**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      DC 20549**





**FORM
      10-Q**




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





For
      the
      quarter ended March 31, 2006





OR





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





For
      the
      transition period to .





Commission
      file number 000-50782





**Hana
      Biosciences, Inc.**


(Exact
      Name of Registrant as Specified in Its Charter)




**Delaware**
              (State
                or other jurisdiction of
              incorporation
                or organization)
            **32-0064979**
              (I.R.S.
                Employer Identification No.)**400 Oyster Point
              Blvd.,
              Suite 215, South San Francisco, CA**
            **94080**(Address
                of principal executive
                offices)
            (Zip
                Code)




**(650)
      588-6404**


(Registrant’s
      Telephone Number, Including Area Code)




Indicate
      by check mark whether the registrant: (1) 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 issuer was required
      to
      file such reports), and (2) has been subject to such filing requirements for
      the
      past 90 days. Yes x No o





Indicate
      by check mark whether the registrant is a large accelerated filer, 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 o   Accelerated
      filer o  Non-accelerated
      filer x




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





As
      of May
      10, 2006, there were 24,005,865 shares of the registrant’s common stock, $.001
      par value, outstanding.





**INDEX**




**Page****PART
                I**
            **FINANCIAL
                INFORMATION**Item
                1.
            Financial
                Statements
            3Unaudited
                Condensed Balance Sheets
            3Unaudited
                Condensed Statements of Operations
            4Unaudited
                Condensed Statement of Changes in Stockholders’ Equity
            5Unaudited
                Condensed Statements of Cash Flows
            6Notes
                to Unaudited Condensed Financial Statements
            7Item
                2.
            Management’s
                Discussion and Analysis of Financial Condition and Results of
                Operations
            14Item
                3.
            Quantitative
                and Qualitative Disclosure About Market Risk
            22Item
                4.
            Controls
                and Procedures
            22**PART
                II**
            **OTHER
                INFORMATION**Item
              1.
            Legal
              Proceedings
            23Item
                1A.
            Risk
                Factors
            23Item
                2.
            Unregistered
                Sales of Equity Securities and Use of Proceeds
            42Item
                3.
            Defaults
                Upon Senior Securities
            42Item
                4.
            Submission
                of Matters to a Vote of Security Holders
            42Item
                5.
            Other
                Information
            42Item
                6.
            Exhibits
            53Signatures
            54Index
                of Exhibits Filed with this Report














1


**Forward-Looking
      Statements**




This
      Quarterly Report contains
      forward-looking statements within the meaning of Section 27A of the
      Securities Act of 1933, as amended, or the Securities Act, and Section 21E
      of the Securities Exchange Act of 1934, as amended, or the Exchange Act. Any
      statements about our expectations, beliefs, plans, objectives, assumptions
      or
      future events or performance are not historical facts and may be
      forward-looking. These forward-looking statements include, but are not limited
      to, statements about:




·
            the
                development of our drug candidates;




·
            the
                regulatory approval of our drug candidates;




·
            our
                use of clinical research centers and other contractors;




·
            our
                ability to find collaborative partners for research, development
                and
                commercialization of potential products;




·
            acceptance
                of our products by doctors, patients or payors;




·
            our
                ability to market any of our products;




·
            our
                history of operating losses; our ability to compete against other
                companies and research institutions;




·
            our
                ability to secure adequate protection for our intellectual property;
                our
                ability to attract and retain key personnel;




·
            availability
                of reimbursement for our product candidates;




·
            the
                effect of potential strategic transactions on our business; our ability
                to
                obtain adequate financing; and




·
            the
                volatility of our stock price.




These
      statements are often, but not always, made through the use of words or phrases
      such as “anticipate,” “estimate,” “plan,” “project,” “continuing,” “ongoing,”
“expect,” “believe” “intend” and similar words or phrases. Accordingly, these
      statements involve estimates, assumptions and uncertainties that could cause
      actual results to differ materially from those expressed in them. Discussions
      containing these forward-looking statements may be found throughout this Form
      10-Q, including the section entitled “Item 2: Management’s Discussion and
      Analysis of Financial Condition and Results of Operations.” These
      forward-looking statements involve risks and uncertainties, including the risks
      discussed below in Part II, Item 1A ** “Risk
      Factors,” that could cause our actual results to differ materially from those in
      the forward-looking statements. We undertake no obligation to publicly release
      any revisions to the forward-looking statements or reflect events or
      circumstances after the date of this document. The risks discussed below in
      Part
      II, Item 1A “Risk Factors” and elsewhere in this report should be considered in
      evaluating our prospects and future financial performance.


2


**PART
      I - FINANCIAL INFORMATION**




**Item
      1. Unaudited Condensed Financial Statements**





**HANA
      BIOSCIENCES, INC.**




**(A
      DEVELOPMENT STAGE COMPANY)**




**CONDENSED
      BALANCE SHEETS**


**(Unaudited)**


**March
                  31,**
              
              **December
                  31,****2006**
              
              **2005****ASSETS**Current
                  assets:Cash
                  and cash equivalents
              
              $
              13,874,333
              
              $
              17,082,521Restricted
                  cash
              
              
              500,000
              
              
              --Prepaid
                  expenses
              
              
              83,603
              
              
              74,729Available-for-sale
                  securities
              
              
              696,000
              
              
              472,000Other
                  current assets
              
              
              20,453
              
              
              --Total
                  current assets
              
              
              15,174,389
              
              
              17,629,250Property
                  and equipment, net
              
              
              139,970
              
              
              76,496Other
                  assets
              
              
              --
              
              
              20,453Total
                  assets
              
              $
              15,314,359
              
              $
              17,726,199**LIABILITIES
                  AND STOCKHOLDERS' EQUITY**Current
                  liabilities:Accounts
                  payable
              
              $
              790,023
              
              $
              671,491Accrued
                  expenses
              
              
              797,403
              
              
              865,135Total
                  liabilities
              
              
              1,587,426
              
              
              1,536,626Commitments
                  and contingenciesStockholders'
                  equity:Preferred
                  stock, $0.001 par value:10,000,000
                  shares authorized; none issued at March 31, 2006 and December 31,
                  2005
              
              
              --
              
              
              --Common
                  stock; $0.001 par value:100,000,000
                  shares authorized; 22,658,202 and 22,348,655 shares issued and
                  outstanding
                  at March 31, 2006 and December 31, 2005,
                  respectively
              
              
              22,658
              
              
              22,349Additional
                  paid-in capital
              
              
              35,148,069
              
              
              34,400,345Accumulated
                  other comprehensive income (loss)
              
              
              60,000
              
              
              (164,000
              )Deficit
                  accumulated during the development stage
              
              
              (21,503,794
              )
              
              (18,069,121
              )Total
                  stockholders' equity
              
              
              13,726,933
              
              
              16,189,573Total
                  liabilities and stockholders' equity
              
              $
              15,314,359
              
              $
              17,726,199


See
      accompanying notes to unaudited condensed financial statements.


3


**HANA
      BIOSCIENCES, INC.**




**(A
      DEVELOPMENT STAGE COMPANY)**




**CONDENSED
      STATEMENTS OF OPERATIONS**


**(Unaudited)**






******Three
                Months
                Ended March 31,**
            
            **Cumulative
                Period from December 6, 2002 (date of inception) to March
                31,****2006**
            
            **2005**
            
            **2006**Operating
                expenses:General
                and administrative
            
            $
            983,975
            
            $
            707,213
            
            $
            7,817,557Research
                and development
            
            
            2,578,132
            
            
            1,721,725
            
            
            13,992,228Total
                operating expenses
            
            
            3,562,107
            
            
            2,428,938
            
            
            21,809,785Loss
                from operations
            
            
            (3,562,107
            )
            
            (2,428,938
            )
            
            (21,809,785
            )Other
                income (expense):Interest
                income, net
            
            
            135,326
            
            
            19,567
            
            
            334,107Other
                expense, net
            
            
            (7,892
            )
            
            (7,504
            )
            
            (28,116
            )Total
                other income, net
            
            
            127,434
            
            
            12,063
            
            
            305,991Net
                loss
            
            $
            (3,434,673
            )
            $
            (2,416,875
            )
            $
            (21,503,794
            )Net
                loss per share, basic and diluted
            
            $
            (0.15
            )
            $
            (0.18
            )Weighted
                average shares used in computing net loss per share, basic and
                diluted
            
            
            22,456,849
            
            
            13,569,263




See
      accompanying notes to unaudited condensed financial statements.


4


**HANA
      BIOSCIENCES, INC.**


**(A
      DEVELOPMENT STAGE COMPANY)**





**CONDENSED
      STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY**


**(Unaudited)**





Period
      from January 1, 2006 to March 31, 2006





**Common stock****Shares**
                
                **Amount**
                
                **Additional
                    paid-in capital**
                
                **Accumulated
                    other comprehensive income (loss)**
                
                **Deficit
                    accumulated during development**
                  **stage**
                
                **Total**
                  **stockholders'
                    equity**
                
                **Comprehensive
                    Loss**Balance
                    at January 1, 2006
                
                
                22,348,655
                
                $
                22,349
                
                $
                34,400,345
                
                $
                (164,000
                )
                
                (18,069,121
                )
                $
                16,189,573
                
                $
                (10,206,963
                )Issuance
                    of shares upon exercise of warrants and options
                
                
                309,547
                
                
                309
                
                
                561,327
                
                
                --
                
                
                --
                
                
                561,636
                
                
                --Stock-based
                    compensation of employees amortized over vesting period of stock
                    options
                
                
                --
                
                
                --
                
                
                186,397
                
                
                --
                
                
                --
                
                
                186,397
                
                
                --Net
                    loss
                
                
                --
                
                
                --
                
                
                --
                
                
                --
                
                
                (3,434,673
                )
                
                (3,434,673
                )
                
                (3,434,673
                )Unrealized
                    gain on available for sale securities
                
                
                --
                
                
                --
                
                
                --
                
                
                224,000
                
                
                --
                
                
                224,000
                
                
                224,000Balance
                    at March 31, 2006
                
                
                **22,658,202**
                
                **$**
                **22,658**
                ****
                **$**
                **35,148,069**
                ****
                **$**
                **60,000**
                ****
                **$**
                **(21,503,794**
                **)**
                **$**
                **13,726,933**
                ****
                **$**
                **(13,417,636**
                **)**




See
      accompanying notes to unaudited condensed financial statements.





5


**HANA
      BIOSCIENCES, INC.**


**(A
      DEVELOPMENT STAGE COMPANY)**





**CONDENSED
      STATEMENTS OF CASH FLOWS**


**(Unaudited)**





**Three
                          Months Ended**
                      
                      **Cumulative****March
                          31,**
                      
                      **Period
                          from****37,596****(date
                          of inception) to****2006**
                      
                      **2005**
                      
                      **March
                          31, 2006****Cash
                          flows from operating activities:**Net
                          loss
                      
                      $
                      (3,434,673
                      )
                      $
                      (2,416,875
                      )
                      $
                      (21,503,794
                      )Adjustments
                          to reconcile net loss to net cash used in operating
                          activities:Depreciation
                          and amortization
                      
                      
                      12,462
                      
                      
                      7,415
                      
                      
                      84,448Stock-based
                          compensation of employees
                      
                      
                      186,397
                      
                      
                      208,651
                      
                      
                      1,550,216Services
                          rendered for satisfaction of unearned consulting fee
                      
                      
                      --
                      
                      
                      --
                      
                      
                      212,445Stock-based
                          compensation of nonemployees
                      
                      
                      --
                      
                      
                      19,371
                      
                      
                      554,698Services
                          rendered in lieu of payment for subscription receivable
                      
                      
                      --
                      
                      
                      --
                      
                      
                      36,000Issuance
                          of shares in partial consideration for license agreement
                      
                      
                      --
                      
                      
                      --
                      
                      
                      500,000Shares
                          to be issued to employees for services rendered
                      
                      
                      --
                      
                      
                      --
                      
                      
                      249,750Changes
                          in operating assets and liabilities:Prepaid
                          expenses and other assets
                      
                      
                      (8,874
                      )
                      
                      (6,467
                      )
                      
                      (104,056
                      )Increase
                          in accounts payable
                      
                      
                      118,532
                      )
                      
                      307,757
                      
                      
                      790,023Increase
                          (decrease) in accrued and other current liabilities
                      
                      
                      (67,732
                      )
                      
                      (135,984
                      )
                      
                      797,403Net
                          cash used in operating activities
                      
                      
                      (3,193,888
                      )
                      
                      (2,016,132
                      )
                      
                      (16,832,867
                      )**Cash
                          flows from investing activities:**Purchase
                          of property and equipment
                      
                      
                      (75,936
                      )
                      
                      (2,489
                      )
                      
                      (224,418
                      )Purchase
                          of equity securities
                      
                      
                      --
                      
                      
                      --
                      
                      
                      (636,000Restricted
                          cash deposited in escrow
                      
                      
                      (500,000
                      )
                      
                      
                      
                      
                      (500,000
                      )Net
                          cash used in investing activities
                      
                      
                      (575,936
                      )
                      
                      (2,489
                      )
                      
                      (1,360,418
                      )**Cash
                          flows from financing activities:**Proceeds
                          from issuances of notes payable to stockholders
                      
                      
                      --
                      
                      
                      --
                      
                      
                      801,619Collection
                          of subscription receivable
                      
                      
                      --
                      
                      
                      --
                      
                      
                      4,000Repayment
                          of notes payable to stockholders
                      
                      
                      --
                      
                      
                      --
                      
                      
                      (651,619
                      )Proceeds
                          from exercise of warrants and options
                      
                      
                      561,636
                      
                      
                      --
                      
                      
                      1,104,651Proceeds
                          from private placements of preferred and common stock,
                          net
                      
                      
                      --
                      
                      
                      --
                      
                      
                      30,808,967Net
                          cash provided by financing activities
                      
                      
                      561,636
                      
                      
                      --
                      
                      
                      32,067,618Net
                          increase (decrease) in cash and cash equivalents
                      
                      
                      (3,208,188
                      )
                      
                      (2,018,621
                      )
                      
                      13,874,333Cash
                          and cash equivalents, beginning of period
                      
                      
                      17,082,521
                      
                      
                      6,584,361
                      
                      
                      --Cash
                          and cash equivalents, end of period
                      
                      $
                      13,874,333
                      
                      $
                      4,565,740
                      
                      $
                      13,874,333Supplemental
                          disclosures of cash flow data:Cash
                          paid for interest
                      
                      $
                      --
                      
                      $
                      --
                      
                      $
                      39,453Supplemental
                          disclosures of noncash financing activities:Common
                          stock issued on conversion of preferred stock
                      
                      $
                      --
                      
                      $
                      --
                      
                      $
                      2,395Common
                          stock issued for repayment of debt
                      
                      $
                      --
                      
                      $
                      --
                      
                      $
                      150,000Unrealized
                          gain on available-for-sale securities
                      
                      $
                      224,000
                      
                      $
                      --
                      
                      $
                      60,000Common
                          stock issued to employees for services rendered in 2004
                      
                      $
                      --
                      
                      $
                      249,750
                      
                      $
                      249,750





See
      accompanying notes to unaudited condensed financial
      statements.


6


**HANA
        BIOSCIENCES, INC.**
 **(A
        DEVELOPMENT STAGE COMPANY)**
 
 **NOTES
        TO UNAUDITED CONDENSED FINANCIAL
        STATEMENTS**




**NOTE
      1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**





*Basis
      of Presentation*





The
      accompanying unaudited condensed financial statements have been prepared in
      accordance with United States generally accepted accounting principles for
      interim financial information of “publicly held companies” and, accordingly,
      they do not include all required disclosures for complete annual Financial
      Statements. The financial statements include all adjustments (consisting
      only of normal recurring adjustments) that the management of Hana Biosciences,
      Inc. (“Hana,” the “Company,” “we,” “us” or “our”) believes are necessary for a
      fair presentation of the periods presented. These interim financial results
      are
      not necessarily indicative of results to be expected for the full fiscal
      year.





The
      accompanying condensed financial information should be read in conjunction
      with
      the audited consolidated financial statements for the year ended December 31,
      2005, included in the Company's Annual Report on Form 10-K for the year ended
      December 31, 2005 (the “Form 10-K”) filed with the Securities and Exchange
      Commission (“SEC”) on March 16, 2006. The accompanying condensed balance sheet
      as of December 31, 2005 has been derived from the audited balance sheet as
      of
      that date included in the Form 10-K.





*Use
      of Management’s Estimates*




The
      preparation of financial statements in conformity with accounting principles
      generally accepted in the United States requires management to make estimates
      based upon current assumptions that affect the amounts reported in the financial
      statements and accompanying notes. Actual conditions may differ materially
      from
      our current assumptions of liabilities, assets, revenues and expenses. 
This may result in our estimates being incorrect and may require us to record
      additional charges or benefits in operations.





*Segment
      Reporting*




The
      Company has determined that it operates in only one segment currently, which
      is
      the research and development of oncology therapeutics for use in humans.





*Loss
      Per Share*





Basic
      net
      loss per common share is calculated by dividing net loss by the weighted-average
      number of common shares outstanding for the period (there were no adjustments
      to
      net loss since there were no requirements to pay dividends on outstanding
      preferred stock). Diluted net loss per common share is the same as basic net
      loss per common share, since potentially dilutive securities from stock options,
      stock warrants and convertible preferred stock would have an antidilutive effect
      because the Company incurred a net loss during each period presented. The number
      of shares potentially issuable at March 31, 2006 and 2005 upon exercise or
      conversion that were not included in the computation of net loss per share
      totaled 4,590,253 and 2,646,686 respectively.





**NOTE
      2. RECENT ACCOUNTING PRONOUNCEMENTS**




December
      2004, the Financial Accounting Standards Board (“FASB”) issued Statement of
      Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment”
(“SFAS No. 123R”) requiring that the compensation cost relating to all
      share-based payment transactions including employee stock options, be recognized
      in financial statements. As explained in Note 4, the Company adopted SFAS No.
      123R on January 1, 2006. Prior to the adoption of SFAS 123R, the Company used
      the intrinsic value method to account for employee stock options and only
      recorded compensation if the fair market value exceeded the exercise price
      at
      the date of grant.




7


**** **HANA
        BIOSCIENCES, INC.**
 **(A
        DEVELOPMENT STAGE COMPANY)**
 
 **NOTES
        TO UNAUDITED CONDENSED FINANCIAL STATEMENTS**




The
      FASB
      and the SEC had issued certain accounting pronouncements as of March 31, 2006
      that will become effective in subsequent periods; however, our management does
      not believe that any of those pronouncements would have significantly affected
      our financial accounting measurements or disclosures had they been in effect
      during the interim periods for which financial statements are included in this
      quarterly report.





**NOTE
      3. LIQUIDITY AND CAPITAL RESOURCES**





The
      Company reported a net loss of $3,434,673 for the three months ended March
      31,
      2006. The net loss from date of inception, December 6, 2002 to March 31, 2006
      amounted to $21,503,794. The Company’s operating activities have used $16.8
      million in cash since its inception.





We
      have
      financed our operations since inception primarily through equity and debt
      financing. During the three months ended March 31, 2006, we had a net decrease
      in cash and cash equivalents of $3.2 million. This decrease primarily resulted
      from net cash used in operating activities of $3.2 million and net cash used
      in
      investing activities of approximately $0.6 million offset by net cash provided
      by financing activities of $0.6 million for the three months ended March 31,
      2006. Total cash resources as of March 31, 2006 were $13.8 million compared
      to
      $17.1 million at December 31, 2005.





Our
      continued operations will depend on whether we are able to raise additional
      funds through various potential sources, such as equity and debt financing.
      Through March 31, 2006, a significant portion of our financing has been through
      private placements of common stock, preferred stock and debt financing. We
      will
      continue to fund operations from cash on hand and through the similar sources
      of
      capital previously described. We can give no assurances that any additional
      capital that we are able to obtain will be sufficient to meet our needs. On
      May
      6, 2006, we entered into a License Agreement with Inex Pharmaceuticals
      Corporation pursuant to which we licensed the worldwide rights to develop and
      commercialize three additional product candidates from Inex. See Note 8.A.
      Given
      the current and desired pace of clinical development of our six product
      candidates, including three to be developed under the agreement with Inex we
      estimate that we will have sufficient cash on hand to fund clinical development
      through year-end 2006. We may, however, choose to raise additional capital
      before year-end 2006 in order to fund our future development activities, likely
      by selling shares of our capital stock or other securities. If we are unable
      to
      raise additional capital, we will likely be forced to curtail our desired
      development activities beyond 2006, which will delay the development of our
      product candidates. There can be no assurance that such capital will be
      available to us on favorable terms or at all. We will need additional financing
      thereafter until we can achieve profitability, if ever.





**NOTE
      4. STOCKHOLDERS’ EQUITY**





**Stock
      Options and Warrants** :


During
      the first quarter ended March 31, 2006, the Company issued 309,547 shares of
      common stock upon the exercise of warrants and options, of which 110,000 related
      to the exercise of stock options. These exercises of securities resulted in
      aggregate net proceeds of $561,636.





The
      following table summarizes the warrants outstanding as of March 31, 2006 and
      the
      changes in outstanding warrants in the three months then ended:





8


**HANA
        BIOSCIENCES, INC.**
 **(A
        DEVELOPMENT STAGE COMPANY)**
 
 **NOTES
        TO UNAUDITED CONDENSED FINANCIAL STATEMENTS**


NUMBER
                    OF SHARES SUBJECT TO WARRANTS OUTSTANDING
                
                WEIGHTED-AVERAGE
                    EXERCISE PRICEWarrants
                    outstanding January 1, 2006
                
                
                2,448,982
                
                $
                3.31Warrants
                    exercised
                
                
                199,547
                
                
                1.62Warrants
                    cancelled
                
                
                2,069
                
                
                1.85Warrants
                    outstanding March 31, 2006
                
                
                2,247,366
                
                $
                3.47





The
      Company currently awards stock option grants under the “2003 Stock Option Plan”
and the “2004 Stock Incentive Plan.” Under the 2003 plan, the Company may grant
      incentive and non-qualified stock options to employees, directors, consultants
      and service providers to purchase up to an aggregate of 1,000,000 shares of
      its
      common stock. Under the 2004 plan, the Company may grant incentive and
      non-qualified stock options to employees, directors, consultants and service
      providers to purchase up to an aggregate of 4,000,000 shares. Historically,
      stock options issued under these plans primarily vest ratably on an annual
      basis
      over the vesting period, which has generally been three years.





The
      following table summarizes information about stock options outstanding at March
      31, 2006 and changes in outstanding options in the three months then ended,
      all
      of which are at fixed prices:




NUMBER
                  OF SHARES SUBJECT TO OPTIONS OUTSTANDING
              
              WEIGHTED AVERAGE
                  EXERCISE PRICE PER SHARE
              
              WEIGHTED
                  AVERAGE REMAINING CONTRACTUAL TERM
              
              AGGREGATE
                  INTRINSIC VALUEOutstanding
                  January 1, 2006
              
              
              2,452,887
              
              $
              1.01Options
                  granted
              
              
              --
              
              
              --Options
                  cancelled
              
              
              --
              
              
              --Options
                  exercised
              
              
              110,000
              
              
              2.39Outstanding
                  March 31, 2006
              
              
              2,342,887
              
              
              0.94
              
              
              8.22
              
              $
              22,393,704Exercisable
                  at March 31, 2006
              
              
              1,194,575
              
              
              0.65
              
              
              7.88
              
              $
              11,765,905





The
      total
      aggregate intrinsic value of stock options exercised during the three months
      ended March 31, 2006 was $557,700. Under SFAS No. 123R, there was approximately
      $186,000 of compensation cost related to employee stock options recognized
      in
      the operating results for the three months ended March 31, 2006, $86,000 of
      which was included in the general and administrative expenses and $100,000
      of
      which was included in the research and development expenses. For the three
      months ended March 31, 2006, the Company recognized no costs related to
      non-employee stock options, compared to $19,731 of stock-based compensation
      expense recognized in the same period for 2005. All of the employee compensation
      costs recognized under SFAS No.123R for the three months ended March 31, 2006
      were for options granted in prior years as the Company did not grant any
      additional options under any of the stock options plans during that period.
      As
      of March 31, 2006, we estimate that there was $1.0 million in total,
      unrecognized compensation costs related to non-vested share based compensation
      arrangements, which is expected to be recognized over a weighted average period
      of 1.56 years.





Effective
      January 1, 2006, we adopted the provisions of SFAS No.123R requiring that
      compensation cost relating to all share-based employee payment transactions
      be
      recognized in the financial statements. The cost is measured at the grant date,
      based on the fair value of the award using the Black-Scholes option pricing
      model, and is recognized as an expense over the employee’s requisite service
      period (generally the vesting period of the equity award). We adopted SFAS
      No.123R using the modified prospective method and, accordingly, financial
      statement amounts for prior periods presented in this Form 10-Q have not been
      restated to reflect the fair value method of recognizing compensation cost
      relating to stock options.





9


**** **HANA
        BIOSCIENCES, INC.**
 **(A
        DEVELOPMENT STAGE COMPANY)**
 
 **NOTES
        TO UNAUDITED CONDENSED FINANCIAL STATEMENTS**




In
      applying SFAS No. 123R, we estimated the fair value of each option award is
      estimated on the date of grant using the Black-Scholes option-pricing model.
      As
      allowed by SFAS
      No. 123R for
      companies with a short period of publicly traded stock history, our estimate
      of
      expected volatility is based on the average expected volatilities of a sampling
      of five companies with similar attributes to our Company, including **:** industry, stage of life cycle, size and financial leverage. As we have so far
      only awarded “plain vanilla options” as permitted by the SEC’s Staff Accounting
      Bulletin No.107, we used the “simplified method” for determining the expected
      life of the options granted. This method is allowed until December 31, 2007,
      after which we will be required to adopt another method to determine expected
      life of the option awards. The risk-free rate for periods within the contractual
      life of the option is based on the U.S. treasury yield curve in effect at the
      time of grant valuation. SFAS
      No. 123R does not
      allow companies to account for option forfeitures as they occur. Instead,
      estimated option forfeitures must be calculated upfront to reduce the option
      expense to be recognized over the life of the award and updated upon the receipt
      of further information as to the amount of options expected to be forfeited.
      The
      Company has calculated the forfeiture rate, as required by SFAS
      No. 123R ,
      by
      taking the average of options forfeited each year as a percentage of average
      total options outstanding for the year. Based on our historical information,
      we
      currently estimate that 10% of our stock options awarded will be forfeited.





Prior
      to
      January 1, 2006, we accounted for option grants to employees using the intrinsic
      value method in accordance with Accounting Principles Board Opinion No. 25,
      “Accounting for Stock Issued to Employees” (“APB No. 25”), and related
      interpretations. We also followed the disclosure requirements of Statement
      of
      Financial Accounting Standards No. 123, “Accounting for Stock-Based
      Compensation”, as amended by Statement of Financial Accounting Standards No.
      148, “Accounting for Stock-Based Compensation-Transition and Disclosure”. Under
      the guidelines of APB No. 25, we were only required to record a charge for
      grants of options to employees if on the date of grant they had an “intrinsic
      value” which was calculated based on the excess, if any, of the market value of
      the option over the exercise price. For purposes of comparison, we calculated
      the pro forma net loss for the three months ended March 31, 2005 as if all
      options had originally been calculated consistent with the requirements of
      SFAS
      No. 123R, adding back to the net loss all compensation expense recognized using
      the intrinsic value method, as described in APB No. 25.





**Three
                  Months Ended****March
                  31, 2005**Net
                  loss, as reported
              
              $
              (2,416,875
              )Add:
                  Total stock-based employee compensation cost determined under intrinsic
                  value method for stock options granted under APB No.25
              
              
              208,651Deduct:
                  Total stock-based employee compensation expense determined under
                  the fair
                  value method under SFAS No.123
              
              
              (211,781
              )Pro
                  forma net loss
              
              $
              (2,420,005
              )Loss
                  per share of common stock:
              
              $
              (0.18
              )Basic
                  - as reported$
              (0.18
              )





10


We
      did
      not grant any share-based compensation awards in the three months ended March
      31, 2006. The following table summarizes the assumptions used in applying the
      Black-Scholes option pricing model to determine the fair value of options
      granted during the three months ended March 31, 2005:


**Three months ended****March
                  31, 2005**Expected
                  volatility
              
              
              0.8Expected
                  term (years)
              
              
              6.0Risk-free
                  interest rate
              
              
              3.71
              %Dividend
                  yield
              
              
              0.0
              %





**NOTE
      5. INVESTMENT IN EQUITY SECURITIES**





During
      October 2004, the Company acquired 400,000 shares of common stock from NovaDel
      Pharma, Inc. (“NovaDel”) for $2.50 a share. We paid a premium of $0.91 per share
      over the market value of the NovaDel shares, which was $1.59 on the purchase
      date. Of the $1.0 million paid for the 400,000 shares, the premium of $0.91
      per
      share, or $364,000, was expensed upon acquisition. The remaining fair market
      value of $636,000 was recorded as an available-for-sale security. As a result
      of
      restrictions on its ability to sell the shares, the Company was required by
      SFAS
      No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” to
      account for those shares using the cost method through October 2006 and
      thereafter as marketable equity securities. As of March 31, 2006, the Company
      has classified the shares as available-for-sale and recorded changes in their
      value as part of its comprehensive income. The following is a summary of the
      Company's available-for-sale securities at March 31, 2006:





**March
                  31, 2006****Gross**
              
              **Gross****Original**
              
              **Unrealized**
              
              **Unrealized**
              
              **Estimated****Cost**
              
              **Gains**
              
              **Losses**
              
              **Fair Value**Shares
                  of NovaDelPharma
                  Inc.
              
              $
              636,000
              
              $
              60,000
              
              $
              --
              
              $
              696,000





**NOTE
      6. RESTRICTED CASH**





On
      March
      16, 2006, the Company entered into an escrow agreement with Inex
      Pharmaceuticals, Inc. (“Inex”) and a third party escrow agent. Pursuant to the
      terms of the escrow agreement, the Company deposited with the escrow agent
      $500,000 in cash and 111,857 shares of its common stock and Inex deposited
      the
      cash sum of $150,000. In connection with the escrow agreement, the Company
      and
      Inex also entered into a letter of intent dated March 16, 2006 that set forth
      certain proposed non-binding terms of a transaction in which the Company would
      license (or sublicense) from Inex the right to develop and commercialize
      technologies relating to three oncology product candidates. The terms of the
      escrow agreement provided that if the parties failed to complete the
      transactions contemplated by the letter of intent, then the respective deposits
      of the Company and Inex would be disbursed to the party causing such failure,
      or
      to the party making the deposit in the event the failure to complete the
      transaction was caused by neither party. The Company and Inex completed the
      transactions contemplated by the letter of intent on May 6, 2006. See Note
      8.A.





11


**HANA
        BIOSCIENCES, INC.**
 **(A
        DEVELOPMENT STAGE COMPANY)**
 
 **NOTES
        TO UNAUDITED CONDENSED FINANCIAL STATEMENTS**




**NOTE
      7. COMMITMENTS**





The
      Company entered into a written three year employment agreement with its
      President and Chief Executive Officer dated November 1, 2003. This agreement
      was
      amended in December 2005 and now provides for an employment term that expires
      in
      November 2008. The aggregate amount of compensation to be provided over the
      remaining term of the agreement amounted to approximately $687,000 at March
      31,
      2006.




The
      Company entered into a written two year employment agreement with its Vice
      President of Business Development on January 25, 2004. This agreement was
      amended in December 2005 and now provides for an employment term that expires
      in
      November 2008. The aggregate amount of compensation to be provided over the
      remaining term of the agreement amounted to approximately $500,000 at March
      31,
      2006.





The
      Company entered into a written three year employment agreement with its Vice
      President and Chief Medical Officer on October 21, 2004. The aggregate amount
      of
      compensation to be provided for over the remaining term of the agreement
      amounted to approximately $380,000 at March 31, 2006.





**NOTE
      8. SUBSEQUENT EVENT**





**A.**  **Transaction
      with Inex Pharmaceuticals Corporation**




On
        May 6,
        2006, the Company entered into a license agreement with Inex, a Vancouver,
        British Columbia-based biotechnology company.  Pursuant to the license
        agreement, the Company received an exclusive, worldwide license to patents,
        technology and other intellectual property relating to three product candidates
        held by Inex: Marqibo (vincristine sulfate) Sphingosomal Injection, sphingosomal
        vinorelbine and sphingosomal topotecan.  Under the license agreement the
        Company also received an exclusive, worldwide sublicense to other patents
        and
        intellectual property relating to these product candidates held by the
        University of Texas M.D. Anderson Cancer Center, or MDACC.  MDACC consented
        to the sublicense. In addition, the Company entered into a sublicense agreement
        with Inex and the University of British Columbia, or UBC, which licenses
        to Inex
        other patents and intellectual property relating to the technology used in
        Marqibo, sphingosomal vinorelbine and sphingosomal topotecan.  Further,
        Inex assigned to the Company its rights under a license agreement with Elan
        Pharmaceuticals, Inc., from which Inex had licensed additional patents and
        intellectual property relating to the three sphingosomal product
        candidates.
 
 In
        consideration for the license, sublicense and assignments from Inex, the
        Company
        paid to Inex aggregate consideration of $11.5 million, consisting of $1.5
        million in cash and 1,118,568 shares of its common stock. The shares of common
        stock were valued at $10.0 million or $8.94 per share, which was the weighted
        average price of the Company’s common stock during the 20 trading days prior to
        the parties’ March 16, 2006 letter of intent.  The Company also agreed to
        pay to Inex a royalty on net sales of the licensed products upon the achievement
        of specified development and regulatory milestones and up to a maximum aggregate
        amount of $30.5 million for all product candidates.  At the Company’s
        election, the milestone payments may be paid in shares of our common stock.
         In addition, the Company assumed all of Inex’s royalty, milestone and
        other payment obligations owing to its licensors relating to the intellectual
        property underlying the three product candidates. The milestones and other
        payments may include annual license maintenance fees of up to $155,000 as
        well
        as $2.5 million in milestone payments.






12
 
 **HANA
          BIOSCIENCES, INC.**
 **(A
          DEVELOPMENT STAGE COMPANY)**
 
 **NOTES
          TO UNAUDITED CONDENSED FINANCIAL STATEMENTS**
  Under
            the
            license agreement with Inex, the Company is solely responsible for the
            development of the licensed sphingosomal technologies and agreed to use
            its
            commercially reasonable efforts to conduct the clinical trials necessary
            to
            obtain regulatory approval of Marqibo, sphingosomal vinorelbine and sphingosomal
            topotecan, and to prepare and file the appropriate regulatory submissions
            for
            each product candidate.  In addition, the Company agreed to undertake all
            activities customarily associated with sales of pharmaceutical products,
            including pre and post-launch activities.
 
 The
            Company agreed to register for resale the 1,118,568 shares of our common
            stock
            issued to Inex on or before July 5, 2006, and to use commercially reasonable
            efforts to have such registration statement declared effective by the
            Securities
            and Exchange Commission on or before November 5, 2006.  If we do not file
            the registration statement by July 5, 2006, or if the registration statement
            is
            not declared effective by November 5, 2006, then we must issue to Inex,
            in
            either case, a number of additional shares our common stock equal to
            2% of the
            shares issued at the closing of the transaction.  Inex has agreed that it
            will not sell more than 25% of the shares issued in the transaction in
            each
            three-month period commencing on the effective date of the registration
            statement.


**B.**  **Stock
      Option Grants**





The
      number of outstanding employee stock options as of March 31, 2006 shown in
      the
      Note 3 above does not include options to purchase 1,319,976 shares, of which
      options to purchase 12,000 shares were issued to non-employees. The grant of
      such options became effective upon the approval by the Company’s stockholders of
      the 2004 Stock Incentive Plan at the Company’s Annual Meeting of Stockholders
      held May 9, 2006. The vesting term for these stock options granted to employees
      is between one and three years and the weighted average exercise price is $4.80
      and have a term of 10 years. These options will be valued using the Black
      Scholes option pricing model and expense will be recognized accordingly starting
      in the three months ended June 30, 2006. The weighted average exercise price
      is
      below the fair market value on May 9, 2006, the grant date, as the exercise
      price is equal to the stock price on the date of hire for all employees.


13


**Item
      2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
      OF
      OPERATIONS**




The
      following discussion of our financial condition and results of operations should
      be read in conjunction with the financial statements and the notes accompanying
      those statements included elsewhere in this Form 10-Q. This discussion includes
      forward-looking statements that involve risks and uncertainties. As a result
      of
      many factors, such as those set forth under “Risk Factors” in Item 1A of Part II
      of this Form 10-Q, our actual results may differ materially from those
      anticipated in these forward-looking statements.





**Overview**





We
      are a
      South San Francisco, California-based, development stage biopharmaceutical
      company focused on the acquisition, development and commercialization of
      innovative products to enhance cancer care. We aim to acquire proprietary rights
      to these products, by license or otherwise, fund their research and development
      and bring the products to market. Since our inception in December 2002, our
      efforts and resources have been focused primarily on acquiring and developing
      our pharmaceutical technologies, raising capital and recruiting personnel.





We
      currently have six products in development:





·
            *Zensana**TM**(**ondansetron
                HCI) Oral Spray*-*Bioequivalent
                to 8mg Oral Zofran Tablet with Multidose Convenience and Desirable
                Route
                of Administration.*We
                believe that Zensana, which we licensed from NovaDel Pharma, Inc.
                in
                October 2004, is the only multidose oral spray product candidate
                currently
                in development which utilizes a micro mist spray technology to deliver
                full doses of ondansetron to patients experiencing chemo- and
                radiotherapy-induced nausea and vomiting. Ondansetron, a selective
                blocking agent of the hormone serotonin, is an FDA-approved drug
                that is
                commonly used in tablet form to prevent chemotherapy- and
                radiation-induced and post-operative nausea and vomiting. Many patients
                receiving chemo and radiation therapy have difficulty swallowing
                and are
                potentially unable to tolerate other forms of ondansetron and other
                therapies intended to prevent nausea and vomiting, known as antiemetics.
                We believe that the convenience of drug delivery via a spray may
                offer a
                desirable alternative to tablets and other forms of ondansetron.
                In
                addition, we believe that drug delivery via a spray to the oral mucosa
                may
                avoid degradation of the drug in the gastrointestinal tract and metabolism
                by liver enzymes. All spray pump components used in our clinical
                trials for Zensana are standard components, and with the exception
                of the
                oral applicator, are currently being used for DDAVP® Nasal Spray
                manufactured for Aventis Pharmaceuticals Inc. by Ferring AB. The
                oral
                applicator is currently being used for Lamisil® Spray marketed by Novartis
                AG. We completed certain limited clinical trials of Zensana related
                to
                bioequivalence and bioavailability in early 2006, and hope to file
                an NDA
                under Section 505(b)(2) of the Food, Drug and Cosmetic Act, or FDCA,
                in
                the second quarter of 2006. If approved by the FDA, we intend to
                commercially launch Zensana in the United States in 2007.  ·
            *Marqibo
                (vincristine sulfate) Liposomes Injection - A Novel Targeted Anti-Cancer
                Compound for Non-Hodgkin’s Lymphoma and Acute Lymphocytic
                Leukemia*.
                Marqibo, which we licensed from Inex Pharmaceuticals Corporation,
                or Inex,
                in May 2006, is a novel, targeted sphingosome encapsulated formulation
                of
                the FDA-approved cancer drug vincristine.Sphingosomal
                drug delivery consists of using an FDA-approved cancer agent (such
                as
                vincristine) encapsulated in a lipid envelope. The encapsulated agent
                is
                carried through the bloodstream and delivered to disease sites where
                it is
                released to carry out its therapeutic action.We
                believe sphingosomal encapsulation of vincristine significantly increases
                drug delivery to tumors and provides prolonged drug exposure for
                cell-cycle specific agents. Targeted sphingosomal drugs are designed
                to
                spare healthy tissues, selectively accumulate inside the tumor, and
                sustain cytotoxic drug levels for a longer period of time at the
                tumor
                site. Therefore, we believe that Marqibo possesses a potential
                pharmacologic advantage over vincristine in terms of dose intensity
                and
                toxicity. Based on clinical trials in over 500 patients to date,
                we intend
                to request regulatory authorization to commence a Phase III clinical
                trial
                of Marqibo in hematological malignancies in the second half of
                2006.  ·
            *Talotrexin
                (PT-523)******-**A
                Novel Antifolate for Solid and Hematological
                Malignancies.*Talotrexin, which we licensed from Dana-Farber Cancer Institute,
                Inc., or
                DFCI, and Ash Steven, Inc. in December 2002, is a novel antifolate
                drug
                candidate under development for treatment of various types of tumors.
                Antifolates, also known as folic acid analogs, are a class of cytotoxic
                or
                antineoplastic agents which inhibit or prevent the maturation and
                proliferation of malignant cells. Antifolates have been used for
                more than
                30 years to treat both solid and hematological cancers such as breast
                cancer and ALL, as well as inflammatory diseases such as rheumatoid
                arthritis. Talotrexin has demonstrated enhanced antitumor activity
                in a
                broad spectrum of cancer models by targeting the enzyme DHFR to prevent
                DNA synthesis in tumor cells and inhibit tumor growth. Preclinical
                studies
                performed by the DFCI and the National Cancer Institute, or NCI,
                suggest
                that Talotrexin, as compared to methotrexate, the most widely used
                antifolate, enters into cells up to 10 times more efficiently and
                demonstrates 10- to 100-fold more potency in overcoming polyglutamation,
                a
                well-established mechanism of antifolate resistance. Talotrexin also
                binds
                more tightly to its anti-tumor target DHFR, which we believe may
                further
                inhibit tumor growth. We commenced a Phase I clinical trial in solid
                tumors in February 2005, a Phase I/II clinical trial in NSCLC in
                March
                2004, and a Phase I/II clinical trial in ALL in May
                2005.






14


·
            *Ropidoxuridine********(IPdR)
                -**Oral
                Prodrug to Enhance Radiation Therapy for Brain and Other
                Cancers.***Ropidoxuridine,
                which we licensed from Yale University and the Research Foundation
                of
                State University of New York in February 2004, is a novel oral prodrug
                of
                the radiation sensitizer IUdR. Data from Phase II clinical trials
                performed by the NCI on IUdR suggested a potential survival advantage
                in
                patients with anaplastic astrocytoma, a type of brain tumor. Due
                to its
                toxicity profile, however, IUdR was never developed beyond Phase
                II. In
                preclinical studies conducted at Yale University and the NCI,ropidoxuridine****suggested
                improved activity with a significantly lower toxicity profile, including
                lower gastrointestinal and hematological side effects. Preclinical
                studies
                have also demonstrated thatropidoxuridine****has
                a dose responsive and synergistic effect when combined with radiation
                in
                human glioblastoma models. We have commenced a Phase I clinical trial
                assessing the safety, toxicity and pharmacokinetics ofropidoxuridine****in
                patients with solid tumors undergoing radiation
                therapy.  ·
            *Sphingosome
                Encapsulated Vinorelbine - A Novel Targeted Anti-Cancer Compound
                for
                Breast and Lung Cancer.*Sphingosome
                encapsulated vinorelbine is our proprietary formulation of vinorelbine,
                a
                microtubule inhibitor that is FDA-approved for use as a single agent
                or in
                combination with cisplatin for the first-line treatment of unresectable,
                advanced NSCLC. We obtained the rights to develop and commercialize
                sphingosome encapsulated vinorelbine from Inex in May 2006. Sphingosome
                encapsulated vinorelbine is in preclinical development and we plan
                to
                request regulatory authorization to commence Phase I clinical trials
                in
                the second half of 2006.  ·
            *Sphingosome
                Encapsulated Topotecan - A Novel Targeted Anti-Cancer Compound for
                Small-Cell Lung Cancer and Ovarian Cancer.*Sphingosome
                encapsulated topotecan is our proprietary formulation of topotecan,
                a
                topoisomerase I inhibitor that is FDA-approved for use in relapsed
                small-cell lung cancer and in relapsed ovarian cancer. We obtained
                the
                rights to develop and commercialize sphingosome encapsulated topotecan
                from Inex in May 2006. Sphingosome encapsulated topotecan is in
                preclinical development and we plan to we expect to file an IND in
                the
                second half of 2006 and to initiate clinical trials in
                2007.


To
      date,
      we have not received approval for the sale of any drug candidates in any market
      and, therefore, have not generated any revenues from our drug candidates. The
      successful development of our product candidates is highly uncertain. Product
      development costs and timelines can vary significantly for each product
      candidate and are difficult to accurately predict. Various laws and regulations
      also govern or influence the manufacturing, safety, labeling, storage, record
      keeping and marketing of each product. The lengthy process of seeking these
      approvals, and the subsequent compliance with applicable statutes and
      regulations, require the expenditure of substantial resources. Any failure
      by us
      to obtain, or any delay in obtaining, regulatory approvals could materially
      adversely affect our business.




Since
      our
      inception in December 2002, we have completed four financings resulting in
      total
      gross proceeds of $32.4 million, before selling commissions and related offering
      expenses. We are a development stage company and have no product sales to date
      and we will not receive any product sales until we receive approval from the
      FDA
      or equivalent foreign regulatory bodies to begin selling our pharmaceutical
      candidates. Developing pharmaceutical products, however, is a lengthy and very
      expensive process. Assuming we do not encounter any unforeseen safety issues
      during the course of developing our product candidates, we do not expect to
      complete the development of a product candidate until approximately 2007, when
      we expect to commercially launch Zensana. In addition, as we continue the
      development of our remaining product pipeline, our research and development
      expenses will further increase. To the extent we are successful in acquiring
      additional product candidates for our development pipeline, our need to finance
      further research and development will continue increasing. Accordingly, our
      success depends not only on the safety and efficacy of our product candidates,
      but also on our ability to finance the development of these product candidates.
      Our major sources of working capital have been proceeds from various private
      financings, primarily private sales of our common stock and other equity
      securities.




15


Research
      and development expenses consist primarily of salaries and related personnel
      costs, fees paid to consultants and outside service providers for laboratory
      development, legal expenses resulting from intellectual property prosecution,
      business development and organizational affairs and other expenses relating
      to
      the design, development, testing, and enhancement of our product candidates.
      We
      expense our research and development costs as they are incurred.




General
      and administrative expenses consist primarily of salaries and related expenses
      for executive, finance and other administrative personnel, recruitment expenses,
      professional fees and other corporate expenses, including general legal
      activities.




Our
      results include non-cash compensation expense as a result of the issuance of
      stock and stock option grants. For the three months ended March 31, 2006,
      compensation expense for options granted to employees represents the
      amortization over the vesting period if unvested options granted prior to
      January 1, 2006 of the fair value.





**Critical
      Accounting Policies**





As
      of the
      date of the filing of this quarterly report, we believe there have been no
      material changes to our critical accounting policies and estimates during the
      three months ended March 31, 2006, compared to those discussed in our
      Annual Report on Form 10-K for the year ended December 31, 2005, except for
      the
      adoption of Financial Accounting Standards Board Statement FAS 123(R) as
      discussed below.





On
      January 1, 2006, we adopted the fair value recognition provisions of SFAS
      123(R), which requires the measurement and recognition of compensation expenses
      for all share-based payment awards made to employees and directors including
      stock options based on estimated fair values. SFAS 123(R) supersedes the
      Company’s previous accounting for employee stock options using the
      intrinsic-value method in accordance APB No. 25, FIN No. 44,
“Accounting for Certain Transactions Involving Stock Compensation, an
      interpretation of APB No. 25,” and related to interpretations, and the
      disclosure-only provisions of SFAS No. 123.





We
      adopted SFAS 123(R) using the modified-prospective-transition method. Under
      this
      method, compensation costs recognized as of March 31, 2006 include: a)
      compensation costs for all share-based payment awards granted prior to, but
      not
      yet vested as of January 1, 2006, based on grant-date fair value estimated
      in accordance with the original provisions of FAS 123 and b) compensation costs
      for all share-based payment awards granted subsequent to January 1, 2006,
      based on the grant-date fair value estimated in accordance with the provisions
      of SFAS 123(R). In accordance with the modified-prospective-transition method,
      our Consolidated Financial Statements for prior periods have not been restated
      to reflect, and do not include, the impact of SFAS 123(R).





The
      compensation expense is calculated in accordance with the guidance in SFAS
      No. 123R ,
      using
      the Black-Scholes option pricing model to estimate the fair value of the share
      based compensation. For the three months ended March 31, 2006, share based
      compensation expense was approximately $186,000, which consisted entirely of
      the
      amortization of the fair value of employee stock options granted in prior
      periods over the vesting periods. We expect to record additional future share
      based employee compensation expense of $1.0 million over a weighted average
      period of 1.56 years for the portion of the share-based compensation that had
      not been recognized as of March 31, 2006. We have
      not recognized, and do not expect to recognize in the near future, any tax
      benefit related to employee stock-based compensation costs as a result of the
      full valuation allowance on the Company’s net deferred tax assets and our net
      operating loss carryforwards. We expect quarterly stock-based compensation
      expense to increase for the remainder of 2006.




16


**Results
      of Operations**





**Three
      Months Ended March 31, 2006 Compared to Three Months Ended March 31,
      2005**




*General
      and administrative expenses.* For the
      three months ended March 31, 2006, general and administrative (“G&A”)
      expense was $983,975 as compared to $707,213 for the three months ended March
      31, 2005. The increase of $276,762 is due primarily to an increase in salaries,
      other employee benefits and personnel related costs of approximately $148,000,
      including a decrease of $33,000 in employee related stock-based compensation
      expense due to the implementation of SFAS No.123R in accounting for employee
      stock options. For the three months ended March 31, 2006, we also incurred
      an
      increase of approximately $66,000 in associated professional fees. This increase
      is mostly attributed to increased non-employee director compensation, as well
      as
      accounting fees over the prior year. For the three months ended March 31, 2006,
      rent, depreciation and other allocable expenses increased by approximately
      $30,000 compared to the three months ended March 31, 2005. We also incurred
      a
      $35,000 increase from the prior year in market research costs in preparation
      for
      the potential 2007 commercial launch of Zensana.





*Research
      and development expenses.* For the
      three months ended March 31, 2006, research and development (“R&D”) expense
      was $2.6 million as compared to $1.7 million for the three months ended March
      31, 2005. The increase of approximately $900,000, or approximately 53%, is
      due
      primarily to an increase in of $440,000 in expenses for the clinical development
      of our product pipeline. These clinical costs included the physical
      manufacturing of drug compounds, payments to our contract research organization
      and legal expenses associated with our continued patent protection. For the
      three months ended March 31, 2006, the Company incurred increased salary,
      employee benefits and other personnel related costs of approximately $270,000
      as
      compared to the three months ended March 31, 2005, including an
      increase of $11,000 in employee related stock-based compensation expense.
      Professional fees and other allocable expenses increased by approximately
      $50,000 for the three months ended March 31, 2006 compared to the three months
      ended March 31, 2005. License
      milestone expenses increased $100,000 for the three months ended March 31,
      2006
      compared to the same period in 2005, related to the Company achieving certain
      milestones during the quarter.





We
      anticipate that research and development expenses will continue gradually
      increasing in 2006 and substantially in subsequent years as we increase our
      research and development efforts and as our existing product candidates proceed
      through preclinical studies and more costly clinical studies. In particular,
      we
      expect our research and development expenses to increase through the later
      half
      of 2006 and beyond if Marqibo enters a Phase III clinical trial in late 2006.
      Actual expenses may vary considerably based upon timing of program initiation,
      study enrollment rates, and the timing and structure of any collaboration in
      which a partner may incur a portion of these expenses.





*Interest
      income, net.* For the
      three months ended March 31, 2006, net interest income was $135,326, compared
      to
      net interest income of $19,567 for the three months ended March 31, 2005. The
      increase of approximately $116,000 resulted from our increased cash balance
      deposited in interest bearing money market accounts due to two additional equity
      financings completed in 2005. In addition, rising interest rates over the last
      12 months have lead to higher interest returns on our money market accounts.





*Other
      expense, net.* For the
      three months ended March 31, 2006, net other expense was $7,892 as compared
      to
      net other expense of $7,504 for the corresponding period of the previous year.





17


**Liquidity
      and Capital Resources**





From
      inception to March 31, 2006, we have incurred an aggregate net loss of $21.5
      million, primarily as a result of expenses incurred through a combination of
      research and development activities related to the various technologies under
      our control and expenses supporting those activities.





We
      have
      financed our operations since inception primarily through equity and debt
      financing. From inception through March 31, 2006, we have raised a net increase
      in cash and cash equivalents of $13.9 million. This increase primarily resulted
      from net cash provided by financing activities of $32.1 million from inception
      through March 31, 2006, substantially all of which was derived from our three
      private placements which resulted in aggregate net proceeds to us of $30.8
      million. The increase in cash provided by financing activities was offset by
      net
      cash used in operating activities of $16.8 million and net cash used in
      investing activities of $1.4 million for the cumulative period from inception
      to
      March 31, 2006.





Our
      continued operations will depend on whether we are able to raise additional
      funds through various potential sources, such as equity and debt financing.
      Through March 31, 2006, a significant portion of our financing has been through
      private placements of common stock, preferred stock and debt financing. We
      will
      continue to fund operations from cash on hand and through future placements
      of
      capital stock or debt financings. We can give no assurances that any additional
      capital that we are able to obtain will be sufficient to meet our needs. Given
      the current and desired pace of clinical development of our six product
      candidates, including three to be developed under a license agreement dated
      May
      6, 2006, we anticipate that research and development expenses will continue
      to
      increase in 2006 and substantially in subsequent years as we increase our
      efforts and as our existing product candidates proceed through preclinical
      studies and more costly clinical studies. In particular, because we plan to
      initiate a Phase III clinical trial of Marqibo in hematological malignancies
      by
      the end of 2006, we expect our research and development expenses to increase
      significantly the second half of 2006 and beyond. We estimate that we will
      have
      sufficient cash on hand to fund clinical development through 2006. However,
      we
      may seek to raise additional capital before year-end 2006 in order to fund
      our
      future development activities, likely by selling shares of our capital stock
      or
      other securities. If we are unable to raise additional capital, we will likely
      be forced to curtail our desired development activities, which will delay the
      development of our product candidates. There can be no assurance that such
      capital will be available to us on favorable terms or at all. We will need
      additional financing thereafter until we can achieve profitability, if ever.
      In
      April 2006, we filed a shelf registration statement with the SEC. The
      registration statement provides for the offering of up to $75 million of our
      common stock. We may offer these securities from time to time and at such times
      as we believe a plan of financing is in our best interests.





***Financings.*** In
      February 2004, we received gross proceeds of approximately $4.7 million through
      the sale of 2,802,989 shares of our common stock. In connection with this
      offering, we paid commissions and other offering-related expenses consisting
      of
      $341,979 in cash and issued a 5-year warrant to purchase 277,331 shares of
      our
      common stock to Paramount BioCapital, Inc., who served as placement agent,
      for
      their services rendered.





Immediately
      prior to the EMLR - Hana Biosciences merger in July 2004, we received gross
      proceeds of $8.0 million through the sale of 2,395,210 shares of our Series
      A
      Convertible Preferred Stock. Each share of Series A Convertible Preferred Stock
      is convertible at the holder's election into 1.410068 common shares. On January
      18, 2005, the effective date of the registration statement covering the resale
      of the common shares issuable upon conversion of the Series A Preferred Stock,
      the Series A Preferred Stock automatically converted into 3,377,409 shares
      of
      common shares.





18


On
      April
      22, 2005, we completed a private placement of 3,916,082 shares of our common
      stock at a price of $1.28 per share, resulting in gross proceeds to us of
      approximately $5.0 million. In connection with the private placement, we issued
      to the investors and placement agents five-year warrants to purchase an
      aggregate of 1,525,629 shares of common stock at an exercise price of $1.57
      per
      share, of which warrants to purchase an aggregate of 997,791 shares remain
      outstanding.  The terms of the warrants provide that we may, at our option,
      redeem the warrants after such time that the average closing price of our common
      stock exceeds $3.14 per share for a 30-day period, which condition was satisfied
      in August 2005.  Accordingly, we may, at our election, redeem the warrants,
      at a redemption price of $0.01 per warrant share, at any time upon 30
      days’ prior written notice to the warrant holders.  The warrants remain
      exercisable by the holders until the expiration of such 30-day notice period.
      In
      connection with the private placement, we paid an aggregate of approximately
      $321,000 in commissions to placement agents.  Included in the amounts paid
      to placement agents were $52,500 in commissions and warrants to purchase 58,593
      shares of common stock to Paramount BioCapital, Inc., a related party. We also
      incurred approximately $14,000 of legal expenses for the private
      placement.





On
      October 19, 2005, we completed a private placement of 3,686,716 shares of our
      common stock. Of the total number of shares sold, 3,556,000 shares were sold
      at
      a price of $4.00 per share and 130,716 shares were sold to executive officers
      and affiliates of a director of our company at a price of $4.59 per share,
      which
      resulted in total gross proceeds to us of approximately $14.8 million. In
      addition to the shares of common stock, the investors also received 5-year
      warrants to purchase an aggregate of 737,343 shares at an exercise price of
      $5.80 per share. In connection with the private placement, we paid an aggregate
      of approximately $1.0 million in commissions to placement agents and issued
      5-year warrants to purchase an aggregate of 253,306 shares at an exercise price
      of $5.80 per share. We also incurred approximately $77,500 of legal and other
      expenses paid to placement agents.





***Current
      and Future Financing Needs.*** We have
      incurred negative cash flow from operations since we started our business.
      We
      have spent, and expect to continue to spend, substantial amounts in connection
      with implementing our business strategy, including our planned product
      development efforts, our clinical trials, and our research and discovery
      efforts. Given the current and desired pace of clinical development of our
      six
      product candidates, over the next 12 months we estimate that we will need
      approximately $11.6 million in order to fund our research and development
      activities, including amounts to milestone payments that we expect to be
      triggered under the license agreements relating to our product candidates.
      The
      remaining amount is devoted to salaries associated with those individuals in
      the
      research and development department as well as and the manufacturing and
      clinical trial costs for our six product candidates. We estimate that we will
      have sufficient capital to fund our research and development activities through
      2006.




However,
      the actual amount of funds we will need to operate is subject to many factors,
      some of which are beyond our control. These factors include the
      following:





·
            costs
                associated with conducting preclinical and clinical
                testing;




·
            costs
                associated with commercializing our lead programs, including establishing
                sales and marketing functions;




·
            costs
                of establishing arrangements for manufacturing our product
                candidates;




·
            costs
                of acquiring new drug candidates;




·
            payments
                required under our current and any future license agreements and
                collaborations;




·
            costs,
                timing and outcome of regulatory
                reviews;




19


·
            costs
                of obtaining, maintaining and defending patents on our product candidates;
                and




·
            costs
                of increased general and administrative
                expenses.





We
      have
      based our estimate on assumptions that may prove to be wrong. We may need to
      obtain additional funds sooner or in greater amounts than we currently
      anticipate. Potential sources of financing include strategic relationships,
      public or private sales of our stock or debt and other sources. We may seek
      to
      access the public or private equity markets when conditions are favorable due
      to
      our long-term capital requirements. We do not have any committed sources of
      financing at this time, and it is uncertain whether additional funding will
      be
      available when we need it on terms that will be acceptable to us, or at all.
      If
      we raise funds by selling additional shares of common stock or other securities
      convertible into common stock, the ownership interest of our existing
      stockholders will be diluted. If we are not able to obtain financing when
      needed, we may be unable to carry out our business plan. As a result, we may
      have to significantly limit our operations and our business, financial condition
      and results of operations would be materially harmed.





***Plan
      of Operation***





Our
      plan
      of operation for the year ending December 31, 2006 is to continue implementing
      our business strategy, including the clinical development of our six product
      candidates. We also intend to expand our drug candidate portfolio by acquiring
      additional drug technologies for development. We expect our principal
      expenditures during the next 12 months to include:





·
            operating
                expenses, including expanded research and development and general
                and
                administrative expenses; and




·
            product
                development expenses, including the costs incurred with respect to
                applications to conduct clinical trials in the United States for
                our six
                product candidates.





As
      part
      of our planned expansion, we intend to use clinical research organizations
      and
      third parties to perform our clinical studies and manufacturing. As indicated
      above, at our current and desired pace of clinical development of our six
      product candidates, over the next 12 months we expect to spend approximately
      $11.6 million on clinical development (including milestone payments of $3.5
      million that we expect to be triggered under the license agreements relating
      to
      our product candidates), $1.8 million on general corporate, and $120,000 on
      facilities rent. We expect to have completed the remaining Phase I clinical
      trials in Talotrexin. These clinical trials include those in solid tumors and
      adult lymphoblastic leukemia, or ALL. In addition we expect to initiate Phase
      II
      clinical trials in cervical cancer and relapsed or refractory gastric cancer
      as
      well as a Phase I clinical trial in pediatric solid tumors. In
      addition, we plan to initiate at least one Phase III clinical trial for Marqibo
      hematological malignancies. We also expect to complete our Phase I clinical
      trial in ropidoxuridine **** and
      to
      file an NDA in Zensana.





**Research
      and Development Projects**





The
      discussion below describes for each of our development projects the research
      and
      development expenses we have incurred to date and, to the extent we are able
      to
      reasonable ascertain, the amounts we estimate we will have to expend in order
      to
      complete development of each project and the time we estimate it will take
      to
      complete development of each project. Our assumptions relating the expected
      costs of development and timeframe for completion are dependent on numerous
      factors, including the availability of capital, unforeseen safety issues, lack
      of effectiveness, and significant unforeseen delays in the clinical trial and
      regulatory approval process, any of which could be extremely costly. In
      addition, our estimates assume that we will be able to enroll a sufficient
      number of patients in clinical trials.





20


Since
      our
      business does not currently generate any cash flow, however, we may need to
      raise additional capital to continue development of our product candidates
      beyond 2006. If we are to raise such capital, we expect to raise it primarily
      by
      selling shares of our capital stock. To the extent additional capital is not
      available when we need it, we may be forced to discontinue or scale-back our
      development efforts relating to one or more of our product candidates our
      out-license our rights to our product candidates to a third party, any of which
      would have a material adverse effect on the prospects of our
      business.





***Zensana
      (ondansetron HCl) Oral Spray -1.*** Since
      acquiring our rights to Zensana in October 2004, we have incurred $1.9 million
      of project costs related to our development through March 31, 2006, of which
      $1.0 million was incurred in the three months ended March 31, 2006 and $0.9
      million was incurred in fiscal 2005. We
      completed our pivotal clinical trials of Zensana in early 2006, and are
      expecting to file an NDA under Section 505(b)(2) of the Food, Drug and Cosmetic
      Act in the second quarter of 2006. If approved by the FDA, we intend to
      commercially launch Zensana in the United States in 2007. We
      estimate that we will need to expend at least an additional $6.1 million before
      we receive FDA approval for Zensana, if ever, which amount includes a milestone
      payment that would be owed to our licensor upon FDA approval. We expect that
      it
      will take an additional year until we will have completed development and
      obtained FDA approval of Zensana, if ever.





***Marqibo®*** ***.*** ** We
      only
      acquired the exclusive world-wide rights to develop and commercialize Marqibo
      in May 2006 and, therefore, have not spent
      any
      funds in the development of Marqibo. We plan to initiate a Phase III clinical
      trial in the second half of 2006 and believe we will need to spend approximately
      $800,000 in 2006 to fund our research and development efforts. We estimate
      that
      we will need to expend at least an aggregate of approximately $20 million in
      order for us to obtain FDA approval for Marqibo, if ever. We expect that it
      will
      take approximately three to four years until we will have completed development
      and obtained FDA approval of Marqibo, if ever.





***Talotrexin*** .  From
      inception through March 31, 2006, we have incurred $3.0 million of costs related
      to our development of Talotrexin, of which $1.3 million, $1.0 million and
      $272,205 was incurred in fiscal 2005, 2004 and 2003, respectively. For the
      three
      months ended March 31, 2006, we incurred $446,725 of costs in the development
      of
      Talotrexin. We believe we currently have sufficient capital to fund our planned
      development activities of Talotrexin through 2006. We estimate that we will
      need
      to expend an aggregate of approximately $70 million in order to complete
      development of Talotrexin, should we opt to continue development. Costs incurred
      are a direct result of ensuring proper study conduct in accordance with local
      regulations. Should we choose to continue development we expect that it will
      take an additional four to five years before we complete development and obtain
      FDA approval of Talotrexin, if ever.





***Ropidoxuridine
      (IPdR).*** Since
      acquiring our rights to ropidoxuridine in February 2004, we have incurred $1.6
      million of project costs related to our development of ropidoxuridine through
      March 31, 2006, of which $834,900 and $656,251 were incurred in fiscal 2005
      and **** 2004
      respectively. For the three months ended March 31, 2006, we incurred
      approximately $71,000 of project costs related to the development of
      ropidoxuridine. Currently, we estimate that we will need to expend at least
      an
      additional $48.4 million until we receive FDA approval for ropidoxuridine,
      should we opt to continue development. Should we choose to continue, we expect
      that it will take an additional 5 or 6 years until we will have completed
      development and obtained FDA approval of ropidoxuridine, if ever. We believe
      we
      currently have sufficient capital to fund our development activities of
      ropidoxuridine through 2006.





21


***Sphingosome
      Encapsulated Vinorelbine and Sphingosome Encapsulated
      Topotecan.*** Along
      with our rights to Marqibo, we only acquired our rights to develop and
      commercialize sphingosome encapsulated vinorelbine and sphingosome encapsulated
      topotecan in May 2006 in connection with our license transaction with Inex
      Pharmaceuticals Corporation. We have not yet expended any funds to develop
      either of these product candidates and have not yet formulated our development
      plans and budgets.




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




Our
      exposure to market risk is principally confined to our cash and cash equivalents
      and our investment in NovaDel Pharma, Inc. We have attempted to minimize risk
      by
      investing in high-quality financial instruments, primarily money market funds.
      We are subject to risk due to general market conditions, which may adversely
      impact the carrying value of our investment in NovaDel. If the market interest
      rate decreases by 100 basis points or 1%, the fair value of our cash and cash
      equivalents portfolio would have no impact on the carrying value of our
      portfolio. Our outstanding capital lease obligations are fixed rates, and
      therefore, have minimal exposure to changes in interest rates. We
      did
      not hold any derivative instruments as of March 31, 2006, and we have never
      held
      such instruments in the past.




**Item
      4. Controls and Procedures**




Based
      on
      their evaluation as of March 31, 2006, our Chief Executive Officer and Chief
      Financial Officer, with the participation of management, have concluded that
      our
      disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)
      of the Securities Exchange Act of 1934) are effective to ensure that the
      information required to be disclosed by us in the reports that we file or submit
      under the Securities and Exchange Act of 1934 is recorded, processed, summarized
      and reported within the time periods specified in Securities and Exchange
      Commission rules and forms.





During
      the quarter ended March 31, 2006, there were no changes in our internal controls
      over financial reporting that have materially affected, or are reasonably likely
      to materially affect, our internal controls over financial
      reporting.





22


**PART
      II - OTHER INFORMATION**


**Item
      1. Legal Proceedings**





None.




**Item
      1A. Risk Factors**





*You
      should carefully consider the risks described below, together with all of the
      other information included in this report, in considering our business and
      prospects. The risks and uncertainties described below are not the only ones
      facing us. Additional risks and uncertainties not presently known to us or
      that
      we currently deem immaterial also may impair our business operations. The
      occurrence of any of the following risks could harm our business, financial
      condition or results of operations.*




**Risks
      Related to Our Business**




***We
      are a development stage company with a limited operating history and may not
      be
      able to commercialize any products, generate significant revenues or attain
      profitability.***




We
      are a
      development stage company with a limited operating history. We have never
      generated revenue and have incurred significant net losses in each year since
      our inception. We expect to incur substantial losses and negative cash flow
      from
      operations for the foreseeable future, and we may never achieve or maintain
      profitability. For the year ended December 31, 2005 and the three months
      ended March 31, 2006, we had net losses of $10.0 million and $3.4 million,
      respectively. From our inception in December 2002 through March 31, 2006,
      we have incurred a net loss of $21.5 million.




We
      expect
      our cash requirements to increase substantially in the foreseeable future as
      we:




·
            continue
                to undertake preclinical development and, if and when permitted by
                appropriate regulatory agencies, clinical trials for our current
                and new
                product candidates;




·
            seek
                regulatory approvals for our product candidates at the appropriate
                time in
                the future;




·
            implement
                additional internal systems and
                infrastructure;




·
            seek
                to acquire additional technologies to develop;
                and




·
            hire
                additional personnel.




We
      expect
      to incur losses for the foreseeable future as we fund our operations and capital
      expenditures. As a result, we will need to generate significant revenues in
      order to achieve and maintain profitability. Even if we succeed in developing
      and commercializing one or more of our product candidates, which success is
      not
      assured, we may not be able to generate significant revenues. Even if we do
      generate significant revenues, we may never achieve or maintain profitability.
      Our failure to achieve or maintain profitability could negatively impact the
      trading price of our common stock.




***If
      we are not able to successfully develop and commercialize Zensana in the United
      States, we may not generate sufficient revenues to continue our business
      operations.***




None
      of
      our product candidates have been approved for commercial sale in any country.
      The process to develop, obtain regulatory approval for and commercialize
      potential drug candidates is long, complex and costly. We expect to submit
      a New
      Drug Application, or NDA, for our lead product candidate Zensana, to the U.S.
      Food and Drug Administration, or FDA, in the second quarter of 2006. We licensed
      Zensana from NovaDel Pharma, Inc., or NovaDel, in October 2004. If approved,
      we
      expect to commercially launch Zensana in the United States in 2007. Another
      of
      our product candidates, Marqibo, is currently only in Phase II clinical trials.
      We anticipate requesting authorization to commence a Phase III clinical trial
      of
      Marqibo in relapsed acute lymphocytic leukemia, or ALL, in the second half
      of
      2006. We licensed Marqibo from Inex Pharmaceuticals Corporation, or Inex, in
      May
      2006. Our other four product candidates are in early stages of clinical
      development.





23


We
      have
      no internal discovery capabilities and rely solely on our ability to license
      or
      acquire product candidates. As a result, our ability to generate revenues from
      product sales in the foreseeable future depends on our ability to complete
      development, obtain regulatory approval for and successfully commercialize
      Zensana in the United States in a timely manner. If we are unable to
      successfully commercialize Zensana in the United States, we may not be able
      to
      earn sufficient revenues to continue our business without raising significant
      additional capital, which may not be available. Pursuant to our license
      agreement with NovaDel, we do not have the right to develop and commercialize
      Zensana outside the United States and Canada.





***If
      we fail to acquire and develop other product candidates we may be unable to
      grow
      our business.***





We
      intend to acquire rights to develop and commercialize additional product
      candidates. Because we currently neither have nor intend to establish internal
      research capabilities, we are dependent upon pharmaceutical and biotechnology
      companies and academic and other researchers to sell or license us their product
      candidates. The success of our strategy depends upon our ability to identify,
      select and acquire pharmaceutical product candidates.





Proposing,
      negotiating and implementing an economically viable product acquisition or
      license is a lengthy and complex process. We compete for partnering arrangements
      and license agreements with pharmaceutical, biopharmaceutical and biotechnology
      companies, many of which have significantly more experience than us and have
      significantly more financial resources than we do. Our competitors may have
      stronger relationships with certain third parties with whom we are interested
      in
      partnering, such as academic research institutions, and may, therefore, have
      a
      competitive advantage in entering into partnering arrangements with those third
      parties. We may not be able to acquire rights to additional product candidates
      on terms that we find acceptable, or at all.





We
      expect that any product candidate to which we acquire rights will require
      significant additional development and other efforts prior to commercial sale,
      including extensive clinical testing and approval by the FDA and applicable
      foreign regulatory authorities. All product candidates are subject to the risks
      of failure inherent in pharmaceutical product development, including the
      possibility that the product candidate will not be shown to be sufficiently
      safe
      or effective for approval by regulatory authorities. Even if our product
      candidates are approved, they may not be manufactured or produced economically
      or commercialized successfully.




***If
      we are unable to successfully manage our growth, our business may be harmed.***




In
      the
      future, if we are able to advance our product candidates to the point of, and
      thereafter through, clinical trials, we will need to expand our development,
      regulatory, manufacturing, marketing and sales capabilities or contract with
      third parties to provide these capabilities. Any future growth will place a
      significant strain on our management and on our administrative, operational
      and
      financial resources. Our future financial performance and our ability to
      commercialize our product candidates and to compete effectively will depend,
      in
      part, on our ability to manage any future growth effectively. We are actively
      evaluating additional product candidates to acquire for development. Such
      additional product candidates, if any, could significantly increase our capital
      requirements and place further strain on the time of our existing personnel,
      which may delay or otherwise adversely affect the development of our existing
      product candidates. We must manage our development efforts and clinical trials
      effectively, and hire, train and integrate additional management, administrative
      and sales and marketing personnel. We may not be able to accomplish these tasks,
      and our failure to accomplish any of them could prevent us from successfully
      growing Hana.




24




***We
      may need to raise additional capital to fund our operations. If we are unable
      to
      raise additional capital when needed, we may have to discontinue our product
      development programs or relinquish our rights to some or all of our product
      candidates. The manner in which we raise any additional funds may affect the
      value of your investment in our common stock.***





We
      expect to incur losses at least until we can successfully commercialize one
      or
      more of our product candidates. We expect that we will require additional
      financing to fund our development programs and to expand our infrastructure
      and
      commercialization activities. Net cash used in operating activities was $3.2
      million for the three months ended March 31, 2006 and $8.5 million in 2005.
      If
      we fail to obtain the necessary financing, we will not be able to fund our
      operations. We have no committed sources of additional capital. We do not know
      whether additional financing will be available on terms favorable to us when
      needed, if at all. If we fail to advance our current product candidates to
      later
      stage clinical trials, successfully commercialize Zensana, or acquire new
      product candidates for development, we will have difficulty obtaining additional
      financing. Our future capital requirements depend on many factors,
      including:





·
            costs
                associated with conducting preclinical and clinical
                testing;




·
            costs
                associated with commercializing our lead programs, including establishing
                sales and marketing functions;




·
            costs
                of establishing arrangements for manufacturing our product
                candidates;




·
            costs
                of acquiring new drug candidates;




·
            payments
                required under our current and any future license agreements and
                collaborations;




·
            costs,
                timing and outcome of regulatory
                reviews;




·
            costs
                of obtaining, maintaining and defending patents on our product candidates;
                and




·
            costs
                of increased general and administrative
                expenses.





To
      the extent that we raise additional capital by issuing equity securities, our
      stockholders may experience dilution. We may grant future investors rights
      superior to those of the common stock. If we raise additional funds through
      collaborations and licensing arrangements, it may be necessary to relinquish
      some rights to our technologies, product candidates or products, or grant
      licenses on terms that are not favorable to us. If we raise additional funds
      by
      incurring debt, we could incur significant interest expense and become subject
      to covenants in the related transaction documentation that could affect the
      manner in which we conduct our business.




***We
      rely on key executive officers and their experience and knowledge of our
      business would be difficult to replace in the event any of them left
      Hana.***




We
      are
      highly dependent on Mark Ahn, our president and chief executive officer, Fred
      Vitale, our vice president and chief business officer, Gregory Berk, our senior
      vice president and chief medical officer, and John Iparraguirre, our vice
      president and chief financial officer. Dr. Ahn’s, Mr. Vitale’s and
      Dr. Berk’s employment are governed by written employment agreements.
      Dr. Ahn’s and Mr. Vitale’s employment agreements each provide for
      terms that expire in November 2008. Dr. Berk’s employment term under his
      agreement expires in November 2007. Mr. Iparraguirre does not have a
      written employment agreement with us. Dr. Ahn, Mr. Vitale,
      Dr. Berk and Mr. Iparraguirre may terminate their employment with us
      at any time, subject, however, to certain non-compete and non-solicitation
      covenants. The loss of the technical knowledge and management and industry
      expertise that would result in the event Dr. Ahn left Hana could result in
      delays in the development of our product candidates, and divert management
      resources. The loss of Mr. Vitale could impair our ability to expand our
      product development pipeline and commercialize our product candidates, which
      may
      harm our business prospects. The loss of Dr. Berk could impair our ability
      to initiate new and sustain existing clinical trials, as well as identify
      potential product candidates. The loss of Mr. Iparraguirre could impair our
      ability to obtain additional financing. We do not carry “key person” life
      insurance for any of our officers or key employees.




25




***If
      we are unable to hire additional qualified personnel, our ability to grow our
      business may be harmed.***




We
      will
      need to hire additional qualified personnel with expertise in preclinical
      testing, clinical research and testing, government regulation, formulation
      and
      manufacturing and sales and marketing. We compete for qualified individuals
      with
      numerous biopharmaceutical companies, universities and other research
      institutions. Competition for such individuals, particularly in the
      San Francisco Bay Area where we are headquartered, is intense, and we
      cannot be certain that our search for such personnel will be successful. Our
      ability to attract and retain qualified personnel is critical to our success.




***We
      may incur substantial liabilities and may be required to limit commercialization
      of our products in response to product liability
      lawsuits.***




The
      testing and marketing of pharmaceutical products entail an inherent risk of
      product liability. If we cannot successfully defend ourselves against product
      liability claims, we may incur substantial liabilities or be required to limit
      commercialization of our product candidates, if approved. Even
      successful defense would require significant financial and management resources.
      Regardless of the merit or eventual outcome, liability claims may result
      in:





·
            decreased
                demand for our product candidates;




·
            injury
                to our reputation;




·
            withdrawal
                of clinical trial participants;




·
            withdrawal
                of prior governmental approvals;




·
            costs
                of related litigation;




·
            substantial
                monetary awards to patients;




·
            product
                recalls;




·
            loss
                of revenue; and




·
            the
                inability to commercialize our product
                candidates.




Our
      inability to obtain sufficient product liability insurance at an acceptable
      cost
      to protect against potential product liability claims could prevent or inhibit
      the commercialization of pharmaceutical products we develop, alone or with
      collaborators. We currently do not carry product liability insurance but instead
      maintain a $5 million clinical trial insurance policy for our ongoing
      Phase I and Phase I/II clinical trials of one of our product
      candidates, Talotrexin (PT-523). Even if our agreements with any future
      collaborators entitle us to indemnification against damages from product
      liability claims, such indemnification may not be available or adequate should
      any claim arise.




26




***We
      may experience difficulty integrating our newly acquired sphingosomal product
      candidates into our business.***




In
      May
      2006, we licensed the rights to develop and commercialize three sphingosomal
      product candidates, including Marqibo, from
      Inex, which
      doubled the size of our product candidate pipeline. If all necessary regulatory
      approvals are obtained, we plan to initiate a Phase III clinical trial in ALL
      in
      Marqibo in the second half of 2006, and Phase I clinical trials in two of our
      other product candidates, sphingosome encapsulated vinorelbine and sphingosome
      encapsulated topotecan, in 2007. We need FDA and other approvals before we
      can
      pursue our clinical trials and there is no assurance we will be able to obtain
      such approvals. Moreover, we will be required to devote substantial capital
      and
      personnel resources to our newly-acquired product candidates in order to attempt
      to successfully continue their development. If we fail to devote sufficient
      resources to the development of these product candidates, or if our focus on
      the
      new sphingosomal product candidates diverts our attention from the development
      of Zensana and other product candidates, we will not realize the intended
      benefits from the recently-completed transaction and our business will suffer.




**Risks
      Related to the Clinical Testing, Regulatory Approval and Manufacturing of Our
      Product Candidates**




***If
      we are unable to obtain regulatory approval to sell our lead product candidate,
      Zensana, or another product candidate, Marqibo, our business will
      suffer.***




We
        believe we have completed or may otherwise rely upon all required clinical
        trials, whether conducted by us or others, relating to Zensana and expect
        to
        submit our NDA for Zensana to the FDA in the second quarter of 2006 pursuant
        to
        Section 505(b)(2) of the Food, Drug and Cosmetic Act, or FDCA. Section 505(b)(2)
        of the FDCA is the section describing NDAs for which at least some of the
        investigations relied upon by the applicant for approval of the application
        were
        not conducted by or for the applicant and for which the applicant has not
        obtained a right of reference or use from the person by or for whom the
        investigations were conducted. While we believe Section 505(b)(2) is applicable
        to Zensana, it is possible that the FDA could disagree and require us to
        utilize
        another type of NDA submission, which would require significantly more clinical
        studies and/or other data collection or analysis. Additionally, in reviewing
        our
        NDA, the FDA may require us to conduct additional extensive clinical or
        non-clinical trials or other analysis or may reject our NDA for a variety
        of
        other reasons. If the FDA requires us to complete additional clinical trials
        relating to Zensana before it will consider approving our NDA, or if
        non-clinical or other information is requested, the timing of our planned
        commercial launch for Zensana may be significantly delayed or even precluded
        and
        we may be required to incur substantial additional expenses. Depending on
        the
        types of studies or other analysis required by the FDA, we may never be able
        to
        establish that Zensana is safe for use or effective in use and, thus, may
        never
        be able to sell Zensana. Furthermore, because the oral ondansetron formulation
        on which our Section 505(b)(2) application is based is protected by two
        unexpired patents and pediatric exclusivity, it is possible that the approval,
        if any, of our Section 505(b)(2) application may be delayed as a result of
        patent infringement litigation. Finally, even if Zensana is approved by the
        FDA,
        such approval may be materially modified or withdrawn by the FDA for a variety
        of reasons.
  We
        recently licensed Marqibo from Inex. Marqibo is not currently permitted to
        be
        commercially used. Inex submitted an NDA pursuant to Section 505(b)(2) for
        accelerated marketing approval of Marqibo primarily based upon a single arm,
        Phase II clinical trial, which was reviewed by the FDA in 2004 and 2005.
        In
        January 2005, the FDA issued a not approvable letter to Inex for the Marqibo
        NDA
        for the treatment of patients with relapsed refractory NHL previously treated
        with at least two chemotherapy regimens. The FDA’s not approvable letter cited a
        variety of reasons for not approving the NDA, including the
        following:
  **·**
            The
                information presented by Inex was inadequate and contained clinical
                deficiencies;





**·**
              The
                  information presented by Inex failed to provide evidence of an
                  effect on a
                  surrogate that is reasonably likely to predict clinical
                  benefit; 
 **·**
              The
                  information presented by Inex contained chemistry, manufacturing
                  and
                  control deficiencies; 
 **·**
              A
                  supportive study in NHL patients and ALL patients was not well
                  conducted
                  or well controlled; and; 
 **·**
              The
                  information presented by Inex did not demonstrate an improvement
                  over
                  available therapy.
 
 31
 
  In
        rejecting the NDA, the FDA recommended that, if Inex planned to pursue
        development of Marqibo for the treatment of relapsed refractory NHL, Inex
        should
        conduct additional studies, including but not limited to randomized controlled
        studies comparing Marqibo to other chemotherapy regimens. Even if such studies
        are successfully performed, Marqibo may not receive FDA approval.
 
 With
        respect to Zensana and Marqibo, additional FDA regulatory risks exist which
        may
        prevent FDA approval of these drug candidates and thereby prevent their
        commercial use. Additionally, if Zensana or Marqibo, or any of our product
        candidates are approved by the FDA, such approval may be withdrawn by the
        FDA
        for a variety of reasons, including:




**·**
              that
                  clinical or other experience, tests, or other scientific data show
                  that
                  the drug is unsafe for use under the conditions of use upon the
                  basis of
                  which the FDA approved the application;
 
 **·**
              that
                  new evidence of clinical experience or evidence from new tests,
                  evaluated
                  together with the evidence available to the FDA when the NDA was
                  approved,
                  shows that the drug is not shown to be safe for use under the approved
                  conditions of use;
 
 **·**
              that
                  on the basis of new information presented to the FDA, there is
                  a lack of
                  substantial evidence that the drug will have the effect it purports
                  or is
                  represented to have under the approved conditions of
                  use;
 
 **·**
              that
                  an NDA contains any untrue statement of a material fact; or
 
 **·**
              for
                  a drug approved under FDA’s accelerated approval regulations or as a fast
                  track drug, if any required post-approval study is not conducted
                  with due
                  diligence or if such study fails to verify the clinical benefit
                  of the
                  drug.
  Other
        regulatory risks may arise as a result of a change in applicable law or
        regulation or the interpretation thereof, and may result in material
        modification or revocation of prior FDA approvals.




***Many
      of our product candidates are in early stages of clinical trials, which are
      very
      expensive and time-consuming.*** ***Any
      failure or delay in completing clinical trials for our product candidates could
      harm our business.***




Our
      four
      other product candidates, Talotrexin, ropidoxuridine (IPdR), sphingosome
      encapsulated vinorelbine and sphingosome encapsulated topotecan, are in early
      stages of development and will require extensive clinical and other testing
      and
      analysis before we will be in a position to consider seeking FDA approval to
      sell such product candidates. In addition to the risks set forth above for
      Zensana and Marqibo, which also apply to Talotrexin, ropidoxuridine, sphingosome
      encapsulated vinorelbine and sphingosome encapsulated topotecan, these product
      candidates also have additional risks as each is in an earlier stage
      of development and review.




In
      2003,
      we filed our Investigational New Drug Application, or IND, for Talotrexin and
      in
      March 2004 we initiated a Phase I clinical trial at Dana-Farber Cancer
      Institute, Inc., Massachusetts General Hospital and Beth-Israel Deaconess
      Hospital. We have also recently completed an open-label multicenter,
      multinational Phase I and II study of Talotrexin in the treatment of
      relapsed or refractory non-small cell lung cancer, or NSCLC, and in June 2005,
      we commenced an open-label, multicenter Phase I and II clinical trial of
      Talotrexin in the treatment of refractory leukemia. We also commenced an initial
      Phase I clinical trial of our product candidate ropidoxuridine in September
      2005. We do not expect to request regulatory and other approvals to initiate
      clinical trials on sphingosome encapsulated vinorelbine and sphingosome
      encapsulated topotecan until 2007, if at all.




27


Conducting
      clinical trials is a lengthy, time consuming and very expensive process and
      the
      results are inherently uncertain. The duration of clinical trials can vary
      substantially according to the type, complexity, novelty and intended use of
      the
      product candidate. We estimate that clinical trials of our product candidates
      will take at least several years to complete. The
      completion of clinical trials for our product candidates may be delayed or
      prevented by many factors, including:




·
            delays
                in patient enrollment, and variability in the number and types of
                patients
                available for clinical trials;




·
            difficulty
                in maintaining contact with patients after treatment, resulting in
                incomplete data;




·
            poor
                effectiveness of product candidates during clinical
                trials;




·
            safety
                issues, side effects, or other adverse
                events;




·
            results
                that do not demonstrate the safety or effectiveness of the product
                candidates;




·
            governmental
                or regulatory delays and changes in regulatory requirements, policy
                and
                guidelines; and




·
            varying
                interpretation of data by the FDA.




In
      conducting clinical trials, we may fail to establish the effectiveness of a
      compound for the targeted indication or discover that it is unsafe due to
      unforeseen side effects or other reasons. Even if our clinical trials are
      commenced and completed as planned, their results may not support our product
      candidate claims. Further, failure of product candidate development can occur
      at
      any stage of the clinical trials, or even thereafter, and we could encounter
      problems that cause us to abandon or repeat clinical trials. These problems
      could interrupt, delay or halt clinical trials for our product candidates and
      could result in FDA, or other regulatory authorities, delaying approval of
      our
      product candidates for any or all indications. The
      results from preclinical testing and prior clinical trials may not be predictive
      of results obtained in later or other larger clinical trials. A number of
      companies in the pharmaceutical industry have suffered significant setbacks
      in
      clinical trials, even in advanced clinical trials after showing promising
      results in earlier clinical trials. Our failure to adequately demonstrate the
      safety and effectiveness of any of our product candidates will prevent us from
      receiving regulatory approval to market these product candidates and will
      negatively impact our business.




In
      addition, we or the FDA may suspend or curtail our clinical trials at any time
      if it appears that we are exposing participants to unacceptable health risks
      or
      if the FDA finds deficiencies in the conduct of these clinical trials or in
      the
      composition, manufacture or administration of the product candidates.
      Accordingly, we cannot predict with any certainty when or if we will ever be
      in
      a position to submit an NDA for any of our product candidates, or whether any
      such NDA would ever be approved.




28




***If
      we do not obtain the necessary U.S. or foreign regulatory approvals to
      commercialize our product candidates, we will not be able to market and sell
      our
      product candidates.***




None
      of
      our product candidates have been approved for commercial sale in any country.
      FDA approval is required to commercialize all of our product candidates in
      the
      United States and approvals from the FDA equivalent regulatory authorities
      are
      required in foreign jurisdictions in order to commercialize our product
      candidates in those jurisdictions. We only possess the right to develop and
      commercialize Zensana within the United States and Canada. We possess world-wide
      rights to develop and commercialize Marqibo and our other product
      candidates.




In
      order
      to obtain FDA approval of any of our product candidates, we must submit to
      the
      FDA an NDA, demonstrating that the product candidate is safe for humans and
      effective for its intended use and otherwise meets the requirements of existing
      laws and regulations governing new drugs. This demonstration requires
      significant research and animal tests, which are referred to as preclinical
      studies, and human tests, which are referred to as clinical trials, as well
      as
      additional information and studies. Satisfaction of the FDA’s regulatory
      requirements typically takes many years, depending on the type, complexity
      and
      novelty of the product candidate and requires substantial resources for
      research, development and testing as well as for other purposes. To date, none
      of our product candidates has been approved for sale in the United States or
      in
      any foreign market. We cannot predict whether our research and clinical
      approaches will result in drugs that the FDA considers safe for humans and
      effective for indicated uses. Historically, only a small percentage of all
      drug
      candidates that start clinical trials are eventually approved by the FDA for
      sale. After clinical trials are completed, the FDA has substantial discretion
      in
      the drug approval process and may require us to conduct additional preclinical
      and clinical testing or to perform post-marketing studies. The approval process
      may also be delayed by changes in government regulation, future legislation
      or
      administrative action or changes in FDA policy that occur prior to or during
      our
      regulatory review. Delays in obtaining regulatory approvals may:




· delay
          or
          prevent commercialization of, and our ability to derive product revenues
          from,
          our product candidates;




· impose
          costly procedures on us;




· reduce
          the potential prices we may be able to charge for our product candidates,
          assuming they are approved for sale; and




· diminish
          any competitive advantages that we may otherwise enjoy.




Even
      if
      we comply with all FDA requests, the FDA may ultimately reject one or more
      of
      our NDAs. We cannot be sure that we will ever obtain regulatory clearance for
      any of our product candidates. Failure to obtain FDA approval of any of our
      product candidates will severely undermine our business by reducing our number
      of saleable products and, therefore, corresponding product revenues. If we
      do
      not complete clinical trials and obtain regulatory approval for a product
      candidate, we will not be able to recover any of the substantial costs invested
      by us in the development of the product candidate.




29


In
      foreign jurisdictions, we must receive approval from the appropriate regulatory
      authorities before we can commercialize our drugs. Foreign regulatory approval
      processes generally include all of the risks associated with the FDA approval
      procedures described above. We cannot assure you that we will receive the
      approvals necessary to commercialize any of our product candidates for sale
      outside the United States.




***Our
      competitive position may be harmed if we are unable to obtain orphan drug
      designation for the use of Talotrexin in treating ALL, or if a competitor
      obtains orphan drug designation and approval for treatment of ALL for a
      clinically superior drug.***




Orphan
      drug designation is an important element of our competitive strategy because
      the
      latest of our licensors’ patents for Talotrexin expires in 2023. We have filed
      for orphan drug designation for the use of Talotrexin in treating ALL. The
      company that obtains the first FDA approval for a designated orphan drug for
      a
      rare disease generally receives marketing exclusivity for use of that drug
      for
      the designated condition for a period of seven years. Our efforts to obtain
      orphan drug designation for Talotrexin may not succeed, and our failure to
      achieve this designation may weaken our competitive position. In addition,
      even
      if we obtain orphan drug designation and application approval, the FDA may
      permit other companies to market the same drug for the same designated and
      approved condition during our period of orphan drug exclusivity if it can be
      demonstrated that the drug is clinically superior to our drug. This could create
      a more competitive market for us. Moreover, if a competitor obtains approval
      of
      the same drug for the same indication or disease before us, we would be blocked
      from obtaining approval for our product for seven years, unless our product
      can
      be shown to be clinically superior.




***Even
      if we obtain regulatory approvals for our products, the terms of approvals
      and
      ongoing monitoring and regulation of our products may limit how we manufacture
      and market our products, which could materially impair our ability to generate
      revenue.***





Even
      if regulatory approval is granted in the United States or in a foreign country,
      the approved product and its manufacturer, as well as others involved in the
      manufacturing and packaging process, remain subject to continual regulatory
      review and monitoring. Any regulatory approval that we receive for a product
      candidate may be subject to limitations on the indicated uses for which the
      product may be marketed, or include requirements for potentially costly
      post-approval clinical trials. In addition, if the FDA and/or foreign regulatory
      agencies approve any of our product candidates, the labeling, packaging,
      storage, advertising, promotion, recordkeeping and submission of safety and
      other post-marketing information on the product will be subject to extensive
      regulatory requirements which may change over time. We and the manufacturers
      of
      our products, their ingredients, and many aspects of the packaging are also
      required to comply with current good manufacturing practice regulations, which
      include requirements relating to quality control and quality assurance as well
      as the corresponding maintenance of records and documentation. Further,
      regulatory agencies must approve these manufacturing facilities before they
      can
      be used to manufacture our products or their ingredients or certain packagings,
      and these facilities are subject to ongoing regulatory inspection. Discovery
      of
      problems with a product or manufacturer may result in restrictions or sanctions
      with respect to the product, manufacturer and relevant manufacturing facility,
      including withdrawal of the product from the market. If we fail to comply with
      the regulatory requirements of the FDA and other applicable foreign regulatory
      authorities, or if problems with our products, manufacturers or manufacturing
      processes are discovered, we could be subject to administrative or judicially
      imposed sanctions, including:




30





·
            restrictions
                on the products, manufacturers or manufacturing
                process;




·
            warning
                letters or untitled letters;




·
            civil
                or criminal penalties or fines;




·
            injunctions;




·
            product
                seizures, detentions or import
                bans;




·
            voluntary
                or mandatory product recalls and publicity
                requirements;




·
            suspension
                or withdrawal of regulatory
                approvals;




·
            total
                or partial suspension of production and/or sale;
                and




·
            refusal
                to approve pending applications for marketing approval of new drugs
                or
                supplements to approved
                applications.




In
      order
      to market any products outside of the United States, we must establish and
      comply with the numerous and varying regulatory requirements of other countries
      regarding safety and efficacy. Approval procedures vary among countries and
      can
      involve additional product testing and additional administrative review periods.
      The time required to obtain approval in other countries might differ from that
      required to obtain FDA approval. Regulatory approval in one country does not
      ensure regulatory approval in another, but failure or delay in obtaining
      regulatory approval in one country may have a negative effect on the regulatory
      process in others.




Even
        if
        we obtain FDA approval of any of our product candidates, that approval may
        be
        materially modified or revoked based on a variety of factors, including FDA
        determinations that the product candidates:
  ·  have
        not
        been adequately studied or that the studies were not conducted
        properly;
 
 ·  do
        not
        provide a sufficient clinical benefit;
 
 ·  have
        one
        or more chemistry, manufacturing, packaging, and/or quality assurance, quality
        control, or other deficiencies;
 
 ·  do
        not
        provide an improvement over available therapy; and
 
 ·  are
        not
        (or are no longer) safe or effective.
 
 Additionally,
        a change in applicable law or regulation, or the interpretation thereof,
        may
        result in material modification or revocation of prior FDA
        approvals.


***Because
      we are dependent on clinical research institutions and other contractors for
      clinical testing and for research and development activities, the results of
      our
      clinical trials and such research activities are, to a certain extent, beyond
      our control.***




We
      depend
      upon independent investigators and collaborators, such as universities and
      medical institutions, to conduct our preclinical and clinical trials under
      agreements with us. For example, our current Phase I clinical trial for
      Talotrexin is being conducted by Dana-Farber Cancer Institute, Inc.,
      Massachusetts General Hospital and Beth-Israel Deaconess Hospital. These parties
      are not our employees and we cannot control the amount or timing of resources
      that they devote to our programs. These investigators may not assign as great
      a
      priority to our programs or pursue them as diligently as we would if we were
      undertaking such programs ourselves. If outside collaborators fail to devote
      sufficient time and resources to our drug-development programs, or if their
      performance is substandard, the approval of our FDA applications, if any, and
      our introduction of new drugs, if any, will be delayed. These collaborators
      may
      also have relationships with other commercial entities, some of whom may compete
      with us. If our collaborators assist our competitors at our expense, our
      competitive position would be harmed.




***Our
      reliance on third parties to formulate and manufacture our product candidates
      exposes us to a number of risks that may delay the development, regulatory
      approval and commercialization of our products or result in higher product
      costs.***




We
      have
      no experience in drug formulation or manufacturing and do not intend to
      establish our own manufacturing facilities. We lack the resources and expertise
      to formulate or manufacture our own product candidates. We contract with one
      or
      more manufacturers to manufacture, supply, store and distribute drug supplies
      for our clinical trials. If any of our product candidates receive FDA approval,
      we will rely on one or more third-party contractors to manufacture our drugs.
      Ferring AB supplied us with our clinical supplies of Zensana, including the
      spray pump and oral applicator used to deliver the drug. We have not entered
      into an agreement with Ferring AB or any other third party for the commercial
      manufacture of Zensana but expect to do so with Ferring AB prior to
      commercialization. Our anticipated future reliance on a limited number of
      third-party manufacturers exposes us to the following risks:




31




·
            We
                may be unable to identify manufacturers on acceptable terms or at
                all
                because the number of potential manufacturers is limited and the
                FDA must
                approve any replacement contractor. This approval would require new
                testing and compliance inspections. In addition, a new manufacturer
                would
                have to be educated in, or develop substantially equivalent processes
                for,
                production of our products after receipt of FDA approval, if
                any.




·
            Our
                third-party manufacturers might be unable to formulate and manufacture
                our
                drugs in the volume and of the quality required to meet our clinical
                and/or commercial needs, if any.




·
            Our
                future contract manufacturers may not perform as agreed or may not
                remain
                in the contract manufacturing business for the time required to supply
                our
                clinical trials or to successfully produce, store and distribute
                our
                products.




·
            Drug
                manufacturers are subject to ongoing periodic unannounced inspection
                by
                the FDA, the Drug Enforcement Agency, and corresponding state agencies
                to
                ensure strict compliance with good manufacturing practice and other
                government regulations and corresponding foreign standards. We do
                not have
                control over third-party manufacturers’ compliance with these regulations
                and standards, but we will be ultimately responsible for any of their
                failures.




·
            If
                any third-party manufacturer makes improvements in the manufacturing
                process for our products, we may not own, or may have to share, the
                intellectual property rights to the innovation. This may prohibit
                us from
                seeking alternative or additional manufacturers for our
                products.




Each
      of
      these risks could delay our clinical trials, the approval, if any, of our
      product candidates by the FDA, or the commercialization of our product
      candidates or result in higher costs or deprive us of potential product
      revenues.




**Risks
      Related to Our Ability to Commercialize Our Product
      Candidates**




***Our
      success depends substantially on Zensana and Marqibo, which are still under
      development and require further regulatory approvals. If we are unable to
      commercialize either or both of Zensana or Marqibo, or experience significant
      delays in doing so, our ability to generate product revenue and our likelihood
      of success will be diminished.***





We
      concluded bioavailability and bioequivalent clinical trials of Zensana, our
      most
      advanced product candidate, in early 2006 and we are expecting to file an NDA
      with the FDA in the second quarter of 2006. If approved, we expect to
      commercially launch Zensana in the United States in 2007. We anticipate
      requesting authorization to commence a Phase III clinical trial of Marqibo,
      our
      second most advanced product candidate, in the second half of 2006. We have
      invested a significant portion of our time and financial resources in the
      development of these two programs. We anticipate that our ability to generate
      revenues in the near term will depend solely on the successful development,
      regulatory approval and commercialization of Zensana.





32


All
      of
      our other product candidates are in the very early stages of development. Any
      of
      our product candidates could be unsuccessful if they:





·
            do
                not demonstrate acceptable safety and efficacy in preclinical studies
                or
                clinical trials or otherwise do not meet applicable regulatory standards
                for approval;




·
            do
                not offer therapeutic or other improvements over existing or future
                therapies used to treat the same
                conditions;




·
            are
                not capable of being produced in commercial quantities at acceptable
                costs
                or pursuant to applicable rules and regulations;
                or




·
            are
                not accepted in the medical community and by third-party
                payors.




We
      do not expect Zensana to be commercialized until 2007, if at all. If we are
      unable to commercialize our product candidates, we will not generate product
      revenues. The results of our clinical trials to date do not provide assurance
      that acceptable efficacy or safety will be shown.




***If
      we are unable either to create sales, marketing and distribution capabilities
      or
      enter into agreements with third parties to perform these functions, we will
      be
      unable to commercialize our product candidates successfully.***




We
      currently have no sales, marketing or distribution capabilities. To
      commercialize our product candidates, we must either develop internal sales,
      marketing and distribution capabilities, which will be expensive and time
      consuming, or make arrangements with third parties to perform these services.
      If
      we decide to market any of our products directly, we must commit financial
      and
      managerial resources to develop marketing capabilities and a salesforce with
      technical expertise and with supporting distribution capabilities. If approved
      by the FDA, we intend to market Zensana in the United States with our own
      specialized oncology salesforce of approximately 30 people. Factors that may
      inhibit our efforts to commercialize Zensana and our other product candidates,
      if approved, directly and without strategic partners include:




·
            our
                inability to recruit and retain adequate numbers of effective sales
                and
                marketing personnel;




·
            the
                inability of sales personnel to obtain access to or persuade adequate
                numbers of physicians to prescribe our products;




·
            the
                lack of complementary products to be offered by sales personnel,
                which may
                put us at a competitive disadvantage relative to companies with more
                extensive product lines; and




·
            unforeseen
                costs and expenses associated with creating an independent sales
                and
                marketing organization.




If
      we are not able to partner with a third party and are not successful in
      recruiting sales and marketing personnel or in building a sales and marketing
      infrastructure, we will have difficulty commercializing Zensana and our product
      candidates, which would harm our business. If we rely on pharmaceutical or
      biotechnology companies with established distribution systems to market our
      products, we will need to establish and maintain partnership arrangements,
      and
      we may not be able to enter into these arrangements on acceptable terms or
      at
      all. To the extent that we enter into co-promotion or other arrangements, any
      revenues we receive will depend upon the efforts of third parties which may
      not
      be successful and which will be only partially in our control. Our product
      revenues would likely be lower than if we marketed and sold our products
      directly.




33




***The
      terms of our license agreements relating to intellectual property ownership
      rights may make it more difficult for us to establish collaborations for the
      development and commercialization of our product
      candidates.***





The
      terms
      of our license agreements obligate us to include intellectual property
      assignment provisions in any sublicenses or collaboration agreements that may
      be
      unacceptable to our potential sublicensees and partners. These terms may impede
      our ability to enter into partnerships for some of our existing product
      candidates. Under our license agreement with Inex, Inex, either alone or jointly
      with M.D. Anderson Cancer Center, will be the owner of patents and patent
      applications claiming priority to certain patents licensed to us, and we not
      only have an obligation to assign to Inex our rights to inventions covered
      by
      such patents or patent applications, but also, when negotiating any joint
      venture, collaborative research, development, commercialization or other
      agreement with a third party, to require such third party to do the same. Our
      license agreement with Elan Pharmaceuticals, Inc., or Elan, relating to Marqibo,
      provides that Elan will own all improvements to the licensed patents or licensed
      know-how made by us or any of our sublicensees. Our license agreement with
      NovaDel for Zensana provides that all information and inventions made by or
      on
      behalf of us, our affiliates and sublicenses relating to the oral spray process
      or Zensana will be assigned to NovaDel. Potential collaboration and
      commercialization partners for these product candidates may not agree to such
      intellectual property ownership requirements and therefore not elect to partner
      with us for these product candidates.





***If
      physicians and patients do not accept and use Zensana or our other product
      candidates, our ability to generate revenue from sales of our products will
      be
      materially impaired.***




Even
      if
      the FDA approves Zensana or any of our other product candidates, physicians
      and
      patients may not accept and use them. Acceptance and use of our products will
      depend upon a number of factors including:




·
            perceptions
                by members of the health care community, including physicians, about
                the
                safety and effectiveness of our
                drugs;




·
            pharmacological
                benefit and cost-effectiveness of our products relative to competing
                products;




·
            availability
                of reimbursement for our products from government or other healthcare
                payors;




·
            effectiveness
                of marketing and distribution efforts by us and our licensees and
                distributors, if any; and




·
            the
                price at which we sell our
                products.




Because
      we expect sales of Zensana, if FDA-approved, to generate substantially all
      of
      our product revenues for the foreseeable future, the failure of Zensana to
      find
      market acceptance would harm our business and could require us to seek
      additional financing.




***Adequate
      coverage and reimbursement may not be available for our product candidates,
      which could diminish our sales or affect our ability to sell our products
      profitably.***





Market
      acceptance and sales of our product candidates will depend in significant part
      on the levels at which government payors and other third-party payors, such
      as
      private health insurers and health maintenance organizations, cover and pay
      for
      our products. We cannot provide any assurances that third-party payors will
      provide adequate coverage of and reimbursement for any of our product
      candidates. If we are unable to obtain adequate coverage of and payment levels
      for our product candidates from third-party payors, physicians may limit how
      much or under what circumstances they will prescribe or administer them and
      patients may decline to purchase them. This in turn could affect our ability
      to
      successfully commercialize our products and impact our profitability and future
      success.





34


In
      both the United States and certain foreign jurisdictions, there have been a
      number of legislative and regulatory policies and proposals in recent years
      to
      change the healthcare system in ways that could impact our ability to sell
      our
      products profitably. On December 8, 2003, President Bush signed into law
      the Medicare Prescription Drug, Improvement and Modernization Act of 2003,
      or
      the MMA, which contains a wide variety of changes that impact Medicare
      reimbursement of pharmaceuticals to physicians and hospitals. The MMA requires
      that, as of January 1, 2005, payment rates for most drugs covered under
      Medicare Part B, including drugs furnished incident to physicians’
services, are to be based on manufacturers' average sales price, or ASP, of
      the
      product. Implementation of the ASP payment methodology for drugs furnished
      in
      physicians' offices generally resulted in reduced payments in 2005, and could
      result in lower payment rates for drugs in the future.





The
      MMA requires that, beginning in 2006, payment amounts for most drugs
      administered in physician offices are to be based on either ASP or on amounts
      bid by vendors under the Competitive Acquisition Program, or CAP. Under the
      CAP,
      physicians who administer drugs in their offices will be offered an option
      to
      acquire drugs covered under the Medicare Part B benefit from vendors that are
      selected in a competitive bidding process. Winning vendors would be selected
      based on criteria that include their bid prices. Implementation of the CAP
      has
      been delayed until at least July 2006. Implementation of the ASP payment
      methodology and the CAP could negatively impact our ability to sell our product
      candidates.





The
      MMA also revised the method by which Medicare pays for many drugs administered
      in hospital outpatient departments beginning in 2005. In addition, the Centers
      for Medicare & Medicaid Services, or CMS, which administers the Medicare
      program, published a proposed rule on payment amounts for drugs administered
      in
      hospital outpatient departments for 2006. As a result of the changes in the
      MMA
      and, if the methods suggested by CMS in the proposed 2006 rule are implemented,
      certain newly introduced drugs administered in hospital outpatient departments,
      which we believe would include our product candidates, will generally be
      reimbursed under an ASP payment methodology, except that during a short
      introductory period in which drugs have not been assigned a billing code a
      higher payment rate is applicable. As in the case of physician offices,
      implementation of the ASP payment methodology in the hospital outpatient
      department could negatively impact our ability to sell our product
      candidates.





The
      MMA created a new, voluntary prescription drug benefit for Medicare
      beneficiaries, Medicare Part D, which took effect in 2006. Medicare Part D
      is a new type of coverage that allows for payment for certain prescription
      drugs
      not covered under Part B. We believe that our product candidates will be covered
      by Medicare, if at all, only under the Part D program. This new benefit will
      be
      offered by private managed care organizations and freestanding prescription
      drug
      plans, which, subject to review and approval by CMS, may, and are expected
      to,
      establish drug formularies and other drug utilization management controls based
      in part on the price at which they can obtain the drugs involved. The drugs
      that
      will be covered in each therapeutic category and class on the formularies of
      participating Part D plans may be limited, and obtaining favorable treatment
      on
      formularies and with respect to utilization management controls may affect
      the
      prices we can obtain for our products. If our product candidates are not placed
      on such formularies, or are subject to utilization management controls, this
      could negatively impact our ability to sell them. It is difficult to predict
      which of our candidate products will be placed on the formularies or subjected
      to utilization management controls and the impact that the Part D program,
      and
      the MMA generally, will have on us.





There
      also likely will continue to be legislative and regulatory proposals that could
      bring about significant changes in the healthcare industry. We cannot predict
      what form those changes might take or the impact on our business of any
      legislation or regulations that may be adopted in the future. The implementation of cost containment measures or other healthcare reforms may
      prevent us from being able to generate revenue, attain profitability or
      commercialize our products.





35


In
      addition, in many foreign countries, particularly the countries of the European
      Union, the pricing of prescription drugs is subject to government control.
      We
      may face competition for our product candidates from lower priced products
      in
      foreign countries that have placed price controls on pharmaceutical products.
      In
      addition, there may be importation of foreign products that compete with our
      own
      products which could negatively impact our profitability.




***If
      we cannot compete successfully for market share against other drug companies,
      we
      may not achieve sufficient product revenues and our business will
      suffer.***




The
      market for our product candidates is characterized by intense competition and
      rapid technological advances. If our product candidates receive FDA approval,
      they will compete with a number of existing and future drugs and therapies
      developed, manufactured and marketed by others. If approved, Zensana will
      compete with the currently available oral form of ondansetron, which is
      currently being manufactured and sold by GlaxoSmithKline Inc. under the name
      Zofran. If approved, Marqibo will compete with unencapsulated vincristine,
      which
      is generic, other cytotoxic agents such as antimetabolites, alkylating agents,
      cytotoxic antibiotics, vinca alkyloids, platinum compounds and taxanes, and
      other cytotoxic agents that use different encapsulation technologies, and
      biologics. If
      approved, Talotrexin will compete with existing antifolate therapies currently
      being sold by Pfizer, Inc. (trimetrexate), Eli Lilly & Co.
      (pemetrexed) and Novartis AG (edatrexate). Although there are no
      FDA-approved radiation sensitizers currently on the market, there are several
      product candidates in development that will compete with our product candidate
      ropidoxuridine and which are significantly further along in development. For
      example, Allos Therapeutics, Inc. and Pharmacyclics, Inc. each have a radiation
      sensitizer in Phase III development. These or other future competing
      products and product candidates may provide greater therapeutic convenience
      or
      clinical or other benefits for a specific indication than our products, or
      may
      offer comparable performance at a lower cost. If our products fail to capture
      and maintain market share, we may not achieve sufficient product revenues and
      our business will suffer.




We
      will
      compete against fully integrated pharmaceutical companies and smaller companies
      that are collaborating with larger pharmaceutical companies, academic
      institutions, government agencies and other public and private research
      organizations. In addition, many of these competitors, either alone or together
      with their collaborative partners, operate larger research and development
      programs and have substantially greater financial resources than we do, as
      well
      as significantly greater experience in:




·
            developing
                drugs;




·
            undertaking
                preclinical testing and human clinical
                trials;




·
            obtaining
                FDA and other regulatory approvals of
                drugs;




·
            formulating
                and manufacturing drugs; and




·
            launching,
                marketing and selling drugs.




***Developments
      by competitors may render our products or technologies obsolete or
      non-competitive.***




Companies
      that currently sell both generic and proprietary compounds for the treatment
      of
      cancer include, among others, Pfizer, Inc. (trimetrexate), Eli Lilly &
Co. (pemetrexed), Novartis AG (edatrexate), and Allos Therapeutics, Inc. (PDX).
      Alternative technologies are being developed to treat cancer and immunological
      disease, several of which are in advanced clinical trials. In addition,
      companies pursuing different but related fields represent substantial
      competition. Many of these organizations have substantially greater capital
      resources, larger research and development staffs and facilities, longer drug
      development history in obtaining regulatory approvals and greater manufacturing
      and marketing capabilities than we do. These organizations also compete with
      us
      to attract qualified personnel, parties for acquisitions, joint ventures or
      other collaborations.




36




**Risks
      Related to Our Intellectual Property**




***If
      we fail to adequately protect or enforce our intellectual property rights or
      secure rights to patents of others, the value of our intellectual property
      rights would diminish.***




Our
      success, competitive position and future revenues will depend in large part
      on
      our ability and the abilities of our licensors to obtain and maintain patent
      protection for our products, methods, processes and other technologies, to
      preserve our trade secrets, to prevent third parties from infringing on our
      proprietary rights and to operate without infringing the proprietary rights
      of
      third parties.




We
      have
      licensed from third parties rights to numerous issued patents and patent
      applications. To
      date,
      through our license agreements for Talotrexin, ropidoxuridine, Marqibo and
      Zensana, we hold certain exclusive patent rights, including rights under
      U.S. patents and U.S. patent applications. We also have patent rights
      to applications pending in several foreign jurisdictions. We have filed and
      anticipate filing additional patent applications both in the United States
      and
      internationally, as appropriate.




The
      rights to product candidates that we acquire from licensors or collaborators
      are
      protected by patents and proprietary rights owned by them, and we rely on the
      patent protection and rights established or acquired by them. We generally
      do
      not unilaterally control, or do not control at all, the prosecution of patent
      applications licensed from third parties. Accordingly, we are unable to exercise
      the same degree of control over this intellectual property as we may exercise
      over internally developed intellectual property. In particular, NovaDel, which
      licensed us Zensana, has the sole right to file, prosecute and maintain patent
      applications, patents and trademarks relating to the Zensana product, and we
      only have the right to comment on such filings and the rights to patent filing,
      prosecution and maintenance if NovaDel elects not to do so in a certain country.




The
      patent positions of pharmaceutical and biotechnology companies can be highly
      uncertain and involve complex legal and factual questions. Even if we are able
      to obtain patents, any patent may be challenged, invalidated, held unenforceable
      or circumvented. The existence of a patent will not necessarily protect us
      from
      competition. Competitors may successfully challenge our patents, produce similar
      drugs or products that do not infringe our patents or produce drugs in countries
      where we have not applied for patent protection or that do not respect our
      patents. Under our license agreements, we generally do not unilaterally control,
      or do not control at all, the enforcement of the licensed patents or the defense
      of third party suits of infringement or invalidity. In particular, with respect
      to Zensana, NovaDel is the party who has the first right to enforce the licensed
      patents and we may only do so if NovaDel fails to enforce such patents. NovaDel
      is also the party who has the first right to defend third party infringement
      claims and who is in control of such proceedings, while we do not have clear
      contractual rights to defend such claims even if NovaDel fails to do
      so.





Furthermore,
      if we become involved in any patent litigation, interference or other
      administrative proceedings, we will incur substantial expense and the efforts
      of
      our technical and management personnel will be significantly diverted. As a
      result of such litigation or proceedings we could lose our proprietary position
      and be restricted or prevented from developing, manufacturing and selling the
      affected products, incur significant damage awards, including punitive damages,
      or be required to seek third-party licenses that may not be available on
      commercially acceptable terms, if at all.





37


The
      degree of future protection for our proprietary rights is uncertain in part
      because legal means afford only limited protection and may not adequately
      protect our rights, and we will not be able to ensure that:





·
            we
                or our licensors or collaborators were the first to make the inventions
                described in patent applications;




·
            we
                or our licensors or collaborators were the first to file patent
                applications for inventions;




·
            others
                will not independently develop similar or alternative technologies
                or
                duplicate any of our technologies without infringing our intellectual
                property rights;




·
            any
                of our pending patent applications will result in issued
                patents;




·
            any
                patents licensed or issued to us will provide a basis for commercially
                viable products or will provide us with any competitive advantages
                or will
                not be challenged by third parties;




·
            we
                will ultimately be able to enforce our owned or licensed patent rights
                pertaining to our products;




·
            any
                patents licensed or issued to us will not be challenged, invalidated
                or
                circumvented;




·
            we
                will develop or license proprietary technologies that are patentable;
                or




·
            the
                patents of others will not have an adverse effect on our ability
                to do
                business.




Our
      success also depends upon the skills, knowledge and experience of our scientific
      and technical personnel, our consultants and advisors as well as our licensors
      and contractors. To help protect our proprietary know-how and our inventions
      for
      which patents may be unobtainable or difficult to obtain, we rely on trade
      secret protection and confidentiality agreements. To this end, we require all
      of
      our employees to enter into agreements which prohibit the disclosure of
      confidential information and, where applicable, require disclosure and
      assignment to us of the ideas, developments, discoveries and inventions
      important to our business. These agreements may not provide adequate protection
      for our trade secrets, know-how or other proprietary information in the event
      of
      any unauthorized use or disclosure or the lawful development by others of such
      information. If any of our trade secrets, know-how or other proprietary
      information is disclosed, the value of our trade secrets, know-how and other
      proprietary rights would be significantly impaired and our business and
      competitive position would suffer.




***Our
      license agreements relating to our product candidates may be terminated in
      the
      event we commit a material breach, the result of which would harm our business
      and future prospects.***




Our
      license agreements relating to Talotrexin, ropidoxuridine and
      Zensana  are
      subject to termination by our licensors in the event we materially breach those
      agreements. With respect to the Talotrexin license, Dana-Farber Cancer
      Institute, Inc. and Ash Stevens, Inc. may terminate the agreement, after giving
      us notice and an opportunity to cure, if we commit a material breach, including
      failing to make a scheduled milestone or other payment when due, failing to
      meet
      our diligence obligations, ceasing to carry on our business with respect to
      the
      licensed products, or being convicted of a felony relating to the manufacture,
      use, sale or importation of the licensed products. The agreement also provides
      that it may be terminated if we become involved in a bankruptcy, insolvency
      or
      similar proceeding. Our license agreement for ropidoxuridine contains similar
      provisions, in that Yale University and the Research Foundation of State
      University of New York may terminate the agreement, after giving us notice
      and
      an opportunity to cure, if we commit a material breach, including failing to
      make scheduled payments, or terminate the agreement without giving us the
      opportunity to cure for our failure to obtain or maintain adequate insurance,
      or
      our involvement in a bankruptcy. Under the Zensana license, NovaDel may
      terminate our license, after giving us notice and an opportunity to cure, for
      our material breach or payment default. The license also terminates
      automatically if we are involved in a bankruptcy. In the event these license
      agreements are terminated, we will lose all of our rights to develop and
      commercialize the applicable product candidate covered by such license, which
      would harm our business and future prospects.




38


Our
      license to Marqibo, sphingosome encapsulated vinorelbine and sphingosome
      encapsulated topotecan are governed by a series of transaction agreements which
      may be individually or collectively terminated, not only by Inex, but also
      by
      University of Texas M.D. Anderson Cancer Center, British Columbia Cancer Agency,
      University of British Columbia or Elan under the underlying agreements governing
      the license or assignment of technology to Inex. Inex may terminate these
      agreements for our uncured material breach, for our involvement in a bankruptcy,
      for our assertion or intention to assert any invalidity challenge on any of
      the
      patents licensed to us for these products or for our failure to meet our
      development or commercialization obligations, including the obligations of
      continuing to sell each product in all major market countries after its launch.
      In the event that these agreements are terminated, not only will we lose all
      rights to these products, we will also have the obligation to transfer all
      of
      our data, materials, regulatory filings and all other documentation to our
      licensor, and our licensor may on its own exploit these products without any
      compensation to us, regardless of the progress or amount of investment we have
      made in the products.




***Third
      party claims of intellectual property infringement would require us to spend
      significant time and money and could prevent us from developing or
      commercializing our products.***




In
      order to protect or enforce patent rights, we may initiate patent litigation
      against third parties. Similarly, we may be sued by others. We also may become
      subject to proceedings conducted in the U.S. Patent and Trademark Office,
      including interference proceedings to determine the priority of inventions,
      or examination proceedings. In addition, any foreign patents that are granted
      may become subject to opposition, nullity or revocation proceedings in foreign
      jurisdictions having such proceedings opposed by third parties in foreign
      jurisdictions having opposition proceedings. The defense and prosecution, if
      necessary, of intellectual property actions are costly and divert technical
      and
      management personnel from their normal responsibilities.





No
      patent can protect its holder from a claim of infringement of another patent.
      Therefore, our patent position cannot and does not provide any assurance that
      the commercialization of our products would not infringe the patent rights
      of
      another. While we know of no actual or threatened claim of infringement that
      would be material to us, there can be no assurance that such a claim will not
      be
      asserted. We
      are
      aware of certain United States patents that relate to ondansetron compositions
      and uses therefor to treat nausea and vomiting.  These patents pertain to
      Zofran, an FDA-approved first generation 5-HT3 antagonist product upon which
      we
      intend to file an NDA application under Section 505(b)(2) of the FDCA. Certain
      of these patents are due to expire in advance of our planned commercial launch
      of Zensana in the United States in 2007. We do not believe that Zensana
      infringes any of the United States patents that would remain in force at the
      time of such planned launch.





If
      such a claim is asserted, there can be no assurance that the resolution of
      the
      claim would permit us to continue marketing the relevant product on commercially
      reasonable terms, if at all. We may not have sufficient resources to bring
      these
      actions to a successful conclusion. If we do not successfully defend any
      infringement actions to which we become a party or are unable to have infringed
      patents declared invalid or unenforceable, we may have to pay substantial
      monetary damages, which can be tripled if the infringement is deemed willful,
      or
      be required to discontinue or significantly delay commercialization and
      development of the affected products.





Any
      legal action against us or our collaborators claiming damages and seeking to
      enjoin developmental or marketing activities relating to affected products
      could, in addition to subjecting us to potential liability for damages, require
      us or our collaborators to obtain licenses to continue to develop, manufacture
      or market the affected products. Such a license may not be available to us
      on
      commercially reasonable terms, if at all.





An
      adverse determination in a proceeding involving our owned or licensed
      intellectual property may allow entry of generic substitutes for our
      products.




39




**Risks
      Related to our Common Stock**




***Our
      stock price has, and we expect it to continue to, fluctuate significantly,
      and
      the value of your investment may decline.***




From
      January 1, 2005 to May 12, 2006, the market price of our common stock has
      ranged from a high of $12.94 per share to a low of $1.25 per share.
      The volatile price of our stock makes it difficult for investors to predict
      the
      value of their investment, to sell shares at a profit at any given time, or
      to
      plan purchases and sales in advance. In addition, the stock markets in general,
      and the markets for biotechnology and biopharmaceutical companies in particular,
      have experienced extreme volatility that has often been unrelated to the
      operating performance of particular companies. A variety of factors may affect
      our operating performance and performance and cause the market price of our
      common stock to fluctuate. These include, but are not limited to:




·
            announcements
                by us or our competitors of regulatory developments, clinical trial
                results, clinical trial enrollment, regulatory filings, new products
                and
                product launches, significant acquisitions, strategic partnerships
                or
                joint ventures;




·
            any
                intellectual property infringement, product liability or any other
                litigation involving us;




·
            developments
                or disputes concerning patents or other proprietary
                rights;




·
            regulatory
                developments in the United States and foreign
                countries;




·
            market
                conditions in the pharmaceutical and biotechnology sectors and issuance
                of
                new or changed securities analysts’ reports or
                recommendations;




·
            economic
                or other crises and other external
                factors;




·
            actual
                or anticipated period-to-period fluctuations in our revenues and
                other
                results of operations;




·
            departure
                of any of our key management personnel;
                or




·
            sales
                of our common stock.




These
      and
      other factors may cause the market price and demand of our common stock to
      fluctuate substantially, which may limit investors from readily selling their
      shares of common stock and may otherwise negatively affect the liquidity or
      value of our common stock.




***If
      our results do not meet analysts’ forecasts and expectations, our stock price
      could decline.***




While
      research analysts and others have published forecasts as to the amount and
      timing of our future revenues and earnings, we have stated that we will not
      be
      providing any forecasts of the amount and timing of our future revenues and
      earnings until after two quarters of our sales and marketing efforts. Analysts
      who cover our business and operations provide valuations regarding our stock
      price and make recommendations whether to buy, hold or sell our stock. Our
      stock
      price may be dependent upon such valuations and recommendations. Analysts’
valuations and recommendations are based primarily on our reported results
      and
      their forecasts and expectations concerning our future results regarding, for
      example, expenses, revenues, clinical trials, regulatory marketing approvals
      and
      competition. Our future results are subject to substantial uncertainty, and
      we
      may fail to meet or exceed analysts’ forecasts and expectations as a result of a
      number of factors, including those discussed under the section “Risks Related to
      Our Business.” If our results do not meet analysts’ forecasts and expectations,
      our stock price could decline as a result of analysts lowering their valuations
      and recommendations or otherwise.




40




***Substantial
      sales of shares may impact the market price of our common stock.***




If
      our
      stockholders sell substantial amounts of our common stock, including shares
      issued upon the exercise of outstanding options or issued in connection with
      our
      license agreement with Inex, the market price of our common stock may decline.
      We are unable to predict the effect that sales may have on the prevailing market
      price of our common stock. As of April 30, 2006, we had 22,673,887 outstanding
      shares of common stock. In addition, as of April 30, 2006, 2,342,887 shares
      were
      subject to stock options currently outstanding under our stock incentive plans,
      and an additional 2,239,589 were available for future grants of equity
      compensation under our stock incentive plans.




In
      April
      2006, we filed a shelf registration statement, pursuant to which we may, from
      time-to-time, sell shares of our common stock in one or more offerings, with
      a
      total value of up to $75 million. In connection with our license agreement
      with
      Inex, we are obligated to file a registration statement for the resale of the
      1,118,568 shares of common stock issued to Inex. We have filed a registration
      statement covering shares of common stock issuable upon exercise of options
      and
      other grants pursuant to our stock plans.





In
      addition, our certificate of incorporation authorizes us to issue up to
      100,000,000 shares of common stock and 10,000,000 shares of undesignated
      preferred stock. Our management will continue to have broad discretion to issue
      shares of our common stock in a range of transactions, including capital-raising
      transactions, mergers, acquisitions, for anti-takeover purposes, and in other
      transactions, without obtaining stockholder approval, unless stockholder
      approval is required for a particular transaction under the rules of the Nasdaq
      National Market, Delaware law, or other applicable laws. If our management
      determines to issue shares of our common stock from the large pool of such
      authorized but unissued shares for any purpose in the future without obtaining
      stockholder approval, your ownership position would be diluted without your
      further ability to vote on that transaction.





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




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




·
            establish
                a classified board of directors so that not all members of our board
                may
                be elected at one time;




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




·
            limit
                who may call a special meeting of stockholders;




·
            prohibit
                stockholder action by written consent, thereby requiring all stockholder
                actions to be taken at a meeting of our stockholders; and




·
            establish
                advance notice requirements for nominations for election to our board
                of
                directors or for proposing matters that can be acted upon at stockholder
                meetings.




41


In
      addition, Section 203 of the Delaware General Corporation Law, which
      prohibits business combinations between us and one or more significant
      stockholders unless specified conditions are met, may discourage, delay or
      prevent a third party from acquiring us.




***We
      are at risk of securities class action litigation.***




In
      the
      past, securities class action litigation has often been brought against a
      company following a decline in the market price of its securities. This risk
      is
      especially relevant for us because biotechnology companies have experienced
      greater than average stock price volatility in recent years. If we faced such
      litigation, it could result in substantial costs and a diversion of management’s
      attention and resources, which could harm our business.




***Because
      we do not expect to pay dividends, you will not realize any income from an
      investment in our common stock unless and until you sell your shares at
      profit.***




We
      have
      never paid dividends on our common stock and do not anticipate paying any
      dividends for the foreseeable future. You should not rely on an investment
      in
      our stock if you require dividend income. Further, you will only realize income
      on an investment in our shares in the event you sell or otherwise dispose of
      your shares at a price higher than the price you paid for your shares. Such
      a
      gain would result only from an increase in the market price of our common stock,
      which is uncertain and unpredictable.




**Item
      2. Unregistered Sales of Equity Securities and Use of
      Proceeds** ******





In
        the
        three months ended March 31, 2006, the Company sold an aggregate of 199,547
        shares of its common stock pursuant to the exercise of outstanding warrants,
        as
        summarized below:
 
 **Date
                  of Exercise**
              
              **No.
                  Shares**
              
              **Exercise
                  Price**
              
              **Original
                  Warrant**
                **Issuance
                  Date**02/02/2006
              
              
              11,718
              
              
              1.57
              
              
              04/22/200502/02/2006
              
              
              6,000
              
              
              1.57
              
              
              04/22/200502/27/2006
              
              
              48,688
              
              
              1.57
              
              
              04/22/200502/28/2006
              
              
              2,351
              
              
              1.851
              
              
              02/18/200403/07/2006
              
              
              6,979
              
              
              1.851
              
              
              02/18/200403/07/2006
              
              
              2,343
              
              
              1.57
              
              
              04/22/200503/20/2006
              
              
              10,000
              
              
              1.57
              
              
              04/22/200503/20/2006
              
              
              6,000
              
              
              1.57
              
              
              04/22/200503/23/2006
              
              
              105,468
              
              
              1.57
              
              
              04/22/2005
 
 The
        shares identified above that were sold at a price of $1.57 per share resulted
        from exercises of warrants issued to the investors in the Company’s April 2005
        private placement; the shares sold at $1.851 per share relate to warrants
        originally issued to the placement agent in connection with the Company’s
        February 2004 private placement. The Company’s sales of the shares in connection
        with the warrant exercises described above were done in reliance on the
        exemption from the registration requirements of the Securities Act of 1933,
        as
        amended, provided by Section 4(2) of such act and/or Rule 506 promulgated
        thereunder. The Company had a reasonable basis to believe that each purchaser
        was an accredited investor and/or had knowledge and experience in financial
        and
        business matters sufficient to evaluate the merits and risks of their
        investment.





**Item
      3. Defaults Upon Senior Securities**





Not
      applicable




**Item
      4. Submission of Matters to a Vote of Securities Holders**





Not
      applicable




**Item
      5. Other Information**





**(A)**  **Correction
      of Terms of Separation Agreement.**





Attached
      to this Form 10-Q as Exhibit 10.1 is a copy of the Separation Agreement dated
      December 28, 2005 between the Company and Russell L. Skibsted, the Company’s
      former chief executive officer. The Company originally disclosed the Separation
      Agreement in its Current Report on Form 8-K dated December 28, 2005 and filed
      with the Securities and Exchange Commission on January 3, 2006. Under the terms
      of the Separation Agreement, Mr. Skibsted, whose employment with the Company
      terminated as of December 31, 2005, was entitled to receive severance equal
      to
      base salary for a period of one year, provided, however, that the Company’s
      obligation to make such payments would be reduced by any amounts Mr. Skibsted
      received from new employment during such one-year period. At the time of such
      termination, Mr. Skibsted’s annual base salary was $175,000. In the Company’s
      Proxy Statement on Schedule 14A filed April 7, 2006 in connection with the
      Company’s Annual Meeting to be held May 9, 2006, the Company erroneously
      described the terms of the Separation Agreement as requiring the Company to
      only
      continue paying his base salary for a period of 6 months. On May 9, 2006, Mr.
      Skibsted informed the Company that he had obtained new employment at a salary
      exceeding the amount of severance pay the Company is obligated to pay to him.
      Accordingly, the Company has satisfied its severance pay obligation to Mr.
      Skibsted.





42




**(B)**  **Increases
      in Base Salary Payable to Executive Officers**





Effective
      January 1, 2006, the annual base salaries of Mark J. Ahn, our President and
      CEO,
      Gregory I. Berk, our Senior Vice President, Chief Medical Officer, Fred L.
      Vitale, our Vice President, Chief Business Officer, were increased to $275,000,
      $240,000, and $200,000, respectively, representing an increase of $25,000 to
      each person.





**(C)**  **Stockholder
      Approval and Ratification of 2003 Stock Option Plan**





At
      the
      Company’s Annual Meeting of Stockholders held May 9, 2006, our stockholders
      ratified and approved our 2003 Stock Option Plan (the “2003 Plan”). The terms of
      the 2003 Plan are summarized below:





In
      October 2003, the Company’s board of directors approved and adopted the 2003
      Plan. The 2003 Plan authorizes a total of 1,410,068 shares of common stock
      for
      issuance. As of May 12, 2006, stock options relating to an aggregate of 704,296
      shares of common stock had been granted at exercise prices ranging from $0.34
      to
      $1.68, leaving a total of 705,772 shares available for issuance. However,
      following the adoption of the Company’s 2004 Stock Incentive Plan in September
      2004, no grants or awards have been made under the 2003 Plan and the Company
      has
      no current intention of doing so. Instead, the Company intends to make equity
      incentive awards only under its 2004 Stock Incentive Plan.




The
      purpose of the 2003 Plan is to increase shareholder value and to advance the
      interests of the Company by furnishing a variety of economic incentives designed
      to attract, retain and motivate employees of and consultants to the Company.
      The
      Plan provides that a committee composed of at least two disinterested members
      of
      the board of directors of the Company may grant Incentives in the following
      forms: (a) stock options; (b) stock appreciation rights (“SARs”); (c) stock
      awards; (d) restricted stock; (e) performance shares; and (f) cash awards.
      Incentives may be granted to participants who are employees of or consultants
      to
      the Company (including officers and directors of the Company who are also
      employees of or consultants to the Company) selected from time to time by the
      committee. In the event there is no committee, then the entire Board shall
      have
      responsibility for administering the 2003 Plan.




Under
      the
      2003 Plan, the committee may grant non-qualified and incentive stock options
      to
      eligible participants to purchase shares of common stock from the Company.
      The
      2003 Plan confers on the committee discretion, with respect to any such stock
      option, to determine the number and purchase price of the shares subject to
      the
      option, the term of each option and the time or times during its term when
      the
      option becomes exercisable. The purchase price for incentive stock options
      may
      not be less than the fair market value of the shares subject to the option
      on
      the date of grant. The number of shares subject to an option will be reduced
      proportionately to the extent that the optionee exercises a related SAR. The
      term of a non-qualified option may not exceed 10 years from the date of grant
      and the term of an incentive stock option may not exceed 10 years from the
      date
      of grant. Any option shall become immediately exercisable in the event of
      specified changes in corporate ownership or control. The committee may
      accelerate the exercisability of any option. The committee may approve the
      purchase by the Company of an unexercised stock option for the difference
      between the exercise price and the fair market value of the shares covered
      by
      such option. The option price may be paid in cash, check, bank draft or by
      delivery of shares of common stock valued at their fair market value at the
      time
      of purchase or by withholding from the shares issuable upon exercise of the
      option shares of common stock valued at their fair market value or as otherwise
      authorized by the committee.




43


In
      the
      event that an optionee ceases to be an employee of or consultant to the Company
      for any reason, including death, any stock option or unexercised portion thereof
      which was otherwise exercisable on the date of termination of employment shall
      expire at the time or times established by the committee.




A
      stock
      appreciation right or a “SAR” is a right to receive, without payment to the
      Company, a number of shares, cash or any combination thereof, the amount of
      which is determined pursuant to the formula described below. A SAR may be
      granted with respect to any stock option granted under the Plan, or alone,
      without reference to any stock option. A SAR granted with respect to any stock
      option may be granted concurrently with the grant of such option or at such
      later time as determined by the committee and as to all or any portion of the
      shares subject to the option.




The
      2003
      Plan confers on the committee discretion to determine the number of shares
      as to
      which a SAR will relate as well as the duration and exercisability of a SAR.
      In
      the case of a SAR granted with respect to a stock option, the number of shares
      of common stock to which the SAR pertains will be reduced in the same proportion
      that the holder exercises the related option. The term of a SAR may not exceed
      ten years and one day from the date of grant. Unless otherwise provided by
      the
      committee, a SAR will be exercisable for the same time period as the stock
      option to which it relates is exercisable. Any SAR shall become immediately
      exercisable in the event of specified changes in corporate ownership or control.
      The committee may accelerate the exercisability of any SAR.




Upon
      exercise of a SAR, the holder is entitled to receive an amount which is equal
      to
      the aggregate amount of the appreciation in the shares of common stock as to
      which the SAR is exercised. For this purpose, the “appreciation” in the shares
      consists of the amount by which the fair market value of the shares of common
      stock on the exercise date exceeds (a) in the case of a SAR related to a stock
      option, the purchase price of the shares under the option or (b) in the case
      of
      a SAR granted alone, without reference to a related stock option, an amount
      determined by the committee at the time of grant. The committee may pay the
      amount of this appreciation to the holder of the SAR by the delivery of common
      stock, cash, or any combination of common stock and cash.





Restricted
      stock consists of the sale or transfer by the Company to an eligible participant
      of one or more shares of common stock which are subject to restrictions on
      their
      sale or other transfer by the employee. The price at which restricted stock
      will
      be sold will be determined by the Committee, and it may vary from time to time
      and among employees and may be less than the fair market value of the shares
      at
      the date of sale. All shares of restricted stock will be subject to such
      restrictions as the committee may determine. Subject to these restrictions
      and
      the other requirements of the 2003 Plan, a participant receiving restricted
      stock shall have all of the rights of a shareholder as to those shares,
      including, for example, the right to vote such shares.




Stock
      awards consist of the transfer by the Company to an eligible participant of
      shares of common stock, without payment, as additional compensation for services
      to the Company. The number of shares transferred pursuant to any stock award
      will be determined by the Committee.




Performance
      shares consist of the grant by the Company to an eligible participant of a
      contingent right to receive cash or payment of shares of common stock. The
      performance shares shall be paid in shares of common stock to the extent
      performance objectives set forth in the grant are achieved. The number of shares
      granted and the performance criteria will be determined by the
      committee.




No
      incentive award granted under the 2003 Plan is transferable by its holder,
      except in the event of the holder’s death, by will or the laws of descent and
      distribution. During an employee’s lifetime, an Incentive may be exercised only
      by him or her or by his or her guardian or legal representative.




44




The
      Company’s Board of Directors may amend or discontinue the 2003 Plan at any time.
      However, no such amendment or discontinuance may, subject to adjustment in
      the
      event of a merger, recapitalization, or other corporate restructuring, (a)
      change or impair, without the consent of the recipient thereof, an Incentive
      previously granted, (b) materially increase the maximum number of shares of
      common stock which may be issued to all participants under the 2003 Plan, (c)
      materially change or expand the types of Incentives that may be granted under
      the 2003 Plan, (d) materially modify the requirements as to eligibility for
      participation in the 2003 Plan, or (e) materially increase the benefits accruing
      to participants. Certain 2003 Plan amendments require shareholder approval,
      including amendments which would materially increase benefits accruing to
      participants, increase the number of securities issuable under the 2003 Plan,
      or
      change the requirements for eligibility under the 2003 Plan.




The
      following discussion sets forth certain United States income tax considerations
      concerning the ownership of common stock. These tax considerations are stated
      in
      general terms and are based on the Internal Revenue Code of 1986, as amended,
      regulations thereunder and judicial and administrative interpretations thereof.
      This discussion does not address state or local tax considerations with respect
      to the ownership of common stock. Moreover, the tax considerations relevant
      to
      ownership of common stock may vary depending on a holder’s particular
      status.




Long-term
      capital gains currently are generally subject to lower tax rates than ordinary
      income or short-term capital gains. The maximum long-term capital gains rate
      for
      federal income tax purposes is currently 15 percent while the maximum ordinary
      income rate and short-term capital gains rate is effectively 35 percent.




****  Incentive
      stock options under the 2003 Plan are intended to be eligible for the favorable
      federal income tax treatment accorded “incentive stock options” under the Code.
      There generally are no federal income tax consequences to the option holder
      or
      the Company by reason of the grant or exercise of an incentive stock option.
      However, the exercise of an incentive stock option may increase the option
      holder’s alternative minimum tax liability, if any. If an option holder holds
      stock acquired through exercise of an incentive stock option for at least two
      years from the date on which the option is granted and at least one year from
      the date on which the shares are transferred to the option holder upon exercise
      of the option, any gain or loss on a disposition of such stock will be a
      long-term capital gain or loss. Generally, if the option holder disposes of
      the
      stock before the expiration of either of these holding periods (a “disqualifying
      disposition”), then at the time of disposition the option holder will realize
      taxable ordinary income equal to the lesser of (i) the excess of the
      stock’s fair market value on the date of exercise over the exercise price, or
      (ii) the option holder’s actual gain, if any, on the purchase and sale. The
      option holder’s additional gain or any loss upon the disqualifying disposition
      will be a capital gain or loss, which will be long-term or short-term depending
      on whether the stock was held for more than one year. To the extent the option
      holder recognizes ordinary income by reason of a disqualifying disposition,
      the
      Company will generally be entitled (subject to the requirement of
      reasonableness, the provisions of Section 162(m) of the Code and the
      satisfaction of a tax reporting obligation) to a corresponding business expense
      deduction in the tax year in which the disqualifying disposition occurs.




There
      are
      no tax consequences to the option holder or the Company by reason of the grant
      of a non-statutory stock option. Upon exercise of a non-statutory stock option,
      the option holder normally will recognize taxable ordinary income equal to
      the
      excess, if any, of the stock’s fair market value on the date of exercise over
      the option exercise price. However, to the extent the stock is subject to
      certain types of vesting restrictions, the taxable event will be delayed until
      the vesting restrictions lapse unless the participant elects to be taxed on
      receipt of the stock. With respect to employees, the Company is generally
      required to withhold from regular wages or supplemental wage payments an amount
      based on the ordinary income recognized. Subject to the requirement of
      reasonableness, the provisions of Section 162(m) of the Code and the
      satisfaction of a tax reporting obligation, the Company will generally be
      entitled to a business expense deduction equal to the taxable ordinary income
      realized by the option holder. Upon disposition of the stock, the option holder
      will recognize a capital gain or loss equal to the difference between the
      selling price and the sum of the amount paid for such stock plus any amount
      recognized as ordinary income upon exercise of the option (or vesting of the
      stock). Such gain or loss will be long-term or short-term depending on whether
      the stock was held for more than one year.




45


Section 162(m)
      of the Code denies a deduction to any publicly held corporation for compensation
      paid to certain “covered employees” in a taxable year to the extent that
      compensation to such covered employee exceeds $1 million. It is possible
      that compensation attributable to stock options, when combined with all other
      types of compensation received by a covered employee from the Company, may
      cause
      this limitation to be exceeded in any particular year.




Certain
      kinds of compensation, including qualified “performance-based compensation,” are
      disregarded for purposes of the deduction limitation. In accordance with
      Department of Treasury regulations issued under Section 162(m),
      compensation attributable to stock options will qualify as performance-based
      compensation if the option is granted by a compensation committee comprised
      solely of “outside directors” and either (i) the plan contains a
      per-employee limitation on the number of shares for which options may be granted
      during a specified period, the per-employee limitation is approved by the
      stockholders, and the exercise price of the option is no less than the fair
      market value of the stock on the date of grant, or (ii) the option is
      granted (or exercisable) only upon the achievement (as certified in writing
      by
      the compensation committee) of an objective performance goal established in
      writing by the compensation committee while the outcome is substantially
      uncertain, and the option is approved by stockholders. The 2003 Plan limits
      the
      number of shares relating to stock option grants awarded to an individual in
      any
      year to 1,410,068.





**(D)**  **Stockholder
      Approval and Ratification of 2004 Stock Incentive Plan**





At
      the
      Company’s Annual Meeting of Stockholders held May 9, 2006, the Company’s
      stockholders ratified and approved the Company’s 2004 Stock Incentive Plan (the
“2004 Plan”). The terms of the 2004 Plan are summarized below .





In
      September 2004, the Company’s board of directors approved and adopted the 2004
      Plan, which initially reserved 2,500,000 shares of common stock for issuance.
      On
      March 31, 2006, the board approved, subject to stockholder approval, an
      amendment to the 2004 Plan to increase the total number of shares authorized
      for
      issuance thereunder to 4,000,000. There are currently outstanding stock options
      and other incentives relating to an aggregate of 2,466,183 shares of common
      stock had been granted at exercise prices ranging from $0.07 to $7.11, leaving
      a
      total of 1,747,817 shares available for issuance.





The
      purpose of the 2004 Plan is to increase shareholder value and to advance the
      interests of the Company by furnishing a variety of economic incentives designed
      to attract, retain and motivate employees of and consultants to the Company.
      The
      2004 Plan provides that a committee composed of at least two disinterested
      members of the board of directors of the Company may grant Incentives in the
      following forms: (a) stock options; (b) stock appreciation rights, or SARs;
      (c)
      stock awards; (d) restricted stock; (e) performance shares; and (f) cash awards.
      Incentives may be granted to participants who are employees of or consultants
      to
      the Company (including officers and directors of the Company who are also
      employees of or consultants to the Company) selected from time to time by the
      committee. In the event there is no committee, then the entire Board shall
      have
      responsibility for administering the 2004 Plan.




46


Under
      the
      2004 Plan, the committee may grant non-qualified and incentive stock options
      to
      eligible participants to purchase shares of common stock from the Company.
      The
      2004 Plan confers on the committee discretion, with respect to any such stock
      option, to determine the number and purchase price of the shares subject to
      the
      option, the term of each option and the time or times during its term when
      the
      option becomes exercisable. The purchase price for incentive stock options
      may
      not be less than the fair market value of the shares subject to the option
      on
      the date of grant. The number of shares subject to an option will be reduced
      proportionately to the extent that the optionee exercises a related SAR. The
      term of a non-qualified option may not exceed 10 years from the date of grant
      and the term of an incentive stock option may not exceed 10 years from the
      date
      of grant. Any option shall become immediately exercisable in the event of
      specified changes in corporate ownership or control. The committee may
      accelerate the exercisability of any option. The committee may approve the
      purchase by the Company of an unexercised stock option for the difference
      between the exercise price and the fair market value of the shares covered
      by
      such option.




The
      option price may be paid in cash, check, bank draft or by delivery of shares
      of
      common stock valued at their fair market value at the time of purchase or by
      withholding from the shares issuable upon exercise of the option shares of
      common stock valued at their fair market value or as otherwise authorized by
      the
      committee.




In
      the
      event that an optionee ceases to be an employee of or consultant to the Company
      for any reason, including death, any stock option or unexercised portion thereof
      which was otherwise exercisable on the date of termination of employment shall
      expire at the time or times established by the committee.




A
      SAR is
      a right to receive, without payment to the Company, a number of shares, cash
      or
      any combination thereof, the amount of which is determined pursuant to the
      formula described below. A SAR may be granted with respect to any stock option
      granted under the Plan, or alone, without reference to any stock option. A
      SAR
      granted with respect to any stock option may be granted concurrently with the
      grant of such option or at such later time as determined by the committee and
      as
      to all or any portion of the shares subject to the option. The 2004 Plan confers
      on the committee discretion to determine the number of shares as to which a
      SAR
      will relate as well as the duration and exercisability of a SAR. In the case
      of
      a SAR granted with respect to a stock option, the number of shares of common
      stock to which the SAR pertains will be reduced in the same proportion that
      the
      holder exercises the related option. The term of a SAR may not exceed ten years
      and one day from the date of grant. Unless otherwise provided by the committee,
      a SAR will be exercisable for the same time period as the stock option to which
      it relates is exercisable. Any SAR shall become immediately exercisable in
      the
      event of specified changes in corporate ownership or control. The committee
      may
      accelerate the exercisability of any SAR.




Upon
      exercise of a SAR, the holder is entitled to receive an amount which is equal
      to
      the aggregate amount of the appreciation in the shares of common stock as to
      which the SAR is exercised. For this purpose, the “appreciation” in the shares
      consists of the amount by which the fair market value of the shares of common
      stock on the exercise date exceeds (a) in the case of a SAR related to a stock
      option, the purchase price of the shares under the option or (b) in the case
      of
      a SAR granted alone, without reference to a related stock option, an amount
      determined by the Committee at the time of grant. The Committee may pay the
      amount of this appreciation to the holder of the SAR by the delivery of common
      stock, cash, or any combination of common stock and cash.




Restricted
      stock consists of the sale or transfer by the Company to an eligible participant
      of one or more shares of common stock which are subject to restrictions on
      their
      sale or other transfer by the employee. The price at which restricted stock
      will
      be sold will be determined by the committee, and it may vary from time to time
      and among employees and may be less than the fair market value of the shares
      at
      the date of sale. All shares of restricted stock will be subject to such
      restrictions as the committee may determine. Subject to these restrictions
      and
      the other requirements of the 2004 Plan, a participant receiving restricted
      stock shall have all of the rights of a shareholder as to those
      shares.




47


Stock
      awards consist of the transfer by the Company to an eligible participant of
      shares of common stock, without payment, as additional compensation for services
      to the Company. The number of shares transferred pursuant to any stock award
      will be determined by the committee.




Performance
      shares consist of the grant by the Company to an eligible participant of a
      contingent right to receive cash or payment of shares of common stock. The
      performance shares shall be paid in shares of common stock to the extent
      performance objectives set forth in the grant are achieved. The number of shares
      granted and the performance criteria will be determined by the
      committee.




No
      incentive award granted under the 2004 Plan is transferable by its holder,
      except in the event of the holder’s death, by will or the laws of descent and
      distribution. During an employee’s lifetime, an Incentive may be exercised only
      by him or her or by his or her guardian or legal representative.




The
      Company’s board of directors may amend or discontinue the 2004 Plan at any time.
      However, no such amendment or discontinuance may, subject to adjustment in
      the
      event of a merger, recapitalization, or other corporate restructuring, (a)
      change or impair, without the consent of the recipient thereof, an Incentive
      previously granted, (b) materially increase the maximum number of shares of
      common stock which may be issued to all participants under the 2004 Plan, (c)
      materially change or expand the types of Incentives that may be granted under
      the 2004 Plan, (d) materially modify the requirements as to eligibility for
      participation in the 2004 Plan, or (e) materially increase the benefits accruing
      to participants. Certain plan amendments require stockholder approval, including
      amendments which would materially increase benefits accruing to participants,
      increase the number of securities issuable under the 2004 Plan, or change the
      requirements for eligibility under the plan.




The
      following discussion sets forth certain United States income tax considerations
      concerning the ownership of common stock. These tax considerations are stated
      in
      general terms and are based on the Internal Revenue Code of 1986, as amended,
      regulations thereunder and judicial and administrative interpretations thereof.
      This discussion does not address state or local tax considerations with respect
      to the ownership of common stock. Moreover, the tax considerations relevant
      to
      ownership of common stock may vary depending on a holder’s particular
      status.




Long-term
      capital gains currently are generally subject to lower tax rates than ordinary
      income or short-term capital gains. The maximum long-term capital gains rate
      for
      federal income tax purposes is currently 15% while the maximum ordinary income
      rate and short-term capital gains rate is effectively 35%.




**** Incentive
      stock options under the 2004 Plan are intended to be eligible for the favorable
      federal income tax treatment accorded “incentive stock options” under the Code.
      There generally are no federal income tax consequences to the option holder
      or
      the Company by reason of the grant or exercise of an incentive stock option.
      However, the exercise of an incentive stock option may increase the option
      holder’s alternative minimum tax liability, if any. If an option holder holds
      stock acquired through exercise of an incentive stock option for at least two
      years from the date on which the option is granted and at least one year from
      the date on which the shares are transferred to the option holder upon exercise
      of the option, any gain or loss on a disposition of such stock will be a
      long-term capital gain or loss. Generally, if the option holder disposes of
      the
      stock before the expiration of either of these holding periods (a “disqualifying
      disposition”), then at the time of disposition the option holder will realize
      taxable ordinary income equal to the lesser of (i) the excess of the
      stock’s fair market value on the date of exercise over the exercise price, or
      (ii) the option holder’s actual gain, if any, on the purchase and sale. The
      option holder’s additional gain or any loss upon the disqualifying disposition
      will be a capital gain or loss, which will be long-term or short-term depending
      on whether the stock was held for more than one year. To the extent the option
      holder recognizes ordinary income by reason of a disqualifying disposition,
      the
      Company will generally be entitled (subject to the requirement of
      reasonableness, the provisions of Section 162(m) of the Code and the
      satisfaction of a tax reporting obligation) to a corresponding business expense
      deduction in the tax year in which the disqualifying disposition occurs.




48


For
      non-statutory stock options, there are no tax consequences to the option holder
      or the Company by reason of the grant of a non-statutory stock option. Upon
      exercise of a non-statutory stock option, the option holder normally will
      recognize taxable ordinary income equal to the excess, if any, of the stock’s
      fair market value on the date of exercise over the option exercise price.
      However, to the extent the stock is subject to certain types of vesting
      restrictions, the taxable event will be delayed until the vesting restrictions
      lapse unless the participant elects to be taxed on receipt of the stock. With
      respect to employees, the Company is generally required to withhold from regular
      wages or supplemental wage payments an amount based on the ordinary income
      recognized. Subject to the requirement of reasonableness, the provisions of
      Section 162(m) of the Code and the satisfaction of a tax reporting
      obligation, the Company will generally be entitled to a business expense
      deduction equal to the taxable ordinary income realized by the option holder.


Upon
      disposition of the stock, the option holder will recognize a capital gain or
      loss equal to the difference between the selling price and the sum of the amount
      paid for such stock plus any amount recognized as ordinary income upon exercise
      of the option (or vesting of the stock). Such gain or loss will be long-term
      or
      short-term depending on whether the stock was held for more than one year.




Section 162(m)
      of the Code denies a deduction to any publicly held corporation for compensation
      paid to certain “covered employees” in a taxable year to the extent that
      compensation to such covered employee exceeds $1 million. It is possible
      that compensation attributable to stock options, when combined with all other
      types of compensation received by a covered employee from the Company, may
      cause
      this limitation to be exceeded in any particular year.




Certain
      kinds of compensation, including qualified “performance-based compensation,” are
      disregarded for purposes of the deduction limitation. In accordance with
      Department of Treasury regulations issued under Section 162(m),
      compensation attributable to stock options will qualify as performance-based
      compensation if the option is granted by a compensation committee comprised
      solely of “outside directors” and either (i) the plan contains a
      per-employee limitation on the number of shares for which options may be granted
      during a specified period, the per-employee limitation is approved by the
      stockholders, and the exercise price of the option is no less than the fair
      market value of the stock on the date of grant, or (ii) the option is
      granted (or exercisable) only upon the achievement (as certified in writing
      by
      the compensation committee) of an objective performance goal established in
      writing by the compensation committee while the outcome is substantially
      uncertain, and the option is approved by stockholders. The 2004 Plan limits
      the
      number of shares relating to stock option grants awarded to an individual in
      any
      year to 1,000,000.





**(E)**  **Stockholder
      Approval and Ratification of 2006 Employee Stock Purchase
      Plan**





At
      the
      May 9, 2006 Annual Meeting, the Company’s Stockholders also ratified and
      approved the Company’s 2006 Employee Stock Purchase Plan (the “2006 Plan”). The
      2006 Plan was adopted, subject to stockholder approval, by the Company’s board
      of directors of Stockholders on March 31, 2006. The
      purpose of the 2006 Plan is to advance the interests of the Company by
      furnishing an additional tool to attract and retain talented employees who
      will
      be necessary for our continued growth and success.





49


The
      2006
      Plan provides the Company’s eligible employees with the opportunity to purchase
      shares of Company common stock through payroll deductions. The 2006 Plan is
      intended to qualify as an “employee stock purchase plan” under Section 423
      of the Internal Revenue Code. There will be a maximum of 750,000 shares of
      common stock available for purchase under the 2006 Plan. Our executive officers
      have an interest in this proposal because they, along with other eligible
      employees, may participate in the 2006 Plan.




Most
      employees of our Company (including any future U.S. subsidiaries) will be
      eligible to participate in the 2006 Plan. However, an employee is not eligible
      if he or she owns or has the right to acquire 5 percent or more of our voting
      stock (or of any subsidiary). Also, an employee is not eligible if he or she
      works less than 20 hours per week or less than or equal to 5 months per calendar
      year.




The
      Compensation Committee of our Board of Directors will administer the 2006 Plan.
      Subject to the terms of the 2006 Plan, the Compensation Committee has all
      discretion and authority necessary or appropriate to control and manage the
      operation and administration of the 2006 Plan. The Compensation Committee may
      make whatever rules, interpretations, and computations, and take any other
      actions to administer the 2006 Plan that it considers appropriate to promote
      the
      Company’s best interests, and to ensure that the 2006 Plan remains qualified
      under Section 423 of the Internal Revenue Code. The Compensation Committee
      may delegate one or more of the ministerial duties in its administration of
      the
      2006 Plan. The Board generally may amend or terminate the 2006 Plan at any
      time
      and for any reason. However, as required by Section 423 of the Internal
      Revenue Code and other applicable regulations, our stockholders must approve
      certain material amendments.




A
      maximum
      of 750,000 shares of our common stock will be available for issuance pursuant
      to
      the 2006 Plan. Shares sold under the 2006 Plan will be newly issued shares.
      In
      the event of any stock split, stock dividend or other change in the capital
      structure of the Company, appropriate adjustments will be made in the number,
      kind and purchase price of the shares available for purchase under the 2006
      Plan
      and the various limits on share purchases under the 2006 Plan.




Eligible
      employees voluntarily elect whether or not to enroll in the 2006 Plan. Employees
      contribute to the 2006 Plan through payroll deductions in an amount equal to
      any
      whole percentage from 1 percent to 15 percent of their eligible compensation
      through after-tax payroll deductions. The amounts contributed by each employee
      are held by the Company and recorded in a separate bookkeeping account until
      the
      next purchase date (as defined below). From time to time, the Board of Directors
      may establish a different minimum permitted contribution percentage. A
      participant in the 2006 Plan may not alter his or her contribution rate during
      the six-month period ending on any such purchase date.




From
      time
      to time, the Board of Directors may fix a grant date or a series of grant dates
      on which the Company will grant to participating employees the right to purchase
      shares under the 2006 Plan. The first grant date will be on July 31, 2006,
      and
      future grant dates will be on each subsequent January 31 and July 31, until that
      series is changed or ended by the Board. The rights granted to employees on
      a
      particular grant date will remain in effect during an “offering period” that
      begins on such grant date and ends on the offering period’s “ending date.” The
      ending date for any offering period will be the earlier of (i) the last day
      of
      the 24-month period following the grant date, or (ii) the first purchase date
      after the grant date on which the fair market value of the Company’s common
      stock is less than the fair market value of the common stock on the grant date.
      A “purchase date” is defined under the 2006 Plan as each six month anniversary
      of the grant date that began an offering period for the rights subject to such
      grant, as long as such anniversary occurs on or before the ending date of such
      offering period. Each six-month period between purchase dates is defined under
      the 2006 Plan as a “purchase period.” The 2006 Plan provides that the Board
      shall have the power to change, without stockholder approval, the duration
      and/or frequency of the offering periods for future grants under the plan,
      and
      the purchase periods with respect to future purchases of shares under the Plan,
      as long as such change is announced at least 15 business days before the
      scheduled beginning of the first offering period or purchase period to be
      affected.




50





Offering
      periods that begin on different grant dates, and have not yet ended, will run
      concurrently. However, a Participant who participates during any six-month
      purchase period will be deemed to purchase first all of the remaining shares
      available to him or her under rights granted on the earliest grant date for
      which the offering period has not ended, at the price for that offering period,
      before any shares may be purchased under rights granted to him or her on a
      later
      grant date.





On
      each
      purchase date, employees enrolled in the 2006 Plan will be deemed to have
      purchased the number of full shares of our common stock that may be purchased
      on
      such purchase date, by using the dollar amount credited to such employee's
      account through the purchase date. The stock purchase price applicable to the
      employee's purchases on that purchase date will be 85 percent of the lower
      of
      (1) the fair market value of a share of our common stock on the grant date
      of
      the longest-running unexpired offering period for which the employee is
      eligible, or (2) the fair market value of a share of our common stock on the
      purchase date. However, in any calendar year, no employee may purchase more
      than
      $25,000 of common stock under the 2006 Plan (based on the market value of the
      common stock on the grant date of the applicable offering period in which shares
      would be purchased).





All
      stock
      purchased on a purchase date under the 2006 Plan will be transferred to a
      brokerage account in the purchasing employee’s name, at a brokerage firm
      designated by the Committee to assist in administering this plan. The stock
      must
      remain in that account for the holding period described below, unless the
      employee first sells or otherwise disposes of the stock. After the holding
      period, an employee may transfer the stock to another brokerage account or
      request delivery of a stock certificate.




An
      employee’s participation in the 2006 Plan terminates during any purchase period
      in which the Company receives from the employee a written notice of withdrawal
      from the plan, at least 10 business days before the next purchase date on which
      shares would otherwise be purchased by the employee. An eligible employee who
      has withdrawn from the 2006 Plan during a particular purchase period may not
      re-enter for that purchase period or the next purchase period, but may re-enroll
      as of any grant date after the next purchase period following such withdrawal.
      If an employee re-enrolls before the end of any offering period or periods
      for
      which he or she was eligible, any stock purchased during a purchase period
      within those offering periods will be based on the purchase price that applies
      for the longest-running unexpired offering period for which he or she remains
      eligible.




51


Given
      that the number of shares of common stock that may be purchased under the 2006
      Plan is determined, in part, by the share’s market value on the applicable grant
      date or purchase date and given that participation in the 2006 Plan is voluntary
      on the part of eligible employees, the actual number of shares that may be
      purchased by any individual is not determinable.




Based
      on
      the Company’s understanding of current U.S. federal income tax laws, the tax
      consequences of the purchase of shares of common stock under the 2006 Plan
      are
      briefly described below. This summary is not intended to be exhaustive and
      does
      not address all matters that may be relevant to a particular participant. We
      advise all participants to consult their own tax advisors concerning the tax
      implications of shares purchased under the 2006 Plan.




An
      employee will not have taxable income when the shares of common stock are
      purchased for him or her, but the employee generally will have taxable income
      when the employee sells or otherwise disposes of common stock purchased through
      the 2006 Plan. The tax rates that apply to any gain from the disposition of
      stock purchased through the 2006 Plan will depend on whether the purchasing
      employee disposed of them within a holding period of at least two years
      immediately following the grant date for the offering period in which such
      shares were purchased and at least one year immediately following the transfer
      of such shares to the employee. With respect to shares that are not disposed
      of
      during the holding period, gain up to the amount of the 15% discount from the
      market value of the shares on the grant date is taxed as ordinary income. Any
      additional gain above that amount is taxed at long-term capital gain rates.
      If,
      after such holding period, the employee disposes of the shares for less than
      the
      purchase price, the difference is a long-term capital loss. However, any shares
      purchased through the 2006 Plan and sold within that holding period are taxed
      at
      ordinary income rates on the amount of any purchase price discount from the
      shares’ market value on the purchase date, rather than the grant date. Any
      additional gain (or loss) on shares sold within the holding period is taxed
      to
      the employee as long-term or short-term capital gain (or loss); and the purchase
      date begins the period for determining whether the gain (or loss) is short-term
      or long-term.




The
      Company generally may deduct for federal income tax purposes an amount equal
      to
      the ordinary income an employee must recognize when he or she disposes of shares
      purchased under the 2006 Plan and sold within the holding period. The Company
      may not deduct any amount for shares disposed of after the holding
      period.





**(F)**  **Stockholder
      Approval of Stock Option Grants to Executive Officers and
      Directors**





In
      November 2005, the Company awarded its directors, executive officers and certain
      other Company employees options to purchase an aggregate of 965,179 shares
      of
      the Company’s common stock (the “Options”). The Options were issued under the
      2004 Plan, each has a term of 10 years (subject to continued service) and each
      is exercisable at $4.75 per share. Because the listing standards of the American
      Stock Exchange, to which the Company was then subject, require stockholders
      to
      approve all equity-based compensation, or that all such equity-based
      compensation be issued pursuant to a plan approved by stockholders, each of
      the
      written agreements evidencing the Options contained a provision which expressly
      conditioned the exercise of the Options on the approval of the 2004 Plan by
      the
      Company’s stockholders.





As
      a
      result of the approval of the 2004 Plan by the Company’s stockholders at the
      Annual Meeting held May 9, 2006, the Options are now exercisable, subject to
      the
      vesting conditions set forth in each Option. Each Option granted to Company
      employees, including executive officers, vests in three equal annual
      installments commencing November 2006. Each of the Company’s four non-executive
      directors received an Option to purchase 40,000 shares, which vests entirely
      in
      November 2006. The number of shares subject to the Options granted to the
      Company’s executive officers are summarized below:





**Name/Title**
            
            **Shares
                Underlying**
              **Options**Mark
                J. Ahn, President & CEO
            
            
            155,179Gregory
                I. Berk, Senior VP, Chief Medical Officer
            
            
            200,000John
                P. Iparraguirre, VP, Chief Financial Officer
            
            
            50,000Fred
                L. Vitale, VP, Chief Business Officer
            
            
            150,000





**(G)**  **Election
      of Directors**





In
      addition to the approval of the 2003 Plan, 2004 Plan and 2006 Plan, discussed
      above under Parts (C), (D) and (E) of this Item 5, the Company’s stockholders
      also elected the following as directors of the Company at the Annual Meeting
      held on May 9, 2006: Mark J. Ahn, Arie S. Belldegrun, Isaac Kier, Leon E.
      Rosenberg and Michael Weiser.





52




**Item
      6. Exhibits**





**Exhibit
                No.**
            
            **Description**10.1
            
            Separation
                Agreement between the Company and Russell L. Skibsted dated December
                28,
                2005.10.2
            
            Summary
                terms of non-employee director compensation.10.3
            
            Escrow
                Agreement dated March 16, 2006 among the Company, Inex Pharmaceuticals
                Corporation and LMLS Services Inc.10.4
            
            2003 Stock
              Option
              Plan of Hana Biosciences, Inc. (incorporated by reference to Appendix
              B of
              the Company's Definitive Proxy Statement on Schedule 14A filed April
              7,
              2006).10.5
            
            2004 Stock
              Incentive
              Plan (as amended) of Hana Biosciences, Inc. (incorporated by reference
              to
              Appendix C of the Company's Definitive Proxy Statement on Schedule
              14A
              filed April 7, 2006).10.6
            
            2006 Employee
              Stock
              Purchase Plan of Hana Biosciences, Inc. (incorporated by reference
              to
              Appendix D of the Company's Definitive Proxy Statement on Schedule
              14A filed April 7, 2006).31.1
            
            Certification
                of Chief Executive Officer,as
                required by Rule 13a-14(a) or Rule 15d-14(a).31.2
            
            Certification
                of Chief Financial Officeras
                required by Rule 13a-14(a) or Rule 15d-14(a).32.1
            
            Certification
                of Chief Executive Officer and Chief Financial Officer,as
                required by Section 1350 of Chapter 63 of Title 18 of the United
                States
                Code (18 U.S.C. 1350).


53


**SIGNATURES**




In
      accordance with the requirements of the Exchange Act of 1934, the registrant
      caused this report to be signed on its behalf by the undersigned, thereunto
      duly
      authorized.




**HANA
                BIOSCIENCES, INC.**Date:
                May 16, 2006
            By:
            /s/ Mark
                J. AhnMark
                J. Ahn
              President
                and Chief Executive Officer




Date:
                May 16, 2006
            By:
            /s/ John
                P. IparraguirreJohn
                P. Iparraguirre
              Chief
                Financial Officer




54




**** **Index
      to Exhibits Filed with this Report**




**Exhibit
                  No.**
              
              **Description**10.1
              
              Separation
                  Agreement between the Company and Russell L. Skibsted dated December
                  28,
                  2005.10.2
              
              Summary
                  terms of non-employee director compensation.10.3
              
              Escrow
                  Agreement dated March 16, 2006 among the Company, Inex Pharmaceuticals
                  Corporation and LMLS Services Inc.10.4
              
              2003
                Stock Option
                Plan of Hana Biosciences, Inc. (incorporated by reference to Appendix
                B of
                the Company's Definitive Proxy Statement on Schedule 14A filed April
                7,
                2006).10.5
              
              2004
                Stock Incentive
                Plan (as amended) of Hana Biosciences, Inc. (incorporated by reference
                to
                Appendix C of the Company's Definitive Proxy Statement on Schedule
                14A
                filed April 7, 2006).10.6
              
              2006
                Employee Stock
                Purchase Plan of Hana Biosciences, Inc. (incorporated by reference
                to
                Appendix D of the Company's Definitive Proxy Statement on Schedule
                14A filed April 7, 2006).31.1
              
              Certification
                  of Chief Executive Officer,as
                  required by Rule 13a-14(a) or Rule 15d-14(a).31.2
              
              Certification
                  of Chief Financial Officeras
                  required by Rule 13a-14(a) or Rule 15d-14(a).32.1
              
              Certification
                  of Chief Executive Officer and Chief Financial Officer,as
                  required by Section 1350 of Chapter 63 of Title 18 of the United
                  States
                  Code (18 U.S.C. 1350).


55