**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**





**FORM
      10-Q/A**


Amendment
      No. 1





**ý**
            **QUARTERLY
                REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
                1934****For
                Quarterly Period Ended September 30, 2007****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 33-90516**











**NEOPHARM,
      INC.**


(Exact
      name of Registrant as specified in its charter)





**Delaware**
            
            **51-0327886**(State
                or other jurisdiction of
              incorporation
                or organization)
            
            (I.R.S.
                Employer Identification Number)**1850
                Lakeside Drive**
              **Waukegan,
                Illinois 60085**(Address
                of principal executive offices) (Zip Code)**(847)
                887-0800**(Registrant’s
                telephone number, including area
                code)





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





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




Large
                  accelerated filer o
              Accelerated
                  filer x
              Non-accelerated
                  filer o




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


As
      of
      October 31, 2007, the number of shares outstanding of each of the issuer’s
      classes of common stock was as follows:





**Title
                of each class**
            
            **Number
                of shares outstanding**Common
                Stock ($.0002145 par value)
            
            28,487,003


NEOPHARM,
              INC.





FORM
      10-Q/A


INDEX





PART
                I. FINANCIAL INFORMATIONItem
                1.
            Financial
                StatementsCondensed
                Consolidated Balance Sheets as of
                September 30, 2007 (unaudited) and December 31,
                2006Condensed
                Consolidated Statements of Operations for the
                three and nine months ended September 30, 2007 and September 30,
                2006
                (unaudited)Condensed
                ConsolidatedStatements of Cash Flows for
                the nine months ended September 30, 2007 and September 30, 2006
                (unaudited)Notes
                to Condensed Consolidated Financial
                Statements (unaudited)Item
                2.
            Management’s
                Discussion and Analysis of Financial
                Condition and Results of OperationsItem
                3.
            Quantitative
                and Qualitative Disclosures About
                Market RiskItem
                4
            Controls
                and ProceduresPART
                II. OTHER INFORMATIONItem
                1.
            Legal
                ProceedingsItem
                1A.
            Risk
                FactorsItem
                2.
            Unregistered
                Sales of Equity Securities and Use
                of ProceedsItem
                3.
            Defaults
                Upon Senior
                SecuritiesItem
                4.
            Submission
                of Matters to a Vote of Security
                HoldersItem
                5.
            Other
                InformationItem
                6.
            ExhibitsSIGNATURE
                PAGE




**EXPLANATORY
        NOTE**
 
 **NeoPharm,
        Inc. (the “Company”) is filing this Amendment No. 1 to its Quarterly Report on
        Form 10-Q for the quarter ended September 30, 2007, filed with the Securities
        and Exchange Commission on November 8, 2007, solely for the purpose of removing
        the following header which inadvertently appeared on each page of the Quarterly
        Report as filed: “DRAFT and CONFIDENTIAL FOR INFORMATIONAL and DISCUSSION
        PURPOSES ONLY.”**
 
 **Except
        as described above, this Amendment No. 1 on Form 10-Q/A does not modify or
        update any information reported in the original Quarterly Report on Form
        10-Q
        for the quarter ended September 30, 2007, and it does not reflect events
        occurring after the date of the filing of the original Quarterly
        Report.**


2


**PART
          I - FINANCIAL
          INFORMATION**





**Item
      1. - Financial
      Statements**





**NEOPHARM,
      INC.**


**Condensed
      Consolidated Balance
      Sheets**




**September
                  30,**
                **2007**
              
              
              **December 31,**
                **2006****(unaudited)****ASSETS**Current
                  assets:Cash
                  and cash equivalents
              
              $
              61,000
              
              
              $
              1,852,000Available
                  for sale securities
              
              
              23,435,000
              
              
              
              36,735,000Prepaid
                  expenses and other
              
              
              498,000
              
              
              
              627,000Total
                  current assets
              
              
              23,994,000
              
              
              
              39,214,000Fixed
                  assets, net
              
              
              391,000
              
              
              
              1,266,000Other
                  assets
              
              
              214,000
              
              
              
              209,000Total
                  assets
              
              $
              24,599,000
              
              
              $
              40,689,000**LIABILITIES
                  AND STOCKHOLDERS’ EQUITY**Current
                  liabilities:Accounts
                  payable
              
              $
              842,000
              
              
              $
              5,085,000Accrued
                  clinical trial expenses
              
              
              1,928,000
              
              
              
              2,272,000Accrued
                  compensation
              
              
              888,000
              
              
              
              811,000Obligations
                  under capital lease
              
              
              31,000
              
              
              
              30,000Other
                  accrued expenses
              
              
              1,599,000
              
              
              
              1,379,000Total
                  current liabilities
              
              
              5,288,000
              
              
              
              9,577,000Obligations
                  under capital lease
              
              
              82,000
              
              
              
              105,000Deferred
                  revenue
              
              
              -
              
              
              
              2,000,000Deferred
                  rent
              
              
              16,000
              
              
              
              35,000Derivative
                  financial instruments
              
              
              38,000
              
              
              
              101,000Total
                  liabilities
              
              
              5,424,000
              
              
              
              11,818,000Stockholders’
                  equity:Common
                  stock, $0.0002145 par value; 50,000,000shares
                  authorized: 28,487,003 and 28,080,408shares
                  issued and outstanding, respectively
              
              
              6,000
              
              
              
              6,000Additional
                  paid-in capital
              
              
              290,351,000
              
              
              
              290,098,000Accumulated
                  deficit
              
              
              (271,182,000
              )
              
              
              (261,233,000
              )Total
                  stockholders’ equity
              
              
              19,175,000
              
              
              
              28,871,000Total
                  liabilities and stockholders’ equity
              
              $
              24,599,000
              
              
              $
              40,689,000








The
      accompanying notes to the condensed consolidated financial
      statements


are
      an
      integral part of these financial statements.


3
 **NEOPHARM,
            INC.**





**Condensed
      Consolidated Statements of
      Operations**


**Three
      and Nine Months Ended September 30, 2007 and September 30,
      2006**


(Unaudited)





**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30, 2007**
              
              
              **September
                  30, 2006**
              
              
              **September
                  30, 2007**
              
              
              **September
                  30, 2006**Product
                  revenue
              
              $
              -
              
              
              $
              1,000
              
              
              $
              -
              
              
              $
              11,000Total
                  revenue
              
              
              -
              
              
              
              1,000
              
              
              
              -
              
              
              
              11,000Expenses:Cost
                  of product revenue
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              1,000Research
                  and development
              
              
              1,668,000
              
              
              
              4,319,000
              
              
              
              6,175,000
              
              
              
              16,200,000Selling,
                  general, and administrative
              
              
              1,265,000
              
              
              
              3,702,000
              
              
              
              6,097,000
              
              
              
              10,808,000Employee
                  termination costs
              
              
              -
              
              
              
              293,000
              
              
              
              555,000
              
              
              
              1,298,000Change
                  in fair value of derivativefinancial
                  instruments
              
              
              (11,000
              )
              
              
              (98,000
              )
              
              
              (64,000
              )
              
              
              (1,269,000
              )Facility
                  consolidation costs
              
              
              296,000
              
              
              
              428,000
              
              
              
              296,000
              
              
              
              428,000Total
                  expenses
              
              
              3,218,000
              
              
              
              8,644,000
              
              
              
              13,059,000
              
              
              
              27,466,000Loss
                  from operations
              
              
              (3,218,000
              )
              
              
              (8,643,000
              )
              
              
              (13,059,000
              )
              
              
              (27,455,000
              )Other
                  Income
              
              
              2,000,000
              
              
              
              -
              
              
              
              2,000,000
              
              
              
              -Interest
                  income
              
              
              337,000
              
              
              
              639,000
              
              
              
              1,110,000
              
              
              
              1,981,000Net
                  loss
              
              
              (881,000
              )
              
              $
              (8,004,000
              )
              
              $
              (9,949,000
              )
              
              $
              (25,474,000
              )Net
                  loss per share —Basic
                  and diluted
              
              $
              (0.03
              )
              
              $
              (0.29
              )
              
              $
              (0.35
              )
              
              $
              (0.92
              )Weighted
                  average shares outstanding —Basic
                  and diluted
              
              
              28,377,120
              
              
              
              27,934,702
              
              
              
              28,189,815
              
              
              
              27,685,928





The
      accompanying notes to the condensed consolidated financial
      statements


are
      an
      integral part of these financial statements.


4
 **NEOPHARM,
          INC.**





**Condensed
      Consolidated Statements of Cash
      Flows**


**Nine
      Months Ended September 30, 2007 and September 30, 2006**


**(**Unaudited)




**Nine
                  Months Ended****September
                  30, 2007**
              
              
              **September
                  30, 2006**Cash
                  flows from operating activities:Net
                  loss
              
              $
              (9,949,000
              )
              
              $
              (25,474,000
              )Adjustments
                  to reconcile net loss to net cash used in operating
                  activities:Depreciation
                  and amortization
              
              
              587,000
              
              
              
              919,000Stock-based
                  compensation expense
              
              
              238,000
              
              
              
              1,535,000Decrease
                  in fair value of derivative financial instruments
              
              
              (63,000
              )
              
              
              (1,269,000
              )Loss
                  on retirement of equipment and furniture
              
              
              -
              
              
              
              12,000Writedown
                  of fixed assets
              
              
              296,000
              
              
              
              -Non-cash
                  reorganization
              
              
              -
              
              
              
              94,000Changes
                  in assets and liabilities:Decrease
                  in interest receivable on available for sale securities
              
              
              52,000
              
              
              
              -Decrease
                  (increase) in prepaid expenses and other
              
              
              129,000
              
              
              
              (98,000
              )(Increase)
                  decrease in other assets
              
              
              (5,000
              )
              
              
              1,000(Decrease)
                  in accounts payable
              
              
              (4,243,000
              )
              
              
              (229,000
              )(Decrease)
                  in other current liabilities
              
              
              (47,000
              )
              
              
              -(Decrease)
                  in deferred and unearned revenue
              
              
              (2,000,000
              )
              
              
              -(Decrease)
                  increase in deferred rent
              
              
              (19,000
              )
              
              
              11,000Net
                  cash and cash equivalents used in operating activities
              
              
              (15,024,000
              )
              
              
              (24,498,000
              )Cash
                  flows from investing activities:Proceeds
                  from sales of available for sale securities
              
              
              13,248,000
              
              
              
              27,350,000Purchase
                  of marketable securities
              
              
              -
              
              
              
              (40,800,000
              )Purchase
                  of equipment and furniture, net
              
              
              (7,000
              )
              
              
              (200,000
              )Net
                  cash and cash equivalents provided by (used in) investing
                  activities
              
              
              13,241,000
              
              
              
              (13,650,000
              )Cash
                  flows from financing activities:Proceeds
                  from issuance of common stock
              
              
              -
              
              
              
              38,739,000Proceeds
                  from exercise of stock options
              
              
              -
              
              
              
              856,000Proceeds
                  from employee stock purchase plan
              
              
              14,000
              
              
              
              114,000Repayment
                  of capital lease obligation
              
              
              (22,000
              )
              
              
              (19,000
              )Net
                  cash and cash equivalents (used in) provided by financing
                  activities
              
              
              (8,000
              )
              
              
              39,690,000Net
                  (decrease) increase in cash and cash equivalents
              
              
              (1,791,000
              )
              
              
              1,542,000Cash
                  and cash equivalents, beginning of period
              
              
              1,852,000
              
              
              
              1,486,000Cash
                  and cash equivalents, end of period
              
              $
              61,000
              
              
              $
              3,028,000The
                  accompanying notes to the condensed consolidated financial
                  statementsare
                  an integral part of these financial statements.


*Supplemental
      disclosure of non-cash financing activities:*




During
      the
      nine months ended September 30, 2006, the Company entered into a capital lease
      obligation for office equipment totaling $161,000.




5
 **NEOPHARM,
            INC.**




**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL
      STATEMENTS**


**(unaudited)**





**Note
      1 Basis of Presentation**





The
      financial information herein is unaudited.  The balance sheet as of
      December 31, 2006 is derived from audited financial
      statements.




The
      accompanying unaudited condensed consolidated financial statements of NEOPHARM,
      Inc. and subsidiary (“we”, “us”, “our”, or the “Company”) have been prepared in
      accordance with U.S. generally accepted accounting principles, or U.S. Generally
      Accepted Accounting Principles (GAAP), for interim financial information and
      with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.
      Accordingly, these financial statements do not contain all of the information
      and notes required by U.S. GAAP for complete financial statements.  In
      the opinion of management, the accompanying unaudited condensed consolidated
      interim financial statements contain all adjustments (consisting of normal
      recurring adjustments) necessary to a fair presentation.  The results
      of operations for the three and nine month periods ended September 30, 2007
      are
      not necessarily indicative of our operating results for fiscal 2007 or future
      interim periods.




The
      unaudited condensed consolidated financial statements include the accounts
      of
      NEOPHARM, Inc. and its wholly owned subsidiary, NEOPHARM EU Limited. NEOPHARM
      EU
      Limited was created in 2004 to comply with regulatory requirements enacted
      for
      clinical trials conducted in the European Union. NEOPHARM EU has nominal assets
      and has not conducted any business.  All significant intercompany
      accounts and transactions are eliminated in consolidation.




While
      we
      believe that the disclosures presented herein are adequate to make the
      information not misleading, it is suggested that these financial statements
      be
      read in conjunction with the financial statements and notes included in the
      Company’s 2006 Annual Report on Form 10-K, as amended by the Company on Form
      10-K/A, each as filed with the United States Securities and Exchange Commission,
      or SEC.




The
      preparation of financial statements in conformity with U.S. GAAP requires
      management to make estimates and assumptions that affect the reported amounts
      of
      assets and liabilities and disclosure of contingent assets and liabilities
      at
      the date of the consolidated financial statements and the reported amounts
      of
      revenue and expense during the reporting periods.  Actual results
      could differ from those estimates.




Amounts
      presented have been rounded to the nearest thousand.







*Recent
      Accounting Pronouncements*





We
      adopted
      Financial Accounting Standards Board (FASB) Interpretation No. 48 (FIN No.
      48),
*Accounting for Uncertainty in Income Taxes,* effective January 1, 2007.
      The new standard defines the threshold for recognizing the benefits of tax
      return positions in the financial statements as “more-likely-than-not” to be
      sustained by the taxing authorities based solely on the technical merits of
      the
      position.  If the recognition threshold is met, the tax benefit is
      measured and recognized as the largest amount of tax benefit that in our
      judgment is greater than 50% likely to be realized.  The adoption of
      FIN No. 48 did not have a material impact on the Company’s consolidated
      financial position or results of operations.




In
      September 2006, the FASB issued SFAS No. 157, *Fair Value Measurement*,
      or SFAS 157.  SFAS 157 defines fair value, establishes a framework for
      measuring fair value under U.S. GAAP, and expands disclosures about fair value
      measurements.  SFAS 157 is effective for financial statements for
      fiscal years beginning after November 15, 2007 and interim periods within those
      fiscal years.  We do not expect the adoption of SFAS 157 to have a
      material impact on our consolidated financial position or results of
      operations.




In
      February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
      Assets and Financial Liabilities - Including an amendment of FASB No. 115 ("SFAS
      No. 159").  SFAS No. 159 permits companies to choose to measure many
      financial instruments and certain other items at fair value in order to mitigate
      volatility in reported earnings caused by measuring related assets and
      liabilities differently without having to apply complex hedge accounting
      provisions.  SFAS No. 159 is effective for the Company's fiscal year ending
      December 31, 2008, with early adoption permitted.  We are currently
      assessing the impact, if any, of this statement on our consolidated financial
      statements.




6


**Note
      2 Loss Per Share**





The
      following table sets forth the computation of basic and diluted net loss per
      share:




**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30,**
                **2****007**
              
              
              **September
                  30,**
                **2006**
              
              
              **September
                  30,**
                **2007**
              
              
              **September
                  30, 2006**Numerator:Net
                  loss
              
              
              
              $
              (881,000
              )
              
              $
              (8,004,000
              )
              
              $
              (9,949,000
              )
              
              $
              (25,474,000
              )Denominator:Weighted
                  average shares outstanding
              
              
              
              
              28,377,120
              
              
              
              27,934,702
              
              
              
              28,189,815
              
              
              
              27,685,928Loss
                  per share - basic and diluted
              
              
              
              $
              (0.03
              )
              
              $
              (0.29
              )
              
              $
              (0.35
              )
              
              $
              (0.92
              )Potential
                  common share equivalents:Stock
                  options
              
              
              
              
              1,339,387
              
              
              
              2,320,337
              
              
              
              1,339,387
              
              
              
              2,320,337




As
      we have
      incurred net losses in each of the periods presented, basic and diluted loss
      per
      share amounts are the same, as the effect of common share equivalents is
      anti-dilutive.







**Note
      3 Share-based Compensation and Non-Employee Stock
      Options**





We
      currently sponsor the following share-based payment plans:





*2006
      Plan*




In
      June 2006, our stockholders approved the NEOPHARM, Inc. 2006 Equity
      Incentive Plan, or the 2006 Plan.  The 2006 Plan provides for the issuance
      of stock options, non-vested stock, restricted stock, performance units or
      performance share awards to employees, directors and consultants convertible
      to
      up to 1,000,000 shares of our common stock. During the second quarter of 2007,
      the Board of Directors approved a resolution to increase the total shares
      available for issuance under the 2006 Plan to 3,400,000 shares.  In
      addition, the Board approved an increase in the number of shares of Common
      Stock
      that may be granted to any Grantee during any calendar year, or earned by any
      Grantee under any performance based award during any calendar year, from
      500,000 to 750,000 shares.  Each of these Board resolutions were
      approved by the shareholders at the Annual Meeting of Stockholders held on
      August 16, 2007.





Awards
      under the 2006 Plan generally consist of stock options having an exercise price
      equal to the average of the lowest and highest reported sale prices of our
      common stock on the date of grant; vest ratably over four years; have a 10
      year
      term; and are subject to continuous employment.  Restricted stock
      awards granted to our non-employee directors under the 2006 Plan typically
      vest
      one year from the date of grant.  As of September 30, 2007, there were
      2,557,556 shares available for issuance under the 2006 Plan.





*2006
      Employee Stock Purchase Plan*




In
      June 2006, our shareholders also approved the 2006 Employee Stock Purchase
      Plan, or the Purchase Plan, under which eligible employees may purchase shares
      of common stock quarterly through payroll deductions.  An aggregate of
      100,000 shares of common stock may be issued under the Purchase Plan.  The
      price per share under the Purchase Plan is 85% of the lower of the closing
      price
      of the common stock on (i) the first business day of the plan period or
      (ii) the purchase date.  The Purchase Plan imposes a limitation
      upon a participant’s right to acquire common stock if immediately after or prior
      to purchase, the employee owns 5% or more of the total combined voting power
      or
      value of our common stock.  During the three and nine month periods
      ended September 30, 2007, 978 and 12,734 shares, respectively were issued under
      the Purchase plan resulting in compensation expense of $250 and $10,000,
      respectively.  At September 30, 2007, 47,942 shares remained available
      for issuance.





*The
      1998 Plan*




Our
      1998
      Equity Incentive Plan, or the 1998 Plan, provided for the grant of awards,
      primarily stock options, to employees, directors, and consultants to acquire
      up
      to 4,600,000 shares of our common stock.  Following the June 2006
      shareholder approval of the 2006 Plan, no further awards have been or will
      be
      made under the 1998 Plan.




7


*Share-Based
      Compensation Summary*




Amounts
      (credits) recognized in the consolidated statements of operations with respect
      to our share-based compensation plans were as follows:




**Three
                  Months Ended**
              
              
              **Nine
                  Months Ended****September
                  30, 2007**
              
              
              **September
                  30, 2006**
              
              
              **September
                  30, 2007**
              
              
              **September
                  30, 2006**Research
                  and development
              
              $
              34,000
              
              
              $
              163,000
              
              
              $
              (7,000
              )
              
              $
              551,000Selling,
                  general and administrative
              
              
              79,000
              
              
              
              335,000
              
              
              
              235,000
              
              
              
              984,000Total
                  cost of share-based payment plans during period
              
              $
              113,000
              
              
              $
              498,000
              
              
              $
              228,000
              
              
              $
              1,535,000




We
      have
      never capitalized, or recognized an income tax benefit from, share-based
      compensation.  The reductions in expense during the nine months ended
      September 30, 2007 are primarily attributed to significant forfeitures during
      the second quarter of 2007 as a result of the reduction in force in
      2007.





*Stock
      Option Award Summary*





The
      following is a summary of activity
      relating to option awards to employees and non-employee directors during the
      nine months endedSeptember
      30,
      2007:




**Number
                  of Options**
              
              
              **Weighted
                  Average Exercise Price/**
                **Grant
                  Date Fair Value**
              
              
              **Weighted
                  Average Remaining Contractual Life in years**
              
              
              **Aggregate
                  Instrinsic Value**Outstanding
                  at December 31, 2006
              
              
              2,531,783
              
              
              $
              11.28/$8.29Granted
              
              
              658,000
              
              
              
              1.40/1.04Exercised
              
              
              -Forfeited/expired/cancelled
              
              
              (2,008,521
              )
              
              
              11.10/8.04Outstanding
                  at September 30, 2007
              
              
              1,181,262
              
              
              
              6.15/4.64
              
              
              
              7.53
              
              
              $
              -Exercisable
                  at September 30, 2007
              
              
              406,573
              
              
              $
              13.32/10.37
              
              
              
              3.68
              
              
              $
              -Nonvested
                  at December 31, 2006
              
              
              1,438,733
              
              
              $
              8.28/5.51Granted
              
              
              658,000
              
              
              
              1.40/1.04Vested
              
              
              (78,058
              )
              
              
              10.22/6.78Forfeited
              
              
              (1,243,986
              )
              
              
              8.19/5.46Nonvested
                  at September 30, 2007
              
              
              774,689
              
              
              $
              2.38/1.64




As
      of
      September 30, 2007 the Company expects to recognize $1,096,000 of unrecognized
      share-based compensation over a weighted average period of 2.8
      years.




*Restricted
      Stock Awards*





During
      the
      third quarter, the Company granted 213,196 shares of restricted stock under
      the
      Company’s 2006 Plan to members of the Board of Directors.  The fair
      market value of the shares is $211,000 and is being amortized over the 1-year
      vesting period.  Compensation expense of $26,000 has been recognized
      for the quarter ending September 30, 2007.




During
      the
      second quarter, the Company granted Mr. Laurence P. Birch, President and Chief
      Executive Officer of the Company, 180,665 shares of restricted stock under
      the
      Company’s 2006 Plan as called for by the terms of his employment
      agreement.  The fair market value of the award was $246,000 based on a
      grant price of $1.36 per share and is being amortized over the 4-year vesting
      period.  Compensation expense of $15,000 and $17,000 has been
      recognized for the quarter and nine months ending September 30, 2007,
      respectively.




8


As
      of
      September 30, 2007, there were 180,665 non-vested employee shares
      outstanding and 213,196 of non-vested non-employee director shares
      outstanding.






*Stock
      Option Valuation Information*




We
      have
      estimated the fair value of our share-based compensation using the Black-Scholes
      option-pricing model. This model requires the use of subjective assumptions
      that
      have a significant impact on the fair value estimate.  We are
      providing the weighted-average estimated fair value of employee stock options
      granted during the third quarter of 2007 as calculated using the Black-Scholes
      model and the related weighted-average assumptions:


**Three months
                ended**
            
            
            **Three months
                ended
                v****September
                30, 2007**
            
            
            **September
                30, 2006**Expected
                volatility
            
            
            79.70
            %
            
            
            71.00
            %Risk-free
                interest rate
            
            
            4.60
            %
            
            
            4.90
            %Expected
                term (in years)
            
            
            7.00
            
            
            
            6.25Expected
                dividend yield
            
            
            0.0
            %
            
            
            0.0
            %Weighted-average
                fair value of options granted during the period
            
            $
            1.04
            
            
            $
            3.50





We
      have
      based our assumptions regarding expected volatility on the historic volatility
      of our common stock, the risk-free interest rate on the U.S. Treasury yield
      curve in effect at the time of grant, and the expected term of options using
      the
“Simplified Method” in accordance with Staff Accounting Bulletin
      No. 107,*Share-Based Paymen**t*.




*Derivative
                Financial Instruments*





Prior
      to
      2000, we granted common stock options to certain non-employee consultants as
      compensation related to research and development activities.  As of
      January 1, 2006, the effective date of SFAS123(R), options granted to
      certain non-employees to purchase 234,025 shares of our common stock were vested
      and outstanding.  Upon adoption of SFAS 123(R), these non-employee common
      stock options were accounted for as derivative instruments in accordance with
      SFAS 133,*Accounting for Derivative Instruments and Hedging Activities,*
      and recorded as a liability.




In
      August 2006, we entered into a separation agreement with Lawrence A.
      Kenyon, our former Chief Financial Officer, under which Mr. Kenyon’s
      employment status changed from employee to consultant reflecting his continued
      service to the Company. Under the agreement*,* at that time 40,300
      options were forfeited and 17,025 unvested employee stock options were
      reclassified to non-employee option grants which vested through May 31,
      2007 and were exercisable until August 29, 2007. None of these shares were
      exercised and accordingly expired.  We have recognized the expense for
      these non-employee grants during 2006.




As
      of
      September 30, 2007, there were 158,125 non-employee options outstanding and
      the
      Company remeasured and calculated the estimated fair value of the
*outstanding* non-employee options to be $38,000.  The Company
      recorded the change in fair value of $11,000 and $64,000 as a change in fair
      value of derivative financial instruments on the Company’s unaudited condensed
      consolidated statement of operations for the three and nine months ended
      September 30, 2007, respectively.




We
      use the
      Black-Scholes option-pricing model to estimate the fair value of the
      non-employee option grants outstanding over the remaining contractual terms
      of
      the outstanding options, which ranged from 11 months to 28 months at September
      30, 2007.







**Note
      4 Cash and Cash Equivalents and Available for Sale
      Securities**





We
      consider all highly liquid investments purchased with an original maturity
      of
      three months or less to be cash equivalents.  Included with cash are
      cash equivalents of $61,000 and $593,000 as of September 30, 2007 and December
      31, 2006, respectively. The carrying value of these investments approximates
      their fair market value due to their short maturity and liquidity.




9


Available
      for sale securities consist of auction rate certificates with scheduled
      maturities greater than 90 days at the time of purchase.  We believe
      the structural features of the auction rate certificates, including an interest
      rate reset feature which adjusts the rate typically every 7 to 35 days, provide
      us with liquidity characteristics similar to cash equivalents. As provided
      by
      Statement of Financial Accounting Standards, or SFAS, No. 115, *Accounting
      for Certain Investments in Debt and Equity Securities,*we have elected to
      treat all of our investments in marketable securities as “available-for-sale,”
which requires that these investments be recorded at fair market
      value.  However, given the interest rate reset features of our auction
      rate certificates, the carrying value of these available for sale securities
      represents their fair value.




As
      of
      September 30, 2007, our investments in auction rate certificates have maturities
      ranging from 23 to 38 years.  Despite the long-term nature of their
      stated contractual maturities, the Company has demonstrated the ability to
      liquidate these securities as needed.  Accordingly, as these
      securities represent the investment of cash, which is available for operations,
      they have been classified as a current asset on the accompanying Consolidated
      Balance Sheets.




Included
      with the carrying value of the available for sale
      securities****was accrued interest income receivable
      of $33,000 and $85,000 as of September 30, 2007 and December 31, 2006,
      respectively.




Available
      for sale securities, stated at cost, which approximates fair market value,
      are
      as follows:




**September
                  30,**
                **2007**
              
              
              **December
                  31,**
                **2006**State
                  government agencies
              
              $
              23,402,000
              
              
              $
              36,650,000Total
                  available for sale securities
              
              $
              23,402,000
              
              
              $
              36,650,000







**Note
      5 Fixed Assets**





We
      record
      fixed assets at cost and record depreciation using the straight-line method
      over
      the related asset’s estimated useful life.  Expenditures that do not
      extend the life or improve the productivity of assets are charged to expense
      when incurred.  When fixed assets are disposed of, the related costs
      and accumulated depreciation are removed from the accounts and any gain or
      loss
      is recorded.  Depreciation and amortization expense for the three and
      nine months ended September 30, 2007 was $131,000 and $587,000, respectively
      as
      compared to $243,000 and $919,000, respectively for the corresponding periods
      of
      2006.  During the nine months ended September 30, 2006, the Company
      acquired office equipment under a five year capital lease for
      $161,000.




Long-lived
      assets are reviewed for impairment when changes in circumstances indicate the
      carrying amount of an asset may not be recoverable. Recoverability of assets
      to
      be held and used is measured by a comparison of the carrying amount of the
      assets to estimated undiscounted cash flows expected to be generated by the
      assets.  If the carrying amount of an asset were to exceed its
      estimated future cash flows, an impairment charge would be recognized by the
      amount by which the carrying amount of the asset exceeds the fair value of
      the
      asset.  In connection with the planned corporate headquarters move in
      the first quarter of 2008, as more fully discussed in Note 7, the Company wrote
      down assets by $296,000 to reduce their carrying value to estimated fair
      value.







**Note
      6 Employee Termination Costs**





Following
      the Company’s announcement on March 29, 2007 that additional Phase III clinical
      trials have been recommended for its drug product candidate, Cintredekin
      Besudotox, the Company initiated an organizational realignment on April 18,
      2007
      which reduced the workforce from 36 to 21 employees.   The
      reorganization included the agreement of the Company’s Executive VP-Chief
      Medical Officer and the Executive VP-Commercial Operations to step down, which
      occurred on June 18, 2007 and May 31, 2007, respectively.   In
      connection with the original terms of employment, the Company is obligated
      to
      pay these Executives six months continued salary equal to $137,500 and $120,000,
      respectively, which was accrued for during the quarter ended June 30,
      2007.  The Company recorded a total charge of $555,000 during the
      quarter ended June 30, 2007 related to these two executives and severance
      related costs for 13 employees that were part of the Company’s reduction in
      workforce.




During
      2006, the Company’s workforce was reduced from 96 to 53 employees through
      various organizational restructuring initiatives, separation agreements with
      certain officers and through attrition.  Additionally, in March 2007,
      the Company terminated the employment of Mr. Guillermo Herrera, its President
      and Chief Executive Officer.  In accordance with his employment
      agreement, Mr. Herrera was scheduled to receive a salary continuation of
      approximately $35,400 per month for twelve months, unless and until he obtained
      alternative full-time employment, in which case the monthly payments would
      terminate.  Payments to Mr. Herrera would also terminate for breach of
      restrictive covenants.   Subsequent to his termination, the
      Company determined that Mr. Herrara’s termination should have been for cause as
      defined in his employment agreement, with the result that no salary continuance
      would be due Mr. Herrara.  The Company notified Mr. Herrera of this
      action during the second quarter and requested that he make restitution of
      the
      salary payments previously made.  Subsequent to his termination, Mr.
      Herrera filed suit in May 2007 seeking payment of a $212,000 bonus for 2006
      and
      a $25,000 salary increase for 2007, and has subsequently sought leave of the
      court, which has not yet been granted, to amend his complaint to recover the
      suspended payments and other damages.  The Company is vigorously
      defending this action.




10


A
      roll-forward of the activity in the accrued liability account for the personnel
      costs associated with the various reduction in workforce initiatives is
      summarized below:




Balance
                  at December 31, 2006
              
              $
              415,000Charge
                  for reduction in force
              
              
              555,000Payments
                  made during the period
              
              
              868,000Balance
                  at September 30, 2007
              
              $
              102,000




The
      remaining payouts are expected to be completed by the end of 2007.







**Note
      7 Facility Consolidation Costs**





During
      the
      third quarter the Company recorded a charge totaling $296,000 to reduce the
      carrying value of fixed assets, primarily furniture and fixtures, to their
      estimated net realizable value.  With the lease on the Company’s
      corporate headquarters expiring at March 31, 2008, the Company is currently
      negotiating the terms of a new lease for and anticipates moving into the new
      facility in the first quarter of 2008.  As the new space is
      significantly smaller than the current space, the Company will be required
      to
      sell excess furniture and equipment.  This charge reduces the carrying
      value to its estimated net realizable value upon disposal.




In
      2006,
      in connection with our facility consolidation, we vacated our office space
      in
      Lake Forest, Illinois and have included $11,000 and $238,000 in other accrued
      expenses as the remaining estimated lease exposure at September 30, 2007 and
      December 31, 2006, respectively.  In the three months ended September
      30, 2006, we recorded a $334,000 charge for estimated lease exposure related
      to
      our former Lake Forest, Illinois office space and wrote off $94,000 in related
      equipment and leasehold improvements.  This office space has been
      sublet through March 31, 2008, the end of the lease period.







**Note
      8 Other Income**





On
      December 28, 2004, a Sublicense and License Agreement was entered into between
      the Company and Nippon Kayaku Co, Ltd (NK) for NK to develop and commercialize
      in Japan a product developed by us.  Upon execution of this agreement,
      NK paid us a one-time, non-refundable license fee of US
      $2,000,000.  We recorded this payment as Deferred Revenue on the
      balance sheet.




On
      September 11, 2007, NK notified us that they had elected to terminate the
      Agreement effective June 2008.  With the formal termination notice,
      development efforts by NK have ceased and, in accordance with the terms of
      the
      Agreement, we will retain the upfront license fee received from
      NK.  Accordingly, in September 2007 the Company reversed the deferred
      revenue and recognized the amount as other income.




**Note
      9 Stockholders’ Equity**





On
      January
      10, 2006, we issued 4,025,000 shares of our common stock in a public offering,
      which resulted in net proceeds of $39,002,000, after underwriting discounts
      and
      commissions of $2,053,000 and before expenses of $263,000.




We
      maintain a Stockholder Rights Plan whereby rights to purchase shares of Series
      A
      Participating Preferred Stock become exercisable by our stockholders in the
      event a non-excluded party acquires, or attempts to acquire, 15% or more of
      our
      outstanding common stock.




**Note
      10 Income Taxes**





In
      July
      2006, the Financial Accounting Standards Board (the “FASB”) issued FASB
      Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an
      interpretation of FASB Statement No. 109,” (“FIN 48”) to clarify the accounting
      for uncertain tax positions accounted for in accordance with FASB Statement
      No.
      109, “Accounting for Income Taxes.” The Company adopted FIN 48 as of January 1,
      2007. We had no material unrecognized tax benefits and no adjustments to
      liabilities or operations were required.




11


At
      September 30, 2007, the Company had net operating loss (“NOL”) carryforwards for
      tax purposes of approximately $250 million expiring at various dates through
      2027 for which a full valuation allowance has been provided. We do not believe
      the total amount of unrecognized tax benefits will change significantly within
      the next twelve months. In addition, future changes in the unrecognized tax
      benefit will have no impact on the effective tax rate due to the existence
      of
      the valuation allowance.




The
      Company files U.S. federal and state income tax returns. Principally due to
      the
      NOLs, all returns filed since the Company’s conversion from an S-corporation in
      1995 remain subject to examination by U.S. and state tax
      jurisdictions.




**Note
      11 Contingencies**





NEOPHARM,
      Inc. and certain of our former officers have been named in a consolidated
      amended complaint, which alleges various violations of the federal securities
      laws in connection with our public statements regarding our LEP drug product
      candidate during the period from October 31, 2001 through April 19,
      2002.  On November 4, 2002, we moved to have the complaint
      dismissed.  Our motion to dismiss was granted in part and denied in
      part in February 2003. In November 2004, the plaintiffs filed a motion to amend
      and a motion for summary adjudication. The motion to amend seeks to include
      certain pre-class period statements in the complaint.  The motion for
      summary adjudication asks the Court to rule that certain statements made in
      an
      arbitration award regarding the LEP drug product candidate be deemed facts
      established in this proceeding.  On February 23, 2007, the Court
      entered an order denying both the plaintiffs’ motion to amend and the
      plaintiffs’ motion for summary adjudication.  Fact discovery is closed
      and the Court has set an expert discovery cut-off date of January 25,
      2008.  No trial date has yet been set.  We intend to
      vigorously defend each and every claim in the complaint. Management is unable
      to
      estimate the potential outcome or range of possibilities, if any.  In
      addition, we maintain insurance coverage to mitigate the financial impact of
      any
      potential loss.




We
      entered
      into various contractual arrangements, primarily during the fourth quarter
      of
      2006, under take or pay agreements, with Diosynth Biotechnology, Inc.
      (“Diosynth”), to secure access to manufacturing capacity for the potential
      manufacture and regulatory advancement of Cintredekin Besudotox through early
      2008.  As a result of the FDA’s decision to require additional Phase
      III clinical testing of Cintredekin Besudotox, the Company advised Diosynth
      that
      the timing of further work to support a potential BLA submission must be
      delayed.  Diosynth has indicated that such a delay constitutes a
      default under our contract.  In response, the Company invoked the
      dispute resolution provisions of the contract in an attempt to resolve these
      and
      other differences between the two companies.  A dialogue between the
      senior executives of our Company and Diosynth is still ongoing.  In
      the event these discussions fail to resolve the parties’ differences, the
      contract calls for mediation and eventually binding
      arbitration.  Under the terms of the various contractual arrangements,
      if the Company can not settle its outstanding differences with Diosynth, and
      Diosynth should refuse to delay the related disputed manufacturing activity,
      and
      such dispute were to culminate in an arbitration judgment against the Company,
      we may be obligated to pay half of the disputed processing costs.  The
      Company currently estimates exposure to be approximately $2.4 million at
      September 30, 2007.




We
      are
      from time to time subject to claims and litigation arising in the ordinary
      course of business.  We intend to defend vigorously any such
      litigation that may arise under all defenses that would be available to
      us.  In the opinion of management, the ultimate outcome of those
      proceedings of which management is aware, even if adverse to us, will not have
      a
      material adverse effect on our consolidated financial position or results of
      operations.  While we maintain insurance to cover the use of our drug
      product candidates in clinical trials, we do not presently maintain insurance
      covering the potential commercial use of our drug product candidates and there
      is no assurance that we will be able to obtain or maintain such insurance on
      acceptable terms.







**Note
      12 Commitments**





***Employment
      Agreement-***On March 23, 2007, the Company entered into an
      employment agreement with Mr. Laurence P. Birch (the “Agreement”) to serve as
      its President and Chief Executive Officer.  Mr. Birch was elected to
      the Company’s Board of Directors on March 30, 2007.   Under terms
      of the Agreement, Mr. Birch has been provided an annual base salary of $275,000
      and a target bonus of 50% of his base salary based on performance criteria
      to be
      established by the Board in consultation with Mr. Birch, with the potential
      to
      earn up to 100% of his base salary for over achievement of performance
      criteria.  In the event the Company terminates Mr. Birch’s employment
      without cause, he would be entitled to receive a continuation of his then
      current base salary for a period of twelve months.    In the
      event of a termination after a change of control of the Company, Mr. Birch
      would
      receive, in addition to twelve months salary continuation, a lump sum payment
      equal to the prior year’s bonus, if any, plus accelerated vesting of all options
      or restricted stock.




12


***License
      and Research Agreements-***The Company has entered into strategic
      business agreements for the development and marketing of its drugs under
      development.  Each strategic business agreement includes a future
      payment schedule for contingent milestone payments.  The Company will
      be responsible for the contingent payments upon the occurrence of future
      events.  The total maximum contingent payments for each contract are
      described below.




***National
      Institutes of Health-***In May 2007, the Company entered into an
      agreement with National Institutes of Health under CRADA for IL13-PE38 for
      asthma and pulmonary fibrosis.  The agreement contains milestone
      payments which are based upon the completion of various phases of clinical
      trials.  The total of these payments is potentially in excess of $1.5
      million.




***Georgetown
      University-***In July 2007, the Company entered into an agreement
      with Georgetown University  for re-licensing the LE-rafAON patent
      rights for the treatment of pancreatic and prostate cancer.  The
      agreement contains milestone payments which are based upon the completion of
      phases of testing and, ultimately, approval of the NDA.  The total of
      these payments is potentially $0.9 million.




***Excel
      Life Science-***In August 2007, the Company entered into an agreement
      with Excel Life Science for the completion of Phase II clinical trials with
      the
      use of LEP-ETU for the treatment of metastatic breast cancer.  The
      agreement contains milestone payments which are based upon stages of completion
      of the phase II clinical trials.  The total of these payments is
      potentially $0.3 million.









**Item
      2. - Management’s Discussion and Analysis of Financial Condition and Results
      of Operations**







Any
      statements made by NEOPHARM, Inc. (“we”, “us”, “our”, or the “Company”) in this
      quarterly report that are forward-looking are made pursuant to the safe harbor
      provisions of the Private Securities Litigation Reform Act of
      1995.  We caution readers that important factors may affect our actual
      results and could cause such results to differ materially from forward-looking
      statements made by or on our behalf.  Such factors include, but are
      not limited to, those risks and uncertainties relating to difficulties or delays
      in development, testing, manufacturing, regulatory approval, recruitment of
      patients, production and marketing of the Company’s drug candidates, including,
      but not limited to: our drug product candidate IL13-PE38QQR, or Cintredekin
      Besudotox, and our NeoLipid® product candidates LE-SN38,
      LEP-ETU,  LE-DT, and LE-rafAON; our ability to make, or the timing of,
      a filing of any Biologics License Application, or BLA, for approval of
      Cintredekin Besudotox or new drug application or NDAwith the United States
      Food
      and Drug Administration, or FDA; our ability to conserve our cash resources,
      to
      implement reductions in general and administrative expenditures and to obtain
      additional sources of financing in the future; the performance of third-party
      contractors; uncertainty regarding the outcome of certain pending class action
      litigation;  unexpected adverse side effects or inadequate therapeutic
      efficacy of our drug product candidates, including, but not limited to,
      Cintredekin Besudotox, that could slow or prevent our drug product candidates
      coming to market; the uncertainty of patent protection for our intellectual
      property and trade secrets; our ability to raise additional funds at all or
      on
      terms acceptable to us; and other factors referenced under Item 1A, “Risk
      Factors” in Part II of this Quarterly Report on Form 10-Q and in our Annual
      Report on Form 10-K for the calendar year ended December 31, 2006 and in our
      Quarterly Reports on Form 10-Q for the quarters ended March 31, 2007 and June
      30, 2007 (the “Prior 10-Qs”).




The
      following should be read in conjunction with our condensed consolidated
      financial statements and related notes and with Management’s Discussion and
      Analysis of Financial Condition and Results of Operations and the Risk Factors
      section included as Item 1A herein and in the Company’s 2006 Annual Report
      on Form 10-K and Prior 10-Qs.  The results discussed below are not
      necessarily indicative of the results to be expected in any future
      periods.  The following discussion contains forward-looking statements
      that are subject to risks and uncertainties, which could cause actual results
      to
      differ from statements made.





**Overview**





We
      are a
      biopharmaceutical company engaged in the research, development, and
      commercialization of drugs for the treatment of cancer and other
      diseases.  Since we began our business in 1990, we have devoted our
      resources primarily to funding research and product development
      programs.  We have built our drug development program around our two
      proprietary technology platforms: a tumor-targeting toxin platform and NeoLipid®
liposomal drug delivery system. We have advanced six drug product candidates
      in
      various stages of clinical development for the treatment of cancer. The
      following table summarizes key information about our current drug product
      candidate pipeline:




13





**Drug
                  product candidate**
              
              **Clinical
                  indication(s)**
              
              **2007
                  Clinical**
                **development
                  status**
              
              **Commercialization**
                **rights**Cintredekin
                  Besudotox
                (IL13-PE38QQR)
              
              Glioblastoma
                  multiforme (brain cancer)
              
              Completed
                  Phase
                  III(1)
              
              World
                  wideLE-SN38
                *(Liposomal
                  SN-38)*
              
              Colorectal
                  cancer and other solid tumors
              
              Phase
                  II(2)
              
              World
                  wideLEP-ETU
                *(Liposomal
                  Paclitaxel)*
              
              Breast
                  cancer, ovarian cancer and other solid tumors
              
              Planning
                  possible Phase
                  II
              
              World
                  wideLE-DT
                *(Liposomal
                  Docetaxel)*
              
              Breast
                  cancer, ovarian cancer, prostate cancer and other solid
                  tumors
              
              Pre-IND
              
              World
                  wideLE-rafAON
                *(Liposomal-raf-Antisense
                  Oligonucleotide)*
              
              Pancreatic
                  and prostate cancer
              
              Re-activate
                  IND
              
              United
                  StatesCintredekin
                  Besudotox
                (IL13-PE38QQR)
              
              Pulmonary
                  fibrosis and asthma
              
              Pre-IND
              
              World
                  wide








(1)
            Representatives
                of the FDA’s Office of Oncology indicated during a review of the clinical
                data with the Company on March 28, 2007, that an additional Phase
                III
                clinical trial for Cintredekin Besudotox in the treatment of GBM
                would be
                required before the FDA could accept the Company's Biologics License
                Application (BLA).   The Company continues to evaluate its
                options regarding Cintredekin Besudotox, which is further discussed
                below
                in the Drug Product Candidate
                Summary.




(2)
            The
                Company announced on March 30, 2007 that the interim analysis of
                data
                following the completion of treatment of the first 21 patients
                demonstrated disease stabilization, but the study for LE-SN38 did
                not
                achieve the primary tumor response endpoint.  The Company is
                reassessing project next steps including additional data analyses
                and the
                possibility of other studies related to lung and breast
                cancer.







To
      date,
      we have not received FDA approval for any of our drug product
      candidates.  We expect to continue to incur losses for the foreseeable
      future as we continue our research and development activities, which include
      the
      sponsorship of human clinical trials for our drug product
      candidates.  Until we are able to successfully commercialize one or
      more of our drug product candidates, we anticipate that we will be required
      to
      fund our research and development activities primarily by other means,
      including, but not limited to, issuing equity or other securities, licensing
      drug product candidates to third parties and collaborating with third parties
      to
      develop formulations of their compounds using our technology.







**Drug
      Product Candidate Summary**





*Cintredekin
      Besudotox*





The
      drug
      product candidate which we have advanced the farthest is Cintredekin Besudotox,
      a tumor-targeting toxin being developed as a treatment for glioblastoma
      multiforme, or GBM, a deadly form of brain cancer.




We
      have
      exclusively licensed Cintredekin Besudotox from the NIH and the FDA, and have
      been developing this drug product candidate under a Cooperative Research and
      Development Agreement, or CRADA, with the FDA Center for Biologics Evaluation
      and Research, or CBER. Cintredekin Besudotox has received orphan drug
      designation in the US and Europe and holds fast track drug development program
      status from the FDA.  In addition, Cintredekin Besudotox has been
      selected to participate in the FDA’s Continuous Marketing Application, CMA,
      Pilot 2 program.  We also hold a non-exclusive license to utilize a
      patented process owned by the U.S. government relating to convection enhanced
      delivery, or CED, for use with drugs, including Cintredekin Besudotox in the
      treatment of gliomas.




14


Conventional,
      non-specific chemotherapeutic drugs attack cancer cells by stopping them from
      dividing and reproducing, but can also damage normal healthy cells because
      they
      do not discriminate between cancerous and healthy cells.  Furthermore,
      standard chemotherapy drugs are usually administered systemically, which leads
      to their distribution throughout the body rather than to one area, such as
      a
      tumor in the brain.  Common side effects of chemotherapy that are
      caused by damage to bone marrow include the body’s inability to produce enough:
      red blood cells, causing weakness and fatigue; white blood cells, lowering
      the
      body’s resistance to infections; or platelets, preventing blood from clotting
      properly, which can lead to excessive bleeding.




Cintredekin
      Besudotox, on the other hand, is being developed as a highly specific
      tumor-targeting agent.  Cintredekin Besudotox is a recombinant protein
      consisting of a single molecule composed of two parts: a tumor-targeting
      molecule and a cytotoxic agent.  The targeting component consists of
      interleukin-13(IL-13), an immune regulatory cytokine.  Malignant
      glioma cells, as compared to normal brain cells, express IL-13 receptors at
      a
      higher density.  The cytotoxic agent is a potent bacterially derived
      toxin called PE38.  Cintredekin Besudotox is designed to detect and
      bind IL-13 receptors on the surface of malignant glioma cells and selectively
      deliver PE38 to destroy tumor cells while sparing healthy surrounding
      cells.  Cintredekin Besudotox is administered by a technique known as
      convection-enhanced delivery, or CED, in which the drug is delivered through
      catheters inserted in brain tissue surrounding the tumor (peritumoral
      administration) or into the tumor (intratumoral administration) following
      surgical resection of the tumor.  CED is designed to infuse
      Cintredekin Besudotox directly to the tumor site and adjacent brain tissue
      with
      the goal of killing resident tumor cells and preventing recurrence of tumor
      cell
      growth, and minimize systemic drug exposure and toxicity.




During
      2006 and the first quarter of 2007, the Company primarily focused on completing
      its Phase III testing and  commercialization strategy for Cintredekin
      Besudotox, including the preparation of the corresponding BLA submission to
      the
      FDA.  However, upon review of the PRECISE trial results with the
      Company on March 28, 2007, the FDA concluded that an additional Phase III trial
      would be required prior to acceptance of a potential BLA filing by the Company,
      which will substantially delay, or even prevent, the potential commercialization
      of the product.




A
      second
      Phase III clinical trial, if pursued, is currently estimated to require at
      least
      three additional years and approximately $25,000,000 to complete.  As
      the Company does not have sufficient resources to undertake such a project,
      this
      would require that substantial additional financing be obtained or made
      available to the Company from sources outside the Company in order to
      independently pursue the completion of the trial.




Nevertheless,
      and despite the FDA conclusions, the Company continues to believe that
      Cintredekin Besudotox has demonstrated sufficient efficacy to potentially
      attract a third party via a licensing arrangement, joint venture or other means,
      that may enable the completion of a second Cintredekin Besudotox Phase III
      trial.  If such an arrangement were to be entered into, and there can
      be no assurance given that such financing or other arrangement would become
      available, or, even if available, that it would be on terms acceptable to the
      Company, it is hoped that data could be generated from a second Phase III trial
      that could demonstrate statistically superior efficacy and safety of Cintredekin
      Besudotox based on, among other factors, enhanced catheter placement technology
      not available during the PRECISE study, a narrowed focus of testing centers
      and
      a genetic study that would help to identify patients that may be more responsive
      to treatment.




The
      Company continues to evaluate its options related to Cintredekin
      Besudotox.  There can be no assurance that the Company will be
      successful in attracting and then consummating any third party agreement or
      other financing that would enable the completion of a second Phase III trial,
      or
      if a second Phase III trial is completed, that data evidencing statistical
      superiority would be generated, or, even if such data were produced, that the
      FDA might require still more data or that the FDA would accept or approve a
      BLA
      submission by the Company.







*NeoLipid®
      Platform*




*LE-SN38*




LE-SN38
      is
      our NeoLipid**®** liposomal formulation of SN-38, the active
      metabolite of Camptosar® (Pfizer Inc.), a chemotherapeutic pro-drug, which is
      used as a first-line and second-line colorectal cancer treatment. At the present
      time, without the NeoLipid® system, SN-38 is insoluble and can only be used to
      treat cancer by administering the pro-drug Camptosar®.  A pro-drug is
      a compound that is converted into the active drug in the body. However,
      Camptosar® is converted into SN-38 in the liver at different rates by different
      patients, and this variability in conversion rates can result in suboptimal
      dosing and adverse side effects, such as severe diarrhea.  Hence, it
      is apparent that new modalities of treatment should be developed to circumvent
      these toxicities.  By employing our proprietary NeoLipid® technology
      to deliver SN-38, we hope to deliver the active drug to the tumor cells without
      the need for conversion, therefore minimizing variability and optimizing dose
      with minimal side effects.




During
      2004, we completed a Phase I clinical trial for LE-SN38. Results from this
      Phase
      I study demonstrated the safety and tolerability of LE-SN38 and established
      a
      maximum tolerated dose of 35 mg/m2  (MTD) for
      all but a small subset of patients who metabolize SN-38
      slowly.  Pharmacokinetic analysis of blood samples from patients
      treated with LE-SN38 showed that blood levels and systemic drug exposure to
      SN-38 were comparable to or greater than that expected from the marketed
      Camptosar® dose based on previously published studies.




15


During
      the
      second quarter of 2006, in conjunction with the Cancer and Leukemia Group B,
      CALGB, we initiated enrollment in a Phase II clinical trial with LE-SN38 in
      metastatic colorectal cancer patients, and completed enrollment of the 21st
      patient in December, 2006.




On
      March
      30, 2007, the Company announced that the interim analysis of data following
      the
      completion of treatment of the first 21 patients demonstrated disease
      stabilization, but the study did not achieve the primary tumor response
      endpoint.  The Company is continuing to reassess the clinical outcome
      with respect to patients’ demography, prior chemotherapy exposure, advanced
      stage of the disease, and other related factors. The Company is also assessing
      the potential  next steps for this project including additional data
      analyses and the possibility of other studies related to lung cancer and breast
      cancer with LE-SN38.







*LEP-ETU*




LEP-ETU
      is
      our NeoLipid® liposomal formulation of the widely used cancer drug,
      paclitaxel.  Paclitaxel, also known as Taxol® (Bristol-Myers Squibb
      Company), has been approved in the US for the treatment of ovarian, breast
      and
      lung cancers.  Despite paclitaxel’s wide use and its tumor cytotoxic
      characteristics, its effectiveness can be limited by its adverse side effects,
      which can include nausea, vomiting, hair loss and nerve and muscle
      pain.  Because of the chemical characteristics of paclitaxel, it
      cannot be introduced into the body unless it is first formulated in a mixture
      of
      castor oil (Cremophor®) and ethanol, which can lead to significant side effects
      such as hypersensitivity reactions.  We believe that by using our
      proprietary NeoLipid® technology, which eliminates the need for Cremophor and
      ethanol, LEP-ETU may overcome many current limitations of paclitaxel treatment
      for cancer patients and may limit the adverse side effects of current
      treatments.




During
      2004, we completed a Phase I clinical trial for LEP-ETU.  Results of
      the study indicated that LEP-ETU appeared to be well tolerated in terms of
      typical paclitaxel side effects by the majority of patients, including those
      receiving the higher doses of drug, as well as those who were not premedicated
      with antihistamines and steroids. Antitumor activity was observed, with 16%
      of
      patients experiencing partial responses (shrinkage of tumor by 50% or
      more).  Additionally, 44% of patients evidenced stable disease and
      were able to complete 4 or more, 3-week cycles of LEP-ETU
      treatment.  Patients previously treated with taxanes were among those
      who responded to LEP-ETU.




In
      the
      near future, the Company plans to initiate a Phase II program of LEP-ETU in
      recurrent breast cancer patients and, depending on the outcome of those clinical
      results, we may decide to undertake multicenters and multinational Phase III
      trials in this indication after thorough discussions with FDA.







*LE-DT*




Pre-clinical
      work has also advanced on our earlier stage liposomal formulation of the
      anti-cancer agent docetaxel, LE-DT, which is the active ingredient in Sanofi
      Aventis’ Taxotere® which is approved for use in certain breast cancer, non-small
      cell lung cancer, gastric adenocarcinoma and head and neck cancer
      indications.  We anticipate filing an LE-DT Investigational New Drug
      Application, or IND, with the U.S. FDA in late
      2007.   Thereafter, we intend to start a Phase I trial with LE-DT
      to define the toxicities, pharmacokinetics and maximum tolerated dose with
      this
      new modality of treatment.




*LE-rafAON*




Preclinical
      work with the new formulation of LE-rafAON is ongoing and we expect to submit
      a
      revised IND to FDA in the first quarter of 2008.  The antisense
      oligonucleotide agent c-raf has shown significant down regulation of the gene
      in
      Preclinical studies. Also, LE-rafAON has exhibited significant radiation
      sensitization and chemo sensitization with other anticancer agents such as
      Gemcitabine and Paclitaxel in human xenograft models in mice.  We plan
      to perform the bridging Phase I trial with this newly formulated LE-rafAON
      and
      thereafter start Phase II trials in pancreatic and prostate cancer models where
      this gene seems to be potentially over expressed.




16


*Cintredekin
      Besudotox*




The
      Company has recently licensed IL13-PE38 from NIH, FDA, and University of
      Michigan as a potential therapeutic agent for the treatment of pulmonary
      fibrosis and asthma. The Company’s collaborators have completed extensive
      preclincal studies in animal models for the control and reversal of pulmonary
      fibrosis with this agent. In asthma, IL13-PE38 has shown significant activity
      as
      well. Other preclincal toxicology studies are also performed. The Company
      intends to request a pre-IND meeting with FDA and plan to submit an IND to
      FDA
      for Phase I evaluation based on the outcome of the discussion in near
      future.




However,
      in conversation with the FDA, significant safety studies have to be performed
      in
      animals to demonstrate any potential side effects in humans.  We
      currently plan to pursue these studies  and hope to file a IND in the
      third quarter of 2008.













We
      intend
      to further develop the NeoLipid® drug product candidates by using our internal
      resources and by continuing to collaborate with other companies and leading
      governmental and educational institutions.




In
      addition, we intend to explore the use of our proprietary NeoLipid® liposomal
      drug
      delivery technology to create new products in two ways: life cycle management,
      therefore extending the patent life and/or modifying the pharmacokinetic profile
      of existing cancer drugs, and by utilizing our platform to develop new
      drugs.  We are aware of several widely used cancer drugs that are
      nearing patent expiration, as well as other widely used cancer drugs with
      patents that have expired.  When a drug is combined with another agent
      or delivery system in a novel way, its patent life may be
      extended.  Additionally, while many chemotherapeutic drugs have been
      effective for the treatment of cancer, these drugs have been limited in their
      use because of adverse side effects and difficulties in
      administration.  Using our NeoLipid® drug delivery technology, we
      believe opportunities exist for us to increase the usefulness of these compounds
      as improved anti-cancer treatments.  Finally, we believe that our
      liposomal drug delivery technology may provide us with a platform for the
      development of novel therapeutic agents for cancer drug
      development.




It
      is
      difficult to predict with any certainty the timing of and total estimated costs
      to complete development of drug product candidates in early stage, or Phase
      I,
      clinical development, as well as the estimated date such drug product candidates
      would be available for sale, if approved by the FDA.  A number of
      factors contribute to this uncertainty, including: side effects encountered
      in
      early stage clinical trials, ability to scale up manufacturing for commercial
      supply, and the fact that the size and scope of pivotal Phase III clinical
      trials are unknown until sufficient data is available to present a Phase III
      plan to the FDA for approval.   In addition, our drug product
      candidates require approval by the FDA after completing Phase III clinical
      trials before we can sell the drugs to generate revenue and, potentially,
      realize net cash inflows.  Additional substantial clinical trial
      expenses are expected to be incurred for Cintredekin Besudotox to meet our
      ongoing patient and potential manufacturing obligations.




The
      table
      below includes a summary of identified direct project costs incurred to date
      for
      our clinical research and development projects.  Generally, identified
      project costs include expenses incurred specifically for clinical trials and
      pre-clinical studies we conduct, and exclude expenses incurred for salaries
      paid
      to our professional staff, our Waukegan facility and the related depreciation
      of
      equipment as well as  general laboratory supplies used in our
      research, which are included with non-project specific costs.






**Total
                  Direct Costs****Research
                  Project**
              
              **Three
                  months ended**
                **September
                  30, 2007**
              
              
              **Nine
                  months ended**
                **September
                  30, 2007**
              
              
              **Cumulative
                  costs through**
                **September
                  30, 2007**Cintredekin
                  Besudotox (IL13-PE38QQR)
              
              $
              414,000
              
              
              $
              1,927,000
              
              
              $
              68,187,000LEP-ETU
              
              
              97,000
              
              
              
              191,000
              
              
              
              7,774,000LE-SN38
              
              
              24,000
              
              
              
              79,000
              
              
              
              5,306,000LE-DT
              
              
              294,000
              
              
              
              436,000
              
              
              
              436,000LE-rafAON
              
              
              6,000
              
              
              
              29,000
              
              
              
              29,000Non-project
                  specific
              
              
              833,000
              
              
              
              3,513,000
              
              
              N/ATotal
                  research and development expenses
              
              $
              1,668,000
              
              
              $
              6,175,000
              
              
              N/A




17





**Results
      of Operations – Three Months Ended September 30, 2007 vs. Three Months Ended
      September 30, 2006.**




There
      was
      no product revenue for the three months ended September 30, 2007, as compared
      to
      $1,000 for the three months ended September 30, 2006.  The sole source of
      the $1,000 in product revenue in the third quarter 2006 was from sales of
      NeoPhectin and NeoPhectin-AT.




Research
      and development expense for the three months ended September 30, 2007 decreased
      by almost $2.7 million compared to the same period in 2006.  The decrease
      is attributed to a $0.9 million reduction in payroll expenses, primarily
      attributed to the Company’s various restructuring initiatives implemented during
      2006 and 2007 and a $1.6 million decrease in project costs.  The
      decrease in project costs is primarily attributed to decreases in the PRECISE
      trial and Initial Diagnosis GBM Phase I trial expenditures related to sites
      costs, data management and third party contract services.




Selling,
      general, and administrative expenses decreased approximately $2.4 million for
      the three months ended September 30, 2007 compared to the same period in
      2006.  The decrease is primarily attributed to a $1.1 million decrease in
      personnel costs primarily related to the Company’s various restructuring
      initiatives in 2006 and 2007.  Additionally, the scaling back of the
      sales and marketing efforts in 2007 resulted in a reduction of $.5 million
      in
      non-personnel costs.  A reduction of $.5 in professional and
      consulting costs also resulted.




The
      change
      in fair value of derivative financial instruments of $(11,000) during the three
      month period ended September 30, 2007 was attributed to a decrease in valuation
      of stock options granted to non-employee consultants prior to 2000 resulting
      from the Company’s stock value declining $0.16 per share since the beginning of
      the third quarter to $0.99 per share at September 30,
      2007.   Similarly, the Company recorded a credit to earnings of
      $(0.1) million in the third quarter of 2006, resulting from a decrease in the
      Company’s stock price from $5.33 at June 30, 2006 to $4.85 per share at
      September 30, 2006.




Facility
      consolidation costs of $0.3 million for the three months ended September 30,
      2007 resulted from a charge totaling $0.3 million to reduce the carrying value
      of fixed assets, primarily furniture and laboratory equipment, to their
      estimated net realizable value.  In the three months ended September
      30, 2006, we recorded $0.3 million as the remaining lease exposure on the Lake
      Forest, Illinois facility that we had vacated and wrote off $0.1 million in
      related equipment and leasehold improvements.




Other
      income of $2.0 million dollars resulted from the reversal of the amount that
      had
      been recorded in deferred income.  As discussed in Note 8, the Company
      received notification on September 11, 2007, that Nippon Kayaku Co, Ltd had
      elected to terminate the licensing agreement they had entered into with the
      Company in 2004 for which they had paid to the Company a non-refundable license
      fee of $2.0 million.  This amount had been recorded as deferred income
      at that time.





The
      Company generated interest income on cash and available for sale securities
      of
      approximately $0.3 million and $0.6 million for the three months ended September
      30, 2007 and 2006, respectively.  The decrease in interest income
      during the period was primarily due to a decrease in average short-term
      investment balances, which were used to fund operations.





**Results
      of Operations – Nine Months Ended September 30, 2007 vs. Nine Months Ended
      September 30, 2006.**




There
      was
      no product revenue for the nine months ended September 30, 2007, as compared
      to
      $11,000 for the nine months ended September 30, 2006.  The sole source of
      the $11,000 in product revenue in the nine month period of 2006 was from sales
      of NeoPhectin and NeoPhectin-AT.




Research
      and development expense for the nine months ended September 30, 2007 decreased
      by approximately $10.0 million compared to the same period in 2006.  The
      decrease is attributed to a $3.4 million reduction in payroll expenses,
      primarily attributed to the Company’s various restructuring initiatives
      implemented during 2006 and 2007 and a $6.2 million decrease in project
      costs.  The decrease in project costs is primarily attributed to
      decreases in the PRECISE trial and Initial Diagnosis GBM Phase I trial
      expenditures related to sites costs, data management and third party contract
      services.




Selling,
      general, and administrative expenses decreased approximately $4.7 million for
      the nine months ended September 30, 2007 compared to the same period in
      2006.  The decrease is attributed to a $2.0 million decrease in personnel
      costs, also primarily attributed to the Company’s various restructuring
      initiatives implemented during 2006 and 2007, which includes an offsetting
      increase of $0.4 million in costs associated with the termination of the
      Company’s former Chief Executive Officer in March, 2007.  With the
      reduction in people and cost containment measures put into effect, the Company
      has been able to realize reductions in spending in legal, consulting, travel
      expenses, equipment lease costs, board of director compensation, and office
      supplies totaling $2.1 million.




18


Following
      the Company’s announcement on March 29, 2007 that additional Phase III clinical
      trials have been recommended for its drug product candidate, Cintredekin
      Besudotox, the Company initiated an organizational realignment on April 18,
      2007
      which reduced the workforce from 36 to 21 employees resulting in a charge to
      earnings totaling approximately $0.6 million.  Similarly in April 2006
      the Company reduced its workforce by a total of 22 employees, primarily in
      the
      research and development departments, resulting in a charge totaling $0.6
      million.  Currently, the Company has 15 employees.




The
      change in fair value of derivative financial instruments of $(64,000) during
      the
      nine month period ended September 30, 2007 was attributed to a decrease in
      valuation of stock options granted to non-employee consultants prior to 2000
      resulting from the Company’s stock value declining $0.55 and $0.16 per share in
      the second and third quarters respectively to $0.99 per share at September
      30,
      2007 and remaining relatively constant during the first
      quarter.   Similarly, the Company recorded a credit to earnings
      of  $(1.3) million in the first nine month  period of 2006,
      resulting from a decrease in the Company’s stock price from $10.79 at December
      31, 2005 to $4.85 per share at September 30, 2006.




Facility
      consolidation costs of $0.3 million for the nine months ended September 30,
      2007
      resulted from a charge totaling $0.3 million to reduce the carrying value of
      fixed assets, primarily furniture and laboratory equipment, to their estimated
      net realizable value.  In the nine months ended September 30, 2006, we
      recorded $0.3 million as the remaining lease exposure on the Lake Forest,
      Illinois facility that we had vacated and wrote off $0.1 million in related
      equipment and leasehold improvements.




The
      Company generated interest income on cash and available for sale securities
      of
      approximately $1.1 million and $2.0 million for the nine months ended September
      30, 2007 and 2006, respectively.  The decrease in interest income
      during the period was primarily due to a decrease in average short-term
      investment balances, which were used to fund operations.










**Liquidity
      and Capital Resources**





Net
      cash
      used in operating activities decreased $9.5 million from $24.5 million to $15.0
      million for the nine months ended September 30, 2006 and 2007,
      respectively.  The decrease in cash used by operations was primarily a
      result of the lower net loss in the first nine months of 2007, offset by the
      significant reduction in accounts payable balances which were paid down in
      the
      first nine months of 2007.




In
      January 2006, the Company completed the sale of 4,025,000 shares of our
      common stock to the public. Proceeds to the Company were approximately $39.0
      million net of underwriting fees but before expenses. The proceeds from this
      sale of stock were invested in available for sale securities and are being
      used
      to fund clinical trials of our drug product candidates; preclinical studies
      for
      other potential drug product candidates; and for working capital, capital
      expenditures, and other general corporate purposes.  The Company
      continues to draw down proceeds from sales of these securities during both
      2007
      and 2006 to fund such activities.




Our
      primary source of cash has been proceeds from issuance of our common shares
      and
      interest earned on the investment of the stock issuance proceeds.  As
      of September 30, 2007, we had $61,000 in cash and cash equivalents and
      $23.4 million in available for sale securities, consisting solely of state
      government auction rate certificates, which we believe provide us liquidity
      characteristics very similar to cash equivalents.




Our
      primary use of cash over the next 12 to 18 months is expected to fund, in
      addition to general and administrative expenses,  advancement of our
      NeoLipid® clinical and pre-clinical research and development efforts and our
      remaining Cintredekin Besudotox Phase III clinical trial patient
      obligations.




As
      a
      result of the April 18, 2007 restructuring initiative coupled with other ongoing
      cost-cutting initiatives, the Company expects to reduce selling, general and
      administrative expenditures for 2007 by approximately $6.9 million compared
      to
      2006.  The total cost reductions implemented and planned, before
      consideration of project costs and certain legacy costs are expected to result
      in annualized cash consumption rate of approximately $5.0 million. The Company
      currently projects it has sufficient funds to continue operations into 2009
      before requiring additional financing.  The date as to which
      sufficient funds continue to be available for operations, without additional
      financing, may vary depending upon the timing and implementation of various
      strategies under consideration by the Company.




19


We
      may
      seek to meet future funding requirements through public or private offerings
      of
      securities or with collaborative or other development or licensing arrangements
      with corporate or private venture partners. Additional financing may not be
      available when needed or on terms acceptable to us, if at all.  If
      adequate financing is not available, we may be required to further delay, scale
      back, or eliminate certain of our research and development programs, relinquish
      rights to certain of our technologies, drugs or products, or license our
      products or technologies to third parties that we would otherwise seek to
      develop ourselves.




We
      have no
      exposure to off-balance sheet arrangements, no special purpose entities, or
      activities that include non-exchange-traded contracts accounted for at fair
      value.







**Critical
      Accounting Policies**





In
      preparing our financial statements in conformity with U.S. generally accepted
      accounting principles, or GAAP, we must make a variety of decisions and
      estimates that impact reported results and related disclosures. Such decisions
      include the selection of the appropriate accounting principles to be applied,
      the assumptions on which our accounting estimates are based, and the consistent
      application of those accounting principles. Due to the industry in which we
      operate and the nature of our business, the following accounting policies are
      those that we believe are most important to the portrayal of our financial
      condition and results and that require the most difficult, subjective or complex
      judgments, often as a result of the need to make estimates about the effect
      of
      matters that are inherently uncertain.





*Income
      Taxes*





Income
      taxes are accounted for under SFAS No. 109, “Accounting for Income Taxes”,
      in which 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
      bases and operating loss and tax credit carry forwards.  Deferred tax
      assets and liabilities are measured using enacted tax rates that are expected
      to
      be in effect in the years in which those temporary differences are expected
      to
      be recovered or settled.   We recognize, at the largest amount
      that is more-likely-than-not to be sustained upon audit by the relevant taxing
      authority, the impact of an uncertain income tax position on its income tax
      return.  An uncertain income tax position will not be recognized if
      management judges that it has less than a 50% likelihood of being
      sustained.  Interest expense and penalties are recorded as income tax
      expense.  We provide valuation allowances against deferred tax assets
      for amounts which are not considered “more likely than not” to be
      realized.





*Contingencies*





To
      properly account for and provide disclosure of loss contingencies, management
      must apply judgment in determining whether a loss contingency is: probable,
      reasonably possible, or remote. In instances where management has determined
      that a loss contingency is probable, it must make use of estimates to determine
      the amount of probable loss. Management must apply judgment in determining
      whether or not it can make a reasonable estimate. Management must also apply
      judgment in determining whether or not disclosure of loss contingencies that
      have been accrued should be made for the consolidated financial statements
      not
      to be misleading.





*Stock-Based
      Compensation*





The
      Company accounts for stock-based compensation in accordance with SFAS
      No. 123R, *Share-Based Payment*. Under the fair value recognition
      provisions of this statement, we measure stock-based compensation cost at the
      grant date based upon the fair value of the award and recognize the cost of
      awards that are expected to ultimately vest as expense over the requisite
      service period. Management judgment and the use of estimates are required in
      determining the inputs to an option pricing model used to estimate fair value
      of
      stock-based awards. Management judgment and the use of estimates are also
      required in estimating the number of stock-based awards that will ultimately
      vest. Additionally, management judgment and the use of estimates may be required
      in determining the requisite service period over which to recognize the
      compensation cost as expense.








**Item
      3.– Quantitative and Qualitative Disclosures
      about Market Risk**





As
      of
      September 30, 2007, we did not own any derivative instruments, but we were
      exposed to market risks, limited primarily to the impact of changes in U.S.
      interest rates on our cash and available for sale securities. As of September
      30, 2007, we held total cash and cash equivalents of $61,000 and available
      for
      sale securities in auction rate certificates of $23.4 million.  All
      cash equivalents have a maturity of less than 90 days.  Declines
      in future interest rates would reduce interest income from our investments.
      Based upon our balance of cash, cash equivalents and available for sale
      securities at September 30, 2007, a 1.0% decline in interest rates would
      decrease our annual interest income by approximately $0.2 million.




20


**Item
      4.– Controls and Procedures**





*Evaluation
      of Disclosure Controls and Procedure*




Our
      disclosure controls and procedures are designed to ensure that information
      required to be disclosed in the reports that we file or submit under the
      Securities Exchange Act of 1934, as amended, is recorded, processed, summarized
      and reported within the time periods specified in the Securities and Exchange
      Commission’s rules and forms, including ensuring that such information is
      accumulated and communicated to management as appropriate to allow timely
      decisions regarding required disclosure.  We necessarily apply
      judgment in assessing the costs and benefits of such controls and procedures
      that, by their nature, can only provide reasonable assurance regarding
      management’s control objectives.




Our
      President and Chief Executive Officer/Acting Chief Financial Officer, has
      carried out an evaluation, with the participation of our management and outside
      consultants, of the effectiveness of the Company’s disclosure controls and
      procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of
      1934), as of the end of the period covered by this report, based on the
      evaluation required by paragraph (b) of Rule 13a-15 under the Securities
      Act of 1934.




Based
      on
      the evaluation of internal control over financial reporting, management
      identified the following material weakness as of March 31, 2007 and determined
      that it still exists as of September 30, 2007:




The
      Company has not maintained sufficient staff with appropriate training in
      US GAAP and SEC financial rules and regulations.  This deficiency
      results in the potential of material misstatements and/or inadequate disclosures
      in the Company’s financial statements.




As
      a
      result of this material weakness, management concluded that internal controls
      over financial reporting were not effective as of September 30, based on the
      criteria identified above.




In
      light
      of the material weakness described above, in preparing our financial statements
      at and for the nine months ended September 30, 2007, we performed additional
      procedures in an attempt to ensure that such financial statements were fairly
      presented in all material respects in accordance with generally accepted
      accounting principles.  Notwithstanding the material weakness
      described above, management believes that the condensed consolidated financial
      statements included in this Form 10-Q fairly present, in all material
      respects, the Company’s financial condition, results of operations and cash
      flows for the periods and dates presented.






*Changes
      in Internal Control Over Financial Reporting and Management’s Remediation
      Efforts*




Our
      management has discussed the material weakness described above and other
      potential deficiencies with our Audit Committee.   In an effort
      to improve our internal controls over financial reporting, we engaged a third
      party financial advisory firm to assist us in both the proper accounting and
      disclosures related SFAS 123R *Share-Based Payment* as well as GAAP and
      SEC reporting matters.  In addition, given the earlier reduction in
      force and the depleted resources in the accounting function, the Company
      continued to utilize outside consultants to oversee the financial accounting
      function and to perform additional procedures as deemed necessary to compensate
      for the deficiencies. Subsequent to the end of the third quarter, the Company
      hired a full-time Controller who is charged with responsibility for remediating
      these weaknesses in the near future.  Until these remediation efforts
      can be finalized and subsequently tested to ensure effectiveness, the Company
      will continue to utilize outside financial advisory consultants to assist in
      performing additional procedures to ensure the propriety of the entries recorded
      in the Company’s financial records.




We
      are
      continuing to evaluate the finance and accounting functions to ensure we meet
      all of our financial reporting obligations.




21


**PART
      II - OTHER INFORMATION**





**Item
      1. - Legal Proceedings**





NEOPHARM,
      Inc. and certain of our former officers have been named in a consolidated
      amended complaint, which alleges various violations of the federal securities
      laws in connection with our public statements regarding our LEP drug product
      candidate during the period from October 31, 2001 through April 19,
      2002.  On November 4, 2002, we moved to have the complaint
      dismissed.  Our motion to dismiss was granted in part and denied in
      part in February 2003. In November 2004, the plaintiffs filed a motion to amend
      and a motion for summary adjudication. The motion to amend seeks to include
      certain pre-class period statements in the complaint.  The motion for
      summary adjudication asks the Court to rule that certain statements made in
      an
      arbitration award regarding the LEP drug product candidate be deemed facts
      established in this proceeding.  On February 23, 2007, the Court
      entered an order denying both the plaintiffs’ motion to amend and the
      plaintiffs’ motion for summary adjudication.  Fact discovery is closed
      and the Court has set an expert discovery cut-off date of January 25,
      2008.  No trial date has yet been set.  We intend to
      vigorously defend each and every claim in the complaint. Management is unable
      to
      estimate the potential outcome or range of possibilities, if any.  In
      addition, we maintain insurance coverage to mitigate the financial impact of
      any
      potential loss.




We
      entered
      into various contractual arrangements, primarily during the fourth quarter
      of
      2006, under take or pay agreements, with Diosynth Biotechnology, Inc.
      (“Diosynth”), to secure access to manufacturing capacity for the potential
      manufacture and regulatory advancement of Cintredekin Besudotox through early
      2008.  As a result of the FDA’s decision to require additional Phase
      III clinical testing of Cintredekin Besudotox, the Company advised Diosynth
      that
      the timing of further work to support a potential BLA submission must be
      delayed.  Diosynth has indicated that such a delay constitutes a
      default under our contract.  In response, the Company invoked the
      dispute resolution provisions of the contract in an attempt to resolve these
      and
      other differences between the two companies.  A dialogue between the
      senior executives of our Company and Diosynth is still ongoing.  In
      the event these discussions fail to resolve the parties’ differences, the
      contract calls for mediation and eventually binding
      arbitration.  Under the terms of the various contractual arrangements,
      if the Company can not settle its outstanding differences with Diosynth, and
      Diosynth should refuse to delay the related disputed manufacturing activity,
      and
      such dispute were to culminate in an arbitration judgment against the Company,
      we may be obligated to pay half of the disputed processing costs.  The
      Company currently estimates exposure to be approximately $2.4 million at
      September 30, 2007.




We
      are from time to time subject to claims and litigation arising in the ordinary
      course of business.  We intend to defend vigorously any such
      litigation that may arise under all defenses that would be available to
      us.  In the opinion of management, the ultimate outcome of those
      proceedings of which management is aware, even if adverse to us, will not have
      a
      material adverse effect on our consolidated financial position or results of
      operations.  While we maintain insurance to cover the use of our drug
      product candidates in clinical trials, we do not presently maintain insurance
      covering the potential commercial use of our drug product candidates and there
      is no assurance that we will be able to obtain or maintain such insurance on
      acceptable terms.







**Item
      1A. - Risk Factors**





Below
      are
      the risk factors that have been revised since the filing of our annual report
      on
      March, 16, 2007 on Form 10-K for the year ended December 31, 2006 (the
“2006 Form 10-K”) and our Quarterly Reports on form 10-Q for the Quarters ended
      March 31, 2007 and June 30, 2007 (“Prior 10-Qs”).  We face significant
      additional risks, which are set forth in the Part 1, Item 1A in our 2006 Form
      10-K under the caption “Risk Factors.”  You are urged to read these
      risk factors in the 2006 Form 10-K and Prior 10-Qs, in addition to the following
      revised risk factors set forth below.  Each of the risk factors set
      forth here and in our 2006 Form 10-K and Prior 10-Qs could materially adversely
      affect our business, operating results and financial condition, as well as
      the
      value of an investment in our common stock.   Additional risks
      and uncertainties not presently known to us, or those we currently deem
      immaterial, may also materially harm our business, operating results and
      financial condition.





**Our
                stock price has been and is likely to continue to be volatile, and
                an
                investment in our common stock could decline in value.  During
                the three months ended September 30, 2007 our stock price has fallen
                below
                $1.00 on three different occasions.  Were our stock price to
                remain below $1.00 per share for thirty consecutive business days,
                or were
                we to fail to otherwise satisfy NASDAQ listing requirements, our
                stock
                could be delisted by
                NASDAQ.**




The
      market
      price of our common stock has been highly volatile and may continue to be so.
      For example, during 2006, the market price of our common stock fluctuated
      between $1.66 and $12.67 per share and during 2005 the market price of our
      common stock fluctuated between $15.47 and $7.16 per share.  Over the
      three month period ended September 30, 2007, our stock price has fallen below
      $1.00 per share on three different occasions, closing under $1.00 for periods
      of
      12, 6, and 5 consecutive business days, respectively.  As of November
      5, 2007 our stock closed at $1.09.




22


Failure
      to
      maintain NASDAQ listing requirements, including but not limited to, a minimum
      bid price of $1.00 per share for 30 consecutive business days, would result
      in
      notification of a possible delisting if the deficiency were not corrected,
      a
      delisting of our stock could be expected to have a negative impact on the value
      of our shares.




The
      following factors, among others, could have a significant impact on the market
      price of our stock:




·
            the
                success or failure of our clinical trials or those of our
                competitors;


·
            our
                ability to conserve our cash resources or to obtain financing, when
                needed;


·
            litigation,
                including, but not limited to, current class action
                lawsuits;


·
            actual
                or anticipated fluctuations in our financial
                results;


·
            economic
                conditions in the US and abroad;


·
            comments
                by or changes in Company assessments or financial estimates by securities
                analysts;


·
            adverse
                regulatory actions or decisions;


·
            losses
                of key management;


·
            changing
                governmental regulations;


·
            our
                ability to secure adequate third party reimbursement for products
                developed by us;


·
            developments
                or disputes concerning patents or other proprietary
                rights;


·
            product
                or patent litigation; and


·
            public
                concern as to the safety of products developed by
                us.




Additionally,
      volatility or a lack of positive performance in our stock price may adversely
      affect our ability to retain key employees, all of whom have been granted stock
      options.




These
      factors and fluctuations, as well as political and market conditions, may
      materially adversely affect the market price of our common stock.






**We
                have lost key management personnel and may be unable to attract and
                retain
                the talent required for our business, and therefore our business
                could be
                harmed.**





Since
      January 1, 2006, we have had substantial turnover in our personnel at all
      levels, but particularly among our senior management ranks, with all of the
      named executive officers serving as of that date having either resigned or
      been
      terminated.  With the exception of the position of President and Chief
      Executive Officer, we have not yet filled several of these
      positions.  At the present time, we are highly dependent on our
      President and Chief Executive Officer, Mr. Laurence P. Birch, who is also
      serving as our Acting Chief Financial Officer.  Additionally, our
      Chief Medical Officer Dr. Jeffrey W. Sherman left us effective June 18, 2007
      and
      we are postponing a search for a replacement until our clinical trial activity
      necessitates full-time oversight.  Dr. Aquilur Rahman, one of the
      original founders of the Company, has been retained as an outside consultant
      and
      will function as the Company’s Chief Scientific Officer and will work with the
      rest of the team to oversee our pre-clinical activities.  In September
      2007, Dr. Shahid Ali was appointed Executive Vice President, Research and
      Development.  Dr. Ali will work in the area of preclinical activities
      as well as being responsible for developing a pathway forward for the Company’s
      drug portfolio.  Mr. Timothy Walbert’s position as Executive
      VP-Commercial Operations was no longer considered vital to current operations
      of
      the Company given the delay in the commercialization of Cintredekin Besudotox
      and as a result, the position was eliminated as part of the
      April  2007 restructuring initiative.  Mr. Walbert left us
      effective May 31, 2007.




Mr. Birch
      has a written employment contract with us, which also provides post termination
      benefits as described therein. We do not have key man insurance on any of our
      management.  If we were to lose the services of Mr. Birch, or are
      unable to replace other key members of our senior executive staff, (including
      our consultant, Dr. Rahman), our product development and achievement of our
      strategic objectives could be delayed.  In addition, our success will
      depend on our ability to attract and retain qualified commercial, scientific,
      technical, and managerial personnel.  Given the large turnover in our
      employees, and the recent set backs in our various clinical trials, it is
      expected that recruiting additional personnel and retaining our existing
      personnel will be more difficult.  No assurance can be given that we
      will be able to retain existing personnel or attract and retain qualified staff
      in the future.







**Material
                weaknesses or deficiencies in our internal control over financial
                reporting could harm stockholder and business confidence in our financial
                reporting, our ability to obtain financing, and other aspects of
                our
                business.**




23


Our
      management evaluated the effectiveness of the design and operation of our
      disclosure controls and procedures as of the three months ended September 30,
      2007 and concluded that our disclosure controls and procedures were not
      effective as of that date, because of the material weakness in our internal
      control over financial reporting.  Specifically, management has
      concluded that the Company’s accounting staff did not have sufficient expertise
      in the area of U.S. GAAP and SEC financial rules.  A material weakness
      is a control deficiency, or combination of control deficiencies that results
      in
      more than a remote likelihood that a material misstatement of the annual or
      interim financial statements will not be prevented or detected. 
****A description of the material weakness related to our
      inadequate controls over financial reporting is set forth above in Part I,
      Item 4 “Controls and Procedures”.




While
      we
      have adopted, or are in the process of adopting, various remedial measures
      that
      are designed to improve our internal controls over financial reporting, we
      cannot assure you, however, that these remedial measures will be
      effective.




Internal
      control over financial reporting can provide only reasonable and not absolute
      assurance that deficiencies or weaknesses are identified. Additionally,
      potential control deficiencies that are not yet identified could emerge and
      internal controls that are currently deemed to be in place and operating
      effectively are subject to the risk that those controls may become inadequate
      because of changes in conditions, or that the degree of compliance with the
      policies or procedures may deteriorate. Identification and corrections of these
      types of potential control deficiencies could have a material impact on our
      business, financial position, results of operations and disclosures and impact
      our ability to raise funds.




Additionally,
      as of September 30, 2006, management had concluded that a control deficiency
      with respect to the review and verification of the accuracy of the calculation
      estimating the fair value of non-employee stock options constituted a material
      weakness in internal control over financial reporting.




During
      2006, management revised its policies and procedures with respect to its
      controls over the review and verification of the accuracy of the calculation
      estimating the fair value of non-employee stock options to ensure that all
      reasonable steps will be taken to correct this material weakness.  At
      December 31, 2006, this deficiency was considered to be remediated as the new
      internal controls were operational for a period of time, were tested, and
      management concluded that the controls are operating effectively at that
      time.





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





None





**Item
      3. - Defaults Upon Senior
      Securities**





None


24


**Item
      4. - Submission of Matters to a Vote of Security
      Holders**




On
                  August 16, 2007, the Company held its Annual Meeting of Stockholders
                  to
                  vote on the matters listedbelow. 
                  All of the matters voted on at the Annual Meeting were approved
                  by the
                  Company’s stockholdersat
                  the Annual Meeting.1.    
                  To elect five directors to serve until the 2008 Annual Meeting
                  of
                  Stockholders.With
                  respect to the election for directors, the votes were as
                  follows:**Votes For**
              
              **Votes Against**
              
              **Votes Withheld**Frank
                  C. Becker
              
              22,789,811
              
              —
              
              987,816Laurence
                  P. Birch
              
              22,804,304
              
              —
              
              973,323Bernard
                  A. Fox
              
              22,786,130
              
              —
              
              991,497Paul
                  E. Freiman
              
              19,739,406
              
              —
              
              4,038,221John
                  N. Kapoor
              
              22,781,618
              
              —
              
              996,0092.To approve amendments to the NEOPHARM, Inc 2006 Equity Incentive
                  Plan to increase the number ofauthorized
                  shares and maximum individual award.**Votes For**
              
              **Votes Against**
              
              **Abstain**
              
              **Non Votes**13,314,198
              
              806,335
              
              76,645
              
              9,580,4493.To ratify the appointment of BDO Siedman, LLP as the Company's
                  independent registered publicfirm
                  for 2007.**Votes For**
              
              **Votes Against**
              
              **Abstain**
              
              **Non Votes**23,424,421
              
              321,339
              
              31,867
              
              0





**Item
      5. - Other Information**





None





**Item
      6. - Exhibits**





31.1
            Certification
                pursuant to Section 302 of the Sarbanes-Oxley Act of
                200232.1
            Certification
              pursuant to section 906 of the Sarbanes-Oxley Act or
              2002





25





**SIGNATURE
      PAGE**





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





Dated:  November
                8, 2007
            /s/  Laurence
                P. BirchLaurence
                P. BirchPresident
                and Chief Executive Officer (Principal Executive Officer) and Acting
                Chief
                Financial Officer (Principal Financial Officer)








26