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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

|           |  |                                                                                                 
|---------- |  | ------------------------------------------------------------------------------------------------
|(Mark One) |  |                                                                                                 
|þ          |  | ANNUAL REPORT PURSUANT TO
    SECTION 13 OR 15(d)
    OF THE SECURITIES EXCHANGE ACT OF 1934    
|           |  | For the fiscal year ended
    December 31, 2006 or                                              
|          
|o          |  | TRANSITION REPORT PURSUANT TO
    SECTION 13 OR 15(d)
    OF THE SECURITIES EXCHANGE ACT OF 1934
|           |  | For the transition period
    from           to                                                 

Commission file number: 0-15190


OSI PHARMACEUTICALS, INC.


(Exact Name of Registrant as Specified in its Charter)


|                                                                       |  |                                         
|---------------------------------------------------------------------- |  | ----------------------------------------
|Delaware                                                               |  | 13-3159796                              
|(State or other Jurisdiction
    of
    Incorporation or Organization) |  | (I.R.S. Employer Identification
    No.)
|                                                                      
|41 Pinelawn Road, Melville,
    N.Y.                                   |  | 11747                                   
|(Address of Principal Executive
    Offices)                           |  | (Zip Code)                              

Registrants Telephone Number, including area code


(631) 962-2000


Securities Registered Pursuant to Section 12(b) of the
Act:


|                                                                                                                     |  |                                
|-------------------------------------------------------------------------------------------------------------------- |  | -------------------------------
|                                                                                                                     |  | Name of each exchange on which 
|Title of each class                                                                                                  |  | registered                     
|Common Stock, par value
    $.01 per share
     Series SRPA Junior Participating Preferred Stock Purchase
    Rights |  | The NASDAQ Stock Market
    LLC

Securities Registered Pursuant to Section 12(g) of the
Act: None


(Title of Class)


þ o


o þ


þ o


S-K 10-K 10-K. þ


12b-2


þ o o


12b-2  o þ






DOCUMENTS INCORPORATED BY REFERENCE


10-K.










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In this Form 10-K,
OSI, the Company, we,
us, and our refer to OSI
Pharmaceuticals, Inc. and subsidiaries.

We own or have rights to various copyrights, trademarks and
trade names used in our business including the following:
Tarceva®
(erlotinib);
Macugen®
(pegaptanib sodium injection);
Novantrone®
(mitoxantrone for injection concentrate); and
Gelclair®
Bioadherent Oral Gel. This
Form 10-K also
includes other trademarks, service marks and trade names of
other companies.

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OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

TABLE OF CONTENTS

|         |  |          |  |                                                                                                                      |     |      |     | 
|-------- |  | -------- |  | -------------------------------------------------------------------------------------------------------------------- | --- | ---- | --- | 
|         |  |          |  |                                                                                                                      |     | Page |    
|         |  |          |  |                                                                                                                      |     |      |    
|PART I   |  |          |  |                                                                                                                      | 1   |     
|         |  | ITEM 1   |  | BUSINESS                                                                                                             |     |      | 1   | 
|         |  | ITEM 1A  |  | RISK
    FACTORS                                                                                                     |     |      | 23  | 
|         |  | ITEM 1B. |  | UNRESOLVED
    STAFF COMMENTS                                                                                        |     |      | 36  | 
|         |  | ITEM 2.  |  | PROPERTIES                                                                                                           |     |      | 36  | 
|         |  | ITEM 3.  |  | LEGAL
    PROCEEDINGS                                                                                                |     |      | 37  | 
|         |  | ITEM 4.  |  | SUBMISSION OF
    MATTERS TO A VOTE OF SECURITY HOLDERS                                                              |     |      | 37  | 
|PART II  |  |          |  |                                                                                                                      | 37  |     
|         |  | ITEM 5.  |  | MARKET FOR
    REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
    ISSUER PURCHASES OF EQUITY SECURITIES |     |      | 37  | 
|         |  | ITEM 6.  |  | SELECTED
    CONSOLIDATED FINANCIAL DATA                                                                             |     |      | 39  | 
|         |  | ITEM 7.  |  | MANAGEMENTS
    DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
    OPERATIONS                        |     |      | 41  | 
|         |  | ITEM 7A. |  | QUANTITATIVE
    AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS                                                      |     |      | 61  | 
|         |  | ITEM 8.  |  | CONSOLIDATED
    FINANCIAL STATEMENTS                                                                                |     |      | 63  | 
|         |  | ITEM 9.  |  | CHANGES IN AND
    DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
    DISCLOSURE                         |     |      | 114 | 
|         |  | ITEM 9A. |  | CONTROLS AND
    PROCEDURES                                                                                          |     |      | 114 | 
|         |  | ITEM 9B. |  | OTHER
    INFORMATION                                                                                                |     |      | 116 | 
|PART III |  |          |  |                                                                                                                      | 116 |     
|         |  | ITEM 10. |  | DIRECTORS AND
    EXECUTIVE OFFICERS OF THE REGISTRANT                                                               |     |      | 116 | 
|         |  | ITEM 11. |  | EXECUTIVE
    COMPENSATION                                                                                           |     |      | 116 | 
|         |  | ITEM 12. |  | SECURITY
    OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT                                                   |     |      | 116 | 
|         |  | ITEM 13. |  | CERTAIN
    RELATIONSHIPS AND RELATED TRANSACTIONS                                                                   |     |      | 116 | 
|         |  | ITEM 14. |  | PRINCIPAL
    ACCOUNTANT FEES AND SERVICES                                                                           |     |      | 116 | 
|PART IV  |  |          |  |                                                                                                                      | 117 |     
|         |  | ITEM 15. |  | EXHIBITS AND
    FINANCIAL STATEMENT SCHEDULES                                                                       |     |      | 117 | 





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PART I







ITEM 1.
    BUSINESSWe are a mid-cap biotechnology company committed to building a
scientifically strong and financially successful top tier
biopharmaceutical organization that discovers, develops and
commercializes innovative molecular targeted therapies
addressing major unmet medical needs in oncology, diabetes and
obesity.

Our primary focus is oncology where our business is anchored by
our flagship product, Tarceva (erlotinib), a small molecule
inhibitor of the epidermal growth factor receptor, or EGFR. In
November 2004, Tarceva was approved by the U.S. Food
and Drug Administration, or FDA, for the treatment of advanced
non-small cell lung cancer, or NSCLC, in patients who have
failed at least one prior chemotherapy regimen and,
subsequently, in November 2005, for the treatment of
patients with locally advanced and metastatic pancreatic cancer
in combination with the chemotherapy agent, gemcitabine. Tarceva
was also approved for sale in the European Union, or EU, for the
treatment of advanced NSCLC in September 2005 and, in
January 2007, as a first-line therapy for metastatic
pancreatic cancer in combination with gemcitabine. Tarceva
achieved global sales of approximately $650 million for
2006. We co-promote Tarceva in the United States with Genentech,
Inc. and receive royalties on sales outside of the United States
from our international partner, Roche. Behind Tarceva, we have
an emerging oncology pipeline of molecular targeted therapies in
clinical and late-stage pre-clinical development.

We also have research and development programs in diabetes and
obesity which are conducted through Prosidion Limited, our U.K.
subsidiary. Our current business strategy in the diabetes and
obesity area is to progress our research projects through
clinical
proof-of-concept
studies followed by outlicensing or partnering these programs
for upfront fees, milestones and royalties. In
January 2007, we outlicensed our glucokinase activator, or
GKA, program, including our clinical candidate PSN010, which is
in Phase I studies, to Eli Lilly and Company for an upfront
fee of $25 million and up to $360 million in potential
development and sales milestones and other payments plus
royalties on any compounds successfully commercialized from the
program. We also generate revenues from our patent estate
relating to the use of dipeptidyl peptidase IV, or DPIV,
inhibitors for the treatment of type II diabetes and
related indications. Nine pharmaceutical companies have taken
non-exclusive licenses to these patents, which provide us with
upfront payments as well as potential milestones and royalties.
In the fourth quarter of 2006, one of our licensees,
Merck & Co, Inc., received approval by the FDA for its
DPIV inhibitor,
Januvia®
(sitagliptin phosphate), and commenced marketing of the drug,
which triggered the payment of a milestone and royalties to us.

On November 6, 2006, we announced our intention to divest
our eye disease business, a process which we expect to complete
by mid-2007. Our eye
disease business consists principally of Macugen (pegaptanib
sodium injection), our marketed product for the treatment of
neovascular age-related macular degeneration, or wet AMD, as
well as research assets in the eye disease area. We made the
decision to exit the eye disease business because we believe
that a key strategic goal of the acquisition of the business in
November 2005  the generation of significant
cash flow from the business in the 2006 through 2008 fiscal
years  will not be realized. Total U.S. net
sales of Macugen in 2006 were approximately $103 million
and were significantly impacted by the launch of a
competitors product. Given the financial constraints
resulting from the decline in Macugen sales on our overall
research and development budget, we do not believe that we can
optimally develop the research and development assets in our eye
disease business and continue to support Macugen in the face of
competing priorities in the oncology, diabetes and obesity
areas. We are currently negotiating with our partner, Pfizer,
Inc. for the return of U.S. rights to Macugen to us in
exchange for a royalty-free license to Pfizer to commercialize
Macugen in the rest of the world. We believe this will help
facilitate a successful divestiture of the eye business. We are
currently in discussions with several parties regarding the
divestiture of the eye disease business for an upfront fee and
/or

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future milestones and royalties. We intend to structure the
divestiture in a manner which will allow us to be compensated
for any future success of Macugen and the pipeline assets in the
eye disease business  primarily our anti-platelet
derived growth factor, or anti-PDGF, aptamer program. As a
result of this decision to divest our eye disease business, we
expect to record the financial information associated with these
operations as discontinued operations starting in the first
quarter of 2007 if we are able to finalize our plan to divest
the business.

Strategy

Our major goals for 2007 are to:




    Together with our partners, Genentech and Roche, continue to
    drive Tarceva growth commercially and through investment in
    label expansion opportunities;
    Deliver full-year profitability for the first time; and
    Continue focused and selective investments in our research,
    pre-clinical and clinical assets to provide longer-term growth.The growth of Tarceva in 2007 is centered on maximizing the
near-term commercial impact in the United States, sustaining
growth momentum outside of the United States and continuing to
expand upon the science underlying the product. In addition to
our promotional efforts, we also continue to support the
publication of data from the pivotal trials of Tarceva in
advanced NSCLC and pancreatic cancer, our BR.21 and PA.3
studies, respectively, in order to further educate the oncology
community on the attributes of Tarceva.

Outside of the United States, Roche intends to build upon a
successful first year launch for NSCLC in various key markets,
including the EU. Worldwide sales of Tarceva for 2006, excluding
U.S. sales, totaled approximately $248 million. We
receive a 21% royalty on adjusted net sales of Tarceva outside
of the United States (approximately 20.5% of net sales). In
January 2007, the EU approved the sale of Tarceva in
combination with gemcitabine for first line metastatic
pancreatic cancer. In the second half of 2007, we expect action
on the regulatory submission in Japan for Tarceva for NSCLC
filed by Chugai Pharmaceuticals Co., Ltd., or Chugai, a
subsidiary of Roche. We believe that continued uptake in the
NSCLC market combined with the addition of sales for the
pancreatic indication in the EU and sales for NSCLC in Japan, if
approved, will help to sustain steady growth for Tarceva on a
global basis.

Delivering full-year profitability in 2007 is a key goal that we
believe can be attained through diligent management of our
business and, in particular, our expenses. In addition to our
decision to divest our eye business, we have taken several steps
to carefully manage the interim costs related to the eye
business, such as closing the headquarters for our eye disease
business in Times Square, New York, at the end of 2006, and
significantly reducing headcount related to this business. We
also have minimized clinical development for Macugen and our
other eye disease programs with the exception of our
post-approval trial commitments and the LEVEL trial 
our Phase IV trial to evaluate the safety of Macugen as a
maintenance therapy for patients who have received prior
treatment for wet AMD and experienced an improvement in the
condition of their macular disease. We are decreasing our
overall general and administrative expenses by resizing our
corporate operations so that they are commensurate with our
simplified business following the divestiture of our eye disease
business. We also intend to decrease expenses related to certain
activities, such as drug formulation, API manufacturing or
toxicology studies, by outsourcing such functions in a
cost-effective manner, including off-shoring.

In addition to careful management of our expenses, we expect
that our patent portfolio around DPIV will begin to generate a
valuable flow of royalty revenues from our licensees
products. One product, Mercks Januvia, is already on the
market in the United States and received a positive opinion in
January 2007 from the Committee for Medicinal Products for
Human Use in relation to its EU regulatory approval application.
With respect to a second product, Novartis AGs
Galvus®
(vildagliptin), Novartis announced on February 26, 2007
that it had received an

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approvable letter from the FDA. A third product
candidate from Bristol-Myers Squibb Company, saxagliptin, is in
the final stages of Phase III clinical trials. Mercks
DPIV combination product,
Janumettm,
which is also covered by our DPIV license agreement with Merck,
is expected to be approved in the United States in the second
quarter of 2007.

We intend to continue to invest in clinical and pre-clinical
programs for drug candidates in oncology and diabetes and
obesity. We believe that these programs will provide an
important foundation for long-term growth. In oncology, we will
continue to advance
OSI-930, a
c-kit/
VEGFR-2 inhibitor,
through Phase I trials and, if justified, into
Phase II trials. We plan on commencing Phase I studies
for OSI-906, a novel small molecule inhibitor of the tyrosine
kinase insulin growth factor 1 receptor, or
IGF-1R, in the first
half of 2007. OSI-027,
our next-generation TORC1/TORC2 signaling inhibitor, is in
advanced pre-clinical development and we anticipate that we will
file an investigational new drug application, or IND, for this
compound by the end of 2007. PSN602, a serotonin 1A agonist
and monoamine reuptake, or S1RUP, inhibitor, is our first
obesity candidate and should commence clinical trials by the
fourth quarter of 2007. Our oncology research efforts are
focused on the biology of
epithelial-to-mesenchymal
transition, or EMT, which we believe will allow us to exploit
key molecular targets resulting in potentially synergistic
molecular targeted therapy combinations with Tarceva.

Oncology



TarcevaTarceva is an oral, once-a-day, small molecule therapeutic
designed to inhibit the receptor tyrosine kinase activity of the
protein product of the HER1/EGFR gene. HER1/EGFR is a key
component of the HER signaling pathway, which plays a role in
the abnormal growth of many cancer cells. EGFR inhibitors were
designed to arrest the growth of tumors, referred to as
cytostasis; however, under certain circumstances EGFR inhibition
can lead to apoptosis, or programmed cell death, which in turn
would result in tumor shrinkage. The HER1/EGFR gene is
over-expressed, mutated or amplified in approximately 40% to 60%
of all solid cancers and contributes to the abnormal growth
signaling in these cancer cells. There is a strong scientific
rationale and a substantial potential market for EGFR
inhibitors. While we believe that Tarceva is likely to have
utility in many oncology disease settings, the initial focus of
our development program has been on NSCLC and pancreatic cancer.

The American Cancer Society estimates that approximately 185,600
American cancer patients will be diagnosed with NSCLC in 2007.
Based on data from the Tandem Oncology Monitor, a national audit
in 2006 by Synovate, Inc. of cancer patients receiving therapy,
approximately 63,000 subsequent courses of therapy were provided
to NSCLC Stage IIIB/ IV patients following a course of
front-line chemotherapy. The American Cancer Society estimates
that approximately 33,400 cancer patients in the United States
will die from pancreatic cancer in 2007, which makes it the
fourth leading cause of cancer death in the United States. In
Europe, based on information collected by the International
Agency for Research on Cancer in Lyon, France, the most common
incident form of cancer in 2004 was lung cancer, with
approximately 381,500 cases. Lung cancer was also the most
common cause of cancer death in Europe, with approximately
341,800 deaths.

We have an ongoing collaboration with our partners, Genentech
and Roche, for the continued development and commercialization
of Tarceva. We co-promote Tarceva in the United States with
Genentech and receive a 50% share of net profits after the
deduction of costs of goods and certain sales and marketing
expenses. We are also responsible for manufacturing and supply
of Tarceva in the United States and receive reimbursement of
manufacturing costs from Genentech. Roche is responsible for
sales outside of the United States and, we receive a 21% royalty
on adjusted net sales (approximately 20.5% of net sales).
Tarceva research and development expenses that are part of the
alliances global development program generally are shared
equally among the three parties.

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We, together with Genentech and Roche, continue to invest in the
future development of Tarceva. Large scale Phase III trials
are underway which are designed to demonstrate the benefits of
Tarceva as a maintenance therapy following the treatment of
NSCLC and, separately, ovarian and colorectal cancer patients
with first-line drug combination regimens; as a maintenance
therapy adjuvant to surgery in
stage I-IIIa NSCLC
patients; and in combination with Avastin as a front-line and
second-line treatment for NSCLC patients. We have also completed
two phases of a study demonstrating that the maximum tolerated
dose, or MTD, for Tarceva in smokers is 300 mg/day, which
is twice the 150 mg/day MTD defined in previous studies. We
intend to seek a change in the prescribing information for
Tarceva reflecting the new MTD for smokers by the end of 2007.

We are also conducting a randomized Phase II study in
front-line NSCLC patients who are positive for EGFR expression
using one or both of two testing technologies
(immunohistochemistry, or IHC, and fluorescent in situ
hybridization, or FISH) using either Tarceva intercalated with
chemotherapy or as a monotherapy. We believe that these selected
patients may particularly benefit from Tarceva therapy. In
addition, approximately 200 investigator-sponsored clinical
trials and National Cancer Institute sponsored trials are
ongoing and planned, investigating other Tarceva uses and
regimens.

Commercial/Regulatory Milestones. On November 18,
2004, we received full approval from the FDA for monotherapy
Tarceva use in the treatment of NSCLC patients after the failure
of at least one prior chemotherapy regimen, and we launched
Tarceva on November 22, 2004. Tarceva was approved for
NSCLC by the European Commission for the EU in September 2005.
On November 2, 2005, the FDA approved Tarceva in
combination with gemcitabine for the treatment of advanced
pancreatic cancer in patients who have not received previous
chemotherapy. In January 2007, Tarceva was approved in the EU as
first-line therapy for metastatic pancreatic cancer in
combination with gemcitabine. As of January 31, 2007,
Tarceva has received approval in a total of 69 countries for
NSCLC and 42 countries for pancreatic cancer. Chugai has filed a
submission for approval of Tarceva in Japan which, if approved
and following pricing approval, will result in the launch of
Tarceva in Japan in the second half of 2007.

Lifecycle Plan. Our longer-term strategy for maximizing
the Tarceva brand is to focus on progressing Tarceva use to the
front-line and adjuvant settings in NSCLC, expanding Tarceva use
to other cancers, and exploring the use of Tarceva in
combination with other targeted therapies, including
Avastin®
(bevacizumab). Phase II data has shown good activity for
Tarceva in the front-line setting in NSCLC. Anti-tumor activity
has also been demonstrated in Phase II trials for ovarian,
head and neck, brain, liver and breast cancers.

Together with Genentech and Roche, we have implemented a
broad-based global development strategy for Tarceva comprised of
simultaneous clinical programs designed to potentially expand
the number of approved indications for Tarceva, evaluate its use
in new and/or novel combinations and provide additional clinical
data pertinent to our understanding of the drug. The studies are
sponsored by us, Genentech, Roche or third parties through
investigator-sponsored studies. Key studies are summarized below.

SATURN and TITAN Studies. The SATURN study is a
double-blind randomized
850-patient
Phase III study to evaluate the efficacy of Tarceva versus
placebo following four cycles of chemotherapy in patients with
advanced, recurrent or metastatic NSCLC who have not experienced
disease progression or unacceptable toxicity during the four
cycles of front-line chemotherapy. The TITAN study is a
randomized 650-patient
Phase III study to evaluate the efficacy of Tarceva
compared to either of two chemotherapy agents,
Alimta®
(pemetrexed) or
Taxotere®
(docetaxel), following front-line chemotherapy in advanced,
recurrent metastatic NSCLC patients who have experienced rapid
disease progression or unacceptable toxicity. Both the SATURN
and TITAN studies are part of our post-marketing clinical
studies agreed to with the FDA, and are currently enrolling.
Those patients who do not progress on chemotherapy are enrolled
in SATURN and randomized to Tarceva or placebo. This study, if
positive, could provide a new label for Tarceva as a front-line
maintenance therapy. We expect preliminary data from the SATURN

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study in 2008. Patients with progressive disease as best
response to platinum-containing chemotherapy are eligible for
enrollment in TITAN and are randomized to Tarceva or
chemotherapy (Alimta or Taxotere at the discretion of the
investigator). This study will provide
head-to-head
comparative data for Tarceva versus chemotherapy in the sub-set
of patients who rapidly progress on front-line chemotherapy. In
both SATURN and TITAN, tissue collection for analyses of
molecular markers is mandatory and the information gained will
be used to design future studies with Tarceva in NSCLC. The
SATURN and TITAN studies are sponsored by Roche.

RADIANT Study (Adjuvant Tarceva after Surgery and
Chemotherapy in Patients with Stage IB-IIIA NSCLC). Due to
its demonstrated efficacy, favorable safety profile and
convenience, Tarceva is well suited for testing in the adjuvant
treatment of patients with fully resected stage IB
through IIIA NSCLC. Over the last few years, it has been
confirmed that certain patients with resectable NSCLC benefit
from platinum-containing adjuvant chemotherapy. This treatment
paradigm is becoming the standard of care in the United States.
In the 945-patient
RADIANT study, patients with fully resected NSCLC who are
EGFR-positive by IHC and/or FISH and do or do not receive
platinum-containing adjuvant chemotherapy are randomized to
Tarceva or placebo for up to two years. This study has the
potential to change the standard of care for patients with early
stage NSCLC and to increase the number of patients that may
survive this disease. We began opening sites and enrolling
patients to this study in late 2006. We hope to complete
enrollment in 2009 with interim data available in 2010.

Phase II Study in Enriched Population. The use of
molecular markers to select patients with NSCLC for treatment
with Tarceva may be useful in identifying patients who could
particularly benefit from Tarceva therapy. This is especially
true in earlier stages of disease where multiple treatment
choices are available. Results from our registrational study for
NSCLC, the BR.21 study, suggest that patients with tumors that
are EGFR positive by either FISH and/or IHC derive a larger
survival benefit from Tarceva than those with EGFR negative
tumors. We are conducting a
140-patient
Phase II study in which we are prospectively selecting
patients with untreated NSCLC based on EGFR positivity using IHC
and/or FISH. Patients with tumors that are EGFR-negative by both
IHC and FISH are excluded from the study. After enrollment,
patients are randomized to either single agent Tarceva or
Tarceva intercalated with chemotherapy. The treatment regimen
for the patients in the Tarceva plus chemotherapy arm differs
from the concurrent regimen utilized in the two front-line
Phase III Tarceva studies. We hypothesize that the
administration of Tarceva in combination with chemotherapy in a
unique schedule to patients with EGFR-positive tumors may have
the potential for an increased effect on survival when compared
with historical controls. The study is currently enrolling.

Phase II Study in Never-smokers. The Cancer and
Leukemia Group B, or CALGB, is conducting a randomized
Phase II study in previously untreated NSCLC patients who
never smoked or were previous light smokers. 180 patients
with Stage IIIB or IV disease will receive either
Tarceva alone or in combination with the drugs carboplatin and
paclitaxel. This study examines prospectively the results seen
in retrospective analyses of the never-smoking patients in the
TRIBUTE and BR.21 randomized Phase III studies. In TRIBUTE,
the never-smoker group receiving Tarceva in combination with
chemotherapy had a median survival of 22.5 months, compared
to 10.1 months for those receiving chemotherapy alone, and
in BR.21, the hazard ratio for benefit in never-smokers was 0.42
with a single agent response rate of 24.7%. (A hazard ratio is a
statistical measure of the difference in overall survival
between the study drug and the control group. A hazard ratio of
less then one indicates a reduction in the risk of death.) The
CALGB study is currently open in more than 50 study centers
which are part of the CALGB cooperative group network and has
been endorsed by The Eastern Cooperative Oncology Group, or
ECOG, and it is expected that ECOG-member institutions will soon
be able to participate in this study.

Smoker Maximum Tolerated Dose Study. Pharmacokinetic
analyses from our BR.21 study suggest that patients that are
current smokers have lower drug exposure. In addition, as judged
by the lower incidence of rash and diarrhea, these patients
appear to have a less marked biological effect from Tarceva.
Retrospective analyses for

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the BR.21 study showed that the treatment effect of Tarceva on
survival was less pronounced in this population. A Phase I
study in healthy volunteers demonstrated that the plasma levels
of Tarceva achieved in active smokers were approximately half
those observed in non-smokers. In 2006, OSI initiated a
two-stage Phase I dose escalation study with Tarceva in
NSCLC patients who continue to smoke. The first part of the
study established the MTD of Tarceva in this population as
300 mg/day. The second stage of the study has been
initiated to compare the steady state pharmacokinetics of
Tarceva at the 300 mg/day versus 150 mg/day. This
stage of the study is currently enrolling.

Beta and Atlas Studies. Two additional studies in NSCLC
are being conducted by our partner, Genentech. The first study,
referred to as Beta Lung, is a Phase III, multicenter,
placebo-controlled, double-blind, randomized trial to evaluate
the efficacy of Avastin in combination with Tarceva compared
with Tarceva alone for the treatment of advanced NSCLC in the
second line setting. This trial is currently ongoing and has
randomized 360 of the planned 650 patients. The study is a
significant step toward an all targeted (non-chemotherapy)
combination treatment option for NSCLC. Results of the trial are
anticipated in 2008. The second study, referred to as ATLAS, is
a randomized, double-blind, placebo-controlled, Phase IIIb
study that compares Avastin therapy with Avastin plus Tarceva as
a maintenance therapy after completion of chemotherapy plus
Avastin for the first-line treatment of locally advanced,
recurrent, or metastatic NSCLC. This trial is being conducted in
the United States and is currently enrolling. Results of the
trial are anticipated in 2009.

Ovarian and Colorectal Cancer Studies. Additional
collaborative Phase III trials are under way in both
ovarian cancer and colorectal cancer. The ovarian cancer study
is an 830-patient
Phase III trial being conducted by the European
Organization for Research into the Treatment of Cancer and
follows a similar maintenance protocol to the one described
above for NSCLC in which Tarceva is used as a monotherapy
following initial chemotherapy. The colorectal cancer study is a
640-patient study being
conducted through a study group in the EU and also employs
Tarceva in a maintenance setting. This four-arm study tests
Tarceva as a maintenance therapy and also explores the use of
Avastin in combination with the established front-line
chemotherapy regimens FOLFOX and XELOX that are widely employed
in the treatment of colorectal cancer. Both of these studies are
currently enrolling patients.

Investigator Sponsored Studies. In addition to the
studies listed above, there are approximately 200
investigator-sponsored studies and National Cancer
Institute/Cancer Therapy Evaluation Program (CTEP) and
Division of Cancer Prevention studies ongoing or planned in the
Tarceva program. These studies are exploring monotherapy and
combination uses of Tarceva, including with novel agents, in
various tumor types and with a variety of treatment modalities,
such as radiation and surgery. Some studies are also examining
the use of Tarceva earlier in the treatment paradigm in both the
adjuvant and chemoprevention settings. In general, many of these
studies are carried out at minimal cost to us or our partners
beyond the supply of Tarceva.

Sales and Marketing. In order to maximize the Tarceva
brand and to ensure the optimal competitive positioning of
Tarceva, we entered into a co-development and commercialization
alliance with Genentech and Roche in January 2001. Under the
alliance, Genentech leads the marketing efforts in the United
States and Roche sells and markets the drug in the rest of the
world. Under our agreement with Genentech, we are committed to
provide at least 25% of the U.S. sales effort. Our oncology
sales specialists currently perform sales calls to certain
high-volume physician call targets and associated medical staff
in addition to attending our promotional exhibit booths at
medical meetings and tradeshows. We believe that our sales team
is a key contributor to the Tarceva sales effort.

The OSI/Genentech/Roche Alliance. We manage the ongoing
development program for Tarceva with Genentech and Roche through
a global development committee under a Tripartite Agreement
among the parties. OSI and Genentech are parties to a
collaboration agreement which was amended in 2004 to provide us
with the

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right to co-promote Tarceva. The OSI/Genentech collaboration
agreement continues until the date on which neither we nor
Genentech are entitled to receive a share of the operating
profits or losses on any products resulting from the
collaboration, that is, until the date that we and Genentech
mutually agree to terminate the collaboration or until either
party exercises its early termination rights as described as
follows. The OSI/Genentech collaboration agreement is subject to
early termination in the event of certain customary defaults,
such as material breach of the agreement and bankruptcy.
Genentech also has the right to terminate the OSI/Genentech
collaboration agreement with six months prior written
notice. The provisions of the amendment allowing us to
co-promote are also subject to termination by Genentech upon a
material breach of the amendment by us, which remains uncured,
or upon a pattern of non-material breaches which remain uncured.
In 2004, we signed a Manufacturing and Supply Agreement with
Genentech that clarified our role in supplying Tarceva for the
U.S. market.

We are also parties to an agreement with Roche whereby we have
provided Roche with the right to sell Tarceva worldwide except
for the United States, its territories, possessions and Puerto
Rico, in exchange for a royalty. The OSI/Roche agreement
continues until the date on which we are no longer entitled to
receive a royalty on products resulting from the development of
Tarceva, that is, until the date of expiration or revocation or
complete rejection of the last to expire patent covering Tarceva
or, in countries where there is no valid patent covering
Tarceva, on the tenth anniversary of the first commercial sale
of Tarceva in that country. The OSI/Roche agreement is subject
to early termination in the event of certain customary defaults,
such as material breach of the agreement and bankruptcy. In
addition, Roche has the right to terminate the agreement on a
country-by-country basis with six months prior written
notice. We also currently have the right to terminate the
agreement on a country-by-country basis if Roche has not
launched or marketed a product in such country under certain
circumstances.

Manufacturing and Supply. We currently manage the supply
of Tarceva in the United States through third-party
manufacturers. Under our collaboration agreement with Genentech,
we are responsible for the manufacture and supply of erlotinib,
the active pharmaceutical ingredient, or API, and Tarceva
tablets for pre-clinical and clinical trials and for the supply
of commercial quantities of Tarceva tablets for sales within the
United States. Under our collaboration agreement with Roche,
Roche has elected to take responsibility for the manufacture and
supply of Tarceva tablets for sales outside of the United States.

Erlotinib is manufactured in a three-step process with high
yield. Sumitomo Chemical Co., Ltd. and Dipharma S.p.A are our
manufacturers of the API used for commercial supplies. Both of
these manufacturers have also manufactured API for Tarceva
clinical trials. Schwarz Pharma Manufacturing, Inc. is our
manufacturer of Tarceva tablets and placebo product for clinical
and commercial supplies. We have entered into long term supply
agreements with our API and tablet manufacturers. We are working
to qualify another manufacturer to serve as an alternative
(i.e., back-up) provider of Tarceva tablets. Clinical supplies
of Tarceva tablets are currently stored, labeled, packaged and
distributed by Cardinal Health Clinical Services, and Cardinal
Health Packaging Services also labels and provides secondary
packaging services for commercial supplies of Tarceva tablets
before their subsequent distribution to Genentech or a storage
facility designated by Genentech. All manufacturers of the API
and Tarceva tablets are required to comply with current good
manufacturing practices, or CGMPs. We have produced sufficient
quantities of Tarceva tablets to conduct our ongoing clinical
trials, and we have a supply chain organization in place, with
inventory on hand, to support the commercial sales of Tarceva.



Our Oncology Research and
    Development Strategy and ProgramsThe entire drug discovery and development process typically
takes well over a decade and is subject to substantial risk and
attrition. A significant majority of drug candidates which enter
clinical trials fail to result in a successful product with
typical metrics for the industry suggesting that only
approximately one in eight drug

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candidates that enter clinical trials will result in a
successful product. We have built, over two decades, extensive
expertise in the discovery and development of molecular targeted
therapies  drugs designed to directly inhibit a
biomolecule that we believe to be causally or mechanistically
involved in the disease state we are addressing. Observations
from our translational research on Tarceva coupled with our
expertise in molecular targeted therapies has led to our focus
on the biology of a process known as
epithelial-to-mesenchymal
transition, or EMT, which may allow us to identify key molecular
targets for the development of optimal combination regimens that
may enhance the treatment of certain types of solid tumors. The
results from our research in this area may allow us to develop
synergistic combination regimens that could enhance the
likelihood of success of Tarceva in additional indications.

Translational Research. Translational research is an area
of investigation designed to bridge our research knowledge base
into the clinic and the marketplace, and one of the key goals
for our translational research group has been to generate data
that could enhance the quality of the clinical strategies for
compounds within our development portfolio. The current emphasis
of our translational research program is on Tarceva, and a
series of collaborations and studies are ongoing. Our
translational research group has pioneered research on
Tarcevas effects on different types of cancer cells
relative to EMT. EMT is characterized by the combined loss of
epithelial cell junction proteins, such as
E-cadherin, and the
gain of mesenchymal markers, such as vimentin, fibronectin or
MMP-2. An increase in the proportion of cancer cells in a tumor
that exhibit the loss of
E-cadherin and the
acquisition of a more mesenchymal phenotype has been shown to
correlate with poor prognosis in multiple epithelial derived
solid tumors. Retrospective analysis of tumor samples from the
TRIBUTE Phase III study of Tarceva in combination with
chemotherapy for the treatment of front-line NSCLC patients
suggested that those patients whose tumors abundantly expressed
E-cadherin responded
better to Tarceva. By acquiring or co-opting a mesenchymal
phenotype, we believe that epithelial derived tumor cells
acquire or gain the ability to migrate, invade and metastasize.
These properties suggest the need to target distinctly different
molecular targets in order to effectively treat these tumors.
With this new insight, our development project teams are
planning studies of markers of EMT and EGFR signaling in
retrospective and prospective clinical trials for Tarceva. These
studies may enhance the likelihood of success of Tarceva in
additional indications by selecting those patients most likely
to respond to therapy.

Dual c-Kit/ VEGFR-2 Program. OSI-930 is a multi-targeted
tyrosine kinase inhibitor that principally acts as a potent
co-inhibitor of the receptor tyrosine kinases c-kit and the
vascular endothelial growth factor receptor-2, or VEGFR-2. It is
designed to target both cancer cell proliferation and blood
vessel growth, or angiogenesis, in selected tumors. We have
completed Phase I dose escalation studies of OSI-930 in
healthy volunteer patients and a Phase I dose escalation
study in cancer patients is ongoing. We also have a second
development candidate in our c-Kit/ VEGFR-2 program, OSI-817,
which serves as a
back-up candidate to
OSI-930.

The mutated Kit receptor is directly involved in tumor
progression in the majority of gastrointestinal stromal tumors
and certain leukemias, and over-expressed normal Kit is thought
to play a role in small cell lung cancer. The inhibition of the
tyrosine kinase activity of Kit is expected to result in reduced
cancer cell proliferation and increased cellular apoptosis in
tumor types driven by Kit, resulting in inhibition of tumor
growth. In addition to inhibiting Kit activity, both OSI-930 and
OSI-817 are also capable of inhibiting the VEGFR-2 receptor
tyrosine kinase. This receptor is present on endothelial cells
and is a key mediator of blood vessel growth in response to the
angiogenic growth factor VEGF. This pathway is believed to be
the single most important mechanism for recruitment of new blood
vessels in nearly all solid tumors; hence, inhibition of this
pathway should impact the growth and metastases of a wide range
of angiogenesis-dependent malignancies. While the combination of
Kit and VEGFR-2 inhibition would be expected to offer the
greatest therapeutic benefit to patients bearing Kit expressing
solid tumors, the VEGFR-2 component is considered an attractive
target for all solid tumors. Targeting anti-angiogenesis is a
very competitive arena in oncology today with two oral small
molecules and one antibody therapeutic already approved

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and being marketed. A key determinant of the success of our
program will be our ability to differentiate OSI-930 from its
competitors.

OSI-906. OSI-906 is a selective inhibitor of IGF-1R.
IGF-1R stimulates proliferation, enables oncogenic
transformation, and suppresses apoptosis. It has been one of the
most widely pursued targets of drug discovery in the oncology
arena over the last decade but efforts have been hampered by the
close resemblance of IGF-1R to the insulin receptor. A key
determinant of the success of this program will be our ability
to block IGF-1R without causing extensive hyperglycemia
indicating a co-inhibition of the insulin receptor. Inhibitors
of IGF-1R are expected to have broad utility in oncology since
the over-expression of IGF-1R and/or its ligands (IGF-I and
IGF-II) or the down-regulation of ligand binding proteins, or
IGFBPs, occurs in numerous human malignancies including lung,
colon, breast, prostate, brain and skin cancers. Correlations of
IGF-1R and ligand over-expression with increased risk and poor
prognosis have been observed. In addition, signaling through the
IGF system has been implicated in protecting tumor cells from
apoptosis induced by a number of anti-cancer treatments such as
EGFR inhibitors (e.g., Tarceva and the anti-HER2/erbB2 antibody
Herceptin®
(trastuzumab)) and cytotoxic agents. We believe that OSI-906 may
be useful both as a single agent and in the potentiation of
other molecularly targeted therapeutic agents such as Tarceva.
We have found that the combination of an EGFR inhibitor with an
IGF-1R inhibitor is synergistic in certain NSCLC cell lines. We
filed the IND for OSI-906 in the fourth quarter of 2006 and we
anticipate that Phase I clinical trials will commence in
the first half of 2007.

OSI-027. OSI-027 is a next-generation mammalian target of
rapamycin (mTOR) kinase inhibitor that inhibits the kinase
activity associated with both the TORC1 and TORC2 complexes of
mTOR. This dual TORC1 and TORC2 activity differentiates our
compound from rapamycin and the various related analogs, or
rapalogs, that are currently in clinical development in that
these molecules only inhibit TORC1 activity. The PI-3 kinase/
Akt/mTOR signaling pathway is thought to regulate cell growth,
proliferation and survival and as a result mTOR has attracted
much attention as a target for the treatment of cancer. The
inappropriate activation of mTOR can occur via a variety of
mechanisms including loss of PTEN protein function, the mutation
or amplification of the p85 regulatory subunit of PI-3 kinase
and the overexpression of receptor tyrosine kinases such as the
ErbB family, PDGFR and IGF-1R. Numerous human tumors show loss
of PTEN function, mutation of PI-3 kinase and/or overexpression
of receptor tyrosine kinases, or RTKs, and may thus be
susceptible to mTOR inhibition. The rapalogs have activity
against human cancer; however, it is thought that their activity
is limited by their inability to completely block
phosphorylation of 4EBP1, one of the downstream targets of mTOR.
Thus, the dual mTOR kinase inhibitor was developed as a means to
maximize the pharmacological impact of mTOR blockade in
comparison to that observed with the rapalogs. Moreover, we have
found that the combination of an EGFR inhibitor with an
inhibitor of mTOR is synergistic in certain tumor cell lines. We
expect to file an IND for OSI-027 before the end of the fourth
quarter of 2007.

Oncology Discovery. Given the importance and relevance of
EMT to the therapeutic activity of Tarceva, we have focused our
discovery efforts on exploiting our understanding of the
signaling pathways that drive EMT and on identifying drug
targets that could lead to novel molecular targeted therapies.
This focus is an extension of our existing strategy to exploit
signaling pathways involved in the control of the proliferation
and/or modulation of tumor cell apoptosis. We are employing
various processes from an EMT perspective in our oncology
research, and such processes may allow us to identify compounds
and appropriate combinations of targeted therapies that could
have a broad range of activity in a disease indication for which
there is strong biological support. Emerging data suggest that
alternative pathways are operative in mesenchymal-type tumor
cells that activate the key cell signaling protein Akt in an
IGF-1R and EGFR independent manner, although the molecular
mechanisms responsible for such Akt activation remain unclear at
this time. These observations raise the possibility that new
drug targets and new drug combinations can be identified through
our research efforts on EMT. We believe that our continued focus
on EMT

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biology and rational molecular targeted therapy combinations
will enable us to establish a uniquely differentiated platform
within the biotechnology and pharmaceutical industries and will
enhance the probability of technical success associated with our
oncology discovery and development programs.



NovantroneNovantrone (mitoxantrone concentrate for injection) is an
anthracenedione used as an intravenous chemotherapy agent.
Novantrone is approved by the FDA for the treatment of acute
non-lymphocytic leukemia, and the relief of pain associated with
advanced hormone refractory prostate cancer. We market and
promote Novantrone for these approved oncology indications in
the United States pursuant to a co-promotion agreement with an
affiliate of Merck Serono, S.A. signed in March 2003. We receive
commissions from Merck Serono on net oncology sales in this
market. The patent for Novantrone expired in April 2006, which
resulted in the loss of market exclusivity for Novantrone.
Following the patent expiration, we experienced an anticipated
significant decrease in our commissions related to Novantrone as
a result of a large decrease in oncology sales due to generic
competition. Under our agreement with Merck Serono, we are also
no longer obligated to pay fees associated with the sales and
marketing of Novantrone.



Collaborative Development
    Programs with PfizerFrom 1986 to 2001, our oncology drug discovery efforts in
targeted therapies were conducted in collaboration with Pfizer.
During the course of the alliance, several novel molecular
targeted therapies, including Tarceva, were advanced to clinical
development. Pfizer is continuing to develop two clinical stage
targeted therapies from this prior alliance: CP-547,632, a VEGFR
inhibitor in Phase II trials, and CP-868,596, a PDGFR
inhibitor in Phase I trials. Pursuant to our agreement with
Pfizer for this collaboration, if Pfizer is successful in
commercializing either of these drug candidates, we will receive
a royalty from Pfizer on the sales of these drugs. If Pfizer
chooses to discontinue development of any of these drug
candidates, we will have the right to pursue development of
them. In 2006, Pfizer ceased development of CP-724,714, a small
molecule HER-2 inhibitor, and rights to this compound were
returned to us. We have chosen not to proceed with development
of this compound at this time.



Outlicensing of Certain
    Clinical ProgramsOSI-754. In December 2006, we outlicensed OSI-754, an
oral farnasyl transferase inhibitor, to Link Medicine
Corporation. Under the terms of the license, Link Medicine
received an exclusive license to OSI-754 in all indications with
the exception of oncology, and we received an upfront payment,
along with potential fees, milestones and royalties upon
successful development of this compound by Link Medicine.

OSI-211,
Aptosyn®
(exisulind), and OSI-461. We have entered into a letter
of intent with The Channel Group, LLC to outlicense our clinical
compounds Aptosyn and OSI-461, which we acquired from Cell
Pathways, Inc., and OSI-211, which we acquired from Gilead
Sciences, Inc. The transaction, if consummated, would provide us
with an upfront payment, as well as potential future milestone
and royalty payments.

Diabetes and Obesity



Diabetes and Obesity
    Clinical Programs and Discovery ResearchOur diabetes and obesity research and development programs are
carried out through our wholly-owned UK-based subsidiary,
Prosidion. Our most advanced program, PSN9301, is a DPIV
inhibitor, one of the most topical targets in diabetes drug
development today. DPIV inhibitors are designed to regulate
blood glucose by preventing the breakdown of GLP-1, a key
glucose regulatory hormone that is cleaved and inactivated by
DPIV. We acquired our DPIV program, together with a portfolio of
patents and patent applications with claims covering DPIV as a
target for anti-diabetes therapy and licensed rights to patent
applications claiming combinations of DPIV inhibitors with

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other oral anti-diabetes drugs such as metformin, from
Probiodrug AG in July 2004 for approximately $35 million in
cash plus future milestones relating to PSN9301.

PSN9301. PSN9301 is an oral, fast-acting inhibitor of
DPIV, which cleaves and inactivates glucagon-like
peptide-1, or GLP-1, an
important mediator of blood glucose levels. Inhibition of DPIV
leads to enhanced GLP-1 activity which leads to increased
insulin secretion and decreased glucagon secretion resulting in
significant lowering of both mean and post-prandial blood
glucose levels. The increased insulin secretion has been shown
to be glucose-dependent, providing a possible built-in safety
mechanism against hypoglycaemia, or abnormally low blood sugar
levels. The field for DPIV inhibitors is competitive.
Mercks Januvia was approved for sale in the United States
in late 2006 and Janumet, its combination of sitagliptin and
metformin, is expected to be approved later in 2007. While
numerous other pharmaceutical companies are currently developing
DPIV inhibitors, we believe that PSN9301 is potentially
differentiated from these competing products in that it has a
very rapid onset of action and a relatively short duration of
action and, therefore, is an ideal product candidate for
prandial, or mealtime, dosing. It is anticipated that prandial
dosing may result in less interference with other DPIV
substrates between meals and overnight. PSN9301 has undergone a
Phase IIa clinical trial which demonstrated that PSN9301
reduced blood glucose levels in type 2 diabetics by between 25%
and 42% in oral glucose tolerance tests. As a result of the
strong competitive environment for DPIV inhibitors, including
the recent approval of Mercks Januvia, we are pursuing
partnering opportunities to support the ongoing development of
this compound.

PSN602. PSN602, a S1RUP inhibitor, is currently
undergoing late-stage pre-clinical testing and we expect to
begin clinical trials for this agent by the fourth quarter of
2007. The S1RUP program is a central nervous system targeted
approach which targets satiety by serotonin 1A agonism and
monoamine reuptake (S1RUP) inhibition and we are seeking to
develop a compound that overcomes some of the cardiovascular
side-effects associated with the marketed product sibutramine.
PSN602 is the first anti-obesity molecule discovered by us to
enter development.

PSN010. In January 2007, we outlicensed PSN010, an oral,
small molecule activator of glucokinase, or GKA, to Eli Lilly.
Glucokinase activators have a dual effect in the pancreas and
the liver resulting in increased hepatic glucose uptake in the
liver and stimulated insulin secretion by the pancreas. Under
the terms of our license with Eli Lilly, Eli Lilly is
responsible for all aspects of clinical development,
manufacturing and commercialization of PSN010 or any
back-up compound
included within the licensed GKA program. In return for such
rights, we received an upfront payment of $25 million and
will potentially receive milestones of up to $360 million
and a competitive royalty structure on net sales of any product
arising from the licensed GKA program.

Discovery Research. We currently have one advanced
project in discovery research which is focused on diabetes
and/or obesity and targets selective agonists of the novel
G-protein coupled receptor, GPR119. This program has potential
utility both in the anti-obesity and diabetes area. We
anticipate selecting a development candidate from this project
during mid-2007. We also have several exploratory projects
targeting diabetes and/or obesity.

Cessation of PSN357. In the fourth quarter of 2006, after
a review of the preliminary Phase II data, we suspended
further clinical development of PSN357, a glycogen phosphorylase
inhibitor, which was in Phase IIa clinical trials for
therapeutic intervention in type 2 diabetes.



Our DPIV Outlicensing
    ProgramThe DPIV assets we acquired from Probiodrug include issued and
pending patents and patent applications with claims covering
DPIV as a target for anti-diabetes therapy and licensed rights
to patent applications claiming combinations of DPIV inhibitors
with other oral anti-diabetes drugs such as metformin. Our
rights to this patent estate of DPIV medical use patents provide
us with a source of upfront payments, and milestone and royalty
revenue through the issuance of non-exclusive licenses to the
patent estate. Nine pharmaceutical companies,

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including Novartis, Merck and Bristol-Myers Squibb, have taken
licenses to this patent estate. These licenses provide us with
upfront payments, milestones and royalties which vary according
to the individual license agreements. In October 2006, Merck
announced that it had received FDA approval for its DPIV
inhibitor, Januvia, which resulted in our receipt of a milestone
payment and provides us with royalty payments. Merck also
received a positive opinion for Januvia in January 2007 from the
Committee for Medicinal Products for Human Use in relation to
its EU regulatory approval application. Merck has filed an NDA
for Janumet, its combination product, and could receive approval
as early as March 2007. Further, Novartis recently received an
approvable letter from the FDA for its DPIV
inhibitor Galvus. An approval of Galvus would trigger milestone
and royalty payments to us from commercial launch.

Eye Disease

On November 6, 2006, we announced our intention to divest
our eye disease business, a process which we expect to complete
by mid-2007. We made the decision to exit the eye disease
business because we believe that a key strategic goal of the
acquisition of the business in November 2005  the
generation of significant cash flow from the business in the
2006 through 2008 fiscal years  will not be realized.
Given the resulting financial constraints on our overall
research and development budget, we do not believe that we can
optimally develop the research and development assets in our eye
disease business and continue to support Macugen in the face of
competing priorities in the oncology and diabetes and obesity
areas. As we seek to divest our eye disease business, we have
taken several steps to carefully manage the interim costs
related to this business, such as closing the headquarters for
our eye disease business in Times Square at the end of 2006, and
significantly reducing headcount related to this business. We
have also minimized clinical development for Macugen and our
other eye disease programs with the exception of our
post-approval trial commitments and the LEVEL trial.

We are currently negotiating with our partner, Pfizer, for the
return of U.S. rights to Macugen to us in exchange for a
royalty-free license to Pfizer to commercialize Macugen in the
rest of the world. We believe this will help facilitate a
successful divestiture of the eye business. We are also
currently in discussions with several parties regarding the sale
of the eye disease business for an upfront fee and/or future
milestones and royalties. We intend to structure the sale in a
manner which will allow us to be compensated for any future
success of Macugen and the pipeline assets in the eye
business  primarily our PDGF aptamer program. As a
result of this decision to divest our eye disease business, we
anticipate that we will record financial information associated
with these operations as discontinued operations starting in the
first quarter of 2007 if we are able to finalize our plan to
divest the business.

Our eye disease business consists principally of Macugen, our
marketed product for the treatment of wet AMD, which was
launched in the United States in January 2005. Macugen is a
novel therapeutic (a pegylated aptamer) that selectively binds
to the VEGF-A
isoform-165, the
pathogenic isoform causing choroidal neovascularization
associated with wet AMD. Macugen is administered inside the eye
once every six weeks via an intravitreous injection, and
addresses the abnormal blood vessel growth and blood vessel
leakage that is believed to be the underlying cause of the
disease. Total U.S. net sales for Macugen were
approximately $103 million for the year ended
December 31, 2006 and were significantly impacted by the
launch of a competitors product. Macugen is
co-promoted in the
United States by our specialty ophthalmology sales force as part
of a co-development and marketing arrangement with Pfizer. We
currently share with Pfizer on a 50/50 basis the gross profits
of Macugen sales in the United States. We and Pfizer are
responsible for our own sales costs and we share equally with
Pfizer manufacturing, regulatory and marketing costs. Pfizer is
responsible for all commercialization of Macugen outside of the
United States. For sales of Macugen outside of the United
States, we receive the greater of 20% of product operating
profit or a 15% royalty.

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Macugens share of the wet AMD market has been
significantly impacted by competition from two Genentech
products: Lucentis, an anti-VEGF-A agent, which was approved in
the United States in June 2006 and in the EU in January 2007,
and off-label use of Genentechs anti-cancer agent Avastin,
which is approved in the United States for the systemic,
intravenous treatment of certain cancers. Unlike Macugen,
Lucentis and Avastin are non-selective
VEGF-A inhibitors
designed to inhibit all isoforms of the VEGF molecule. Avastin
has been re-packaged and/or
re-formulated for
intravitreous injection by independent compounding pharmacies
and used extensively in an off-label manner by retinal
specialists in the United States. However, there may be
potential safety issues associated with the use of both Avastin
and Lucentis for the treatment of wet AMD, including the
potential for stroke. We therefore developed a strategy which
contemplates the induction of therapy with agents like Lucentis
and Avastin that may cause a gain in patients vision,
followed by maintenance of these vision gains with Macugen. This
strategy is the basis of our ongoing LEVEL study, a
Phase IV trial designed to demonstrate the safety of
Macugen when used in this manner. The primary endpoint of the
LEVEL study is the proportion of subjects losing less than three
lines on the ETDRS chart at the end of 52 weeks, and the
secondary endpoint is the measurement of retinal thickness and
leakage. Enrollment of this study is targeted at
1,000 patients, with 277 patients enrolled as of
January 31, 2007. We expect to complete enrollment in this
trial by July 2007.



Other Macugen Clinical
    ProgramsPhase II/ III Pivotal Trials. In December 2004
we announced that the FDA had approved Macugen for the treatment
of wet AMD based on data from our VISION trials. We have
completed approximately four and a half years of our
Phase II/III pivotal clinical trials for the use of Macugen
in the treatment of wet AMD. These
Phase II/ III
clinical trials are ongoing to generate long-term safety
data for up to five years.

Wet AMD Post-Approval Commitment Study. We and Pfizer
have agreed with the FDA that the original post-approval safety
study, EOP1014, will be terminated. Instead, we will meet our
post-approval safety study obligations to investigate corneal
safety and neural retinal function in patients treated with
Macugen through our other ongoing trials.

Macugen plus PDT Combination Study for Wet AMD. This
Phase III combination trial, which was to compare Macugen
and PDT with Visudyne versus Macugen alone, to determine if
patients with the predominantly classic form of wet AMD benefit
from combination therapy, is currently being wound down and will
be terminated by the second quarter of 2007.

DME Clinical Study. A Phase III trial in diabetic
macular edema, commenced in September 2005, has been amended in
order to convert it into a
300-patient,
single-dose study to support potential registration in the EU.
This trial will be managed and funded solely by Pfizer.



Sales and
    MarketingWe commercialize Macugen with our collaboration partner, Pfizer.
Under this arrangement, we and Pfizer
co-promoteMacugen
in the United States. We have granted Pfizer the exclusive right
to develop and commercialize Macugen outside the United States
under a royalty-bearing license. As part of our decision to
divest our eye disease business, we have streamlined our
commercial organization in order to manage expenses in the
interim while preserving a core operating group which can be
transferred to a potential buyer. As of February 1, 2007,
our commercial organization in ophthalmology was reduced to
approximately 55 employees, 48 of whom were in sales and
marketing and the remainder of whom were in medical affairs and
reimbursement.



Collaboration with
    PfizerIn December 2002, we entered into several concurrent agreements
with Pfizer to jointly develop and commercialize Macugen for the
prevention and treatment of diseases of the eye and related
conditions. We are currently

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negotiating with Pfizer to amend and/or
terminate our various agreements to provide for the return of
the U.S. rights to us in exchange for our 
 grant of a royalty-free license to Pfizer to
commercialize Macugen in the rest of the world.



Distribution and
    PricingWe distribute Macugen in the United States primarily through
three national distributors that specialize in pharmaceutical
product distribution to specialty markets: McKesson Corporation,
CuraScript Inc. and Besse Medical. Under these arrangements, we
ship Macugen to our distributors and title and risk of loss pass
upon shipment to the distributors. These distributors sell
Macugen to physicians, physician group practices, hospitals,
federal government buying groups and clinics. Our agreement with
Pfizer provides that the parties will mutually agree on the
pricing of Macugen.



ManufacturingWe currently depend on third parties to manufacture Macugen. We
engaged a third party manufacturer, Degussa Canada, an
independent operating subsidiary of Degussa AG, to produce the
active pharmaceutical ingredient used in Macugen. Under the
terms of our agreement with Degussa, we are obligated to
purchase minimum specified percentages of our requirements for
the API through 2008.

For our commercial and clinical trial supply of Macugen, we
engaged Gilead in December 2003 as a separate fill and finish
manufacturer to formulate the active pharmaceutical ingredient
from a solid into a solution and to fill the solution into
syringes. Under the terms of our agreement with Gilead, we are
obligated to purchase minimum specified percentages of our
requirements through January 2008.



Macugen License
    AgreementsWe license key components of Macugen pursuant to the following
license agreements:

Gilead. In March 2000, we entered into an agreement with
Gilead and one of its subsidiaries for an exclusive worldwide
license for the API for Macugen. In exchange for the rights
licensed from Gilead, we pay royalties to Gilead based on net
sales of Macugen by us or our affiliates or sublicensees and
milestones triggered by certain events. Upon the expiration of
the last-to-expire
royalty term, the agreement expires and, at our option, our
license from Gilead either (1) survives and remains
exclusive, in which case we would be obligated to continue
paying Gilead a reduced royalty on product sales or
(2) survives and converts to nonexclusive, in which case we
would not have any further royalty obligation to Gilead.

Nektar Therapeutics. In February 2002, we entered into a
license, manufacturing and supply agreement with Nektar
Therapeutics, formerly Shearwater Corporation, pursuant to which
Nektar supplies us with the reagent that we link to the aptamer
to create the API in Macugen. Under the terms of the agreement,
Nektar granted us various exclusive and non-exclusive worldwide
licenses, with the right to grant sublicenses, under patents and
know-how related to the reagent controlled by Nektar, to
develop, manufacture and commercialize Macugen. In exchange for
these rights, we pay Nektar royalties based on net sales of
Macugen by us or our affiliates or sublicensees. Nektar also has
an exclusive right to supply us with the pegylation reagent for
Macugen, subject to Nektar meeting its supply obligations. The
agreement expires upon the expiration of the
last-to-expire patent
licensed by us from Nektar. The U.S. patent rights licensed
to us by Nektar expire between 2013 and 2016.

Isis Pharmaceuticals. In December 2001, we entered into a
non-exclusive license agreement with Isis Pharmaceuticals, Inc.,
which grants us rights under patents owned or controlled by Isis
to commercialize Macugen worldwide. In exchange for this
license, we pay Isis royalties based on net sales of Macugen and
milestones triggered by certain events. The U.S. patent
rights we license from Isis expire between 2010 and 2014.

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Our Intellectual Property

Patents and other proprietary rights are vital to our business.
Our policy is to protect our intellectual property rights
through a variety of means, including applying for patents in
the United States and other major industrialized countries, to
operate without infringing on the valid proprietary rights of
others and to prevent others from infringing our proprietary
rights. We also rely upon trade secrets and improvements,
unpatented proprietary know-how and continuing technological
innovations to develop and maintain our competitive position. In
this regard, we seek restrictions in our agreements with
third-parties, including research institutions, with respect to
the use and disclosure of our proprietary technology. We also
enter into confidentiality agreements with our employees,
consultants and scientific advisors.

We have obtained patents for erlotinib, the API for Tarceva, in
the United States, Europe, Japan, and a number of other
countries. These patents expire in the major commercial markets
in 2015. We are pursuing extensions of the patent term or of the
data exclusivity term in the countries where such extensions are
available. Significantly, we filed for patent term extensions
that we anticipate will extend our U.S. patent for
erlotinib to November 2018 and corresponding patents in Europe
to March 2020. We also are currently pursuing U.S. and
international patents for various other formulations of
erlotinib and related intermediate chemicals and processes in an
effort to enhance our intellectual property rights in this
compound. We have obtained a patent covering key polymorphic
forms of Tarceva in the United States, which we anticipate will
provide us with added patent exclusivity for erlotinib through
2020. We are also currently seeking patent protection for
additional methods of use for Tarceva, including the use of
Tarceva in combination with other compounds.

We have filed a number of U.S. and international patent
applications relating to the
OSI-930,
OSI-817,
OSI-906 and
OSI-027 compounds, each
of which we are developing as potential treatments for cancer.
We have been granted a U.S. patent which protects the
OSI-930 compound and
method of use until 2024.

We have obtained patents for PSN9301 in the United States,
Europe and six other countries. Corresponding patent
applications are pending in Japan and a number of other
countries. These patents will expire in 2019 with the
possibility for patent term extensions of up to five years. We
have also obtained patents for the specific salt form of PSN9301
in the United States and in Europe. Corresponding patent
applications are pending in Japan and a number of other
countries. These patents expire in 2022 and there may be the
possibility for patent term extension in some of these
countries. We are also pursuing patent applications for the use
of PSN9301 in combination with other antidiabetic agents, such
as metformin, and processes used in its manufacture. Uses of
PSN9301 are also protected by our DPIV medical use patent estate.

The DPIV technology we acquired from Probiodrug includes a
portfolio of medical use patents. This portfolio contains a
number of patent families comprising issued and pending patents
and patent applications with claims covering DPIV as a target
for anti-diabetes therapy and related indications. We also have
licensed sub-licensable rights to patents and patent
applications claiming combinations of DPIV inhibitors with other
oral anti-diabetes drugs such as metformin. Merck and Novartis
are non-exclusive licensees under these medical use patents,
together with seven other pharmaceutical companies. We are
entitled to future potential milestones and royalties arising
from the licenses under this patent portfolio. Patents which are
the subject of these licenses will expire between 2017 and 2023.
The earliest of these patents, which claims the use of DPIV
inhibitors for lowering blood glucose levels, was revoked by the
European Patent Office in May 2004. We are currently appealing
the revocation of our patent by the European Patent Office,
which has the effect of suspending the revocation of the patent
until the appeal is decided. No date has yet been set for the
hearing of the appeal proceedings. If we are unsuccessful in
defending this opposition and the patent is revoked without the
further possibility of appeal, this will potentially reduce the
royalty revenue we derive from the non-exclusive licenses we
have granted in those territories where the patent is revoked.

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We have also sought patent protection for PSN602, our S1RUP
inhibitor candidate, and potential
back-up candidates for
this compound, as well as for compounds arising from the GPR119
receptor project.

In the ophthalmology arena, we exclusively license from Gilead a
patent portfolio related to Macugen which includes issued
patents in the United States, Europe, Japan and a number of
other countries. These patents expire between 2010 and 2017 in
the United States. We are pursuing extensions of the patent term
or of the data exclusivity term in the United States and in the
countries where such extensions are available, which we
anticipate will extend the patents in Europe to 2021. We also
license exclusively and non-exclusively from Nektar patents
related to the pegylation reagent, and license non-exclusively
from Isis patents related to oligonucleotide modifications of
the Macugen API. We are currently seeking U.S. and international
patents for additional formulations and methods of use for
Macugen, including a sustained release formulation of Macugen.

We license exclusively a patent portfolio related to E10030, an
anti-PDGF aptamer, under our collaboration agreement with
Archemix Corp. This patent portfolio includes patents which have
issued in the United States and patent applications which are
pending in Europe, Japan, Canada and Australia. We are also
seeking U.S. and international patents for anti-VEGF/anti-PDGF
combination therapies.

We have assembled a strong gene transcription patent portfolio
which we have non-exclusively out-licensed to a number of
pharmaceutical companies. We also have non-exclusive licenses
from Cadus Pharmaceutical Corporation consisting of seven
U.S. patents and additional U.S. and foreign applications,
and Wyeth, consisting of four U.S. patents and additional
foreign applications, to a portfolio of patents and applications
covering yeast cells engineered to express heterologous
G-protein coupled
receptors, or GPCRs, and
G-protein polypeptides,
methods of use thereof in screening assays, and DNAs encoding
biologically active yeast-mammalian hybrid GPCRs.

Our Competition

The pharmaceutical and biotechnology industries are very
competitive. We face, and will continue to face, intense
competition from large pharmaceutical companies, as well as from
numerous smaller biotechnology companies and academic and
research institutions. Our competitors are pursuing technologies
that are similar to those that comprise our technology platforms
and are pursuing pharmaceutical products or therapies that are
directly competitive with ours. Many of these competitors have
greater capital resources than we do, which provides them with
potentially greater flexibility in the development and marketing
of their products and has led us, in the case of Tarceva to seek
partnerships with leading biotechnology and pharmaceutical
industry allies, like Genentech and Roche, in order to ensure
our competitiveness on a global basis.

The market for oncology products is very competitive, with
several products currently in Phase III development. Most
major pharmaceutical companies and many biotechnology companies,
including our collaborators for Tarceva, Genentech and Roche,
currently devote a portion or all of their operating resources
to the research and development of new oncology drugs or
additional indications for oncology drugs which are already
marketed.

The current competition to Tarceva in the second and third line
settings for the NSCLC indication includes existing chemotherapy
options such as Alimta, Taxotere and Gemzar. In addition, in
October 2006, the FDA approved Avastin in combination with
chemotherapy for the first-line treatment of patients with
unresectable, locally advanced, recurrent or metastatic
non-squamous NSCLC. Although Avastin in combination with
chemotherapy is not approved for the treatment of second line
NSCLC, off-label use of Avastin in this setting could limit the
market share for Tarceva. A key factor for penetrating the
second line setting is successfully convincing oncologists to
switch from conventional chemotherapy to Tarceva and to employ
Tarceva more extensively in the treatment of patients with good
performance status prior to the use of additional chemotherapy
agents. In limited markets where
Iressa®
(gefitinib) is available, such as Japan and Canada, Tarceva
will compete against Iressa for market share. Other oncology
drugs currently in clinical trials for treatment of NSCLC either
as a single agent or in

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combination, such as
Erbitux®
(cetuximab),
Vectibixtm
(panitumumab),
Velcade®
(bortezomib),
Sutent®
(sunitib malate),
Nexavar®
(sorafenib),
Zactimatm
(vandetanib),
Xyotaxtm
(paclitaxel) and
Telcytatm
(TLK286) could compete for market share in NSCLC in the future.

In the pancreatic setting, Tarceva may experience competition
from Erbitux if ongoing studies for this drug produce positive
results. Additionally, Roche announced favorable results for its
chemotherapy product,
Xeloda®
(capecitabine), in pancreatic cancer in combination with
gemcitabine. If Roche succeeds in gaining regulatory approval
for Xeloda for the treatment of pancreatic cancer, it could
impact Tarcevas market share in this indication.

OSI-930 is in Phase I clinical trials. As it is a dual
c-Kit/ VEGFR-2 inhibitor, it would potentially compete against
Avastin,
Gleevec®
(imatinib mesylate), Sutent, and Nexavar, each of which is
already in the market. In addition, at least six other VEGF or
VEGFR-2 targeted agents are in development, some of which are,
like OSI-930, multi-targeted small molecule tyrosine kinase
inhibitors.

In the diabetes and obesity arena, a number of pharmaceutical
and biotechnology companies are conducting clinical trials of
potential drugs in the same areas as our drug discovery and
development programs. We are aware of at least six competitors,
Merck, Novartis, Bristol-Myers Squibb, Takeda Pharmaceutical
Company Limited, Merck KGaA and Pfizer with DPIV inhibitor
clinical candidates for the treatment of diabetes. We believe
that certain of these potential drugs are at a more advanced
stage of development than our clinical candidate, PSN9301. In
October 2006, Merck received FDA approval for Januvia, its DPIV
inhibitor, and Novartis filed an NDA for its DPIV inhibitor,
Galvus, in January 2006 and received an approvable
letter from the FDA in late February 2007. Given that Januvia
has reached the market earlier than PSN9301 and others may also
receive regulatory approval prior to PSN9301, we may be at a
competitive disadvantage at the time, if ever, that we receive
regulatory approval to commercialize PSN9301. We must therefore
clearly distinguish the profile of PSN9301 from other DPIV
inhibitors if we are to successfully compete in the marketplace
with this product. Additionally, if scientific developments
change our understanding of the product differentiation of
PSN9301 from that of our competitors products, the
competitive positioning and market potential of PSN9301 may be
detrimentally affected. Our glucokinase activator, PSN010, which
we have outlicensed to Eli Lilly, faces potential competition
from Roche and Novo Nordisk A/ S, who have, at various times,
announced similar GKA research and development activities.

Government Regulation

We and our collaborative partners are subject to, and any
potential products discovered and developed by us must comply
with, comprehensive regulation by the FDA in the United States
and by comparable authorities in other countries. These national
agencies and other federal, state, and local entities regulate,
among other things, the pre-clinical and clinical testing,
safety, effectiveness, approval, manufacture, quality, labeling,
distribution, marketing, export, storage, record keeping,
advertising and promotion of pharmaceutical and diagnostic
products.

The process required by the FDA before a new drug
(pharmaceutical product) or a new route of administration of a
pharmaceutical product may be approved for marketing in the
United States generally involves:




    pre-clinical laboratory and animal tests;
    submission to the FDA of an IND, which must be in effect before
    clinical trials may begin;
    adequate and well-controlled human clinical trials to establish
    the safety and efficacy of the drug for its intended
    indication(s);
    FDA compliance inspection and/or clearance of all manufacturers;
    submission to the FDA of a new drug application , or
    NDA; and17



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
    FDA review of the NDA or product license application in order to
    determine, among other things, whether the drug is safe,
    effective and of appropriate quality for its intended uses.Pre-clinical and clinical testing should conform with all
applicable regulations and guidances regarding good laboratory
practices and good clinical practices, respectively, including
requirements for institutional review board, or IRB, ethics
approvals and informed consent. Failure to comply may result in
an agency rejection of the data and a corresponding delay in
approving the drug.

Clinical trials are time-consuming and costly and typically are
conducted in three sequential Phases, which may overlap. During
Phase I, when the drug is initially given to human
subjects, the product is tested for safety, dosage tolerance,
absorption, distribution, metabolism, excretion and,
increasingly for targeted therapies, for effects on potential
biomarkers of activity. Phase I studies are often conducted
with a limited number of healthy volunteers depending on the
drug being tested; however, in oncology or other areas where the
product may be too inherently toxic to ethically administer to
healthy volunteers, Phase I trials are more often conducted
in patients.

Phase II involves studies in a limited patient population,
typically patients with the conditions needing treatment, to:




    evaluate preliminarily the efficacy of the product for specific,
    targeted indications;
    determine dosage tolerance and optimal dosage; and
    identify possible adverse effects and safety risks.Pivotal or Phase III adequate and well-controlled trials
are undertaken in order to evaluate efficacy and safety in a
comprehensive fashion within an expanded patient population for
the purpose of registering the new drug.

Meeting clinical endpoints in early stage clinical trials does
not assure success in later stage clinical trials. The FDA
monitors the progress of each of the three phases of clinical
trials that are conducted under an IND and may, at its
discretion, reevaluate, alter, suspend or terminate clinical
trials at any point in this process for various reasons,
including a finding that patients are being exposed to an
unacceptable health risk or if they decide it is unethical to
continue the study. The FDA can also request additional clinical
trials be conducted as a condition to product approval.
Additionally, new government requirements may be established
that could delay or prevent regulatory approval of products
under development. Furthermore, IRBs have the authority to
suspend clinical trials at any time for a variety of reasons,
including safety issues.



FDA Approval ProcessFDA approval of our own and our collaborators products is
required before the products may be commercialized in the United
States. The process of obtaining NDA approvals from the FDA can
be costly and time consuming and may be affected by
unanticipated delays.

New indications or other changes to an already approved product
also must be approved by the FDA. A supplemental new drug
application, or sNDA, is a supplement to an existing NDA that
provides for changes to the NDA and therefore requires FDA
approval. There are two types of sNDAs depending on the content
and extent of the change. These two types are
(i) supplements requiring FDA approval before the change is
made and (ii) supplements for changes that may be made
pending FDA approval. Supplements to the labeling that change
the indication section require prior FDA approval before the
change can be made to the labeling. Clinical trials are
necessary to support sNDAs for new indications.

Under the Pediatric Research Equity Act of 2003, an application
for a new active ingredient, new indication, new dosage form,
new dosing regimen, or new route of administration is required
to contain an assessment, generally based on clinical study
data, of the safety, efficacy, and dosing of the drug for all
relevant pediatric

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populations. The statute provides for full or partial waivers or
deferrals of this requirement in certain situations. The FDA
reviews all NDAs submitted before it accepts them for filing. It
may refuse to file the application and request additional
information rather than accept an NDA for filing, in which case,
the application must be resubmitted with the supplemental
information. Once an NDA is accepted for filing, the FDA begins
an in-depth review of the application to determine, among other
things, whether a product is safe and effective for its intended
use. Drugs that successfully complete NDA review may be marketed
in the United States, subject to all conditions imposed by the
FDA. Data obtained from clinical activities are not always
conclusive and may be susceptible to varying interpretations,
which could delay, limit or prevent regulatory approval. The FDA
has substantial discretion in the approval process and may
disagree with an applicants interpretation of the data
submitted in its NDA. The FDA also may issue an
approvable letter which indicates that the FDA is
prepared to approve an NDA, but only upon the satisfaction of
the conditions described in the letter, such as submitting
additional information or conducting additional studies.
Notwithstanding the submission of any requested additional
information, the FDA ultimately may decide that the marketing
application does not satisfy the regulatory criteria for
approval and refuse to approve the application by issuing a
not approvable letter.

Even if a product receives regulatory approval, the approval may
be significantly limited to specific diseases and dosages.
Further, even after regulatory approval is obtained, later
discovery of previously unknown problems with a product may
result in restrictions on the product or even complete
withdrawal of the product from the market.

Both before and after market approval is obtained, a product,
its manufacturer and the holder of the NDA for the product are
subject to comprehensive regulatory oversight. Any drug products
manufactured or distributed pursuant to FDA approvals are
subject to continuing regulation by the FDA, including
record-keeping requirements, submitting periodic reports to the
FDA, maintaining and providing updated safety and efficacy
information to the FDA, reporting of adverse experiences with
the drug, drug sampling and distribution requirements, notifying
the FDA and gaining its approval of certain manufacturing or
labeling changes, and complying with the FDAs promotion
and advertising requirements. The FDA may also impose certain
post-marketing commitments as a condition of product approval,
or Phase IV commitments, which are required at the time of
approval. This commitment may involve continued testing of a
product and development of data, including clinical data, about
the products effects in various populations and any side
effects associated with long-term use.

Manufacturing procedures must conform to cGMPs which must be
followed at all times. In complying with these requirements,
manufacturers, including a drug sponsors third-party
contract manufacturers, must continue to expend time, money and
effort in the area of production, quality assurance and quality
control to ensure compliance. Manufacturing establishments are
subject to periodic inspections by the FDA in order to assess,
among other things, compliance with cGMP. To supply products for
use in the United States, foreign manufacturing establishments
also must comply with cGMPs and are subject to periodic
inspection by the FDA or by regulatory authorities in certain
countries under reciprocal agreements with the FDA.

We are required to comply with requirements concerning
advertising and promotional labeling. Our advertising and
promotional labeling must be truthful, not misleading and
contain fair balance between claims of efficacy and safety. We
are prohibited from promoting any claim relating to safety and
efficacy that is not approved by the FDA, otherwise known as
off-label use of products. Physicians may prescribe
drugs for uses that are not described in the products
labeling and that differ from those approved by the FDA. Such
off-label uses are common across medical specialties, including
in the area of oncology. Physicians may believe that such
off-label uses are the best treatment for many patients in
varied circumstances. Although the FDA does not regulate the
behavior of physicians in their choice of treatments, the FDA
does restrict our communications to physicians and patients on
the subject of off-label use. Failure to comply with this
requirement could result in adverse publicity, significant

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enforcement action by the FDA, including warning letters,
corrective advertising, orders to pull all promotional
materials, and substantial civil and criminal penalties. The
Department of Justice may also pursue enforcement actions
against off-label promotion which could result in criminal
and/or civil fines, as well as other restrictions on the future
sales of our products.

We are also required to comply with post-approval safety and
adverse event reporting requirements. Adverse events related to
our products must be reported to the FDA according to regulatory
timelines based on their severity and expectedness. Failure to
make required safety reports and to establish and maintain
related records could result in withdrawal of a marketing
application.

Violations of regulatory requirements at any stage, including
after approval, may result in various adverse consequences,
including the FDAs delay in approving or refusal to
approve a product, withdrawal or recall of an approved product
from the market, other voluntary or FDA-initiated action that
could delay further marketing, and the imposition of criminal
penalties against the manufacturer and NDA holder. In addition,
later discovery of previously unknown problems may result in
restrictions on the product, manufacturer or NDA holder,
including withdrawal of the product from the market.

Tarceva and Macugen are protected by a portfolio of patents.
Separate and apart from patent protection, the Drug Price
Competition and Patent Term Restoration Act of 1984, also known
as the Hatch-Waxman Act, entitles our products to various
periods of non-patent statutory protection, known as marketing
exclusivity. For Tarceva and Macugen, the five-year period of
new chemical entity Hatch-Waxman exclusivity expires on
November 18, 2008 and December 17, 2008, respectively.
The patent system and marketing exclusivity work in tandem to
protect our products. Thus, even if our patents are successfully
challenged by our competitors, another manufacturer cannot
submit an application for generic or modified versions of
Tarceva or Macugen until the respective marketing exclusivity
periods end.

Four years into this marketing exclusivity period (i.e.,
as of November 18, 2008 for Tarceva and December 17,
2008 for Macugen) however, the Hatch-Waxman Act permits another
manufacturer to submit an application for approval of generic or
modified versions of our products by alleging that one or more
of the patents listed in Tarcevas or Macugens NDA
are invalid or not infringed. This allegation is commonly known
as a Paragraph IV certification. If a Paragraph IV
certification is filed, the NDA and patent holders may bring a
patent infringement suit against the applicant. If this action
is brought within 45 days of receipt of the
Paragraph IV notification, FDA is then prevented from
approving for 30 months an abbreviated new drug
application, or ANDA, for a generic version, or any NDA for a
modified version of either drug, where the applicant does not
own or have a right of reference to all of the data required for
approval, known as a 505(b)(2) application.

This 30-month stay may
end early, however, if a court finds the patent invalid or not
infringed. If, on the other hand, a court finds the patent valid
and infringed, the ANDA or 505(b)(2) application may not be
approved until the expiration of the patent. If we or the patent
holder or NDA holder decides not to sue within 45 days, the
FDA may approve the ANDA or 505(b)(2) application whenever the
requirements for approval are met.

The Hatch-Waxman Act also provides for the restoration of a
portion of a patent term lost during product development and FDA
review of an application. However, the maximum period of
restoration cannot exceed five years, or restore the total
remaining term of the patent to greater than 14 years from
the date of FDA approval of the product. The patent term
restoration period is generally one-half of the time between the
effective date of the IND and the date of submission of the NDA,
plus the time between the date of submission of the NDA and the
date of FDA approval of the product. Only one patent claiming
each approved product is eligible for restoration and the patent
holder must apply for restoration within 60 days of
approval. The United States Patent and Trademark Office, in
consultation with FDA, reviews and approves the application for
patent term restoration. In the future, we may

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consider applying for patent term restoration for some of our
currently owned or licensed patents, depending on the expected
length of clinical trials and other factors involved in the
filing of an NDA.



Pricing and
    Reimbursement.Insurance companies, health maintenance organizations, other
third-party payors and federal and state governments seek to
limit the amount they reimburse for our drugs. Although there
are currently no government price controls over private sector
purchases in the United States, federal legislation requires
pharmaceutical manufacturers to pay prescribed rebates on
certain drugs to enable them to be eligible for reimbursement
under certain public health care programs. Various states have
adopted mechanisms under Medicaid that seek to control drug
reimbursement, including by disfavoring certain higher priced
drugs and by seeking supplemental rebates from manufacturers.
Managed care has also become a potent force in the market place
that increases downward pressure on the prices of pharmaceutical
products. Federal legislation enacted in December 2003 has
altered the way in which physician-administered drugs covered by
Medicare are reimbursed, generally leading to lower
reimbursement for physicians. As of January 1, 2005,
physicians are reimbursed for physician-administered drugs, such
as Macugen, based on the average sales price of the drug plus
6%. The average sales price is the average net price of a drug
to all non-federal purchasers. Price discounts will affect the
drug reimbursement rates. We currently provide a discount on
Macugen to a group purchasing organization. To date, we have not
discounted the sale of Tarceva to non-federal purchasers, other
than routine prompt payment discounts, although there can be no
assurances that market pressures will not require us to provide
such discounts in the future.

Effective January 1, 2006, an expanded prescription drug
benefit for all Medicare beneficiaries known as Medicare
Part D commenced. This is a voluntary benefit that is being
implemented through private plans under contractual arrangements
with the federal government. Like pharmaceutical coverage
through private health insurance, Part D plans establish
formularies that govern the drugs and biologicals that will be
offered and the
out-of-pocket
obligations for such products. Generally, such plans include
Tarceva within the scope of the plan, with beneficiaries having
to pay various amounts of copayments when obtaining Tarceva.

Regulatory approval of prices is required in most foreign
countries. Certain countries will condition their approval of a
product on the agreement of the seller not to sell that product
for more than a certain price in that country and in the past
have required price reductions after or in connection with
product approval. Certain foreign countries also require that
the price of an approved product be reduced after that product
has been marketed for a period of time. Some European
governments, notably Germany and Italy, have implemented, or are
considering, legislation that would require pharmaceutical
companies to sell their products subject to reimbursement at a
mandatory discount. Such mandatory discounts would reduce the
revenue we receive from our drug sales in these countries.



Other Regulation.In addition to regulations enforced by the FDA, we must also
comply with regulations under the Occupational Safety and Health
Act, the Environmental Protection Act, the Toxic Substances
Control Act, the Resource Conservation and Recovery Act and
other federal, state and local regulations. For example, sales,
marketing and scientific/educational grant programs must comply
with the Medicare-Medicaid Anti-Fraud and Abuse provisions in
the federal Social Security Act, as amended, the False Claims
Act, also as amended, the privacy rules issued pursuant to the
Health Insurance Portability and Accountability Act of 1996, and
similar state laws. If products are made available to authorized
users of the Federal Supply Schedule of the General Services
administration, additional laws and requirements may apply. All
of these activities are also potentially subject to federal and
state consumer protection and unfair competition laws. In
addition, our research and development activities involve the
controlled

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use of hazardous materials, chemicals and various radioactive
compounds the handling and disposal of which are governed by
various state and federal regulations.

We are also subject to various federal and state laws pertaining
to health care fraud and abuse, including
anti-kickback laws and false claims laws. Anti-kickback laws
generally make it illegal for a prescription drug manufacturer
to solicit, offer, receive, or pay any remuneration in exchange
for, or to induce, the referral of business, including the
recommendation, purchase or prescription of a particular drug.
Due to the breadth of the statutory provisions, the limited
regulatory guidance for some of these laws, and few court
decisions addressing the application of some of these laws to
industry practices, it is possible that our practices might be
challenged under some anti-kickback or similar laws. False
claims laws prohibit, among other things, anyone from knowingly
and willfully presenting, or causing to be presented for payment
to third party payors (including Medicare and Medicaid), claims
for reimbursed drugs or services that are false or fraudulent,
claims for items or services not provided as claimed, or claims
for medically unnecessary items or services. Our activities
relating to the sale and marketing of our products may be
subject to scrutiny under these laws. Violations of fraud and
abuse laws may be punishable by criminal and/or civil sanctions,
including imprisonment, fines and civil monetary penalties, as
well as the possibility of exclusion from federal health care
programs (including Medicare and Medicaid). If the government
were to allege or convict us of violating these laws, our
business could be harmed. In addition, under some of these laws,
there is an ability for private individuals to bring similar
actions. Our activities could be subject to challenge for the
reasons discussed above and due to the broad scope of these laws
and the increasing attention being given to them by law
enforcement authorities. Further, there are an increasing number
of state laws that require manufacturers to make reports to
states on pricing and marketing information. Many of these laws
contain ambiguities as to what is required to comply with the
laws. Given the lack of clarity in laws and their
implementation, our reporting actions could be subject to the
enforcement and penalty provisions of the pertinent state
authorities.

Our Employees

We believe that our success is largely dependant upon our
ability to attract and retain qualified employees. As of
December 31, 2006, we had a total of 611 full time
employees worldwide. As of February 7, 2007, our number of
employees decreased to 554, of which 276 primarily are involved
in research, development and manufacturing activities and 140
primarily are involved in the commercialization of our products.
We expect that an additional 89 employees will depart during
2007 as we streamline our overall operations as a result of our
decision to divest our eye disease business.

Available Information

We file our annual reports on
Form 10-K,
quarterly reports on
Form 10-Q and
current reports on
Form 8-K pursuant
to Section 13(a) or 15(d) of the Securities Exchange Act of
1934 electronically with the Securities and Exchange Commission,
or SEC. The public may read or copy any materials we file with
the SEC at the SECs Public Reference Room at 100 F Street,
NE, Washington, DC 20549. The public may obtain information on
the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330. The SEC
maintains an Internet site that contains reports, proxy and
information statements, and other information regarding issuers
that file electronically with the SEC. The address of that site
is http://www.sec.gov.

You may obtain a free copy of our annual reports on
Form 10-K,
quarterly reports on
Form 10-Q and
current reports on
Form 8-K and
amendments to those reports on the day of filing with the SEC on
our website on the World Wide Web at http://www.osip.com or by
contacting the Investor Relations Department at our corporate
offices by calling (631) 962-2000 or sending an
e-mail message to
investorinfo@osip.com.

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ITEM 1A.
    RISK FACTORSThis report contains forward-looking statements that do not
convey historical information, but relate to predicted or
potential future events, such as statements of our plans,
strategies and intentions, or our future performance or goals
for our product development programs. These statements can often
be identified by the use of forward-looking terminology such as
believe, expect, intend,
may, will, should, or
anticipate or similar terminology. The statements
involve risks and uncertainties and are based on various
assumptions. Stockholders and prospective stockholders are
cautioned that these statements are only projections. In
addition, any forward-looking statement that we make is intended
to speak only as of the date on which we made the statement.
Except for our ongoing obligations to disclose material
information under the federal securities laws, we will not
update any forward-looking statement to reflect events or
circumstances that occur after the date on which the statement
is made. The following risks and uncertainties, among others,
may cause our actual results to differ materially from those
described in forward-looking statements made in this report or
presented elsewhere by management from time to time.

Risks Related to Our Business

We depend heavily on our principal marketed product, Tarceva,
to generate revenues in order to fund our operations.

We currently derive much of our revenues from our principal
marketed product, Tarceva, which provided approximately 55% of
our total revenues for the year ended December 31, 2006.
Going forward, we will rely to an even greater extent on Tarceva
to generate revenues. Our ability to maintain or increase our
revenues and overall market share for Tarceva will depend on,
and may be limited by, a number of factors, including the
following:




    We must maintain and seek to expand the market share, both in
    the United States and in the rest of the world, and revenues for
    Tarceva in the treatment of second-line and third-line NSCLC and
    for first-line pancreatic cancer;
    Physicians may be reluctant to switch from existing treatment
    methods, including traditional chemotherapy agents, to Tarceva;
    The market for oncology products is very competitive, and there
    are marketed products and products which are currently in
    Phase III development that are or could be competitive with
    Tarceva;
    We must be successful in our clinical trials for additional
    indications and in receiving approval from the FDA and our
    foreign counterparts to market and sell Tarceva in such
    additional indications; and
    Third-party payors, including private health coverage insurers
    and health maintenance organizations, must continue to provide
    adequate coverage or reimbursement for Tarceva.If Tarceva were to become the subject of problems related to
its efficacy, safety, or otherwise, or if new, more effective
treatments were introduced into the market, our revenues from
Tarceva could decrease.

If Tarceva becomes the subject of problems, including those
related to, among others:




    efficacy or safety concerns with the product, even if not
    justified;
    unexpected side-effects;
    regulatory proceedings subjecting the product to potential
    recall;
    publicity affecting doctor prescription or patient use of the
    product;
    pressure from competitive products;23



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
    introduction of more effective treatments; or
    manufacturing or quality problems that would reduce or disrupt
    product availability.our revenues from Tarceva could decrease. For example, efficacy
or safety concerns from time to time arise, whether or not
justified, that could lead to additional safety warnings on the
label or to the recall or withdrawal of Tarceva. In the event of
a recall or withdrawal of Tarceva, our revenues would decline
significantly.

We depend heavily on our co-development and marketing
alliance with Genentech and Roche for Tarceva. If Genentech or
Roche terminate these alliances, or are unable to meet their
contractual obligations, it would negatively impact our revenues
and harm our business.

Tarceva is being developed and commercialized in an alliance
under co-development and marketing agreements with Genentech and
Roche. Genentech leads the marketing efforts in the United
States and Roche markets the drug in the rest of the world. The
OSI/ Genentech collaboration agreement continues until the date
on which neither we nor Genentech are entitled to receive a
share of the operating profits or losses on any products
resulting from the collaboration, that is, until the date that
we and Genentech mutually agree to terminate the collaboration
or until either party exercises its early termination rights as
described as follows. The OSI/ Genentech collaboration agreement
is subject to early termination in the event of certain
customary defaults, such as material breach of the agreement and
bankruptcy. In addition, Genentech has the right to terminate
the OSI/Genentech collaboration agreement with six months
prior written notice. The provisions of the amendment allowing
us to co-promote are also subject to termination by Genentech
upon a material breach of the amendment by us, which remains
uncured, or upon a pattern of nonmaterial breaches which remain
uncured.

The OSI/Roche agreement continues until the date on which we are
no longer entitled to receive a royalty on products resulting
from the development of Tarceva, that is, until the date of
expiration or revocation or complete rejection of the last to
expire patent covering Tarceva or, in countries where there is
no valid patent covering Tarceva, on the tenth anniversary of
the first commercial sale of Tarceva in that country. The
OSI/Roche agreement is subject to early termination in the event
of certain customary defaults, such as material breach of the
agreement and bankruptcy. In addition, Roche has the right to
terminate the agreement on a country-by-country basis with six
months prior written notice. We also currently have the
right to terminate the agreement on a country-by-country basis
if Roche has not launched or marketed a product in such country
under certain circumstances.

If we do not maintain a successful collaborative alliance with
Genentech and Roche for the co-development and commercialization
of Tarceva, or if Genentech or Roche are unable to meet their
contractual obligations, we may be forced to focus our efforts
internally to further commercialize and develop Tarceva without
the assistance of a marketing and promotion partner. This would
require greater financial resources and would result in us
incurring greater expenses and may cause a delay in market
penetration while we expand our commercial operations or seek
alternative collaborative partners.

We are responsible for the manufacture and supply of Tarceva
in the United States. Because we have no commercial
manufacturing facilities, we are dependent on two suppliers for
the API for Tarceva and a single supplier for the tableting
of Tarceva in the United States. If any of these third parties
fails to meet its obligations, our revenues from Tarceva could
be negatively affected.

We are responsible for manufacturing and supplying Tarceva in
the United States under the terms of a Manufacturing and Supply
Agreement entered into with Genentech in 2004. We rely on two
third-party suppliers to manufacture erlotinib, the API for
Tarceva. We also currently rely on a single manufacturer to
formulate the Tarceva tablets. We are presently working to
qualify another manufacturer to serve as a
back-up provider of
Tarceva tablets.

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If our relationships with any of these manufacturers with
respect to Tarceva terminate or if these manufacturers are
unable to meet their obligations, we would need to find other
sources of supply. Such alternative sources of supply may be
difficult to find on terms acceptable to us or in a timely
manner, and, if found, would require FDA approval which could
cause delays in the availability of erlotinib and ultimately
Tarceva tablets, which, in turn, would negatively impact our
revenues derived from Tarceva.

If our competitors succeed in developing products and
technologies that are more effective than our own, or if
scientific developments change our understanding of the
potential scope and utility of our products, then our products
and technologies may be rendered less competitive.

We face significant competition from industry participants that
are pursuing products and technologies that are similar to those
we are pursuing and who are developing pharmaceutical products
that are competitive with our products and potential products.
Some of our industry competitors have greater capital resources,
larger overall research and development staffs and facilities,
and a longer history in drug discovery and development,
obtaining regulatory approval and pharmaceutical product
manufacturing and marketing than we do. With these additional
resources, our competitors may be able to respond to the rapid
and significant technological changes in the biotechnology and
pharmaceutical industries faster than we can. Our future success
will depend in large part on our ability to maintain a
competitive position with respect to these technologies. Rapid
technological development, as well as new scientific
developments, may result in our compounds, products or processes
becoming obsolete before we can recover any of the expenses
incurred to develop them.

The current competition in the United States to Tarceva in the
second and third line settings for the NSCLC indication includes
existing chemotherapy options such as Alimta, Taxotere and
Gemzar. In addition, in October 2006, the FDA approved Avastin
in combination with chemotherapy for the first-line treatment of
patients with unresectable, locally advanced, recurrent or
metastatic non-squamous NSCLC. Although Avastin in combination
with chemotherapy is not approved for the treatment of second or
third line NSCLC, off-label use of Avastin in this setting could
limit the market share for Tarceva. In certain markets where
Iressa is available, Tarceva must compete for market share.
Tarceva also currently competes, and may compete in the future,
with a number of other cancer treatments, including Erbitux,
Xeloda, Vectibix, Sutent, Nexavar and Zactima.

In the pancreatic setting, Tarceva may experience competition
from Erbitux if ongoing studies for this drug produce positive
results. Additionally, Roche announced favorable results for its
chemotherapy product, Xeloda, in pancreatic cancer in
combination with gemcitabine. If Roche succeeds in gaining
regulatory approval for Xeloda for the treatment of pancreatic
cancer, it could impact Tarcevas market share in this
indication.

In the diabetes and obesity arena, a number of pharmaceutical
and biotechnology companies are conducting clinical trials of
potential drugs in the same areas as our drug discovery and
development programs. We are aware of at least six competitors,
Merck, Novartis, Bristol-Myers Squibb, Takeda, Merck KGaA and
Pfizer with DPIV inhibitor clinical candidates for the treatment
of diabetes. We believe that certain of these potential drugs
are at a more advanced stage of development than our clinical
candidate, PSN9301. In October 2006, Merck received FDA approval
for Januvia, its DPIV inhibitor, and Novartis filed an NDA for
its DPIV inhibitor, Galvus, in January 2006. Given that Januvia
has reached the market earlier than PSN9301 and others may also
receive regulatory approval prior to PSN9301, we may be at a
competitive disadvantage at the time, if ever, that we receive
regulatory approval to commercialize PSN9301. Additionally, if
scientific developments change our understanding of the product
differentiation of PSN9301 from that of our competitors
products, the competitive positioning and market potential of
PSN9301 may be detrimentally affected. Our glucokinase
activator, PSN010, faces potential competition from Roche and
Novo Nordisk, who have, at various times, announced similar GKA
research and development activities.

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Macugen has experienced, and will continue to experience,
significant competition in the market for the treatment of wet
AMD from Lucentis and the off-label use of Avastin. Lucentis, an
anti-VEGF-A humanized antibody fragment, was launched in the
United States in July 2006. Clinicians are also engaging in
widespread off-label intravitreous administration of Avastin for
the treatment of patients with wet AMD. We estimate that
Lucentis and Avastin comprise most of the market share of
patients treated for wet AMD. While we are attempting to
establish Macugen as the optimal product for the chronic
management of wet AMD, this strategy depends on a clear
understanding by ophthalmologists and retinal specialists of a
potential higher risk for either ocular or systemic adverse
events related to Avastin and Lucentis, as well as clinical data
which support the ability of Macugen to sustain the vision gains
resulting from the initial use of Lucentis or Avastin. If this
strategy is not successful, Macugens share of the wet AMD
market may continue to decline.

Our revenues from our DPIV patent portfolio licenses are
contingent upon the ability of the licensees to successfully
develop and commercialize their products which are the subject
of these licenses.

We have licensed our DPIV medical use patent portfolio to
pharmaceutical companies developing DPIV inhibitor products. We
currently derive or have the potential to derive in the future
revenues from the milestone and royalty obligations under these
license agreements. Licensees include Merck, whose product
Januvia was approved by the FDA in late 2006 and received a
positive opinion in January 2007 from the Committee for
Medicinal Products for Human Use in relation to its European
regulatory approval application. A second product covered by our
DPIV license agreement with Merck, Janumet, is under review by
the FDA. Novartis is also a licensee and it received an
approvable letter from the FDA on February 26,
2007 with respect to its product, Galvus. There can be no
assurance that Janumet, Galvus or any other DPIV inhibitors
covered by license agreements with us will be approved by the
FDA or other regulatory authorities or that we will derive
royalty revenues from these agents. The extent to which we
receive revenue under such licenses depends on our ability to
enforce our patent rights in our DPIV portfolio and the progress
and success of our licensees products. If any of our
licensees terminate their DPIV inhibitor programs or do not
seek, or fail to receive, regulatory approval for their DPIV
inhibitor products, the revenues we receive from such licensees
will be reduced.

Although we have clinical candidates in the pipeline for
oncology and diabetes and obesity that appear to be promising at
early stages of development, none of these potential products
may reach the commercial market for a number of reasons.

Successful research and development of pharmaceutical products
is high risk. Most products and development candidates fail to
reach the market. Our success depends on the discovery of new
drugs that we can commercialize. Our pipeline for our oncology
and diabetes and obesity clinical programs is at an early stage.
Other than the development of Tarceva for additional
indications, there is currently one oncology candidate in
clinical trials,
OSI-930. This
candidate, which is currently in Phase I trials, targets
the co-inhibition of c-kit/ VEGFR-2 receptor. Our lead clinical
candidate for diabetes is PSN9301, a DPIV inhibitor that targets
type 2 diabetes, which completed Phase IIa. We have
temporarily suspended development of PSN9301 while we seek a
partnering opportunity for this clinical candidate to offset
development costs. Our oncology candidates, OSI-906, an IGF-1R
inhibitor, and OSI-027, are currently in the pre-clinical stage
of development. We are also developing PSN602, a S1RUP
inhibitor, which is currently undergoing pre-clinical testing
prior to entry into Phase I trials in the fourth quarter of
2007. Given the early stage of each of these clinical
candidates, there can be no assurance at this time that any of
them will become a marketed drug.

The clinical candidates in our pipeline may never reach the
market for a number of reasons. They may be found ineffective or
may cause harmful side-effects during pre-clinical testing or
clinical trials or fail to receive necessary regulatory
approvals. Interim results of pre-clinical or clinical studies
are not necessarily predictive of their final

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results, and acceptable results in early studies might not be
seen in later studies, in large part because earlier phases of
studies are often conducted on smaller groups of patients than
later studies, and without the same trial design features, such
as randomized controls and long-term patient
follow-up and analysis.
We may find that certain products cannot be manufactured on a
commercial scale and, therefore, they may not be economical to
produce. Our products could also fail to achieve market
acceptance or be precluded from commercialization by proprietary
rights of third parties.

We must provide the FDA and similar foreign regulatory
authorities with pre-clinical and clinical data that demonstrate
that our product candidates are safe and effective for each
target indication before they can be approved for commercial
distribution. The pre-clinical testing and clinical trials of
any product candidates that we develop must comply with
regulations by numerous federal, state and local government
authorities in the United States, principally the FDA, and by
similar agencies in other countries. Clinical development is a
long, expensive and uncertain process and is subject to delays.
We may encounter delays or rejections based on our inability to
enroll or keep enrolled enough patients to complete our clinical
trials, especially as new competitors are approved to enter into
the market. Patient enrollment depends on many factors,
including the size of the patient population, the nature of the
trial protocol, the proximity of patients to clinical sites and
the eligibility criteria for the trial. Although we have not to
date experienced any significant delays in enrolling clinical
trial patients for our ongoing clinical trials, delays in
patient enrollment for future trials may result in increased
costs and delays, which could have a harmful effect on our
ability to develop products.

A significant portion of the research that we are conducting
involves new and unproven technologies. Research programs to
identify disease targets and product candidates require
substantial technical, financial and human resources whether or
not we ultimately identify any candidates. Our research programs
may initially show promise in identifying potential product
candidates, yet fail to yield candidates for clinical
development for a number of reasons, including difficulties in
formulation which cannot be overcome, inadequate intellectual
property protection and timing and competitive concerns.

A component of our business strategy is to enter into
collaborations with third parties to research, develop and
commercialize certain of our products, or to outlicense clinical
candidates, when we believe that doing so will maximize product
value or when the products or candidates are no longer
considered to be part of our core business. We may not be
successful in establishing such collaborations or entering into
such license agreements, which could adversely affect the
prospects for these products to become commercialized.

A component of our business strategy is to enter into
collaborations with third party collaborators for the research,
development and commercialization of certain of our product
candidates, or to outlicense our clinical candidates, when we
believe that doing so will maximize the potential for the
product. We face significant competition in seeking appropriate
collaborators and licensees. Moreover, these collaboration
arrangements and license agreements can be complex to negotiate
and time consuming to document. We may not be successful in our
efforts to establish additional collaborations or outlicensing
arrangements. If we are unable to reach such agreements, we may
fail to meet our business objectives for the relevant product or
program. The terms of any additional collaborations or license
agreements that we establish for our product candidates may not
be as favorable to us than if we had pursued independent
development and commercialization. Moreover, these
collaborations or license agreements may not be successful and
the termination of these arrangements might adversely affect our
ability to develop, commercialize and market certain of our
products.

The success of any of these potential collaboration arrangements
will depend heavily on the efforts and activities of our future
collaborators and licensees. Our collaborators and licensees
will have significant discretion in

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determining the efforts and resources that they will apply to
the products subject to these arrangements. The risks that we
face in connection with these arrangements include the following:




    Our collaborators and licensees may develop and commercialize,
    either alone or with others, products and services that are
    similar to or competitive with the products that are the subject
    of our arrangements with them; and
    Our collaborators and licensees 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 our
    products to reach their potential could be limited if our
    collaborators and licensees decrease or fail to increase
    spending relating to such products.Our reliance on third parties, such as clinical research
organizations, or CROs, may result in delays in completing, or a
failure to complete, clinical trials if they fail to perform
under our agreements with them.

In the course of product development, we engage CROs to conduct
and manage clinical studies. Because we have engaged and intend
to continue to engage CROs to help us conduct our clinical
studies and obtain market approval for our drug candidates, many
important aspects of this process have been and will be out of
our direct control. If the CROs fail to perform their
obligations under our agreements with them or fail to perform
their responsibilities with respect to clinical trials in
compliance with good clinical practices, regulations and
guidelines enforced by the FDA, we may face delays in completing
our clinical trials, as well as commercialization of our drug
candidates. Furthermore, any loss or delay in obtaining
contracts with such entities may also delay the completion of
our clinical trials and the market approval of drug candidates.

We may not be able to make our required payments of interest
and principal under our long-term indebtedness when due, and
therefore we may face liquidity problems.

Our long-term debt under our 3.25% convertible senior
subordinated notes due 2023, or the 2023 Notes, and our
2.0% convertible senior notes due 2025, or the 2025 Notes,
was $265 million as of December 31, 2006. Interest on
the 2023 Notes accrues at the rate of 3.25% per annum and
interest on the 2025 Notes accrues at a rate of 2% per
annum. This amounts to interest payments of $2.4 million
due and payable semi-annually on March 8 and September 8 of
each year on the outstanding amount of the 2023 Notes. In
addition, interest payments of $2.3 million are due and
payable semi-annually on June 15 and December 15 of each year on
the outstanding amount of the 2025 Notes. Cumulative interest
payments of $80.4 million are scheduled to be paid between
September 8, 2007 and September 8, 2023 on the 2023
Notes and $42.6 million between June 15, 2007 and
December 15, 2025 on the 2025 Notes. The holders of the
2023 Notes have the right to require us to purchase all of the
2023 Notes, or a portion thereof, for cash, or at our option,
shares of our common stock, in September of 2008, 2013 and 2018
and the holders of the 2025 Notes have the right to require us
to purchase all of the 2025 Notes, or a portion thereof, for
cash in December of 2010, 2015 and 2020.

While we are currently generating sufficient net cash flow in
excess of our operating budget to satisfy the our annual
interest payments on the 2023 Notes and the 2025 Notes, there
can be no assurances that we will be able to do so in the
future. In addition, if the holders of the 2023 Notes or the
2025 Notes elect to require us to repurchase a significant
portion of their notes in 2008 or 2010, respectively, we may not
have sufficient net cash flow to repurchase these notes. While
we are permitted to repurchase the 2023 Notes with our common
stock in lieu of cash, the 2025 Notes must be repurchased with
cash. This would require us to borrow additional funds or sell
additional equity to meet these obligations, but there can be no
guarantee that we will be able to raise such capital on
favorable terms or at all. If we elect to repurchase our 2023
Notes with our common stock, our

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stockholders will experience dilution and our stock price may
decline. If we are unable to make our annual interest payments
or repay the 2023 Notes or the 2025 Notes when due, we will
default on our 2023 Notes and the 2025 Notes.

Our long-term debt also may make it more difficult for us to
obtain any necessary financing in the future for working
capital, capital expenditures, debt service requirements or
other purposes and make us more vulnerable in the event of a
downturn in our business.

Risks Relating to Regulatory Matters

The manufacture and packaging of pharmaceutical products such
as Tarceva and Macugen are subject to the requirements of the
FDA and similar foreign regulatory bodies. If we or our third
party manufacturers fail to satisfy these requirements, our or
their product development and commercialization efforts may be
materially harmed.

The manufacture and packaging of pharmaceutical products, such
as Tarceva and Macugen and our future product candidates, are
regulated by the FDA and similar foreign regulatory bodies and
must be conducted in accordance with the FDAs cGMPs and
comparable requirements of foreign regulatory bodies. There are
a limited number of manufacturers that operate under these
current good manufacturing practices regulations who are both
capable of manufacturing our products, and willing to do so. Our
failure or the failure of our third party manufacturers to
comply with applicable regulations, requirements, or guidelines
could result in sanctions being imposed on us or them, including
fines, injunctions, civil penalties, failure of regulatory
authorities to grant marketing approval of our products, delays,
suspension or withdrawal of approvals, license revocation,
seizures or recalls of product, operating restrictions and
criminal prosecutions, any of which could significantly and
adversely affect our business. We cannot be certain that we or
our present or future suppliers will be able to comply with the
pharmaceutical cGMP regulations or other FDA regulatory
requirements. If we fail to meet our manufacturing obligations
for Tarceva, our partner, Genentech, has the contractual right
to take over the supply of Tarceva in the United States.

Changes in the manufacturing process or procedure, including a
change in the location where a product is manufactured or a
change of a third party manufacturer, require prior FDA review
and/or approval of the manufacturing process and procedures in
accordance with the FDAs cGMPs. This review may be costly
and time consuming and could delay or prevent the launch of a
product or the use of a facility to manufacture a product. In
addition, if we elect to manufacture products at the facility of
another third party, we will need to ensure that the new
facility and the manufacturing process are in substantial
compliance with cGMPs. Any such change in facility would be
subject to a pre-approval inspection by the FDA and the FDA
would require us to demonstrate product comparability. Foreign
regulatory agencies have similar requirements.

Any prolonged interruption in the operations of our
contractors manufacturing facilities could result in
cancellations of shipments, loss of product in the process of
being manufactured, or a shortfall or stock-out of available
product inventory, any of which could have a material adverse
impact on our business. A number of factors could cause
prolonged interruptions in manufacturing.

The FDA and similar foreign regulatory bodies may also implement
new standards, or change their interpretation and enforcement of
existing standards and requirements, for manufacture, packaging
or testing of products at any time. If we are unable to comply,
we may be subject to regulatory, civil actions or penalties
which could significantly and adversely affect our business. For
example, with regard to Macugen, as a result of a post-approval
commitment to the FDA to improve the control and environment for
our finished drug product, we will change the final presentation
or packaging for Macugen. Such a change, when implemented, will
lead to an increase in our cost of goods for Macugen.

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If government agencies do not grant us or our collaborative
partners required approvals for any of our potential products in
a timely manner or at all, we or our collaborative partners will
not be able to distribute or sell our products currently under
development.

All of our potential products must undergo extensive regulatory
approval processes in the United States and other countries.
These regulatory processes, which include pre-clinical testing
and clinical trials of each compound to establish safety and
efficacy, can take many years and require the expenditure of
substantial resources. The FDA and the other regulatory agencies
in additional markets which are material to us and our
collaborative partners, including the European Agency for the
Evaluation of Medicinal Products and the Japanese Ministry of
Health, may delay or deny the approval of our potential
products. Although we have been successful in gaining regulatory
approval for Tarceva and Macugen in the United States and our
collaboration partners have gained approval for Tarceva and
Macugen in Canada, the EU and a number of other territories,
there can be no guarantee of subsequent approvals either for
Tarceva and Macugen in other territories or for other
indications in the United States or for other products in the
United States and other territories.

Delays or rejections may be encountered during any stage of the
regulatory process based upon the failure of the clinical data
to demonstrate compliance with, or upon the failure of the
product to meet, a regulatory agencys requirements for
safety, efficacy and quality. Any such delay could have a
negative effect on our business. A drug candidate cannot be
marketed in the United States until it has been approved by the
FDA. Once approved, drugs, as well as their manufacturers, are
subject to continuing and ongoing review, and discovery of
previously unknown problems with these products or the failure
to adhere to manufacturing or quality control requirements may
result in restrictions on their distribution, sale or use, or
their withdrawal from the market. The FDA also has the
authority, when approving a product, to impose significant
limitations on the product in the nature of warnings,
precautions and contra-indications, or restrictions on the
indicated use, conditions for use, labeling, advertising,
promotion, marketing, distribution, and/or production of the
product that could negatively affect the profitability of a
drug. Failure to comply with a Phase IV commitment can lead
to FDA action either to withdraw approval of a drug or to limit
the scope of approval.

Furthermore, once a drug is approved, it remains subject to
ongoing FDA regulation. Approved drugs can only be marketed for
the indications and claims approved by the FDA. If we fail to
comply with the FDA regulations prohibiting promotion of
off-label uses and the promotion of products for which marketing
clearance has not been obtained, the FDA, the Office of the
Inspector General of the U.S. Department of Health and
Human Services, the Department of Justice, or state Attorney
Generals could bring an enforcement action against us that would
inhibit our marketing capabilities as well as result in
significant penalties. Additional post-approval regulation by
FDA includes changes to the product label, new or revised
regulatory requirements for manufacturing practices, written
advisements to physicians or a product recall.

The current regulatory framework could change or additional
regulations could arise at any stage during our product
development or marketing, which may affect our ability to obtain
or maintain approval of our products or require us to make
significant expenditures to obtain or maintain such approvals.
The ability to market and sell a drug product outside of the
United States is also subject to stringent and, in some cases,
equally complex regulatory processes that vary depending on the
jurisdiction.

Competitors could challenge our patents and file an ANDA or a
505(b)(2) new drug application for a generic or a modified
version of Tarceva or Macugen and adversely affect our
competitive position.

Products approved for commercial marketing by the FDA are
subject to the provisions of the Drug Price Competition and
Patent Term Restoration Act of 1984, or the Hatch-Waxman Act.
The Hatch-Waxman Act provides companies with marketing
exclusivity for varying time periods during which generic or
modified versions of a drug

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may not be marketed and allows companies to apply to extend
patent protection for up to five additional years. It also
provides a means for approving generic versions of a drug once
the marketing exclusivity period has ended and all relevant
patents have expired. The period of exclusive marketing,
however, may be shortened if a patent is successfully challenged
and defeated. Competitors with a generic or a modified version
of Tarceva or Macugen may attempt to file an ANDA or a 505(b)(2)
NDA and challenge our patents and marketing exclusivity. Such
applications would have to certify that the patents in the
Tarceva or Macugen NDA are invalid or not infringed by the
manufacture, use, or sale of the product described in that ANDA
or 505(b)(2) application under the Hatch-Waxman Act, referred to
as a Paragraph IV certification. If successful, a
competitor could come to market at an earlier time than
expected. Since Tarceva and Macugen have five-year new chemical
entity exclusivity, such a Paragraph IV challenge could not
commence until at least late 2008. We can provide no assurances
that we can prevail in a challenge or litigation related to our
patents or exclusivity. Furthermore, regardless of the ultimate
outcome of any litigation, the mere submission of such
competitor application or the public announcement by a
competitor that it intends to submit an application in the
future may itself cause our stock price to decrease.

Some of our activities may subject us to risks under federal
and state laws prohibiting kickbacks and false or
fraudulent claims, which could subject us to potential civil and
criminal penalties and exclusion from federal healthcare
programs.

We are subject to the provisions of a federal law commonly known
as the Medicare/Medicaid anti-kickback law, and several similar
state laws, which prohibit, among other things, payments
intended to induce physicians or others either to purchase or
arrange for, or recommend the purchase of, healthcare products
or services. While the federal law applies only to products or
services for which payment may be made by a federal healthcare
program, state laws may apply regardless of whether federal
funds may be involved. These laws constrain the sales, marketing
and other promotional activities of manufacturers of drugs such
as us, by limiting the kinds of financial arrangements,
including sales programs, with hospitals, physicians, and other
potential purchasers of drugs. Other federal and state laws
generally prohibit individuals or entities from knowingly and
willfully presenting, or causing to be presented, claims for
payment from Medicare, Medicaid, or other third-party payors
that are false or fraudulent, or are for items or services that
were not provided as claimed. Anti-kickback and false claims
laws prescribe civil and criminal penalties for noncompliance
that can be substantial, including the possibility of
imprisonment, fines, and exclusion from federal healthcare
programs (including Medicare and Medicaid).

Pharmaceutical companies have been the target of lawsuits and
investigations alleging violations of government regulation,
including claims asserting violations of the federal False Claim
Act, the federal Medicare/ Medicaid anti-kickback statute, and
other violations in connection with off-label promotion of
products and Medicare and/or Medicaid reimbursement, or related
to claims under state laws, including state anti-kickback and
false claims laws. While we continually strive to comply with
these complex requirements, interpretations of the applicability
of these laws to marketing practices is ever evolving and even
an unsuccessful challenge could cause adverse publicity and be
costly to respond to.

If we do not receive adequate third-party reimbursement for
the sales of our marketed products, we may not be able to sell
such products on a profitable basis.

Sales of our marketed products depend, in part, upon the extent
to which the costs of our products are paid by health
maintenance organizations, managed care, pharmacy benefit and
similar reimbursement sources, or reimbursed by government
health administration authorities, private health coverage
insurers and other third-party payors. Such third-party payors
continue to aggressively challenge the prices charged for
healthcare products and services. Additionally, federal and
state governments have prioritized the containment of healthcare
costs, and drug prices have been targeted in this effort. If
these organizations and third-party payors do not consider our
products to

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be cost-effective, they may not reimburse providers of our
products, or the level of reimbursement may not be sufficient to
allow us to sell our products on a profitable basis.

In some foreign countries, particularly Canada and the EU
countries, the pricing of prescription pharmaceuticals is
subject to governmental control. In these countries, pricing
negotiations with governmental authorities can take six to
12 months or longer after the receipt of regulatory
marketing approval for a product. To obtain reimbursement or
pricing approval in some countries, we may be required to
conduct a clinical trial that compares the cost-effectiveness of
our products to other available therapies.

Beginning January 1, 2006, Medicare beneficiaries could
obtain expanded prescription drug coverage through a new
Medicare drug benefit that is administered by private, Medicare
approved drug plans. This voluntary benefit allows beneficiaries
to choose among various Medicare prescription drug plans based
on cost and scope of coverage. Generally, such plans include
Tarceva within the scope of the plan, with beneficiaries having
to pay various amounts of copayments when obtaining Tarceva.
Since plans adjust their formularies on an annual basis, we
cannot provide assurance that Tarceva will continue to be
included in the same number of plans, and this could adversely
affect our revenues. In addition, new legislation may be
proposed that could change the Medicare prescription drug
benefit and affect the payments for Tarceva under the program.

The 2003 Medicare prescription drug coverage legislation, The
Medicare Prescription Drug Improvement and Modernization Act, or
the MMA, and future legislative or regulatory reform of the
healthcare system may affect our ability to sell certain of our
products profitably.

In both the United States and some
non-U.S.jurisdictions,
there have been a number of legislative and regulatory proposals
to change the healthcare system in ways that could affect our
ability to sell certain of our products profitably. In the
United States, new legislation may be proposed at the federal
and state levels that would result in significant changes to the
healthcare system, either nationally or at the state level.
Effective January 2004, the MMA changed the methodology used to
calculate reimbursement for drugs such as Macugen that are
administered in physicians offices in a manner intended to
reduce the amount that is subject to reimbursement. In addition,
the legislation directs the Secretary of Health and Human
Services to contract with procurement organizations to purchase
physician-administered drugs from the manufacturers and to
provide physicians with the option to obtain drugs through these
organizations as an alternative to purchasing from the
manufacturers, which some physicians may find advantageous.
These changes may also cause private insurers to reduce the
amounts that they will pay for physician-administered drugs.

Risks Related to Intellectual Property and Legal Matters

If we or our collaborative partners are required to obtain
licenses from third parties, our revenues and royalties on any
commercialized products could be reduced.

The development of some of our products may require the use of
technology developed by third parties. The extent to which
efforts by other researchers have resulted or will result in
patents and the extent to which we or our collaborative partners
are forced to obtain licenses from others, if available, on
commercially reasonable terms is currently unknown. If we or our
collaborative partners must obtain licenses from third parties,
fees must be paid for such licenses, which would reduce the
revenues and royalties we may receive on commercialized products.

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If we cannot successfully protect, exploit or enforce our
intellectual property rights, our ability to develop and
commercialize our products, and receive revenues from licenses
under our intellectual property, will be adversely affected.

We hold numerous U.S. and foreign patents as well as trademarks
and trade secrets; we also have many pending applications for
additional patents. We intend to continue to seek patent
protection for, or maintain as trade secrets, the potentially
valuable intellectual property arising from our research and
development activities, including commercially promising product
candidates that we have discovered, developed or acquired. Our
success depends, in part, on our ability and our collaborative
partners ability to obtain and maintain patent protection
for new product candidates, maintain trade secret protection and
operate without infringing the valid and enforceable proprietary
rights of third parties. As with most biotechnology and
pharmaceutical companies, our patent position is highly
uncertain and involves complex legal and factual questions.
Without patent and other similar protection, other companies
could offer the same or substantially identical products for
sale without incurring the sizeable discovery and development
costs that we have incurred. Our ability to recover these
expenditures and realize profits upon the sale of products could
be diminished. The process of obtaining patents can be
time-consuming and expensive with no certainty of success. Even
if we spend the necessary time and money, a patent may not issue
or it may insufficiently protect the technology it was intended
to protect. Even if issued, such issuance is not conclusive as
to a patents validity or its enforceability. Our patents
may be challenged, narrowed, invalidated or circumvented, which
could limit our ability to prevent or stop competitors from
marketing similar products or limit the length of term of patent
protection we may have for our products. For example, our patent
which claims the use of DPIV inhibitors for lowering blood
glucose levels was revoked by the European Patent Office in May
2004. Although we are currently challenging the revocation of
our patent by the European Patent Office, if we are unsuccessful
in defending this opposition and the patent is revoked without
possibility of appeal, this will reduce the potential royalty
revenue we derive from the non-exclusive licenses we have
granted under the revoked patent in those territories where the
patent is revoked.

We can never be certain that we were first to develop the
technology or that we were first to file a patent application
for the particular technology because most U.S. patent
applications are confidential until a patent publishes or
issues, and publications in the scientific or patent literature
lag behind actual discoveries. If our pending patent
applications are not approved for any reason or if we are unable
to receive patent protection for additional proprietary
technologies that we develop, the degree of future protection
for our proprietary rights will remain uncertain. Third parties
may independently develop similar or alternative technologies,
duplicate some or all of our technologies, design around our
patented technologies or challenge our pending or issued
patents. Furthermore, the laws of foreign countries may not
protect our intellectual property rights effectively or to the
same extent as the laws of the United States. In addition, some
countries do not offer patent protection for certain
biotechnology-related inventions. If our intellectual property
rights are not adequately protected, we may not be able to
commercialize our technologies, products or services and our
competitors could commercialize our technologies, which could
result in a decrease in our sales and market share that would
harm our business and operating results.

We are also party to a number of licenses that give us rights to
third-party intellectual property that is necessary or useful to
our business. Our success will depend in part on the ability of
our licensors to obtain, maintain and enforce our licensed
intellectual property, in particular, those patents to which we
have secured exclusive rights. Our licensors may not
successfully prosecute the patent applications to which we have
licenses. Even if patents issue in respect of these patent
applications, our licensors may fail to maintain these patents,
may determine not to pursue litigation against other companies
that are infringing these patents, or may pursue such litigation
less aggressively than we would. Without protection for the
intellectual property we license, other companies might to

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able to offer substantially identical products for sale, which
could adversely affect our competitive business position and
harm our business prospects.

If we are unable to protect the confidentiality of our
proprietary information and know-how, the value of our
technology and products could be negatively impacted.

In addition to patented technology, we rely upon unpatented
proprietary technology, trade secrets, processes, and know-how.
We seek to protect this information in part by entering into
confidentiality agreements with our employees, consultants and
third parties. These 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.

The failure to prevail in litigation or the costs of
litigation, including patent infringement claims, could harm our
financial performance and business operations and could cause
delays in product introductions.

We are susceptible to litigation. For example, as a public
company, we are subject to claims asserting violations of
securities laws and derivative actions. In particular, we
currently face a securities class action alleging violations of
securities laws which are described in our filings with the SEC.
In addition, as a biotechnology company, our processes and
potential products may conflict with patents that have been or
may be granted to competitors, academic institutions or others.
We cannot ensure that our products or methods do not infringe
upon the patents or other intellectual property rights of third
parties. As the biotechnology and pharmaceutical industries
expand and more patents are filed and issued, the risk increases
that our patents or patent applications for our product
candidates may give rise to a declaration of interference by the
U.S. Patent and Trademark Office, or to administrative
proceedings in foreign patent offices, or that our activities
lead to claims of patent infringement by other companies,
institutions or individuals. These entities or persons could
bring legal proceedings against us seeking substantial damages
or seeking to enjoin us from researching, developing,
manufacturing or marketing our products, which could result in
substantial costs and harm our reputation. If any of these
actions are successful, we may not only be required to pay
substantial damages for past use of the asserted intellectual
property but we may also be required to cease the infringing
activity or obtain the requisite licenses or rights to use the
technology, that may not be available to us on acceptable terms,
if at all. Litigation and other proceedings may also absorb
significant management time.

Litigation is inherently unpredictable and we may incur
substantial expense in defending ourselves or asserting our
rights in the litigation to which we are currently subject, or
in new lawsuits or claims brought against us. Litigation can be
expensive to defend, regardless of whether a claim has merit,
and the defense of such actions may divert the attention of our
management that would otherwise be engaged in running our
business and utilize resources that would otherwise be used for
the business. In the event of an adverse determination in a
lawsuit or proceeding, or our failure to license essential
technology, our sales could be harmed and/or our costs increase,
which would harm our financial condition and our stock price may
decline. While we currently maintain insurance that we believe
is adequate, we are subject to the risk that our insurance will
not be sufficient to cover claims.

The use of any of our potential products in clinical trials
and the sale of any approved products exposes us to liability
claims.

The nature of our business exposes us to potential liability
risks inherent in the research, development, manufacturing and
marketing of drug candidates and products. If any of our drug
candidates in clinical trials or our marketed products harm
people or allegedly harm people, we may be subject to costly and
damaging product liability claims. Many patients who participate
in clinical trials are already ill when they enter a trial. The
waivers we

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obtain may not be enforceable and may not protect us from
liability or the costs of product liability litigation. While we
currently maintain product liability insurance that we believe
is adequate, we are subject to the risk that our insurance will
not be sufficient to cover claims. There is also a risk that
adequate insurance coverage will not be available in the future
on commercially reasonable terms, if at all. The successful
assertion of an uninsured product liability or other claim
against us could cause us to incur significant expenses to pay
such a claim, could adversely affect our product development and
could cause a decline in our product revenues. Even a
successfully defended product liability claim could cause us to
incur significant expenses to defend such a claim, could
adversely affect our product development and could cause a
decline in our product revenues.

Risks Related to Our Common Stock

Our stock price remains highly volatile which could make it
difficult for our stockholders to resell our common stock.

If our stock price falls, our stockholders may not be able to
sell their stock when desired or at desirable prices. When the
stock prices of companies in the Nasdaq Biotechnology Index
fall, our stock price will most likely fall as well. The stock
price of biotechnology and pharmaceutical companies, including
our stock price, has been volatile and may remain volatile for
the foreseeable future.

The following factors, among others, some of which are beyond
our control, may also cause our stock price to decline:




    a decline in sales of our marketed products;
    a decline in our business operating results or prospects;
    announcement or launching of technological innovations or new
    therapeutic products by third parties;
    positive or negative clinical efficacy or safety results from
    our competitors products;
    public concern as to the safety of our products and potential
    products;
    comments by securities analysts regarding us or our competitors
    and general market conditions;
    future sales of substantial amounts of our common stock by us or
    existing stockholders;
    negative developments concerning strategic alliance agreements;
    changes in government regulation, including pricing controls,
    that impact our products;
    negative or neutral clinical trial results;
    delays with the FDA in the approval process for products and
    clinical candidates; and
    developments in laws or regulations that impact our patent or
    other proprietary rights.Our governance documents and state law provide certain
anti-takeover measures which will discourage a third party from
seeking to acquire us and may impede the ability of stockholders
to remove and replace our board of directors and, therefore, our
management.

We have had a shareholder rights plan, commonly referred to as a
poison pill, since January 1999. The purpose of the
shareholder rights plan is to protect stockholders against
unsolicited attempts to acquire control of us that do not offer
a fair price to our stockholders as determined by our board of
directors. Under the plan, the acquisition of 17.5% or more of
our outstanding common stock by any person or group, unless
approved by our board of directors, will trigger the right of
our stockholders (other than the acquiror of 17.5% or more of
our common stock) to acquire additional shares of our common
stock, and, in certain cases, the stock of the potential
acquiror, at a 50% discount to market price, thus significantly
increasing the acquisition cost to a potential acquiror.

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The shareholder rights plan may have the effect of dissuading a
potential hostile acquiror from making an offer for our common
stock at a price that represents a premium to the then-current
trading price. In addition, our certificate of incorporation and
by-laws contain certain additional anti-takeover protective
devices. For example,




    no stockholder action may be taken without a meeting, without
    prior notice and without a vote; solicitations by consent are
    thus prohibited;
    special meetings of stockholders may be called only by our board
    of directors, or by our stockholders holding 20% of our
    outstanding shares upon 90 days prior written notice;
    nominations by stockholders of candidates for election to the
    board of directors at our annual meeting of stockholders must be
    made at least 45 days prior to the anniversary of the date
    on which we first mailed our proxy materials for the prior
    years annual meeting of stockholders; and
    our board of directors has the authority, without further action
    by the stockholders, to fix the rights and preferences, and
    issue shares, of preferred stock. An issuance of preferred stock
    with dividend and liquidation rights senior to the common stock
    and convertible into a large number of shares of common stock
    could prevent a potential acquiror from gaining effective
    economic or voting control.Further, we are subject to Section 203 of the Delaware
General Corporation Law which, subject to certain exceptions,
restricts certain transactions and business combinations between
a corporation and a stockholder owning 15% or more of the
corporations outstanding voting stock for a period of
three years from the date the stockholder becomes a 15%
stockholder. In addition to discouraging a third party from
acquiring control of us, the foregoing provisions could impair
the ability of existing stockholders to remove and replace our
management and/or our board of directors.







ITEM 1B.
    UNRESOLVED STAFF COMMENTSThere are no unresolved staff comments.







ITEM 2.
    PROPERTIESThe following is a summary of the principal facilities which we
utilize in our operations:

Melville, New York. On March 15, 2005, we purchased
a facility located at 41 Pinelawn Road, Melville, New York,
consisting of approximately 60,000 square feet. On
March 6, 2006, we relocated our corporate headquarters from
our leased premises at 58 South Service Road, Melville, New York
to this new location. Our facility at 41 Pinelawn Road houses
our principal executive, oncology, finance, legal and
administrative offices. We terminated our 58 South Service Road
lease in April 2006.

Farmingdale, New York. We lease a facility at One
BioScience Park Drive, Farmingdale, New York, consisting of
approximately 53,000 square feet. Our Farmingdale facility
contains our drug discovery and pre-clinical laboratories for
oncology.

Cedar Knolls, New Jersey. We lease a facility at 140
Hanover Avenue, Cedar Knolls, New Jersey, consisting of
approximately 25,000 square feet. Our Cedar Knolls facility
contains our regulatory, quality control and drug development
operations for oncology and ophthalmology.

Boulder, Colorado. We occupy two facilities in Boulder,
Colorado, which together house our clinical research, regulatory
and drug development operations for oncology. The first facility
we lease is located at 2860 Wilderness Place, and consists of
approximately 60,000 square feet. The second facility we
lease is located at 2970 Wilderness Place, and consists of
approximately 31,000 square feet.

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Oxford, England. We lease a facility at Windrush Court,
Watlington Road, Oxford, England, consisting of approximately
88,000 square feet. This facility houses our diabetes and
obesity corporate, research and development operations, as well
as certain oncology development operations.







ITEM 3.
    LEGAL PROCEEDINGSOn or about December 16, 2004, several purported
shareholder class action lawsuits were filed in the United
States District Court for the Eastern District of New York
against us, certain of our current and former executive
officers, and the members of our Board of Directors. The
lawsuits were brought on behalf of those who purchased or
otherwise acquired our common stock during certain periods in
2004, which periods differed in the various complaints. The
Court has now appointed a lead plaintiff, and on
February 17, 2006, the lead plaintiff filed a consolidated
amended class action complaint seeking to represent a class of
all persons who purchased or otherwise acquired our common stock
during the period from April 26, 2004 through
November 22, 2004. The consolidated complaint alleges that
defendants made material misstatements and omissions concerning
the survival benefit associated with our product, Tarceva and
the size of the potential market of Tarceva upon FDA approval of
the drug. It alleges violations of Sections 11 and 15 of
the Securities Act of 1933, as amended, and Sections 10(b)
and 20(a) of the Securities Exchange Act of 1934, as amended,
and Rule 10b-5
promulgated thereunder. The consolidated complaint seeks
unspecified compensatory damages and other relief. On
April 7, 2006, we filed a motion to dismiss the
consolidated amended complaint. Briefing on this motion was
completed on June 21, 2006. We have requested an oral
argument on our motion and are awaiting a decision from the
court. Based on the early stage of this litigation, the ultimate
outcome cannot be determined at this time.







ITEM 4.
    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERSThere were no matters submitted to a vote of our security
holders during the fourth quarter of fiscal 2006.





PART II







ITEM 5.
    MARKET FOR REGISTRANTS COMMON EQUITY, RELATED
    STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIESMarket Information

Our common stock is traded on the NASDAQ Global Select Market
under the symbol OSIP. The following is the range of high and
low sales prices by quarter for our common stock from
January 1, 2005 through December 31, 2006 as reported
on the NASDAQ Global Select Market:

|                 |  |      |       |  |     |   |       | 
|---------------- |  | ---- | ----- |  | --- | - | ----- | 
|                 |  | HIGH |       |  | LOW |  
|2006 FISCAL YEAR |  |      |       |  |     |  
|First Quarter    |  | $    | 33.42 |  |     | $ | 26.50 | 
|Second Quarter   |  |      | 33.98 |  |     |   | 25.02 | 
|Third Quarter    |  |      | 38.17 |  |     |   | 30.17 | 
|Fourth Quarter   |  |      | 43.17 |  |     |   | 34.29 | 

|                 |  |      |       |  |     |   |       | 
|---------------- |  | ---- | ----- |  | --- | - | ----- | 
|                 |  | HIGH |       |  | LOW |  
|2005 FISCAL YEAR |  |      |       |  |     |  
|First Quarter    |  | $    | 74.90 |  |     | $ | 41.25 | 
|Second Quarter   |  |      | 50.20 |  |     |   | 34.57 | 
|Third Quarter    |  |      | 47.65 |  |     |   | 28.15 | 
|Fourth Quarter   |  |      | 30.35 |  |     |   | 20.81 | 

|                                              |  |      |       |  |     |   |       | 
|--------------------------------------------- |  | ---- | ----- |  | --- | - | ----- | 
|                                              |  | HIGH |       |  | LOW |  
|THREE-MONTH TRANSITION PERIOD                 |  |      |       |  |     |  
|October 1, 2004 through
    December 31, 2004 |  | $    | 74.95 |  |     | $ | 44.34 | 





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Holders and Dividends

As of February 21, 2007, there were approximately 2,947
holders of record of our common stock. We have not paid any cash
dividends since inception and we do not intend to pay any cash
dividends in the foreseeable future. Declaration of dividends
will depend, among other things, upon future earnings, our
operating and financial condition, our capital requirements and
general business conditions.

Securities Authorized for Issuance Under Equity Compensation
Plans

Equity Compensation Plan Information as of December 31,
2006

|                                                               |  |                   |           |                   |  |                     |       |  |  |  |           |    
|-------------------------------------------------------------- |  | ----------------- | --------- | ----------------- |  | ------------------- | ----- |  |  |  | --------- | ---
|                                                               |  | Number of         |           | Weighted-         |  | Number of          
|                                                               |  | securities to be  |           | average           |  | securities         
|                                                               |  | issued upon       |           | exercise price of |  | remaining available
|                                                               |  | exercise of       |           | outstanding       |  | for future issuance
|                                                               |  | outstanding       |           | options,          |  | under equity       
|                                                               |  | options, warrants |           | warrants and      |  | compensation       
|Plan category                                                  |  | and rights (a)    |           | rights (b)        |  | plans              
|                                                               |  |                   |           |                   |  |                    
|Equity compensation plans approved
    by security holders     |  |                   | 6,661,780 | (c)               |  | $                   | 36.24 |  |  |  | 807,446   | (e)
|Equity compensation plans not
    approved by security holders |  |                   | 695,338   | (d)               |  | $                   | 33.96 |  |  |  | 850,000   | (f)
|Total                                                          |  |                   | 7,357,118 |                   |  | $                   | 36.01 |  |  |  | 1,657,446 |    






|   |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|a) |  | Includes stock options, restricted stock and restricted units.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|  
|b) |  | The weighted average exercise price of outstanding options,
    warrants and rights does not include restricted stock and
    restricted stock units, as they are issued for no cash
    consideration.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|  
|c) |  | Consists of five plans: the 1989 Incentive and Non-Qualified
    Stock Option Plan, the 1993 Incentive and Non-Qualified Stock
    Option Plan, the 1997 Incentive and Non-Qualified Stock Option
    Plan, the 1999 Incentive and Non-Qualified Stock Option Plan,
    and the Amended and Restated Stock Incentive Plan.                                                                                                                                                                                                                                                                                                                                                                                           
|  
|d) |  | In connection with the acquisition of certain oncology assets
    from Gilead on December 21, 2001, we adopted a
    Non-Qualified Stock Option Plan for Former Employees of Gilead
    Sciences, Inc. We granted ten-year options to purchase an
    aggregate of 693,582 shares of our common stock at a
    purchase price of $45.01 per share, which represented the
    fair value of our stock at the date granted. With respect to
    each option grant, one-third of the options vest on the first
    anniversary of the date of grant and the remainder vests ratably
    monthly thereafter for twenty-four months.                                                                                      
|  
|   |  | In connection with the acquisition of Cadus, we adopted a
    Non-Qualified Stock Option Plan for Former Employees of Cadus
    Pharmaceutical Corporation. We granted ten-year options to
    purchase an aggregate of 415,000 shares of our common stock
    at a purchase price of $5.00 per share, which represented
    the fair value of our stock at the date granted. These options
    became exercisable on July 30, 2000, one year from the date
    of the grant.                                                                                                                                                                                                                                        
|  
|   |  | In connection with the acquisition of Eyetech, we adopted a
    Stock Incentive Plan for Pre-Merger Employees of Eyetech
    Pharmaceuticals, Inc. We granted seven-year options to purchase
    an aggregate of 625,810 shares of our common stock at a
    purchase price of $23.83, which represents the fair value of our
    stock at the date granted. With respect to each option grant,
    one-fourth of the options vest on the first anniversary and the
    remainder vest ratably monthly thereafter for 36 months.                                                                                                                                                                                     
|  
|   |  | Also in connection with the acquisition of Eyetech, we assumed
    Eyetechs 2001 Stock Plan and to facilitate such
    assumption, we adopted the Stock Plan for Assumed Options of
    Pre-Merger Employees of Eyetech Pharmaceuticals, Inc. The number
    of shares subject to each assumed option was determined by
    dividing the assumed Eyetech per share option exercise price by
    the conversion ratio of 0.491 and rounding that result down to
    the nearest whole number for a total of 153,290 shares. The
    exercise price was determined by dividing the assumed Eyetech
    per share option exercise price by the conversion ratio of 0.491
    and rounding up to the nearest whole cent.
|  
|   |  | Includes options established for certain outside consultants
    related to clinical trial operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|  
|e) |  | Consists of 402,206 shares reserved for issuance under the
    1995 Employee Stock Purchase Plan and the stock purchase plan
    for employees of OSI-UK, and 405,240 shares reserved for
    issuance under the 1997 Incentive and Non-Qualified Stock Option
    Plan, 1999 Incentive and Non-Qualified Stock Option Plan, and
    the Amended and Restated Stock Incentive Plan.                                                                                                                                                                                                                                                                                                                                  
|  
|f) |  | On June 14, 2006, our Board of Directors adopted the OSI
    Stock Incentive Plan for New Hires. We adopted this plan to
    provide incentive equity grants to induce qualified individuals
    to accept employment with our company. At December 31,
    2006, 850,000 shares of common stock were authorized and
    available for grant under the plan.                                                                                                                                                                                                                                                                                                                                                         







---



##### 

ITEM 6.
    SELECTED CONSOLIDATED FINANCIAL DATASubsequent to the end of our 2004 fiscal year, we changed our
fiscal year end to December 31. On February 9, 2005,
we filed a transition report on
Form 10-QT for the
three-month period ended December 31, 2004. The following
table sets forth our selected consolidated financial data as of
and for the years ended December 31, 2006 and 2005, the
three months ended December 31, 2004, and the years ended
September 30, 2004, 2003 and 2002. The information below
should be read in conjunction with the consolidated financial
statements and notes thereto included elsewhere in this report.

|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |   |        |          |         |   |        |          |         | 
|----------------------------------------------------------------- | --------------------------------------------------------------------------- | -------------------------------------------------- | ------ | -------- | ------------ | ------ | ------ | ------------ | ------- | - | ------------------------- | ------- | ------ | ------- | ------ | -------- | ------- | - | ------ | -------- | ------- | - | ------ | -------- | ------- | 
|                                                                  |                                                                             |                                                    |        |          |              | Three  |        |              |         |   |                           |         |       
|                                                                  |                                                                             |                                                    |        |          |              | Months |        |              |         |   |                           |         |       
|                                                                  |                                                                             | Year Ended                                         |        |          | Year Ended   |        |        | Ended        |         |   |                          
|                                                                  |                                                                             | December 31,                                       |        |          | December 31, |        |        | December 31, |         |   | Years Ended September 30, |        
|(In thousands, except                                             |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |        
|per share data)                                                   |                                                                             | 2006(a)                                            |        |          | 2005(b)      |        |        | 2004(c)      |         |   | 2004(d)                   |         |        | 2003(e) |        |          | 2002(f) |  
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|Consolidated Statement of Operations                              |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |   |        |          |         |   |        |         
|                                                                  | Data:                                                                       |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |   |        |          |         |   |        |          |        
|                                                                  | Revenues                                                                    |                                                    | $      | 375,696  |              |        | $      | 174,194      |         |   | $                         | 12,347  |        |         | $      | 42,800   |         |   | $      | 32,369   |         |   | $      | 21,816   |        
|                                                                  | Expenses:                                                                   |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |   |        |          |         |   |        |          |        
|                                                                  |                                                                             | Cost of goods sold                                 |        |          | 79,223       |        |        |              | 18,882  |   |                           |         | (1,247 | )       |        |          | 8,985   |   |        |          | 157     |   |        |          |        | 
|                                                                  |                                                                             | Collaborative profit share                         |        |          | 40,297       |        |        |              | 12,312  |   |                           |         |       |         |        |          |        |   |        |          |        |   |        |          |        | 
|                                                                  |                                                                             | Net expense from unconsolidated
    joint business |        |          |             |        |        |              |        |   |                           |         | 7,661  |         |        |          |        |   |        |          |        |   |        |          |        | 
|                                                                  |                                                                             | Research and development                           |        |          | 176,654      |        |        |              | 125,953 |   |                           |         | 31,913 |         |        |          | 110,398 |   |        |          | 102,642 |   |        |          | 102,202 | 
|                                                                  |                                                                             | Acquired in-process research and
    development   |        |          |             |        |        |              | 64,442  |   |                           |         |       |         |        |          | 32,785  |   |        |          | 31,451  |   |        |          | 130,200 | 
|                                                                  |                                                                             | Selling, general and administrative                |        |          | 158,617      |        |        |              | 98,393  |   |                           |         | 20,313 |         |        |          | 98,909  |   |        |          | 70,532  |   |        |          | 28,146  | 
|                                                                  |                                                                             | Impairment of intangible assets                    |        |          | 505,985      |        |        |              |        |   |                           |         |       |         |        |          | 24,599  |   |        |          |        |   |        |          |        | 
|                                                                  |                                                                             | Amortization of intangibles                        |        |          | 19,912       |        |        |              | 17,544  |   |                           |         | 3,804  |         |        |          | 18,606  |   |        |          | 9,300   |   |        |          | 1,255   | 
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|                                                                  | Loss from operations                                                        |                                                    |        | (604,992 | )            |        |        | (163,332     | )       |   |                           | (50,097 | )      |         |        | (251,482 | )       |   |        | (181,713 | )       |   |        | (239,987 | )      
|                                                                  | Other income (expense) 
    net                                            |                                                    |        | 762      |              |        |        | 6,209        |         |   |                           | 1,702   |        |         |        | (8,889   | )       |   |        | 356      |         |   |        | 7,904    |        
|                                                                  | Gain on sale of diagnostic business                                         |                                                    |        |         |              |        |        |             |         |   |                           |        |        |         |        |         |         |   |        |         |         |   |        | 1,000    |        
|                                                                  | Gain on early retirement of
    convertible senior subordinated notes  net |                                                    |        |         |              |        |        |             |         |   |                           |        |        |         |        |         |         |   |        |         |         |   |        | 12,604   |        
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|                                                                  | Loss before extraordinary gain                                              |                                                    |        | (604,230 | )            |        |        | (157,123     | )       |   |                           | (48,395 | )      |         |        | (260,371 | )       |   |        | (181,357 | )       |   |        | (218,479 | )      
|                                                                  | Extraordinary gain                                                          |                                                    |        | 22,046   |              |        |        |             |         |   |                           |        |        |         |        |         |         |   |        |         |         |   |        |         |        
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|                                                                  | Net loss                                                                    |                                                    | $      | (582,184 | )            |        | $      | (157,123     | )       |   | $                         | (48,395 | )      |         | $      | (260,371 | )       |   | $      | (181,357 | )       |   | $      | (218,479 | )      
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|Basic and diluted net loss per
    common share:                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |   |        |          |         |   |        |         
|Loss before extraordinary gain                                    |                                                                             | $                                                  | (10.61 | )        |              | $      | (3.02  | )            |         | $ | (1.02                     | )       |        | $       | (6.50  | )        |         | $ | (4.87  | )        |         | $ | (6.07  | )       
|Extraordinary gain                                                |                                                                             |                                                    | 0.39   |          |              |        |       |              |         |   |                          |         |        |         |       |          |         |   |       |          |         |   |       |         
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|                                                                  | Net loss                                                                    |                                                    | $      | (10.22   | )            |        | $      | (3.02        | )       |   | $                         | (1.02   | )      |         | $      | (6.50    | )       |   | $      | (4.87    | )       |   | $      | (6.07    | )      
|                                                                  |                                                                             |                                                    |        |          |              |        |        |              |         |   |                           |         |        |         |        |          |         |  
|Weighted average number of shares
    of common stock outstanding |                                                                             |                                                    | 56,939 |          |              |        | 52,078 |              |         |   | 47,375                    |         |        |         | 40,083 |          |         |   | 37,249 |          |         |   | 35,978 |         





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##### 



|                                 |                                                                                    |              |   |         |                     |  |   |           |  |  |         |         |  |         |   |         |         |  |   |         |  |  |   |         | 
|-------------------------------- | ---------------------------------------------------------------------------------- | ------------ | - | ------- | ------------------- |  | - | --------- |  |  | ------- | ------- |  | ------- | - | ------- | ------- |  | - | ------- |  |  | - | ------- | 
|                                 |                                                                                    | As of        |   |         |                    
|                                 |                                                                                    | December 31, |   |         | As of September 30, | 
|(In thousands, except            |                                                                                    |              |   |         |                     | 
|per share data)                  |                                                                                    | 2006(a)      |   |         | 2005(b)             |  |   | 2004(c)   |  |  | 2004(d) |         |  | 2003(e) |   |         | 2002(f) | 
|                                 |                                                                                    |              |   |         |                     |  |   |           |  |  |         |         |  |         |   |         |         | 
|Consolidated Balance Sheet Data: |                                                                                    |              |   |         |                     |  |   |           |  |  |         |         |  |         |   |         |         |  |   |         |  |  |   |        
|                                 | Cash, cash equivalents and
    investment securities (unrestricted and restricted) |              | $ | 216,368 |                     |  | $ | 179,606   |  |  | $       | 656,239 |  |         | $ | 257,229 |         |  | $ | 404,147 |  |  | $ | 476,277 | 
|                                 | Receivables                                                                        |              |   | 80,075  |                     |  |   | 152,482   |  |  |         | 14,077  |  |         |   | 12,112  |         |  |   | 11,654  |  |  |   | 6,981   | 
|                                 | Working capital                                                                    |              |   | 266,496 |                     |  |   | 276,171   |  |  |         | 630,246 |  |         |   | 228,223 |         |  |   | 379,598 |  |  |   | 445,596 | 
|                                 | Total assets                                                                       |              |   | 457,732 |                     |  |   | 1,058,582 |  |  |         | 780,116 |  |         |   | 388,029 |         |  |   | 591,502 |  |  |   | 579,044 | 
|                                 | Long-term liabilities                                                              |              |   | 349,203 |                     |  |   | 337,788   |  |  |         | 195,814 |  |         |   | 186,574 |         |  |   | 338,592 |  |  |   | 169,774 | 
|                                 | Stockholders equity                                                               |              |   | 28,946  |                     |  |   | 578,466   |  |  |         | 539,390 |  |         |   | 154,233 |         |  |   | 218,057 |  |  |   | 379,108 | 






|    |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) |  | The calendar 2006 consolidated financial statements include
    $506.0 million of impairment charges related to Eyetech
    goodwill and Eyetech amortizable intangibles
    ($320.3 million and $185.7 million, respectively) and
    a $26.4 million charge for obsolete and expiring inventory,
    and a $22 million extraordinary gain recognized as a result
    of reversing the accrued contingent consideration recorded in
    connection with the acquisition of Cell Pathways in fiscal 2003.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   
|(b) |  | The calendar 2005 consolidated financial statements reflect the
    acquisition of Eyetech for aggregate consideration of
    $909.3 million ($637.4 million net of cash and
    investments acquired), including the cash consideration of
    $702.1 million, the value of 5.6 million shares of our
    common stock issued to Eyetech shareholders, the value of
    converted stock options issued to Eyetech shareholders, and
    transaction related costs in November 2005; in-process research
    and development charge of $60.9 million related to the
    acquisition of Eyetech; in-process research and development
    charges of $3.5 million related to the acquisition of the
    minority interest in Prosidion; and the issuance of
    $115.0 million aggregate principle of our 2025 Notes in a
    private placement for net proceeds of $111.0 million, of
    which approximately $24.0 million was used to purchase
    concurrently with the offering 500,000 shares of our common
    stock and a call spread option with respect to our common stock.
|   
|(c) |  | The three months ended December 31, 2004 includes the sale
    of 6.9 million shares of our common stock for net proceeds
    of $419.9 million; net expense from unconsolidated joint
    business of $7.7 million related to our co-promotion and
    manufacturing agreements with Genentech for Tarceva; and a net
    credit adjustment of $1.4 million to reduce a previously
    recorded provision for excess Gelclair inventory.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   
|(d) |  | The fiscal 2004 consolidated financial statements include the
    acquisition of certain assets from Probiodrug for approximately
    $36.4 million in cash; the impairment of the Gelclair
    intangible asset of $24.6 million; the conversion of
    $160.0 million aggregate principle amount of
    4% convertible senior subordinated notes due 2009, or our
    2009 Notes, into 3.2 million shares of our common stock;
    the charge of $8.6 million relating to excess Gelclair
    inventory; and the recognition of $3.0 million of Tarceva
    related milestone revenues.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   
|(e) |  | The fiscal 2003 consolidated financial statements include the
    acquisition of the marketing and promotion rights to Novantrone
    for approved oncology indications in the United States for
    approximately $45.0 million in cash; the acquisition of
    Cell Pathways for approximately $55.0 million in common
    stock, contingent value rights and cash; the issuance of
    $150.0 million of our 2023 Notes for net proceeds of
    approximately $145.1 million; and the purchase of
    503,800 shares of our common stock for $19.0 million.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   
|(f) |  | The fiscal 2002 consolidated financial statements include the
    acquisition of certain assets from Gilead for approximately
    $175.7 million in cash and common stock; the receipt of
    $4.5 million from the phase-down of our collaboration with
    Anaderm Research Corporation, of which $1.8 million was
    recognized as revenue in accordance with SAB No. 101;
    the issuance of $200.0 million of convertible senior
    subordinated notes for net proceeds of approximately
    $192.9 million; and the early retirement of
    $40.0 million aggregate principal amount of convertible
    senior subordinated notes resulting in a net gain of
    approximately $12.6 million.                                                                                                                                                                                                                                                                                                                                                                              





---



##### 

ITEM 7.
    MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
    CONDITION AND RESULTS OF OPERATIONSOverview

We are a mid-cap biotechnology company committed to building a
scientifically strong and financially successful top tier
biopharmaceutical organization that discovers, develops and
commercializes innovative molecular targeted therapies
addressing major unmet medical needs in oncology, diabetes and
obesity.

Our primary focus is oncology where our business is anchored by
our flagship product, Tarceva, a small molecule inhibitor of
EGFR. In November 2004, Tarceva was approved by the FDA for the
treatment of advanced NSCLC in patients who have failed at least
one prior chemotherapy regimen and, subsequently, in November
2005, for the treatment of patients with locally advanced and
metastatic pancreatic cancer in combination with the
chemotherapy agent, gemcitabine. Tarceva was also approved for
sale in the EU for the treatment of advanced NSCLC in September
2005 and, in January 2007, as a first-line therapy for
metastatic pancreatic cancer in combination with gemcitabine.
Tarceva achieved global sales of approximately $650 million
for 2006. We co-promote
Tarceva in the United States with Genentech and receive
royalties on sales from our international partner, Roche. Behind
Tarceva, we have an emerging oncology pipeline of molecular
targeted therapies in clinical and late-stage pre-clinical
development.

We also have research and early development programs in diabetes
and obesity which are conducted through Prosidion, our U.K.
subsidiary. Our near term focus in the diabetes and obesity area
is to progress our research projects through clinical
proof-of-concept
studies followed by outlicensing or partnering these programs
for upfront fees, milestones and royalties. In January 2007, we
outlicensed our GKA program, including our clinical candidate
PSN010, which is in Phase I studies, to Eli Lilly for an
upfront fee of $25 million and up to $360 million in
potential development and sales milestones and other payments
plus royalties on any compounds successfully commercialized from
this program. We also generate revenues from our patent estate
relating to the use of DPIV inhibitors for the treatment of
type II diabetes and related indications. Nine
pharmaceutical companies have taken non-exclusive licenses to
these patents, which provide us with upfront payments as well as
potential milestones and royalties. In the fourth quarter of
2006, one of our licensees, Merck, received approval by the FDA
for its DPIV inhibitor, Januvia, and commenced marketing of the
drug, which triggered the payment of a milestone and royalties
to us.

On November 6, 2006, we announced our intention to divest
our eye disease business, a process which we expect to complete
in mid-2007. Our eye disease business consists principally of
Macugen, our marketed product for the treatment of wet AMD, as
well as research assets in the eye disease area. We made the
decision to exit the eye disease business because we believe
that a key strategic goal of the acquisition of the business in
November 2005  the generation of significant cash
flow from the business in the 2006 through 2008 fiscal
years  will not be realized. Total U.S. net
sales of Macugen in 2006 were approximately $103 million
and were significantly impacted by the launch of a
competitors product. U.S. net sales of Macugen
declined significantly in 2006, from $50.6 million in the
first quarter of 2006 to $7.2 million in the fourth quarter
of 2006. As a result of the decline in revenues for Macugen and
developments in the wet AMD marketplace, we recognized
impairment charges in the second and third quarters of 2006 of
approximately $320.3 million in the aggregate for the
goodwill relating to Macugen and additional charges in the
fourth quarter of 2006 of $185.7 million relating to the
Macugen intangible assets and $26.4 million relating to the
Macugen obsolete and expiring inventory. Given the financial
constraints resulting from the decline in Macugen sales on our
overall research and development budget, we do not believe that
we can optimally develop the research and development assets in
our eye disease business and continue to support Macugen in the
face of competing priorities in the oncology and diabetes and
obesity areas. We are currently negotiating with our partner,
Pfizer, for the return of U.S. rights to Macugen to us in
exchange for a royalty-free license to Pfizer to commercialize
Macugen in the rest of the world. We believe this will help
facilitate a

41



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##### 

successful divestiture of the eye disease business. We are
currently in discussions with several parties regarding the
divestiture of the eye disease business for an upfront fee
and/or future milestones and royalties. We intend to structure
the divestiture in a manner which will allow us to be
compensated for any future success of Macugen and the pipeline
assets in the eye disease business  primarily our
PDGF aptamer program. As a result of our decision to divest this
business, we expect to record the financial information
associated with these operations as discontinued operations
starting in the first quarter of 2007 if we are able to finalize
our plan to divest the business.

Delivering full-year profitability in 2007 is a key goal that we
believe can be attained through diligent management of our
business and, in particular, our expenses. In addition to our
decision to divest our eye business, we have taken several steps
to carefully manage the interim costs related to the eye disease
business, such as closing the headquarters for our eye disease
business in Times Square at the end of 2006 and significantly
reducing headcount related to this business. We also have
minimized clinical development for Macugen and our other eye
disease programs with the exception of our post approval trial
commitments and the LEVEL trial. We are decreasing our overall
general and administrative expenses by resizing our corporate
operations so that they are commensurate with our simplified
business following the divestiture of our eye disease business.
We also intend to decrease expenses related to certain of our
pre-clinical activities, such as drug formulation and toxicology
studies, by outsourcing such functions in a cost-effective
manner, including off-shoring.

Critical Accounting Policies

We prepare our consolidated financial statements in accordance
with U.S. generally accepted accounting principles. As
such, we are required to make certain estimates, judgments and
assumptions that we believe are reasonable based upon the
information available. These estimates and assumptions affect
the reported amounts of assets and liabilities as of the date of
the consolidated financial statements and the reported amounts
of revenues and expenses during the periods presented. Actual
results could differ significantly from our estimates and the
estimated amounts could differ significantly under different
assumptions and conditions. We believe that the following
discussion addresses our most critical accounting policies,
which are those that are most important to the portrayal of our
financial condition and results of operations and which require
our most difficult and subjective judgments, often as a result
of the need to make estimates about the effect of matters that
are inherently uncertain. Note 1 to the accompanying
consolidated financial statements includes a summary of the
significant accounting policies used in the preparation of the
consolidated financial statements.



Revenue
    Recognition

Net revenues from
    unconsolidated joint businessNet revenues from unconsolidated joint business are related to
our co-promotion and manufacturing agreements with Genentech for
Tarceva. They consist of our share of the pretax co-promotion
profit generated from our co-promotion arrangement with
Genentech for Tarceva, the partial reimbursement from Genentech
of our sales and marketing costs related to Tarceva and the
reimbursement from Genentech of our manufacturing costs related
to Tarceva. Under the co-promotion arrangement, all
U.S. sales of Tarceva and associated costs and expenses,
except for a portion of our sales related costs, are recognized
by Genentech. We record our 50% share of the co-promotion pretax
profit on a quarterly basis, as set forth in our agreement with
Genentech. Pretax co-promotion profit under the co-promotion
arrangement is derived by calculating U.S. net sales of
Tarceva to third-party customers and deducting costs of sales,
distribution and selling and marketing expenses incurred by
Genentech and us. The costs incurred during the respective
periods represent estimated costs of both parties and are
subject to further adjustment based on each partys final
review. Based on past experience, we do not believe that these
adjustments, if any, will be significant to our consolidated
financial statements. The partial reimbursement of sales and
marketing costs related to Tarceva is recognized as revenue as
the related costs are incurred. We defer the

42



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##### 

recognition of the reimbursement of our manufacturing costs
related to Tarceva until the time Genentech ships the product to
third-party customers at which time our risk of inventory loss
no longer exists.

Our revenue recognition policies for all nonrefundable upfront
license fees and milestone arrangements are in accordance with
the guidance provided in the Securities and Exchange Commission,
or SEC, Staff Accounting Bulletin No. 101,
Revenue Recognition in Financial Statements, as
amended by SEC Staff Accounting Bulletin No. 104,
Revenue Recognition. In addition, we follow the
provisions of Emerging Issues Task Force Issue, or EITF,
00-21, Revenue
Arrangements with Multiple Deliverables for multiple
element revenue arrangements entered into or materially amended
after June 30, 2003. As a result of an amendment to our
collaboration agreement with Genentech in June 2004, milestone
payments received from Genentech after June 2004 and the
remaining portion of the unearned upfront fee are being
recognized in accordance with
EITF 00-21.

Milestones received from Genentech after June 2004 and the
remaining unearned upfront fee are being recognized over the
term of our Manufacturing and Supply Agreement with Genentech,
under which the last items of performance to be delivered to
Genentech are set forth, on a straight line basis, which
approximates the expected level of performance under the
Manufacturing and Supply Agreement. In March 2005, we agreed to
a further global development plan and budget with our partners,
Genentech and Roche, for the continued development of Tarceva.
For purposes of
EITF 00-21, the
revised development plan and budget for Tarceva was deemed a
material amendment to our Roche agreement and therefore future
milestones received from Roche will be recognized in accordance
with EITF 00-21.
Accordingly, future milestone payments received from Roche after
March 2005 will be initially recorded as unearned revenue and
recognized over the expected term of the research collaboration
on a straight-line basis, which approximates the expected level
of performance under the development plan.

During fiscal 2006, we received a $35 million milestone
payment upon the launch of Macugen in Europe by Pfizer. In
accordance with
EITF 00-21, the
milestone payment was recorded as unearned revenue and is being
recognized as revenue on a straight-line basis over the expected
term of our collaboration and licensing agreements with Pfizer
which approximates the expected level of performance under these
agreements with Pfizer.



Product SalesProduct sales consists primarily of sales of Macugen, and to a
lesser extent, Gelclair Bioadherent Oral Gel, or Gelclair, a
bioadherant oral gel for the relief of pain associated with oral
mucositis, in the United States and its territories. Macugen is
sold primarily to distributors, who, in turn, sell to
physicians, a limited number of specialty pharmacy providers and
federal government buying groups. We recognize revenue from
product sales when there is persuasive evidence of an
arrangement, delivery has occurred, the price is fixed and
determinable, the buyer is obligated to pay us, the obligation
to pay is not contingent on resale of the product, the buyer has
economic substance apart from us, we have no obligation to bring
about sale of the product, the amount of returns can be
reasonably estimated and collectibility is reasonably assured.

Under an agreement with Pfizer dated February 2003, we share
sales and marketing responsibility for sales of Macugen in the
United States. We report product revenue on a gross basis for
these sales. We have determined that we are qualified as a
principal under the criteria set forth in EITF Issue 99-19,
Reporting Gross Revenue as a Principal vs. Net as an
Agent, or EITF 99-19, based on our responsibilities
under our contracts with Pfizer, which include manufacture of
product for sale in the United States, distribution, ownership
of product inventory and credit risk from customers.

43



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We record allowances for distribution fees, product returns and
governmental rebates for all of our products sold in the United
States at the time of sale, and report revenue net of such
allowances. We must make significant judgments and estimates in
determining these allowances. For instance:




    Our distributors have a limited right of return for unopened
    product during a specified time period based on the
    products labeled expiration date. As a result, in
    calculating the allowance for product returns, we estimate the
    likelihood that product sold to distributors might be returned
    within a specific timeframe. We determine our estimates using
    actual product data from distributors, industry data on products
    with similar characteristics and the expiration dates of product
    sold.
    Certain government buying groups that purchase our product from
    wholesalers have the right to receive a discounted price from
    us. As a result, we estimate the amount of product which will
    ultimately be sold to these buying groups. We determine our
    estimates using actual product data from distributors and
    historical industry trends.If actual results differ from our estimates, we will be required
to make adjustments to these allowances in the future.



Collaborative
    revenueCollaborative program revenues represent funding arrangements
for Macugen research and development with Pfizer and are
recognized when earned in accordance with the terms of the
contracts and related research and development activities
undertaken.

Based on the terms of our collaboration agreement with Pfizer,
revenues derived from reimbursements of costs associated with
the development of Macugen are recorded in compliance with EITF
99-19, and EITF
Issue 01-14,
Income Statement Characterization of Reimbursements
Received For
Out-of-Pocket
Expenses Incurred. According to the criteria established
by these EITF Issues, in transactions where we act as a
principal, with discretion to choose suppliers, bear credit risk
and perform part of the services required in the transaction, we
have met the criteria to record revenue for the gross amount of
the reimbursements.



Sales commissionsSales commissions from Novantrone on net oncology sales are
recognized in the period the sales occur and were based on the
estimated split between oncology sales and multiple sclerosis
sales, as determined on a quarterly basis by an external third
party. Beginning in the third quarter of 2006, we agreed with
Merck Serono on a fixed oncology split and therefore are no
longer utilizing a third party to determine the split.



InventoryThe valuation of inventory requires us to make certain
assumptions and judgments to estimate net realizable value.
Inventories are reviewed and adjusted for obsolescence and aging
based upon estimates of future demand, technology developments
and market conditions. We determine the cost of raw materials,
work in process and finished goods inventories using the
weighted average method. Inventory costs include material, labor
and manufacturing overhead. Inventories are valued at the lower
of cost or market (realizable value) in accordance with
Accounting Research Bulletin No. 43, or ARB 43. ARB 43
requires that inventory be valued at its market value where
there is evidence that the utility of goods will be less than
cost and that such write-down should occur in the current
period. Accordingly, at the end of each period we evaluate our
inventory and adjust to net realizable value the carrying value
and excess quantities. During the fourth quarter of 2006, we
assessed the current levels of Macugen sales, our current level
of Macugen inventory with near term expiration dates and our
progress on finalizing a new sterile syringe product
presentation to satisfy our post-approval commitment to the FDA
for

44



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##### 

Macugen. Based on this assessment, cost of goods sold includes a
charge of $26.4 million related to the potential disposal
of certain Macugen packaged syringes as well as the
recoverability of
work-in-process and raw
materials. Our analysis of the carrying value of inventory
relies upon known market trends and expectations for future
sales. If actual sales results for Macugen differ significantly
from our expectations, it could lead to the write down of
additional inventory or the sale of inventory with zero cost
basis.

Included in inventory are raw materials and
work-in-process for
Tarceva and Macugen that may be used in the production of
pre-clinical and clinical product, which will be expensed to
research and development cost when consumed for these uses.
Tarceva is stated at the lower of cost or market, with cost
being determined using the weighted average method. Prior to
receipt of FDA approval of Tarceva for commercial sale on
November 18, 2004, we had expensed all costs associated
with the production of Tarceva to research and development
expense in our consolidated statements of operations. Effective
November 18, 2004, we began to capitalize the costs of
manufacturing Tarceva as inventory, including the costs to
label, package and ship previously manufactured bulk inventory
which costs had already been expensed as research and
development. As of September 30, 2006, we had sold all the
inventory that was partially produced and expensed prior to
November 18, 2004.

In November 2005, we recorded a $55.0 million
step-up in value of
finished goods and
work-in-process
inventory that we acquired from Eyetech. The
step-up in fair value
was determined based on the estimated selling price of the
inventory less costs of disposal and a reasonable selling profit
to both complete and sell the product. As of December 31,
2006, $2.6 million of initial increase in fair value of the
inventory was included in inventory and will be included in cost
of goods sold when the acquired inventory is sold in the future.

The carrying value of Macugen raw material acquired on the date
of the acquisition and Macugen inventory purchased and
manufactured subsequent to the acquisition is stated at the
lower of cost or market and is determined by the weighted
average method.



Accruals for Clinical
    Research Organization and Clinical Site CostsWe make estimates of costs incurred to date but not yet invoiced
in relation to external CROs and clinical site costs. We analyze
the progress of clinical trials, including levels of patient
enrollment, invoices received and contracted costs when
evaluating the adequacy of the accrued liabilities. Significant
judgments and estimates must be made and used in determining the
accrued balance in any accounting period.



Goodwill and Other
    Long-Lived AssetsWe account for goodwill and other intangible assets in
accordance with Statements of Financial Accounting Standards, or
SFAS, No. 141, Business Combinations, or
SFAS No. 141, and SFAS No. 142, Goodwill
and Other Intangible Assets, or SFAS No. 142.
SFAS No. 141 requires that the purchase method of
accounting be used for all business combinations. It specifies
the criteria which intangible assets acquired in a business
combination must meet in order to be recognized and reported
apart from goodwill. SFAS No. 142 requires that
goodwill and intangible assets determined to have indefinite
lives no longer be amortized but instead be tested for
impairment at least annually and whenever events or
circumstances occur that indicate impairment might have
occurred. As discussed in Note 2(b) to the accompanying
consolidated financial statements, due to competitive
developments relating to Macugen and the age related macular
degeneration marketplace, we assessed the value of the
$320.3 million of goodwill during fiscal 2006 and
determined the goodwill was impaired. Consequently, the value
was reduced to zero.

Our identifiable intangible assets are subject to amortization.
SFAS No. 142 requires that intangible assets with
estimable useful lives be amortized over their respective
estimated useful lives and reviewed for impairment in accordance
with SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets. SFAS No. 144

45



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##### 

requires, among other things, that long-lived assets be measured
at the lower of carrying amount or fair value, less cost to
sell, whether reported in continuing operations or in
discontinued operations. We review our intangibles with
determinable lives and other long-lived assets for impairment
whenever events or changes in circumstances indicate that the
carrying value of an asset may not be recoverable.

Our judgments regarding the existence of impairment indicators
are based on historical and projected future operating results,
changes in the manner of our use of the acquired assets or our
overall business strategy, and market and economic trends.

As discussed in Impairment of Intangibles below, in
December 2006, we assessed the recoverability of the long-lived
assets relating to our eye disease business, including the
Macugen intellectual property acquired in our acquisition of
Eyetech, and determined the $185.7 million of Macugen
intangible assets were impaired and consequently reduced their
value to zero at December 31, 2006.

In October 2004, we determined that it was necessary to record
an impairment charge as of September 30, 2004 related to
our intangible asset for exclusive distribution rights to the
marketed product, Gelclair, in North America.

In the future, events could cause us to conclude that impairment
indicators exist and that certain other intangibles with
determinable lives and other long-lived assets are impaired
which may result in an adverse impact on our financial condition
and results of operations.

Years Ended December 31, 2006 and 2005

Results of Operations

Our net losses for the years ended December 31, 2006 and
2005 were $582.2 million and $157.1 million,
respectively. Despite significant increases in net revenue from
unconsolidated joint business from our Tarceva partnership with
Genentech, royalties from international sales of Tarceva from
Roche, and milestones and upfront fees from worldwide
non-exclusive license agreements entered into for our DPIV
patent portfolio, our net loss increased in 2006 as we
recognized $532 million of impairment charges in connection
with Eyetech intangibles and inventory. Our results of
operations for the year ended December 31, 2005 include the
results of operations of Eyetech for the period from
November 14, 2005, the date of our acquisition of Eyetech,
through December 31, 2005. The 2005 net loss included
in-process R&D charges of $64.4 million in connection
with the acquisition of Eyetech and the acquisition of the
minority interest shares in Prosidion.

Revenues

|                                                   |  |                         |         |  |      |   |         |          |  |   |         |  
|-------------------------------------------------- |  | ----------------------- | ------- |  | ---- | - | ------- | -------- |  | - | ------- | -
|                                                   |  | (in thousands)          |        
|                                                   |  |                         |        
|                                                   |  | Year Ended December 31, |        
|                                                   |  |                         |        
|                                                   |  | 2006                    |         |  | 2005 |   |         | $ Change | 
|                                                   |  |                         |         |  |      |   |         |          | 
|Net revenue from unconsolidated
    joint business |  | $                       | 154,886 |  |      | $ | 84,727  |          |  | $ | 70,159  |  
|Product sales                                      |  |                         | 104,276 |  |      |   | 32,411  |          |  |   | 71,865  |  
|Royalties on product sales                         |  |                         | 51,501  |  |      |   | 7,127   |          |  |   | 44,374  |  
|Sales commissions                                  |  |                         | 11,755  |  |      |   | 29,684  |          |  |   | (17,929 | )
|License, milestone and other
    revenues          |  |                         | 28,937  |  |      |   | 16,164  |          |  |   | 12,773  |  
|Collaborative program revenues                     |  |                         | 24,341  |  |      |   | 4,081   |          |  |   | 20,260  |  
|                                                   |  |                         |         |  |      |   |         |          | 
|Total revenues                                     |  | $                       | 375,696 |  |      | $ | 174,194 |          |  | $ | 201,502 |  
|                                                   |  |                         |         |  |      |   |         |          | 





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##### 

Net Revenue from
    Unconsolidated Joint BusinessNet revenue from unconsolidated joint business is related to our
co-promotion and manufacturing agreements with Genentech for
Tarceva. For the years ended December 31, 2006 and 2005,
Genentech recorded net sales of Tarceva in the United States and
its territories of $402 million and $275 million,
respectively. Our share of these net sales is reduced by the
costs incurred for cost of goods sold and the sales and
marketing expenses related to the product. For the years ended
December 31, 2006 and 2005, we reported net revenue from
our unconsolidated joint business for Tarceva of
$154.9 million and $84.7 million, respectively. The
increase in net revenue from unconsolidated joint business was
primarily due to higher net sales related to the approval and
launch of Tarceva for the pancreatic cancer indication in
November 2005, an increase in market share penetration in the
NSCLC indications and price increases.



Product SalesProduct sales for 2006 primarily consisted of sales of Macugen,
and, to a lesser extent, Gelclair, in the United States and its
territories. For the twelve months ended December 31, 2006,
Macugen net sales totaled $103.3 million. Net sales of
Macugen from November 14, 2005, the date we acquired
Eyetech, through December 31, 2005, totaled
$31.5 million, and are included in product sales for the
twelve months ended December 31, 2005. Net Macugen sales
represents gross product revenue less distribution service fees
and estimates for allowances and returns.

Macugen sales declined from $50.6 million in the first
quarter of 2006 to $7.2 million in the fourth quarter of
2006. We believe the decline was primarily due to the launch of
Lucentis in July 2006 and the continued off-label use of Avastin
for the treatment of wet AMD. On November 6, 2006, we
announced our intention to exit our eye disease business, which
consists principally of Macugen, as well as research assets in
the eye disease area. Upon our exit of the eye disease business,
which we expect to occur in mid-2007, we will no longer
recognize product sales relating to Macugen.



Royalties on Product
    SalesWe receive royalties on the sales of Tarceva and Macugen outside
of the United States and its territories. In September 2005, our
partner Roche received approval from the European Commission for
the sale of Tarceva in the EU for the treatment of patients with
locally advanced or metastatic NSCLC, and in January 2007 as a
first-line therapy for metastatic pancreatic cancer in
combination with gemcitabine. Roche has also received approval
for reimbursement in a number of EU countries and is pursuing
approval in other major markets in the EU. Tarceva sales are
expected to increase outside the United States as additional
reimbursement approvals are secured. For the years ended
December 31, 2006 and 2005, Roche recorded
$248 million and $36 million, respectively, in net
sales of Tarceva outside of the United States and its
territories, and we recorded $50.2 million and
$7.0 million, respectively, in royalty revenues from these
sales. Macugen royalties from rest of world sales were
$1.3 million and $141,000 for the years ended
December 31, 2006 and 2005, respectively. Macugen was
approved for marketing and sale in the EU in January 2006 and
was launched in select EU countries by our partner, Pfizer,
beginning in May 2006.



Sales
    CommissionsSales commissions represent commissions earned on the sales of
Novantrone in the United States for oncology indications. Sales
commissions for the years ended December 31, 2006 and 2005
were $11.8 million and $29.7 million, respectively.
Sales commissions declined significantly in 2006, and are
expected to continue to decline due to the patent expiration of
Novantrone in April 2006, which resulted in our loss of market
exclusivity for this product and the launch of generic
competitors.

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License, Milestone and
    Other RevenuesWe recognized $28.9 million and $16.2 million of
license, milestone and other related revenues during the years
ended December 31, 2006 and 2005, respectively. The years
ended December 31, 2006 and 2005 include approximately
$19 million and $14 million, respectively, of license,
milestone and royalty payments under the worldwide non-exclusive
license agreements entered into by Prosidion under our DPIV
patent portfolio covering the use of DPIV inhibitors for
treatment of type 2 diabetes and related indications. In October
2006, Merck announced that it had received FDA approval for its
DPIV inhibitor, Januvia, which resulted in our receipt of a
milestone payment and ongoing rights to royalties from sales of
Januvia. Also included in license and milestone revenues is the
recognition of the ratable portion of upfront fees from
Genentech and milestone payments received from Genentech and
Roche to date in connection with various regulatory acceptances
and approvals for Tarceva in the United States, Europe and Japan
and a $35.0 million milestone payment from Pfizer as a
result of the 2006 launch of Macugen in Europe. These payments
were initially deferred and are being recognized as revenue in
accordance with
EITF 00-21. The
ratable portion of the upfront fee and milestone payments
recognized as revenue for the years ended December 31, 2006
and 2005 were $5.4 million and $1.6 million,
respectively. Our unrecognized deferred revenue related to these
upfront fees and milestone payments was $72.6 million and
$42.0 million as of December 31, 2006 and 2005,
respectively.

We also will be entitled to additional milestone payments from
Genentech and Roche upon the occurrence of certain regulatory
approvals and filings with respect to Tarceva. As a result of
the January 2007 marketing authorization by the European
Commission for use of Tarceva in combination with gemcitabine as
first-line therapy for metastatic pancreatic cancer we are
entitled to a $4 million milestone payment from Roche.
Additional milestone payments will be due from Genentech and
Roche upon approval of adjuvant indications in the United States
and Europe. Additional milestone payments will be due from Roche
upon the approval of Tarceva in Japan. The ultimate receipt of
these additional milestone payments is contingent upon the
applicable regulatory approvals and other future events. In
January 2007, we outlicensed our GKA program, including our
clinical candidate PSN010, which is in Phase I studies, to
Eli Lilly for an upfront fee of $25 million and up to
$360 million in potential development and sales milestones
and other payments plus royalties on any compounds successfully
commercialized from this program. In addition, we may receive
future milestone payments from the licensees of our DPIV patents.



Collaborative Program
    RevenuesCollaborative program revenues primarily represent reimbursement
of a portion of research and development costs for Macugen under
our collaboration agreement with Pfizer.

Expenses

|                                                 |  |                         |         |  |      |   |         |          |  |   |         |  
|------------------------------------------------ |  | ----------------------- | ------- |  | ---- | - | ------- | -------- |  | - | ------- | -
|                                                 |  | Year Ended December 31, |        
|                                                 |  | (in thousands)          |        
|                                                 |  |                         |        
|                                                 |  | 2006                    |         |  | 2005 |   |         | $ Change | 
|                                                 |  |                         |         |  |      |   |         |          | 
|Cost of goods sold                               |  | $                       | 79,223  |  |      | $ | 18,882  |          |  | $ | 60,341  |  
|Collaborative profit share                       |  |                         | 40,297  |  |      |   | 12,312  |          |  |   | 27,985  |  
|Research and development                         |  |                         | 176,654 |  |      |   | 125,953 |          |  |   | 50,701  |  
|Acquired in-process research and
    development |  |                         |        |  |      |   | 64,442  |          |  |   | (64,442 | )
|Selling, general and administrative              |  |                         | 158,617 |  |      |   | 98,393  |          |  |   | 60,224  |  
|Impairment of intangible assets                  |  |                         | 505,985 |  |      |   |        |          |  |   | 505,985 |  
|Amortization of intangibles                      |  |                         | 19,912  |  |      |   | 17,544  |          |  |   | 2,368   |  
|                                                 |  |                         |         |  |      |   |         |          | 
|                                                 |  | $                       | 980,688 |  |      | $ | 337,526 |          |  | $ | 643,162 |  
|                                                 |  |                         |         |  |      |   |         |          | 





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##### 

Cost of Goods
    SoldTotal cost of goods sold for the years ended December 31,
2006 and 2005 were $79.2 million and $18.9 million,
respectively. In 2006, cost of goods sold primarily consisted of
$71.0 million related to Macugen and $8.2 million
related to Tarceva. Cost of goods sold for the year ended
December 31, 2005 included $4.9 million related to
Tarceva and $14.0 million related to Macugen for the period
between November 14, 2005 and December 31, 2005.

Also during the fourth quarter of 2006, we assessed our current
level of Macugen finished goods inventory with near term
expiration dates, our progress on finalizing a new sterile
syringe product presentation to satisfy our post-approval
commitment to the FDA for Macugen, and the expected
recoverability of Macugen work in process and raw material upon
our ultimate exit from the eye disease business. Our analysis of
the carrying value of inventory relies upon known market trends
and expectations for future sales. Based on this assessment, we
concluded that an inventory charge of $26.4 million was
required for the fourth quarter of 2006 related to the potential
disposal of certain Macugen packaged syringes as well as the
recoverability of work in process and raw materials. If actual
results differ significantly from our expectations, it could
lead to the write down of additional inventory or the benefit of
selling inventory with zero cost basis.

In November 2005, in connection with the acquisition of Eyetech,
we recorded the acquired Macugen inventory at its estimated fair
value in accordance with SFAS No. 141. Included in
cost of goods sold in 2006 and 2005 was approximately
$19.9 million and $6.8 million, respectively, of the
step-up in fair market
value from the purchase accounting adjustments. We expect that
approximately $2.6 million in fair market value purchase
accounting adjustments related to Macugen will be included in
future cost of goods sold or be recognized upon the possible
sale of the eye disease business. The increase to fair market
value is being recognized as cost of product sales when the
acquired inventory is sold.

Prior to receipt of approval of Tarceva for commercial sale on
November 18, 2004, we had expensed all costs associated
with the production of Tarceva to research and development.
Effective November 18, 2004, we began to capitalize the
costs of manufacturing Tarceva as inventory, including the costs
to label, package and ship previously manufactured bulk
inventory whose costs had already been expensed as research and
development. During 2006, we had sold all of the inventory
partially produced and expensed prior to November 18, 2004.
Cost of goods sold for the years ended December 31, 2006
and 2005 would have been $1.4 million and $4.2 million
higher, respectively, if the Tarceva inventory sold had
reflected the full absorption of manufacturing costs. The
increased costs presented in this manner are more reflective of
our cost of goods sold going forward.



Collaborative Profit
    ShareCollaboration profit share represents Pfizers share of net
product sales of Macugen less cost of goods sold within the
United States for the year ended December 31, 2006 and the
period between November 14, 2005 and December 31,
2005. Under our agreements with Pfizer, we share profits and
losses from the commercialization of Macugen in the United
States until the later of 15 years after commercial launch
in the United States and the expiration of the United States
patent rights for Macugen.



Research and
    DevelopmentWe consider the active management and development of our
clinical pipeline crucial to the long-term process of getting a
clinical candidate approved by the regulatory authorities and
brought to market. We manage our overall research, development
and in-licensing efforts in a manner designed to generate a
constant flow of clinical candidates into development to offset
both the advancement of products to the market and the
anticipated attrition rate of drug candidates that fail in
clinical trials or are terminated for business reasons. The
duration of each phase of clinical development and the
probabilities of success for approval of drug candidates
entering clinical develop-

49



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ment will be impacted by a variety of factors, including the
quality of the molecule, the validity of the target and disease
indication, early clinical data, investment in the program,
competition and commercial viability. Because we manage our
pipeline in a dynamic manner, it is difficult to give accurate
guidance on the anticipated proportion of our research and
development investments assigned to any one program prior to the
Phase III stage of development, or to the future cash
inflows from these programs. For the years ended
December 31, 2006 and 2005, we invested a total of
$56.8 million and $48.3 million, respectively, in
research and $119.9 million and $77.6 million,
respectively, in pre-clinical and clinical development. We
consider this level of investment suitable for a company with
our pipeline of clinical and pre-clinical candidates.

Research and development expenses increased by
$50.7 million for the year ended December 31, 2006
compared to the year ended December 31, 2005. The increase
was primarily due to $45.9 million of research and
development expenses related to the programs we acquired from
Eyetech, $6.9 million increase in Tarceva related expenses,
$5.0 million of severance related costs and
$5.1 million of equity based compensation expense related
to the adoption of SFAS No. 123, Share-Based
Payment, or, SFAS 123(R). Partially offsetting these
increases was a decline in research and development expenses for
non-Tarceva related product candidates.

We manage the ongoing development program for Tarceva with our
partners, Genentech and Roche, through a global development
committee under a Tripartite Agreement among the parties.
Together with our partners, we have implemented a broad-based
global development strategy for Tarceva that implements
simultaneous clinical programs currently designed to expand the
number of approved indications of Tarceva and evaluate the use
of Tarceva in new and/or novel combinations. Our global
development plan has included major Phase III clinical
trials in lung and pancreatic cancer in the past, and currently
includes additional major Phase III clinical trials in lung
cancer in the maintenance and adjuvant settings. Since 2001, the
partners have committed approximately $700 million combined
in the global development plan to be shared by the three
parties. As of December 31, 2006, we have invested in
excess of $178 million in the development of Tarceva,
representing our share of the costs incurred to date in the
tripartite global development plan and additional investments
outside of the plan.

On November 6, 2006, we announced our intention to exit our
eye disease business. We expect to complete this process and
exit the business in mid-2007 and therefore anticipate a
significant decline in Eyetech research and development
expenditures in 2007.



Acquired In-Process
    Research and DevelopmentIn connection with the acquisition of Eyetech in November 2005,
we recorded an in-process R&D charge of $60.9 million
in 2005 representing the estimated fair value of the acquired
in-process technology that had not yet reached technological
feasibility and had no alternative future use, as discussed in
Note 2 to the accompanying consolidated financial
statements.

We also recognized in-process R&D charges of
$3.5 million in connection with the acquisition of the
minority interest in Prosidion in 2005, and $32.8 million
in connection with the acquisition of Probiodrug in July 2004.



Selling, General and
    AdministrativeSelling, general and administrative expenses for the year ended
December 31, 2006 increased by $60.2 million from
$98.4 million for the year ended December 31, 2005.
The increase in expenses was primarily attributable to
$32.0 million of expenses related to the eye disease
business, which was principally commercial expenses, recognition
of $16.6 million of equity based compensation expense
related to the adoption of SFAS No. 123(R),
$5.9 million of charges related to facility consolidations,
$2.5 million of severance related costs, and an increase in
corporate related expenses. Partially offsetting these increases
was a $7.0 million decline in maintenance fees for
Novantrone. The year ended December 31, 2005 also included
a charge of $4.4 million for estimated facility lease

50



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##### 

return costs and the remaining rental obligations net of
estimated sublease rental income for the unused portion of our
Oxford facility resulting from the consolidation of our
U.K.-based oncology operations.



Impairment of Intangible
    AssetsFor the year ended December 31, 2006, we recognized
$506.0 million of impairment charges relating to Eyetech
goodwill and other Eyetech intangibles with finite useful lives.

In accordance with SFAS No. 142, goodwill and other
indefinite-lived intangible assets must be tested annually for
impairment or in interim periods if events indicate there is a
possible impairment. As a result of recent competitive
developments relating to Macugen and the market for wet AMD
treatments, we were required to assess the value of goodwill
recorded in connection with the acquisition of Eyetech in
November 2005. These developments included the widespread
off-label use of Avastin to treat wet AMD and the launch of
Lucentis, a competitive product to Macugen, in early July 2006.
In performing this assessment, we considered the declining
Macugen revenues, as well as our decision to suspend or curtail
research activities in the eye disease area, which further
limits the potential for future revenues from new eye disease
products arising from Eyetechs research capabilities.
Based on this assessment, we recorded an impairment charge of
$320.3 million in the aggregate for the second and third
quarters of 2006, reflecting the write-off of the full value of
the Eyetech goodwill.

In accordance with SFAS No. 144, we are required to
assess the recoverability of the long-lived assets relating to
our eye disease business that existed on December 31, 2006,
including the amortizable intangible assets related to Eyetech.
This assessment included developing various estimates of future
cash flows relating to Macugen and weighing additional factors
that could impact these future cash flows. Two critical factors
were given significant weight in our assessment: the current
sales level of Macugen and our level of certainty regarding the
ultimate structure of a transaction to exit the eye disease
business. While we continue to believe that Macugen may achieve
an important place in the wet AMD marketplace, it will be
dependent on the outcome of the LEVEL trial and the emergence of
additional safety signals with the use of other agents. In
addition, it is probable that the ultimate outcome of our
process to exit the eye disease business will result in a
transaction with a combination of up-front consideration and
contingent consideration. However, because of the current sales
levels of Macugen and the uncertainty surrounding future sales
levels of Macugen on which any contingent consideration would be
based, there is significant risk relating to the value of any
contingent consideration. After considering all of the
aforementioned factors, we have concluded that all of the
Macugen amortizable intangibles were impaired and have recorded
a $185.7 million impairment charge in the fourth quarter of
2006.



Amortization of
    IntangiblesAmortization expense for the year ended December 31, 2006
and 2005 was $19.9 million and $17.5 million,
respectively. In 2006, we recorded amortization expense of
$18.1 million related to intangible assets of
$201.4 million acquired in the Eyetech acquisition.
Amortization expense for our rights to Novantrone were
$1.5 million and $14.9 million for the years ended
December 31, 2006 and 2005, respectively. At
December 31, 2005, we revised the future recoverability
period of the Novantrone intangible asset to extend through the
end of 2008, and are amortizing the remaining balance on a
straight line basis.

51



---



##### 

Other Income and Expense

|                             |  |                         |        |   |      |   |        |          |  |   |        |  
|---------------------------- |  | ----------------------- | ------ | - | ---- | - | ------ | -------- |  | - | ------ | -
|                             |  | Year Ended December 31, |       
|                             |  | (in thousands)          |       
|                             |  |                         |       
|                             |  | 2006                    |        |   | 2005 |   |        | $ Change | 
|                             |  |                         |        |   |      |   |        |          | 
|Investment income-net        |  | $                       | 11,315 |   |      | $ | 13,322 |          |  | $ | (2,007 | )
|Interest expense             |  |                         | (7,578 | ) |      |   | (5,065 | )        |  |   | (2,513 | )
|Other (expense) income-net   |  |                         | (2,975 | ) |      |   | (2,048 | )        |  |   | (927   | )
|                             |  |                         |        |   |      |   |        |          | 
|Total other income (expense) |  | $                       | 762    |   |      | $ | 6,209  |          |  | $ | (5,447 | )
|                             |  |                         |        |   |      |   |        |          | 





Extraordinary Gain




Years Ended December 31, 2005 and 2004


10-K


Results of Operations








---



##### 

from our Tarceva partnership with Genentech and royalties from
international sales of Tarceva from Roche. The 2005 net
loss included in-process R&D charges of $64.4 million
in connection with the acquisition of Eyetech and the
acquisition of the minority interest in Prosidion. The
2004 net loss included an in process R&D charge of
$32.8 million for the acquisition of certain assets of
Probiodrug by Prosidion, a charge of $24.6 million related
to the impairment of the Gelclair intangible asset and a charge
of $7.2 million for excess inventory.

Revenues

|                                                   |  |                         |         |  |      |   |        |          |  |   |         |  
|-------------------------------------------------- |  | ----------------------- | ------- |  | ---- | - | ------ | -------- |  | - | ------- | -
|                                                   |  | Year Ended December 31, |        
|                                                   |  | (in thousands)          |        
|                                                   |  |                         |        
|                                                   |  | 2005                    |         |  | 2004 |   |        | $ Change | 
|                                                   |  |                         |         |  |      |   |        |          | 
|Net revenue from unconsolidated
    joint business |  | $                       | 84,727  |  |      | $ |       |          |  | $ | 84,727  |  
|Product sales                                      |  |                         | 32,411  |  |      |   | 1,285  |          |  |   | 31,126  |  
|Royalties on product sales                         |  |                         | 7,127   |  |      |   |       |          |  |   | 7,127   |  
|Sales commissions                                  |  |                         | 29,684  |  |      |   | 35,855 |          |  |   | (6,171  | )
|License, milestone and other
    revenues          |  |                         | 16,164  |  |      |   | 6,616  |          |  |   | 9,548   |  
|Collaborative program revenues                     |  |                         | 4,081   |  |      |   |       |          |  |   | 4,081   |  
|                                                   |  |                         |         |  |      |   |        |          | 
|Total revenues                                     |  | $                       | 174,194 |  |      | $ | 43,756 |          |  | $ | 130,438 |  
|                                                   |  |                         |         |  |      |   |        |          | 



| |                                                   
| | --------------------------------------------------
| | Net Revenue from
    Unconsolidated Joint Business





| |              
| | -------------
| | Product Sales





| |                               
| | ------------------------------
| | Royalties on Product
    Sales







---



##### 

Sales
    CommissionsSales commissions represent commissions earned on the sales of
Novantrone in the United States for oncology indications. Sales
commissions for the years ended December 31, 2005 and 2004
were $29.7 million and $35.9 million, respectively. We
believe the decrease was due to the patent expiration in April
2006 and the resulting loss of market exclusivity for the
covered pharmaceutical product.



License, Milestone and
    Other RevenuesWe recognized $16.2 million of license, milestone and other
related revenues for the year ended December 31, 2005, of
which $14.2 million related to upfront fees and milestone
payments relating to worldwide non-exclusive license agreements
entered into by Prosidion under our DPIV patent portfolio
covering the use of DPIV inhibitors for treatment of type 2
diabetes and related indications. Also included in license and
milestone revenues was the recognition of the ratable portion of
the $25.0 million upfront fees from Genentech and the
ratable portion of the $42.0 million of milestone payments
received from Genentech and Roche in connection with various
regulatory acceptances and approvals for Tarceva in the United
States and Europe. These payments were initially deferred and
were recognized as revenue in accordance with
EITF 00-21. The
ratable portion of these upfront fees and milestone payments for
the years ended December 31, 2005 and 2004 were
$1.6 million and $6.3 million, respectively. The
unrecognized deferred revenue related to these upfront fees and
milestone payments received from Genentech and Roche was
$42.0 million and $18.7 million as of
December 31, 2005 and 2004, respectively.



Collaborative Program
    RevenuesCollaborative program revenues represents reimbursement of a
portion of research and development costs for Macugen under our
collaboration agreement with Pfizer for the period from
November 14, 2005 to December 31, 2005, and totaled
$4.1 million.

Expenses

|                                                   |  |                         |         |  |      |   |         |          |  |   |         |  
|-------------------------------------------------- |  | ----------------------- | ------- |  | ---- | - | ------- | -------- |  | - | ------- | -
|                                                   |  | Year Ended December 31, |        
|                                                   |  | (in thousands)          |        
|                                                   |  |                         |        
|                                                   |  | 2005                    |         |  | 2004 |   |         | $ Change | 
|                                                   |  |                         |         |  |      |   |         |          | 
|Cost of goods sold                                 |  | $                       | 18,882  |  |      | $ | 7,627   |          |  | $ | 11,255  |  
|Collaborative profit share                         |  |                         | 12,312  |  |      |   |        |          |  |   | 12,312  |  
|Net expense from unconsolidated
    joint business |  |                         |        |  |      |   | 7,661   |          |  |   | (7,661  | )
|Research and development                           |  |                         | 125,953 |  |      |   | 118,204 |          |  |   | 7,749   |  
|Acquired in-process research and
    development   |  |                         | 64,442  |  |      |   | 32,785  |          |  |   | 31,657  |  
|Selling, general and administrative                |  |                         | 98,393  |  |      |   | 98,403  |          |  |   | (10     | )
|Impairment of intangible asset                     |  |                         |        |  |      |   | 24,599  |          |  |   | (24,599 | )
|Amortization of intangibles                        |  |                         | 17,544  |  |      |   | 17,572  |          |  |   | (28     | )
|                                                   |  |                         |         |  |      |   |         |          | 
|                                                   |  | $                       | 337,526 |  |      | $ | 306,851 |          |  | $ | 30,675  |  
|                                                   |  |                         |         |  |      |   |         |          | 



| |                       
| | ----------------------
| | Cost of Goods
    Sold



step-up






---



##### 

For the years ended December 31, 2005 and 2004, Tarceva
cost of goods sold for manufacturing-related expenses associated
with the sale of Tarceva to Genentech was $4.5 million and
$11,000, respectively. Prior to receipt of approval of Tarceva
for commercial sale on November 18, 2004, we had expensed
all costs associated with the production of Tarceva to research
and development. Effective November 18, 2004, we began to
capitalize the costs of manufacturing Tarceva as inventory,
including the costs to label, package and ship previously
manufactured bulk inventory whose costs had already been
expensed as research and development. Although it is our policy
to state inventory reflecting full absorption costs until we
sell all of our existing inventory for which all or a portion of
the costs were previously expensed, certain components of
inventory will continue to reflect costs incurred to process
into finished goods previously expensed raw materials and work
in process. Cost of goods sold for the year ended
December 31, 2005 and the three months ended
December 31, 2004 would have been $4.2 million and
$364,000 higher, respectively, if the Tarceva inventory sold had
reflected the full absorption manufacturing costs. The increased
costs presented in this manner are more reflective of our cost
of goods sold going forward.

For the years ended December 31, 2005 and 2004, Gelclair
cost of goods sold were $500,000 and $7.6 million,
respectively. The decrease in cost of goods for the year ended
December 31, 2005 compared to the prior year is primarily
related to a provision of $7.2 million for Gelclair
inventory that we deemed in excess of forecasted demand, based
on the expiration date of the product.



Collaborative Profit
    ShareCollaboration profit sharing represents Pfizers share of
net product sales of Macugen less cost of goods sold within the
United States for the period between November 14, 2005 and
December 31, 2005. Under our agreements with Pfizer, we
share profits and losses from the commercialization of Macugen
in the United States until the later of 15 years after
commercial launch in the United States and the expiration of the
Unites States patent rights for Macugen.



Net Revenue (Expense) from
    Unconsolidated Joint BusinessNet expense from unconsolidated joint business is related to our
co-promotion and manufacturing agreements with Genentech for
Tarceva. It consists of our share of the pretax co-promotion
loss generated from our co-promotion arrangement with Genentech
for Tarceva, the partial reimbursement from Genentech of our
sales and marketing costs related to Tarceva, and the
reimbursement from Genentech of our manufacturing costs related
to Tarceva. For the period from the product launch on
November 22, 2004, through December 31, 2004,
Genentech recorded $13.3 million in net sales of Tarceva in
the United States and its territories. The resulting net expense
from unconsolidated joint business of $7.7 million was due
to the significant costs we, along with Genentech, incurred on
the sales and marketing of Tarceva during the period. In 2005,
this joint business turned profitable, and was reflected in net
revenue from unconsolidated joint business.



Research and
    DevelopmentFor the years ended December 31, 2005 and 2004, we invested
a total of $48.3 million and $53.6 million,
respectively, in research and $77.6 million and
$64.6 million, respectively, in pre-clinical and clinical
development. We considered this level of investment suitable for
a company with our pipeline of clinical and pre-clinical
candidates.

Research and development expenses increased $7.7 million
for the year ended December 31, 2005 compared to the year
ended December 31, 2004. The increase was primarily due to
$9.3 million of research and development expenses related
to the programs we acquired from Eyetech on November 14,
2005. These expenses reflected the expenses incurred between
November 14, 2005 and December 31, 2005. The increase
was also associated with

55



---



##### 

an increase in expenses related to our diabetes and obesity
research, offset by a decrease in oncology expenses. Development
costs associated with our diabetes pre-clinical and clinical
pipeline, including PSN9301, PSN357, and PSN010, increased
$20.7 million for the year ended December 31, 2005
over the prior year. In January 2005, we initiated a
Phase II
proof-of-concept and
dose range finding study for our DPIV inhibitor, PSN9301.
Offsetting this increase was a $19.7 million net decrease
in our oncology research and development programs primarily
associated with the decision to de-prioritize or cease
development of our clinical candidates, OSI-7904L and OSI-461,
and the consolidation of our U.K.-based oncology activities into
our New York locations, and the $4.7 million of related
realignment charges recorded in the year ended December 31,
2004.

With respect to our global development plan for Tarceva, as of
December 31, 2005, we, together with our partners, had
committed approximately $600 million in the aggregate since
2001 which costs are to be shared by the three parties. As of
December 31, 2005, we had invested in excess of
$141.0 million in the development of Tarceva, representing
our share of the costs that we incurred in the tripartite global
development plan and additional investments outside of the plan.

With respect to Macugen, for the period between
November 14, 2005, the date of our Eyetech acquisition, and
December 31, 2005, we expended $9.3 million in the
development of Macugen, of which $4.1 million was
reimbursed by Pfizer.



Acquired In-Process
    Research and DevelopmentIn connection with the acquisition of Eyetech in November 2005,
we recorded an in-process R&D charge of $60.9 million
representing the estimated fair value of the acquired in-process
technology that had not yet reached technological feasibility
and had no alternative future use.

We also recognized in-process R&D charges of
$3.5 million in connection with the acquisition of the
minority interest in Prosidion in calendar 2005, and
$32.8 million in connection with the acquisition of
Probiodrug in July 2004.



Selling, General and
    AdministrativeSelling, general and administrative expenses for the years ended
December 31, 2005 and 2004 remained constant at
$98.4 million. However, expenses increased by
$9.2 million as a result of the Eyetech acquisition on
November 14, 2005. These expenses reflected the expenses
incurred between November 14, 2005 and December 31,
2005. This increase was primarily offset by our share of
Genentechs commercial expenses relating to Tarceva no
longer being included in selling, general and administrative
expense and instead were included as part of the co-promotion
profit and included in the calculation of net revenues from
unconsolidated joint business in the accompanying consolidated
statement of operations for the year ended December 31,
2005. The year ended December 31, 2005 also included a
charge of $4.2 million for estimated facility lease return
costs and the remaining rental obligations net of estimated
sublease rental income for the unused portion of our Oxford
facility resulting from the consolidation of our U.K.-based
oncology operations. The year ended December 31, 2004
included a charge of $1.8 million for the remaining rental
obligations net of estimated sublease rental income for our
Horsham, Pennsylvania facility which we assumed as part of the
Cell Pathways acquisition in June 2003.



Impairment of Intangible
    AssetIn connection with our acquisition of Cell Pathways, we assumed
the exclusive rights to market and distribute Gelclair in North
America. We recorded an identifiable intangible asset of
$29.0 million which was being amortized over eight and a
half years, representing the remaining term of the agreement. We
assess the potential impairment of our long-lived asset under
the provisions of SFAS No. 144. In performing the
recoverability test prescribed by

56



---



##### 

SFAS No. 144, we determined that the total of the
expected future undiscounted cash flows directly related to the
Gelclair asset were less than the carrying value of the Gelclair
asset. As a result, an impairment charge was required. The
amount of the impairment charge represents the difference
between the fair value of the intangible asset and its
associated carrying value. We calculated the fair value of the
intangible asset using discounted cash flows. The discounted
cash flows calculation was made utilizing various assumptions
and estimates regarding future revenues and expenses, cash flow
and discount rates. Based on these calculations, we determined
that an impairment charge of $24.6 million, which
represented the full unamortized balance of the Gelclair
intangible asset, was necessary as of September 30, 2004.
The impairment charge resulted from both the discontinuance of
discussions with a replacement dental partner and slower than
originally expected sales growth in the oncology marketplace.



Amortization of
    IntangiblesAmortization expense for the years ended December 31, 2005
and 2004 was $17.5 million and $17.6 million,
respectively. In 2005, we recorded amortization expense of
$2.3 million related to intangible assets of
$201.4 million acquired in the Eyetech acquisition. The
core technology is being amortized over the estimated useful
life of 11 years. Amortization expense for our rights to
Novantrone was $14.9 million in each of 2005 and 2004. At
December 31, 2005, we revised the future recoverability
period of Novantrone intangible asset to extend through the end
of 2008, and amortized the remaining balance on a straight line
basis.

Other Income and Expense

|                              |  |                         |        |   |      |   |         |          |  |   |        |  
|----------------------------- |  | ----------------------- | ------ | - | ---- | - | ------- | -------- |  | - | ------ | -
|                              |  | Year Ended December 31, |       
|                              |  | (in thousands)          |       
|                              |  |                         |       
|                              |  | 2005                    |        |   | 2004 |   |         | $ Change | 
|                              |  |                         |        |   |      |   |         |          | 
|Investment income-net         |  | $                       | 13,322 |   |      | $ | 6,152   |          |  | $ | 7,170  |  
|Interest expense              |  |                         | (5,065 | ) |      |   | (11,835 | )        |  |   | 6,770  |  
|Other income (expenses)-net   |  |                         | (2,048 | ) |      |   | 146     |          |  |   | (2,194 | )
|                              |  |                         |        |   |      |   |         |          | 
|Total other income (expenses) |  | $                       | 6,209  |   |      | $ | (5,537  | )        |  | $ | 11,746 |  
|                              |  |                         |        |   |      |   |         |          | 









---



##### 

Liquidity and Capital Resources

At December 31, 2006, cash and investments, including
restricted securities, were $216.4 million compared to
$179.6 million at December 31, 2005. The increase of
$36.8 million was primarily due to the following changes:
(i) net cash of $37.5 million from operating
activities, and (ii) net cash of $9.1 million proceeds
from stock option exercises; offset by (iii) cash used for
capital expenditures of $10.7 million.

Included in cash used in operating activities are fluctuations
in the timing of cash disbursements and receipts, as well as
increases in operating expenses, and increases in revenues. For
the year ended December 31, 2006, revenues were
$201.5 million higher than prior periods primarily due to
$154.9 million of revenues from Tarceva unconsolidated
joint business revenue in the United States, $50.2 million
of Tarceva rest of world royalties revenues, $103.3 million
of Macugen sales, and $54 million of cash from
collaborative agreements.

On November 12, 2004, during the transition quarter, we
concluded a public offering of six million shares of our common
stock at a price of $64.50 per share. Gross proceeds
totaled $387.0 million with net proceeds of approximately
$365.0 million after the payment of all related fees. In
addition, on November 17, 2004, underwriters associated
with the offering exercised their over-allotment option to
purchase an additional 900,000 shares of our common stock
at a price of $64.50 per share. Gross proceeds from the
exercise of the over-allotment option totaled $58.1 million
with net proceeds of approximately $54.9 million.

On November 14, 2005, we acquired all outstanding shares of
Eyetech common stock at a purchase price of $15.00 in cash and
0.12275 shares of OSI common stock. The acquisition reduced
the net cash and cash equivalents and investments by
approximately $430.2 million.

On December 21, 2005, we issued our 2025 Notes in a private
placement resulting in net proceeds to us of $96.5 million.
On December 28, 2005, the investment bankers associated
with this convertible debt offering exercised an option to
purchase an additional $15.0 million of the 2025 Notes,
resulting in additional net proceeds to us of
$14.5 million. The 2025 Notes bear interest at
2.00% per annum, payable semi-annually in arrears, and
mature on December 15, 2025. We used a part of the net
proceeds to (i) purchase through the initial purchaser or
its affiliates, concurrently with the offering,
500,000 shares of our common stock for $11.8 million,
and (ii) pay approximately $12.2 million to purchase a
call spread option with respect to our common stock. The call
spread is a European-type option with a lower strike price of
$29.425 and an upper strike price of $40.00 and involves an
aggregate of 3.4 million shares of our common stock and
expires on December 15, 2010. This had the impact of
increasing the effective conversion price of the 2025 Notes from
our perspective to $40.00 per share, representing a
conversion premium of approximately 70% to the per share closing
price on December 21, 2005.

Delivering full-year profitability in 2007 is a key goal that we
believe can be attained through careful and prudent management
of our business and, in particular, our expenses. If we are able
to execute on our internal plans, including exiting the eye
disease business in mid-2007, we expect that our R&D
investments and capital requirements over the next twelve to
eighteen months can be funded from the generation of cash flow
from our commercialized product and out licensing activities. If
we are successful, we anticipate funding the majority, if not
all of our liquidity and capital needs from the generation of
cash flow from operations, with the potential exception of
strategic acquisitions of products and/or businesses.

58



---



##### 

Commitments and Contingencies

Our major outstanding contractual obligations relate to our
purchase obligations, our senior subordinated convertible notes
and our facility leases. The following table summarizes our
significant contractual obligations at December 31, 2006
and the effect such obligations are expected to have on our
liquidity and cash flow in future periods (in thousands):

|                              |                                               |                         |        |       |        |   |        |       |        |   |        |        |        |      |        |       |            |   |        |       |       |   |         |         |        |   |         |         |         | 
|----------------------------- | --------------------------------------------- | ----------------------- | ------ | ----- | ------ | - | ------ | ----- | ------ | - | ------ | ------ | ------ | ---- | ------ | ----- | ---------- | - | ------ | ----- | ----- | - | ------- | ------- | ------ | - | ------- | ------- | ------- | 
|                              |                                               |                         |        |       |        |   |        |       |        |   |        | 2012 & |        |      |       
|                              |                                               | 2007                    |        |       | 2008   |   |        | 2009  |        |   | 2010   |        |        | 2011 |        |       | Thereafter |   |        | Total |      
|                              |                                               |                         |        |       |        |   |        |       |        |   |        |        |        |      |        |       |            |   |        |       |      
|Contractual Obligations:      |                                               |                         |        |       |        |   |        |       |        |   |        |        |        |      |        |       |            |   |        |       |       |   |         |         |        |   |         |        
|                              | Senior convertible debt(a)                    |                         | $      | 7,175 |        |   | $      | 7,175 |        |   | $      | 7,175  |        |      | $      | 7,175 |            |   | $      | 7,175 |       |   | $       | 355,700 |        |   | $       | 391,575 |        
|                              |                                               | Operating leases        |        |       | 11,248 |   |        |       | 10,424 |   |        |        | 9,672  |      |        |       | 9,216      |   |        |       | 9,338 |   |         |         | 70,306 |   |         |         | 120,204 | 
|                              |                                               | Capital commitments     |        |       | 285    |   |        |       |       |   |        |        |       |      |        |       |           |   |        |       |      |   |         |         |       |   |         |         | 285     | 
|                              |                                               | Purchase obligations(b) |        |       | 39,812 |   |        |       | 29,612 |   |        |        | 14,200 |      |        |       | 4,200      |   |        |       | 3,000 |   |         |         | 7,600  |   |         |         | 98,424  | 
|                              | Obligations related to exit
    activities(c) |                         |        | 5,361 |        |   |        | 548   |        |   |        | 2,599  |        |      |        |      |            |   |        |      |       |   |         | 814     |        |   |         | 9,322   |        
|                              |                                               |                         |        |       |        |   |        |       |        |   |        |        |        |      |        |       |            |   |        |       |      
|Total contractual obligations |                                               | $                       | 63,881 |       |        | $ | 47,759 |       |        | $ | 33,646 |        |        | $    | 20,591 |       |            | $ | 19,513 |       |       | $ | 434,420 |         |        | $ | 619,810 |        
|                              |                                               |                         |        |       |        |   |        |       |        |   |        |        |        |      |        |       |            |   |        |       |      






|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | Includes interest payments at a rate of 3.25% per annum
    relating to the $150.0 million principal amount of the 2023
    Notes and at a rate of 2% per annum relating to the
    $115.0 million principal amount of the 2025 Notes. The
    holders of the 2023 Notes have the right to require us to
    purchase all of the 2023 Notes, or a portion thereof, in
    September 2008. We may choose to pay the purchase price in cash
    or shares of our common stock. Holders of the 2025 Notes have
    the right to require us to purchase, for cash, all of the 2025
    Notes, or a portion thereof, in December 2010.
|   
|(b) | Purchase obligations include inventory commitments, commercial
    and research commitments and other significant purchase
    commitments. Included in these purchase obligations is our share
    of the remaining future commitment related to the Tarceva global
    development cost of approximately $85 million.                                                                                                                                                                                                                                                                                                          
|   
|(c) | Includes payments for termination benefits and facility
    refurbishments.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      



| |                                                                               
| | ------------------------------------------------------------------------------
| | Other significant
    commitments and contingencies include the
    following:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | We are committed to share certain commercialization costs
    relating to Tarceva with Genentech. Under the terms of our
    agreement, there are no contractually determined amounts for
    future commercial costs.                                                                                                                                                                                                                                                                          
|
| |  | Under agreements with external CROs we will continue to incur
    expenses relating to clinical trials of Tarceva, Macugen and
    other clinical candidates. The timing and amount of these
    disbursements can be based upon the achievement of certain
    milestones, patient enrollment, services rendered or as expenses
    are incurred by the CROs and therefore we cannot reasonably
    estimate the potential timing of these payments.                                           
|
| |  | We have outstanding letters of credit of $9.0 million,
    which primarily serve as security for performance under various
    lease obligations.                                                                                                                                                                                                                                                                                                                                               
|
| |  | We have a retirement plan, which provides post-retirement
    medical and life insurance benefits to eligible employees, board
    members and qualified dependents. Eligibility is determined
    based on age and years of service. We accrued post-retirement
    benefit costs of $8.1 million at December 31, 2006.                                                                                                                                                                        
|
| |  | Under certain license and collaboration agreements with
    pharmaceutical companies and educational institutions, we are
    required to pay royalties and/or milestone payments upon the
    successful development and commercialization of products.
    However, successful research and development of pharmaceutical
    products is high risk, and most products fail to reach the
    market. Therefore, at this time the amount and timing of the
    payments, if any, are not known.





---



##### 


    Under certain license and other agreements, we are required to
    pay license fees for the use of technologies and products in our
    research and development activities or milestone payments upon
    the achievement of certain predetermined conditions. These
    license fees are not deemed material to our consolidated
    financial statements and the amount and timing of the milestone
    payments, if any, are not known due to the uncertainty
    surrounding the successful research, development and
    commercialization of the products.
    In connection with the acquisition of Eyetech in November 2005,
    we assumed various contracts related to the in-licensing,
    development, manufacture and marketing of Macugen. These license
    agreements represent rights and obligations of our subsidiary,
    (OSI) Eyetech, Inc. Under the terms of the license agreements,
    we will be required to make additional milestone payments, and
    we are also required to pay royalties on net sales.
    We have a minor investment in a privately owned company, and are
    obligated to make an additional $1.7 million of capital
    contribution upon request.

Accounting
    PronouncementsIn February 2007, the FASB issued SFAS No. 159,
The Fair Value Option for Financial Assets and Financial
Liabilities, or SFAS No. 159.
SFAS No. 159 permits entities to choose to measure
many financial instruments and certain items at fair value that
are not currently required to be measured at fair value. We will
be subject to the requirements of SFAS No. 159 for our
fiscal year ending December 31, 2008. We are currently
evaluating the impact of the provisions of
SFAS No. 159.

In September 2006, the FASB issued SFAS No. 158,
Employers Accounting for Defined Benefit Pension and
Other Postretirement Plans, or SFAS No. 158.
SFAS No. 158 requires employers to fully recognize the
obligations associated with single-employer defined benefit
pension, retiree healthcare and other post-retirement plans in
their financial statements. We adopted the requirements of
SFAS No. 158 as of December 31, 2006. The
adoption did not have material impact on our consolidated
financial statements.

In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements, or SFAS No. 157.
SFAS No. 157 defines fair value, establishes a
framework for measuring fair value in accordance with generally
accepted accounting principles, and expands disclosures about
fair value measurements. The provisions of
SFAS No. 157 are effective for our fiscal year ending
December, 31, 2008. We are currently evaluating the impact
of the provisions of SFAS No. 157.

In June 2006, the FASB issued Interpretation No. 48,
Accounting for Uncertainty in Income Taxes-an
interpretation of FASB Statement No. 109. This
Interpretation prescribes a recognition threshold and
measurement attribute for the financial statement recognition
and measurement of a tax position taken or expected to be taken
in a tax return, and provides guidance on derecognition,
classification, interest and penalties, accounting in interim
periods, disclosure, and transition. This Interpretation is
effective for our fiscal year ending December 31, 2007. We
do not expect the adoption to have a material impact on our
consolidated financial statements.

In February 2006, the FASB issued SFAS No. 155,
Accounting for Certain Hybrid Financial Instruments,
or SFAS No. 155, which is an amendment of
SFAS Nos. 133 and 140. This Statement (a) permits fair
value re-measurement for any hybrid financial instrument that
contains an embedded derivative that otherwise would require
bifurcation, (b) clarifies which interest-only strip and
principal-only strip are not subject to the requirements of
SFAS No. 133, (c) establishes a requirement to
evaluate interests in securitized financial assets to identify
interests that are freestanding derivatives or that are hybrid
financial instruments that contain an embedded derivative
requiring bifurcation, (d) clarifies that concentrations of
credit risk in the form of subordination are not embedded
derivatives, and (e) amends SFAS No. 140 to
eliminate the prohibition on a qualifying special-purpose entity
from holding a derivative financial instrument that pertains to
a beneficial interest other than another

60



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##### 

derivative financial instrument. This Statement is effective for
financial statements for our fiscal year ending
December 31, 2007. We are currently evaluating the impact
of the provisions of SFAS No. 155.

Forward Looking Statements

A number of the matters and subject areas discussed in this
Item 7 Managements Discussion and Analysis of
Financial Condition and Results of Operations, in
Item 1 Business and elsewhere in this report,
that are not historical or current facts, deal with potential
future circumstances and developments. The discussion of these
matters and subject areas, is qualified by the inherent risks
and uncertainties surrounding future expectations generally, and
these discussions may materially differ from our actual future
experience involving any one or more of these matters and
subject areas. These forward-looking statements are also subject
generally to the other risks and uncertainties that are
described in this report in Item 1A
Business  Risk Factors.

ITEM 7A.    QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISKS

Our cash flow and earnings are subject to fluctuations due to
changes in interest rates in our investment portfolio of debt
securities and to foreign currency exchange rates. We maintain
an investment portfolio of various issuers, types and
maturities. These securities are generally classified as
available-for-sale as defined by SFAS No. 115,
Accounting for Certain Investments in Debt and Equity
Securities, or SFAS No. 115, and, consequently,
are recorded on the balance sheet at fair value with unrealized
gains or losses reported as a component of accumulated other
comprehensive income (loss) included in stockholders
equity. We consider our restricted investment securities to be
held-to-maturity as
defined by SFAS No. 115. These securities are reported
at their amortized cost, which includes the direct costs to
acquire the securities, plus the amortization of any discount or
premium, and accrued interest earned on the securities. We have
not used or held derivative financial instruments in our
investment portfolio.

At December 31, 2006, we maintained a portion of our cash
and cash equivalents in financial instruments with original
maturities of three months or less. We also maintained an
investment portfolio principally comprised of government and
government agency obligations and corporate obligations that are
subject to interest rate risk and will decline in value if
interest rates increase.

A hypothetical 10% change in interest rates during the twelve
months ended December 31, 2006 would have resulted in a
$1.1 million change in our net loss for 2006.

Periodically, we enter into forward exchange contracts to reduce
foreign currency fluctuation risks relating to intercompany
transactions for the funding of our research activities in the
United Kingdom. We account for these derivative financial
instruments in accordance with SFAS No. 133,
Accounting for Derivative Instruments and Hedging
Activities, which was amended by SFAS No. 137
and SFAS No. 138. Changes in the fair value of a
derivative that is designated and documented as a cash flow
hedge and is highly effective, are recorded in other
comprehensive income until the underlying transaction affects
earnings, and then are later reclassified to earnings. We
formally assess, both at the inception and at each financial
quarter thereafter, the effectiveness of the derivative
instrument hedging the underlying forecasted cash flow
transaction. Any ineffectiveness related to the derivative
financial instruments change in fair value will be
recognized in the period in which the ineffectiveness was
calculated. As of December 31, 2006, there were no foreign
exchange contracts.

Our limited investments in certain biotechnology companies are
carried on the equity method or cost method of accounting using
the guidance of applicable accounting literature.
Other-than-temporary losses are recorded against earnings in the
same period the loss was deemed to have occurred.

61



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##### 

Our long-term debt totaled $265.0 million at
December 31, 2006 and was comprised of our 2023 Notes which
bear interest at a fixed rate of 3.25% and our 2025 Notes which
bear interest at a fixed rate of 2.00%. Underlying market risk
exists related to an increase in our stock price or an increase
in interest rates which may make the conversion of the 2023
Notes or 2025 Notes to common stock beneficial to the holders of
such notes. Conversion of the 2023 Notes or 2025 Notes would
have a dilutive effect on any future earnings and book value per
common share.

62



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##### 

ITEM 8.    CONSOLIDATED FINANCIAL STATEMENTS

Index to Consolidated Financial Statements:

|                                                                                                                                                                                               |  |        |    | 
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------ | -- | 
|                                                                                                                                                                                               |  | Page  
|                                                                                                                                                                                               |  | Number
|                                                                                                                                                                                               |  |       
|Report of
    Independent Registered Public Accounting Firm on the
    Consolidated Financial Statements                                                                                       |  |        | 64 | 
|Consolidated
    Balance Sheets at December 31, 2006 and 2005                                                                                                                                  |  |        | 65 | 
|Consolidated
    Statements of Operations for the Years Ended December 31,
    2006 and 2005, the three months ended December 31, 2004 and
    the Year Ended September 30, 2004               |  |        | 66 | 
|Consolidated
    Statements of Stockholders Equity for the Years Ended
    December 31, 2006 and 2005, the three months ended
    December 31, 2004 and the Year Ended September 30,
    2004 |  |        | 67 | 
|Consolidated
    Statements of Cash Flows for the Years Ended December 31,
    2006 and 2005, the three months ended December 31, 2004 and
    the Year Ended September 30, 2004               |  |        | 69 | 
|Notes to
    Consolidated Financial Statements                                                                                                                                                 |  |        | 70 | 





---



##### 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

ON THE CONSOLIDATED FINANCIAL STATEMENTS

To the Stockholders and Board of Directors 
 OSI Pharmaceuticals, Inc.:

We have audited the accompanying consolidated balance sheets of
OSI Pharmaceuticals, Inc. and subsidiaries as of
December 31, 2006 and 2005, and the related consolidated
statements of operations, stockholders equity, and cash
flows for each of the years in the two-year period ended
December 31, 2006, for the three month period ended
December 31, 2004, and for the year ended
September 30, 2004. These consolidated financial statements
are the responsibility of the Companys management. Our
responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred
to above present fairly, in all material respects, the financial
position of OSI Pharmaceuticals, Inc. and subsidiaries as of
December 31, 2006 and 2005, and the results of their
operations and their cash flows for each of the years in the
two-year period ended December 31, 2006, for the three
months ended December 31, 2004, and for the year ended
September 30, 2004, in conformity with U.S. generally
accepted accounting principles.

We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
effectiveness of OSI Pharmaceuticals, Inc. and
subsidiaries internal control over financial reporting as
of December 31, 2006, based on criteria established in
Internal Control  Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission
(COSO), and our report dated February 28, 2007 expressed an
unqualified opinion on managements assessment of, and the
effective operation of, internal control over financial
reporting.

As discussed in Note 1 (j) and 11 to the consolidated
financial statements, effective January 1, 2006, the
Company adopted the fair value method of accounting for
stock-based compensation as required by Statement of Financial
Accounting Standards No. 123(R), Shared-Based
Payment.

As discussed in Note 16 to the consolidated financial
statements, the Company adopted the recognition and disclosure
provisions of Statement of Financial Accounting Standards
No. 158, Employers Accounting for Defined
Benefit Pension and Other Postretirement Plansas of
December 31, 2006.



/s/ KPMG LLPMelville, New York

February 28, 2007

64



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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

DECEMBER 31, 2006 AND 2005

(In thousands except per share data)

|                                                                              |                                                                                                                                              |                            |         |            |         |   |           |           |         | 
|----------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------- | ------- | ---------- | ------- | - | --------- | --------- | ------- | 
|                                                                              |                                                                                                                                              | December 31,               |        
|                                                                              |                                                                                                                                              |                            |        
|                                                                              |                                                                                                                                              | 2006                       |         |            | 2005    |  
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|ASSETS                                                                       
|Current assets:                                                               |                                                                                                                                              |                            |         |            |         |   |           |          
|                                                                              | Cash and cash equivalents                                                                                                                    |                            | $       | 42,028     |         |   | $         | 164,084   |        
|                                                                              | Investment securities                                                                                                                        |                            |         | 164,786    |         |   |           | 5,061     |        
|                                                                              | Restricted investment
    securities  short-term                                                                                            |                            |         | 9,554      |         |   |           | 10,461    |        
|                                                                              | Accounts receivables  net                                                                                                                   |                            |         | 80,075     |         |   |           | 152,482   |        
|                                                                              | Inventory  net                                                                                                                              |                            |         | 36,860     |         |   |           | 75,715    |        
|                                                                              | Interest receivable                                                                                                                          |                            |         | 3,674      |         |   |           | 78        |        
|                                                                              | Prepaid expenses and other current
    assets                                                                                                |                            |         | 9,102      |         |   |           | 10,618    |        
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|                                                                              |                                                                                                                                              | Total current assets       |         |            | 346,079 |   |           |           | 418,499 | 
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|Property, equipment and leasehold
    improvements  net                      |                                                                                                                                              |                            | 56,223  |            |         |   | 61,947    |          
|Debt issuance costs  net                                                     |                                                                                                                                              |                            | 4,910   |            |         |   | 6,667     |          
|Goodwill                                                                      |                                                                                                                                              |                            | 39,373  |            |         |   | 359,035   |          
|Other intangible assets 
    net                                             |                                                                                                                                              |                            | 6,742   |            |         |   | 207,194   |          
|Other assets                                                                  |                                                                                                                                              |                            | 4,405   |            |         |   | 5,240     |          
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|                                                                              |                                                                                                                                              | $                          | 457,732 |            |         | $ | 1,058,582 |          
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|LIABILITIES AND
    STOCKHOLDERS EQUITY                                     
|Current liabilities:                                                          |                                                                                                                                              |                            |         |            |         |   |           |          
|                                                                              | Accounts payable and accrued
    expenses                                                                                                    |                            | $       | 54,741     |         |   | $         | 80,467    |        
|                                                                              | Collaboration profit share payable                                                                                                           |                            |         | 12,039     |         |   |           | 49,869    |        
|                                                                              | Unearned revenue  current                                                                                                                   |                            |         | 12,803     |         |   |           | 10,737    |        
|                                                                              | Other liabilities 
    current                                                                                                              |                            |         |           |         |   |           | 1,255     |        
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|                                                                              |                                                                                                                                              | Total current liabilities  |         |            | 79,583  |   |           |           | 142,328 | 
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|Other liabilities:                                                            |                                                                                                                                              |                            |         |            |         |   |           |          
|                                                                              | Rent obligations and deferred rent
    expense                                                                                               |                            |         | 10,044     |         |   |           | 6,337     |        
|                                                                              | Unearned revenue 
    long-term                                                                                                             |                            |         | 66,089     |         |   |           | 39,051    |        
|                                                                              | Convertible senior subordinated
    notes                                                                                                    |                            |         | 265,000    |         |   |           | 265,000   |        
|                                                                              | Contingent value rights                                                                                                                      |                            |         |           |         |   |           | 22,047    |        
|                                                                              | Accrued post-retirement benefit cost                                                                                                         |                            |         | 8,070      |         |   |           | 5,353     |        
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|                                                                              |                                                                                                                                              | Total liabilities          |         |            | 428,786 |   |           |           | 480,116 | 
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|Stockholders equity:                                                         |                                                                                                                                              |                            |         |            |         |   |           |          
|                                                                              | Preferred stock, $.01 par
    value; 5,000 shares authorized; no shares issued at
    December 31, 2006 and 2005, respectively               |                            |         |           |         |   |           |          |        
|                                                                              | Common stock, $.01 par value;
    200,000 shares authorized, 59,179 and 58,728 shares
    issued at December 31, 2006 and 2005, respectively |                            |         | 592        |         |   |           | 587       |        
|                                                                              | Additional paid-in capital                                                                                                                   |                            |         | 1,616,874  |         |   |           | 1,592,155 |        
|                                                                              | Deferred compensation                                                                                                                        |                            |         |           |         |   |           | (7,341    | )      
|                                                                              | Accumulated deficit                                                                                                                          |                            |         | (1,553,653 | )       |   |           | (971,469  | )      
|                                                                              | Accumulated other comprehensive
    income                                                                                                   |                            |         | 2,354      |         |   |           | 1,755     |        
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|                                                                              |                                                                                                                                              |                            | 66,167  |            |         |   | 615,687   |          
|Less: treasury stock, at cost;
    1,943 shares at December 31, 2006 and 2005 |                                                                                                                                              |                            | (37,221 | )          |         |   | (37,221   | )        
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|                                                                              |                                                                                                                                              | Total stockholders equity |         |            | 28,946  |   |           |           | 578,466 | 
|                                                                              |                                                                                                                                              |                            |         |            |         |  
|Commitments and contingencies (See
    Note 13)                               |                                                                                                                                              |                            |         |            |         |   |           |          
|                                                                              |                                                                                                                                              | $                          | 457,732 |            |         | $ | 1,058,582 |          
|                                                                              |                                                                                                                                              |                            |         |            |         |  







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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES





CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE

YEARS ENDED DECEMBER 31, 2006 AND 2005, THE THREE MONTHS
ENDED

DECEMBER 31, 2004 AND THE YEAR ENDED SEPTEMBER 30,
2004

(In thousands except per share data)

|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |        |         |   |          |         |          |  
|------------------------------------------------------- | ------------------------------------------------------------- | -------------------- | -------- | ------- | ------------ | ------ | -------- | ------------ | -------- | - | ------------- | ------ | ------- | - | -------- | ------- | -------- | -
|                                                        |                                                               |                      |          |         |              | Three  |          |              |         
|                                                        |                                                               |                      |          |         |              | Months |          |              |         
|                                                        |                                                               | Year Ended           |          |         | Year Ended   |        |          | Ended        |          |   | Year Ended    |       
|                                                        |                                                               | December 31,         |          |         | December 31, |        |          | December 31, |          |   | September 30, |       
|                                                        |                                                               | 2006                 |          |         | 2005         |        |          | 2004         |          |   | 2004          |       
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Revenues:                                               |                                                               |                      |          |         |              |        |          |              |          |   |               |        |         |   |          |        
|                                                        | Net revenue from unconsolidated
    joint business            |                      | $        | 154,886 |              |        | $        | 84,727       |          |   | $             |       |         |   | $        |        |         
|                                                        | Product sales                                                 |                      |          | 104,276 |              |        |          | 32,411       |          |   |               | 360    |         |   |          | 1,235   |         
|                                                        | Royalties on product sales                                    |                      |          | 51,501  |              |        |          | 7,127        |          |   |               |       |         |   |          |        |         
|                                                        | Sales commissions                                             |                      |          | 11,755  |              |        |          | 29,684       |          |   |               | 11,396 |         |   |          | 34,290  |         
|                                                        | License, milestone and other
    revenues                     |                      |          | 28,937  |              |        |          | 16,164       |          |   |               | 591    |         |   |          | 7,275   |         
|                                                        | Collaborative program revenues                                |                      |          | 24,341  |              |        |          | 4,081        |          |   |               |       |         |   |          |        |         
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|                                                        |                                                               |                      | 375,696  |         |              |        | 174,194  |              |          |   | 12,347        |        |         |   | 42,800   |        
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Expenses:                                               |                                                               |                      |          |         |              |        |          |              |          |   |               |        |         |   |          |        
|                                                        | Cost of goods sold                                            |                      |          | 79,223  |              |        |          | 18,882       |          |   |               | (1,247 | )       |   |          | 8,985   |         
|                                                        | Collaborative profit share                                    |                      |          | 40,297  |              |        |          | 12,312       |          |   |               |       |         |   |          |        |         
|                                                        | Net expense from unconsolidated
    joint business            |                      |          |        |              |        |          |             |          |   |               | 7,661  |         |   |          |        |         
|                                                        | Research and development                                      |                      |          | 176,654 |              |        |          | 125,953      |          |   |               | 31,913 |         |   |          | 110,398 |         
|                                                        | Acquired in-process research and
    development (See Note 2) |                      |          |        |              |        |          | 64,442       |          |   |               |       |         |   |          | 32,785  |         
|                                                        | Selling, general and administrative                           |                      |          | 158,617 |              |        |          | 98,393       |          |   |               | 20,313 |         |   |          | 98,909  |         
|                                                        | Impairment of intangible assets
    (See Note 2)              |                      |          | 505,985 |              |        |          |             |          |   |               |       |         |   |          | 24,599  |         
|                                                        | Amortization of intangible assets                             |                      |          | 19,912  |              |        |          | 17,544       |          |   |               | 3,804  |         |   |          | 18,606  |         
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|                                                        |                                                               |                      | 980,688  |         |              |        | 337,526  |              |          |   | 62,444        |        |         |   | 294,282  |        
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|                                                        |                                                               | Loss from operations |          |         | (604,992     | )      |          |              | (163,332 | ) |               |        | (50,097 | ) |          |         | (251,482 | )
|Other income (expense):                                 |                                                               |                      |          |         |              |        |          |              |          |   |               |        |         |   |          |        
|                                                        | Investment income  net                                       |                      |          | 11,315  |              |        |          | 13,322       |          |   |               | 2,380  |         |   |          | 5,259   |         
|                                                        | Interest expense                                              |                      |          | (7,578  | )            |        |          | (5,065       | )        |   |               | (1,219 | )       |   |          | (13,436 | )       
|                                                        | Other (expense) income 
    net                              |                      |          | (2,975  | )            |        |          | (2,048       | )        |   |               | 541    |         |   |          | (712    | )       
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Net loss before extraordinary gain                      |                                                               |                      | (604,230 | )       |              |        | (157,123 | )            |          |   | (48,395       | )      |         |   | (260,371 | )      
|Extraordinary gain                                      |                                                               |                      | 22,046   |         |              |        |         |              |          |   |              |        |         |   |         |        
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Net loss                                                |                                                               | $                    | (582,184 | )       |              | $      | (157,123 | )            |          | $ | (48,395       | )      |         | $ | (260,371 | )      
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Basic and diluted net loss per
    common share:        |                                                               |                      |          |         |              |        |          |              |          |   |               |        |         |   |          |        
|Net loss before extraordinary gain                      |                                                               | $                    | (10.61   | )       |              | $      | (3.02    | )            |          | $ | (1.02         | )      |         | $ | (6.50    | )      
|Extraordinary gain                                      |                                                               |                      | 0.39     |         |              |        |         |              |          |   |              |        |         |   |         |        
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Net loss                                                |                                                               | $                    | (10.22   | )       |              | $      | (3.02    | )            |          | $ | (1.02         | )      |         | $ | (6.50    | )      
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       
|Weighted average shares of common
    stock outstanding |                                                               |                      | 56,939   |         |              |        | 52,078   |              |          |   | 47,375        |        |         |   | 40,083   |        
|                                                        |                                                               |                      |          |         |              |        |          |              |          |   |               |       







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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY FOR
THE

YEARS ENDED DECEMBER 31, 2006 AND 2005, THE THREE MONTHS
ENDED

DECEMBER 31, 2004 AND THE YEAR ENDED SEPTEMBER 30,
2004

(In thousands)

|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   |          |          |  
|------------------------------------------------------------------------------------------ | ---------------------------------------------------------------------------------------- | ------------ | ------ | - | ---------- | - | --- | -------- |  | ----------- | ------------ | ----- |  | ------------- | ------ | - | ------------- | - | -------- | ------------- | - | - | ------ | ------ | - | - | ------- | - |  | - | -------- | -------- | -
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  | Accumulated |              |       |  |               |       
|                                                                                           |                                                                                          | Common Stock |        |   | Additional |   |     |          |  |             |              | Other |  |               |        |   | Total         |  
|                                                                                           |                                                                                          |              |        |   | Paid-In    |   |     | Deferred |  |             | Accumulated  |       |  | Comprehensive |        |   | Treasury      |   |          | Stockholders |  
|                                                                                           |                                                                                          | Shares       |        |   | Amount     |   |     | Capital  |  |             | Compensation |       |  | Deficit       |        |   | Income (Loss) |   |          | Stock         |   |   | Equity |       
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Balance at September 30,
    2003                                                          |                                                                                          |              | 40,298 |   |            | $ | 403 |          |  | $           | 747,737      |       |  | $             | (216   | ) |               | $ | (505,580 | )             |   | $ | 1,164  |        |   | $ | (25,451 | ) |  | $ | 218,057  |         
|Comprehensive income (loss):                                                               |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   |          |         
|                                                                                           | Net loss                                                                                 |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          | (260,371      | ) |   |        |       |   |   |         |  |  |   |          | (260,371 | )
|                                                                                           | Unrealized holding loss on
    investment securities, net of reclassification adjustment |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          |              |   |   |        | (971   | ) |   |         |  |  |   |          | (971     | )
|                                                                                           | Translation adjustment                                                                   |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          |              |   |   |        | 1,204  |   |   |         |  |  |   |          | 1,204    |  
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Total comprehensive loss                                                                   |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   | (260,138 | )       
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Options exercised                                                                          |                                                                                          |              | 1,493  |   |            |   | 15  |          |  |             | 38,673       |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 38,688   |         
|Warrants exercised                                                                         |                                                                                          |              | 6      |   |            |   |    |          |  |             |             |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   |         |         
|Issuance of common stock for
    directors annual retainer                                |                                                                                          |              | 11     |   |            |   |    |          |  |             | 474          |       |  |               | (474   | ) |               |   |         |               |   |   |       |        |   |   |        |   |  |   |         |         
|Issuance of common stock for
    employee purchase plan and other                          |                                                                                          |              | 22     |   |            |   |    |          |  |             | 693          |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 693      |         
|Issuance of common stock in
    connection with conversion of notes                        |                                                                                          |              | 3,200  |   |            |   | 32  |          |  |             | 159,968      |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 160,000  |         
|Balance of unamortized debt
    issuance costs in connection with conversion of notes      |                                                                                          |              |       |   |            |   |    |          |  |             | (3,723       | )     |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | (3,723   | )       
|Change in deferred compensation                                                            |                                                                                          |              |       |   |            |   |    |          |  |             | (5           | )     |  |               | 5      |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   |         |         
|Amortization of deferred
    compensation                                                  |                                                                                          |              |       |   |            |   |    |          |  |             |             |       |  |               | 479    |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 479      |         
|Acceleration of directors
    options                                                     |                                                                                          |              |        |   |            |   |    |          |  |             | 177          |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 177      |         
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Balance at September 30,
    2004                                                          |                                                                                          |              | 45,030 |   |            |   | 450 |          |  |             | 943,994      |       |  |               | (206   | ) |               |   | (765,951 | )             |   |   | 1,397  |        |   |   | (25,451 | ) |  |   | 154,233  |         
|Comprehensive income (loss):                                                               |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   |          |         
|                                                                                           | Net loss                                                                                 |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          | (48,395       | ) |   |        |       |   |   |         |  |  |   |          | (48,395  | )
|                                                                                           | Unrealized holding loss on
    investment securities, net of reclassification adjustment |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          |              |   |   |        | (363   | ) |   |         |  |  |   |          | (363     | )
|                                                                                           | Translation adjustment                                                                   |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          |              |   |   |        | 2,224  |   |   |         |  |  |   |          | 2,224    |  
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Total comprehensive loss                                                                   |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   | (46,534  | )       
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Options exercised                                                                          |                                                                                          |              | 450    |   |            |   | 5   |          |  |             | 11,189       |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 11,194   |         
|Issuance of common stock for
    employee purchase plan and other                          |                                                                                          |              | 18     |   |            |   |    |          |  |             | 806          |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 806      |         
|Issuance of common stock in
    connection with conversion of notes                        |                                                                                          |              | 6,900  |   |            |   | 69  |          |  |             | 419,497      |       |  |               |        |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 419,566  |         
|Amortization of deferred
    compensation                                                  |                                                                                          |              |       |   |            |   |    |          |  |             |             |       |  |               | 125    |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 125      |         
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Balance at December 31,
    2004                                                           |                                                                                          |              | 52,398 |   |            |   | 524 |          |  |             | 1,375,486    |       |  |               | (81    | ) |               |   | (814,346 | )             |   |   | 3,258  |        |   |   | (25,451 | ) |  |   | 539,390  |         
|Comprehensive income (loss):                                                               |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   |          |         
|                                                                                           | Net loss                                                                                 |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          | (157,123      | ) |   |        |       |   |   |         |  |  |   |          | (157,123 | )
|                                                                                           | Unrealized holding gain on
    investment securities, net of reclassification adjustment |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          |              |   |   |        | 928    |   |   |         |  |  |   |          | 928      |  
|                                                                                           | Translation adjustment                                                                   |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |          |              |   |   |        | (2,431 | ) |   |         |  |  |   |          | (2,431   | )
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Total comprehensive loss                                                                   |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |        |   |   |         |   |  |   | (158,626 | )       
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       
|Options exercised                                                                          |                                                                                          |              | 469    |   |            |   | 5   |          |  |             | 10,221       |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 10,226   |         
|Issuance of common stock for
    employee purchase plan and other                          |                                                                                          |              | 94     |   |            |   |    |          |  |             | 2,068        |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 2,068    |         
|Issuance of common stock in
    connection with buyout of Prosidion minority interest      |                                                                                          |              | 85     |   |            |   | 1   |          |  |             | 4,157        |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 4,158    |         
|Issuance of common stock for
    directors annual retainer                                |                                                                                          |              | 12     |   |            |   |    |          |  |             | 527          |       |  |               | (527   | ) |               |   |         |               |   |   |       |        |   |   |        |   |  |   |         |         
|Amortization of deferred
    compensation                                                  |                                                                                          |              |       |   |            |   |    |          |  |             |             |       |  |               | 1,739  |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 1,739    |         
|Issuance of restricted stock to
    employees                                              |                                                                                          |              | 16     |   |            |   |    |          |  |             | 613          |       |  |               | (613   | ) |               |   |         |               |   |   |       |        |   |   |        |   |  |   |         |         
|Acceleration of stock options                                                              |                                                                                          |              |       |   |            |   |    |          |  |             | 816          |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 816      |         
|Call spread purchased in connection
    with private offering                              |                                                                                          |              |       |   |            |   |    |          |  |             | (12,179      | )     |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | (12,179  | )       
|Issuance of common stock in
    connection with acquisition of Eyetech                     |                                                                                          |              | 5,654  |   |            |   | 57  |          |  |             | 205,336      |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   |        |   |  |   | 205,393  |         
|Issuance of stock options and
    restricted rights in connection with Eyetech acquisition |                                                                                          |              |       |   |            |   |    |          |  |             | 5,110        |       |  |               | (7,859 | ) |               |   |         |               |   |   |       |        |   |   |        |   |  |   | (2,749   | )       
|Purchase of treasury stock,
    500,000 shares                                             |                                                                                          |              |       |   |            |   |    |          |  |             |             |       |  |               |       |   |               |   |         |               |   |   |       |        |   |   | (11,770 | ) |  |   | (11,770  | )       
|                                                                                           |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |          |               |   |   |        |       





---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY FOR
THE

YEARS ENDED DECEMBER 31, 2006 AND 2005, THE THREE MONTHS
ENDED

DECEMBER 31, 2004 AND THE YEAR ENDED SEPTEMBER 30,
2004  (Continued)

(In thousands)

|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |       |   |   |         |   |  |   |          |          |  
|-------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------------- | ------------ | ------ | - | ---------- | - | --- | -------- |  | ----------- | ------------ | ----- |  | ------------- | ------ | - | ------------- | - | ---------- | ------------- | - | - | ------ | ----- | - | - | ------- | - |  | - | -------- | -------- | -
|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  | Accumulated |              |       |  |               |       
|                                                                                 |                                                                                          | Common Stock |        |   | Additional |   |     |          |  |             |              | Other |  |               |        |   | Total         |  
|                                                                                 |                                                                                          |              |        |   | Paid-In    |   |     | Deferred |  |             | Accumulated  |       |  | Comprehensive |        |   | Treasury      |   |            | Stockholders |  
|                                                                                 |                                                                                          | Shares       |        |   | Amount     |   |     | Capital  |  |             | Compensation |       |  | Deficit       |        |   | Income (Loss) |   |            | Stock         |   |   | Equity |      
|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |      
|Balance at December 31,
    2005                                                 |                                                                                          |              | 58,728 |   |            |   | 587 |          |  |             | 1,592,155    |       |  |               | (7,341 | ) |               |   | (971,469   | )             |   |   | 1,755  |       |   |   | (37,221 | ) |  |   | 578,466  |         
|Comprehensive income (loss):                                                     |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |       |   |   |         |   |  |   |          |         
|                                                                                 | Net loss                                                                                 |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |            | (582,184      | ) |   |        |      |   |   |         |  |  |   |          | (582,184 | )
|                                                                                 | Unrealized holding gain on
    investment securities, net of reclassification adjustment |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |            |              |   |   |        | (233  | ) |   |         |  |  |   |          | (233     | )
|                                                                                 | Translation adjustment                                                                   |              |        |  |            |   |     |         |  |             |              |      |  |               |        |  |               |   |            |              |   |   |        | 2,148 |   |   |         |  |  |   |          | 2,148    |  
|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |      
|Total comprehensive loss                                                         |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |       |   |   |         |   |  |   | (580,269 | )       
|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |      
|Adjustment to initially apply
    SFAS 158                                       |                                                                                          |              |       |   |            |   |    |          |  |             |             |       |  |               |       |   |               |   |           |               |   |   | (1,316 | )     |   |   |        |   |  |   | (1,316   | )       
|Options exercised                                                                |                                                                                          |              | 391    |   |            |   | 4   |          |  |             | 7,888        |       |  |               |       |   |               |   |           |               |   |   |       |       |   |   |        |   |  |   | 7,892    |         
|Issuance of common stock for
    employee purchase plan and other                |                                                                                          |              | 45     |   |            |   | 1   |          |  |             | 1,129        |       |  |               |       |   |               |   |           |               |   |   |       |       |   |   |        |   |  |   | 1,130    |         
|Issuance of common stock for
    directors annual retainer                      |                                                                                          |              | 4      |   |            |   |    |          |  |             | 216          |       |  |               |       |   |               |   |           |               |   |   |       |       |   |   |        |   |  |   | 216      |         
|Issuance of restricted stock to
    employees                                    |                                                                                          |              | 11     |   |            |   |    |          |  |             | 1,468        |       |  |               |       |   |               |   |           |               |   |   |       |       |   |   |        |   |  |   | 1,468    |         
|Reclassification of deferred
    compensation due to the adoption of SFAS 123(R) |                                                                                          |              |       |   |            |   |    |          |  |             | (5,045       | )     |  |               | 7,341  |   |               |   |           |               |   |   |       |       |   |   |        |   |  |   | 2,296    |         
|Equity based compensation expense                                                |                                                                                          |              |       |   |            |   |    |          |  |             | 19,063       |       |  |               |       |   |               |   |           |               |   |   |       |       |   |   |        |   |  |   | 19,063   |         
|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |      
|Balance at December 31,
    2006                                                 |                                                                                          |              | 59,179 |   |            | $ | 592 |          |  | $           | 1,616,874    |       |  | $             |       |   |               | $ | (1,553,653 | )             |   | $ | 2,354  |       |   | $ | (37,221 | ) |  | $ | 28,946   |         
|                                                                                 |                                                                                          |              |        |   |            |   |     |          |  |             |              |       |  |               |        |   |               |   |            |               |   |   |        |      







---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE

YEARS ENDED DECEMBER 31, 2006 AND 2005, THE THREE MONTHS
ENDED

DECEMBER 31, 2004 AND THE YEAR ENDED SEPTEMBER 30,
2004

(In thousands)

|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |          |        |        |          |          |        |        |  
|---------------------------------------------------------------- | -------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------- | --------------------------------------------- | -------- | ------------ | ------------ | -------- | ------------ | ------ | ------- | ------------- | -------- | ------ | ------ | -------- | -------- | ------ | ------ | -
|                                                                 |                                                                                                    |                                                                            |                                               |          |              | Three Months |          |              |       
|                                                                 |                                                                                                    | Year Ended                                                                 |                                               |          | Year Ended   |              |          | Ended        |        |         | Year Ended    |         
|                                                                 |                                                                                                    | December 31,                                                               |                                               |          | December 31, |              |          | December 31, |        |         | September 30, |         
|                                                                 |                                                                                                    | 2006                                                                       |                                               |          | 2005         |              |          | 2004         |        |         | 2004          |         
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Cash flow from operating activities:                             |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |          |        |        |          |         
|                                                                 | Net loss                                                                                           |                                                                            | $                                             | (582,184 | )            |              | $        | (157,123     | )      |         | $             | (48,395  | )      |        | $        | (260,371 | )     
|                                                                 | Adjustments to reconcile net loss
    to net cash provided by (used in) operating activities:      |                                                                            |                                               |          |              |              |          |              |        |         |               |          |        |        |          |          |       
|                                                                 |                                                                                                    | Gain from extraordinary item                                               |                                               |          | (22,046      | )            |          |              |       |         |               |          |       |        |          |          |       |       
|                                                                 |                                                                                                    | Loss (gain) on sale of
    investments                                     |                                               |          |             |              |          |              | 2,188  |         |               |          | 4      |        |          |          | (41    | )     
|                                                                 |                                                                                                    | Loss (gain) on sale and
    disposals of equipment                         |                                               |          | (5           | )            |          |              | 809    |         |               |          |       |        |          |          | 2      |       
|                                                                 |                                                                                                    | Depreciation and amortization                                              |                                               |          | 36,093       |              |          |              | 28,712 |         |               |          | 10,159 |        |          |          | 34,914 |       
|                                                                 |                                                                                                    | Impairment of intangible assets and
    goodwill                           |                                               |          | 505,985      |              |          |              |       |         |               |          |       |        |          |          | 24,599 |       
|                                                                 |                                                                                                    | Provision for excess
    inventory  net                                   |                                               |          | 26,408       |              |          |              |       |         |               |          | (3,368 | )      |          |          | 8,565  |       
|                                                                 |                                                                                                    | Impact of inventory step-up related
    to inventory sold                  |                                               |          | 19,924       |              |          |              | 6,827  |         |               |          |       |        |          |          |       |       
|                                                                 |                                                                                                    | In-process research and development
    charge                             |                                               |          |             |              |          |              | 64,442 |         |               |          |       |        |          |          | 32,785 |       
|                                                                 |                                                                                                    | Stock-based compensation expense                                           |                                               |          | 18,838       |              |          |              | 1,211  |         |               |          | 679    |        |          |          | 723    |       
|                                                                 |                                                                                                    | Other non-cash charges 
    net                                           |                                               |          | 865          |              |          |              | 816    |         |               |          | (72    | )      |          |          | 493    |       
|                                                                 |                                                                                                    | Changes in assets and liabilities,
    net of the effects of acquisitions: |                                               |          |              |              |          |              |        |         |               |          |        |        |          |          |        |       
|                                                                 |                                                                                                    |                                                                            | Receivables                                   |          |              | 69,569       |          |              |        | (45,062 | )             |          |        | (3,602 | )        |          |        | (459   | )
|                                                                 |                                                                                                    |                                                                            | Inventory                                     |          |              | (9,551       | )        |              |        | (15,759 | )             |          |        | 2,684  |          |          |        | (6,386 | )
|                                                                 |                                                                                                    |                                                                            | Prepaid expenses and other current
    assets |          |              | 1,715        |          |              |        | 386     |               |          |        | 3,628  |          |          |        | 594    |  
|                                                                 |                                                                                                    |                                                                            | Other assets                                  |          |              | (3,755       | )        |              |        | 147     |               |          |        | 2      |          |          |        | 47     |  
|                                                                 |                                                                                                    |                                                                            | Accounts payable and accrued
    expenses     |          |              | (17,017      | )        |              |        | (34,271 | )             |          |        | (4,014 | )        |          |        | 16,037 |  
|                                                                 |                                                                                                    |                                                                            | Collaboration profit share payable            |          |              | (37,829      | )        |              |        | 949     |               |          |        |       |          |          |        |       |  
|                                                                 |                                                                                                    |                                                                            | Unearned revenue                              |          |              | 29,104       |          |              |        | 29,760  |               |          |        | 10,203 |          |          |        | 2,795  |  
|                                                                 |                                                                                                    |                                                                            | Accrued post-retirement benefit cost          |          |              | 1,401        |          |              |        | 1,149   |               |          |        | 299    |          |          |        | 795    |  
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Net cash provided by (used in)
    operating activities          |                                                                                                    |                                                                            | 37,515                                        |          |              |              | (114,819 | )            |        |         | (31,793       | )        |        |        | (144,908 | )       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Cash flows from investing
    activities:                        |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |          |        |        |          |         
|                                                                 | Payments for acquisitions, net of
    cash acquired                                                |                                                                            |                                               |         |              |              |          | (430,986     | )      |         |               |         |        |        |          | (36,393  | )     
|                                                                 | Purchases of investments
    (restricted and unrestricted)                                         |                                                                            |                                               | (239,268 | )            |              |          | (447,443     | )      |         |               | (192,104 | )      |        |          | (250,714 | )     
|                                                                 | Maturities and sales of investments
    (restricted and unrestricted)                              |                                                                            |                                               | 80,788   |              |              |          | 757,325      |        |         |               | 37,716   |        |        |          | 278,748  |       
|                                                                 | Net additions to property,
    equipment and leasehold improvements                                |                                                                            |                                               | (10,728  | )            |              |          | (26,718      | )      |         |               | (1,787   | )      |        |          | (3,287   | )     
|                                                                 | Proceeds from sale of fixed assets                                                                 |                                                                            |                                               | 795      |              |              |          |             |        |         |               |         |        |        |          |         |       
|                                                                 | Purchase of compound library assets                                                                |                                                                            |                                               | (31      | )            |              |          | (920         | )      |         |               | 214      |        |        |          | (341     | )     
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Net cash used in investing
    activities                        |                                                                                                    |                                                                            | (168,444                                      | )        |              |              | (148,742 | )            |        |         | (155,961      | )        |        |        | (11,987  | )       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Cash flows from financing
    activities:                        |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |          |        |        |          |         
|                                                                 | Net proceeds from issuance of stock                                                                |                                                                            |                                               |         |              |              |          |             |        |         |               | 419,566  |        |        |          |         |       
|                                                                 | Proceeds from the exercise of stock
    options, stock warrants, employee purchase plan, and other |                                                                            |                                               | 9,138    |              |              |          | 12,471       |        |         |               | 11,445   |        |        |          | 39,315   |       
|                                                                 | Proceeds from the issuance of
    convertible senior subordinated notes                            |                                                                            |                                               |         |              |              |          | 115,000      |        |         |               |         |        |        |          |         |       
|                                                                 | Call spread premium                                                                                |                                                                            |                                               |         |              |              |          | (12,179      | )      |         |               |         |        |        |          |         |       
|                                                                 | Debt issuance costs                                                                                |                                                                            |                                               | (102     | )            |              |          | (3,902       | )      |         |               |         |        |        |          | (118     | )     
|                                                                 | Payments on loans and capital
    leases payable                                                   |                                                                            |                                               | (640     | )            |              |          | (180         | )      |         |               | (4       | )      |        |          | (63      | )     
|                                                                 | Purchase of treasury stock                                                                         |                                                                            |                                               |         |              |              |          | (11,770      | )      |         |               |         |        |        |          |         |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Net cash provided by financing
    activities                    |                                                                                                    |                                                                            | 8,396                                         |          |              |              | 99,440   |              |        |         | 431,007       |          |        |        | 39,134   |         
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Net (decrease) increase in cash and
    cash equivalents         |                                                                                                    |                                                                            | (122,533                                      | )        |              |              | (164,121 | )            |        |         | 243,253       |          |        |        | (117,761 | )       
|Effect of exchange rate changes on
    cash and cash equivalents |                                                                                                    |                                                                            | 477                                           |          |              |              | (1,351   | )            |        |         | 1,705         |          |        |        | (160     | )       
|Cash and cash equivalents at
    beginning of year               |                                                                                                    |                                                                            | 164,084                                       |          |              |              | 329,556  |              |        |         | 84,598        |          |        |        | 202,519  |         
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Cash and cash equivalents at end of
    year                     |                                                                                                    | $                                                                          | 42,028                                        |          |              | $            | 164,084  |              |        | $       | 329,556       |          |        | $      | 84,598   |         
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|Non-cash activities:                                             |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |          |        |        |          |         
|                                                                 | Conversion of notes                                                                                |                                                                            | $                                             |         |              |              | $        |             |        |         | $             |         |        |        | $        | 160,000  |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Reclassification of debt issuance
    costs in connection with notes                               |                                                                            | $                                             |         |              |              | $        |             |        |         | $             |         |        |        | $        | 3,723    |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Post-retirement benefit obligation
    upon adoption of SFAS No. 158                               |                                                                            | $                                             | 1,316    |              |              | $        |             |        |         | $             |         |        |        | $        |         |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Issuance of common stock to acquire
    minority interest in Prosidion                             |                                                                            | $                                             |         |              |              | $        | 4,157        |        |         | $             |         |        |        | $        |         |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Issuance of Prosidion preferred
    stock to minority shareholders                                 |                                                                            | $                                             |         |              |              | $        |             |        |         | $             |         |        |        | $        | 1,400    |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Issuance of equity securities in
    connection with Eyetech acquisition costs                     |                                                                            | $                                             |         |              |              | $        | 210,446      |        |         | $             |         |        |        | $        |         |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Liabilities assumed in connection
    with acquisitions                                            |                                                                            | $                                             |         |              |              | $        | 124,000      |        |         | $             |         |        |        | $        |         |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         
|                                                                 | Cash paid for interest                                                                             |                                                                            | $                                             | 7,175    |              |              | $        | 4,869        |        |         | $             |         |        |        | $        | 14,502   |       
|                                                                 |                                                                                                    |                                                                            |                                               |          |              |              |          |              |        |         |               |         







---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

In this Annual Report on
Form 10-K,
OSI, our company, we,
us, and our refer to OSI
Pharmaceuticals, Inc. and subsidiaries.



(1)
    Summary of Significant Accounting Policies

(a)
    Principles of ConsolidationOur consolidated financial statements include the accounts of
OSI Pharmaceuticals, Inc., and our wholly-owned subsidiaries,
(OSI) Eyetech, Inc., Prosidion Limited and OSI
Pharmaceuticals (UK) Limited, or OSI-UK. During fiscal
2003, we formed Prosidion, into which we transferred our
diabetes and obesity research programs. On April 14, 2005,
we completed the acquisition of the remaining minority interest
of Prosidion and as a result, Prosidion became our wholly-owned
subsidiary. On November 14, 2005, we acquired all
outstanding shares of Eyetech Pharmaceuticals Inc., a
biotechnology company with a focus on eye disease. The
accompanying results of operations include Eyetech for the
period from November 14, 2005. In December 2004, we changed
our fiscal year end from September 30 to December 31.
The first fiscal year affected by this change ended on
December 31, 2005. This report on
Form 10-K includes
the statement of operations, statement of cash flows and
statement of stockholders equity for the years ended
December 31, 2006 and 2005, for the three month transition
period ended December 31, 2004, and for the year ended
September 30, 2004. All intercompany balances and
transactions have been eliminated in consolidation.



(b)
    Revenue RecognitionNet revenue from unconsolidated joint business

Net revenue from unconsolidated joint business is related to our
co-promotion and manufacturing agreements with Genentech, Inc.,
our U.S. partner for Tarceva (erlotinib). It consists of
our share of the pretax co-promotion profit (loss) generated
from our co-promotion arrangement with Genentech for Tarceva,
the partial reimbursement from Genentech of our sales and
marketing costs related to Tarceva, and the reimbursement from
Genentech of our manufacturing costs related to Tarceva. Under
the co-promotion arrangement, all U.S. sales of Tarceva and
associated costs and expenses, except for a portion of our sales
related costs, are recognized by Genentech. For the year ended
December 31, 2006, Genentech recorded $402 million in
net sales of Tarceva in the United States and its territories.
We record our 50% share of the co-promotion pretax profit on a
quarterly basis, as set forth in our agreement with Genentech.
Pretax co-promotion profit (loss) under the co-promotion
arrangement is derived by calculating U.S. net sales of
Tarceva to third-party customers and deducting costs of sales,
distribution, selling and marketing expenses, and certain joint
development expenses incurred by Genentech and us. The costs
incurred during the respective periods represent estimated costs
of both parties and are subject to further adjustment based on
each partys final review. Based on past experience, we do
not believe that these adjustments, if any, will be significant
to our consolidated financial statements. The partial
reimbursement of our sales and marketing costs related to
Tarceva is recognized as revenue as the related costs are
incurred. We defer the recognition of the reimbursement of our
manufacturing costs related to Tarceva until the time Genentech
ships the product to third-party customers at which time our
risk of inventory loss no longer exists. The unearned revenue
related to shipments by our third party manufacturers of Tarceva
to Genentech that have not been shipped to third-party customers
was $5.9 million and $7.0 million as of
December 31, 2006 and 2005, respectively, and is included
in unearned revenue-current in the accompanying consolidated
balance sheets.

70



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Net revenues from unconsolidated joint business consist of the
following (in thousands):

|                                                                               |  |              |         |  |              |   |        | 
|------------------------------------------------------------------------------ |  | ------------ | ------- |  | ------------ | - | ------ | 
|                                                                               |  | Year Ended   |         |  | Year Ended   |  
|                                                                               |  | December 31, |         |  | December 31, |  
|                                                                               |  | 2006         |         |  | 2005         |  
|                                                                               |  |              |         |  |              |  
|Co-promotion profit and
    reimbursement of sales and marketing related costs |  | $            | 143,692 |  |              | $ | 73,715 | 
|Reimbursement of manufacturing costs                                           |  |              | 11,194  |  |              |   | 11,012 | 
|                                                                               |  |              |         |  |              |  
|Net revenue from unconsolidated
    joint business                             |  | $            | 154,886 |  |              | $ | 84,727 | 
|                                                                               |  |              |         |  |              |  



|    |              
|--- | -------------
|(c) | Product Sales









| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Our distributors have a limited right of return for unopened
    product during a specified time period based on the
    products labeled expiration date. As a result, in
    calculating the allowance for product returns, we estimate the
    likelihood that products sold to distributors might be returned
    within a specific timeframe. We determine our estimates using
    actual product data from distributors, industry data on products
    with similar characteristics and the expiration dates of
    products sold.
|
| |  | Certain government buying groups that purchase our product from
    wholesalers have the right to receive a discounted price from
    us. As a result, we estimate the amount of product which will
    ultimately be sold to these buying groups. We determine our
    estimates using actual product data from distributors and
    historical industry trends.                                                                                                                                                                        







---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



In the fourth quarter of 2006 we discontinued sales of Gelclair
Bioadherent Oral Gel, or Gelclair. Gelclair was sold in
accordance with an exclusive distribution agreement with Helsinn
Healthcare S.A., which allowed us to market and distribute
Gelclair in North America. In late October 2004, we exercised
our right to terminate the agreement with Helsinn, while
continuing to exercise our right to sell off inventory. The
discontinuance of Gelclair sales is not expected to have a
material impact on our results since Gelclair sales were not
material to our revenues for the years ended December 31,
2006 and 2005.



(d)
    Royalties on Product SalesWe estimate royalty revenue and royalty receivables in the
periods these royalties are earned, in advance of collection.
Our estimate of royalty revenue and receivables is based upon
communication with our collaborative partners. Differences
between actual revenues and estimated royalty revenue are
adjusted for in the period which they become known, typically
the following quarter. Historically, such adjustments have not
been material to our consolidated financial condition or results
of operations.



(e)
    Sales CommissionsSales commissions represent commissions earned on the sales of
the drug, Novantrone, in the United States for oncology
indications pursuant to a co-promotion agreement dated
March 11, 2003 with Ares Trading S.A., an affiliate of
Merck Serono, S.A. (see Note 4(c)). Merck Serono markets
Novantrone in multiple sclerosis indications and records all
U.S. sales for all indications including oncology
indications. Sales commissions from Novantrone on net oncology
sales are recognized in the period the sales occur based on the
estimated split between oncology sales and multiple sclerosis
sales, as determined by an external third party. Beginning in
the third quarter of 2006, we agreed with Merck Serono on a
fixed oncology split and therefore are no longer utilizing a
third party to determine this amount. Based on past experience,
we do not believe these adjustments, if any, will be significant
to the consolidated financial condition or results of operations.



(f)
    Licenses, Milestones and Other RevenuesOur revenue recognition policies for all nonrefundable upfront
license fees and milestone arrangements are in accordance with
the guidance provided in the Securities and Exchange
Commissions, or SECs, Staff Accounting
Bulletin No. 101, Revenue Recognition in
Financial Statements, as amended by SEC Staff Accounting
Bulletin No. 104, Revenue Recognition. In
addition, in fiscal 2004 we adopted the provisions of EITF
Issue 00-21,
Revenue Arrangements with Multiple Deliverables, or
EITF 00-21, for
multiple element revenue arrangements entered into or materially
amended after June 30, 2003.

We received a total of $25.0 million in upfront fees from
Genentech and Roche in January 2001, which was being recognized
on a straight-line basis over the expected term of our required
research and development efforts under the terms of a tripartite
agreement with Genentech and Roche. As a result of an amendment
to our collaboration agreement with Genentech in June 2004, the
remaining unearned upfront fee from Genentech of
$1.8 million is being recognized in accordance with
EITF 00-21, as
discussed further below. The upfront fee from Roche was fully
recognized as of December 31, 2004.

Since September 2004, we have received $34.0 million in
milestone payments from Genentech based upon certain
U.S. Food and Drug Administration, or FDA, filings and
approvals of Tarceva in accordance with our agreement with
Genentech. As a result of the amendment to our collaboration
agreement with Genentech in June 2004, these payments are, and
any future milestone payments will be, recognized in accordance
with EITF 00-21.

72



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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Milestones which have been received from Genentech after June
2004 and the remaining unearned upfront fee as of June 2004 are
being recognized over the term of our Manufacturing and Supply
Agreement with Genentech, under which the last items of
performance to be delivered to Genentech are set forth, or on a
straight line basis, which approximates the expected level of
performance under the Manufacturing and Supply Agreement. The
unrecognized unearned revenue related to the milestones and
upfront payment received from Genentech was $31.9 million
as of December 31, 2006 of which $2.3 million is
classified as short-term and the balance of $29.6 million
is classified as long-term in the accompanying consolidated
balance sheet. The unrecognized unearned revenue related to the
milestones and upfront payment received from Genentech was
$34.2 million as of December 31, 2005 of which
$2.3 million is classified as short-term and the balance of
$31.9 million was classified as long-term in the
accompanying consolidated balance sheet.

In March 2005, the Tarceva alliance partners, OSI, Genentech,
and Roche, agreed to a further global development plan and
budget for the continued development of Tarceva in earlier stage
lung cancer, other cancer indications and in a variety of
combinations, including Tarceva/
Avastin®
(bevacizumab). The cost of the development plan will continue to
be shared by the three partners. For purposes of
EITF 00-21, the
revised development plan and budget for Tarceva was deemed a
material amendment to our Roche agreement, and therefore, future
milestones received from Roche will be recognized in accordance
with EITF 00-21.
Accordingly, future milestone payments received from Roche will
be initially recorded as unearned revenue and recognized over
the expected term of the research collaboration on a
straight-line basis, which approximates the expected level of
performance under the development plan. In September 2005, we
recorded a $4.0 million milestone payment from Roche upon
approval of Tarceva by the European Commission for sale in the
European Union. In November 2005, we recorded a
$4.0 million milestone payment from Roche upon acceptance
for review by the European Agency for the Evaluation of
Medicinal Products for the application of Tarceva in combination
with gemcitabine chemotherapy for the treatment of advanced
pancreatic cancer in patients who have not received previous
chemotherapy. In May 2006, we recorded a $1.0 million
milestone payment from Roche upon acceptance for review by the
Japanese Ministry of Health for the application of Tarceva for
the treatment of advanced NSCLC. All of the payments have been
included in deferred revenue. The unearned revenue related to
the milestones earned from Roche was $7.9 million as of
December 31, 2006 of which $983,000 is classified as
short-term and the balance of $6.9 million was classified
as long-term in the accompanying consolidated balance sheet. The
unearned revenue related to the milestones earned from Roche was
$7.8 million as of December 31, 2005 of which $868,000
was classified as short-term and the balance of
$6.9 million was classified as long-term in the
accompanying consolidated balance sheet.

During the second quarter of 2006, we received a
$35 million milestone payment from Pfizer in connection
with the launch of Macugen in select European countries. The
milestone payment is being recognized over the term of our
collaboration and license agreements with Pfizer, under which
the last items of performance to be delivered to Pfizer are set
forth, on a straight-line basis, which approximates the expected
level of performance under the agreements. At December 31,
2006, we had unearned revenue of $32.9 million relating to
Pfizer payments, of which $3.3 million was classified as
short-term. Such unearned revenue may be reversed in the future
if and when the Pfizer agreement is renegotiated or is
transferred to a third-party in connection with a potential
divestiture of the eye disease business.

During the year ended December 31, 2006, we entered into
several worldwide non-exclusive license agreements under our
dipeptidyl peptidase IV, or DPIV, patent portfolio covering the
use of DPIV inhibitors for the treatment of type 2 diabetes and
related indications. In addition to upfront fees received from
these agreements,

73



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



we are entitled to receive milestone payments upon the
achievement of certain events and royalty payments on net sales.
Under the terms of the agreements, we recognized upfront license
and milestone revenue and royalties of $19 million for the
year ended December 31, 2006.

All of the payments mentioned above in this Note 1(f) are
included in license and milestone revenues on the accompanying
consolidated statement of operations for the year ended
December 31, 2006. We recognize revenue from license
agreements where we have no future obligations upon the
effective date of the agreements and the collection of payments
is reasonably assured.



(g)
    Collaborative Program RevenuesCollaborative program revenues represent funding arrangements
for research and development in the field of biotechnology and
are recognized when earned in accordance with the terms of the
contracts and related research and development activities
undertaken.

Based on the terms of our collaboration agreement with Pfizer,
revenues derived from reimbursement of costs associated with the
development of Macugen are recorded in compliance with
EITF 99-19, and EITF
Issue 01-14,
Income Statement Characterization of Reimbursements
Received For
Out-of-Pocket
Expenses Incurred, or
EITF 01-14.
According to the criteria established by these EITF Issues, in
transactions where we act as a principal, with discretion to
choose suppliers, bear credit risk and perform part of the
services required in the transaction, we have met the criteria
to record revenue for the gross amount of the reimbursements.



(h)
    Research and Development CostsResearch and development, or R&D, costs are charged to
operations as incurred and include direct costs of R&D
scientists and equipment, contracted costs, and an allocation of
laboratory facility and other core scientific services. Included
in R&D is our share of development expenses related to the
Tripartite Agreement with Genentech and Roche (see
Note 4(a)).



(i)
    Acquired In-Process Research and DevelopmentCosts to acquire in-process research and development projects
and technologies which have no alternative future use and which
have not reached technological feasibility at the date of
acquisition are expensed as incurred (see Note 2).



(j)
    Accounting for Share-Based CompensationAs discussed further in Note 11, Accounting for
Share-Based Compensation, we adopted
SFAS No. 123(R), Share Based Payment, or
SFAS No. 123(R), on January 1, 2006 using the
modified prospective method. Through December 31, 2005, we
accounted for our stock option and employee stock purchase plans
under the intrinsic value method of Accounting Principles Board,
or APB, Opinion No. 25, and as a result no stock option
related compensation costs had been recognized in our historical
consolidated statements of operations.

We have used and expect to continue to use the Black-Scholes
option-pricing model to compute the estimated fair value of
stock options. The Black-Scholes option pricing model includes
assumptions regarding dividend yields, expected volatility,
expected option term and risk-free interest rates. We estimate
expected volatility based upon a combination of historical,
implied and adjusted historical stock prices. The risk-free
interest rate is based on the U.S. treasury yield curve in
effect at the time of grant. Commencing in the second quarter of
fiscal 2005, the fair value of the options was estimated at the
date of grant using a Black-Scholes option pricing model with the

74



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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



expected option term determined using a Monte Carlo simulation
model that incorporates historical employee exercise behavior
and post-vesting employee termination rates.

The assumptions used in computing the fair value of stock-based
awards reflect our best estimates, but involve uncertainties
relating to market and other conditions, many of which are
outside of our control. As a result, if other assumptions or
estimates had been used, the stock-based compensation expense
that was recorded for the year ended December 31, 2006
could have been materially different. Furthermore, if different
assumptions are used in future periods, stock-based compensation
expense could be materially impacted in the future.

On November 30, 2005, the compensation committee of our
Board of Directors approved the forward vesting of all unvested
out-of-the-money stock
options with an exercise price greater than $30.00 per
share for all of our employees, other than executive officers.
Options to purchase approximately 1.6 million shares of
common stock were accelerated. Options held by executive
officers and non-employee directors were not accelerated. The
accelerated options, which are considered fully vested as of
November 30, 2005, have grant prices ranging from $30.09 to
$82.40 per share and a weighted average grant price of
$45.44 per share. The primary purpose of the accelerated
vesting was to enable us to reduce the future compensation
expense associated with our
out-of-the-money stock
options upon adoption of SFAS No. 123(R) in fiscal
2006.



(k)
    Net Loss Per ShareBasic and diluted net loss per share is computed by dividing the
net loss by the weighted average number of common shares
outstanding during the respective period. Common share
equivalents (convertible senior subordinated notes, stock
options, restricted stock and restricted stock units) are not
included since their effect would be anti-dilutive. The
contingent shares pursuant to the contingent value rights are
not included since the contingency condition has not been
satisfied.

Such common share equivalents and contingent shares for the
years ended December 31, 2006 and 2005, the three months
ended December 31, 2004, and the year ended
September 30, 2004, amounted to (in thousands):

|                         |  |              |       |              |  |              |       |               |  |  |       |  |  |  |       | 
|------------------------ |  | ------------ | ----- | ------------ |  | ------------ | ----- | ------------- |  |  | ----- |  |  |  | ----- | 
|                         |  |              |       |              |  | Three Months |       |              
|                         |  | Year Ended   |       | Year Ended   |  | Ended        |       | Year Ended   
|                         |  | December 31, |       | December 31, |  | December 31, |       | September 30,
|                         |  | 2006         |       | 2005         |  | 2004         |       | 2004         
|                         |  |              |       |              |  |              |       |              
|Common share equivalents |  |              | 7,688 |              |  |              | 4,948 |               |  |  | 4,752 |  |  |  | 7,152 | 
|                         |  |              |       |              |  |              |       |               |  |  |       |  |  |  |       | 
|Contingent shares        |  |              | 1,585 |              |  |              | 1,585 |               |  |  | 1,585 |  |  |  | 1,585 | 
|                         |  |              |       |              |  |              |       |               |  |  |       |  |  |  |       | 







---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)





(l)
    Comprehensive LossComprehensive income includes foreign currency translation
adjustments, post-retirement adjustment and unrealized gains or
losses on our available-for-sale securities and derivative
instruments (in thousands).

|                          |                                                                               |              |          |       |              |              |          |              |   |   |               |       |   |   |          |       |  
|------------------------- | ----------------------------------------------------------------------------- | ------------ | -------- | ----- | ------------ | ------------ | -------- | ------------ | - | - | ------------- | ----- | - | - | -------- | ----- | -
|                          |                                                                               |              |          |       |              | Three Months |          |              |  
|                          |                                                                               | Year Ended   |          |       | Year Ended   |              |          | Ended        |   |   | Year Ended    |      
|                          |                                                                               | December 31, |          |       | December 31, |              |          | December 31, |   |   | September 30, |      
|                          |                                                                               | 2006         |          |       | 2005         |              |          | 2004         |   |   | 2004          |      
|                          |                                                                               |              |          |       |              |              |          |              |   |   |               |      
|Net loss                  |                                                                               | $            | (582,184 | )     |              | $            | (157,123 | )            |   | $ | (48,395       | )     |   | $ | (260,371 | )    
|Other comprehensive loss: |                                                                               |              |          |       |              |              |          |              |   |   |               |       |   |   |          |      
|                          | Foreign currency translation
    adjustments                                  |              |          | 2,148 |              |              |          | (2,431       | ) |   |               | 2,224 |   |   |          | 1,204 |  
|                          | Unrealized gains on derivative
    instruments arising during period          |              |          |      |              |              |          |             |   |   |               |      |   |   |          | 131   |  
|                          | Unrealized holding losses arising
    during period                           |              |          | (233  | )            |              |          | (1,245       | ) |   |               | (341  | ) |   |          | (995  | )
|                          | Less: Reclassification adjustment
    for losses (gains) realized in net loss |              |          |      |              |              |          | 2,173        |   |   |               | (22   | ) |   |          | (107  | )
|                          |                                                                               |              |          |       |              |              |          |              |   |   |               |      
|                          |                                                                               |              | 1,915    |       |              |              | (1,503   | )            |   |   | 1,861         |       |   |   | 233      |      
|                          |                                                                               |              |          |       |              |              |          |              |   |   |               |      
|Total comprehensive loss  |                                                                               | $            | (580,269 | )     |              | $            | (158,626 | )            |   | $ | (46,534       | )     |   | $ | (260,138 | )    
|                          |                                                                               |              |          |       |              |              |          |              |   |   |               |      



|                                                       |  |                    |        |   |      |   |       |  
|------------------------------------------------------ |  | ------------------ | ------ | - | ---- | - | ----- | -
|                                                       |  | As of December 31, |       
|                                                       |  |                    |       
|                                                       |  | 2006               |        |   | 2005 |  
|                                                       |  |                    |        |   |      |  
|Cumulative foreign currency
    translation adjustment |  | $                  | 3,976  |   |      | $ | 1,828 |  
|Adjustment to initially apply
    SFAS 158             |  |                    | (1,316 | ) |      |   |      |  
|Unrealized losses on
    available-for-sale securities |  |                    | (306   | ) |      |   | (73   | )
|                                                       |  |                    |        |   |      |  
|Accumulated other comprehensive
    income             |  | $                  | 2,354  |   |      | $ | 1,755 |  
|                                                       |  |                    |        |   |      |  



|    |                          
|--- | -------------------------
|(m) | Cash and Cash Equivalents





|    |            
|--- | -----------
|(n) | Investments







---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



realized gains and losses from the sale of available-for-sale
securities. A decline in the market value of any
available-for-sale security below cost that is deemed to be
other than temporary results in a reduction in carrying amount
to fair value. The impairment is charged to earnings and a new
cost basis for the security is established. Dividend and
interest income are recognized when earned.

Certain of our facility leases have outstanding letters of
credit issued by commercial banks which serve as security for
our performance under the leases. Included in restricted
investment securities as of December 31, 2006 were
$9.6 million of investments to secure these letters of
credit.

We have certain investments in privately-owned companies that
are carried on the cost method of accounting. Other than
temporary losses are recorded against earnings in the period the
decrease in value of the investment is deemed to have occurred.



(o)
    Goodwill and Intangible AssetsWe account for goodwill and other intangible assets in
accordance with SFAS No. 141, Business
Combinations, or SFAS No. 141, and
SFAS No. 142, Goodwill and Other Intangible
Assets, or SFAS No. 142, which we adopted in
fiscal 2003. SFAS No. 141 requires that the purchase
method of accounting be used for all business combinations. It
specifies the criteria which intangible assets acquired in a
business combination must meet in order to be recognized and
reported apart from goodwill. SFAS No. 142 requires
that goodwill and intangible assets determined to have
indefinite lives no longer be amortized but instead be tested
for impairment at least annually and whenever events or
circumstances occur that indicate impairment might have
occurred. SFAS No. 142 also requires that intangible
assets with estimable useful lives be amortized over their
respective estimated useful lives and reviewed for impairment
whenever events or changes in circumstances indicate that the
carrying value of an asset may not be recoverable.

As discussed in Note 2, we recorded an impairment charge of
$320.3 million to the Eyetech goodwill during the year
ended December 31, 2006.



(p)
    Accounting for the Impairment of Long-Lived Assets and for
    Long-Lived Assets to be Disposed ofIn accordance with SFAS No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, or
SFAS No. 144, we review long-lived assets to determine
whether an event or change in circumstances indicates the
carrying value of the asset may not be recoverable. We base our
evaluation on such impairment indicators as the nature of the
assets, the future economic benefit of the assets and any
historical or future profitability measurements, as well as
other external market conditions or factors that may be present.
If such impairment indicators are present or other factors exist
that indicate that the carrying amount of the asset may not be
recoverable, we determine whether an impairment has occurred
through the use of an undiscounted cash flows analysis at the
lowest level for which identifiable cash flows exist. If
impairment has occurred, we recognize a loss for the difference
between the carrying amount and the fair value of the asset.
Fair value is the amount at which the asset could be bought or
sold in a current transaction between a willing buyer and seller
other than in a forced or liquidation sale and can be measured
at the assets quoted market price in an active market or,
where an active market for the asset does not exist, our best
estimate of fair value based on discounted cash flow analysis.
Assets to be disposed of by sale are measured at the lower of
carrying amount or fair value less estimated costs to sell.

77



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Our most significant intangible asset was the acquired core and
developed technology related to Macugen. As discussed in
Note 2, at December 31, 2006, we assessed the carrying
value of Macugen intangibles with definitive lives and
determined that the assets were impaired and recorded a
$185.7 million impairment charge.

In the fourth quarter of fiscal 2004, we determined it was
necessary to record an impairment charge related to our
intangible asset for exclusive distribution rights to the
marketed product, Gelclair, in North America (see Note 7).

(q) Inventory

Tarceva is stated at the lower of cost or market, with cost
being determined using the weighted average method. Included in
inventory are raw materials and work in process for Tarceva that
may be used in the production of pre-clinical and clinical
product, which will be expensed to research and development cost
when consumed for these uses. Prior to receipt of FDA approval
of Tarceva for commercial sale on November 18, 2004, we had
expensed all costs associated with the production of Tarceva to
research and development expense in our consolidated statements
of operations. Effective November 18, 2004, we began to
capitalize the costs of manufacturing Tarceva as inventory,
including the costs to label, package and ship previously
manufactured bulk inventory which costs had already been
expensed as research and development. Inventory is comprised of
three components: raw materials, which are purchased directly by
us, work-in-process, which is primarily active pharmaceutical
ingredient, or API, where title has transferred from our
contract manufacturer to us, and finished goods, which is
packaged product ready for commercial sale.

At December 31, 2005, the cost reflected in a portion of
the finished goods inventory for Tarceva consisted solely of
cost incurred to package and label
work-in-process
inventory that had been previously expensed. During 2006, we had
sold all of the inventory that was partially produced and
expensed prior to November 2004.

As part of the acquisition of Eyetech, acquired finished goods
and work-in-process was
valued at fair value. Included in the finished goods at
December 31, 2006 and 2005 was $2.2 million and
$15.3 million, respectively, of step up in value assigned
to Eyetech inventory as part of the acquisition. Included in
work-in-process at
December 31, 2006 and 2005 was $414,000 and
$33.1 million, respectively, of step up in value assigned
to Eyetech inventory. The carrying value of raw materials
acquired on the date of the acquisition and post acquisition
Macugen inventory is stated at the lower of cost or market, and
our inventory costs are determined by weighted average method.
Inventory is comprised of three components: raw materials, which
are purchased directly by us,
work-in-process, which
is primarily API where title has transferred from our contract
manufacturer to us, and finished goods, which is packaged
product ready for commercial sale.

Also during the fourth quarter of 2006, we assessed our current
level of Macugen finished inventory with near term expiration
dates, our progress on finalizing a new sterile syringe product
presentation to satisfy our post-approval commitment to the FDA
for Macugen, and the expected recoverability of Macugen
work-in-process and raw material upon our planned disposal of
the eye disease business. Our analysis of the carrying value of
inventory relies upon known market trends and expectations for
future sales. Based on this assessment, we concluded that an
inventory charge of $26.4 million was required for the
fourth quarter of 2006 related to the potential disposal of
certain Macugen packaged syringes as well as the recoverability
of work-in-process and raw materials. If actual results differ
significantly from our expectations, it could lead to the write
down of additional inventory or our sale inventory with zero
cost basis.

78



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Inventory, net of the reserve for excess inventory, at
December 31, 2006 and 2005, consisted of the following (in
thousands):

|                            |  |                   |        |  |                   |   |        | 
|--------------------------- |  | ----------------- | ------ |  | ----------------- | - | ------ | 
|                            |  | December 31, 2006 |        |  | December 31, 2005 |  
|                            |  |                   |        |  |                   |  
|Raw materials               |  | $                 | 3,032  |  |                   | $ | 5,905  | 
|Work-in-process             |  |                   | 22,282 |  |                   |   | 44,961 | 
|Finished goods on hand, net |  |                   | 6,088  |  |                   |   | 19,533 | 
|Inventory subject to return |  |                   | 5,458  |  |                   |   | 5,316  | 
|                            |  |                   |        |  |                   |  
|Total inventory             |  | $                 | 36,860 |  |                   | $ | 75,715 | 
|                            |  |                   |        |  |                   |  



(r) Depreciation and Amortization






(s) Computer Software Costs




(t) Accrual for Clinical Research Organization and
Clinical Site Costs


We record accruals for estimated clinical study costs.


(u) Foreign Currency Translation


non-U.S.


(v) Accounting for Derivatives








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



derivative financial instruments in accordance with
SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, which was amended by
SFAS No. 137 and SFAS No. 138. When entered
into, we designate and document these derivative instruments as
a cash flow hedge of a specific underlying exposure, as well as
the risk management objectives and strategies for undertaking
the hedge transactions. Changes in the fair value of a
derivative that is designated and documented as a cash flow
hedge and is highly effective are recorded in other
comprehensive income until the underlying transaction affects
earnings, and then are later reclassified to earnings. We
formally assess, both at the inception and at each financial
quarter thereafter, the effectiveness of the derivative
instrument hedging the underlying forecasted cash flow
transaction. Any ineffectiveness related to the derivative
financial instruments and changes in fair value will be
recognized in the period in which the ineffectiveness was
calculated. There were no foreign exchange contracts as of
December 31, 2006 and 2005.

(w) Income Taxes

Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and
liabilities and their respective tax basis and operating loss
and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect
on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the
enactment date.

(x) Debt Issuance Costs

Costs incurred in issuing the 2025 Notes and the 2023 Notes are
amortized using the straight-line method over a five-year term,
which represents the earliest date that we may redeem such
notes. Costs incurred in issuing the 2009 Notes were amortized
using the straight-line method over a seven-year term. Upon
conversion of the 2009 Notes in July 2004, the remaining
unamortized costs of $3.7 million were reclassified to
additional paid in capital (see Note 10(c)). The
amortization of the debt issuance costs is included in other
expense in the accompanying consolidated statements of
operations.

(y) Use of Estimates

We have made a number of estimates and assumptions related to
the reported amounts in our financial statements and
accompanying notes to prepare these consolidated financial
statements in conformity with U.S. generally accepted
accounting principles. Actual results could differ from those
estimates and assumptions.

(z) Segment Information

Operating segments are determined based on the Companys
management approach. The management approach, as defined by
SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information, is based on the way
that the chief operating decision-maker organizes the segments
within an enterprise for making decisions about resources to be
allocated and assessing their performance. While the
Companys results of operations are primarily reviewed on a
consolidated basis, the chief operating decision-maker,
effective January 1, 2006, manages the enterprise in three
operating segments: (i) oncology, (ii) diabetes and
obesity and (iii) eye disease. In accordance with
SFAS No. 131, given the similar economic
characteristics of the three operating segments, the Company has
deemed it to have one reportable segment.

80



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)





(2)
    Acquisitions(a) Eyetech Pharmaceuticals, Inc. Acquisition

On November 14, 2005, we completed our acquisition of
Eyetech, pursuant to the terms of an Agreement and Plan of
Merger dated August 21, 2005. The acquisition was
structured as a merger of a wholly-owned subsidiary of OSI with
and into Eyetech, and Eyetech was renamed (OSI) Eyetech,
Inc. immediately following the acquisition.

The assets purchased and liabilities assumed by us included:
(a) one marketed product, Macugen, and the related
technology platform and patent estate; (b) rights to
Eyetechs leased facilities in New York, NY, Cedar Knolls,
NJ, Woburn and Lexington, MA and Boulder, CO, as well as
leasehold improvements and certain equipment;
(c) inventory; and (d) certain other assets and
liabilities.

As consideration for the acquisition, each share of Eyetech
common stock was purchased for $15.00 cash and
0.12275 shares of our common stock. The aggregate
consideration related to the acquisition totaled
$909.3 million, including the cash consideration, value of
OSI common stock issued, value of converted stock options
issued, and deal related costs. We issued a total of
approximately 5.65 million shares valued at
$205.4 million, which was based on the average four-day
closing price of our common stock around the date of the
announcement of the acquisition, which occurred on
August 21, 2005. In addition, each outstanding option to
purchase shares of Eyetech common stock, other than options
granted under Eyetechs 2001 Stock Plan, accelerated in
full and became vested and exercisable prior to the closing date
of November 14, 2005. Any of the Eyetech options that
remained unexercised as of the effective time of the merger were
terminated or cancelled in accordance with their terms. Each
outstanding option granted under Eyetechs 2001 Stock Plan
was assumed by OSI at the effective time and became an option to
purchase shares of OSI common stock. The portion of the value
assigned to options assumed and included in the purchase price
was $1.9 million. Options issued to Eyetech employees that
were in the money, but not yet vested, were converted into
options for our common stock at a ratio of 0.491 OSI shares of
common stock for each option to purchase one share of Eyetech
common stock. Based on this ratio, we assumed approximately
153,000 options. In connection with the adoption of
SFAS No. 123(R) effective January 1, 2006, the
options are being amortized into expense over the remaining
vesting period based on the fair value assigned to the options
on the date of the acquisition. Outstanding unvested restricted
shares and options to acquire restricted shares as of the
acquisition date were converted into cash and shares of OSI
common stock (restricted to the same extent as the restricted
stock converted) on the same basis as the outstanding stock of
Eyetech. The value assigned as of the acquisition date to these
rights was $6.1 million which is being recognized as
compensation expense in the accompanying financial statements
over the remaining vesting period.

The acquisition was accounted for under the purchase method of
accounting. The purchase price was allocated to the acquired
assets and assumed liabilities based on their estimated fair
values. In connection with the merger, we committed to and
approved an exit plan for consolidation of certain Eyetech
facilities. As a result of the exit plan, we recognized a
liability of $5.4 million for rent obligations based upon
the present value of the remaining lease payments, after exiting
the facilities, offset by the potential sublease rental income.
In addition, we recognized $6.2 million of liabilities
associated with personnel reductions and relocation costs. As of
December 31, 2005, the final determination for the
disposition of equipment and other costs was not finalized.
During the second and third quarters of 2006, we finalized our
valuation of Eyetech related assets and liabilities and
recognized adjustments to decrease the fair value of the
acquired Eyetech assets by $3.9 million and decrease the
assumed Eyetech liabilities by $3.7 million, resulting in a
$0.3 million adjustment to increase the value assigned to
Eyetech goodwill. As discussed below, we determined the Eyetech
goodwill was impaired and recognized an impairment charge of

81



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



$320.3 million, reflecting the entire amount of the value
of Eyetech goodwill as determined as of September 30, 2006.

The final purchase price allocation is as follows (in thousands):

|                                              |  |   |           | 
|--------------------------------------------- |  | - | --------- | 
|Cash and investments                          |  | $ | 271,934   | 
|Accounts receivable                           |  |   | 92,165    | 
|Inventory                                     |  |   | 62,587    | 
|Fixed assets                                  |  |   | 12,518    | 
|Prepaid expenses and other assets             |  |   | 7,955     | 
|Amortizable intangibles                       |  |   | 201,400   | 
|Goodwill                                      |  |   | 320,261   | 
|In-process research and development
    (R&D) |  |   | 60,900    | 
|                                              |  |   |          
|Total assets and in-process R&D
    acquired  |  |   | 1,029,720 | 
|Less liabilities assumed                      |  |   | 120,327   | 
|                                              |  |   |          
|Purchase price                                |  | $ | 909,393   | 
|                                              |  |   |          



10-QT






---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



information for the three-month period ended December 31,
2004 combines the historical financial information of OSI and
Eyetech for the three-month period ended December 31, 2004.
Accordingly, the historical financial information for Eyetech
for the three months ended December 31, 2004 are included
in the condensed pro forma financial information for both the
year ended September 30, 2004 and the three months ended
December 31, 2004. The unaudited pro forma financial
information for the year ended December 31, 2005 combines
the historical financial information of OSI and Eyetech for the
year ended December 31, 2005. The unaudited pro forma
financial information is as follows (in thousands, except per
share information):

|                                                                                                |  |              |          |   |                    |   |            |               |  |   |          |  
|----------------------------------------------------------------------------------------------- |  | ------------ | -------- | - | ------------------ | - | ---------- | ------------- |  | - | -------- | -
|                                                                                                |  | Year Ended   |          |   |                    |   | Year Ended |              
|                                                                                                |  | December 31, |          |   | Three Months Ended |   |            | September 30, | 
|                                                                                                |  | 2005         |          |   | December 31, 2004  |   |            | 2004          | 
|                                                                                                |  |              |          |   |                    |   |            |               | 
|Revenues                                                                                        |  | $            | 355,799  |   |                    | $ | 22,209     |               |  | $ | 86,466   |  
|Net loss before non-recurring
    charge related to the acquisition                             |  | $            | (161,267 | ) |                    | $ | (92,715    | )             |  | $ | (406,900 | )
|Basic and diluted net loss per
    share before non-recurring charge related to the acquisition |  | $            | (2.83    | ) |                    | $ | (1.75      | )             |  | $ | (8.90    | )



(b) Eyetech Goodwill Impairment


®


(c) Macugen Intangibles Impairment








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



disease business. While we continue to believe that Macugen may
achieve an important place in the wet AMD marketplace, it will
be dependent on the outcome of the LEVEL trial, our trial to
assess Macugens ability to maintain the vision gain
achieved by other non-selective VEGF-A agents used to treat wet
AMD, and the emergence of additional safety signals with the use
of these other agents. In addition, it is highly probable that
the ultimate outcome of our process to exit the eye disease
business will result in a transaction with a combination of
up-front consideration and contingent consideration. We believe
that the amount of the up-front consideration will only enable
us to recover the value of certain tangible assets relating to
our eye-disease business. However, because of the current sales
levels of Macugen and the uncertainty surrounding future sales
levels of Macugen on which any contingent consideration would be
based, there is significant risk relating to the value of this
contingent consideration. After considering all of the
aforementioned factors, we have concluded that the Macugen
intangibles are impaired and have reduced their value to zero at
December 31, 2006 and recorded a $185.7 million charge
in the fourth quarter of 2006.

(d) Probiodrug Assets

On July 26, 2004, our subsidiary, Prosidion, which is
focused on the discovery and development of diabetes and obesity
therapeutics, completed the acquisition of certain assets of
Probiodrug AG, pursuant to the terms of an asset purchase
agreement dated June 17, 2004. Probiodrug is a development
company engaged in the research and development of drug
candidates for various targets and various indications,
including metabolic diseases. The assets acquired included a
platform of DPIV technology, which includes PSN9301, a clinical
candidate that is in Phase II clinical trials for the
treatment of type 2 diabetes, and a portfolio of issued and
pending patents and patent applications with claims covering
DPIV as a target for anti-diabetes therapy and licensed rights
to patent applications claming combinations of DPIV inhibitors
with other oral anti-diabetes drugs such as metformin, that have
been non-exclusively licensed to other companies for future
milestones and royalty payments. Upon the closing of the
acquisition, we paid $36.4 million in cash, including
professional fees. The purchase price was allocated to the
assets acquired based on the fair values as of the date of the
acquisition. Of the $36.4 million purchase price,
$32.8 million was assigned to the drug candidate in
clinical development, PSN9301, and was expensed at the date of
the acquisition and is included in acquired in-process research
and development expenses in the accompanying consolidated
statement of operations for the year ended September 30,
2004. The non-exclusive licenses issued to other companies, as
well as the patent estate, were valued at $3.6 million and
are included in other intangible assets-net on the accompanying
consolidated balance sheets as of December 31, 2006 and
2005, and are being amortized on a straight-line basis through
the earliest expiration of the related patents in April 2017. We
will also be required to pay additional contingent milestone
payments upon the achievement of certain milestones related to
the development of PSN9301.

The value assigned to the acquired in-process R&D was
determined by identifying the acquired in-process research
projects for which (a) technological feasibility had not
been established at the acquisition date; (b) there was no
alternative future use; and (c) the fair value was
estimable based on reasonable assumptions. The acquired
in-process R&D was valued at $32.8 million and was
assigned entirely to PSN9301. The value of the acquired
in-process R&D and the other identifiable intangible assets
was determined by estimating the projected net cash flows, based
upon the future revenues to be earned upon commercialization. In
determining the value of the in-process R&D, the assumed
commercialization date for the product was 2010. Given the risks
associated with the development of new drugs, the revenue and
expense forecast was probability-adjusted to reflect the risk of
advancement through the approval process. The risk adjustments
applied were based on the compounds stage of

84



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



development at the time of assessment and the historical
probability of successful advancement for compounds at that
stage. The modeled cash flow was discounted back to the net
present value. The projected net cash flows from such project
were based on managements estimates of revenues and
operating profits related to such project. The value of the
in-process R&D was based on the income approach that focuses
on the income-producing capability of the asset. The underlying
premise of this approach is that the value of an asset can be
measured by the present worth of the net economic benefit (cash
receipts less cash outlays) to be received over the life of the
asset. Significant assumptions and estimates used in the
valuation of in-process R&D included the stage of
development for the project; future revenues; growth rates;
product sales cycles; the estimated life of a products
underlying technology; future operating expenses; probability
adjustments to reflect the risk of developing the acquired
technology into commercially viable products; and a discount
rate of 26% to reflect present value.

Prosidion also entered into a research agreement with Probiodrug
whereby Probiodrug would provide services directed to the
research and development of new lead molecules in the area of
glucose-dependent insulinotropic peptide receptor, agonism and
antagonism and DPIV inhibition. Prosidion agreed to fund the
research and development services to be performed, up to
$5.0 million dollars and would also be required to pay
Probiodrug royalties on the net sales of products that arise
from the research and development.

(e) Minority Interest in Prosidion

On April 14, 2005, we completed the acquisition of the
minority interest held by the remaining shareholders of
Prosidion. We issued a total of 84,940 shares of our common
stock in exchange for 286,200 shares in Prosidion,
representing approximately 2.8% of the Prosidion shares
outstanding. In addition, we paid $176,000 in cash to one of the
minority shareholders of Prosidion, who is a director of our
company, in exchange for 11,000 shares of Prosidion. The
84,940 shares of our common stock were valued at
$4.2 million, which was based on the average five-day
closing price of our common stock around the date of the
announcement of the proposed acquisition, which occurred on
March 10, 2005. The acquisition of the minority interest
resulted in Prosidion becoming our wholly-owned subsidiary. The
acquisition of the minority interest was accounted for under the
purchase method of accounting. The purchase price was allocated
to the assets acquired and assumed liabilities based on the fair
value as of the acquisition date. We incurred direct costs of
$650,000 in connection with the acquisition, resulting in a
total acquisition cost of approximately $5.0 million.

85



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NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



The purchase price for the minority interest acquired was
allocated as follows (in thousands):

|                                                 |  |   |       | 
|------------------------------------------------ |  | - | ----- | 
|License agreements                               |  | $ | 615   | 
|Patent estate                                    |  |   | 203   | 
|Acquired in-process research and
    development |  |   | 3,694 | 
|Minority interest                                |  |   | 322   | 
|Goodwill                                         |  |   | 149   | 
|                                                 |  |   |      
|Common stock and cash paid                       |  | $ | 4,983 | 
|                                                 |  |   |      

in-the






|    |            
|--- | -----------
|(3) | Investments

(a)    Investment Securities








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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



The following is a summary of available-for-sale securities as
of December 31, 2006 and 2005 (in thousands):

|                                              |       |       |         |            |        |   |      |            |   |   |         |         | 
|--------------------------------------------- | ----- | ----- | ------- | ---------- | ------ | - | ---- | ---------- | - | - | ------- | ------- | 
|                                              |       |       |         | Gross      |        |   |     
|                                              |       |       |         | Unrealized |        |   |     
|                                              |       | Costs |         |            | Losses |   |      | Fair Value |  
|                                              |       |       |         |            |        |   |      |            |  
|2006                                          |       |       |         |            |        |   |      |            |   |   |         |        
|U.S. government securities                    |       | $     | 137,089 |            |        | $ | (274 | )          |   | $ | 136,815 |        
|Corporate and financial
    institutions debt |       |       | 27,975  |            |        |   | (3   | )          |   |   | 27,972  |        
|                                              |       |       |         |            |        |   |      |            |  
|Investment securities                         |       |       | 165,064 |            |        |   | (277 | )          |   |   | 164,787 |        
|Restricted Investments                        |       |       | 9,582   |            |        |   | (29  | )          |   |   | 9,553   |        
|                                              |       |       |         |            |        |   |      |            |  
|                                              | Total |       | $       | 174,646    |        |   | $    | (306       | ) |   | $       | 174,340 | 
|                                              |       |       |         |            |        |   |      |            |  

|                                              |       |       |       |            |        |   |     |            |   |   |       |       | 
|--------------------------------------------- | ----- | ----- | ----- | ---------- | ------ | - | --- | ---------- | - | - | ----- | ----- | 
|                                              |       |       |       | Gross      |        |   |    
|                                              |       |       |       | Unrealized |        |   |    
|                                              |       | Costs |       |            | Losses |   |     | Fair Value |  
|                                              |       |       |       |            |        |   |     |            |  
|2005                                          |       |       |       |            |        |   |     |            |   |   |       |      
|U.S. government securities                    |       | $     | 3,632 |            |        | $ | (77 | )          |   | $ | 3,555 |      
|Corporate and financial
    institutions debt |       |       | 1,514 |            |        |   | (8  | )          |   |   | 1,506 |      
|                                              |       |       |       |            |        |   |     |            |  
|                                              | Total |       | $     | 5,146      |        |   | $   | (85        | ) |   | $     | 5,061 | 
|                                              |       |       |       |            |        |   |     |            |  





|                   |  |      |         |  |            |   |         | 
|------------------ |  | ---- | ------- |  | ---------- | - | ------- | 
|                   |  | Cost |         |  | Fair Value |  
|                   |  |      |         |  |            |  
|2007               |  | $    | 117,105 |  |            | $ | 117,023 | 
|2008               |  |      | 41,074  |  |            |   | 40,982  | 
|2009               |  |      | 15,217  |  |            |   | 15,115  | 
|2010               |  |      |        |  |            |   |        | 
|2011               |  |      | 750     |  |            |   | 726     | 
|2012 and hereafter |  |      | 500     |  |            |   | 494     | 
|                   |  |      |         |  |            |  
|                   |  | $    | 174,646 |  |            | $ | 174,340 | 
|                   |  |      |         |  |            |  



|    |                                                  
|--- | -------------------------------------------------
|(4) | Product Development/ Commercialization Agreements

(a)    Roche and Genentech










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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



parties agree from time to time during the development of
Tarceva. We, as well as Genentech and Roche, may conduct
clinical and pre-clinical activities for additional indications
for Tarceva not called for under the global development plan,
subject to certain conditions. The Tripartite Agreement will
terminate when either the OSI/ Genentech collaboration agreement
or the OSI/ Roche agreement terminates. Any reimbursement from
or additional payments to Genentech or Roche for R&D costs
under the cost sharing arrangement of the Tripartite Agreement
are recorded as an increase or decrease to R&D expenses in
the accompanying consolidated statements of operations.

Under the OSI/Genentech collaboration agreement, we agreed to
collaborate in the product development of Tarceva with the goals
of obtaining regulatory approval for commercial marketing and
sale in the United States of products resulting from the
collaboration, and, subsequently, supporting the
commercialization of the product. Consistent with the
development plan and with the approval of a joint steering
committee, we agreed with Genentech as to who will own and be
responsible for the filing of drug approval applications with
the FDA other than the first new drug application, or NDA, which
we owned and filed, and the first supplemental NDA, which we
owned and which we filed. Genentech has primary responsibility
for the design and implementation of all product launch
activities and the promotion, marketing and sales of all
products resulting from the collaboration in the United States,
its territories and Puerto Rico.

We have certain co-promotion rights under the OSI/ Genentech
collaboration agreement, which are defined in an amendment to
the agreement effective as of June 4, 2004. Pursuant to
this amendment, we co-promote Tarceva using a sales force equal
to or greater than 25% of the combined OSI/ Genentech sales
force. We share equally in the operating profits or losses on
products resulting from the collaboration. Under the
OSI/Genentech collaboration agreement, we granted to Genentech a
royalty-free non-transferable (except under certain
circumstances), non-sublicensable (except under certain
circumstances), co-exclusive license under our patents and
know-how related to Tarceva to use, sell, offer for sale and
import products resulting from the collaboration in the United
States, its territories and Puerto Rico. In addition, Genentech
granted to us a royalty-free non-transferable (except under
certain circumstances), non-sublicensable (except under certain
circumstances), co-exclusive license to certain patents and
know-how held by Genentech to use, make, have made, sell, offer
for sale and import products resulting from the collaboration in
the United States, its territories and Puerto Rico. We have
primary responsibility for patent filings for the base patents
protecting Tarceva and, in addition, we have the right, but not
the obligation, to institute, prosecute and control patent
infringement claims relating to the base patents.

In connection with our collaboration with Genentech, Genentech
recognizes all U.S. sales of Tarceva. We recognize revenues
and losses from our alliance with Genentech, which consists of
our 50% share of the pre-tax profits (loss) generated from the
sales of Tarceva in the United States. We also recognize
manufacturing revenue from the sale of inventory to Genentech
for commercial sales of Tarceva in the United States and partial
reimbursement from Genentech of our Tarceva-related commercial
expenses. We receive royalties on sales of Tarceva outside of
the United States by Roche.

The OSI/Genentech collaboration agreement continues until the
date on which neither we nor Genentech are entitled to receive a
share of the operating profits or losses on any products
resulting from the collaboration, that is, until the date that
we and Genentech mutually agree to terminate the collaboration
or until either party exercises its early termination rights.
The OSI/Genentech collaboration agreement is subject to early
termination in the event of certain customary defaults, such as
material breach of the agreement and bankruptcy. The provisions
of the amendment allowing us to co-promote are also subject to
termination by Genentech upon a material breach by us

88



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OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



of the amendment, which remains uncured, or upon a pattern of
nonmaterial breaches which remains uncured. In addition,
Genentech has the right to terminate the OSI/ Genentech
collaboration agreement with six months prior written
notice.

Effective June 4, 2004, we entered into a Manufacturing and
Supply Agreement with Genentech that defined each partys
responsibilities with respect to the manufacture and supply of
clinical and commercial quantities of Tarceva. Under certain
circumstances, if we fail to supply such clinical and commercial
quantities, Genentech has the right, but not the obligation, to
assume responsibility for such supply. The Manufacturing and
Supply Agreement will terminate upon the termination of the
OSI/Genentech collaboration agreement.

Under the OSI/Roche agreement, we granted to Roche a license to
our intellectual property rights with respect to Tarceva. Roche
is collaborating with us and Genentech in the continued
development of Tarceva and is responsible for marketing and
commercialization of Tarceva outside of the United States in
certain territories as defined in the agreement. The grant is a
royalty-bearing, non-transferable (except under certain
circumstances), non-sublicensable (except under certain
circumstances), sole and exclusive license to use, sell, offer
for sale and import products resulting from the development of
Tarceva worldwide, other than the territories covered by the
OSI/Genentech collaboration agreement. In addition, Roche has
the right, which it has exercised, to manufacture commercial
supplies of Tarceva for its territory, subject to certain
exceptions. Roche will pay us certain milestone payments and
royalty payments on sales of products resulting from the
collaboration. We have primary responsibility for patent filings
for the base patents protecting Tarceva and, in addition, we
have the right, but not the obligation, to institute, prosecute
and control patent infringement claims relating to the base
patents. The OSI/Roche agreement continues until the date on
which we are no longer entitled to receive a royalty on products
resulting from the development of Tarceva, that is, until the
date of expiration or revocation or complete rejection of the
last to expire patent covering Tarceva or, in countries where
there is no valid patent covering Tarceva, on the tenth
anniversary of the first commercial sale of Tarceva in that
country, or until either party exercises early termination
rights. The OSI/Roche agreement is subject to early termination
in the event of certain customary defaults, such as material
breach of the agreement and bankruptcy. In addition, Roche has
the right to terminate the agreement on a country-by-country
basis with six months prior written notice and we have had
the right to terminate the agreement on a country-by-country
basis if Roche has not launched or marketed a product in such
country under certain circumstances.

(b)    Pfizer

In December 2002, Pfizer and Eyetech entered into several
concurrent agreements to jointly develop and commercialize
Macugen. The agreement became effective February 3, 2003
when government approval of the transaction was obtained. Pfizer
has funded, and is obligated to continue to fund, a majority of
the ongoing development costs incurred pursuant to an agreed
upon development plan covering the development of Macugen for
wet AMD, diabetic macular edema, or DME, central retinal vein
occlusion, or CRVO, and other agreed upon ophthalmic
indications. In the United States, we are co-promoting Macugen
with Pfizer, we and Pfizer share in profits and losses from the
sale of Macugen. Outside the United States, Pfizer markets the
product under an exclusive license, for which we receive royalty
payments based on net sales.

Under the agreement, the parties sharing of gross profits
and losses from the commercialization of Macugen in the United
States extends until the later of 15 years after commercial
launch in the United States or the expiration of the United
States patent rights licensed to Pfizer. The payment of
royalties to us by Pfizer based on

89



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OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



net sales of Macugen outside the United States extends, on a
country-by-country basis, until the later of 15 years after
commercial launch and the expiration of the patent rights
licensed to Pfizer in each particular country. The royalty rate
on net sales of Macugen outside the United States is reduced on
a country-by-country basis to the extent that the patent rights
in a particular country expire or a generic form of Macugen is
marketed in that country. We commercially launched Macugen in
January 2005. The United States patent rights licensed by us to
Pfizer expire between 2010 and 2017. The corresponding foreign
rights include patents that expire between 2011 and 2017 and
patent applications which, if issued as patents, are expected to
expire between 2011 and 2020. Pfizer may terminate the
collaboration relationship without cause upon six to twelve
months prior notice, depending on when such notice is
given. Either party may terminate the collaboration relationship
based upon material uncured breaches by the other party. In
addition, we may terminate the collaboration relationship if,
during specified periods, net sales of Macugen do not reach
specified levels. If we elect to terminate the collaboration in
this situation, we would be required to pay royalties to Pfizer
based on net sales of Macugen following such termination.

The collaboration is governed by a joint operating committee,
consisting of an equal number of representatives of us and
Pfizer. There are also subcommittees with equal representation
from both parties that have responsibility over development and
regulatory, manufacturing and commercialization matters. In the
case of unresolved disagreement, ultimate decision-making
authority is vested in us as to some matters and in Pfizer as to
other matters. A third category of decisions requires the
approval of both us and Pfizer. Outside the United States,
ultimate decision-making authority as to most matters is vested
in Pfizer.

Based on the achievement of certain specified worldwide
regulatory submission and approvals, we would be eligible to
receive up to an additional $55 million in license
payments. We also have the potential to receive up to an
additional $450 million in milestone payments, which are
contingent upon successful commercialization of Macugen and
which are based on attainment of agreed-upon sales levels.

(c)    Merck Serono

On March 11, 2003, we entered into a co-promotion agreement
with Ares Trading, an affiliate of Merck Serono, to market and
promote Novantrone for approved oncology indications in the
United States through December 2017. In consideration for these
exclusive rights, we paid $46.0 million in cash, including
professional fees. The purchase price and related professional
fees, net of related amortization, are included in other
intangible assets-net in the accompanying consolidated balance
sheets as of December 31, 2006 and 2005, and were initially
amortized on a straight-line basis through expiration of the
Novantrone patent in April 2006. At December 31, 2005, we
revised the future recoverability period of the Novantrone
intangible asset through the end of 2008 based upon revised
estimates of future cash flows subsequent to the expiration of
that patent. Under the terms of the co-promotion agreement, we
were required to pay quarterly maintenance fees until the later
of the expiration of the last valid patent claim or the first
generic date, as defined in the agreement. With introduction of
generic competition in the marketplace, our last maintenance
payment under the agreement was in April 2006. Such maintenance
fees were expensed as incurred and included in selling, general
and administrative expenses on the accompanying consolidated
statements of operations. We receive commissions on net sales of
the product in the United States for oncology indications. Sales
commissions totaled $11.8 million, $29.7 million and
$11.4 million for the years ended December 31, 2006
and 2005 and the three months ended December 31, 2004,
respectively. Sales commissions totaled $34.3 million for
the year ended September 30, 2004.

90



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OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



(d)    Other

Under the terms of the aforementioned and other collaborative
research agreements, with terms similar to the aforementioned
agreements, certain collaborative partners will pay us royalties
on net sales of products resulting from these research programs
in addition to the research revenues described below. We or our
collaborative partners may terminate each of the collaborative
research programs upon the occurrence of certain events.



(5)
    License AgreementsWe have entered into various license agreements with third
parties to grant the use of our proprietary assets. These
licenses include the use of our patented gene transcription
estate as well as the use of our DPIV patent estate acquired
from Probiodrug. Licensees may be obligated to pay us license
fees, annual fees, and milestones and royalties based on the
development and sale of products derived from the licensed
patents. Generally, the duration of each license is to be
coextensive with the life of the last to expire of the
underlying patents. License, milestone and royalty payments were
recognized as revenue for the year ended December 31, 2006
and 2005 for licenses of our DPIV patent estate was
approximately $19 million and $14 million,
respectively.



(6)
    Property, Equipment and Leasehold ImprovementsProperty, equipment and leasehold improvements are recorded at
cost and consist of the following (in thousands):

|                                                          |  |                |               |              |      |   |         |      |  |   |         |  
|--------------------------------------------------------- |  | -------------- | ------------- | ------------ | ---- | - | ------- | ---- |  | - | ------- | -
|                                                          |  |                |               | December 31, |     
|                                                          |  | Estimated Life |               |              |      |  
|                                                          |  | (years)        |               |              | 2006 |   |         | 2005 | 
|                                                          |  |                |               |              |      |   |         |      | 
|Land                                                      |  |                |              |              |      | $ | 3,600   |      |  | $ | 3,600   |  
|Building and improvements                                 |  |                | 10-35         |              |      |   | 23,502  |      |  |   | 17,447  |  
|Laboratory equipment                                      |  |                | 5-15          |              |      |   | 25,663  |      |  |   | 25,872  |  
|Office furniture and equipment and
    computer equipment |  |                | 3-7           |              |      |   | 15,319  |      |  |   | 14,004  |  
|Capitalized software                                      |  |                | 1-3           |              |      |   | 6,817   |      |  |   | 6,274   |  
|Manufacturing equipment                                   |  |                | 3-7           |              |      |   | 5,150   |      |  |   | 4,400   |  
|Leasehold improvements                                    |  |                | Life of lease |              |      |   | 34,260  |      |  |   | 33,262  |  
|                                                          |  |                |               |              |      |   |         |      | 
|Total                                                     |  |                |               |              |      |   | 114,311 |      |  |   | 104,859 |  
|Less: accumulated depreciation and
    amortization       |  |                |               |              |      |   | (58,088 | )    |  |   | (42,912 | )
|                                                          |  |                |               |              |      |   |         |      | 
|Property, equipment and leasehold
    improvements, net   |  |                |               |              |      | $ | 56,223  |      |  | $ | 61,947  |  
|                                                          |  |                |               |              |      |   |         |      | 





|    |                                     
|--- | ------------------------------------
|(7) | Goodwill and Other Intangible Assets







---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



annual impairment review of the goodwill as of December 31,
2006 and determined that no impairment charge was required. As
discussed in Note 2, we recorded a $320.3 million
impairment charge during 2006 relating to the Eyetech goodwill.

The components of other intangible assets-net are as follows (in
thousands):

|                                                |  |                   |        |     |                   |   |         |       |  |   |          |  |  |              |         |  |       |   |         |   |  |   |         | 
|----------------------------------------------- |  | ----------------- | ------ | --- | ----------------- | - | ------- | ----- |  | - | -------- |  |  | ------------ | ------- |  | ----- | - | ------- | - |  | - | ------- | 
|                                                |  | December 31, 2006 |        |     | December 31, 2005 |  
|                                                |  |                   |        |     |                   |  
|                                                |  |                   |        | Net |                   |   |         |       |  |   | Net      |  |  |             
|                                                |  | Carrying          |        |     | Accumulated       |   |         | Book  |  |   | Carrying |  |  | Accumulated  |         |  | Book  |  
|                                                |  | Amount            |        |     | Amortization      |   |         | Value |  |   | Amount   |  |  | Amortization |         |  | Value |  
|                                                |  |                   |        |     |                   |   |         |       |  |   |          |  |  |              |         |  |       |  
|Novantrone technology                           |  | $                 | 46,009 |     |                   | $ | (43,108 | )     |  | $ | 2,901    |  |  | $            | 46,009  |  |       | $ | (41,657 | ) |  | $ | 4,352   | 
|Macugen                                         |  |                   |       |     |                   |   |        |       |  |   |         |  |  |              | 201,400 |  |       |   | (2,263  | ) |  |   | 199,137 | 
|Acquired patent estate                          |  |                   | 760    |     |                   |   | (135    | )     |  |   | 625      |  |  |              | 668     |  |       |   | (65     | ) |  |   | 603     | 
|Acquired licenses issued to other
    companies |  |                   | 3,932  |     |                   |   | (716    | )     |  |   | 3,216    |  |  |              | 3,458   |  |       |   | (356    | ) |  |   | 3,102   | 
|                                                |  |                   |        |     |                   |   |         |       |  |   |          |  |  |              |         |  |       |  
|Total                                           |  | $                 | 50,701 |     |                   | $ | (43,959 | )     |  | $ | 6,742    |  |  | $            | 251,535 |  |       | $ | (44,341 | ) |  | $ | 207,194 | 
|                                                |  |                   |        |     |                   |   |         |       |  |   |          |  |  |              |         |  |       |  













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##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Amortization expense for these intangible assets for the years
ended December 31, 2006 and 2005 was $19.9 million and
$17.5 million, respectively. Amortization expense for the
three months ended December 31, 2004 and year ended
September 30, 2004 was $3.8 million and
$18.6 million, respectively. Amortization expense is
estimated to be $1.8 million for the years of 2007 and
2008, and $380,000 for the years 2009 through 2011.



(8)
    Accounts Payable and Accrued ExpensesAccounts payable and accrued expenses at December 31, 2006
and 2005 are comprised of (in thousands):

|                                                                            |  |              |        |  |      |   |        | 
|--------------------------------------------------------------------------- |  | ------------ | ------ |  | ---- | - | ------ | 
|                                                                            |  | December 31, |       
|                                                                            |  |              |       
|                                                                            |  | 2006         |        |  | 2005 |  
|                                                                            |  |              |        |  |      |  
|Accounts payable                                                            |  | $            | 3,543  |  |      | $ | 9,473  | 
|Accrued payroll and employee
    benefits                                   |  |              | 3,612  |  |      |   | 3,538  | 
|Accrued incentive compensation                                              |  |              |       |  |      |   | 3,963  | 
|Accrued exit costs (see
    Note 17)                                        |  |              | 8,128  |  |      |   | 10,241 | 
|Accrued interest                                                            |  |              | 1,619  |  |      |   | 1,580  | 
|Accrued CRO and site costs                                                  |  |              | 5,059  |  |      |   | 5,248  | 
|Accrued commercial and development
    costs                                |  |              | 5,723  |  |      |   | 5,467  | 
|Accrued royalties                                                           |  |              | 1,088  |  |      |   | 9,060  | 
|Accrued compensation related to
    Eyetech restricted shares (see Note 11) |  |              | 221    |  |      |   | 3,910  | 
|Other accrued expenses                                                      |  |              | 25,748 |  |      |   | 27,987 | 
|                                                                            |  |              |        |  |      |  
|                                                                            |  | $            | 54,741 |  |      | $ | 80,467 | 
|                                                                            |  |              |        |  |      |  





|    |                                   
|--- | ----------------------------------
|(9) | Collaborative Profit Share Payable





|     |                                      
|---- | -------------------------------------
|(10) | Convertible Senior Subordinated Notes

(a)    2.0% Convertible Senior
Subordinated Notes








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



immediately preceding fiscal quarter exceeds 120% of the
conversion price in effect on the last trading day of the
immediately preceding fiscal quarter; (ii) prior to
December 15, 2020, during the five business day period
after any five consecutive trading day period, or the note
measurement period, in which the average trading price per
$1,000 principal amount of notes was equal to or less than 97%
of the average conversion value of the notes during the note
measurement period; (iii) upon the occurrence of specified
corporate transactions, as described in the indenture for the
2025 Notes; (iv) if we call the notes for redemption; or
(v) any time on or after December 15, 2020. Upon
conversion, we will have the right to deliver, in lieu of shares
of common stock, cash or a combination of cash and shares of
common stock. At any time before the maturity date, we may
irrevocably elect, in our sole discretion, to satisfy our
conversion obligation in cash up to 100% of the principal amount
of the notes converted, with any remaining amount to be
satisfied in shares of our common stock. If certain fundamental
changes occur before December 15, 2010, the conversion rate
may increase, or under certain circumstances, we may elect to
change our conversion obligations to provide for conversion of
the notes into the acquiring companys common stock. We may
redeem the 2025 Notes, in whole or in part, for cash, at any
time on or after December 15, 2010 for a price equal to
100% of the principal amount of the 2025 Notes to be redeemed,
plus any accrued and unpaid interest. The holders of the 2025
Notes have the right to require us to purchase, for cash, all of
the 2025 Notes, or a portion thereof, on December 15, 2010,
December 15, 2015, on December 15, 2020 and under
certain other circumstances as set out in the indenture, for a
price equal to 100% of the principal amount of the 2025 Notes
plus any accrued and unpaid interest. The related debt issuance
costs of $3.9 million were deferred and are being amortized
on a straight-line basis over a five-year term, which represents
the earliest date that we may redeem the 2025 Notes. Concurrent
with the sale of the 2025 Notes, we used $11.8 million of
the net proceeds for the purchase of 500,000 shares of our
common stock and we purchased a call spread overlay transaction
from UBS, AG at a cost of $12.2 million. The call spread is
a European-type option with a lower strike price of $29.425 and
an upper strike price of $40.00 and involves an aggregate of
3.4 million shares of our common stock and expires on
December 15, 2010. The call spread overlay agreement has
the effect of increasing the effective conversion price of the
2025 Notes from our perspective to $40.00 per share. The
agreement calls for settlement using net shares. Under the
agreement, bankers associated with the debt offering will
deliver to us the aggregate number of shares we are required to
deliver to a holder of 2025 Notes that presents such notes for
conversion. If the market price per share of our common stock is
above $40.00 per share, we will be required to deliver
shares of our common stock representing the value in excess of
the strike price. In accordance with EITF
No. 00-19 and
SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and
Equity, we recorded the purchase of the call spread
overlay option agreement as a reduction in additional paid in
capital, and will not recognize subsequent changes in fair value
of the agreement.

At December 31, 2006 and 2005, the fair value of the
outstanding 2025 Notes was approximately $147.9 million and
$129.6 million, based on their quoted market value. As of
January 1, 2007, the 2025 Notes were convertible as our
common stock closed at or above $35.32 per share for twenty
trading days within the thirty trading day period ending on
December 29, 2006. As a result, during the conversion
period commencing January 1, 2007 and continuing through
and including March 30, 2007, holders of the 2025 Notes
may, if they elect, convert the 2025 Notes into shares of common
stock, subject to the terms of the related indenture.

(b)    3.25% Convertible Senior
Subordinated Notes

On September 8, 2003, we issued $135.0 million
aggregate principal amount of 2023 Notes in a private placement
for net proceeds to us of $130.3 million. On
September 17, 2003, the bankers associated with this

94



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



convertible debt offering exercised an option to purchase an
additional $15.0 million of the 2023 Notes, for additional
net proceeds to us of $14.5 million. The 2023 Notes bear
interest at 3.25% per annum, payable semi-annually, and
mature on September 8, 2023. The 2023 Notes are convertible
into shares of our common stock at a conversion price of
$50.02 per share, subject to normal and customary
adjustments such as stock dividends or other dilutive
transactions. We may redeem the 2023 Notes, in whole or in part,
for cash, at any time after September 8, 2008 for a price
equal to 100% of the principal amount of the 2023 Notes to be
redeemed, plus any accrued and unpaid interest. The holders of
the 2023 Notes have the right to require us to purchase all of
the 2023 Notes, or a portion thereof, on September 8, 2008,
September 8, 2013 and September 8, 2018 for a price
equal to 100% of the principal amount of the 2023 Notes plus any
accrued and unpaid interest. If the 2023 Noteholders make this
election, we can pay the purchase price in cash or by issuing
our common stock. Upon a change in control, as defined in the
indenture governing the 2023 Notes, the holders of the 2023
Notes will have the right to require us to purchase all of the
2023 Notes, or a portion thereof, not previously called for
redemption at a purchase price equal to 100% of the principal
amount of the 2023 Notes purchased, plus accrued and unpaid
interest. Upon the election by the holders of the right to
require us to purchase the 2023 Notes or upon a change of
control, we may elect to pay the purchase price in common stock
instead of cash. The number of shares of common stock a holder
will receive will equal the purchase price divided by 95% of the
average of the closing prices of our common stock for the
five-trading day period ending on the third business day prior
to the purchase date. The related debt issuance costs of
$5.2 million were deferred and are being amortized on a
straight-line basis over a five-year term, which represents the
earliest date that we may redeem the 2023 Notes. In connection
with the issuance of the 2023 Notes, we used $19.0 million
of the net proceeds for the purchase of 503,800 shares of
our common stock. At December 31, 2006 and 2005, the fair
value of the outstanding 2023 Notes, was approximately
$148.5 million and $144.3 million, respectively, based
on their quoted market value.



(11)
    Stockholders Equity(a)    Equity Plans

We have thirteen equity plans pursuant to which there are shares
available for future grant and/or outstanding grants issued to
our employees, officers, directors and consultants. Four of
these plans still have shares available for future grant: the
1997 Incentive and Non-Qualified Stock Option Plan, the 1999
Incentive and Non-Qualified Stock Option Plan, the Amended and
Restated Stock Incentive Plan, and Stock Incentive Plan for New
Hires. The plans are administered by the Compensation Committee
of the Board of Directors, which may grant stock options and, in
the case of the Amended and Restated Stock Incentive Plan and
Stock Incentive Plan for New Hires, restricted stock and
restricted stock units. The Compensation Committee determines
the terms of all equity grants under the plans. Our equity
grants vest over various periods and expire no later than
10 years from date of grant. The total authorized shares
under these plans are 11,609,500, of which 1,255,240 shares
were available for future grant as of December 31, 2006.

Our Board of Directors adopted the 2001 Incentive and
Non-Qualified Stock Option Plan, or the 2001 Stock Option Plan,
effective June 13, 2001, which was approved by the
stockholders on March 13, 2002. The 2001 Stock Option Plan
permitted the grant of stock options to purchase up to
4.0 million shares as well as continuing automatic,
formula-based grants of non-qualified stock options to directors
who are not our employees. On December 11, 2002, our Board
of Directors approved an amendment to the 2001 Stock Option Plan
that only affected the automatic, formula-based grants of
non-qualified stock options to directors who are not our
employees. On March 17, 2004, at our 2004 annual meeting of
stockholders, our stockholders approved an amendment

95



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



and restatement of the 2001 Stock Option Plan in the form of the
Amended and Restated Stock Incentive Plan, or the Plan, which
was adopted by the Board of Directors on January 23, 2004.
On March 16, 2005 at our 2005 annual meeting of
stockholders, our stockholders approved an amendment to the Plan
to increase the number of equity awards issuable under the Plan
from 4.0 million shares to 6.8 million shares.
Participation in the Plan is limited to our directors, officers,
employees and consultants of our parent or subsidiaries. The
Plan permits the issuance of stock options, and the grant of
restricted stock, restricted stock units, stock appreciation
rights and stock bonus awards upon such terms and conditions as
the Compensation Committee determines.

On November 12, 2005, our Board of Directors adopted the
OSI Pharmaceuticals, Inc. Stock Incentive Plan for Pre-Merger
Employees of Eyetech Pharmaceuticals, Inc., or the Eyetech Plan.
The Eyetech Plan was adopted to provide equity grants to certain
Eyetech employees that we retained after the Eyetech merger.

Pursuant to the Eyetech merger agreement, we assumed
Eyetechs 2001 Stock Plan and, to facilitate such
assumption, adopted the OSI Pharmaceuticals, Inc. Stock Plan for
Assumed Options of Pre-Merger Employees of Eyetech
Pharmaceuticals, Inc., or the Assumed Plan. Pursuant to the
terms of the Assumed Plan and the merger agreement, we assumed
all options and other awards granted to employees, outside
directors and consultants outstanding under the Assumed Plan.
The number of shares of OSI common stock subject to each assumed
option was determined by multiplying the number of shares of the
Eyetech common stock that were subject to each option prior to
the effective time of the Eyetech acquisition by a conversion
ratio of 0.491, and rounding that result down to the nearest
whole number of shares of OSI common stock. The per share
exercise price for the assumed options was determined by
dividing the per share exercise price of the Eyetech common
stock subject to each option as in effect immediately prior to
the effective time by the conversion ratio of 0.491 and rounding
that result up to the nearest whole cent. Under the Assumed
Plan, we granted non-qualified stock options to purchase up to
153,000 shares of our common stock in connection with the
acquisition.

On June 14, 2006, our Board of Directors adopted the Stock
Incentive Plan for New Hires. The company adopted this Stock
Incentive Plan for New Hires to provide incentive equity grants
as an inducement to qualified individuals to accept employment
with OSI. At December 31, 2006, 850,000 shares of
common stock are authorized and available for grant under the
plan.

We have an employee stock purchase plan under which eligible
employees may contribute up to 10% of their base earnings toward
the quarterly purchase of our common stock. The employees
purchase price is derived from a formula based on the fair
market value of the common stock. As of December 31, 2006,
we had 322,090 shares of common stock available for future
grant under these plans.

We sponsor a stock purchase plan for our UK-based employees.
Under the terms of the plan, eligible employees may contribute
between £5 and £250 of their base earnings, in
36 monthly installments towards the purchase of our common
stock. As of December 31, 2006, we had 80,116 shares
of our common stock available for future grant in connection
with this plan.

Effective January 1, 2006, we adopted the provisions of
SFAS No. 123(R), which establishes the accounting for
employee stock-based awards. Under the provisions of
SFAS No. 123(R), stock-based compensation is measured
at the grant date, based on the calculated fair value of the
award, and is recognized as an expense over the requisite
employee service period (generally the vesting period of the
grant). We adopted SFAS No. 123(R) using the modified
prospective method and, as a result, periods prior to
January 1, 2006 have not been restated.

96



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



We recognized stock-based compensation for awards issued under
our equity compensation plans, restricted stock, restricted
stock units and options assumed in the acquisition of Eyetech
and employee stock purchase plans in the following line items in
the consolidated statement of operations for the year ended
December 31, 2006 (in thousands):

|                                                 |  |                        |        |  |                      |   |       |                   |  |   |        | 
|------------------------------------------------ |  | ---------------------- | ------ |  | -------------------- | - | ----- | ----------------- |  | - | ------ | 
|                                                 |  | Share-based            |        |  | Compensation         |   |       |                  
|                                                 |  | Compensation as a      |        |  | Expense Related to   |   |       | Total Share-based | 
|                                                 |  | Result of the Adoption |        |  | Restricted Stock and |   |       | Compensation      | 
|                                                 |  | of SFAS 123(R)         |        |  | Restricted Options   |   |       | Expense           | 
|                                                 |  |                        |        |  |                      |   |       |                   | 
|Cost of sales                                    |  | $                      | 257    |  |                      | $ | 414   |                   |  | $ | 671    | 
|Research and development expenses                |  |                        | 3,190  |  |                      |   | 1,917 |                   |  |   | 5,107  | 
|Selling, general and administrative
    expenses |  |                        | 11,344 |  |                      |   | 5,231 |                   |  |   | 16,575 | 
|                                                 |  |                        |        |  |                      |   |       |                   | 
|Stock-based compensation expense                 |  | $                      | 14,791 |  |                      | $ | 7,562 |                   |  | $ | 22,353 | 
|                                                 |  |                        |        |  |                      |   |       |                   | 













---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



SFAS No. 123(R), our pro forma net loss and net loss
per share would have been (in thousands except per share
amounts):

|                                                 |                                                          |              |          |              |              |   |         |               |   |   |          |          |  
|------------------------------------------------ | -------------------------------------------------------- | ------------ | -------- | ------------ | ------------ | - | ------- | ------------- | - | - | -------- | -------- | -
|                                                 |                                                          |              |          | Three Months |              |   |        
|                                                 |                                                          | Year Ended   |          |              | Ended        |   |         | Year Ended    |  
|                                                 |                                                          | December 31, |          |              | December 31, |   |         | September 30, |  
|                                                 |                                                          | 2005         |          |              | 2004         |   |         | 2004          |  
|                                                 |                                                          |              |          |              |              |   |         |               |  
|Net loss                                         |                                                          | $            | (157,123 | )            |              | $ | (48,395 | )             |   | $ | (260,371 | )       
|                                                 | Add: stock-based compensation
    included in net loss   |              |          | 3,406        |              |   |         | 679           |   |   |          | 723      |  
|                                                 | Compensation cost determined under
    fair value method |              |          | (61,714      | )            |   |         | (7,395        | ) |   |          | (25,854  | )
|                                                 |                                                          |              |          |              |              |   |         |               |  
|                                                 | Pro forma net loss                                       |              | $        | (215,431     | )            |   | $       | (55,111       | ) |   | $        | (285,502 | )
|                                                 |                                                          |              |          |              |              |   |         |               |  
|Basic and diluted net loss per
    common share: |                                                          |              |          |              |              |   |         |               |   |   |          |         
|                                                 | Net loss  as reported                                   |              | $        | (3.02        | )            |   | $       | (1.02         | ) |   | $        | (6.50    | )
|                                                 |                                                          |              |          |              |              |   |         |               |  
|                                                 | Net loss  pro forma                                     |              | $        | (4.14        | )            |   | $       | (1.16         | ) |   | $        | (7.12    | )
|                                                 |                                                          |              |          |              |              |   |         |               |  











---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



rates. The fair value of the options was estimated at the date
of grant using a Black-Scholes option pricing model with the
following assumptions, and are based upon the weighted average
for the periods reflected below:

|                                                        |  |              |       |              |  |               |       |      |  |  |       |   |  |  |       |  
|------------------------------------------------------- |  | ------------ | ----- | ------------ |  | ------------- | ----- | ---- |  |  | ----- | - |  |  | ----- | -
|                                                        |  |              |       |              |  | Three         |       |     
|                                                        |  |              |       | Months       |  |              
|                                                        |  | Year Ended   |       | Ended        |  | Year Ended   
|                                                        |  | December 31, |       | December 31, |  | September 30,
|                                                        |  |              |       |              |  |              
|                                                        |  | 2006         |       | 2005         |  | 2004          |       | 2004
|                                                        |  |              |       |              |  |               |       |     
|Expected dividend yield                                 |  |              | 0     | %            |  |               | 0     | %    |  |  | 0     | % |  |  | 0     | %
|Expected volatility                                     |  |              | 54.53 | %            |  |               | 60.95 | %    |  |  | 80.16 | % |  |  | 78.91 | %
|Risk-free interest rate                                 |  |              | 4.53  | %            |  |               | 4.23  | %    |  |  | 3.22  | % |  |  | 2.97  | %
|Expected term (years)                                   |  |              | 4.51  |              |  |               | 4.49  |      |  |  | 3.00  |   |  |  | 3.00  |  
|Weighted average fair value of
    stock options grants |  |              | 16.21 |              |  |               | 17.26 |      |  |  | 29.95 |   |  |  | 32.25 |  



|                                      |                         |                |       |          |          |   |           |               |  |             |           |  |  |  |      |  | 
|------------------------------------- | ----------------------- | -------------- | ----- | -------- | -------- | - | --------- | ------------- |  | ----------- | --------- |  |  |  | ---- |  | 
|                                      |                         |                |       |          |          |   |           | Weighted      | 
|                                      |                         |                |       |          |          |   |           | Average       | 
|                                      |                         |                |       | Weighted |          |   | Aggregate |               |  | Contractual |          
|                                      |                         |                |       | Average  |          |   | Intrinsic |               |  | Life        |          
|                                      |                         | No. Shares     |       |          | Exercise |   |           | Value(1)      |  |             | Remaining | 
|                                      |                         | (In thousands) |       |          | Price    |   |           | (In millions) |  |             | in Years  | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Outstanding at September 30,
    2003 |                         |                | 5,292 |          |          | $ | 28.01     |               |  |             |           |  |  |  |      | 
|                                      | Granted at fair value   |                |       | 1,206    |          |   | $         | 61.40         |  |             |           |  |  |  |      |  | 
|                                      | Exercised at fair value |                |       | 1,489    |          |   | $         | 26.21         |  |             |           |  |  |  |      |  | 
|                                      | Forfeitures             |                |       | 121      |          |   | $         | 36.97         |  |             |           |  |  |  |      |  | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Outstanding at September 30,
    2004 |                         |                | 4,888 |          |          | $ | 36.61     |               |  |             |           |  |  |  |      | 
|                                      | Granted at fair value   |                |       | 32       |          |   | $         | 55.06         |  |             |           |  |  |  |      |  | 
|                                      | Exercised at fair value |                |       | 454      |          |   | $         | 25.60         |  |             |           |  |  |  |      |  | 
|                                      | Forfeitures             |                |       | 220      |          |   | $         | 49.68         |  |             |           |  |  |  |      |  | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Outstanding at December 31,
    2004  |                         |                | 4,246 |          |          | $ | 37.46     |               |  |             |           |  |  |  |      | 
|                                      | Granted at fair value   |                |       | 3,573    |          |   | $         | 32.22         |  |             |           |  |  |  |      |  | 
|                                      | Exercised at fair value |                |       | 463      |          |   | $         | 21.76         |  |             |           |  |  |  |      |  | 
|                                      | Forfeitures             |                |       | 392      |          |   | $         | 46.60         |  |             |           |  |  |  |      |  | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Outstanding at December 31,
    2005  |                         |                | 6,964 |          |          | $ | 35.29     |               |  |             |           |  |  |  |      | 
|                                      | Granted at fair value   |                |       | 777      |          |   | $         | 32.87         |  |             |           |  |  |  |      |  | 
|                                      | Exercised at fair value |                |       | 391      |          |   | $         | 20.22         |  |             |           |  |  |  |      |  | 
|                                      | Forfeitures             |                |       | 621      |          |   | $         | 31.15         |  |             |           |  |  |  |      |  | 
|                                      | Expired                 |                |       | 2        |          |   | $         | 15.90         |  |             |           |  |  |  |      |  | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Outstanding at December 31,
    2006  |                         |                | 6,727 |          |          | $ | 36.01     |               |  | $           | 35.6      |  |  |  | 5.96 | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Exercisable at December 31,
    2006  |                         |                | 4,660 |          |          | $ | 38.76     |               |  | $           | 21.7      |  |  |  | 5.80 | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 
|Unvested at December 31, 2006         |                         |                | 2,067 |          |          | $ | 29.81     |               |  | $           | 13.9      |  |  |  | 6.33 | 
|                                      |                         |                |       |          |          |   |           |               |  |             |           | 



|    |                                                                                                                                                                
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | The intrinsic value of a stock option is the amount by which the
    current market value of the underlying stock exceeds the
    exercise price of the option.





---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Information regarding stock options outstanding as of
December 31, 2006 is as follows:

|                |  |                |       |                     |          |   |                     |             |  |  |                |          |  |          |       |  |  |   |       | 
|--------------- |  | -------------- | ----- | ------------------- | -------- | - | ------------------- | ----------- |  |  | -------------- | -------- |  | -------- | ----- |  |  | - | ----- | 
|                |  |                |       | Options Outstanding |          |   | Options Exercisable |            
|                |  |                |       |                     |          |   |                     |            
|                |  |                |       | Weighted            |          |   | Weighted            |             |  |  |                | Weighted | 
|                |  |                |       | Average             |          |   | Average             |             |  |  |                | Average  | 
|                |  | Shares         |       |                     | Exercise |   |                     | Contractual |  |  | Shares         |          |  | Exercise |      
|Price Range     |  | (In Thousands) |       |                     | Price    |   |                     | Life        |  |  | (In Thousands) |          |  | Price    |      
|                |  |                |       |                     |          |   |                     |             |  |  |                |          |  |          |      
|$ 0.00 - $ 9.77 |  |                | 177   |                     |          | $ | 5.85                |             |  |  | 2.01           |          |  |          | 167   |  |  | $ | 5.78  | 
|$ 9.77 - $19.53 |  |                | 232   |                     |          | $ | 16.03               |             |  |  | 5.54           |          |  |          | 232   |  |  | $ | 16.03 | 
|$19.53 - $29.30 |  |                | 1,970 |                     |          | $ | 23.71               |             |  |  | 5.49           |          |  |          | 850   |  |  | $ | 23.04 | 
|$29.30 - $39.06 |  |                | 2,524 |                     |          | $ | 35.17               |             |  |  | 6.25           |          |  |          | 1,686 |  |  | $ | 35.34 | 
|$39.06 - $48.83 |  |                | 810   |                     |          | $ | 45.62               |             |  |  | 6.44           |          |  |          | 736   |  |  | $ | 45.51 | 
|$48.83 - $58.60 |  |                | 234   |                     |          | $ | 52.84               |             |  |  | 5.09           |          |  |          | 234   |  |  | $ | 52.84 | 
|$58.60 - $68.36 |  |                | 720   |                     |          | $ | 66.37               |             |  |  | 7.02           |          |  |          | 702   |  |  | $ | 66.33 | 
|$68.36 - $78.13 |  |                | 5     |                     |          | $ | 72.30               |             |  |  | 8.01           |          |  |          | 5     |  |  | $ | 72.30 | 
|$78.13 - $87.89 |  |                | 55    |                     |          | $ | 82.84               |             |  |  | 7.42           |          |  |          | 48    |  |  | $ | 82.83 | 
|                |  |                |       |                     |          |   |                     |             |  |  |                |          |  |          |      
|                |  |                | 6,727 |                     |          | $ | 36.02               |             |  |  | 5.96           |          |  |          | 4,660 |  |  | $ | 38.76 | 
|                |  |                |       |                     |          |   |                     |             |  |  |                |          |  |          |      







out-of out-of






---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Restricted Stock

We issued 191,250 shares of restricted common stock during
the year ended December 31, 2006. These restricted shares
vest annually over a two or four year period depending on the
award and are valued at the stock price on date of grant and are
subject to certain additional terms and conditions. As of
December 31, 2006, 190,950 shares of our restricted
stock remain outstanding representing $4.5 million of total
remaining unrecognized compensation expense. We also assumed
339,439 shares of Eyetech restricted stock in connection
with the acquisition of Eyetech. Pursuant to the terms of the
merger agreement, each restricted share converted into the right
to receive 0.12275 shares of our common stock and $15.00
cash payment upon vesting. As a result, on November 14,
2005, we reserved for issuance 41,666 shares of our common
stock and $5.1 million in cash in connection with these
restricted shares. As of December 31, 2006,
4,947 shares of our common stock and $604,000 in cash
remained subject to these restricted shares, representing
$730,000 of total remaining unrecognized compensation expense.

The following is a summary of the status of our restricted stock
(excluding the restricted shares assumed in the Eyetech merger)
as of December 31, 2006 and activity during the fiscal year
then ended:

|                                |                       |                |     |          |            |   |       |       | 
|------------------------------- | --------------------- | -------------- | --- | -------- | ---------- | - | ----- | ----- | 
|                                |                       |                |     | Weighted |           
|                                |                       |                |     | Average  |           
|                                |                       | No. Shares     |     |          | Grant Date |  
|                                |                       | (In thousands) |     |          | Fair Value |  
|                                |                       |                |     |          |            |  
|Non-vested at December 31, 2005 |                       |                | 16  |          |            | $ | 37.88 |      
|                                | Granted at fair value |                |     | 191      |            |   | $     | 30.79 | 
|                                | Vested at fair value  |                |     | 4        |            |   | $     | 40.22 | 
|                                | Forfeited             |                |     | 12       |            |   | $     | 31.29 | 
|                                |                       |                |     |          |            |  
|Non-vested at December 31, 2006 |                       |                | 191 |          |            | $ | 31.15 |      
|                                |                       |                |     |          |            |  

Restricted Stock Units






|                                     |                       |                |     |          |            |   |       |       | 
|------------------------------------ | --------------------- | -------------- | --- | -------- | ---------- | - | ----- | ----- | 
|                                     |                       |                |     | Weighted |           
|                                     |                       |                |     | Average  |           
|                                     |                       | No. Shares     |     |          | Grant Date |  
|                                     |                       | (In thousands) |     |          | Fair Value |  
|                                     |                       |                |     |          |            |  
|Outstanding at December 31,
    2005 |                       |                | 0   |          |            | $ |      |      
|                                     | Granted at fair value |                |     | 432      |            |   | $     | 37.70 | 
|                                     | Vested at fair value  |                |     | 0        |            |   | $     |      | 
|                                     | Forfeited             |                |     | 0        |            |   | $     |      | 
|                                     |                       |                |     |          |            |  
|Outstanding at December 31,
    2006 |                       |                | 432 |          |            | $ | 37.70 |      
|                                     |                       |                |     |          |            |  





---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



(b)    Shareholder Rights Plan

On September 27, 2000, our Board of Directors adopted a
shareholder rights plan, declared a dividend distribution of one
Series SRPA Junior Participating Preferred Stock Purchase Right
on each outstanding share of its common stock, and authorized
the redemption of the rights issued pursuant to our then current
shareholder rights plan. We distributed rights to all
shareholders of record at the close of business on September 27,
2000, the record date. These rights entitle the holder to buy,
at an exercise price of $500.00, one one-thousandth of a share
of Series SRPA Junior Participating Preferred Stock upon the
occurrence of specified triggering events, including the
commencement of a tender offer or exchange offer for our common
stock by a person or group or the acquisition of 17.5% or more
of our outstanding common stock by a person or group.

Upon the actual acquisition of 17.5% or more of our outstanding
common stock by a person or group, the rights held by all
holders other than the acquiring person or group will be
modified automatically to become rights to purchase at the
exercise price of $500.00 such number of shares of common stock
(instead of rights to purchase preferred stock) as have a market
value equal to double such exercise price. Furthermore, such
rightholders will have the further right to purchase shares of
our common stock at the same discount if we merge with, or sell
50% or more of our assets or earning power to, the acquiring
person or group or any person acting for or with the acquiring
person or group. If the transaction takes the form of a merger
of us into another corporation, these rightholders will have the
right to acquire at the same percentage discount shares of
common stock of the acquiring person or other ultimate parent of
such merger party.

We can redeem the rights at any time before (but not after) a
triggering event occurs, with certain exceptions. The rights
will expire on August 31, 2010 if not redeemed prior to such
date.

(c)    Authorized Common and Preferred
Stock

We have 200 million shares of authorized common stock, with
a par value of $.01 per share, and five million shares of
preferred stock with a par value of $.01 per share, with
such designations, preferences, privileges, and restrictions as
may be determined from time to time by our Board of Directors.

(d)    Employee Stock Purchase Plan

We have an Employee Stock Purchase Plan under which eligible
employees may contribute up to 10% of their base earnings toward
the quarterly purchase of our common stock. The employees
purchase price is derived from a formula based on the fair
market value of the common stock. During the year ended
December 31, 2006 and 2005, the quarter ended
December 31, 2004, and the fiscal year ended
September 30, 2004, approximately 38,000, 22,000, 3,000 and
16,000 shares, respectively, were issued with approximately
214, 161, 148, and 136 employees participating in the plan,
respectively. At December 31, 2006, we had
322,090 shares of our authorized common stock available for
future grant in connection with this plan.

We sponsor a stock purchase plan for our UK-based employees.
Under the terms of the plan, eligible employees may contribute
between £5 and £250 of their base earnings, in
36 monthly installments towards the purchase of our common
stock. The employees purchase price is determined at the
beginning of the
36-month period and
compensation expense is recorded over the
36-month period. As a
result of our decision in the fourth quarter of fiscal 2004 to
consolidate all of our U.K.-based oncology research and
development activities into our New York locations (see
Note 17(b)), we did not offer this plan to UK employees for
fiscal 2004. As a result of the minority interest buyout of
Prosidion in the second quarter of 2005, we offered this plan to
our UK employees in

102



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



2005 and continued to offer the plan in 2006. During fiscal
2003, the maximum shares that could be issued under this plan
were increased from 100,000 shares to 200,000 shares.
There were 53 employees, 22 employees and six employees that
participated in the plan during fiscal years 2006, 2005 and
2003, respectively. At December 31, 2006, we had
80,116 shares of our common stock available for future
grant in connection with this plan.

(e)    Issuance of Common Stock for
Acquisitions

On November 14, 2005, in connection with the acquisition of
Eyetech, we issued a total of 5.65 million shares of our
common stock valued at $205.4 million (see Note 2(a)).

On April 14, 2005, in connection with the acquisition of
the minority interest in Prosidion, we issued 84,940 shares
of our common stock valued at $4.2 million (see
Note 2(c)).

On June 12, 2003, in connection with the acquisition of
Cell Pathways, we issued approximately 2.2 million shares
of our common stock valued at $31.2 million (see
Note 2(d)).

(f)    Public Offering

On November 12, 2004, during the transition quarter, we
concluded a public offering of 6.0 million shares of our
common stock at a price of $64.50 per share. Gross proceeds
totaled $387.0 million with net proceeds of approximately
$365.0 million after all related fees. In addition, on
November 17, 2004, underwriters associated with the
offering exercised their over-allotment option to purchase an
additional 900,000 shares of our common stock at a price of
$64.50 per share. Gross proceeds from the exercise of the
over-allotment option totaled $58.1 million with net
proceeds of approximately $54.9 million.

(g)    Contingent Value
Rights  Extraordinary Gain

In connection with the 2003 acquisition of Cell Pathways, Inc.,
we recognized contingent consideration of $22.0 million in
the form of five-year contingent value rights pursuant to which
each share of Cell Pathways common stock will be eligible
for an additional 0.04 share of our common stock in the event of
a filing of a new drug application by June 12, 2008 for
either of the two clinical candidates acquired from Cell
Pathways, OSI-461 or
Aptosyn. We have ceased our development efforts of these two
clinical candidates and have entered into a letter of intent to
outlicense these candidates. We have concluded that, in our
judgment, the milestone will not be met based upon the current
progress of our outlicensing efforts and the technical hurdles
for filing a new drug application by June 2008 and therefore, we
have reversed the $22.0 million liability and recorded an
extraordinary gain during the quarter ended June 30, 2006.

(12)    Income Taxes

There is no provision (benefit) for federal or state income
taxes, since we have incurred operating losses since inception
and have established a valuation allowance equal to the net
deferred tax assets.

103



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



The tax effect of temporary differences, net operating loss
carry forwards and research and development tax credit carry
forwards as of December 31, 2006 and 2005 are as follows
(in thousands):

|                                                       |  |              |          |   |      |   |          |  
|------------------------------------------------------ |  | ------------ | -------- | - | ---- | - | -------- | -
|                                                       |  | December 31, |         
|                                                       |  |              |         
|                                                       |  | 2006         |          |   | 2005 |  
|                                                       |  |              |          |   |      |  
|Deferred tax assets:                                   |  |              |          |   |      |   |          |  
|Net operating loss carry forwards                      |  | $            | 451,248  |   |      | $ | 415,413  |  
|Research and development tax credit
    carry forwards |  |              | 29,422   |   |      |   | 26,093   |  
|Intangible assets                                      |  |              | 10,379   |   |      |   | 11,092   |  
|Unearned revenue                                       |  |              | 33,135   |   |      |   | 20,822   |  
|Purchased research and experimental
    expenditures   |  |              | 48,880   |   |      |   | 53,444   |  
|Capitalized research and
    experimental expenditures |  |              | 9,467    |   |      |   | 11,742   |  
|Capitalized start-up costs                             |  |              | 123      |   |      |   | 3,072    |  
|Other                                                  |  |              | 26,820   |   |      |   | 17,428   |  
|                                                       |  |              |          |   |      |  
|                                                       |  |              | 609,474  |   |      |   | 559,106  |  
|Valuation allowance                                    |  |              | (607,961 | ) |      |   | (453,937 | )
|                                                       |  |              |          |   |      |  
|                                                       |  |              | 1,513    |   |      |   | 105,169  |  
|Deferred tax liability:                                |  |              |          |   |      |   |          |  
|Other                                                  |  |              | (419     | ) |      |   | (1,186   | )
|Inventory fair value adjustment                        |  |              | (1,094   | ) |      |   | (20,345  | )
|Macugen intangible                                     |  |              |         |   |      |   | (83,638  | )
|                                                       |  |              |          |   |      |  
|                                                       |  |              | (1,513   | ) |      |   | (105,169 | )
|                                                       |  |              |          |   |      |  
|                                                       |  | $            |         |   |      | $ |         |  
|                                                       |  |              |          |   |      |  







|     |                              
|---- | -----------------------------
|(13) | Commitments and Contingencies

(a)    Lease Commitments








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



a portion of the New York City facility) which were part of our
exit plan were included in the determination of the purchase
price of Eyetech. In December 2006, we exited the remaining
portion of the New York City facility and recognized a charge
for the expected net future lease payments.

The following is a schedule of future minimum rental payments
for the next five fiscal years and thereafter required as of
December 31, 2006, exclusive of sub-rental income from
subleased facilities. Also included in the amounts below are
commitments for equipment under various operating leases (in
thousands).

|                    |  |   |         | 
|------------------- |  | - | ------- | 
|2007                |  | $ | 11,248  | 
|2008                |  |   | 10,424  | 
|2009                |  |   | 9,672   | 
|2010                |  |   | 9,216   | 
|2011                |  |   | 9,338   | 
|2012 and thereafter |  |   | 70,306  | 
|                    |  |   |        
|                    |  | $ | 120,204 | 
|                    |  |   |        



(b)    Contingencies






(c)    Borrowings








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



(d)    Litigation

On or about December 16, 2004, several purported
shareholder class action lawsuits were filed in the United
States District Court for the Eastern District of New York
against us, certain of our current and former executive
officers, and the members of our Board of Directors. The
lawsuits were brought on behalf of those who purchased or
otherwise acquired our common stock during certain periods in
2004, which periods differed in the various complaints. The
Court appointed a lead plaintiff who, on February 17, 2006,
filed a consolidated amended class action complaint seeking to
represent a class of all persons who purchased or otherwise
acquired our common stock during the period from April 26,
2004 through November 22, 2004. The consolidated complaint
alleges that defendants made material misstatements and
omissions concerning the survival benefit associated with our
product, Tarceva and the size of the potential market of Tarceva
upon FDA approval of the drug. It alleges violations of
Sections 11 and 15 of the Securities Act of 1933, as
amended, and Sections 10(b) and 20(a) of the Securities
Exchange Act of 1934, as amended, and
Rule 10b-5
promulgated thereunder. The consolidated complaint seeks
unspecified compensatory damages and other relief. On
April 7, 2006, we filed a motion to dismiss the
consolidated amended complaint. Briefing on this motion was
completed on June 21, 2006. We have requested an oral
argument on our motion and are awaiting a decision from the
court. Based on the early stage of this litigation, the ultimate
outcome cannot be determined and accordingly, no provision has
been recorded in the consolidated financial statements.



(14)
    Related Party TransactionsOne member of our Board of Directors is a partner in a law firm
which represents us on our patent matters. Fees paid to this
firm during the years ended December 31, 2006 and 2005, the
three months ended December 31, 2004 and the fiscal year
ended September 30, 2004 were approximately $115,000
$299,000, $152,000, and $557,000 respectively. In addition, we
have compensated other directors for services performed pursuant
to consultant arrangements as follows: during the years ended
December 31, 2006 and 2005, the three months ended
December 31, 2004 and the fiscal year ended
September 30, 2004, consulting fees in the amounts of
$75,000, $154,000, $15,000, and $139,000, respectively, were
paid by us pursuant to these arrangements. One member of our
Board of Directors was an officer of Cold Spring Harbor
Laboratory through December 2003. In fiscal 2003, we entered
into a research agreement with Cold Spring Harbor Laboratory. A
director is on the faculty of Vanderbilt University with which
we had a collaborative research agreement through July 31,
2005, and also has a consulting agreement with our subsidiary,
Prosidion. In 2006, a director who is now retired was an advisor
to Roche, with which we have a collaboration agreement.

In connection with the acquisition of certain assets from Gilead
on December 21, 2001, we assumed the loans of one of our
officers and one of our vice presidents with an aggregate loan
balance of $200,000. As of December 31, 2005, the loan
balances were satisfied.



(15)
    Employee Savings and Investment PlansWe sponsor an Employee Savings and Investment Plan under
Section 401(k) of the Internal Revenue Code. The plan
allows our U.S. employees to defer from 2% to 20% of their
income on a pre-tax basis through contributions into designated
investment funds. For each dollar an employee invests up to 6%
of his or her earnings, we will contribute an additional 50
cents into the funds. Effective January 1, 2007, we will
match each employees contribution to the plan on a
dollar-for-dollar basis up to 4% of such employees salary,
and then match 50% of such employees contribution from 4%
to 6% of his or her salary. During the twelve months ended

106



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



December 31, 2006 and 2005, the three months ended
December 31, 2004 and the year ended September 30,
2004, our expenses related to the plan were approximately
$1.4 million, $848,000, $168,000 and $625,000, respectively.

We also sponsor two pension plans covering the employees of
OSI-UK and Prosidion. The Group Personal Pension Plan allows
employees to contribute a portion of their income on a post-tax
basis into designated investment funds. The tax paid on the
contribution is then recovered from the Inland Revenue. We
generally contribute from 4% to 9% depending on the
employees contributions. The British Biotech Pension
Scheme covers employees retained from the acquisition of certain
assets from British Biotech, as well as certain former employees
of British Biotech hired by us subsequent to the acquisition.
The plan allows the employees to defer up to 15% of their income
on a pre-tax basis through contributions into designated pension
funds. For each period the employee invests, we will contribute
up to 9% into the funds. For the year ended December 31,
2006 and 2005, the three months ended December 31, 2004,
and the year ended September 30, 2004, respectively, our
expenses related to the plans were $673,000, $560,000, $218,000
and $841,000, respectively.



(16)
    Employee Post-retirement PlanWe provide post-retirement medical and life insurance benefits
to eligible employees, board members and qualified dependents.
Eligibility is determined based on age and service requirements.
These benefits are subject to deductibles, co-payment provisions
and other limitations. We follow SFAS No. 106,
Employers Accounting for Post-Retirement Benefits
Other Than Pensions, as amended by
SFAS No. 132(R), Employers Disclosures
About Pensions and Other Post-Retirement Benefits, to
account for and disclose the benefits to be provided by the
plan. Under SFAS No. 106, the cost of post-retirement
medical and life insurance benefits is accrued over the active
service periods of employees to the date they attain full
eligibility for such benefits. In May 2004, the FASB issued FASB
Staff Position, or FSP, No. FAS 106-2,
Accounting and Disclosure Requirements Related to the
Medicare Prescription Drug, Improvement and Modernization Act of
2003. FSP No. FAS 106-2 provides guidance on the
accounting for the effects of the Medicare Prescription Drug,
Improvement and Modernization Act of 2003, or the Modernization
Act, for employers that sponsor post-retirement health care
plans that provide prescription drug benefits and requires those
employers to provide certain disclosures regarding the effect of
the federal subsidy provided by the Modernization Act. The
accumulated post-retirement benefits obligation or net
post-retirement benefits cost in the consolidated financial
statements accompanying notes reflect the effects of the
Modernization Act on our post-retirement benefit plan.

Effective December 31, 2006, we adopted the recognition and
disclosure provisions of SFAS No. 158
Employers Accounting for Defined Benefit Pension and
Other Post-retirement Plans, an amendment of FASB statements
No. 87, 88, 106, and 132(R), or
SFAS No. 158. SFAS No. 158 requires
employers to recognize in their balance sheets the overfunded or
underfunded status of defined benefit post-retirement plans,
measured as the difference between the fair value of plan assets
and the benefit obligation (the projected benefit obligation for
pension plans and the accumulated postretirement benefit
obligation for other post-retirement plans).

Prior to the adoption of SFAS No. 158, accounting
rules allowed for the delayed recognition of certain actuarial
gains and losses caused by differences between actual and
assumed outcomes, as well as charges or credits caused by plan
changes impacting the benefit obligations which were attributed
to participants prior service. These unrecognized net
actuarial gains or losses and unrecognized prior service costs
or credits represented the difference between the plans
funded status and the amount recognized on the consolidated
balance sheet. In accor-

107



---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



dance with SFAS No. 158, we recorded an adjustment to
accumulated other comprehensive loss of $1.3 million to
recognize the funded status of our post-retirement benefit plan
on our consolidated balance sheet. This adjustment represents
the previously unrecognized net actuarial losses and
unrecognized transition obligation. The effect of adopting
SFAS No. 158 resulted in a $1.3 million increase
of our post-retirement benefit obligation from $6.7 million
to $8.1 million.

The adjustments recorded to accumulated other comprehensive loss
liabilities will be recognized as components of post-retirement
benefit cost and amortized over future periods in accordance
with SFAS No. 106 in the same manner as prior to the
adoption of SFAS No. 158. Actuarial gains and losses
that arise in subsequent periods and are not recognized as other
post-retirement benefit expense in the same period will now be
recognized in other comprehensive income (loss). These amounts
will be recognized subsequently as a component of
post-retirement benefit cost following the same basis as the
amounts recognized in accumulated other comprehensive loss upon
adoption of SFAS No. 158.

The changes in the accumulated post-retirement benefit
obligation during the year ended December 31, 2006 and 2005
were as follows (in thousands):

|                             |                  |              |       |       |              |   |       |      |  
|---------------------------- | ---------------- | ------------ | ----- | ----- | ------------ | - | ----- | ---- | -
|                             |                  | Year Ended   |       |       | Year Ended   |  
|                             |                  | December 31, |       |       | December 31, |  
|                             |                  | 2006         |       |       | 2005         |  
|                             |                  |              |       |       |              |  
|Balance at beginning of year |                  | $            | 7,509 |       |              | $ | 6,186 |     
|                             | Benefit payments |              |       | (134  | )            |   |       | (111 | )
|                             | Loss experience  |              |       | (768  | )            |   |       | 243  |  
|                             | Service cost     |              |       | 1,054 |              |   |       | 839  |  
|                             | Interest cost    |              |       | 409   |              |   |       | 352  |  
|                             |                  |              |       |       |              |  
|Balance at end of year       |                  | $            | 8,070 |       |              | $ | 7,509 |     
|                             |                  |              |       |       |              |  



|                                                                                               |  |      |       |  |      |   |       | 
|---------------------------------------------------------------------------------------------- |  | ---- | ----- |  | ---- | - | ----- | 
|                                                                                               |  | 2006 |       |  | 2005 |  
|                                                                                               |  |      |       |  |      |  
|Accumulated post-retirement benefit
    obligation (accrued liability as of December 31, 2006) |  | $    | 8,070 |  |      | $ | 7,509 | 
|                                                                                               |  |      |       |  |      |  
|Less: Unrecognized cumulative net
    loss                                                     |  |      |       |  |      |   | 2,071 | 
|Less: Unrecognized transition
    obligation                                                   |  |      |       |  |      |   | 85    | 
|                                                                                               |  |      |       |  |      |  
|Accrued post-retirement benefit
    costs as of December 31, 2005                              |  |      |       |  |      | $ | 5,353 | 
|                                                                                               |  |      |       |  |      |  





---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



Net post-retirement benefit cost for the years ended
December 31, 2006 and 2005, the three months ended
December 31, 2004, and the year ended September 30,
2004, includes the following components (in thousands):

|                                                                    |  |              |       |  |              |              |       |              |      |   |               |  |  |   |     | 
|------------------------------------------------------------------- |  | ------------ | ----- |  | ------------ | ------------ | ----- | ------------ | ---- | - | ------------- |  |  | - | --- | 
|                                                                    |  |              |       |  |              | Three Months |       |              | Year |  
|                                                                    |  | Year Ended   |       |  | Year Ended   |              |       | Ended        |      |   | Ended         | 
|                                                                    |  | December 31, |       |  | December 31, |              |       | December 31, |      |   | September 30, | 
|                                                                    |  | 2006         |       |  | 2005         |              |       | 2004         |      |   | 2004          | 
|                                                                    |  |              |       |  |              |              |       |              |      |   |               | 
|Service cost for benefits earned
    during the period              |  | $            | 1,054 |  |              | $            | 839   |              |      | $ | 201           |  |  | $ | 572 | 
|Interest cost on accumulated
    post-retirement benefit obligation |  |              | 409   |  |              |              | 352   |              |      |   | 82            |  |  |   | 262 | 
|Amortization of initial benefits
    attributed to past service     |  |              | 6     |  |              |              | 6     |              |      |   | 1             |  |  |   | 6   | 
|Amortization of loss                                                |  |              | 66    |  |              |              | 64    |              |      |   | 15            |  |  |   | 39  | 
|                                                                    |  |              |       |  |              |              |       |              |      |   |               | 
|Net post-retirement benefit cost                                    |  | $            | 1,535 |  |              | $            | 1,261 |              |      | $ | 299           |  |  | $ | 879 | 
|                                                                    |  |              |       |  |              |              |       |              |      |   |               | 





|                                                     |  |      |      |      |  |      |     |   |  |  |      |  
|---------------------------------------------------- |  | ---- | ---- | ---- |  | ---- | --- | - |  |  | ---- | -
|                                                     |  | 2006 |      | 2005 |  | 2004
|                                                     |  |      |      |      |  |     
|Discount rate                                        |  |      | 5.75 | %    |  |      | 5.5 | % |  |  | 5.75 | %
|Expected long-term rate of return
    on plan assets |  |      | N/A  |      |  |      | N/A |   |  |  | N/A  |  







|     |                            
|---- | ---------------------------
|(17) | Consolidation of Facilities

(a) Restructuring Plan








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



to a plan to re-scale the eye disease business and other OSI
operations consistent with the streamlining of our overall
business. The plan includes consolidation of facilities as well
as a reduction in the workforce and is expected to cost between
$11 million and $14 million. We recognized
$5.7 million of this cost in the fourth quarter of 2006.
Included in this charge is $3.2 million for severance
payments, $1.7 million related to long term assets and
their utilization and $1.2 million for lease obligations
offset by previously accrued rent expense of $400,000. Of these
costs, $2.2 million is included in R&D costs and
$3.5 million is included in selling and administrative
expenses. The remaining charges are expected to be incurred in
the first and second quarters of 2007. The activity for the year
ended December 31, 2006 was as follows (in thousands):

|                                                          |  |                   |       | 
|--------------------------------------------------------- |  | ----------------- | ----- | 
|                                                          |  | Year Ended        |      
|                                                          |  | December 31, 2006 |      
|                                                          |  |                   |      
|Opening liability                                         |  | $                 |      | 
|Accrual for severance, relocation
    and retention bonus |  |                   | 3,228 | 
|Accrual for rental obligations                            |  |                   | 1,255 | 
|                                                          |  |                   |      
|Ending liability                                          |  | $                 | 4,483 | 
|                                                          |  |                   |      

(b) Corporate Headquarters




|                             |  |              |        |  
|---------------------------- |  | ------------ | ------ | -
|                             |  | Year Ended   |       
|                             |  | December 31, |       
|                             |  | 2006         |       
|                             |  |              |       
|Opening liability            |  | $            |       |  
|Accrual for rental payments  |  |              | 2,974  |  
|Accretion expense            |  |              | 147    |  
|Cash paid for rent and other |  |              | (1,197 | )
|                             |  |              |       
|Ending liability             |  | $            | 1,924  |  
|                             |  |              |       

(c) Eyetech Integration








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



$1.8 million was included in selling and administrative
expenses. The activity for the years ended December 31,
2006 and 2005 was as follows (in thousands):

|                                                            |  |              |        |   |      |   |        |  
|----------------------------------------------------------- |  | ------------ | ------ | - | ---- | - | ------ | -
|                                                            |  | Year Ended   |       
|                                                            |  | December 31, |       
|                                                            |  |              |       
|                                                            |  | 2006         |        |   | 2005 |  
|                                                            |  |              |        |   |      |  
|Opening liability                                           |  | $            | 10,261 |   |      | $ |       |  
|Accrual for severance, relocation
    and retention bonus   |  |              | 4,998  |   |      |   | 7,147  |  
|Accrual for rental obligations                              |  |              |       |   |      |   | 5,391  |  
|Accretion expense                                           |  |              | 329    |   |      |   |       |  
|Cash paid for severance                                     |  |              | (7,790 | ) |      |   | (2,277 | )
|Cash paid for rent                                          |  |              | (2,509 | ) |      |   |       |  
|Reversals related to severance
    (adjustment to goodwill) |  |              | (1,379 | ) |      |   |       |  
|Reversals related to lease accruals                         |  |              | (1,157 | ) |      |   |       |  
|                                                            |  |              |        |   |      |  
|Ending liability                                            |  | $            | 2,753  |   |      | $ | 10,261 |  
|                                                            |  |              |        |   |      |  

(d) Oxford, England




|                                     |  |              |       |   |      |   |        |  
|------------------------------------ |  | ------------ | ----- | - | ---- | - | ------ | -
|                                     |  | Year Ended   |      
|                                     |  | December 31, |      
|                                     |  |              |      
|                                     |  | 2006         |       |   | 2005 |  
|                                     |  |              |       |   |      |  
|Opening liability                    |  | $            | 4,211 |   |      | $ | 1,380  |  
|Provision for rental adjustments     |  |              |      |   |      |   | 2,027  |  
|Provision for facility refurbishment |  |              |      |   |      |   | 2,359  |  
|Cash paid for severance              |  |              |      |   |      |   | (1,286 | )
|Cash paid for rent                   |  |              | (701  | ) |      |   |       |  
|Other                                |  |              | 552   |   |      |   | (269   | )
|                                     |  |              |       |   |      |  
|Ending liability                     |  | $            | 4,062 |   |      | $ | 4,211  |  
|                                     |  |              |       |   |      |  

(e) Horsham, Pennsylvania








---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



payments less the sublease rental income received against the
accrued liability. The activity for the year ended
December 31, 2006 and 2005 was as follows (in thousands):

|                                                     |  |              |       |   |      |   |       |  
|---------------------------------------------------- |  | ------------ | ----- | - | ---- | - | ----- | -
|                                                     |  | Year Ended   |      
|                                                     |  | December 31, |      
|                                                     |  |              |      
|                                                     |  | 2006         |       |   | 2005 |  
|                                                     |  |              |       |   |      |  
|Opening liability                                    |  | $            | 1,160 |   |      | $ | 1,678 |  
|Cash paid for rent less sublease
    income received |  |              | (465  | ) |      |   | (518  | )
|                                                     |  |              |       |   |      |  
|Ending liability                                     |  | $            | 695   |   |      | $ | 1,160 |  
|                                                     |  |              |       |   |      |  



|     |                 
|---- | ----------------
|(18) | Subsequent Event





|     |                          
|---- | -------------------------
|(19) | Accounting Pronouncements













---



##### 

OSI PHARMACEUTICALS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)





(20)
    Quarterly Financial Data (unaudited)The tables below summarize our unaudited quarterly operating
results for the years ended December 31, 2006 and 2005.

|                                                                                      |  |                                       |         |   |          |   |          |               |  |   |              |   |  |   |          |  
|------------------------------------------------------------------------------------- |  | ------------------------------------- | ------- | - | -------- | - | -------- | ------------- |  | - | ------------ | - |  | - | -------- | -
|                                                                                      |  | Three Months Ended                    |        
|                                                                                      |  | (In thousands, except per share data) |        
|                                                                                      |  |                                       |        
|                                                                                      |  | March 31,                             |         |   | June 30, |   |          | September 30, |  |   | December 31, |  
|                                                                                      |  | 2006                                  |         |   | 2006     |   |          | 2006          |  |   | 2006         |  
|                                                                                      |  |                                       |         |   |          |   |          |               |  |   |              |  
|Revenues                                                                              |  | $                                     | 116,442 |   |          | $ | 101,975  |               |  | $ | 73,993       |   |  | $ | 83,286   |  
|Net loss                                                                              |  | $                                     | (17,855 | ) |          | $ | (319,929 | )             |  | $ | (21,257      | ) |  | $ | (223,143 | )
|Basic and diluted net loss per
    weighted average share of common stock outstanding |  | $                                     | (0.31   | ) |          | $ | (5.62    | )             |  | $ | (0.37        | ) |  | $ | (3.91    | )

|                                                                                      |  |                                       |         |   |          |   |         |               |  |   |              |   |  |   |         |  
|------------------------------------------------------------------------------------- |  | ------------------------------------- | ------- | - | -------- | - | ------- | ------------- |  | - | ------------ | - |  | - | ------- | -
|                                                                                      |  | Three Months Ended                    |        
|                                                                                      |  | (In thousands, except per share data) |        
|                                                                                      |  |                                       |        
|                                                                                      |  | March 31,                             |         |   | June 30, |   |         | September 30, |  |   | December 31, |  
|                                                                                      |  | 2005                                  |         |   | 2005     |   |         | 2005          |  |   | 2005         |  
|                                                                                      |  |                                       |         |   |          |   |         |               |  |   |              |  
|Revenues                                                                              |  | $                                     | 19,067  |   |          | $ | 34,629  |               |  | $ | 33,988       |   |  | $ | 86,510  |  
|Net loss                                                                              |  | $                                     | (32,504 | ) |          | $ | (24,538 | )             |  | $ | (20,037      | ) |  | $ | (80,043 | )
|Basic and diluted net loss per
    weighted average share of common stock outstanding |  | $                                     | (0.64   | ) |          | $ | (0.48   | )             |  | $ | (0.39        | ) |  | $ | (1.47   | )







---



##### 

ITEM 9.
    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
    AND FINANCIAL DISCLOSURENot Applicable.







ITEM 9A.
    CONTROLS AND PROCEDURESCEO/ CFO CERTIFICATIONS

Attached to this Annual Report on
Form 10-K as
Exhibits 31.1 and 31.2, there are two certifications, or
the Section 302 Certifications, one by each of our Chief
Executive Officer, or CEO, and our Chief Financial Officer, or
CFO. This Item 9A contains information concerning the
evaluation of our disclosure controls and procedures and
internal control over financial reporting that is referred to in
the Section 302 Certifications and this information should
be read in conjunction with the Section 302 Certifications
for a more complete understanding of the topics presented.

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

Evaluation of Our Disclosure Controls and Procedures. The
Securities and Exchange Commission requires that as of the end
of the period covered by this Annual Report on
Form 10-K, the CEO
and the CFO evaluate the effectiveness of the design and
operation of our disclosure controls and procedures (as defined
in Rule 13a-15(e))
under the Securities Exchange Act of 1934, or the Exchange Act,
and report on the effectiveness of the design and operation of
our disclosure controls and procedures. Accordingly, under the
supervision and with the participation of our management,
including our CEO and CFO, we evaluated the effectiveness of the
design and operation of our disclosure controls and procedures
as of the end of the period covered by this Annual Report on
Form 10-K.

CEO/ CFO Conclusions about the Effectiveness of the
Disclosure Controls and Procedures. Based upon their
evaluation of the disclosure controls and procedures, our CEO
and CFO have concluded that our disclosure controls and
procedures are effective at the reasonable assurance level to
ensure that material information relating to OSI and our
consolidated subsidiaries is made known to management, including
the CEO and CFO, on a timely basis and during the period in
which this Annual Report on
Form 10-K was
being prepared.

MANAGEMENTS REPORT ON INTERNAL CONTROL OVER FINANCIAL
REPORTING

Our management is responsible for establishing and maintaining
adequate internal control over financial reporting (as defined
in Rules 13a-15(f)
of the Exchange Act).

Under the supervision of and with the participation of our CEO
and our CFO, our management conducted an assessment of the
effectiveness of our internal control over financial reporting
based on the framework and criteria established in Internal
Control  Integrated Framework,issued by the
Committee of Sponsoring Organizations of the Treadway
Commission. Based on this assessment, our management has
concluded that, as of December 31, 2006, our internal
control over financial reporting was effective.

KPMG LLP, the independent registered public accounting firm that
audits our consolidated financial statements, has issued its
attestation report on managements assessment of internal
control over financial reporting. This attestation report
appears below.

CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING

There were no changes in our internal control over financial
reporting (as defined in
Rule 13a-15(f) of
the Exchange Act), identified in connection with the evaluation
of such internal control over financial reporting that

114



---



##### 

occurred during the fourth quarter of fiscal 2006 that have
materially affected, or are reasonably likely to materially
affect, our internal control over financial reporting.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

ON INTERNAL CONTROL OVER FINANCIAL REPORTING

To the Stockholders and Board of Directors

OSI Pharmaceuticals, Inc.:

We have audited managements assessment, included in the
accompanying Managements Report on Internal Control Over
Financial Reporting,that OSI Pharmaceuticals, Inc.
maintained effective internal control over financial reporting
as of December 31, 2006, based on criteria established in
Internal Control  Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission
(COSO). OSI Pharmaceuticals, Inc.s management is
responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness
of internal control over financial reporting. Our responsibility
is to express an opinion on managements assessment and an
opinion on the effectiveness of the Companys internal
control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control
over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of
internal control over financial reporting, evaluating
managements assessment, testing and evaluating the design
and operating effectiveness of internal control, and performing
such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable
basis for our opinion.

A companys internal control over financial reporting is a
process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles. A companys
internal control over financial reporting includes those
policies and procedures that (i) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the
company; (ii) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of
financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the
company are being made only in accordance with authorizations of
management and directors of the company; and (iii) provide
reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use, or disposition of the
companys assets that could have a material effect on the
financial statements.

Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.

In our opinion, managements assessment that OSI
Pharmaceuticals, Inc. maintained effective internal control over
financial reporting as of December 31, 2006, is fairly
stated, in all material respects, based on criteria established
in Internal Control  Integrated Framework issued by
the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). Also, in our opinion, OSI Pharmaceuticals,
Inc. maintained, in all material respects, effective internal
control over financial reporting as of December 31, 2006,
based on criteria established in Internal Control 
Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO).

115



---



##### 

We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
consolidated balance sheets of OSI Pharmaceuticals, Inc. as of
December 31, 2006 and 2005, and the related consolidated
statements of operations, stockholders equity, and cash
flows for each of the years in the two-year period ended
December 31, 2006, for the three months ended
December 31, 2004 and for the year ended September 30,
2004, and our report dated February 28, 2007 expressed an
unqualified opinion on those consolidated financial
statements.



/s/ KPMG LLPMelville, New York

February 28, 2007





ITEM 9B.    OTHER INFORMATION

Not applicable.





PART III





ITEM 10.    DIRECTORS AND EXECUTIVE
OFFICERS OF THE REGISTRANT

The information required by this item is incorporated by
reference to the similarly named section of our Proxy Statement
for our 2007 Annual Meeting to be filed with the Securities and
Exchange Commission not later than 120 days after
December 31, 2006.





ITEM 11.    EXECUTIVE COMPENSATION

The information required by this item is incorporated by
reference to the similarly named section of our Proxy Statement
for our 2007 Annual Meeting to be filed with the Securities and
Exchange Commission not later than 120 days after
December 31, 2006.





ITEM 12.    SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT

The information required by this item is incorporated by
reference to the similarly named section of our Proxy Statement
for our 2007 Annual Meeting to be filed with the Securities and
Exchange Commission not later than 120 days after
December 31, 2006.





ITEM 13.    CERTAIN RELATIONSHIPS AND
RELATED TRANSACTIONS

The information required by this item is incorporated by
reference to the similarly named section of our Proxy Statement
for our 2007 Annual Meeting to be filed with the Securities and
Exchange Commission not later than 120 days after
December 31, 2006.





ITEM 14.    PRINCIPAL ACCOUNTANT FEES AND
SERVICES

The information required by this item is incorporated by
reference to the similarly named section of our Proxy Statement
for our 2007 Annual Meeting to be filed with the Securities and
Exchange Commission not later than 120 days after
December 31, 2006.

116



---



##### 

PART IV





ITEM 15.    EXHIBITS AND FINANCIAL
STATEMENT SCHEDULES



(a)  (1)
    The following consolidated financial statements are included in
    Part II, Item 8 of this report: 
     Consolidated Balance Sheets 
     Consolidated Statements of Operations 
     Consolidated Statements of Stockholders Equity 
     Consolidated Statements of Cash Flows 
     Notes to Consolidated Financial Statements(2)  All schedules are omitted as the required
information is inapplicable or the information is presented in
the financial statements or related notes.

(3)  The exhibits listed in the Index to Exhibits are
attached and incorporated herein by reference and filed as a
part of this report.

117



---



##### 

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.



OSI PHARMACEUTICALS, INC.

By:
    /s/ COLIN GODDARD, Ph.D.Colin Goddard, Ph.D.Chief Executive OfficerDate: February 28, 2007

Pursuant to the requirements of the Securities and Exchange Act
of 1934, as amended, this report has been signed below by the
following persons on behalf of the Registrant and in the
capacities and on the days indicated.

|                                                                   |  |                                                                                                           |  |                   |  | 
|------------------------------------------------------------------ |  | --------------------------------------------------------------------------------------------------------- |  | ----------------- |  | 
|Signature                                                          |  | Title                                                                                                     |  | Date             
|                                                                  
|/s/ ROBERT A. INGRAMRobert
    A. Ingram                           |  | Chairman of the Board                                                                                     |  | February 28, 2007
|                                                                  
|/s/ COLIN GODDARD, Ph.D.Colin
    Goddard, Ph.D.                   |  | Director and
    Chief Executive Officer
    (principal executive officer)                                |  | February 28, 2007
|                                                                  
|/s/ MICHAEL G. ATIEHMichael
    G. Atieh                           |  | Executive Vice President and
    Chief Financial Officer (principal
    financial and accounting officer) |  | February 28, 2007
|                                                                  
|/s/ G. MORGAN BROWNEG.
    Morgan Browne                           |  | Director                                                                                                  |  | February 28, 2007
|                                                                  
|/s/ DARYL K. GRANNER, M.D.Daryl
    K. Granner, M.D.               |  | Director                                                                                                  |  | February 28, 2007
|                                                                  
|/s/ WALTER M.
    LOVENBERG, Ph.D.Walter
    M. Lovenberg, Ph.D.   |  | Director                                                                                                  |  | February 28, 2007
|                                                                  
|/s/ VIREN MEHTAViren
    Mehta                                     |  | Director                                                                                                  |  | February 28, 2007
|                                                                  
|/s/ HERBERT
    PINEDO, M.D., Ph.D.Herbert
    Pinedo, M.D., Ph.D. |  | Director                                                                                                  |  | February 28, 2007
|                                                                  
|/s/ KATHARINE B. STEVENSONKatharine
    B. Stevenson               |  | Director                                                                                                  |  | February 28, 2007
|                                                                  
|/s/ JOHN P. WHITE, ESQUIREJohn
    P. White, Esquire               |  | Director                                                                                                  |  | February 28, 2007





---



##### 



|                                           |  |          |  |                   |  | 
|------------------------------------------ |  | -------- |  | ----------------- |  | 
|Signature                                  |  | Title    |  | Date             
|                                          
|/s/ DAVID W. NIEMIECDavid
    W. Niemiec   |  | Director |  | February 28, 2007
|                                          
|/s/ SANTO J. COSTASanto
    J. Costa       |  | Director |  | February 28, 2007
|                                          
|/s/ JOSEPH KLEIN, IIIJoseph
    Klein, III |  | Director |  | February 28, 2007





---



##### 

EXHIBIT INDEX

|        |    |      |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                
|------- | -- | ---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |     
|        |    |     
|        | 2  | .1+ |  | Asset Purchase Agreement, dated as
    of June 17, 2004, by and between Probiodrug AG, Halle and
    Prosidion Limited, filed by the Company as an exhibit to the
    Form 8-K filed on July 6, 2004 (file
    no. 000-15190), and incorporated herein by reference.                                                                                                                                                                           
|        | 2  | .2+  |  | Agreement and Plan of Merger, dated
    August 21, 2005, among OSI Pharmaceuticals, Inc., Merger EP
    Corporation and Eyetech Pharmaceuticals, Inc., filed by the
    Company as an exhibit to the Form 8-K filed on
    August 22, 2005 (file no. 000-15190), and incorporated
    herein by reference.                                                                                                                                     
|        | 3  | .1   |  | Certificate of Incorporation, as
    amended, filed by the Company as an exhibit to the
    Form 8-K, filed on June 16, 2006 (file no. 000-15190),
    and incorporated herein by reference.                                                                                                                                                                                                                                                   
|        | 3  | .2   |  | Amended and Restated Bylaws filed
    by the Company as an exhibit to the Form 10-K for the
    fiscal year ended September 30, 2001 (file no. 000-15190),
    and incorporated herein by reference.                                                                                                                                                                                                                                           
|        | 4  | .1   |  | Rights Agreement, dated
    September 27, 2000, between OSI Pharmaceuticals, Inc. and
    The Bank of New York as Rights Agent, including Terms of Series
    SRP Junior Participating Preferred Stock, Summary of Rights to
    Purchase Preferred Stock and Form of Right Certificate, filed by
    the Company as an exhibit to the Form 8-A filed on
    September 27, 2000 (file no. 000-15190), and
    incorporated herein by reference.
|        | 4  | .2   |  | Form of Contingent Value Rights
    Agreement by and between OSI Pharmaceuticals, Inc. and the Bank
    of New York, filed by the Company as an exhibit to the
    registration statement on Form S-4 (file no. 333-103644),
    and incorporated herein by reference.                                                                                                                                                                         
|        | 4  | .3   |  | Indenture, dated September 8,
    2003, by and between OSI Pharmaceuticals, Inc. and The Bank of
    New York, filed by the Company as an exhibit to the
    Form 10-K filed on December 2, 2003 (file no.
    000-15190) and incorporated herein by reference.                                                                                                                                                                                
|        | 4  | .4   |  | Form of
    31/4% Convertible
    Senior Subordinated Note Due 2023 (included in
    Exhibit 4.6), filed by the Company as an exhibit to the
    Form 10-K filed on December 2, 2003 (file no.
    000-15190) and incorporated herein by reference.                                                                                                                                                                                            
|        | 4  | .5   |  | Registration Rights Agreements,
    dated September 8, 2003, by and among OSI Pharmaceuticals,
    Inc., Merrill Lynch & Co., Merrill Lynch, Pierce,
    Fenner & Smith, Incorporated, and Morgan
    Stanley & Co., Incorporated, filed by the Company as an
    exhibit to the Form 10-K filed on December 2, 2003
    (file no. 000-15190) and incorporated herein by reference.                                                            
|        | 4  | .6   |  | Indenture, dated December 21,
    2005, by and between OSI Pharmaceuticals, Inc. and The Bank of
    New York, filed by the Company as an exhibit to the
    Form 8-K filed on December 28, 2005 (file no.
    000-15190), and incorporated herein by reference.                                                                                                                                                                               
|        | 4  | .7   |  | Form of 2% Convertible Senior
    Subordinated Note Due 2025 (included in Exhibit 4.9),
    filed by the Company as an exhibit to the Form 8-K filed on
    December 28, 2005 (file no. 000-15190), and incorporated
    herein by reference.                                                                                                                                                                                                  
|        | 4  | .8   |  | Registration Rights Agreement,
    dated December 21, 2005, by and between OSI
    Pharmaceuticals, Inc. and UBS Securities LLC, filed by the
    Company as an exhibit to the Form 8-K filed on
    December 28, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                                                                                                                                         
|        | 10 | .1*  |  | 1989 Incentive and Non-Qualified
    Stock Option Plan, filed by the Company as an exhibit to the
    registration statement on Form S-8 (file
    no. 33-38443), and incorporated herein by reference.                                                                                                                                                                                                                                        
|        | 10 | .2*  |  | 1993 Incentive and Non-Qualified
    Stock Option Plan, as amended, filed by the Company as an
    exhibit to the registration statement on Form S-8 (file
    no. 33-64713) and incorporated herein by reference.                                                                                                                                                                                                                             
|        | 10 | .3*  |  | 1995 Employee Stock Purchase Plan
    filed by the Company as an exhibit to the registration statement
    on Form S-8 (file no. 333-06861), and incorporated
    herein by reference.                                                                                                                                                                                                                                                         
|        | 10 | .4*  |  | 1997 Incentive and Non-Qualified
    Stock Option Plan, filed by the Company as an exhibit to the
    registration statement on Form S-8 (file
    no. 333-39509), and incorporated herein by reference.                                                                                                                                                                                                                                       





---



##### 



|        |    |      |  |                                                                                                                                                                                                                                                                                                                                                                 
|------- | -- | ---- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |     
|        |    |     
|        | 10 | .5*  |  | 1999 Incentive and Non-Qualified
    Stock Option Plan (incorporating Amendments No. 1
    and 2, adopted July 19, 2001 and September 19,
    2006, respectively) filed by the Company as an exhibit to the
    registration statement on Form 10-Q for the quarter ended
    September 30, 2006 (file no. 000-15190), and
    incorporated herein by reference.
|        | 10 | .6*  |  | Amended and Restated Stock
    Incentive Plan (formerly, the 2001 Incentive and Non-Qualified
    Stock Option Plan) filed by the Company as an exhibit to the
    Form 10-K for the fiscal year ended December 31, 2005
    (file no. 000-15190), and incorporated herein by reference.                                                                        
|        | 10 | .7*  |  | Form of Non-Qualified Stock Option
    Agreement issued under the Amended and Restated Stock Incentive
    Plan for employees of OSI Pharmaceuticals, Inc., filed by the
    Company as an exhibit to the Form 10-Q for the quarter
    ended June 30, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                     
|        | 10 | .8*  |  | Form of Non-Qualified Stock Option
    Agreement issued under the Amended and Restated Stock Incentive
    Plan for employees of Prosidion Limited and OSI Pharmaceuticals
    (UK) Limited filed by the Company as an exhibit to the
    Form 10-Q for the quarter ended March 31, 2005 (file
    no. 000-15190), and incorporated herein by reference.        
|        | 10 | .9   |  | OSI Pharmaceuticals, Inc.
    Non-Qualified Stock Option Plan for Former Employees of Cadus
    Pharmaceutical Corporation, filed by the Company as an exhibit
    to the Form 10-Q for the quarter ended June 30, 1999
    (file no. 000-15190), and incorporated herein by reference.                                                                         
|        | 10 | .10  |  | OSI Pharmaceuticals, Inc.
    Non-Qualified Stock Option Plan for Former Employees of Gilead
    Sciences, Inc. filed by the Company as an exhibit to the
    Form 8-K filed on January 7, 2002 (file
    no. 000-15190), and incorporated herein by reference.                                                                                                 
|        | 10 | .11  |  | OSI Pharmaceuticals, Inc. Stock
    Incentive Plan for Pre-Merger Employees of Eyetech
    Pharmaceuticals, Inc., filed by the Company as an exhibit to the
    Form 8-K filed on November 16, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                                                                             
|        | 10 | .12  |  | OSI Pharmaceuticals, Inc. Stock
    Plan for Assumed Options of Pre-Merger Employees of Eyetech
    Pharmaceuticals, Inc. filed by the Company as an exhibit to the
    Form 8-K filed on November 16, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                                                                     
|        | 10 | .13* |  | OSI Pharmaceuticals, Inc. Stock
    Incentive Plan for New Hires, filed by the Company as an exhibit
    to the Form 8-K filed on July 6, 2006 and incorporated
    herein by reference.                                                                                                                                                                        
|        | 10 | .14* |  | Form of Non-Qualified Option
    Agreement for U.S.-Based Executive Officers of OSI
    Pharmaceuticals, Inc., filed by the Company as an exhibit to the
    Form 8-K filed on June 22, 2006, and incorporated
    herein by reference.                                                                                                                         
|        | 10 | .15  |  | Form of Non-Qualified Option
    Agreement for U.K.-Based Employees of OSI Pharmaceuticals, Inc.,
    filed by the Company as an exhibit to the Form 8-K filed on
    June 22, 2006, and incorporated herein by reference.                                                                                                                                      
|        | 10 | .16* |  | Form of Non-Qualified Option
    Agreement for Non-Management Directors of OSI Pharmaceuticals,
    Inc., filed by the Company as an exhibit to the Form 8-K
    filed on June 22, 2006, and incorporated herein by
    reference.                                                                                                                              
|        | 10 | .17* |  | Form of Restricted Stock Agreement
    for Executive Officers of OSI Pharmaceuticals, Inc., filed by
    the Company as an exhibit to the Form 8-K filed on
    July 12, 2006, and incorporated herein by reference.                                                                                                                                            
|        | 10 | .18* |  | Form of Restricted Stock Agreement
    for Non-Management Directors of OSI Pharmaceuticals, Inc., filed
    by the Company as an exhibit to the Form 8-K filed on
    July 12, 2006, and incorporated herein by reference.                                                                                                                                      
|        | 10 | .19* |  | Form of Restricted Stock Unit
    Agreement for Executive Officers of OSI Pharmaceuticals, Inc.,
    filed by the Company as an exhibit to the Form 8-K filed on
    July 12, 2006, and incorporated herein by reference.                                                                                                                                       
|        | 10 | .20* |  | Form of Restricted Stock Unit
    Agreement for Non-Management Directors of OSI Pharmaceuticals,
    Inc., filed by the Company as an exhibit to the Form 8-K
    filed on July 12, 2006, and incorporated herein by
    reference.                                                                                                                             
|        | 10 | .21 |  | Collaborative Research Agreement,
    dated April 1, 1996, between OSI Pharmaceuticals, Inc. and
    Pfizer Inc., filed by the Company as an exhibit to the
    Form 10-Q for the quarter ended March 31, 1996, as
    amended (file no. 000-15190), and incorporated herein by
    reference.                                                                  





---



##### 



|        |    |      |  |                                                                                                                                                                                                                                                                                                                    
|------- | -- | ---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |     
|        |    |     
|        | 10 | .22 |  | License Agreement, dated
    April 1, 1996, between OSI Pharmaceuticals, Inc. and Pfizer
    Inc., filed by the Company as an exhibit to the Form 10-Q
    for the quarter ended March 31, 1996, as amended (file
    no. 000-15190), and incorporated herein by reference.                                        
|        | 10 | .23  |  | Agreement, dated May 23, 2000,
    by and between OSI Pharmaceuticals, Inc. and Pfizer Inc., filed
    by the Company as an exhibit to the Form 8-K filed on
    June 20, 2000 (file no. 000-15190), and incorporated
    herein by reference.                                                                     
|        | 10 | .24 |  | Development and Marketing
    Collaboration Agreement, dated January 8, 2001, between OSI
    Pharmaceuticals, Inc. and Genentech, Inc., filed by the Company
    as an exhibit to the Form 8-K filed on February 14,
    2001 (file no. 000-15190), and incorporated herein by
    reference.                     
|        | 10 | .25 |  | Amendment No. 1 to Development
    and Marketing Collaboration Agreement, dated as of June 4,
    2004, between OSI Pharmaceuticals, Inc. and Genentech, Inc.,
    filed by the Company as an exhibit to the Form 8-K filed on
    June 28, 2004 (file no. 000-15190), and incorporated
    herein by reference.   
|        | 10 | .26 |  | Manufacturing and Supply Agreement,
    dated as of June 4, 2004, by and between OSI
    Pharmaceuticals, Inc. and Genentech, Inc., filed by the Company
    as an exhibit to the Form 8-K filed on June 28, 2004
    (file no. 000-15190), and incorporated herein by reference.                                  
|        | 10 | .27 |  | Development Collaboration and
    Licensing Agreement, dated January 8, 2001, between OSI
    Pharmaceuticals, Inc. and F. Hoffman  La Roche
    Ltd., filed by the Company as an exhibit to the Form 8-K
    filed on February 14, 2001 (file no. 000-15190), and
    incorporated herein by reference.          
|        | 10 | .28 |  | Tripartite Agreement, dated
    January 8, 2001, by and among OSI Pharmaceuticals, Inc.,
    Genentech, Inc., and F. Hoffman  La Roche Ltd.,
    filed by the Company as an exhibit to the Form 8-K filed on
    February 14, 2001 (file no. 000-15190), and
    incorporated herein by reference.                
|        | 10 | .29 |  | Manufacturing Agreement, dated
    December 21, 2001, by and between OSI Pharmaceuticals, Inc.
    and Gilead Sciences, Inc. filed by the Company as an exhibit to
    the Form 8-K filed on January 7, 2002 (file
    no. 000-15190), and incorporated herein by reference.                                       
|        | 10 | .30* |  | Employment Agreement, dated
    May 16, 2003, between OSI Pharmaceuticals, Inc. and
    Mr. Gabriel Leung, filed by the Company as an exhibit to
    the Form 10-K for the fiscal year ended September 30,
    2003 (file no. 000-15190), and incorporated herein by
    reference.                                
|        | 10 | .31* |  | Addendum to Employment Agreement
    between OSI Pharmaceuticals, Inc. and Mr. Gabriel Leung,
    filed by the Company as an exhibit to the Form 10-QT for
    the transition period ended December 31, 2004 (file
    no. 000-15190), and incorporated herein by reference.                                       
|        | 10 | .32 |  | Supply Agreement, dated
    February 2, 2005, by and between Schwarz Pharma
    Manufacturing, Inc. and OSI Pharmaceuticals, Inc. filed by the
    Company as an exhibit to the Form 10-Q for the quarter
    ended March 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.                 
|        | 10 | .33  |  | Agreement of Sale and Purchase,
    dated March 15, 2005, by and between Swissair, Swiss Air
    Transport Co., Ltd. and OSI Pharmaceuticals, Inc. filed by the
    Company as an exhibit to the Form 10-Q for the quarter
    ended March 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.
|        | 10 | .34* |  | Letter of Employment by and between
    OSI Pharmaceuticals, Inc. and Mr. Robert L. Simon filed by
    the Company as an exhibit to the Form 10-Q for the quarter
    ended March 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                                         
|        | 10 | .35* |  | Change of Control Arrangement by
    and between OSI Pharmaceuticals, Inc. and Barbara A.
    Wood, Esq. filed by the Company as an exhibit to the
    Form 10-Q for the quarter ended March 31, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                              
|        | 10 | .36* |  | Compensatory Arrangements for
    Non-Employee Directors filed by the Company as an exhibit to the
    Form 10-Q for the quarter ended March 31, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                                                                              
|        | 10 | .37* |  | Compensatory Arrangements of
    Executive Officers, as amended, filed by the Company as
    Item 5.02 to the Current Report on Form 8-K filed on
    December 19, 2006 (file no. 000-15190) and
    incorporated herein by reference.                                                                             





---



##### 



|        |    |      |  |                                                                                                                                                                                                                                                                                                            
|------- | -- | ---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |     
|        |    |     
|        | 10 | .38* |  | Purchases of Stock by Executive
    Officers and Directors, filed by the Company as Item 1.01
    to the Current Report on Form 8-K filed on October 31,
    2005 (file no. 000-15190) and incorporated herein by
    reference.                                                                           
|        | 10 | .39* |  | Consulting Agreement between OSI
    Pharmaceuticals, Inc. and Edwin A. Gee, Ph.D, dated
    January 24, 2005, filed by the Company as an exhibit to the
    Form 8-K filed on January 27, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                            
|        | 10 | .40* |  | Employment Agreement, dated
    April 21, 2005, by and between OSI Pharmaceuticals, Inc.
    and Michael G. Atieh, filed by the Company as an exhibit to the
    Form 8-K filed on April 22, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                          
|        | 10 | .41* |  | Scientific Advisory Board and
    Consulting Agreement, dated February 10, 2006, between
    Prosidion Limited and Dr. Daryl Granner, filed by the
    Company as an exhibit to the Form 8-K filed on
    February 13, 2006 (file no. 000-15190), and
    incorporated herein by reference.                
|        | 10 | .42* |  | Letter Agreement, dated
    January 25, 2007, by and between Dr. Daryl Granner and
    OSI Pharmaceuticals, Inc., filed by the Company as an exhibit to
    the Form 8-K, filed on January 29, 2007 (file
    no. 000-15190), and incorporated herein by reference.                                        
|        | 10 | .43* |  | Share Purchase Deed relating to
    Shares of Prosidion Limited, dated April 14, 2005, between
    OSI Pharmaceuticals, Inc. and Dr. Daryl Granner, filed by
    the Company as an exhibit to the Form 8-K, filed on
    April 20, 2005 (file no. 000-15190), and incorporated
    herein by reference.    
|        | 10 | .44* |  | Service Contract by and between
    Prosidion Limited and Anker Lundemose, dated May 1, 2004,
    filed by the Company as an exhibit to the Form 10-QT, for
    the transition period ended December 31, 2004 (file
    no. 000-15190), and incorporated herein by reference.                              
|        | 10 | .45* |  | Amended and Restated Stock
    Incentive Plan Stock Award Agreement, dated April 14, 2005,
    between OSI Pharmaceuticals, Inc. and Dr. Daryl Granner,
    filed by the Company as an exhibit to the Form 8-K, filed
    on April 20, 2005 (file no. 000-15190), and
    incorporated herein by reference.
|        | 10 | .46* |  | Restricted Stock Agreement, dated
    May 31, 2005, by and between OSI Pharmaceuticals, Inc. and
    Michael G. Atieh, filed by the Company as an exhibit to the
    Form 10-Q for the quarter ended June 30, 2005 (file
    no. 000-15190), and incorporated herein by reference.                         
|        | 10 | .47* |  | Amended and Restated Employment
    Agreement, dated May 31, 2005, by and between OSI
    Pharmaceuticals, Inc. and Michael G. Atieh, filed by the Company
    as an exhibit to the Form 10-Q for the quarter ended
    June 30, 2005 (file no. 000-15190), and incorporated
    herein by reference.      
|        | 10 | .48* |  | Letter Agreement, dated
    August 21, 2005, by and between OSI Pharmaceuticals, Inc.
    and David R. Guyer, M.D., filed by the Company as an
    exhibit to the Form 8-K, filed on August 22, 2005
    (file no.000-15190), and incorporated herein by reference.                                        
|        | 10 | .49* |  | Service Contract, dated
    September 20, 2005, by and between OSI Pharmaceuticals,
    Inc. and Dr. Anker Lundemose, filed by the Company as an
    exhibit to the Form 8-K filed on September 26, 2005
    (file no. 000-15190), and incorporated herein by reference.                                   
|        | 10 | .50* |  | Change in Control Agreement, dated
    September 20, 2005, by and between OSI Pharmaceuticals,
    Inc. and Dr. Neil Gibson, filed by the Company as an
    exhibit to the Form 8-K filed on September 26, 2005
    (file no. 000-15190), and incorporated herein by reference.                            
|        | 10 | .51* |  | Amended Letter Agreement, dated
    September 20, 2005, by and between OSI Pharmaceuticals,
    Inc. and Robert L. Simon, filed by the Company as an exhibit to
    the Form 8-K filed on September 26, 2005 (file
    no. 000-15190), and incorporated herein by reference.                               
|        | 10 | .52* |  | Amended Change in Control
    Agreement, dated September 20, 2005, by and between OSI
    Pharmaceuticals, Inc. and Barbara A. Wood, Esq. filed by
    the Company as an exhibit to the Form 8-K filed on
    September 26, 2005 (file no. 000-15190), and
    incorporated herein by reference.           
|        | 10 | .53* |  | Letter Agreement, dated
    July 22, 2004, by and between Dr. Pablo Cagnoni and
    OSI Pharmaceuticals, Inc. (Filed herewith).                                                                                                                                                                            





---



##### 



|        |    |      |  |                                                                                                                                                                                                                                                                                                                                                                        
|------- | -- | ---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |     
|        |    |     
|        | 10 | .54  |  | Commitment Letter, dated
    December 12, 2005, by and among JP Morgan Chase Bank, N.A.,
    J.P. Morgan Securities Inc. and OSI Pharmaceuticals, Inc.,
    as amended and extended, filed by the Company as an exhibit to
    the Form 10-K for the fiscal year ended December 31,
    2005 (file no. 000-15190), and incorporated herein by
    reference..          
|        | 10 | .55* |  | Employment Agreement, dated
    May 3, 2006, between OSI Pharmaceuticals, Inc. and Paul G.
    Chaney, filed by the Company as an exhibit to the Form 8-K
    filed on May 3, 2006, and incorporated herein by reference.                                                                                                                                              
|        | 10 | .56* |  | Employment Agreement between OSI
    Pharmaceuticals, Inc. and Colin Goddard, Ph.D, as amended on
    June 21, 2006, filed by the Company as an exhibit to the
    Form 8-K filed on June 22, 2006, and incorporated
    herein by reference.                                                                                                                          
|        | 10 | .57 |  | License Agreement, dated
    December 17, 2002, between Pfizer Inc. and Eyetech
    Pharmaceuticals, Inc. filed by the Company as an exhibit to the
    Form 10-K for the fiscal year ended December 31, 2005
    (file no. 000-15190), and incorporated herein by reference.                                                                                          
|        | 10 | .58 |  | Collaboration Agreement, dated as
    of December 17, 2002, between Pfizer Inc. and Eyetech
    Pharmaceuticals, Inc. filed by the Company as an exhibit to the
    Form 10-K for the fiscal year ended December 31, 2005
    (file no. 000-15190), and incorporated herein by reference.                                                                              
|        | 10 | .59 |  | License Agreement, effective as of
    March 30, 2000, as amended on May 9, 2000,
    December 4, 2001 and April 12, 2002, between Gilead
    Sciences,. Inc. and Eyetech Pharmaceuticals, Inc. filed by the
    Company as an exhibit to the Form 10-K for the fiscal year
    ended December 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.
|        | 10 | .60 |  | License, Manufacturing and Supply
    Agreement, dated February 5, 2002, between Shearwater
    Corporation and Eyetech Pharmaceuticals, Inc. filed by the
    Company as an exhibit to the Form 10-K for the fiscal year
    ended December 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                                  
|        | 10 | .61 |  | Exclusive License Agreement,
    effective as of January 4, 2007, between Eli Lilly and
    Company and Prosidion Limited. (Filed herewith).                                                                                                                                                                                                                           
|        | 10 | .62 |  | Letter of Understanding, effective
    as of September 1, 2003, by and between Eyetech
    Pharmaceuticals, Inc. and Raylo Chemicals, Inc., as amended,
    filed by the Company as an exhibit to the Form 10-K for the
    fiscal year ended December 31, 2005 (file
    no. 000-15190), and incorporated herein by reference.                                        
|        | 10 | .63 |  | Manufacturing and Supply Agreement,
    dated as of November 11, 2003, between Raylo Chemicals,
    Inc. and Eyetech Pharmaceuticals, Inc. filed by the Company as
    an exhibit to the Form 10-K for the fiscal year ended
    December 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                                     
|        | 10 | .64 |  | License Agreement, effective as of
    December 31, 2004, between Isis Pharmaceuticals, Inc. and
    Eyetech Pharmaceuticals, Inc. filed by the Company as an exhibit
    to the Form 10-K for the fiscal year ended
    December 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                                             
|        | 10 | .65 |  | Manufacturing and Supply (Fill and
    Finish) Agreement, dated as of November 26, 2003, between
    Eyetech Pharmaceuticals, Inc. and Gilead Sciences, Inc. filed by
    the Company as an exhibit to the Form 10-K for the fiscal
    year ended December 31, 2005 (file no. 000-15190), and
    incorporated herein by reference.                                   
|        | 10 | .66* |  | Summary of Interim Retainer Fee for
    Non-Employee Directors filed by the Company as an exhibit to the
    Form 10-K for the fiscal year ended December 31, 2005
    (file no. 000-15190), and incorporated herein by reference.                                                                                                                                     
|        | 21 |      |  | Subsidiaries of OSI
    Pharmaceuticals, Inc. (Filed herewith).                                                                                                                                                                                                                                                                                                        
|        | 23 |      |  | Consent of KPMG LLP, independent
    registered public accounting firm. (Filed herewith).                                                                                                                                                                                                                                                                              
|        | 31 | .1   |  | Certification of Chief Executive
    Officer pursuant to Rule 13a-14(a) or 15(d)-14(a). (Filed
    herewith).                                                                                                                                                                                                                                                          





---



##### 



|        |    |    |  |                                                                                                                                                                           
|------- | -- | -- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |   
|        |    |   
|        | 31 | .2 |  | Certification of Chief Financial
    Officer pursuant to Rule 13a-14(a) or 15d-14(a). (Filed
    herewith).                                                               
|        | 32 | .1 |  | Certification of Chief Executive
    Officer pursuant to 18 U.S.C. § 1350, as adopted
    pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    (Filed herewith).
|        | 32 | .2 |  | Certification of Chief Financial
    Officer pursuant to 18 U.S.C. § 1350, as adopted
    pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    (Filed herewith).






|  |                                                                                                                                             
|- | --------------------------------------------------------------------------------------------------------------------------------------------
|* | Indicates a management contract or compensatory plan, contract
    or arrangement in which directors or executive officers
    participates.



|  |                                                                                                                                                                                                                                                                 
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Portions of this exhibit have been redacted and are subject to a
    confidential treatment request filed with the Secretary of the
    Securities and Exchange Commission pursuant to
    Rule 24b-2 under
    the Securities Exchange Act of 1934, as amended.



|  |                                                                                                                                                                                                                                                                                        
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|+ | The schedules to this exhibit have been omitted pursuant to
    Item 601(b)(2) of
    Regulation S-K
    promulgated by the Securities and Exchange Commission. The
    omitted schedules from this filing will be provided to the
    Securities and Exchange Commission upon request.