the first nine months of 2006, we concluded a
preliminary analysis of data from our phase 2 clinical trial with Camvia and were in discussions with FDA regarding our phase 3 plans for Camvia. Included in the CMV expenses during the third quarter and nine months of 2006 was $3.0 million related
to a milestone payment due to GlaxoSmithKline associated with the initiation of the phase 3 study of Camvia.

Related to our HCV program, costs in 2007
primarily represent those paid to Wyeth in connection with our cost-sharing arrangement related to discovery efforts to identify potential back-ups/follow-on compounds to HCV-796. Development activity for our HCV product candidate, HCV-796, during
the first nine months of 2007 included completion of enrollment in the 500 mg BID arms of a phase 2 study of HCV-796 when dosed in combination with pegylated interferon and ribavirin and ongoing follow-up of patients in that study. In August 2007,
we announced that elevated liver enzyme levels in a subset of patients in this study indicated a potential safety issue. Consequently, all dosing with HCV-796 was discontinued, although patients in the phase 2 study had the option of continuing to
receive pegylated interferon and ribavirin as per standard of care. Therefore, monitoring and follow-up of patients in the phase 2 study will continue. During the first nine months of 2006, we initiated a phase 1b clinical trial of HCV-796 in
combination with pegylated interferon and prepared for the current phase 2 study. Wyeth pays a substantial portion of the collaborations predevelopment and development expenses.

Related to our Vancocin/C. difficile program, costs in 2007 and 2006 related to research and development activities, including costs related to non-toxigenic strains of C. difficile.

Anticipated fluctuations in future direct expenses are discussed under Liquidity  Development Programs.

Indirect Expenses

These costs primarily relate to the compensation
of and overhead attributable to our development team, primarily due to increased personnel.

Marketing, general and administrative expenses

Marketing, general and administrative expenses increased for the three and nine months ending September 30, 2007, $2.0 million and $5.6 million,
respectively, comparative to the same periods in 2006. For the nine month period, the largest contributors to the $5.6 million increase were medical education costs ($2.1 million), legal and consulting costs ($1.2 million) and stock compensation
expense ($1.0 million). Other contributors included corporate franchise taxes and compensation and recruiting costs, due to increased number of employees, which collectively increased by $1.3 million. These increases were partially offset by lower
business development costs. For the three month period, the largest contributors to the $2.0 million increase were medical education and legal and consulting costs. During the remainder 2007, we anticipate to continue to increase spending in
marketing, general and administrative expenses, driven by additional medical education expenses and legal and consulting costs.

Included in the increased
legal and consulting costs are expenses incurred related to our opposition to the attempt by the OGD regarding the conditions that must be met in order for a generic drug application to request a waiver of in-vivo bioequivalence testing for copies
of Vancocin, which were $2.4 million in the first nine months of 2007 as compared to $1.7 million the same period in 2006. We anticipate that these additional legal and consulting costs will continue at higher levels in future periods.

Intangible amortization

Intangible amortization is the result of
the Vancocin product rights acquisition in the fourth quarter of 2004. Additionally, as described in our agreement with Lilly, to the extent that we incur an obligation to Lilly for additional payments on Vancocin sales, we have contingent
consideration. We record the obligation as an adjustment to the carrying amount of the related intangible asset and a cumulative adjustment to the intangible amortization upon achievement of the related sales milestones. Contingent consideration and
Lilly related additional payments are more fully described in Note 4 of the Unaudited Consolidated Financial Statements.



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Intangible amortization increased in all comparative periods, with $1.4 million and $1.3 million for the three months
ended September 30, 2007 and 2006, respectively, and $4.7 million and $4.3 million for the nine months ended September 30, 2007 and 2006, respectively. The increase for the nine month comparative period was primarily related to the $0.2
million increase in the cumulative adjustment, which was $0.6 million for the first half of 2007 and $0.4 million for the first half of 2006.

In March
2006, as a result of OGDs change in approach relating to generic bioequivalence determinations, we reviewed the value of the intangible asset and concluded that there was no impairment of the carrying value of the intangible assets or change
to the useful lives as estimated at the acquisition date. Additionally, on an ongoing periodic basis, we evaluate the useful life of these intangible assets and determine if any economic, governmental or regulatory event has modified their estimated
useful lives. This evaluation did not result in a change in the life of the intangible assets during the quarter ended September 30, 2007. We will continue to monitor the actions of the OGD and consider the effects of our opposition efforts and
the announcements by generic competitors or other adverse events for additional impairment indicators and we will reevaluate the expected cash flows and fair value of our Vancocin-related assets, as well as estimated useful lives, at such time.

Other Income (Expense)

Interest Income

Interest income for three months ended September 30, 2007 and 2006 was $7.0 million and $2.5 million, and for the nine months ended
September 30, 2007 and 2006 was $17.0 million and $6.7 million, respectively. Interest income increased primarily due to increased short-term investments during the 2007 period and to a lesser extent, an increased rate of return.

Interest Expense



|                                                      |      |                                         |       |  |                                        |      |   |      |   |       |  |   |      |  
|----------------------------------------------------- | ---- | --------------------------------------- | ----- |  | -------------------------------------- | ---- | - | ---- | - | ----- |  | - | ---- | -
|(in thousands)                                        |      | For the three monthsended September 30, |       |  | For the nine monthsended September 30, |     
|                                                      | 2007 |                                         | 2006  |  |                                        | 2007 |   | 2006 |  
|Interest expense on 2% senior convertible notes       |      | $                                       | 1,231 |  | $                                      |     |   |      | $ | 2,541 |  | $ |     |  
|Interest expense on 6% subordinated convertible notes |      |                                         |      |  |                                        |     |   |      |   |      |  |   | 790  |  
|Beneficial conversion feature                         |      |                                         |      |  |                                        | (179 | ) |      |   |      |  |   | (179 | )
|Amortization of finance costs                         |      |                                         | 204   |  |                                        |     |   |      |   | 420   |  |   | 75   |  
|                                                      |      |                                         |       |  |                                        |      |   |      |   |       |  |   |      |  
|Total interest expense                                |      | $                                       | 1,435 |  | $                                      | (179 | ) |      | $ | 2,961 |  | $ | 686  |  
|                                                      |      |                                         |       |  |                                        |      |   |      |   |       |  |   |      |  

Interest expense and amortization of finance costs in 2007 relates entirely to the senior convertible notes issued
on March 26, 2007, as described in Note 6 to the Unaudited Consolidated Financial Statements.

Interest expense in 2006 relates entirely to the
subordinated convertible notes, which were redeemed on March 1, 2006. In the third quarter of 2006, we recorded a credit to interest expense related to the beneficial conversion feature because we released the remaining liability associated
with the auto-conversion provisions as the likelihood of payment was remote.

Income Tax Expense

Our effective income tax rate was 36.4% and 37.3% for the quarters ended September 30, 2007 and 2006, respectively, and 32.3% and 38.1% for the nine months ended
September 30, 2007 and 2006, respectively. Income tax expense includes federal, state and foreign income taxes at statutory rates and the effects of various permanent differences. The decrease in the 2007 rate as compared to 2006 is primarily
due to our current estimate of the impact of orphan drug credit for Camvia. Our income tax expense for the three and nine months ended September 30, 2007 and 2006 also includes the impact of finalizing the federal and state tax provisions for
2006 and 2005, respectively. We currently anticipate an effective tax rate of approximately 33% for the year ended December 31, 2007, which includes an estimate related to orphan drug credit based upon estimates of qualified expenses and
excludes the impact of discrete items. We continue to evaluate our qualified expenses and, to the extent that actual qualified expenses vary significantly from our estimates, our effective tax rate will be impacted.



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Liquidity

We expect
that our near term sources of revenue will arise from Vancocin product sales. However, we cannot predict what the actual sales of Vancocin will be in the future, the outcome of our effort to oppose the OGDs approach to bioequivalence
determinations for generic copies of Vancocin is uncertain. In addition, there are no assurances that demand for Vancocin will continue at historical or current levels.

Our ability to generate positive cash flow is also impacted by the timing of anticipated events in our CMV and HCV programs, including the scope of the clinical trials required by regulatory authorities, results from
clinical trials, the results of our product development efforts, and variations from our estimate of future direct and indirect expenses.

While we
anticipate that cash flows from Vancocin, as well as our current cash, cash equivalents and short-term investments, should allow us to fund substantially all of our ongoing development and other operating costs, as well as the interest payable on
the senior convertible notes, we may need additional financing in order to expand our product portfolio. At September 30, 2007, we had cash, cash equivalents and short-term investments of $552.2 million. At September 30, 2007, the
annualized weighted average nominal interest rate on our short-term investments was 5.2%.

Overall Cash Flows

During the nine months ended September 30, 2007, we generated $91.6 million of net cash from operating activities, primarily from the cash contribution of Vancocin,
which includes the impact of net income. Partially offsetting this cash contribution is the impact of higher accounts receivables, which is related to the timing of orders and the price increase. We also used $291.7 million of cash for investing
activities, as we purchased short-term investments and our corporate headquarters building. Our net cash provided by financing activities for the quarter ended September 30, 2007 was $220.3 million, primarily from the March 2007 issuance of
senior convertible notes, net of issuance costs, in the amount of $241.8 million, partially offset by $23.3 million used to purchase the call spread as described in Note 6 of the Unaudited Consolidated Financial Statements.

Operating Cash Inflows

We began to receive cash inflows from
the sale of Vancocin in January 2005. We cannot reasonably estimate the period in which we will begin to receive material net cash inflows from our product candidates currently under development. Cash inflows from development-stage products are
dependent on several factors, including the achievement of milestones and regulatory approvals. We may not receive milestone payments from any existing or future collaborations if a development-stage product fails to meet technical or performance
targets or fails to obtain the required regulatory approvals. Further, our revenues from collaborations will be affected by efforts of our collaborative partners. Even if we achieve technical success in developing drug candidates, our collaboration
partners may not devote the resources necessary to complete development and commence marketing of these products, when and if approved, or they may not successfully market these products. The most significant of our near-term operating development
cash inflows are as described under Development Programs.

Operating Cash Outflows

The cash flows we have used in operations historically have been applied to research and development activities, marketing and business development efforts, general and
administrative expenses, servicing our debt, and income tax payments. Bringing drugs from the preclinical research and development stage through phase 1, phase 2, and phase 3 clinical trials and FDA approval is a time consuming and expensive
process. Because our product candidates are currently in the clinical stage of development, there are a variety of events that could occur during the development process that will dictate the course we must take with our drug development efforts and
the cost of these efforts. As a result, we cannot reasonably estimate the costs that we will incur through the commercialization of any product candidate. However, due to advancements in our trials and our initiative to develop non-toxigenic strains
of C. difficile, we expect future costs to exceed current costs. The most significant of our near-term operating development cash outflows are as described under Development Programs.

Development Programs

For each of our development programs, we
incur both direct and indirect expenses. Direct expenses include third party costs related to these programs such as contract research, consulting, cost sharing payments or receipts, and preclinical and clinical development costs. Indirect expenses
include personnel, facility and other overhead costs. Additionally, for some of our development programs, we have cash inflows and outflows upon achieving certain milestones.



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Core Development Programs

CMV programFrom the date we in-licensed Camvia through September 30, 2007, we paid $35.5 million of direct costs in connection with this program, including the acquisition fee of $3.5 million paid to GSK for the rights to
Camvia in September 2003 and a $3.0 million milestone payment in February 2007.

During the remainder of 2007, we expect Camvia-related activities to
include continued recruitment into the ongoing phase 3 study in patients undergoing allogeneic stem cell transplant, as well as recruitment into a phase 3 study in patients who have received a liver transplant. We will also continue to conduct phase
1 clinical pharmacology studies to support the overall clinical development program. Based on the execution of phase 3 clinical development studies, we expect our expenses in 2007 for the CMV program to be substantially higher than in 2006. We are
solely responsible for the cost of developing our CMV product candidate.

In May 2007, we announced our decision to pursue commercialization of Camvia in
Europe, independent of strategic partners. We anticipate development and commercialization expenses related to this initiative to increase significantly beginning in 2008.

Should we achieve certain product development events, we are obligated to make certain milestone payments to GSK, the licensor of Camvia.

HCV programFrom the date that we commenced predevelopment activities for compounds in this program that are currently active through September 30, 2007, we paid $3.7 million in direct expenses for
the predevelopment and development activities relating to such compounds. These costs are net of contractual cost sharing arrangements between Wyeth and us. Wyeth pays a substantial portion of the collaborations predevelopment and development
expenses.

In August, we announced a potential safety issue identified during a phase 2 study of our HCV product candidate, HCV-796, dosed in combination
with pegylated interferon and ribavirin. Specifically, elevated liver enzyme levels were observed in a subset of patients. Consequently, all dosing with HCV-796 was discontinued, although patients in the phase 2 study had the option of continuing to
receive pegylated interferon and ribavirin as per standard of care. During the remainder of 2007, the planned activities for the HCV-796 program include continuing monitoring and follow-up of patients enrolled in the phase 2 study. In addition,
there will be extensive evaluation of available preclinical and clinical safety data in order to understand the potential risks to patients and whether further clinical studies are appropriate. No additional clinical studies with HCV-796 will be
initiated until this evaluation is complete. The results of the investigation into liver enzyme findings observed in the phase 2 study, along with other predevelopment activities performed during the year, will significantly impact the timing and
amount of expenses we will incur related to this program in future periods. In addition, discussions with the FDA regarding our plans may impact the timing, nature and cost of future planned studies. During 2007 we will continue to incur costs
associated with discovery activities to identify a follow-on/back-up molecule to HCV-796.

Should we achieve certain additional product development events,
Wyeth is required to pay us certain cash milestones pursuant to terms of our collaboration agreement. However, there can be no assurances that we will be successful in achieving these milestones.

Vancocin and C. difficile related We acquired Vancocin in November 2004 and through September 30, 2007, we have spent approximately $1.0
million in direct research and development costs related to Vancocin or on related C. difficile activities.

During the remainder of 2007, we
expect our research and development activities in the field of C. difficile to increase significantly, primarily related to our rights to develop non-toxigenic strains of C. difficile for the treatment and prevention of CDAD.
Therefore, we expect direct costs to increase above 2006 levels.

Direct ExpensesNon-Core Development Programs

Common ColdFrom the date that we commenced predevelopment activities for the intranasal formulation of pleconaril through December 31, 2004, we incurred
$1.9 million in direct expenses. We have not incurred any significant direct expenses in connection with this program since 2004, nor will we in the future, as Schering-Plough has assumed responsibility for all future development and
commercialization of pleconaril.

In November 2004, we entered into a license agreement with Schering-Plough under which Schering-Plough has assumed
responsibility for all future development and commercialization of pleconaril. Schering-Plough paid us an initial license fee of $10.0



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million in December 2004 and purchased our existing inventory of bulk drug substance for an additional $6.0 million in January 2005. We will also be eligible
to receive up to an additional $65.0 million in milestone payments upon achievement of certain targeted regulatory and commercial events, as well as royalties on Schering-Ploughs sales of intranasal pleconaril in the licensed territories.

Business development activities

Through
September 30, 2007, we paid an acquisition price of $116.0 million, recorded $23.1 million related to additional purchase price consideration tied to product sales (see Note 4 of the Unaudited Consolidated Financial Statements) and incurred
$2.0 million of fees and expenses in connection with the Vancocin acquisition.

In addition, we intend to seek to acquire additional products or product
candidates. The costs associated with evaluating or acquiring any additional product or product candidate can vary substantially based upon market size of the product, the commercial effort required for the product, the products current stage
of development, and actual and potential generic and non-generic competition for the product, among other factors. Due to the variability of the cost of evaluating or acquiring business development candidates, it is not feasible to predict what our
actual evaluation or acquisition costs would be, if any; however, the costs could be substantial.

Senior Convertible Notes

On March 26, 2007, we issued $250.0 million principal amount of senior convertible notes due in March 2017.
The senior convertible notes bear interest at a rate of 2% per annum, payable semi-annually in arrears on March 15 and September 15 of each year commencing on September 15, 2007. The senior convertible notes are convertible into
shares of the Companys common stock at an initial conversion price of $18.87 per share. Upon conversion, holders of the senior convertible notes will receive shares of common stock, subject to ViroPharmas option to irrevocably elect to
settle all future conversions in cash up to the principal amount of the senior convertible notes, and shares for any excess. We can irrevocably elect this option at any time on or prior to the 35thscheduled trading day prior to the maturity date of the senior convertible notes. Prior to the conversion period, which begins on December 15, 2016, the senior convertible notes are convertible by
the holder under specific criteria, as more fully described in Note 6 of the Unaudited Consolidated Financial Statements.

Concurrent with the
issuance of the senior convertible notes we purchased call options on our common stock in private transactions with Credit Suisse International, Credit Suisse, New York Branch, as agent for Credit Suisse International, and Wells Fargo Bank, National
Association (the call spread holders). The call options allow ViroPharma to receive up to approximately 13.25 million shares of its common stock at $18.87 from the call spread holders, equal to the amount of common stock related to
the excess conversion value that we would pay to the holders of the senior convertible notes upon conversion. These call options will terminate upon the earlier of the maturity dates of the related senior convertible notes or the first day all of
the related senior convertible notes are no longer outstanding due to conversion or otherwise. The cost of the call options, approximately $92.3 million, was recorded as a reduction to additional paid-in-capital. The cost of call option for tax
purposes creates a tax deduction since it is classified as Original Issue Discount (OID). The deduction is considered a permanent difference and as such does not create a deferred tax asset. The benefit of deduction is recorded as an increase to
additional paid-in-capital.

In a separate transaction with the issuance of the senior convertible notes, we sold warrants to Goldman Sachs and Credit
Suisse (the call spread holders) to issue shares of our common stock at an exercise price of $24.92 per share. Pursuant to this transaction, we issued warrants for approximately 13.25 million shares of our common stock. Proceeds
received from the issuance of the warrants totaled approximately $69.0 million and were recorded as an increase to additional paid-in-capital. If we have insufficient shares of common stock available for settlement of the warrants, we may issue
shares of a newly created series of preferred stock in lieu of our obligation to deliver common stock. Any such preferred stock would be convertible into 10% more shares of our common stock than the amount of common stock we would otherwise have
been obligated to deliver under the warrants.

Capital Resources

We anticipate that cash flows from Vancocin, as well as our current cash, cash equivalents and short-term investments, should allow us to fund substantially all of our ongoing development and other operating costs, as
well as the interest payable on the senior convertible notes. However, we may need additional financing in order to expand our product portfolio. Should we need financing, we would seek to access the public or private equity or debt markets, enter
into additional arrangements with corporate collaborators to whom we may issue equity or debt securities or enter into other alternative financing arrangements that may become available to us.



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Financing

If we
raise additional capital by issuing equity securities, the terms and prices for these financings may be much more favorable to the new investors than the terms obtained by our existing stockholders. These financings also may significantly dilute the
ownership of existing stockholders.

If we raise additional capital by accessing debt markets, the terms and pricing for these financings may be much more
favorable to the new lenders than the terms obtained from our prior lenders. These financings also may require liens on certain of our assets that may limit our flexibility.

Additional equity or debt financing, however, may not be available on acceptable terms from any source as a result of, among other factors, our operating results, our current indebtedness, our inability to achieve
regulatory approval of any of our product candidates, our inability to generate revenue through our existing collaborative agreements, and our inability to file, prosecute, defend and enforce patent claims and or other intellectual property rights.
If sufficient additional financing is not available, we may need to delay, reduce or eliminate current development programs, or reduce or eliminate other aspects of our business.

Critical Accounting Policies

Our consolidated financial statements and accompanying notes are prepared in accordance
with accounting principles generally accepted in the United States of America. Preparing consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses
and contingent assets and liabilities. Actual results could differ from such estimates. These estimates and assumptions are affected by the application of our accounting policies. Critical policies and practices are both most important to the
portrayal of a companys financial condition and results of operations, and require managements most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effects of matters that are
inherently uncertain.

Our summary of significant accounting policies is described in Note 2 to our Consolidated Financial Statements included in this Form
10-K. However, we consider the following policies and estimates to be the most critical in understanding the more complex judgments that are involved in preparing our consolidated financial statements and that could impact our results of operations,
financial position, and cash flows:



| |  |  | Product SalesProduct revenue is recorded upon delivery to the wholesaler, when title has passed, price is determined and collectibility is reasonably assured.
At the end of each reporting period, as part of an analysis of returns, utilizing our revenue recognition policy (derived from the criteria of SEC Staff Accounting Bulletin No. 104, including Statement of Financial Accounting Standards
No. 48, Revenue Recognition When Right of Return Exists) we analyze our estimated channel inventory and we would defer recognition of revenue on product that has been delivered if we believe that channel inventory at a period
end is in excess of ordinary business needs and if we believe the value of potential returns is materially different than our returns accrual. Further, in connection with our analysis of returns, if we believe channel inventory levels are increasing
without a reasonably correlating increase in prescription demand, we proactively delay the processing of wholesaler orders until these levels are reduced.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We establish accruals for chargebacks and rebates, sales discounts, product returns and inventory management related fees. These accruals are primarily
based upon the history of Vancocin, including both Lilly and our ownership periods, and contracts. We also consider the volume and price of our products in the channel, trends in wholesaler inventory, conditions that might impact patient demand for
our product (such as incidence of disease and the threat of generics) and other factors.

In addition to internal information, such as unit
sales, we use information from external resources, which we do not verify, to estimate the channel inventory. Our external resources include prescription data reported by IMS Health Incorporated and written information obtained from two of our three
largest wholesaler customers with respect to their inventory levels.

Chargebacks and rebates are the most subjective sales related
accruals. While we currently have no contracts with private third party payors, such as HMOs, we do have contractual arrangements with governmental agencies, including Medicaid.



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We establish accruals for chargebacks and rebates related to these contracts in the period in which we record the sale as revenue. These accruals are based
upon historical experience of government agencies market share, governmental contractual prices, our current pricing and then-current laws, regulations and interpretations. We analyze the accrual at least quarterly and adjust the balance as
needed. We believe that if our estimates of the rate of chargebacks and rebates as a percentage of annual gross sales were incorrect by 10%, our operating income and accruals would be impacted by approximately $1.0 million in the period of
correction.

During 2007, while continuing to monitor the implementation process of Medicare Part D and consistent with our normal process,
we performed an analysis on the share of Vancocin sales that ultimately go to Medicaid recipients and result in a Medicaid rebate. As part of that analysis, we considered our actual Medicaid historical rebates processed, total units sold and
fluctuations in channel inventory. As such, during the first nine months of 2007, we reduced our rebates accrual related to prior years by approximately $0.7 million. While we anticipate that our Medicaid rebate accrual should remain at this lower
level based on actual experience since the implementation of Medicare Part D, the factors addressed above could ultimately result in a material impact on future periods.

Product returns are minimal. Product return accruals are estimated based on Vancocins history of damage and product expiration returns and are recorded in the period in which we record the sale of revenue. At
each reporting period, we also compare our returns accrual balance to the estimated channel inventory to ensure the accrual balance is reasonable and within an acceptable range. For example, if the estimated channel inventory is at a high level, we
could be required to adjust our accrual upward. In the third quarter of 2007, we increased our accrual by approximately $0.6 million.

Discounts, related to payment terms, and fees for service arrangements with wholesalers are fully accrued in the period in which we record the sale of revenue. Since our customers consistently take the payment discount and fees for service
are contractual, we do not believe that future periods will be materially impacted by a change in a previous accrual.



| |  |  | Impairment of Long-lived AssetsWe review our fixed and intangible assets for possible impairment whenever events occur or circumstances indicate that the
carrying amount of an asset may not be recoverable. Assumptions and estimates used in the evaluation of impairment may affect the carrying value of long-lived assets, which could result in impairment charges in future periods. Such assumptions
include, for example, projections of future cash flows and the timing and number of generic/competitive entries into the market, in determining the undiscounted cash flows, and if necessary, the fair value of the asset and whether an impairment
exists. These assumptions are subjective and could result in a material impact on operating results in the period of impairment. While we reviewed our intangible assets in March 2006 in light of the actions taken by the OGD, we did not recognize any
impairment charges. See Note 4 of the Unaudited Consolidated Financial Statements for further information. We will continue to monitor the actions of the OGD and consider the effects of our opposition actions and the announcements by generic
competitors or other adverse events for additional impairment indicators and we will reevaluate the expected cash flows and fair value of our Vancocin-related assets at such time.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

On an ongoing periodic basis, we evaluate the useful life of intangible assets and determine if any economic, governmental or regulatory event has
modified their estimated useful lives. While we reviewed the useful life of our intangible assets in March 2006 in light of the actions taken by the OGD, we have not changed the useful life of our intangible assets. See Note 4 of the Unaudited
Consolidated Financial Statements for further information.



| |  |  | Share-Based Employee CompensationWe adopted Statement of Financial Accounting Standards No. 123R, Share-based Payment, (SFAS 123R) effective
January 1, 2006. The calculation of this expense includes judgment related to the period of time used in calculating the volatility of our common stock, the amount of forfeitures and an estimate of the exercising habits of our employees.
Changes in the volatility of our common stock or the habits of our employees could result in variability in the fair value of awards granted.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Income TaxesOur annual effective tax rate is based on expected pre-tax earnings, existing statutory tax rates, limitations on the use of tax credits and net
operating loss carryforwards and tax planning opportunities available in the jurisdictions in which we operate. Significant judgment is required in determining our annual effective tax rate and in evaluating our tax position.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

On a periodic basis, we evaluate the realizability of our deferred tax assets and liabilities and will adjust such
amounts in light of changing facts and circumstances, including but not limited to future projections of taxable income, tax legislation,



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rulings by relevant tax authorities, tax planning strategies and the progress of tax audits. We recognize the benefit of tax positions that we have taken or
expect to take on the income tax returns we file if such tax position is more likely than not of being sustained. Settlement of filing positions that may be challenged by tax authorities, including, but not limited to, uncertain tax positions as
defined by FIN 48, could impact the income tax position in the year of resolution. Additionally, our annual effective tax rate will be impacted to the extent that actual qualified expenses related to our orphan drug designation vary significantly
from our estimates. Our current tax liability is presented in the consolidated balance sheet within income taxes payable.

In the third
quarter of 2007, we established a $1.3 million liability for uncertain tax positions. This liability is subjective and could increase or decrease in any future period depending on new case law, other precedence setting events, changes or
clarifications in tax law or upon settlement if challenged by tax authorities.

In assessing the realizability of deferred tax assets, we
consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the period in
which those temporary differences becomes deductible or the NOLs and credit carryforwards can be utilized. When considering the reversal of the valuation allowance, we consider the level of past and future taxable income, the utilization of the
carryforwards and other factors. Revisions to the estimated net realizable value of the deferred tax asset could cause our provision for income taxes to vary significantly from period to period. Should we further reduce the valuation allowance of
deferred tax assets, a current year tax benefit will be recognized and future periods would then include income taxes at a higher rate than the effective rate in the period that the adjustment is made.

As our business evolves, we may face additional issues that will require increased levels of management estimation and complex judgments.

Recently Issued Accounting Pronouncements

In June 2007, the Emerging
Issues Task Force (EITF) issued EITF No. 07-3,Accounting for Nonrefundable Advance Payments for Goods or Services to Be Used in Future Research and Development Activities, (EITF 7-03) that provides guidance for
upfront payments related to goods and services of research and development costs. EITF 07-03 is effective for fiscal years beginning after December 15, 2007. While we are currently evaluating the impact of EITF 7-03 on our financial statements
upon adoption, we do not anticipate a material impact on operating results or financial position.

In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements, (SFAS 157) that provides guidance on performing fair value measurements. It does not require new fair value measurements, although it could change current practice for some companies. SFAS 157 is effective
for fiscal years beginning after November 15, 2007. While we are currently evaluating the impact of SFAS 157 on our financial statements upon adoption, we do not anticipate a material impact on operating results or financial
position.

Off-Balance Sheet Arrangements

We do not
have any off-balance sheet arrangements.



|ITEM 3. | Quantitative and Qualitative Disclosures About Market Risk
|------- | ----------------------------------------------------------

Our
holdings of financial instruments are primarily comprised of a mix of U.S. corporate debt, government securities and commercial paper. All such instruments are classified as securities available for sale. Our debt security portfolio represents funds
held temporarily pending use in our business and operations. We manage these funds accordingly. Our primary investment objective is the preservation of principal, while at the same time maximizing the generation of investment income. We seek
reasonable assuredness of the safety of principal and market liquidity by investing in cash equivalents (such as Treasury bills and money market funds) and fixed income securities (such as U.S. government and agency securities, municipal securities,
taxable municipals, and corporate notes) while at the same time seeking to achieve a favorable rate of return. Our market risk exposure consists principally of exposure to changes in interest rates. Our holdings are also exposed to the risks of
changes in the credit quality of issuers. Historically, we have typically invested in financial instruments with maturities of less than one year. The carrying amount, which approximates fair value, and the annualized weighted average nominal
interest rate of our investment portfolio at September 30, 2007, was approximately $480.5 million and 5.2%, respectively. A one percentage point change in the interest rate would have resulted in a $1.2 million impact to interest income for the
quarter ended September 30, 2007.



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Since 2006, we have also been exposed to movements in foreign currency exchange rates, specifically the Euro, for certain
immaterial expenses. We have used foreign currency forward exchange contracts based on forecasted transactions to reduce this exposure to the risk that the eventual net cash outflows, resulting from purchases from foreign testing sites, will be
adversely affected by changes in exchange rates. The nominal amount of these forwards as of September 30, 2007 was $0.3 million and the associated fair value was approximately $33,000, which is credited to research and development expense.



|ITEM 4. | Controls and Procedures
|------- | -----------------------

Evaluation of Disclosure Controls and
Procedures

An evaluation was performed under the supervision and with the participation of our management, including our Chief Executive Officer, or
CEO, and our Chief Financial Officer, or CFO, of the effectiveness of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the Exchange
Act), as of September 30, 2007. Based on that evaluation, our management, including our CEO and CFO, concluded that as of September 30, 2007 our disclosure controls and procedures were effective to ensure that information required to
be disclosed by us in reports that we file or submit under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission and that such information
is accumulated and communicated to the Companys management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

During the third quarter of 2007 there were no significant
changes in our internal control over financial reporting identified in connection with the evaluation of such controls that occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect our
internal control over financial reporting.



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PART IIOTHER INFORMATION



|ITEM 1a. | Risk Factors
|-------- | ------------

We are providing the following information regarding
changes that have occurred to previously disclosed risk factors from our Annual Report on Form 10-K for the year ended December 31, 2006 and our Quarterly Report on Form 10-Q for the quarter ended June 30, 2007. In addition to the other
information set forth below and elsewhere in this report, you should carefully consider the factors discussed under the heading Risk Factors in our Form 10-K for the year ended December 31, 2006 and our Quarterly Report on
Form 10-Q for the quarter ended June 30, 2007. The risks described in this Quarterly Report on Form 10-Q and our prior periodic reports are not the only risks facing our Company. Additional risks and uncertainties not currently known to us or
that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

Our long-term
success depends upon our ability to develop, receive regulatory approval for and commercialize drug product candidates and if we are not successful, our ability to generate revenues from the commercialization and sale of products resulting from our
product candidates will be limited.

All of our drug candidates will require governmental approvals prior to commercialization. We have not
completed the development of or received regulatory approval to commercialize any of our existing product candidates. Our failure to develop, receive regulatory approvals for and commercialize our development stage product candidates successfully
will prevent us from generating revenues from the sale of products resulting from our product candidates. Our product candidates are in the development stage and may not be shown to be safe or effective.

We initiated a phase 3 study in stem cell transplant patients for maribavir in September 2006 and a second phase 3 study in liver transplant patients in July 2007. While
our phase 2 data for maribavir were positive, maribavir requires significant additional development efforts and regulatory approvals prior to any commercialization. The primary end point for our phase 3 studies with maribavir is different than the
end point used in our phase 2 stem cell transplant study. Moreover, our phase 3 study in liver transplant patients is in a population that we have never studied. The results of ongoing and future studies of maribavir may be inconsistent with the
results from previous studies and may not support further clinical development or regulatory approval.

We initiated our phase 2 program with Wyeth for
HCV-796 in October 2006. In August 2007, we and Wyeth decided to discontinue dosing with HCV-796 in combination with pegylated interferon and ribavirin in our phase 2 study as 8% of patients showed elevated liver enzyme levels after 8 weeks or more
of therapy with HCV-796 with pegylated interferon and ribavirin. We and Wyeth continue to evaluate the observations that led to this decision in the hope of advancing this potential therapeutic agent in the future, however there can be no assurance
that we will conduct additional HCV studies in the future as the FDA or other regulatory authorities may either prohibit any future studies with HCV-796 or alternatively may require additional or unanticipated studies or clinical trial outcomes
before granting regulatory approval.

We cannot be certain that our efforts and the efforts of our partners in this regard will lead to commercially viable
products. Negative, inconclusive or inconsistent clinical trial results could prevent regulatory approval, increase the cost and timing of regulatory approval, cause us to perform additional studies or to file for a narrower indication than planned.
We do not know what the final cost to manufacture product candidates in commercial quantities will be, or the dose required to treat patients and, consequently, what the total cost of goods for a treatment regimen will be.

If we are unable to successfully develop our product candidates, we will not have a source of revenue other than Vancocin. Moreover, the failure of one or more of our
product candidates in clinical development could harm our ability to raise additional capital. Furthermore, results from our clinical trials may not meet the level of statistical significance required by the FDA or other regulatory authorities for
approval of a drug candidate.

The development of any of our product candidates is subject to many risks, including that:



| |  |  | the product candidate is found to be ineffective or unsafe;
| | - |  | -----------------------------------------------------------



| |  |  | the clinical test results for the product candidate delay or prevent regulatory approval;
| | - |  | -----------------------------------------------------------------------------------------



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| |  |  | the FDA forbids us to initiate or continue testing of the product candidates in human clinical trials;
| | - |  | ------------------------------------------------------------------------------------------------------



| |  |  | the product candidate cannot be developed into a commercially viable product;
| | - |  | -----------------------------------------------------------------------------



| |  |  | the product candidate is difficult and/or costly to manufacture;
| | - |  | ----------------------------------------------------------------



| |  |  | the product candidate later is discovered to cause adverse effects that prevent widespread use, require withdrawal from the market, or serve as the basis for
product liability claims;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | third party competitors hold proprietary rights that preclude us from marketing the product candidate; and
| | - |  | ----------------------------------------------------------------------------------------------------------



| |  |  | third party competitors market a more clinically effective, safer, or more cost-effective product.
| | - |  | --------------------------------------------------------------------------------------------------

Even if we believe that the clinical data demonstrates the safety and efficacy of a product candidate, regulators may disagree with us, which could delay, limit or
prevent the approval of such product candidate. As a result, we may not obtain regulatory approval, or even if a product is approved, we may not obtain the labeling claims we believe are necessary or desirable for the promotion of the product. In
addition, regulatory approval may take longer than we expect as a result of a number of factors, including failure to qualify for priority review of our application. All statutes and regulations governing the approval of our product candidates are
subject to change in the future. These changes may increase the time or cost of regulatory approval, limit approval, or prevent it completely.

Even if we
receive regulatory approval for our product candidates, or acquire the rights to additional already approved products, the later discovery of previously unknown problems with a product, manufacturer or facility may result in adverse consequences,
including withdrawal of the product from the market. Approval of a product candidate may be conditioned upon certain limitations and restrictions as to the drugs use, or upon the conduct of further studies, and may be subject to continuous
review.

The regulatory process is expensive, time consuming and uncertain and may prevent us from obtaining required approvals for the
commercialization of our product candidates.

We have product candidates for the prevention and treatment of CMV and treatment of HCV in clinical
development. Schering-Plough is conducting the clinical development of pleconaril. We must complete significant laboratory, animal and clinical testing on these product candidates before we submit marketing applications in the U.S. and abroad.

The rate of completion of clinical trials depends upon many factors, including the rates of initiation of clinical sites and enrollment of patients. For
example, our enrollment of patients in our phase 2 clinical trial for maribavir was impacted by our ability to identify and successfully recruit a sufficient number of patients who have undergone allogeneic hematopoietic stem cell/bone marrow
transplantation. Our phase 3 studies for maribavir will require substantially more clinical sites and patients than were required for the phase 2 studies, and many of these clinical sites and patients are expected to be in Europe. We do not have
extensive experience in executing clinical trials in Europe. We also initiated a second phase 3 study of maribavir in liver transplant patients. We have never conducted clinical studies in this population. If we are unable to initiate a sufficient
number of clinical sites and accrue sufficient clinical patients who are eligible to participate in the trials during the appropriate period, we may need to delay our clinical trials and incur significant additional costs. In addition, the FDA,
Independent Safety Monitoring Boards or Institutional Review Boards may require us to delay, restrict, or discontinue our clinical trials on various grounds, including a finding that the subjects or patients are being exposed to an unacceptable
health risk such as the partial clinical hold we have received with regard to HCV-796. We expect to submit an NDA filing in 2009 for maribavir. However, we may be unable to submit a NDA to the FDA for our product candidates within the time frame we
currently expect. Once a NDA is submitted, it must be approved by the FDA before we can commercialize the product described in the application. The cost of human clinical trials varies dramatically based on a number of factors, including:



| |  |  | the order and timing of clinical indications pursued;
| | - |  | -----------------------------------------------------



| |  |  | the extent of development and financial support from corporate collaborators;
| | - |  | -----------------------------------------------------------------------------



| |  |  | the number of patients required for enrollment;
| | - |  | -----------------------------------------------



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| |  |  | the length of time required to enroll these patients;
| | - |  | -----------------------------------------------------



| |  |  | the costs and difficulty of obtaining clinical supplies of the product candidate; and
| | - |  | -------------------------------------------------------------------------------------



| |  |  | the difficulty in obtaining sufficient patient populations and clinicians.
| | - |  | --------------------------------------------------------------------------

Even if we obtain positive preclinical or clinical trial results in initial studies, future clinical trial results may not be similarly positive. As a result, ongoing and contemplated clinical testing, if permitted by
governmental authorities, may not demonstrate that a product candidate is safe and effective in the patient population and for the disease indications for which we believe it will be commercially advantageous to market the product. The failure of
our clinical trials to demonstrate the safety and efficacy of our product candidate for the desired indications could delay the commercialization of the product.

In 2003, Congress enacted the Pediatric Research Equity Act requiring the development and submission of pediatric use data for new drug products. Our failure to obtain these data, or to obtain a deferral of, or exemption from, this
requirement could adversely affect our chances of receiving regulatory approval, or could result in regulatory or legal enforcement actions.



|Item 5. | Other Information.
|------- | ------------------

On October 26, 2007, ViroPharma
Incorporated (ViroPharma) and Alpharma Inc. (Alpharma) entered into an Amended and Restated Bulk Supply Agreement (the Supply Agreement) related to the manufacture and supply by Alpharma to ViroPharma of
vancomycin hydrochloride, the active pharmaceutical ingredient for Vancocin® (the API). The Supply Agreement allows for a second manufacturing location of API and contains the general ordering and commercial supply terms and
conditions as well as the specific economic terms for purchase of the API, including price and minimum purchase requirements.



|ITEM 6. | Exhibits
|------- | --------

List of Exhibits:



|       |  |                                                                                                                                                         
|------ |  | --------------------------------------------------------------------------------------------------------------------------------------------------------
|10.1 |  | ViroPharma Board Compensation Policy.                                                                                                                   
|       | 
|31.1   |  | Certification by Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|       | 
|31.2   |  | Certification by Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|       | 
|32.1   |  | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                 

---

| | Compensation plans and arrangements for executives and others.
|-- | --------------------------------------------------------------



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##### Table of Contents

SIGNATURES

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



|                       |  |                         |  |                                                                                                                                              
|---------------------- |  | ----------------------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------
|                       |  | VIROPHARMA INCORPORATED
|                       |  |                        
|Date: October 30, 2007 |  | By:                     |  | /s/ Michel de Rosen                                                                                                                          
|                       |  |                         |  | Michel de Rosen President, Chief Executive Officer
and Chairman of the Board of Directors (Principal Executive
Officer)                      
|                       |  |                        
|                       |  | By:                     |  | /s/ Vincent J. Milano                                                                                                                        
|                       |  |                         |  | Vincent J. Milano Vice President, Chief Operating
Officer, Chief Financial Officer and Treasurer (Principal
Financial and Accounting Officer)



31