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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q

(Mark one)

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



FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003



OR



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



For the transition period from
                     to



Commission File Number: 000-30347



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CURIS, INC.

(Exact Name of Registrant as Specified in Its Charter)



|Delaware                                                       |  | 04-3505116                          
|-------------------------------------------------------------- |  | ------------------------------------
|(State or Other Jurisdiction of Incorporation or Organization) |  | (I.R.S. Employer Identification No.)
|                                                               | 
|61 Moulton Street, Cambridge, Massachusetts                    |  | 02138 (Zip Code)                    
|(Address of Principal Executive Offices)                       |  |                                     



Registrants
Telephone Number, Including Area Code: (617) 503-6500



---



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



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



As of October 31,
2003, there were 40,311,020 shares of the registrants common stock, $0.01 par value per share, outstanding.



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##### Table of Contents

CURIS, INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM 10-Q



INDEX



|PART I.       |  | FINANCIAL INFORMATION                                                                                                                |  | PageNumber
|------------- |  | ------------------------------------------------------------------------------------------------------------------------------------ |  | ----------
|              |  |                                                                                                                                     
|Item 1.       |  | Financial Statements                                                                                                                 |  |           
|              |  |                                                                                                                                     
|              |  | Condensed Consolidated Balance Sheets as of September 30, 2003 and December 31, 2002                                                 |  | 3         
|              |  |                                                                                                                                     
|              |  | Consolidated Statements of Operations and Comprehensive Loss for the three- and nine-month periods ended September 30, 2003 and 2002 |  | 4         
|              |  |                                                                                                                                     
|              |  | Consolidated Statements of Cash Flows for the nine-month periods ended September 30, 2003 and 2002                                   |  | 5         
|              |  |                                                                                                                                     
|              |  | Notes to Condensed Consolidated Financial Statements                                                                                 |  | 6         
|              |  |                                                                                                                                     
|Item 2.       |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                                                |  | 13        
|              |  |                                                                                                                                     
|Item 3.       |  | Quantitative and Qualitative Disclosures About Market Risk                                                                           |  | 36        
|              |  |                                                                                                                                     
|Item 4.       |  | Controls and Procedures                                                                                                              |  | 36        
|              |  |                                                                                                                                     
|PART II.      |  | OTHER INFORMATION                                                                                                                    |  |           
|              |  |                                                                                                                                     
|Item 2.       |  | Changes in Securities and Use of Proceeds                                                                                            |  | 37        
|              |  |                                                                                                                                     
|Item 6.       |  | Exhibits and Reports on Form 8-K                                                                                                     |  | 37        
|              | 
|SIGNATURE     |  | 38                                                                                                                                  
|              | 
|CERTIFICATION |  |                                                                                                                                     



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##### Table of Contents

PART I
FINANCIAL INFORMATION



Item
1.    
FINANCIAL STATEMENTS



CURIS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited)



|                                                                                                                                                                                                                                             |  | September 30,2003 |              |   | December 31, 2002 |  
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ------------ | - | ----------------- | -
|ASSETS                                                                                                                                                                                                                                       |  |                   |              |   |                   |  
|Current Assets:                                                                                                                                                                                                                              |  |                   |              |   |                   |  
|Cash and cash equivalents                                                                                                                                                                                                                    |  | $                 | 33,554,724   |   |                   | $
|Cash and cash equivalentsrestricted                                                                                                                                                                                                         |  |                   | 4,203,715    |   |                   |  
|Marketable securities                                                                                                                                                                                                                        |  |                   | 8,031,341    |   |                   |  
|Due from joint venture                                                                                                                                                                                                                       |  |                   |             |   |                   |  
|Other current assets                                                                                                                                                                                                                         |  |                   | 3,292,834    |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Total current assets                                                                                                                                                                                                                         |  |                   | 49,082,614   |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Property and Equipment, net                                                                                                                                                                                                                  |  |                   | 2,693,085    |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Other Assets:                                                                                                                                                                                                                                |  |                   |              |   |                   |  
|Goodwill, net                                                                                                                                                                                                                                |  |                   | 8,982,000    |   |                   |  
|Other intangible assets, net (Note 9)                                                                                                                                                                                                        |  |                   | 195,961      |   |                   |  
|Long-term receivables                                                                                                                                                                                                                        |  |                   | 7,115,410    |   |                   |  
|Deposits and other assets                                                                                                                                                                                                                    |  |                   | 1,343,719    |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Total other assets                                                                                                                                                                                                                           |  |                   | 17,637,090   |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|                                                                                                                                                                                                                                             |  | $                 | 69,412,789   |   |                   | $
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                                                                                                         |  |                   |              |   |                   |  
|Current Liabilities:                                                                                                                                                                                                                         |  |                   |              |   |                   |  
|Debt and lease obligations, current portion                                                                                                                                                                                                  |  | $                 | 4,534,804    |   |                   | $
|Accounts payable                                                                                                                                                                                                                             |  |                   | 360,131      |   |                   |  
|Accrued liabilities                                                                                                                                                                                                                          |  |                   | 4,437,412    |   |                   |  
|Deferred revenue, current portion                                                                                                                                                                                                            |  |                   | 1,427,689    |   |                   |  
|Due to joint venture                                                                                                                                                                                                                         |  |                   |             |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Total current liabilities                                                                                                                                                                                                                    |  |                   | 10,760,036   |   |                   |  
|Debt and Lease Obligations, net of current portion                                                                                                                                                                                           |  |                   |             |   |                   |  
|Convertible Notes Payable                                                                                                                                                                                                                    |  |                   | 5,239,414    |   |                   |  
|Deferred Revenue, net of current portion                                                                                                                                                                                                     |  |                   | 10,662,723   |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|                                                                                                                                                                                                                                             |  |                   | 15,902,137   |   |                   |  
|Preferred Stock, $0.01 par value, 5,000,000 shares authorizedSeries A Convertible Exchangeable Preferred
Stock1,426 shares authorized; 0 and 1,000 shares issued and outstanding at September 30, 2003 and December 31, 2002, respectively |  |                   |             |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Commitments                                                                                                                                                                                                                                  |  |                   |              |   |                   |  
|Stockholders Equity:                                                                                                                                                                                                                        |  |                   |              |   |                   |  
|Common stock, $0.01 par valueAuthorized125,000,000 shares at September 30, 2003 and December 31,
2002Issued41,215,472 and 32,329,228 shares at September 30, 2003 and December 31, 2002, respectively                                     |  |                   | 412,156      |   |                   |  
|Additional paid-in capital                                                                                                                                                                                                                   |  |                   | 710,201,083  |   |                   |  
|Notes receivable                                                                                                                                                                                                                             |  |                   | (1,337,561   | ) |                   |  
|Treasury stock (at cost, 1,047,707 and 1,022,207 shares at September 30, 2003 and December 31, 2002, respectively)                                                                                                                           |  |                   | (891,274     | ) |                   |  
|Deferred compensation                                                                                                                                                                                                                        |  |                   | (1,307,160   | ) |                   |  
|Accumulated deficit                                                                                                                                                                                                                          |  |                   | (664,322,869 | ) |                   |  
|Accumulated other comprehensive income                                                                                                                                                                                                       |  |                   | (3,759       | ) |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|Total stockholders equity                                                                                                                                                                                                                   |  |                   | 42,750,616   |   |                   |  
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  
|                                                                                                                                                                                                                                             |  | $                 | 69,412,789   |   |                   | $
|                                                                                                                                                                                                                                             |  |                   |              |   |                   |  

See accompanying notes to unaudited consolidated financial statements



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##### Table of Contents

CURIS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS (unaudited)



|                                                                                                   |  | Three Months Ended September 30, |            |   | Nine Months Ended September 30, |  
|-------------------------------------------------------------------------------------------------- |  | -------------------------------- | ---------- | - | ------------------------------- | -
|                                                                                                   |  | 2003                             |            |   | 2002                            |  
|REVENUES:                                                                                          |  |                                  |            |   |                                 |  
|License fees and royalty revenue                                                                   |  | $                                | 8,951,399  |   |                                 | $
|Research and development contract revenue                                                          |  |                                  | 357,439    |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|                                                                                                   |  |                                  | 9,308,838  |   |                                 |  
|COSTS AND EXPENSES:                                                                                |  |                                  |            |   |                                 |  
|Research and development                                                                           |  |                                  | 3,035,552  |   |                                 |  
|General and administrative                                                                         |  |                                  | 1,437,950  |   |                                 |  
|Stock-based compensation (A)                                                                       |  |                                  | 291,241    |   |                                 |  
|Amortization of intangible assets                                                                  |  |                                  | 18,769     |   |                                 |  
|Impairment of property and equipment                                                               |  |                                  |           |   |                                 |  
|Impairment of goodwill                                                                             |  |                                  |           |   |                                 |  
|Realignment expenses                                                                               |  |                                  |           |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Total costs and expenses                                                                           |  |                                  | 4,783,512  |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Net income (loss) from operations                                                                  |  |                                  | 4,525,326  |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Equity in loss of joint venture                                                                    |  |                                  |           |   |                                 |  
|Other income (expense), net                                                                        |  |                                  | 24,590     |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Net income (loss)                                                                                  |  | $                                | 4,549,916  |   |                                 | $
|Accretion of preferred stock dividend                                                              |  |                                  |           |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Net income (loss) applicable to common stockholders                                                |  | $                                | 4,549,916  |   |                                 | $
|                                                                                                   |  |                                  |            |   |                                 |  
|Basic net income (loss) per common share                                                           |  | $                                | 0.12       |   |                                 | $
|                                                                                                   |  |                                  |            |   |                                 |  
|Weighted average common shares for basic net income (loss) computation                             |  |                                  | 38,282,799 |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Diluted net income (loss) per common share                                                         |  | $                                | 0.11       |   |                                 | $
|                                                                                                   |  |                                  |            |   |                                 |  
|Weighted average common shares for diluted net income (loss) computation                           |  |                                  | 42,031,957 |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Net income (loss)                                                                                  |  | $                                | 4,549,916  |   |                                 | $
|Unrealized gain (loss) on marketable securities                                                    |  |                                  | (3,443     | ) |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Comprehensive income (loss)                                                                        |  | $                                | 4,546,473  |   |                                 | $
|                                                                                                   |  |                                  |            |   |                                 |  
|(A)   The following summarizes the departmental allocation of the stock-based compensation charge: |  |                                  |            |   |                                 |  
|Research and development                                                                           |  | $                                | 204,127    |   |                                 | $
|General and administrative                                                                         |  |                                  | 87,114     |   |                                 |  
|                                                                                                   |  |                                  |            |   |                                 |  
|Total stock-based compensation                                                                     |  | $                                | 291,241    |   |                                 | $
|                                                                                                   |  |                                  |            |   |                                 |  



See accompanying notes
to unaudited consolidated financial statements



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##### Table of Contents

CURIS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)



|                                                                                                                                |  | Nine Months Ended September 30, |            
|------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | -----------
|                                                                                                                                |  | 2003                            |            
|CASH FLOWS FROM OPERATING ACTIVITIES:                                                                                           |  |                                 |            
|Net loss                                                                                                                        |  | $                               | (4,687,680 
|                                                                                                                                |  |                                 |            
|Adjustments to reconcile net loss to net cash used in operating activities:                                                     |  |                                 |            
|Depreciation and amortization                                                                                                   |  |                                 | 1,115,366  
|Stock-based compensation expense                                                                                                |  |                                 | 1,210,435  
|Non-cash interest on notes payable                                                                                              |  |                                 | 368,381    
|Amortization of intangible assets                                                                                               |  |                                 | 56,311     
|Equity in loss from joint venture                                                                                               |  |                                 |           
|Non-cash interest on notes receivable                                                                                           |  |                                 |           
|Forgiveness of note receivable to former executive officer                                                                      |  |                                 |           
|Impairment of property and equipment                                                                                            |  |                                 | 280        
|Impairment of goodwill                                                                                                          |  |                                 |           
|Increase in long-term receivables                                                                                               |  |                                 | (2,000,000 
|Changes in current assets and liabilities:                                                                                      |  |                                 |            
|Other current assets                                                                                                            |  |                                 | (1,906,017 
|Due from joint venture                                                                                                          |  |                                 | 210,207    
|Accounts payable and accrued liabilities                                                                                        |  |                                 | (379,442   
|Deferred contract revenue                                                                                                       |  |                                 | (63,594    
|                                                                                                                                |  |                                 |            
|Total adjustments                                                                                                               |  |                                 | (1,388,073 
|                                                                                                                                |  |                                 |            
|Net cash used in operating activities                                                                                           |  |                                 | (6,075,753 
|                                                                                                                                |  |                                 |            
|CASH FLOWS FROM INVESTING ACTIVITIES:                                                                                           |  |                                 |            
|Purchase of marketable securities                                                                                               |  |                                 | (16,898,874
|Sale of marketable securities                                                                                                   |  |                                 | 18,396,518 
|Decrease (increase) in restricted cash                                                                                          |  |                                 | 199,473    
|Decrease (increase) in other assets                                                                                             |  |                                 | (236,691   
|Proceeds from dispositions of property and equipment                                                                            |  |                                 | 500        
|Purchases of property and equipment                                                                                             |  |                                 | (33,964    
|                                                                                                                                |  |                                 |            
|Net cash provided by (used in) investing activities                                                                             |  |                                 | 1,426,962  
|                                                                                                                                |  |                                 |            
|CASH FLOWS FROM FINANCING ACTIVITIES:                                                                                           |  |                                 |            
|Issuance of common stock                                                                                                        |  |                                 | 14,366,637 
|Issuance of notes payable                                                                                                       |  |                                 |           
|Purchases of treasury stock                                                                                                     |  |                                 | (21,890    
|Repayments of notes payable and capital leases                                                                                  |  |                                 | (1,007,556 
|Repayments of convertible notes payable                                                                                         |  |                                 | (1,601,563 
|Cash from consolidation of Curis Newco, Ltd.                                                                                    |  |                                 | 139        
|                                                                                                                                |  |                                 |            
|Net cash provided by (used in) financing activities                                                                             |  |                                 | 11,735,767 
|                                                                                                                                |  |                                 |            
|Effect of exchange rates on cash and equivalents                                                                                |  |                                 | (452,857   
|NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                                                                            |  |                                 | 6,634,119  
|CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                                                                  |  |                                 | 26,920,605 
|                                                                                                                                |  |                                 |            
|CASH AND CASH EQUIVALENTS, END OF PERIOD                                                                                        |  | $                               | 33,554,724 
|                                                                                                                                |  |                                 |            
|SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:                                                         |  |                                 |            
|Issuance of convertible promissory note payable to Elan Pharma International, Ltd. to fund the Companys 80.1% in joint
venture |  | $                               |           
|                                                                                                                                |  |                                 |            

See accompanying notes to unaudited consolidated financial statements



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##### Table of Contents

CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)



|1. | Nature of Business
|-- | -------------------



Curis, Inc. (Curis or the Company) is a therapeutic drug discovery and development company. Curis technology
focus is on regulatory signaling pathways that control repair and regeneration of human tissue and organs. The consolidated financial statements include the accounts of the Companys consolidated subsidiaries. All intercompany transactions
between the Company and its consolidated subsidiaries have been eliminated.



|2. | Basis of Presentation
|-- | ----------------------



The accompanying consolidated financial statements of the Company have been prepared in accordance with accounting principles generally
accepted in the United States applicable to interim periods. These statements, however, are condensed and do not include all disclosures required by accounting principles generally accepted in the United States for complete financial statements and
should be read in conjunction with the Companys Annual Report on Form 10-K for the year ended December 31, 2002, as filed with the Securities and Exchange Commission on March 14, 2003.



In the opinion of the Company, the unaudited financial
statements contain all adjustments (all of which are considered normal and recurring) necessary to present fairly the Companys financial position at September 30, 2003 and the results of its operations for the three- and nine-month periods
ended September 30, 2003 and 2002 and its cash flows for the nine-month periods ended September 30, 2003 and 2002. The preparation of the Companys consolidated financial statements in conformity with accounting principles generally accepted in
the United States requires management to make estimates and assumptions that affect the reported amounts and disclosure of certain assets and liabilities at the balance sheet date. Such estimates include the carrying value of property and equipment
and intangible assets and the value of certain liabilities. Actual results may differ from such estimates.



These interim results are not necessarily indicative of results to be expected for a full year or subsequent interim periods.



|3. | Financial Statement Reclassifications
|-- | --------------------------------------



The Company has reclassified a long-term note receivable from Micromet (see Note 5 of these Notes to Condensed Consolidated Financial
Statements) from Deposits and other assets to Long-term receivables. The note receivable bears interest at 7% and is due and payable in full on the earlier of (i) the closing date for an initial public offering of
Micromets shares or (ii) June 30, 2005. At maturity, the Company has the option to receive either cash or shares of Micromet common stock. As of September 30, 2003 and December 31, 2002, the Company has recorded balances in Long-term
receivables of approximately $7,115,000 and $4,663,000, respectively. Long-term receivables as of September 30, 2003 consisted of a $2,000,000 long-term receivable from Genentech (see Note 6 of these Notes to Condensed Consolidated Financial
Statements) and the Micromet long-term note receivable which has a carrying value of $5,115,000, including accrued interest of $398,000. The $2,000,000 long-term receivable from Genentech relates to a license payment that is due July 2005 under the
terms of our collaboration with Genentech. Long-term receivables as of December 31, 2002 was solely comprised of the Micromet long-term note receivable.



The Company has also reclassified approximately $15,000 and $674,000 from Other income, net to General and
administrative for the three- and nine-month periods ended September 30, 2002, respectively. These amounts are related to a reserve for possible non-collection of notes receivable outstanding to two former officers of Creative BioMolecules.
Creative BioMolecules was one of the three companies that merged to form Curis in July 2000.



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##### Table of Contents

CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)(continued)



|4. | Private Placement of Common Stock
|-- | ----------------------------------



On August 14, 2003, the Company completed a private placement of 3,589,700 shares of newly issued common stock at a purchase price of
$3.04 per share to institutional and accredited investors. In connection with the private placement, the Company issued warrants to purchase 1,076,910 shares of common stock at an exercise price of $4.45 per share. The warrants expire on August 14,
2008.



|5. | Termination of Micromet Agreements
|-- | -----------------------------------



In 2001, the Company entered into three agreements with Micromet including (i) a purchase and sale agreement pursuant to which the Company
assigned its single-chain-polypeptide technology to Micromet in exchange for up-front consideration of $12,146,000, consisting of $8,000,000 in cash, $3,460,000 in a note receivable, and equity valued by the Company at $686,000, (ii) a product
development agreement and (iii) a target research and license agreement. The note receivable received under the purchase and sale agreement bears interest at 7% and is due and payable in full on the earlier of (i) the closing date for an initial
public offering of Micromets shares or (ii) June 30, 2005. At maturity, the Company has the option to receive either cash or shares of Micromet common stock. Further, under these agreements, the Company was entitled to receive royalties on
Micromets revenues, if any, arising out of the assigned technology, rights to jointly develop and commercialize future product discoveries, if any, arising out of the product development agreement, and access to other technologies. The product
development agreement provided the Company with the right, but not the obligation, to jointly fund research to develop antibodies on up to four potential targets through the proof of principle stage. The Company had the right, but not the
obligation, to jointly fund the development of two such antibody targets from the proof of principle stage through the completion of Phase I Clinical Trials.



These three agreements were accounted for as a single multiple element arrangement, and the consideration received under the
purchase and sale agreement was recognized as revenue as services were performed to satisfy the Companys performance obligation under the product development agreement. The Company recognized approximately $183,000 in revenue over the course
of its relationship with Micromet through July 31, 2003. Amounts that had not been recognized as revenue were recorded on the Companys balance sheet as short- and long-term deferred revenue based on the Companys best estimate of when
such revenue would be recognized.



Effective
July 31, 2003, the Company and Micromet entered into agreements to terminate the target research and license agreement and the product development agreement. As a result of the termination of these agreements, the Company no longer has any
performance or contractual obligations with Micromet. Accordingly, the Company immediately recognized as revenue $8,555,000 of previously deferred revenue related to its agreements with Micromet. As of September 30, 2003, the Company has continued
to defer $3,407,000 only related to the long-term note receivable from Micromet and intends to recognize this as revenue upon payment of the note receivable, which is due at the earlier of (i) the closing date for an initial public offering of
Micromets shares or (ii) June 30, 2005.



|6. | Genentech, Inc. Collaboration
|-- | ------------------------------



On June 11, 2003, the Company licensed its small molecule and antibody antagonists of the Hedgehog signaling pathway to Genentech, Inc.
for applications in cancer therapy pursuant to the terms of a Collaborative Research, Development and License Agreement. The Collaboration Agreement provides for cash payments from Genentech, including an up-front payment of $5,000,000, license fee
payments totaling $4,000,000 over the first two years, and milestone payments at various intervals during the U.S., European Union, Japanese and Australian regulatory approval process of small molecule and antibody product candidates, assuming
specified research objectives are met. Genentech is also obligated to pay the Company a royalty on potential future product sales.



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##### Table of Contents

CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)(continued)



Under the terms of the Collaboration Agreement, the Company is required to commit
eight employees to the small molecule and/or antibody programs for a period of two years. In addition, the Company will participate on a joint steering committee to oversee the preclinical development of product candidates. Per the Collaboration
Agreement, product candidates identified by the joint steering committee for further (i.e., clinical) development are classified as either Lead Products or Co-Development Products.



| |  |  | Lead Products:  Lead Products include all small molecule and antibody antagonists of the Hedgehog signaling pathway, except for those in either the basal cell
carcinoma (BCC) or the hair growth prevention fields. Genentech bears sole decision making authority and development costs for all Lead Products, including clinical trial development and management, regulatory affairs, clinical and
commercial manufacturing, product formulation, and, if FDA approval is received, sales and marketing.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Co-Development Products:  Co-Development Products include only those product candidates identified by the joint steering committee for further development in either
the BCC or the hair growth prevention fields. For product candidates in the BCC field, Genentech will create a co-development plan and budget and Curis will have the option to share in the development costs. For product candidates in the hair growth
prevention field, Curis will create a co-development plan and budget and Genentech will have the option to share in the development costs. In both co-development scenarios, a co-development committee will be formed, consisting of an equal number of
members from Genentech and Curis, to oversee the co-development efforts.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



The Company recorded the $5,000,000 up-front payment and the $4,000,000 in license payments due from Genentech as deferred revenue and
will recognize these as revenue on a straight-line basis over the development period of the agreement in accordance with SEC Staff Accounting Bulletin No. 101, Revenue Recognition (SAB 101). For the three- and nine-month
periods ended September 30, 2003, the Company recorded revenue related to the Genentech collaboration of $346,000 and $360,000, respectively. This revenue is included in License fees and royalty revenuein the Consolidated Statement of
Operations.



In addition, as partial
consideration for the rights and licenses granted to Genentech under the Collaboration Agreement, the Company sold to Genentech 1,323,835 shares of its common stock at a purchase price of $2.644 per share for aggregate proceeds of $3,500,000,
pursuant to the terms of a stock purchase agreement. The Company also entered into a registration rights agreement with Genentech pursuant to which the Company is required to register the shares of common stock for resale in the future under
specified conditions.



|7. | Termination of Elan Collaboration
|-- | ----------------------------------



On May 16, 2003, the Company and affiliates of Elan Corporation, plc entered into a termination agreement to conclude the joint venture
that the Company and Elan had originally formed in July 2001. The purpose of the joint venture, called Curis Newco, was to research and develop molecules that stimulate the Hedgehog signaling pathway in the field of neurology, including disease
targets such as Parkinsons Disease and diabetic neuropathy. Prior to the termination, the Company and Elan owned 80.1% and 19.9%, respectively, of the outstanding shares of Curis Newco. As a result of the termination, Elan transferred its
19.9% share of Curis Newco to the Company, such that Curis Newco has become a wholly-owned subsidiary of the Company and Curis Newco is consolidated into the Companys consolidated financial statements.



Curis Newco did not incur any expenses during the three- or
nine-month periods ended September 30, 2003. In accordance with the development agreement between the Company and Elan that governed Curis Newcos operations prior to the effectiveness of the termination agreement, the Company and Elan were
required to agree upon a Curis Newco development plan in order for any expenses to be incurred by Curis Newco. The Company and Elan did not reach agreement on a development plan prior to the termination of



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CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)(continued)



the joint venture on May 16, 2003, and therefore no expenses were recorded at Curis Newco in 2003. As of the termination date, the Company had recorded a
payable to Curis Newco of $1,089,000, which represented the Companys 80.1% share of Curis Newcos loss for the three-month period ended December 31, 2002. In addition, the Company had recorded a receivable from Curis Newco of $1,299,000
which represented charges for services performed by the Company on behalf of Curis Newco for the three-month period ended December 31, 2002. Both of these amounts were paid as part of the termination, and there are no remaining balances related to
these amounts as of September 30, 2003.



In July 2001, the Company entered into a convertible note payable, referred to as the July 2001 Note, with Elan Pharma International Limited, or EPIL, of which approximately $4,900,000 was outstanding at the May 16, 2003 termination date.
As part of the termination, the Company repaid $1,500,000 in cash and EPIL forgave $400,000 of the July 2001 Note. The Company then entered into an amended and restated convertible note payable with EPIL for the remaining principal amount of
$3,000,000, referred to as the May 2003 Note. The terms of the May 2003 Note were substantially the same as those under the July 2001 Note except that the interest rate was reduced from 8% to 6% and the conversion rate was increased from $8.63 to
$10.00. As of September 30, 2003, there was approximately $3,069,000, including approximately $69,000 in accrued interest, outstanding under the May 2003 Note.



In July 2001, the Company issued to Elan shares of its Series A convertible/exchangeable preferred stock, or Preferred Stock, valued at
$12,015,000, to fund the Companys pro rata share of the initial capitalization of Curis Newco. The Company recorded a charge to accumulated deficit of $271,000 for the nine-month period ended September 30, 2003 for the accretion of a mandatory
6% dividend on the Preferred Stock. Such amounts are included in the net loss applicable to common stockholders in the nine-month period ended September 30, 2003. The Preferred Stock, which had a carrying value of $13,336,000, was cancelled on the
May 16, 2003 termination date. As partial consideration for the rights and benefits described in the termination agreement, including the cancellation of the Preferred Stock, the Company issued 2,878,782 shares of its common stock to Elan, with a
fair value at the time of issuance of $8,377,000.



Lastly, as a result of the termination, all rights granted by both the Company and Elan at the formation of Curis Newco under separate license agreements with Curis Newco terminated. In addition, intellectual property created by Curis Newco
is owned by the Company as sole shareholder of Curis Newco. In connection with acquiring full rights to such intellectual property, Curis will pay Elan future compensation, in the form of future royalty payments, in the event of any direct sales or
third party commercialization agreements related to certain compounds.



|8. | Termination of Aegera Therapeutics, Inc. Collaboration
|-- | -------------------------------------------------------



Effective April 30, 2003, the Company terminated the remaining components of a license and collaboration agreement between the Company and
Aegera Therapeutics, Inc. (Aegera). This license and collaboration agreement, originally entered into on January 5, 2001, granted the Company an exclusive worldwide license to Aegeras skin-derived, adult stem cell technologies and
provided for a three-year research collaboration under which the Company was obligated to fund six full-time equivalent researchers per year at Aegera at an annual cost to the Company of $600,000. The Company had previously terminated the research
collaboration component of this agreement, effective October 24, 2002.



As part of the April 30, 2003 termination agreement, Aegera paid the Company approximately $78,000 related to overpayments made by the Company to Aegera during the research and collaboration term. For the nine months
ended September 30, 2003, the Company recorded the $78,000 as a reduction in research and development expenses in the Consolidated Statement of Operations.



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CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)(continued)



|9. | Other Intangible Assets
|-- | ------------------------



Other intangible assets consisted of approximately the following as of September 30, 2003 and December 31, 2002:



|                               |  | September 30,2003 |          |   | December 31, 2002 |  
|------------------------------ |  | ----------------- | -------- | - | ----------------- | -
|Patents                        |  |                   | 612,000  |   |                   |  
|Less: accumulated amortization |  |                   | (416,000 | ) |                   |  
|                               |  |                   |          |   |                   |  
|                               |  | $                 | 196,000  |   |                   | $
|                               |  |                   |          |   |                   |  



|10. | Long-Term Debt, Capital Lease Obligations and Operating Leases
|--- | ---------------------------------------------------------------



Long-term debt and capital lease obligations consisted of approximately the following at September 30, 2003
and December 31, 2002:



|                                                                                                                                                                                                                |  | September 30,2003 |            |   | December 31,2002 |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------- | ---------- | - | ---------------- | -
|Note payable to financing agencies for capital purchases                                                                                                                                                        |  | $                 | 4,002,000  |   |                  | $
|Obligations under capital leases, net of $19,000 and $31,000 discount at September 30, 2003 and December 31, 2002,
respectively                                                                                 |  |                   | 533,000    |   |                  |  
|Convertible subordinated note payable to Becton Dickinson, net of $147,000 and $187,000 discount, including $317,000 and $212,000
of accrued interest at September 30, 2003 and December 31, 2002, respectively |  |                   | 2,170,000  |   |                  |  
|Convertible promissory note agreement with Elan Pharma International, including $69,000 and $200,000 of accrued interest at
September 30, 2003 and December 31, 2002, respectively                              |  |                   | 3,069,000  |   |                  |  
|                                                                                                                                                                                                                |  |                   |            |   |                  |  
|                                                                                                                                                                                                                |  |                   | 9,774,000  |   |                  |  
|Less current portion                                                                                                                                                                                            |  |                   | (4,535,000 | ) |                  |  
|                                                                                                                                                                                                                |  |                   |            |   |                  |  
|Total long-term debt and capital lease obligations                                                                                                                                                              |  | $                 | 5,239,000  |   |                  | $
|                                                                                                                                                                                                                |  |                   |            |   |                  |  



|11. | Accounting for Stock-Based Compensation
|--- | ----------------------------------------



The Company has two stock-based compensation plans. The Company applies APB Opinion No. 25, Accounting for Stock Issued to
Employees, in accounting for qualifying options granted to its employees and directors under its plans and applies Statement of Financial Accounting Standards No. 123, Accounting for Stock Issued to Employees, (SFAS
123) for disclosure purposes only. The SFAS 123 disclosures include pro forma net income (loss) and net income (loss) per share as if the fair value method of accounting had been used. Stock issued to non-employees is accounted for in
accordance with SFAS 123 and related interpretations.



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CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)(continued)



The following are the pro forma net income (loss) and net income (loss) per share, as
if compensation expense for the option plans had been determined based on the fair value at the date of grant, consistent with SFAS No. 123:



|                                                                                                               |  | Three months endedSeptember 30, |            |   | Nine months ended September 30, |  
|-------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | ---------- | - | ------------------------------- | -
|                                                                                                               |  | 2003                            |            |   | 2002                            |  
|Net income (loss) applicable to common stockholders, as reported                                               |  | $                               | 4,549,916  |   |                                 | $
|Add back: Stock-based compensation included in net loss applicable to common stockholders, as reported         |  |                                 | 291,241    |   |                                 |  
|Less: total stock-based employee compensation expense determined under fair value based methods for all awards |  |                                 | (2,127,315 | ) |                                 |  
|Pro forma net income (loss) applicable to common stockholders                                                  |  | $                               | 2,713,842  |   |                                 | $
|Basic net income (loss) per common share                                                                      |  |                                 |            |   |                                 |  
|As reported                                                                                                    |  | $                               | 0.12       |   |                                 | $
|Pro forma                                                                                                      |  | $                               | 0.07       |   |                                 | $
|Diluted net income (loss) per common share                                                                    |  |                                 |            |   |                                 |  
|As reported                                                                                                    |  | $                               | 0.11       |   |                                 | $
|Pro forma                                                                                                      |  | $                               | 0.06       |   |                                 | $



The
effects on three and nine months ended September 30, 2003 and 2002 pro forma net income (loss) and net income (loss) per share of the estimated fair value of stock options and shares are not necessarily representative of the effects on the results
of operations in the future. In addition, the estimates made utilize a pricing model developed for traded options with relatively short lives; the Companys option grants typically have a life of up to ten years and are not transferable.
Therefore, the actual fair value of a stock option grant may be different from these estimates. The Company believes that its estimates incorporate all relevant information and represent a reasonable approximation in light of the difficulties
involved in valuing non-traded stock options.



|12. | Guarantor Arrangements
|--- | -----------------------



As permitted under Delaware law, the Companys Amended and Restated Certificate of Incorporation provides that the Company will
indemnify its officers and directors for certain claims asserted against them in connection with their service as an officer or director of the Company. The indemnification does not apply if the person is adjudicated not to have acted in good faith
in the reasonable belief that his or her actions were in the best interests of the Company. The indemnification obligation survives termination of the indemnified partys involvement with the Company but only as to those claims arising from
such persons role as an officer or director. The maximum potential amount of future payments that the Company could be required to make under these indemnification provisions is unlimited; however, the Company has director and officer
insurance policies that it expects, in most cases, would limit its exposure and enable it to recover a portion of any future amounts paid. Because the Company has never made payments under these indemnification provisions and maintains insurance
policy coverage, the estimated fair value of these indemnification provisions is minimal. All of these indemnification provisions were grandfathered under the provisions of FIN 45 as they were in effect prior to September 30, 2003. Accordingly, the
Company has no liabilities recorded for these provisions as of September 30, 2003.



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CURIS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)(continued)



|13. | New Accounting Standards
|--- | -------------------------



In January 2003, the Financial Accounting Standards Board, or FASB, issued FASB Interpretation No. 46 (FIN 46),
Consolidation of Variable Interest Entities, an interpretation of ARB No. 51. FIN 46 requires existing unconsolidated variable interest entities to be consolidated by their primary beneficiaries if the entities do not effectively
disperse risks among parties involved. Variable interest entities that effectively disperse risk will not be consolidated unless a single party holds an interest or combination of interests that effectively recombines risks that were previously
dispersed. FIN 46 also requires enhanced disclosure requirements related to variable interest entities. FIN 46 applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise
obtains an interest after that date. It applies in the first fiscal year or interim period beginning after December 15, 2003 to variable interest entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. The
adoption of FIN 46 is not expected to have a material effect on the Companys financial statements.



In May 2003, the FASB issued SFAS 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and
Equity. SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its
scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective
at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS 150 did not have a material effect on the Companys financial statements.



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##### Table of Contents

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



Overview



Curis, Inc. (we, our or us) is a therapeutic drug discovery and development company. Our technology focus is on
regulatory signaling pathways that control repair and regeneration of human tissue and organs. Our product development approach involves using proteins or small molecules to modulate these regulatory signaling pathways, for example, to increase the
pathway signals when they are insufficient or to decrease them when they are excessive. We have successfully used this product development approach to produce several promising preclinical product candidates in the fields of kidney disease,
neurological disorders, cancer and hair regrowth.



Our mission
is to discover and develop novel therapeutic drugs to treat diseases and disorders for which there are no adequate therapies or for which a new drug would represent a significant advancement over the current therapy.



Our research programs are conducted both internally and through strategic
alliances and partnerships. We currently are a party to collaborations and strategic relationships with Genentech, Inc. and Ortho Biotech Products, LP, a subsidiary of Johnson & Johnson. We have licensed certain of our technologies to Amylin
Pharmaceuticals and ES Cell International. In the future, we plan to continue to seek corporate partners for certain technologies, including our Hedgehog agonist neurology program. However, we may not be successful in our efforts to enter into new
partnerships, and our existing partnerships may not be successful. Even though we are seeking partners to help develop some of our technologies, we expect to select at least one program that we will develop further on our own. Our selection of a
program will be based on a number of factors including the time, expense and complexity of clinical trials that we estimate will be required for approval. For example, we are considering whether the Hedgehog Small Molecule Agonist Alopecia Program
may be a good program to develop further without a partner.



Strategic Alliances



Since completing the
realignment of our business in 2002, we are now seeking to maximize the potential returns on our remaining assets, particularly in regulatory signaling pathways. Because we are a small company with limited human and financial resources, we believe
that the best way to advance many of our scientific programs is through the establishment of corporate collaborations with pharmaceutical or biotechnology companies that possess the financial resources and/or specific areas of expertise, such as
clinical and regulatory development, to push product candidates toward commercialization.



Genentech, Inc.On June 11, 2003, we licensed our small molecule and antibody antagonists of the Hedgehog signaling pathway to Genentech, Inc. for applications in cancer therapy pursuant
to the terms of a collaborative research, development and license agreement. The collaboration agreement provides for cash payments from Genentech, including an up-front payment of $5,000,000, license fee payments totaling $4,000,000 over the first
two years, and milestone payments at various intervals during the U.S., European Union, Japanese and Australian regulatory approval process of small molecule and antibody product candidates, assuming specified research objectives are met. Genentech
is also obligated to pay us a royalty on potential future product sales.



Under the terms of the collaboration agreement, we are required to commit eight employees to the small molecule and/or antibody programs for a period of two years. In addition, we will participate on a joint steering
committee to oversee the preclinical development of product candidates. Per the collaboration agreement, product candidates identified by the joint steering committee for further (i.e., clinical) development are classified as either lead
products or co-development products. These product candidates are developed as follows:



| |  |  | Lead Products:  Lead Products include all small molecule and antibody antagonists of the Hedgehog signaling pathway, except for those in either the
basal cell carcinoma, or BCC, or the hair growth
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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##### Table of Contents

| | prevention fields. Genentech bears sole decision making authority and development costs for all lead products, including clinical trial development and
management, regulatory affairs, clinical and commercial manufacturing, product formulation and, if FDA approval is received, sales and marketing.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Co-Development Products:  Co-development products include only those product candidates identified by the joint steering committee for further development in either
the BCC or the hair growth prevention fields. For product candidates in the BCC field, Genentech will create a co-development plan and budget and we will have the option to share in the development costs. For product candidates in the hair growth
prevention field, we will create a co-development plan and budget and Genentech will have the option to share in the development costs. In both co-development scenarios, a co-development committee will be formed, consisting of an equal number of
members from Genentech and us, to oversee the co-development efforts.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We will record the $5,000,000 up-front payment and the $4,000,000 in license payments as deferred revenue and recognize revenue over the development period of the agreement in accordance with SEC Staff Accounting
Bulletin No. 101, Revenue Recognition, or SAB 101. SAB 101 requires companies to recognize certain upfront non-refundable fees over the period in which the company completes its performance obligations under the related agreement when
such fees are received in conjunction with an agreement which includes performance obligations. For the three- and nine-month periods ended September 30, 2003, we recorded revenue related to the Genentech collaboration of $346,000 and $360,000,
respectively. This revenue is included in the License fees and royalty revenue category at the Consolidated Statement of Operations.



In addition, as partial consideration for the rights and licenses granted to Genentech under the collaboration agreement, we sold to Genentech 1,323,835
shares of our common stock at a purchase price of $2.644 per share for aggregate proceeds of $3,500,000, pursuant to the terms of a stock purchase agreement. We also entered into a registration rights agreement with Genentech pursuant to which we
are required to register the shares of common stock for resale in the future under specified conditions.



Ortho Biotech Products, L.P. (a subsidiary of Johnson & Johnson).    In November of 2002, we licensed our broad bone
morphogenic protein, or BMP, technology portfolio to Ortho Biotech for all non-orthopaedic therapeutic applications in exchange for a $3,500,000 up-front fee, a series of cash milestones if certain research objectives are achieved including a
$30,000,000 milestone payment upon U.S. regulatory approval of a product for the treatment of kidney disease, and a royalty on potential future product sales. If the program progresses successfully through clinical development, we are entitled to
receive additional milestone payments for the kidney disease related product candidate and milestone payments for the first neurology product candidate. Initial target indications include prevention of bone and blood vessel complications associated
with chronic kidney disease and treatments to promote recovery following stroke and brain injury.



Amylin Pharmaceuticals, Inc.In December of 2002, we licensed our PYY patent applications to Amylin Pharmaceuticals
in exchange for an up-front fee, milestone payments if specified research objectives are achieved and a royalty on potential future product sales. Amylin has sole responsibility for all further development of the PYY compound and has recently
announced that it may file an IND on PYY for an obesity indication in 2003.



ES Cell International Pte Ltd.In December of 2002, we assigned and licensed our patent rights related to the development of cellular therapeutics for the treatment of diabetes to ES Cell
International Pte, Ltd. in exchange for an up-front fee and an equity position in ES Cell. As part of the overall transaction, ES Cell will assume all responsibility for future development and clinical testing of our diabetes stem-cell technologies,
including funding all costs of six of our scientists through December 17, 2003.



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Prior Agreements



Micromet AG.    Effective July 31, 2003, we entered into agreements with Micromet to terminate
the target research and product development agreements of our collaboration. As a result of the termination of these agreements, we no longer have any performance or contractual obligations with Micromet. Accordingly, we immediately recognized as
revenue $8,555,000 of previously deferred revenue related to our agreements with Micromet. As of September 30, 2003, we have continued to defer $3,407,000 in Long-term deferred revenue related to the long-term note receivable from
Micromet, which is due at the earlier of (i) the closing date for an initial public offering of Micromets shares or (ii) June 30, 2005.



Elan Corporation plc.    In May 2003, we entered into a termination agreement with Elan to conclude the joint venture that was
originally formed in July 2001. The purpose of the joint venture, called Curis Newco, was to research and develop molecules that stimulate the Hedgehog signaling pathway in the field of neurology, including disease targets such as Parkinsons
Disease and diabetic neuropathy. We are currently seeking to establish a collaboration with another pharmaceutical or biotechnology company to advance this program. Prior to the termination, we owned 80.1% and Elan owned 19.9% of the outstanding
shares of Curis Newco. As a result of the termination, Elan transferred to us its 19.9% share of Curis Newco, making Curis Newco our wholly-owned subsidiary. As a result, Curis Newco is consolidated into our consolidated financial statements as of
and for the three- and nine-month periods ending September 30, 2003. In connection with the termination agreement, we also entered into an amended and restated convertible promissory note with Elan Pharma International Limited, or EPIL, pursuant to
which we repaid $1,500,000 of an outstanding $4,900,000 note to EPIL in cash and EPIL forgave $400,000. As of September 30, 2003, there was approximately $3,069,000, including approximately $69,000 in accrued interest, outstanding under this
convertible note. Also in connection with the termination agreement, Elan agreed to the cancellation of its shares of our Series A convertible exchangeable preferred stock. As partial consideration for the cancellation of the preferred stock, we
issued 2,878,782 shares of our common stock to Elan. Lastly, as a result of the termination, all rights granted by both us and Elan at the formation of Curis Newco under separate license agreements with Curis Newco terminated. In addition, the
Company, as sole shareholder of Curis Newco, now owns all intellectual property created by Curis Newco.



Aegera.    In April 2003, we terminated the remaining components of a license and collaboration agreement that we had
established in January 2001 with Aegera Therapeutics, Inc. Pursuant to this license and collaboration agreement, Aegera had granted us an exclusive worldwide license to its skin-derived, adult stem cell technologies and had provided for a three-year
research collaboration, under which we were obligated to fund six full-time equivalent researchers per year at Aegera at an annual cost to us of $600,000. We had previously terminated the research collaboration component of this agreement, effective
October 24, 2002.



To date, our research and development
contract and license fee revenues have been generated from agreements with collaborative partners. Over the next few years, we anticipate deriving most of our revenues from existing collaborations and additional collaboration agreements which we may
enter into in the future. We may not be able to find suitable partners willing to form collaborations on terms we consider acceptable, or at all. Failure to maintain our existing collaborations and/or to form new collaborations would adversely
affect our future research and development contract revenues.



Future operating results will depend largely on the magnitude of payments from our current and potential future corporate partners and the outcome of other product candidates currently in our research and development pipeline. We cannot be
sure of either the timing or amount of these payments or the likelihood of successful outcomes for products currently in our pipeline. We have never been profitable and we expect to incur additional operating losses in the next several years. The
results of our operations will vary significantly from year to year and quarter to quarter and depend on, among other factors, the timing of our entry into new collaborations and the timing of the receipt of payments from collaborators and the cost
and outcome of clinical trials. We believe that we have sufficient cash to operate into the first quarter of 2006.



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Critical Accounting Policies



In December of 2001, the Securities and Exchange Commission requested that all registrants list their most critical
accounting policies in Managements Discussion and Analysis of Financial Condition and Results of Operations. The SEC indicated that a critical accounting policy is one which is both important to the portrayal of our financial
condition and results and requires managements most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. We believe that the following accounting
policies are critical:



Long-Lived
Assets.    Long-lived assets consist of goodwill, long-term receivables, equity securities held in Micromet, ES Cell and Aegera, capitalized patent costs and long-term deposits. We assess the impairment of identifiable
intangibles and long-lived assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable. If it were determined that the carrying value of intangible or long-lived assets might not be recoverable based
upon the existence of one or more indicators of impairment, we would measure any impairment based on a projected cash flow method.



As a result of the adoption of SFAS No. 142, effective January 1, 2002, we ceased amortization of goodwill. In lieu of amortization, we performed an
initial assessment of impairment of our goodwill in the first quarter of 2002. This initial assessment involved comparing our fair value to our net assets. We determined our fair value based on quoted market prices adjusted to provide for a control
premium. Our fair value was in excess of our net assets and, therefore, we concluded that our goodwill was not impaired. SFAS No. 142 requires us to perform an impairment assessment annually or whenever events or changes in circumstances indicate
that our goodwill may be impaired. We concluded that the decline in our market capitalization during the three-month period ended June 30, 2002 indicated that the carrying value of goodwill might be impaired. As a result, we conducted an impairment
assessment as required under SFAS No. 142 by comparing our fair value to our net assets, including goodwill, as of June 30, 2002. Because the carrying value of our net assets exceeded our fair value at June 30, 2002, we determined that our goodwill
had been impaired. To determine the amount of the impairment charge, we calculated our implied goodwill as the difference between our fair value and the fair value of our assets and liabilities. The fair value of our intangible assets, principally
consisting of completed and in-process technology, was estimated using a discounted cash flow methodology. Based on this valuation, we determined that our implied goodwill was $8,982,000, and we recorded a non-cash charge in the quarter ended June
30, 2002 of approximately $64,098,000 to write-down our existing goodwill.



The goodwill impairment analysis involved considerable judgment and the use of several estimates including: control premium, discount rates, projected cash flows of OP-1, and projected cash flows of our in-process
research and development programs. The control premium used in determining our fair value was based on an analysis of control premiums involved in other biotechnology and medical products acquisitions. Most of our research and development programs
will not be completed for several years, if ever, and therefore estimating the costs to complete these programs and the revenue to be derived through collaborations and commercialization of the products involves substantial judgment. The discount
rates used to determine the net present value of these cash flows were based on a consideration of the risks associated with achieving these cash flow projections, including the risk of successfully completing our in-process technology. All of these
estimates involve a significant amount of judgment by our management. Although the estimates used reflect managements best estimates based upon all available evidence, the use of different estimates could have yielded different results in our
transitional impairment assessment conducted as of January 1, 2002 and in our impairment assessment conducted in the second quarter of 2002. Had we used a significantly lower control premium in determining our fair value, our transitional impairment
analysis could have indicated that goodwill was impaired at January 1, 2002. In addition, using different estimated cash flows or discount rates in determining our implied goodwill in the second quarter of 2002 could have resulted in a higher or
lower goodwill impairment charge.



During the year ended
December 31, 2002, we recorded impairment charges of property and equipment assets related to our business realignment of approximately $5,337,000. These charges relate to impairment on assets at our former manufacturing and development facility
located at 21 Erie Street in Cambridge, Massachusetts.



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##### Table of Contents

$4,761,000 of the total impairment charge relates to the write-off of tenant improvements made to the Erie Street facility, since such improvements are
affixed to the facility and therefore cannot be sold separately from the facility. The remaining charge of $576,000 was to write-down equipment to its estimated salvage value. The amount we received from the sale of these assets was not
significantly different from the originally estimated fair value.



During the fourth quarter of the year ended December 31, 2002, we recorded an impairment charge of approximately $271,000 to reduce the carrying value of patents associated with our OP-1 technology which is licensed to Stryker. The charge
was recorded as a result of our transaction with Stryker, under which we sold our rights to future royalties from Stryker on sales of OP-1. We wrote these patents off because we will not receive any future royalties or other revenue from Stryker,
and because these patents are not expected to be utilized in future operations and have no alternative future use to us.



Revenue recognition.    Our revenue recognition policy is critical because revenue is a key component of our results of
operations. We follow the provisions of the Securities and Exchange Commissions Staff Accounting Bulletin No. 101 (SAB No. 101), Revenue Recognition. In accordance with SAB No. 101, we recognize revenue related to research activities as
they are performed, so long as there is persuasive evidence of an arrangement, the fee is fixed or determinable, and collection of the related receivable is probable.



Amounts received for license fees are deferred and recognized as services are performed over the performance period of the
contract. Amounts received for milestones will be recognized upon achievement of the milestone, as long as the milestone is deemed to be substantive and we have no other performance obligations. In the event that we have remaining performance
obligations, the portion of the milestone payment equal to the lesser of the non-refundable cash received or the percentage of the services performed through that date multiplied by the total milestone payment would be recognized as revenue. We
recognized $346,000 and $360,000, respectively, in revenue related to our collaboration with Genentech for the three- and nine-month periods ended September 30, 2003. The remainder will be recognized proportionately as the remaining services are
performed. Revenues for research and development services are recognized as such services are performed. For the three- and nine-month periods ended September 30, 2003, we recognized $357,000 and $1,128,000 respectively, of revenues relating to
research and development services performed under our corporate collaboration agreement with ES Cell. Royalty revenue is recognized upon the sale of the related products, provided the royalty amounts are fixed or determinable and collection of the
related receivable is reasonably assured. No royalty revenue was recognized during the three-month period ending September 30, 2003.



Amounts received prior to satisfying the above revenue recognition criteria are recorded as deferred revenue in the accompanying balance sheets. Amounts
not expected to be recognized prior to September 30, 2004 are classified as long-term deferred revenue. As of September 30, 2003, we have recorded long-term deferred revenue of approximately $10,663,000, of which $3,407,000 is related to deferred
revenue associated with a note receivable received from Micromet as part of our former collaboration and $7,256,000 is related to our collaboration with Genentech. We have recorded short-term deferred revenue of approximately $1,428,000 of which
$1,385,000 is related to our collaboration with Genentech.



We
follow detailed guidelines in measuring revenue; however, certain judgments affect the application of our revenue policy. For example, we entered into a collaboration agreement with Genentech, under which we received a $5,000,000 up-front fee and
will receive $4,000,000 in license fees. We have recorded on our balance sheet short- and long-term deferred revenue based on our best estimate of when such revenue will be recognized. The estimate of deferred revenue includes managements
assessment of our time period of involvement with the collaboration since we will recognize revenue on a straight-line basis over our period of involvement. Our period of involvement is largely determined by the period to commercialization of
clinical candidates which we co-developed with Genentech. Since the timing of clinical development is difficult to estimate, our estimates may change in the future. Such changes to estimates would result in a change in revenue recognition rates. To
date, $360,000 has been recognized as revenue. The remaining $8,640,000 is recorded as deferred revenue on our balance sheet at September 30, 2003.



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The above list is not intended to be a comprehensive list of all of our accounting policies. In many
cases, the accounting treatment of a particular transaction is specifically dictated by generally accepted accounting principles, with no need for managements judgment in their application. There are also areas in which managements
judgment in selecting any available alternative would not produce a materially different result.



Critical Accounting Estimates



The preparation of our consolidated financial statements in conformity with accounting principles generally accepted in the United States requires that we make estimates and assumptions that affect the reported amounts and disclosure of
certain assets and liabilities at our balance sheet date. Such estimates include the collectibility of receivables, the carrying value of property and equipment and intangible assets, and the value of certain liabilities. Actual results may differ
from such estimates. Examples of some of our significant estimates are as follows:



Valuation of investments in privately-held companies.We have investments in Aegera, Micromet and ES Cell of $167,000, $686,000 and $150,000, respectively. These investments are included
in the Deposits and other assets category of our Consolidated Balance Sheets. At each balance sheet date, we review these investments to determine whether the fair value of these investments is less than the carrying value and, if so,
whether we should write-down the investment. These companies are not publicly-traded and, therefore, determining the fair value of our investments in these companies involves significant judgment. We considered available information in estimating
the fair value of these investments and, as of September 30, 2003, believe that the fair value of these investments is not less than their carrying value. However, if the financial condition or results of one or more of these companies declines
significantly, the fair value of these investments would likely decline and, as a result, we may have to record an impairment charge to the extent such impairment is deemed other-than-temporary.



Collectibility of long-term note receivable.As
of September 30, 2003, we have a note receivable from Micromet totaling $5,115,000, including accrued interest of $398,000. This amount is presented as Long-term receivables in our Consolidated Balance Sheets. Payment of this note is not
due until the earlier of the closing of an initial public offering by Micromet or June 30, 2005. As of September 30, 2003, we believe this note is fully collectible and, therefore, we have not recorded a reserve against this balance. If
Micromets financial condition declines, some or all of this note could become uncollectible. The Company has recorded $3,407,000 of deferred revenue related to this note and if some or all of the note becomes uncollectible then the Company
will reduce the note receivable and related deferred revenue by a like amount. Beginning January 1, 2003, we have ceased accruing interest income related to this long-term note receivable.



Timing of Deferred Revenue Recognition.We have
recorded short-term deferred revenue of $1,428,000 and long-term deferred revenue of $10,663,000 as of September 30, 2003. Short-term deferred revenue consists of amounts not expected to be recognized as revenue by September 30, 2004. However, this
estimate is based on our current operating plan as of September 30, 2003. If this operating plan should change in the future, we may recognize a different amount of deferred revenue over the twelve-month period from October 1, 2003 through September
30, 2004.



Results of Operations



Three-Month Periods Ended September 30, 2003 and September 30, 2002



Revenues



Total revenues for the three-month period ended September 30, 2003 were
$9,309,000 as compared to $222,000 for the three-month period ended September 30, 2002, an increase of $9,087,000. Revenues for the three-month period ended September 30, 2003 were derived primarily from $8,555,000 in previously deferred revenue
that we recognized upon the termination of our product development and target research agreements with Micromet during the quarter. In addition, we recognized $346,000 related to our collaboration with



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Genentech. Total revenues for the three-month period ended September 30, 2002 include $181,000 in royalty revenues received from Stryker Corporation
(Stryker) and $41,000 in revenue recognized under our strategic alliance with Micromet. As part of our transaction with Stryker completed on October 1, 2002, we will receive no future royalties or payments of any other kind from Stryker.



Operating Expenses



Research and development expenses for the three-month period ended September
30, 2003 were $3,036,000 as compared to $2,884,000 for the three-month period ended September 30, 2002, an increase of $152,000, or 5%. The increase was partially due to the termination of our collaboration with affiliates of Elan Corporation. For
the three-month period ended September 30, 2002, our research and development costs were reported net of $1,211,000 in costs related to our Hedgehog agonist neurology program that were charged directly to Curis Newco by Curis (80.1% of these costs
were included in Equity in loss from joint venture at our consolidated statement of operations). Costs related to our Hedgehog agonist neurology program are included in research and development costs for the three-month period ended
September 30, 2003. This increase was partially offset by reductions in operating expense categories including decreases in personnel, occupancy and depreciation, outside services and legal fees associated with our intellectual property.



Research and development expenses for the three-month period ended
September 30, 2003 include the cost of employees involved in research and development of $993,000, outside services including medicinal chemistry, consulting and sponsored research collaborations of $725,000, occupancy and depreciation charges of
$454,000, lab supplies of $433,000 and legal fees associated with our intellectual property of $213,000.



Research and development expenses for the three-month period ended September 30, 2002 include the cost of employees involved in research and development
of $1,021,000, outside services including medicinal chemistry, consulting and sponsored research collaborations of $698,000, occupancy and depreciation charges of $504,000, lab supplies of $239,000 and legal fees associated with our intellectual
property of $493,000.



General and administrative expenses for
the three-month period ended September 30, 2003 were $1,438,000 as compared to $1,461,000 for the three-month period ended September 30, 2002, a decrease of $23,000, or 2%.



General and administrative expenses for the three-month period ended September 30, 2003 include the costs of employees of
$673,000, occupancy and depreciation charges of $148,000, and professional service fees and other outside services including legal costs and consultants of $298,000.



General and administrative expenses for the three-month period ended September 30, 2002 include the costs of employees of
$785,000, occupancy and depreciation charges of $171,000, and professional service fees and other outside services including legal costs and consultants of $319,000.



Stock-based compensation for the three-month period ended September 30, 2003 was $291,000 as compared to $554,000 for the
three-month period ended September 30, 2002, a decrease of $263,000, or 47%. The decrease was primarily attributable to $179,000 in compensation expense recorded during the three-month period ended September 30, 2002 on restricted stock awarded to
our board of directors in June 2002. These restricted stock awards were made to each director in lieu of cash consideration for services from June 12, 2002 through June 12, 2003.



Amortization of intangible assets was $19,000 for three-month period ended September 30, 2003 as compared to $60,000 for the
three-month period ended September 30, 2002, a decrease of $41,000, or 69%. The decrease was primarily due to an impairment charge of approximately $271,000 that we recorded in the fourth quarter of 2002 to reduce the carrying value of patents
associated with our OP-1 technology which is licensed to Stryker. The charge was recorded as a result of our transaction with Stryker, under which we sold our rights to



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future royalties from Stryker on sales of OP-1. We wrote these patents off because we will not receive any future royalties or other revenue from Stryker and
because these patents are not expected to be utilized in future operations and have no alternative future use to us.



Equity in Loss from Joint Venture



We recorded no Equity in loss from joint venture during the three-month period ended September 30, 2003 as compared to $977,000 during the three-month
period ended September 30, 2002. The Equity in loss from joint venture relates to a joint venture, Curis Newco, that we formed in July 2001 with affiliates of Elan Corporation. This joint venture was terminated on May 16, 2003. As part of the
termination, we now own 100% of the outstanding shares of Curis Newco.



Other Income, Net



Other income, net for the
three-month period ended September 30, 2003 was $25,000 as compared to a net expense of $38,000 for the three-month period ended September 30, 2002, an increase of $63,000. The increase was partially attributed to a $65,000 gain recognized during
the three-month period ended September 30, 2003 on currency rate fluctuations on a EURO-denominated long-term note receivable issued to us by Micromet, a former strategic partner. For the three-month period ended September 30, 2002, we recognized a
loss of $41,000 on currency rate fluctuations related to the Micromet note.



For the three-month period ended September 30, 2003, interest income was $115,000 as compared to $234,000 for the three-month period ended September 30, 2002, a decrease of $119,000. The higher interest income for the
three-month period ended September 30, 2002 resulted primarily from higher average yields on investments as compared to the three-month period ended September 30, 2003.



Interest expense for the three-month period ended September 30, 2003 was $156,000 as compared to $232,000 for the
three-month period ended September 30, 2002, a decrease of $76,000, or 33%. The decrease in interest expense was partially attributable to a decrease in the variable interest rate on notes payable and decreases in the principle amount of debt
outstanding.



Accretion of Preferred Stock Dividend



We recorded no accretion of preferred stock dividend for
the three-month period ended September 30, 2003 as compared to $180,000 for the three-month period ended September 30, 2002. This charge relates to the accretion of a mandatory 6% dividend on shares of convertible exchangeable preferred stock issued
to an affiliate of Elan as part of a joint venture with Elan. The decrease is attributed to the termination of the joint venture on May 16, 2003, since the convertible exchangeable preferred stock was cancelled as part of the termination. For
three-month period ended September 30, 2002 this amount is included in the net loss applicable to common stockholders.



Net Loss Applicable to Common Stockholders



As a result of the foregoing, we incurred a net income applicable to common stockholders of $4,550,000 for the three-month period ended September 30, 2003
as compared to a net loss applicable to common stockholders of $5,933,000 for the three-month period ended September 30, 2002.



Nine-Month Periods Ended September 30, 2003 and September 30, 2002



Revenues



Total revenues for the nine-month period ended September 30, 2003 were $10,293,000 as compared to $571,000 for the nine-month period ended September 30,
2002, an increase of $9,722,000. Revenues for the nine-month period ended September 30, 2003 were derived primarily from $8,555,000 in previously deferred



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revenue that we recognized upon the termination of our product development and target research agreements with Micromet AG during the quarter. In addition,
we recognized $1,128,000 in revenue related to our collaboration with ES Cell and $360,000 related to our collaboration with Genentech. Total revenues for the nine-month period ended September 30, 2002 include $388,000 in royalty revenues received
from Stryker and $183,000 in revenue recognized under our strategic alliance with Micromet.



Operating Expenses



Research and development expenses for the nine-month period ended September 30, 2003 were $9,542,000 as compared to $11,622,000 for the nine-month period ended September 30, 2002, a decrease of $2,080,000, or 18%. The decrease was primarily
due to a reduction in legal fees associated with intellectual property that we have licensed to third parties over the course of the last year. In addition, we experienced decreases in personnel costs as a result of reductions in the research staff
in December 2002 and occupancy costs associated with a sublease of 67% of one of our buildings which we entered into in August 2002. These decreases were partially offset by the effect of the termination of our collaboration with affiliates of Elan
Corporation. For the nine-month period ended September 30, 2002, our research and development costs were reported net of $3,964,000 in costs related to our Hedgehog agonist neurology program that were charged directly to Curis Newco by Curis (80.1%
of these costs are included in Equity in loss from joint venture at our consolidated statement of operations). For the nine-month period ended September 30, 2003, costs related to our Hedgehog agonist neurology program are included in
research and development costs.



Research and development
expenses for the nine-month period ended September 30, 2003 include the cost of employees involved in research and development of $3,013,000, outside services including medicinal chemistry, consulting, sponsored research collaborations and clinical
trials of $2,556,000, occupancy and depreciation charges of $1,466,000, lab supplies of $1,415,000 and legal fees associated with our intellectual property of $532,000.



Research and development expenses for the nine-month period ended September 30, 2002 include the cost of employees involved
in research and development of $3,581,000, outside services including medicinal chemistry, consulting and sponsored research collaborations of $2,572,000, occupancy and depreciation charges of $1,777,000, lab supplies of $1,250,000 and legal fees
associated with our intellectual property of $1,720,000.



General and administrative expenses for the nine-month period ended September 30, 2003 were $4,465,000 as compared to $6,661,000 for the nine-month period ended September 30, 2002, a decrease of $2,196,000, or 33%. The decrease was
primarily due to a decrease in legal costs and professional fees and a decrease in personnel costs as a result of reductions in the administrative staff in December 2002. The decrease was also partially attributable to a decrease in a charge to
record a reserve for possible non-collection of notes receivable outstanding to two former officers of Creative BioMolecules. We recorded charges related to this reserve of approximately $34,000 and $674,000 for the nine-month periods ended
September 30, 2003 and 2002, respectively. The book value of the notes receivable was $1,338,000 as of September 30, 2003, and is included as Notes receivable at the Stockholders Equity section of our Consolidated Balance Sheet.
The reserve on the notes receivable was $1,227,000 as of September 30, 2003 and is included in Accrued Liabilities in our Consolidated Balance Sheet.



General and administrative expenses for the nine-month period ended September 30, 2003 include the cost of employees of
$1,945,000, occupancy and depreciation charges of $465,000, legal and professional fees of $742,000 and consulting expense of $231,000.



General and administrative expenses for the nine-month period ended September 30, 2002 include the cost of employees of $2,381,000, occupancy and
depreciation charges of $720,000, legal and professional fees of $1,291,000 and consulting expense of $238,000.



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Stock-based compensation for the nine-month period ended September 30, 2003 was $1,210,000 as compared to
$1,679,000 for the nine-month period ended September 30, 2002, a decrease of $469,000, or 28%. The decrease was partially attributable to a decrease in the amount of stock-based compensation expense related to our issuance on August 18, 2000 of
stock options with exercise prices below fair market value. Because these options were issued with exercise prices below fair market value, we recorded deferred compensation and have been amortizing the deferred compensation over the four-year
vesting period of the options. However, when an option holders employment with us is terminated, we treat any unvested portion of their options and related deferred compensation as charged to the additional paid-in capital accounts (not the
stock-based compensation accounts). Accordingly, the departures of four officers and approximately 55 other employees as a result of the February 2002 realignment of our business and a subsequent staff reduction in December 2002 have resulted in a
decrease of stock-based compensation expense, since the remaining deferred compensation balance associated with each terminated employees August 18, 2000 stock options was immediately charged to additional paid-in capital instead of to
stock-based compensation. In addition, $179,000 in compensation expense was recorded for the nine-month period ended September 30, 2002 related to restricted stock awarded to our board of directors in June 2002. These restricted stock awards were
made to each director in lieu of cash consideration for services on our board from June 12, 2002 through June 12, 2003. No such expense was recorded during the three-month period ended September 30, 2003. This decrease was partially offset by
$100,000 in compensation expense recorded on options awarded to non-employees during the nine-month period ended September 30, 2003.



Amortization of intangible assets was $56,000 for the nine-month period ended September 30, 2003 as compared to $181,000 for the nine-month period ended
September 30, 2002, a decrease of $125,000, or 69%. The decrease was primarily due to an impairment charge of approximately $271,000 that we recorded in the fourth quarter of 2002 to reduce the carrying value of patents associated with our OP-1
technology which is licensed to Stryker. The charge was recorded as a result of our transaction with Stryker, under which we sold our rights to future royalties from Stryker on sales of OP-1. We wrote these patents off because we will not receive
any future royalties or other revenue from Stryker, and because these patents are not expected to be utilized in future operations and have no alternative future use to us.



Impairment charges of property and equipment assets for the nine-month period ended September 30, 2002 of approximately
$5,337,000 relate to impairment on assets at the Erie Street Facility. Total carrying value of assets at the Erie Street Facility before the impairment charge was approximately $5,652,000. The property and equipment assets at the Erie Street
Facility were used to support clinical programs that were suspended or terminated as part of an operational realignment in 2002 and have been deemed to be unlikely to be used in our future operations. $4,761,000 of the impairment charge relates to
the write-off of tenant improvements made to the Erie Street Facility, since such improvements are affixed to the facility and therefore cannot be sold separately from the facility. The remaining $576,000 of impairment charge represents our estimate
of loss on disposition of the furniture and equipment assets held at the Erie Street Facility. We do not expect to incur additional impairment on property and equipment related to the realignment in future periods.



Impairment of goodwill for the nine-month period ended September 30, 2002 was
$64,098,000. We recorded no impairment charge for the nine-month period ended September 30, 2003. In accordance with SFAS No. 142, we concluded that the decline in our market capitalization during the three-month period ended September 30, 2002
indicated that the carrying value of our goodwill may be impaired. Accordingly, we conducted an impairment review as required under SFAS No. 142 as of September 30, 2002 and determined that goodwill impairment had occurred as of September 30, 2002.
The value of Curis, as a single reporting unit, was calculated using quoted market prices adjusted to provide for a control premium. In calculating the impairment charge, the fair value of our intangible assets, principally consisting of completed
and in-process technology, was estimated using a discounted cash flow methodology.



Realignment expenses of $3,490,000 were recorded in the nine-month period ended September 30, 2002. These charges relate to: (i) costs of approximately $1,139,000 associated with workforce reductions of 46 people,
including 4 officers, (ii) costs of approximately $2,306,000 associated with the closing of clinical programs and



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decommissioning of a manufacturing and development facility and (iii) other costs of approximately $45,000. As of September 30, 2002, we had expended
approximately all of the $3,490,000 in realignment expenses. We do not expect to incur additional expenses in future periods.



Equity in Loss from Joint Venture



We recorded no Equity in loss from joint venture during the nine-month period ended September 30, 2003 as compared to $3,217,000 during the nine-month
period ended September 30, 2002. The Equity in loss from joint venture relates to a joint venture, Curis Newco, that we formed in July 2001 with affiliates of Elan Corporation. This joint venture was terminated on May 16, 2003. As a result of the
termination, we now own 100% of the outstanding shares of Curis Newco.



Other Income, Net



Other income, net for the
nine-month period ended September 30, 2003 was $292,000 as compared to $1,148,000 for the nine-month period ended September 30, 2002, a decrease of $856,000. The decrease was mainly attributed to a gain of $601,000 resulting from the sale of
marketable securities during the first quarter of 2002 and higher interest income for the nine-month period ended September 30, 2002 as compared to the nine-month period ended September 30, 2003.



For the nine-month period ended September 30, 2003, interest income was
$313,000 as compared to $849,000 for the nine-month period ended September 30, 2002, a decrease of $536,000. The higher interest income for the three-month period ended September 30, 2002 resulted from both higher average available investment
balances and higher average yields on investments as compared to the nine-month period ended September 30, 2003.



Interest expense for the nine-month period ended September 30, 2003 was $570,000 as compared to $690,000 for the nine-month period ended September 30,
2002, a decrease of $120,000, or 17%. The decrease in interest expense was partially attributable to a decrease in the variable interest rate on notes payable and decreases in the principle amount of debt outstanding.



Accretion of Preferred Stock Dividend



Accretion of preferred stock dividend for the nine-month period ended
September 30, 2003 was $271,000 as compared to $543,000 for the nine-month period ended September 30, 2002, a decrease of $272,000, or 50%. This charge relates to the accretion of a mandatory 6% dividend on shares of convertible exchangeable
preferred stock issued to an affiliate of Elan as part of a joint venture with Elan. The decrease is attributed to the termination of the joint venture on May 16, 2003, since the convertible exchangeable preferred stock was cancelled as part of the
termination. The amounts are included in the net loss applicable to common stockholders for nine-month periods ended September 30, 2003 and 2002.



Net Loss Applicable to Common Stockholders



As a result of the foregoing, we incurred a net loss applicable to common stockholders of $4,959,000 for the nine-month period ended September 30, 2003 as
compared to a net loss applicable to common stockholders of $95,109,000 for the nine-month period ended September 30, 2002.



Liquidity and Capital Resources



At September 30, 2003, our principal sources of liquidity consisted of cash, cash equivalents and marketable securities of $45,790,000, including
restricted cash and cash equivalents of $4,204,000. We have financed our operations primarily through placements of equity securities, payments received under agreements with collaborative partners and government grants, amounts received under debt
and capital lease agreements, manufacturing contracts and the sale of certain OP-1 royalty and manufacturing rights and facilities to Stryker.



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Net cash used in operating activities was $6,076,000 for the nine-month period ended September 30, 2003
compared to $19,101,000 for the nine-month period ended September 30, 2002. Cash used in operating activities during the nine-month period ended September 30, 2003 was primarily the result of our net loss for the period of $4,688,000 and a
$2,000,000 long-term receivable due from Genentech in connection with a license payment due to us in July 2005, partially offset by $2,750,000 in non-cash charges including stock-based compensation expense, depreciation and amortization, non-cash
interest expense on notes payable and amortization of intangible assets. We used approximately $2,139,000 of operating cash as a result of changes in certain of our operating asset and liabilities during the three-month period ended September 30,
2003. Net cash used in operating activities during the nine-month period ended September 30, 2002 was primarily the result of our net loss for the period of $94,566,000, partially offset by $73,084,000 in non-cash charges including impairment
charges on our intangible and tangible assets, stock-based compensation expense, depreciation and amortization, non-cash interest expense on notes payable and amortization of intangible assets. Our net loss was further offset by our equity in loss
of joint venture of $3,217,000. We used approximately $1,490,000 of operating cash as a result of changes in certain of our operating asset and liabilities.



Investing activities provided $1,426,962 of cash for the nine-month period ended September 30, 2003, resulting principally from $1,498,000 in proceeds
from net investment sales. Net cash used in investing activities was $4,506,000 for the nine-month period ended September 30, 2002. Cash used in investing activities during the nine-month period ended September 30, 2002 was primarily the result of a
$4,646,000 increase in restricted cash, resulting from our loan agreement with Boston Private Bank & Trust Company.



Financing activities provided approximately $11,736,000 of cash for the nine-month period ended September 30, 2003, resulting primarily from $14,367,000
received in issuances of common stock, including net proceeds of $9,829,000 from our August 2003 private placement of common stock, $3,500,000 in common stock purchased by Genentech as part of our collaboration and $1,006,000 received by the
exercise of stock options. These cash inflows were partially offset by repayments of obligations under capital lease and debt arrangements of $2,609,000. Financing activities used approximately $2,535,000 of cash for the nine-month period ended
September 30, 2002, resulting primarily from net repayments of obligations under capital lease and debt arrangements.



On August 14, 2003, we completed a private placement of 3,589,700 shares of newly issued common stock at a purchase price of $3.04 per share, to selected
institutional and accredited investors. We intend to use the $9,829,000 in net proceeds from the private placement primarily to support the Companys clinical and research and development efforts, working capital and other general corporate
purposes. In addition, in connection with the private placement, we issued warrants to purchase 1,076,910 shares of common stock at an exercise price of $4.45 per share. The warrants expire on August 14, 2008.



On June 11, 2003, we licensed our small molecule and antibody antagonists of
the Hedgehog signaling pathway to Genentech, Inc. for applications in cancer therapy pursuant to the terms of a Collaborative Research, Development and License Agreement. The Collaboration Agreement provides for cash payments from Genentech,
including an up-front payment of $5,000,000, license fee payments totaling $4,000,000 over the first two years of the collaboration, and milestone payments at various intervals during the U.S., European Union, Japanese and Australian regulatory
approval process of small molecule and antibody product candidates, assuming specified research objectives are met. Genentech has also agreed to pay us a royalty on potential future product sales. Under the terms of the Collaboration Agreement, we
are required to commit eight employees to the small molecule and/or antibody programs for a period of two years. In addition, we will participate on a joint steering committee to oversee the preclinical development of product candidates.



We will also participate on a co-development committee to oversee
subsequent development of any product candidates that are selected by the joint steering committee for further development in human clinical trials. We intend to recognize revenue related to the $5,000,000 up-front payment and the $4,000,000 in
license fee payments receivable over our estimated period of involvement related to the collaboration.



In addition, as partial consideration for the rights and licenses granted to us under the Collaboration Agreement, we sold to Genentech 1,323,835 shares
of our common stock at a purchase price of $2.644 per share



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for aggregate proceeds of $3,500,000, pursuant to the terms of a stock purchase agreement. We also entered into a registration rights agreement with
Genentech covering the registration of the shares of common stock for resale under specified conditions.



Effective April 2, 2003, we amended our loan agreement with Boston Private Bank & Trust Company. Under the terms of the loan amendment, we will no
longer repay principal in equal quarterly installments over a five-year term. Instead, the loan has been structured as a revolving credit facility under which up to $7,000,000 can be borrowed and remain outstanding until the repayment date of April
1, 2005, upon which all outstanding principal and accrued interest shall be repaid immediately. We will continue to pay interest monthly in arrears at a variable interest rate, which is currently 3.50%. This loan is fully collateralized with a money
market account maintained by us at the Boston Private Bank & Trust Company. As of September 30, 2003, we had an outstanding debt obligation of $4,002,000, including $12,000 in accrued interest.



On May 16, 2003, we and affiliates of Elan Corporation, plc
(Elan) entered into a termination agreement to conclude the joint venture that was originally formed in July 2001. The purpose of the joint venture, called Curis Newco, was to research and develop molecules that stimulate the Hedgehog
signaling pathway in the field of neurology, including disease targets such as Parkinsons Disease and diabetic neuropathy. As part of the joint venture arrangement, we had entered into an $8,010,000 convertible note agreement with Elan Pharma
International Limited, or EPIL. As part of the termination, of the $4,900,000 outstanding under the note, we repaid $1,500,000 in cash and Elan forgave $400,000. We then entered into an amended and restated convertible note payable with EPIL with
the principal amount of $3,000,000. The terms of the amended and restated note were substantially the same as those under the July 2001 note, except that the interest rate was reduced from 8% to 6% and the conversion rate was increased from $8.63 to
$10.00. As of September 30, 2003, there was approximately $3,069,000, including approximately $69,000 in accrued interest, outstanding under this convertible note payable.



On June 26, 2001, we received $2,000,000 from Becton Dickinson under a convertible subordinated note payable in connection
with the exercise by Becton Dickinson of an option to negotiate a collaboration agreement. The note is repayable at any time up to its maturity date of June 26, 2006 by us, at our discretion, in either cash or upon issuance to Becton Dickinson of
shares of our common stock. The note bears interest at 7%. As of September 30, 2003, there was approximately $2,317,000, including approximately $317,000 in accrued interest, outstanding under the note agreement.



We lease equipment under various capital lease arrangements. Monthly payments
on leases outstanding as of September 30, 2003, range from $1,880 to $21,170 and maturities range from November 2003 to July 2004. The initial terms of the leases range from 36 months to 60 months and bear interest at rates ranging from 12.52% to
16.34%. As of September 30, 2003, approximately $551,000 was outstanding under these agreements and we were in compliance with all covenants under these agreements.



As of September 30, 2003, we had future payments required under contractual obligations and other commitments approximately
as follows:



|                                           |  | (amounts in 000s)
|------------------------------------------ |  | ------------------
|                                           |  | Remainderof 2003  
|Debt obligations                           |  | $                 
|Convertible subordinated long-term debt(1) |  |                   
|Capital lease obligations                  |  |                   
|Operating lease obligations                |  |                   
|Outside service obligations                |  |                   
|Licensing obligations                      |  |                   
|                                           |  |                   
|Total future obligations                   |  | $                 
|                                           |  |                   

---

|(1) |  | Convertible subordinated debt is convertible into either shares of our common stock or cash.
|---- |  | --------------------------------------------------------------------------------------------



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We anticipate that existing capital resources should enable us to fund current and planned operations
into the first quarter of 2006. We expect to incur substantial additional research and development and other costs, including costs related to preclinical studies and clinical trials for the foreseeable future. Our actual capital resources to fund
our operations may vary from those currently projected. Our current projections and our ability to continue funding planned operations beyond the first quarter of 2006 is dependent upon a number of important factors, including the success of our
collaborations with our collaborative partners, our ability to continue to maintain or reduce our cash burn rate, and our ability to raise additional funds through equity or debt financings, or from other sources of financing. We are seeking
additional collaborative arrangements and also expect to raise funds through one or more financing transactions, if conditions permit. Over the longer term, because of our significant long-term capital requirements, we intend to seek to raise funds
through the sale of debt or equity securities when conditions are favorable, even if we do not have an immediate need for additional capital at such time. However, corporate collaborations and additional financing may not be available or, if
available, may not be available on favorable terms. In addition, the sale of additional debt or equity securities could result in dilution to our stockholders. If substantial additional funding is not available, our ability to fund research and
development and our financial condition and operations will be materially and adversely affected.



We have no off-balance sheet arrangements as of September 30, 2003.



Risk Factors That May Affect Results



This Quarterly Report on Form 10-Q and certain other communications made by us contain forward-looking statements about our future operating results,
discovery and development of products, and current and potential strategic alliances. For this purpose, any statement that is not a statement of historical fact should be considered a forward-looking statement. We often use the words
believe, anticipate, plan, expect, intend and similar expressions to help identify forward-looking statements.



There are a number of important factors that could cause our actual results to differ materially from those indicated or
implied by forward-looking statements. Factors that could cause or contribute to such differences include those discussed below, as well as those discussed elsewhere in this Form 10-Q. We disclaim any intention or obligation to update or revise any
forward-looking statements, whether as a result of new information, future events or otherwise.



RISKS RELATING TO OUR FINANCIAL RESULTS AND NEED FOR FINANCING



We have incurred substantial losses, we expect to continue to incur substantial losses and we may never achieve profitability.



We expect to incur substantial operating losses for the foreseeable future, and we have no current sources of material
ongoing revenue. It is uncertain when, if ever, we will develop significant sources of ongoing revenue or achieve profitability, even if we are able to develop and commercialize products.



We expect to spend significant capital to fund our research and development programs for the foreseeable future. As a
result, we will need to generate significant revenues in order to achieve profitability. We cannot be certain whether or when this will occur because of the significant uncertainties that affect our business. Our failure to become and remain
profitable may depress the market price of our common stock and could impair our ability to raise capital, expand our business, diversify our product offerings or continue our operations.



We may require additional financing, which may be difficult to obtain and may dilute your ownership interest in us.



We will require substantial funds to continue our research and development
programs. Our future capital requirements may vary from what we expect and will depend on many factors, including the following:



| |  |  | continued progress in our research and development programs, as well as the magnitude of these programs;
| | - |  | --------------------------------------------------------------------------------------------------------



| |  |  | the cost of additional facilities requirements, if any;
| | - |  | -------------------------------------------------------



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| |  |  | our ability to establish and maintain collaborative arrangements;
| | - |  | -----------------------------------------------------------------



| |  |  | the timing, receipt and amount of research funding and milestone, license, royalty and other payments, if any, from collaborative partners;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the timing, payment and amount of research funding and milestone, license, royalty and other payments due to licensors of patent rights and technology used to make, use and sell our
product candidates;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the timing, receipt and amount of sales revenues and royalties, if any, from our product candidates in the market;
| | - |  | ------------------------------------------------------------------------------------------------------------------



| |  |  | the cost of manufacturing and commercialization activities; and
| | - |  | ---------------------------------------------------------------



| |  |  | the costs of preparing, filing, prosecuting, maintaining and enforcing patent claims and other patent-related costs, including litigation costs and technology license fees.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We expect to seek additional funding through
collaborative arrangements with strategic partners and may seek additional funding through public or private financings. However, the biotechnology market in general, and the market for our common stock, in particular, is highly volatile and,
depending on market conditions and the status of our development pipeline, additional funding may not be available to us on acceptable terms, if at all. If we fail to obtain such additional financing on a timely basis, our ability to continue all of
our research, development, commercialization, manufacturing and marketing activities will be adversely affected.



If we raise additional funds by issuing equity securities, dilution to our stockholders will result. In addition, the terms of such a financing may
adversely affect other rights of our stockholders. We also could elect to seek funds through arrangements with collaborative partners or others that may require us to relinquish rights to certain technologies, product candidates or products. If the
estimates we make and the assumptions on which we rely in preparing our financial statements prove inaccurate, our actual results may vary significantly.



If the estimates we make and the assumptions on which we rely in preparing our financial statements prove inaccurate, our actual results may vary significantly.



Our financial statements have been prepared in accordance
with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of our assets, liabilities, revenues and expenses, the
amounts of charges taken by us and related disclosure. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. There can be no assurance, however, that our estimates,
or the assumptions underlying them, will be correct. Our actual financial results may vary significantly from the estimates contained in our financial statements.



RISKS RELATING TO OUR COLLABORATIONS



We are dependent on collaborative partners for the development and commercialization of many of our product candidates. Any failure or
delay by these partners in developing or commercializing our product candidates could eliminate significant portions of our anticipated product pipeline.



The success of our strategy for development and commercialization of product candidates depends upon our ability to form productive strategic
collaborations. We currently have strategic collaborations with Genentech, Inc., Ortho Biotech, Products, L.P., a Johnson & Johnson company, ES Cell International Pte Ltd., and Amylin Pharmaceuticals, Inc., and we expect to enter into additional
collaborations in the future. Our existing and any future alliances may not be scientifically or commercially successful.



The risks that we face in connection with these alliances include the following:



| |  |  | Each of our collaborators has significant discretion in determining the efforts and resources that they will apply to the collaboration. The timing and amount of any future royalty
and milestone revenue that we may receive under such collaborative arrangements will depend on, among other things, such collaborators efforts and allocation of resources.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | All of our strategic alliance agreements are for fixed terms and are subject to termination under various circumstances, including in some cases, on short notice without cause. If
any collaborative partner were to terminate an agreement, we may be required to undertake product development, manufacturing and commercialization and we may not have the funds or capability to do this, which could result in a discontinuation of
such program.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Our collaborators may develop and commercialize, either alone or with others, products and services that are similar to or competitive with the products and services that are the
subject of the alliance with us.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Our collaborators may change the focus of their development and commercialization efforts. Pharmaceutical and biotechnology companies historically have re-evaluated their priorities
following mergers and consolidations, which have been common in recent years in these industries. The ability of certain of our product candidates to reach their potential could be limited if our collaborators decrease or fail to increase spending
related to such product candidates.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We may not be
successful in establishing additional strategic alliances, which could adversely affect our ability to develop and commercialize products and services.



As an integral part of our ongoing research and development efforts, we periodically review opportunities to establish new collaborations, joint ventures
and strategic alliances for the development and commercialization of products in our development pipeline. For example, we are seeking to enter into a collaboration with respect to our Hh agonist program for neurological disorders. We face
significant competition in seeking appropriate collaborators. Moreover, these alliance arrangements are complex to negotiate and time-consuming to document. We may not be successful in our efforts to establish a collaboration with respect to our Hh
agonist program for neurological disorders or additional strategic alliances or other alternative arrangements. The terms of any additional alliances or other arrangements that we establish may not be favorable to us. Moreover, such strategic
alliances or other arrangements may not be successful.



RISKS
RELATED TO OUR BUSINESS, INDUSTRY, STRATEGY AND OPERATIONS



We have not
commercialized any products to date. If we are not able to commercialize any products, we will not be profitable.



All of our product opportunities are in various stages of preclinical development. Because our product opportunities have several years of development
prior to reaching commercialization, there is a substantial risk that none of our current product opportunities will ever be commercialized. If none our product opportunities are commercialized, we will not be profitable.



We face substantial competition, which may result in our competitors discovering,
developing or commercializing products before or more successfully than we do.



Our product candidates face competition with existing and new products being developed by biotechnology, medical device and pharmaceutical companies, as well as universities and other research institutions. Many of
our competitors have substantially greater capital resources, research and development staffs and facilities than we have. Efforts by other biotechnology, medical device and pharmaceutical companies could render our programs or products uneconomical
or result in therapies superior to those that we and our collaborative partners develop. Furthermore, many of our competitors are more experienced in product development and commercialization, obtaining regulatory approvals and product
manufacturing. As a result, they may develop competing products more rapidly and at a lower cost. These competitors may discover, develop and commercialize products which render the products that we or our collaborative partners are seeking to
develop and commercialize non-competitive or obsolete.



For
example, research in the fields of regulatory signaling pathways and functional genomics, which includes our work in oncology and renal disease, is highly competitive. A number of entities are seeking to



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identify and patent randomly sequenced genes and gene fragments, typically without specific knowledge of the function that such genes or gene fragments
perform. Our competitors may discover, characterize and develop important inducing molecules or genes in advance of us. We also face competition from these and other entities in gaining access to DNA samples used in our research and development
projects. We expect competition to intensify in genomics research and regulatory signaling pathways as technical advances in the field are made and become more widely known.



Since our technologies have many potential applications and we have limited resources, our election to focus on a particular application
may result in our failure to capitalize on other potentially profitable applications of our technologies.



We have limited financial and managerial resources. These limitations require us to focus on a select group of product candidates in specific therapeutic
areas and to forego the exploration of other product opportunities. For example, a decision to concentrate on a particular indication within our neurology program may mean that we will not be able to allocate sufficient resources to fully exploit
several different indications within our neurology program. While our technologies may permit us to work in both areas, resource commitments may require trade-offs resulting in delays in the development of certain programs or research areas, which
may place us at a competitive disadvantage. Our decisions as to resource allocation may not lead to the development of viable commercial products and may divert resources away from other market opportunities which ultimately prove to be more
profitable.



If any of our product candidates ever receive regulatory
approval for commercialization, the market may not be receptive to such products due to their use of new technologies or cost. Such a lack of reception would adversely affect expected revenues.



If any of our product opportunities ever receive regulatory approval, the
commercial success of these products will depend upon their acceptance by patients, the medical community and third-party payors. Our future products, if any are successfully developed, may not gain commercial acceptance among physicians, patients
and third-party payors, even if necessary marketing approvals have been obtained. We believe that recommendations and endorsements by physicians will be essential for market acceptance of our products. If we are not able to obtain a positive
reception for our products, our expected revenues from sales of these products would be adversely affected.



We could be exposed to significant risk from liability claims if we are unable to obtain insurance at acceptable costs or otherwise protect ourselves against potential product liability claims.



We may be subjected to product liability claims arising from the testing,
manufacturing, marketing and sale of human health care products. Product liability claims, inherent in the process of researching and developing human health care products, could expose us to significant liabilities and prevent or interfere with the
development or commercialization of our product candidates. Product liability claims would require us to spend significant time, money and other resources to defend such claims and could ultimately lead to our having to pay a significant damage
award. Product liability insurance is expensive to procure for biopharmaceutical companies such as ours. Although we maintain product liability insurance coverage for the clinical trials of our products under development, it is possible that we will
not be able to obtain additional product liability insurance on acceptable terms, if at all, and that our product liability insurance coverage will not prove to be adequate to protect us from all potential claims.



Our growth could be limited if we are unable to attract and retain key personnel and
consultants.



Our success depends on the ability to
attract, train and retain qualified scientific and technical personnel to further our research and development efforts. The loss of services of one or more of our key employees or consultants could have a negative impact on our business and
operating results. Competition for hiring personnel



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in the biotechnology industry is intense and locating candidates with the appropriate qualifications can be difficult. Although we expect to be able to
attract and retain sufficient numbers of highly skilled employees for the foreseeable future, we may not be able to do so.



Any growth and expansion into areas and activities that may require additional human resources or expertise, such as regulatory affairs, compliance,
manufacturing and marketing, would require us to hire new key personnel. The pool of personnel with the skills that we require is limited. Competition to hire from this limited pool is intense, and we may not be able to hire, train, retain or
motivate such additional personnel.



RISKS RELATING TO
CLINICAL AND REGULATORY MATTERS



We expect to rely heavily on third
parties for the conduct of clinical trials of our product candidates. If these clinical trials are not successful, or if we are not able to obtain the necessary regulatory approvals, we will not be able to complete development and commercialization
of our product candidates.



In order to obtain regulatory
approval for the commercial sale of our product candidates, we and our collaborators will be required to complete extensive preclinical studies as well as clinical trials in humans to demonstrate to the FDA and foreign regulatory authorities that
our product candidates are safe and effective. We have limited experience in conducting clinical trials and expect to rely primarily on contract research organizations and collaborative partners for their performance and management of clinical
trials of our product candidates.



Clinical development,
including preclinical testing, is a long, expensive and uncertain process. Accordingly, clinical trials, if any, of our product candidates under development may not be successful. We could experience delays in preclinical or clinical trials of any
of our product candidates, obtain unfavorable results in a development program, or fail to obtain regulatory approval for the commercialization of a product. Furthermore, the timing and completion of clinical trials, if any, of our product
candidates depend on, among other factors, the numbers of patients required for approval and the rate at which those patients are enrolled. Any increase in the required number of patients or decrease in recruitment rates may result in increased
costs, program delays or both. Also, our products under development may not be effective in treating any of our targeted disorders or may prove to have undesirable or unintended side effects, toxicities or other characteristics that may prevent or
limit their commercial use. Any of these events would adversely affect our ability to market a product candidate.



The development process necessary to obtain regulatory approval is lengthy, complex and expensive. If we and our collaborative partners do not obtain necessary
regulatory approvals, then our business will be unsuccessful and the market price of our common stock will substantially decline.



We and our collaborative partners will be required to obtain regulatory approval for our marketing and selling efforts.



The process of obtaining FDA and other required regulatory approvals is
expensive. The time required for FDA and other approvals is uncertain and typically takes a number of years, depending on the complexity and novelty of the product. The process of obtaining FDA and other required regulatory approvals for many of our
products under development is further complicated because some of these products use non-traditional or novel materials in non-traditional or novel ways, and the regulatory officials have little precedent to follow. Because our products are at
various stages of preclinical development, we have no experience in filing and prosecuting applications to obtain marketing approval.



Any regulatory approval to market a product may be subject to limitations on the indicated uses for which we may market the product. These limitations may
restrict the size of the market for the product and affect reimbursement by third party payors. In addition, regulatory agencies may not grant approvals on a timely basis or may revoke or significantly modify previously granted approvals.



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We also are subject to numerous foreign regulatory requirements governing the manufacturing and marketing
of our potential future products outside of the United States. The approval procedure varies among countries, and the time required to obtain foreign approvals often differs from that required to obtain FDA approvals. Moreover, approval by the FDA
does not ensure approval by regulatory authorities in other countries, and vice versa.



As a result of these factors, we or third parties on whom we rely may not successfully begin or complete our clinical trials in the time periods we have forecasted, if at all. Moreover, if we incur costs and delays in
our programs or if we do not successfully develop and commercialize our products, our stock price could decline.



Even if we obtain marketing approval, our products will be subject to ongoing regulatory oversight which may affect our ability to successfully commercialize any
products we may develop.



Even if we receive regulatory
approval of a product candidate, the approval may be subject to limitations on the indicated uses for which the product is marketed or require costly post-marketing follow-up studies. After we obtain marketing approval for any product, the
manufacturer and the manufacturing facilities for that product will be subject to continual review and periodic inspections by the FDA and other regulatory agencies. The subsequent discovery of previously unknown problems with the product, or with
the manufacturer or facility, may result in restrictions on the product or manufacturer, including withdrawal of the product from the market.



If we fail to comply with applicable regulatory requirements, we may be subject to fines, suspension or withdrawal of regulatory approvals, product
recalls, seizure of products, operating restrictions, and criminal prosecution.



We are subject to governmental regulations other than those imposed by the FDA. We may not be able to comply with these regulations, which could subject us to penalties and otherwise result in the limitation of our operations.



In addition to regulations imposed by the FDA, we are
subject to regulation under the Occupational Safety and Health Act, the Environmental Protection Act, the Toxic Substances Control Act, the Research Conservation and Recovery Act, as well as regulations administered by the Nuclear Regulatory
Commission, national restrictions on technology transfer, import, export and customs regulations and certain other local, state or federal regulation. From time to time, other federal agencies and congressional committees have indicated an interest
in implementing further regulation of biotechnology applications. We are not able to predict whether any such regulations will be adopted or whether, if adopted, such regulations will apply to our business, or whether we would be able to comply with
any applicable regulations.



Our research and development
activities involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for handling and disposing of such materials comply with all applicable laws and regulations, we cannot completely eliminate
the risk of accidental contamination or injury caused by these materials.



RISKS RELATING TO PRODUCT MANUFACTURING AND SALES



We will depend on third-party manufactures to produce most, if not all, of our products under development, and if these third parties do not successfully manufacture these products our business will be harmed.



We have no manufacturing experience. In order to continue
to develop products, apply for regulatory approvals, and commercialize our products, we will need to develop, contract for, or otherwise arrange for the necessary manufacturing capabilities. We may not be able to enter into manufacturing contracts
on a timely or commercially reasonable basis, if at all. To the extent that we enter into manufacturing arrangements with third



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parties, we will be dependent upon these third parties to perform their obligations in a timely and effective manner and in accordance with government
regulations. If third-party manufacturers with whom we contract fail to perform their obligations, our competitive position and ability to generate revenue may be adversely affected in a number of ways, including;



| |  |  | we may not be able to initiate or continue clinical trials of products that are under development;
| | - |  | --------------------------------------------------------------------------------------------------



| |  |  | we may be delayed in submitting applications for regulatory approvals for our product candidates; and
| | - |  | -----------------------------------------------------------------------------------------------------



| |  |  | we may not be able to meet commercial demands for any approved products.
| | - |  | ------------------------------------------------------------------------



We have no sales and marketing experience and, as such, will depend significantly on third parties who may not successfully sell our products.



We have no sales, marketing and product distribution experience. We plan to
rely solely on sales, marketing and distribution arrangements with third parties, including our collaborative partners. For example, as part of our agreements with Genentech and Ortho Biotech, we have granted our collaborators exclusive rights to
distribute certain products resulting from such collaborations, if any are ever successfully developed. We may have to enter into additional marketing arrangements in the future and we may not be able to enter into these additional arrangements on
terms which are favorable to us, if at all. In addition, we may have limited or no control over the sales, marketing and distribution activities of these third parties and sales through these third parties could be less profitable to us than direct
sales. These third parties could sell competing products and may devote insufficient sales efforts to our products. Our future revenues will be materially dependent upon the success of the efforts of these third parties.



We may seek to independently market products that are not already subject to
marketing agreements with other parties. If we determine to perform sales, marketing and distribution functions ourselves, we could face a number of additional risks, including:



| |  |  | we may not be able to attract and build a significant and skilled marketing staff or sales force;
| | - |  | -------------------------------------------------------------------------------------------------



| |  |  | the cost of establishing a marketing staff or sales force may not be justifiable in light of the revenues generated by any particular product; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | our direct sales and marketing efforts may not be successful.
| | - |  | -------------------------------------------------------------



RISKS RELATING TO INTELLECTUAL PROPERTY



If we breach any of the agreements under which we license or have acquired intellectual property from others, we could lose intellectual property rights that are
important to our business.



We are a party to intellectual
property licenses and agreements that are important to our business and expect to enter into similar licenses and agreements in the future. These licenses and agreements impose various research, development, commercialization, sublicensing, royalty,
indemnification, insurance and other obligations on us. If we fail to perform under these agreements or otherwise breach obligations thereunder, we could lose intellectual property rights that are important to our business.



We may not be able to obtain patent protection for our discoveries and our technologies
may be found to infringe patent rights of third parties.



The patent positions of pharmaceutical and biotechnology companies, including ours, are generally uncertain and involve complex legal, scientific and factual questions.



The long-term success of our enterprise depends in significant part on our ability to:



| |  |  | obtain patents to protect our discoveries;
| | - |  | ------------------------------------------



| |  |  | protect trade secrets from disclosure to third-party competitors;
| | - |  | -----------------------------------------------------------------



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| |  |  | operate without infringing upon the proprietary rights of others; and
| | - |  | ---------------------------------------------------------------------



| |  |  | prevent others from infringing on our proprietary rights.
| | - |  | ---------------------------------------------------------



Patents may not issue from any of the patent applications that we own or license. If patents do issue, the allowed claims may not be sufficiently broad to
protect our technology from exploitation by our competitors. In addition, issued patents that we own or license may be challenged, invalidated or circumvented. Our patents also may not afford us protection against competitors with similar
technology. Because patent applications in the United States are maintained in secrecy until 18 months after filing, it is possible that third parties have filed or maintained patent applications for technology used by us or covered by our pending
patent applications without our knowledge.



We may not have
rights under patents which may cover one or more of our product candidates. In some cases, these patents may be owned or controlled by third party competitors and may impair our ability to exploit our technology. As a result, we or our collaborative
partners may be required to obtain licenses under third-party patents to develop and commercialize some of our product candidates. If we are unable to secure licenses to such patented technology on acceptable terms, we or our collaborative partners
will not be able to develop and commercialize the affected product candidate or candidates.



If we are unable to keep our trade secrets confidential, our technology and information may be used by others to compete against us.



We also rely significantly upon un patented proprietary technology, information, processes and know-how. We seek to protect
this information through confidentiality agreements with our employees, consultants and other third-party contractors as well as through other security measures. These confidentiality agreements may be breached, and we may not have adequate remedies
for any such breach. In addition, our trade secrets may otherwise become known or be independently developed by competitors.



We may become involved in expensive patent litigation or other intellectual property proceedings which could result in liability for damages or stop our development
and commercialization efforts.



There have been
substantial litigation and other proceedings regarding patent and other intellectual property rights in the pharmaceutical and biotechnology industries. We may become a party to patent litigation or other proceedings regarding intellectual property
rights.



Situations which may give rise to patent litigation or
other disputes over the use of our intellectual property include:



| |  |  | initiation of litigation or other proceedings against third parties to enforce our patent rights;
| | - |  | -------------------------------------------------------------------------------------------------



| |  |  | initiation of litigation or other proceedings against third parties to seek to invalidate the patents held by these third parties or to obtain a judgment that our product candidates
or proposed services do not infringe the third parties patents;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | participation in interference or opposition proceedings to determine the priority of invention if our competitors file patent applications that claim technology also claimed by us;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | initiation of litigation by third parties claiming that our processes or product candidates or the intended use of our product candidates infringe their patent or other intellectual
property rights; and
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | initiation of litigation by us or third parties seeking to enforce contract rights relating to intellectual property which may be important to our business.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------



The costs associated with any patent litigation
or other proceeding, even if resolved favorably, likely would be substantial. Some of our competitors may be able to sustain the cost of such litigation or other proceedings more effectively than we can because of their substantially greater
financial resources. If a patent litigation or



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other intellectual property proceeding is resolved unfavorably, we or our collaborative partners may be enjoined from manufacturing or selling our products
and services without a license from the other party and be held liable for significant damages. Moreover, we may not be able to obtain required licenses on commercially acceptable terms or any terms at all. In addition, we could be held liable for
lost profits if we are found to have infringed a valid patent, or liable for treble damages if we are found to have willfully infringed a valid patent. Litigation results are highly unpredictable and we or our collaborative partners may not prevail
in any patent litigation or other proceeding in which we may become involved.



Uncertainties resulting from the initiation and continuation of patent litigation or other proceedings could damage our ability to compete in the marketplace. Patent litigation and other proceedings may also absorb
significant management time and expense.



If licensees or assignees of our
intellectual property rights breach any of the agreements under which we have licensed or assigned our intellectual property to them, we could be deprived of important intellectual property rights and future revenue.



We are a party to intellectual property out-licenses, collaborations and
agreements that are important to our business and expect to enter into similar agreements with third parties in the future. Under these agreements, we license or transfer intellectual property to third parties and impose various research,
development, commercialization, sublicensing, royalty, indemnification, insurance, and other obligations on them. If a third party fails to comply with these requirements, we generally retain the right to terminate the agreement, and to bring a
legal action in court or in arbitration. In the event of breach, we may need to enforce our rights under these agreements by resorting to arbitration or litigation. During the period of arbitration or litigation, we may be unable to effectively use,
assign or license the relevant intellectual property rights and may be deprived of current or future revenues that are associated with such intellectual property.



RISKS RELATED TO OUR COMMON STOCK



We expect that our stock price will fluctuate significantly and the market price of our common stock could drop below the price you paid.



The trading price of our common stock has been volatile
and may continue to be volatile in the future. For example, our stock price has traded as high as $5.20 and as low as $2.97 in the quarter ended September 30, 2003. The stock market, particularly in recent years, has experienced significant
volatility particularly with respect to biopharmaceutical- and biotechnology-based company stocks. The volatility of biopharmaceutical- and biotechnology-based company stocks often does not relate to the operating performance of the companies
represented by the stock. Prices for our stock will be determined in the market place and may be influenced by many factors, including:



| |  |  | announcements regarding new technologies by us or our competitors;
| | - |  | ------------------------------------------------------------------



| |  |  | market conditions in the biotechnology sectors;
| | - |  | -----------------------------------------------



| |  |  | rumors relating to us or our competitors;
| | - |  | -----------------------------------------



| |  |  | litigation or public concern about the safety of our potential products;
| | - |  | ------------------------------------------------------------------------



| |  |  | actual or anticipated variations in our quarterly operating results;
| | - |  | --------------------------------------------------------------------



| |  |  | deviations in our operating results from the estimates of securities analysts;
| | - |  | ------------------------------------------------------------------------------



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



| |  |  | FDA or international regulatory actions; and
| | - |  | --------------------------------------------



| |  |  | general market conditions.
| | - |  | --------------------------



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While we cannot predict the individual effect that these factors may have on the price of our common
stock, these factors, either individually or in the aggregate, could result in significant variations in price during any given period of time. Moreover, in the past securities class action litigation has often been instituted against companies
following periods of volatility in their stock price. This type of litigation could result in substantial costs and divert our managements attention and resources.



Our common stock may be delisted from The NASDAQ National Market, which could reduce the liquidity of our common stock and adversely
affect our ability to raise additional necessary capital.



In order to continue trading on The NASDAQ National Market, we must comply with The NASDAQ National Markets continued listing requirements, which require that we either maintain a minimum stockholders equity of $10.0 million and
a minimum closing bid price of $1.00 per share or, if we fall below the minimum stockholders equity requirement, maintain a minimum closing bid price of $3.00 per share.



We currently are in compliance with The NASDAQ National Markets continued listing requirements. However, if in the
future we fail to satisfy The NASDAQ National Markets continued listing requirements, our common stock may be delisted from The NASDAQ National Market. The delisting of our common stock may result in the trading of the stock on the NASDAQ
SmallCap Market or the OTC Bulletin Board. Consequently, a delisting of our common stock from The NASDAQ National Market may reduce the liquidity of our common stock and adversely affect our ability to raise capital.



We have anti-takeover defenses that could delay or prevent an acquisition that our
stockholders may consider favorable and the market price of our common stock may be lower as a result.



Provisions of our certificate of incorporation, our bylaws and Delaware law may have the effect of deterring unsolicited takeovers or delaying or
preventing changes in control of our management, including transactions in which our stockholders might otherwise receive a premium for their shares over then current market prices. In addition, these provisions may limit the ability of stockholders
to approve transactions that they may deem to be in their best interest. For example, we have divided our board of directors into three classes that serve staggered three-year terms, we may issue shares of our authorized blank check
preferred stock and our stockholders are limited in their ability to call special stockholder meetings.



In addition, we are subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which regulates corporate
acquisitions. These provisions could discourage potential acquisition proposals and could delay or prevent a change in control transaction. They could also have the effect of discouraging others from making tender offers for our class A common
stock. These provisions may also prevent changes in our management.



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Item 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



We invest cash balances in excess of operating requirements in cash equivalents and short-term marketable securities, generally money market funds,
corporate debt and government securities with an average maturity of less than one year. All marketable securities are considered available for sale. At September 30, 2003, the fair market value of these securities amounted to approximately
$8,031,000 with net unrealized losses of $3,759 included as a component of stockholders equity. Because of the quality of the investment portfolio and the short-term nature of the marketable securities, we do not believe that interest rate
fluctuations would impair the principal amount of the securities. Our investments are investment grade securities and deposits are with investment grade financial institutions. We believe that the realization of losses due to changes in credit
spreads is unlikely, as we expect to hold our debt to maturity.



At September 30, 2003, we had approximately $551,000 outstanding under fixed rate capital lease agreements that are not subject to fluctuations in interest rates and approximately $4,002,000, including $11,000 in accrued interest,
outstanding under a cash-secured term loan agreement with an adjustable rate equal to 3.50% as of September 30, 2003. In addition, we had approximately $2,317,000, including accrued interest of $317,000, outstanding under a convertible subordinated
note payable to Becton Dickinson. Lastly, $3,069,000, including accrued interest of $69,000, was outstanding under a convertible promissory note payable to EPIL in connection with Curis Newco.



As of September 30, 2003, we held assets denominated in EUROS on our balance
sheet totaling $4,717,000. The underlying assets are expected to have a holding period in excess of one year. The value of these assets could fluctuate based on changes in the exchange rate between the dollar and EURO. We have not entered into any
hedging agreements related to this risk.



Item 4.    CONTROLS AND PROCEDURES



| | (a) |  | Evaluation of disclosure controls and procedures.    Our chief executive officer and chief financial officer, after evaluating the effectiveness of our
disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15d-14(e)) as of September 30, 2003, have concluded that our disclosure controls and procedures were (a) effective, in that they
provided reasonable assurance that the information required to be disclosed by us in the reports we file or submit under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SECs
rules and forms and (b) designed to ensure that material information relating to us and our consolidated subsidiary would be made known to our chief executive officer and chief financial officer by others within those entities.
| | --- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | (b) |  | Changes in internal controls.    No change in our internal control over financial reporting (as defined in the Securities Exchange Act of 1934, Rules
13a-15(f) and 15d-15(f)) occurred during the fiscal quarter ended September 30, 2003 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
| | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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PART II
OTHER INFORMATION



Item 2.    CHANGES IN SECURITIES AND USE OF PROCEEDS.



On August 14, 2003, we completed a private placement of 3,589,700 shares of newly issued common stock at a purchase price of $3.04 per share to selected
institutional and accredited investors. We intend to use the $9,829,000 in net proceeds from the private placement primarily to support our clinical and research and development efforts, working capital and other general corporate purposes. In
addition, we issued warrants to purchase 1,076,910 shares of common stock at an exercise price of $4.45 per share. The warrants expire on August 14, 2008.



Item 6.    EXHIBITS AND REPORTS ON FORM 8-K.



(a)  Exhibits.



|ExhibitNumber |  | Description                                                                                                                                                                                                         
|------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|              | 
|10.1          |  | Form of Common Stock and Warrant Purchase Agreement, dated August 11, 2003, entered into by Curis and certain investors,
together with a schedule of such investors and the material details of each such agreement.
|              | 
|31.1          |  | Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as
amended.                                                                              
|              | 
|31.2          |  | Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as
amended.                                                                              
|              | 
|32.1          |  | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.                                                                  
|              | 
|32.2          |  | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.                                                                  



(b)  Reports
on Form 8-K.



|(i)   |  | On July 10, 2003 the Company filed a Current Report on Form 8-K to report under Item 5 (Other Events) that it had licensed, on
June 11, 2003, its small molecule and antibody inhibitors of the Hedgehog signaling pathway to Genentech, Inc. (Genentech) for applications in cancer therapy pursuant to the terms of a Collaborative Research, Development and License
Agreement.
|----- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|      | 
|(ii)  |  | On July 30, 2003, the Company furnished a Current Report on Form 8-K under Item 12 (Results of Operations and Financial
Condition) containing a press release that announced its financial results for the three- and six-month periods ended June 30, 2003.                                                                                                                        
|      | 
|(iii) |  | On August 11, 2003, the Company filed a Current Report on Form 8-K to report under Item 5 (Other Events) that it had entered
into definitive agreements with certain institutional and other accredited investors with respect to the private placement of newly issued common stock and warrants to purchase additional shares of common stock.                                    



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SIGNATURE



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



|                        |  |  |  | CURIS, INC.
|----------------------- |  |  |  | -----------
|                        |  |  | 
|Date: November 12, 2003 |  |  |  | By:        
|                        |  |  |  |            



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