**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, DC 20549**

 

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**FORM 10-Q**

 

**(Mark One)**

 

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

 

**ForThe Quarterly Period Ended March 31, 2004**

 

**or**

 

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

 

**Forthe Transition Period from             to             **

 

**Commission File Number 000-50439**

 

**NitroMed,Inc.**

(Exact Name of Registrant as Specified in ItsCharter)

 
| **Delaware**                                                                      |   | **22-3159793**                        |
|-----------------------------------------------------------------------------------|--------|---------------------------------------|
| (State or Other Jurisdiction of  Incorporation or Organization)                   |   | (I.R.S. Employer  Identification No.) |
|                                                                              |   |                                  |
| **12 Oak Park Drive, Bedford, Massachusetts**                                     |   | **01730**                             |
| (Address of Principal Executive Offices)                                          |   | (Zip Code)                            |
|                                                                              |   |                                  |
| Registrant’s telephone number, including  area code: **(781) 275-9700** |

 

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

 

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

 

As of May 12, 2004, the registrant had 25,644,862 shares of CommonStock, $0.01 par value per share, outstanding.

 

 

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NITROMED, INC. FORM 10-Q FOR THE QUARTERLY PERIOD ENDED MARCH 31,2004

 

**TABLEOF CONTENTS**

 
| PART I.   | FINANCIAL INFORMATION                                                                      |   |
|----------------|--------------------------------------------------------------------------------------------|--------|
| Item 1.        | Financial Statements                                                                       |   |
|           | Balance  Sheets                                                                            |   |
|           | Statements of Operations                                                                   |   |
|           | Statements of Cash Flows                                                                   |   |
|           | Notes to Unaudited Financial Statements                                                    |   |
| Item 2.        | Management’s Discussion and Analysis of  Financial Condition and Result of Operations |   |
| Item 3.        | Quantitative and Qualitative Disclosures  About Market Risk                                |   |
| Item 4.        | Controls and Procedures                                                                    |   |
|           |                                                                                       |   |
| PART II.       | OTHER INFORMATION                                                                          |   |
| Item 2.        | Changes in Securities, Use of Proceeds, and  Issuer Purchases of Equity Securities         |   |
| Item 6.        | Exhibits and Reports on Form 8-K                                                           |   |
|           |                                                                                       |   |
| SIGNATURES     |                                                                                       |
| EXHIBIT  INDEX |                                                                                       |

 

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**PARTI.****    Financial Information**

 

**Item 1.****           FinancialStatements**

 

**NITROMED,INC.**

**BALANCE SHEETS**

**(inthousands, except par value amounts)**

 
|                                                                                                                                                                                               |   | **March 31,  2004** |   | **December 31,  2003** |   |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------|--------|-----------------------------|--------|
|                                                                                                                                                                                               |   | **(unaudited)**          |   |                        |   |
| **Assets**                                                                                                                                                                                         |   |                     |   |                        |   |
| Current assets:                                                                                                                                                                                    |   |                     |   |                        |   |
| Cash and cash equivalents                                                                                                                                                                          |   | $                        | 52,213 |                        | $      | 67,614 |   |
| Marketable securities                                                                                                                                                                              |   | 37,745                   |   | 29,474                      |   |
| Accounts receivable                                                                                                                                                                                |   | 10                       |   | —                      |   |
| Prepaid expenses and other current assets                                                                                                                                                          |   | 919                      |   | 1,296                       |   |
| Total current assets                                                                                                                                                                               |   | 90,887                   |   | 98,384                      |   |
| Property and equipment, net                                                                                                                                                                        |   | 629                      |   | 686                         |   |
| Other assets                                                                                                                                                                                       |   | 906                      |   | 100                         |   |
|                                                                                                                                                                                               |   |                     |   |                        |   |
| Total assets                                                                                                                                                                                       |   | $                        | 92,422 |                        | $      | 99,170 |   |
|                                                                                                                                                                                               |   |                     |   |                        |   |
| **Liabilities and Stockholders’  Equity**                                                                                                                                                     |   |                     |   |                        |   |
| Current liabilities:                                                                                                                                                                               |   |                     |   |                        |   |
| Notes payable                                                                                                                                                                                      |   | $                        | 11     |                        | $      | 22 |   |
| Accounts payable                                                                                                                                                                                   |   | 770                      |   | 832                         |   |
| Accrued expenses                                                                                                                                                                                   |   | 1,359                    |   | 2,067                       |   |
| Deferred revenue                                                                                                                                                                                   |   | 7,525                    |   | 7,525                       |   |
|                                                                                                                                                                                               |   |                     |   |                        |   |
| Total current liabilities                                                                                                                                                                          |   | 9,665                    |   | 10,446                      |   |
|                                                                                                                                                                                               |   |                     |   |                        |   |
| Deferred revenue, long-term                                                                                                                                                                        |   | 5,194                    |   | 6,925                       |   |
| Stockholders’ Equity:                                                                                                                                                                         |   |                     |   |                        |   |
| Preferred stock, $0.01 par value; 5,000  shares authorized; no shares issued or outstanding at March 31, 2004 and  December 31, 2003                                                     |   | —                   |   | —                      |   |
| Common stock, $.01 par value; 65,000 shares  authorized at March 31, 2004 and December 31, 2003; 25,601 shares  issued and outstanding at March 31, 2004 and December 31, 2003 |   | 256                      |   | 256                         |   |
| Additional paid-in capital                                                                                                                                                                         |   | 191,679                  |   | 191,604                     |   |
| Deferred stock compensation                                                                                                                                                                        |   | (3,011                   | )      | (3,240                      | )      |
| Accumulated deficit                                                                                                                                                                                |   | (111,402                 | )      | (106,846                    | )      |
| Accumulated other comprehensive income                                                                                                                                                             |   | 41                       |   | 25                          |   |
| Total stockholders’ equity                                                                                                                                                                    |   | 77,563                   |   | 81,799                      |   |
|                                                                                                                                                                                               |   |                     |   |                        |   |
| Total liabilities and stockholders’ equity                                                                                                                                                    |   | $                        | 92,422 |                        | $      | 99,170 |   |

 

See accompanying notes.

 

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**NITROMED,INC.**

**STATEMENTSOF OPERATIONS**

**(inthousands, except per share amounts) (unaudited)**

 
|                                                                                                      |   | **Three  Months Ended  March 31,** |   |
|-----------------------------------------------------------------------------------------------------------|--------|-----------------------------------------|--------|
|                                                                                                      |   | **2004**                                |   | **2003** |   |
| Revenues:                                                                                                 |   |                                    |   |   |   |
| Research and development                                                                                  |   | $                                       | 2,331  |   | $ | 1,694 |   |
| Operating expenses:                                                                                       |   |                                    |   |   |   |
| Research and development                                                                                  |   | 5,628                                   |   | 4,434 |   |
| General and administrative                                                                                |   | 1,536                                   |   | 566 |   |
| Total operating expenses                                                                                  |   | 7,164                                   |   | 5,000 |   |
| Loss from operations                                                                                      |   | (4,833                                  | )      | (3,306 | ) |
| Non operating income (expense):                                                                           |   |                                    |   |   |   |
| Interest expense                                                                                          |   | —                                  |   | (1 | ) |
| Interest income                                                                                           |   | 277                                     |   | 71 |   |
| Rental income                                                                                             |   | —                                  |   | 49 |   |
|                                                                                                      |   | 277                                     |   | 119 |   |
| Net loss                                                                                                  |   |                                    | (4,556 | ) |   | (3,187 | ) |
| Dividends and accretion to redemption value  of redeemable convertible preferred stock                    |   | —                                  |   | 674 |   |
| Net loss attributable to common  stockholders                                                             |   | $                                       | (4,556 | ) | $ | (3,861 | ) |
| Basic and diluted net loss attributable to  common stockholders per common share                          |   | $                                       | (0.18  | ) | $ | (3.92 | ) |
| Shares used in computing basic and diluted  net loss attributable to common stockholders per common share |   |                                    | 25,601 |   |   | 985 |   |

 

See accompanying notes.

 

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**NITROMED,INC.**

**STATEMENTS OF CASH FLOWS**

**(inthousands)(unaudited)**

 
|                                                                                       |   | **Three  Months Ended  March 31,** |   |
|--------------------------------------------------------------------------------------------|--------|-----------------------------------------|--------|
|                                                                                       |   | **2004**                                |   | **2003** |   |
| **Operating  activities**                                                                  |   |                                    |   |   |   |
| Net loss                                                                                   |   | $                                       | (4,556 | ) | $ | (3,187 | ) |
| Adjustments to reconcile net loss to net cash  provided by (used in) operating activities: |   |                                    |   |   |   |
|                                                                                       |   |                                    |   |   |   |
| Depreciation and amortization                                                              |   | 85                                      |   | 57 |   |
| Stock compensation expense                                                                 |   | 305                                     |   | 221 |   |
| Changes in operating assets and  liabilities:                                              |   |                                    |   |   |   |
| Accounts receivable                                                                        |   | (10                                     | )      | 10,002 |   |
| Prepaid expenses and other assets                                                          |   | 377                                     |   | (18 | ) |
| Deferred revenue                                                                           |   | (1,731                                  | )      | (194 | ) |
| Accounts payable and accrued expenses                                                      |   | (770                                    | )      | (405 | ) |
| Net cash provided by (used in) operating  activities                                       |   | (6,300                                  | )      | 6,476 |   |
| **Investing  activities**                                                                  |   |                                    |   |   |   |
| Purchases of property and equipment                                                        |   | (29                                     | )      | (104 | ) |
| Purchases of marketable securities                                                         |   | (11,764                                 | )      | (3,548 | ) |
| Sales of marketable securities                                                             |   | 3,509                                   |   | 2,292 |   |
| Other assets                                                                               |   | (806                                    | )      | — |   |
| Net cash used in investing activities                                                      |   | (9,090                                  | )      | (1,360 | ) |
| **Financing  activities**                                                                  |   |                                    |   |   |   |
| Principal payments on notes payable                                                        |   | (11                                     | )      | (10 | ) |
|                                                                                       |   |                                    |   |   |   |
| Net cash used in financing activities                                                      |   | (11                                     | )      | (10 | ) |
| Net increase (decrease) in cash and cash  equivalents                                      |   | (15,401                                 | )      | 5,106 |   |
| Cash and cash equivalents at beginning of  period                                          |   | 67,614                                  |   | 5,160 |   |
| Cash and cash equivalents at end of period                                                 |   | $                                       | 52,213 |   | $ | 10,266 |   |

 

See accompanying notes.

 

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**NITROMED,INC.**

**NOTESTO UNAUDITED FINANCIAL STATEMENTS**

**MARCH 31,2004**

 

**(1)****                                 Basisof Presentation**

 

The accompanying unaudited financial statements of NitroMed, Inc.(NitroMed or the Company) have been prepared in accordance with accountingprinciples generally accepted in the United States (GAAP) for interim financialinformation and with the instructions to Form 10-Q and Article 10 ofRegulation S-X. Accordingly, they do not include all of the informationand footnotes required by GAAP for complete financial statements. In theopinion of management, all adjustments (consisting of normal recurringaccruals) considered necessary for the fair presentation of the results for theinterim periods have been included. The preparation of financial statements inconformity with GAAP requires management to make estimates and assumptions thataffect the amounts reported in the financial statements and accompanying notes.Interim results are not necessarily indicative of results to be expected forthe entire fiscal year ending December 31, 2004. These unaudited financialstatements should be read in conjunction with the audited financial statementsand related notes thereto included in the Company’s latest audited annualfinancial statements. Those audited financial statements are included in theCompany’s annual report on Form 10-K, which was filed with the Securities andExchange Commission (SEC) on March 30, 2004. 

 

**(2)****                                 Stock-BasedCompensation**

 

The Company has elected to account for its stock-based compensationplans under the intrinsic value method pursuant to Accounting Principles BoardOpinion No. 25, *Accounting for StockIssued to Employees*, and related interpretations, rather than thealternative fair value accounting provided under Statement of FinancialAccounting Standards No. 123, *Accountingfor Stock-Based Compensation* (SFAS 123). In accordance withEmerging Issues Task Force (EITF) 96-18, *Accountingfor Equity Instruments that are Issued to Other than Employees for Acquiring,or in Connection with Selling Goods or Services*, the Company recordscompensation expense equal to the fair value of the option granted tonon-employees over the vesting period, which is generally the period ofservice. 

 

For the years ended December 31, 2003 and December 31, 2002,the Company granted 413,250 and 241,000 options, respectively, to employees atexercise prices below the fair value of the Company’s common stock. The Companyrecorded deferred stock compensation expense related to these grants of$3,317,000 and $566,000 in 2003 and 2002, respectively. These amounts are beingrecognized ratably over the vesting period of four years. Included in theresults of operations for the three month periods ended March 31, 2004 and2003 is compensation expense of $229,000 and  $35,000,respectively. 

 

For purposes of pro forma disclosures, the estimated fair value of theoption is amortized over the option’s vesting period. Had compensation expensefor the Company’s stock-based compensation plans been determined based on thefair value at the grant dates for awards under those plans consistent with themethod of SFAS 123, the Company’s net loss and net loss per share would havebeen as follows:

 
|                                                                                        |   | **Three  Months Ended  March 31,** |   |
|---------------------------------------------------------------------------------------------|--------|-----------------------------------------|--------|
|                                                                                        |   | **2004**                                |   | **2003** |   |
| Net loss attributable to common  stockholders as reported                                   |   | $                                       | (4,556 | ) | $ | (3,861 | ) |
| Add: Stock-based employee compensation  expense included in reported net loss               |   | 251                                     |   | 131 |   |
| Deduct: Stock-based employee compensation  expense determined under fair value based method |   | (320                                    | )      | (282 | ) |
| Pro forma net loss                                                                          |   | $                                       | (4,625 | ) | $ | (4,012 | ) |
|                                                                                        |   |                                    |   |   |   |   |   |
| Basic and diluted net loss per share                                                        |   |                                    |   |   |   |
| As reported                                                                                 |   | $                                       | (0.18  | ) | $ | (3.92 | ) |
| Pro forma                                                                                   |   | $                                       | (0.18  | ) | $ | (4.07 | ) |

 

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**(3)****                                 ComprehensiveIncome (Loss)**

 

Components of comprehensive income (loss) include net income (loss) andcertain transactions that have generally been reported in the statement ofstockholders’ equity.  Comprehensiveloss for the three months ended March 31, 2004 and March 31, 2003 was$4,540,000 and $3,861,000, respectively.

 

**(4)****                                 NetLoss Per Share and Pro Forma Net Loss Per Share**

 

Basic net loss per share is computed by dividing net loss available tocommon stockholders by the weighted average number of shares of common stockoutstanding during the period. Diluted net loss per share is computed bydividing net loss available to common stockholders by the weighted averagenumber of shares of common stock and the dilutive potential common stockequivalents then outstanding. Potential common stock equivalents consist ofstock options, warrants and redeemable convertible preferred stock. Since theCompany has a net loss for all periods presented, the effect of all potentiallydilutive securities is antidilutive. Accordingly, basic and diluted net lossper share is the same. 

 

Pro forma net loss per share is computed using the weighted averagenumber of common shares outstanding, including the pro forma effects of theautomatic conversion of all outstanding redeemable convertible preferred stockinto shares of the Company’s common stock effective upon the closing of theCompany’s initial public offering, as if such conversion had occurred at thedate of the original issuance. 

 

The following table sets forth the computation of basic and diluted netloss per share and pro forma basic and diluted net loss per share for therespective periods. The pro forma basic and diluted net loss per share giveseffect to the conversion of the redeemable convertible preferred stock as ifconverted at the date of original issuance.

 
|                                                                                                                                  |   | **Three  Months Ended  March 31,** |   |
|---------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------|--------|
|                                                                                                                                  |   | **2004**                                |   | **2003** |   |
| *Basic and Diluted:*                                                                                                                  |   |                                    |   |   |   |
| Net loss                                                                                                                              |   | $                                       | (4,556 | ) | $ | (3,187 | ) |
| Dividends and accretion to redemption value  of redeemable convertible preferred stock                                                |   | —                                  |   | (674 | ) |
| Net loss attributable to common  stockholders                                                                                         |   | $                                       | (4,556 | ) | $ | (3,861 | ) |
|                                                                                                                                  |   |                                    |   |   |   |   |   |
| Weighted average common shares used to  compute net loss per share                                                                    |   | 25,601                                  |   | 985 |   |
| Basic and diluted net loss per share                                                                                                  |   | $                                       | (0.18  | ) | $ | (3.92 | ) |
|                                                                                                                                  |   |                                    |   |   |   |   |   |
| *Pro forma basic  and diluted:*                                                                                                       |   |                                    |   |   |   |
| Net loss                                                                                                                              |   | $                                       | (4,556 | ) | $ | (3,187 | ) |
|                                                                                                                                  |   |                                    |   |   |   |   |   |
| Weighted average common shares used to  compute net loss per share                                                                    |   | —                                  |   | 985 |   |
| Weighted average number of common shares  assuming the conversion of all redeemable preferred stock at the original  date of issuance |   | 25,601                                  |   | 14,031 |   |
| Weighted average common shares used to  compute pro forma net loss per share                                                          |   | 25,601                                  |   | 15,016 |   |
|                                                                                                                                  |   |                                    |   |   |   |
| Pro forma basic and diluted net loss per  share                                                                                       |   | $                                       | (0.18  | ) | $ | (0.21 | ) |

 

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**(5)****                                 Commitmentsand Contingencies**

 

An academic institution has asserted that patents and patentapplications which relate to the nitric oxide stent program may require alicense from such institution. It is the opinion of the Company’s managementand legal counsel that the disputed intellectual property has been validlylicensed to, or is validly owned by, the Company. Accordingly, the accompanyingfinancial statements do not include any provision related to this claim. 

 

**(6)****                                 NewAccounting Pronouncements**

 

In January 2003, the Financial Accounting Standards Board issuedInterpretation No. 46, *Consolidation ofVariable Interest Entities* (FIN 46), which was amended by FIN 46R,issued in December 2003. This interpretation of Accounting ResearchBulletin No. 51, *Consolidated FinancialStatements*, addresses consolidation by business enterprises ofvariable interest entities (VIEs) that either do not have sufficient equityinvestment at risk to permit the entity to finance its activities withoutadditional subordinated financial support or for which the equity investorslack an essential characteristic of a controlling financial interest. Thisinterpretation applies immediately to VIEs created after January 31, 2003.It also applies in the first fiscal year or interim period ending afterMarch 15, 2004 to VIEs created before February 1, 2003 in which anenterprise holds a variable interest. FIN 46 requires disclosure of VIEs infinancial statements issued after January 31, 2003 if it is reasonablypossible that as of the transition date: (1) the Company will be the primarybeneficiary of an existing VIE that will require consolidation or, (2) theCompany will hold a significant variable interest in, or have significant involvementwith, an existing VIE. The Company does not have any entities that requiredisclosure or entities that would require consolidation under FIN 46 that hadnot previously been consolidated as a result of FIN 46.

 

InNovember 2003, during discussion on EITF Issue No. 03-01, *The Meaningof Other-Than-Temporary Impairment and Its Application to Certain Investments*, the EITF reached a consensus whichrequires certain quantitative and qualitative disclosures for debt andmarketable equity securities classified as available-for-sale orheld-to-maturity under SFAS 115, *Accounting for Certain Investments in Debt and EquitySecurities,* that are impaired at the balance sheet date but forwhich an other-than-temporary impairment has not been recognized. The consensuson quantitative and qualitative disclosures is effective for fiscal yearsending after December 15, 2003 and comparative information for earlierperiods presented is not required. The Company currently does not have anyimpaired investments and thus the adoption of this consensus did not have amaterial impact on its financial statements. 

 

InDecember 2003, the SEC issued Staff Accounting Bulletin No. 104, *RevenueRecognition*,(SAB 104), which supercedes SAB 101, “Revenue Recognition in Financial Statements” (SAB 101).SAB 104’s primary purpose is to rescind accounting guidance contained inSAB 101 related to multiple element revenue arrangements and to rescindthe SEC’s *RevenueRecognition in Financial Statements Frequently Asked Questions and Answers*(FAQ) issued with SAB 101. Selected portions of the FAQ have beenincorporated into SAB 104. The adoption of SAB 104 did not have amaterial impact on the Company’s revenue recognition policies. 

 

**Item 2.****           Management’sDiscussion and Analysis of Financial Condition and Results of Operations******

 

**Overview**

 

We are an emerging pharmaceutical company that discovers, develops andseeks to commercialize proprietary pharmaceuticals. We have devotedsubstantially all of our efforts towards the research and development of ourproduct candidates. Since our inception, we have had no revenue from productsales and have funded our operations through the sale of equity securities,debt financings, license fees, research and development funding and milestonepayments from our collaborative partners. We have never been profitable andhave incurred an accumulated deficit of $111.4 million as of March 31, 2004. 

 

We expect to incur significant operating losses for the next severalyears. Research, development and commercialization expenses relating to ourproduct candidates and to enhancing our core technologies will continue toincrease in the near term and may vary significantly from our currentestimates. In particular, we expect to incur increased costs as we complete ourphase III confirmatory trial of BiDil and seek regulatory approval for BiDil.General and administrative costs will increase as we prepare for the plannedcommercialization of BiDil and as we begin operating as a public company. Weexpect to incur operating expenses in a range of approximately $28.0 million to$33.0 million for the fiscal year ended December 31, 2004. We will need togenerate significant revenues

 

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to achieve profitability. We do not expect to achieve profitabilityuntil at least 2008 and may not achieve profitability until after that date, ifat all. 

 

**Financial Operations Overview**

 

*Revenue.*  We have not generated any revenue fromproduct sales since our inception and do not expect to generate any revenuefrom the sale of products until at least 2006. All of our revenue to date hasbeen derived from license fees, research and development payments and milestonepayments that we have received from our corporate collaborators. We expect togenerate revenue from our corporate collaborators in a range of approximately$8.0 million to $10.0 million for the fiscal year ending December 31,2004. In future years, we will seek to generate revenue from a combination ofproduct sales, up-front fees and milestone payments in connection withcollaborative or strategic relationships, and royalties resulting from thelicense of our intellectual property. We expect that any revenue we generatewill fluctuate from quarter to quarter as a result of the timing and amount ofresearch and development, milestone and other payments received under ourcollaborative or strategic relationships and related continuing obligations,and the amount and timing of payments we receive upon the sale of our products,to the extent any are successfully commercialized. 

 

*Research and Development.*  Research and development expense consists ofexpenses incurred in identifying, developing and testing product candidates.These expenses consist primarily of salaries and related expenses for personnel,fees paid to professional service providers for independent monitoring andanalysis of our clinical trials, costs of contract research and manufacturing,costs of facilities and the legal costs of pursuing patent protection of ourintellectual property. We expense research and development costs, includingpatent-related costs, as incurred. 

 

The following summarizes our primary research and development programs.We have not provided program costs since inception because prior to 2000 we didnot track and accumulate cost information by research program. 

 

•                                          *BiDil.* We started enrolling patients inour phase III confirmatory clinical trial for BiDil in May 2001. The trialis being conducted at approximately 160 sites in the U.S. and is over 87% enrolled.We expect to complete this study in mid-2005. We expect to incur significantadditional expenditures for BiDil as we complete our clinical trial, apply forregulatory approval, expand our operations and bring BiDil to market. Forexample, as new clinical sites are initiated and additional patients areenrolled in the trial, we anticipate incurring increased costs from the use ofprofessional service firms supporting the trial. We also anticipate incurringincreased costs related to hiring of additional clinical personnel associatedwith preparations to launch BiDil. We estimate that the total direct cost forthis trial will be at least $39.0 million. However, the actual total costof the clinical trial and our ability to complete this trial in the time periodwe expect, if at all, is dependent on a number of uncertainties, including ourability to enroll patients at the rate that we expect, potential unanticipatedtrial delays and other uncertainties relating to the regulatory approvalprocess. We do not anticipate receiving revenue from BiDil until at least 2006,if ever. Our failure to commercialize BiDil on a timely basis would have amaterial adverse effect on our business, financial condition and results ofoperations. 

 

•                                          *Nitric Oxide-Enhancing COX-2 Inhibitors.*We are currently working with Merck Frosst Canada & Co., awholly-owned subsidiary of Merck & Co., or Merck, to screenproprietary nitric oxide-enhanced COX-2 inhibitors in advance of clinicaltesting as analgesic and anti-inflammatory agents and in other specifieddisease areas. These agents are intended to be second-generation COX-2inhibitors. We expect that additional expenditures will be required to conductpre-clinical testing and to apply for and conduct clinical trials. Becausethese agents are in pre-clinical or early clinical development, theirsuccessful development is highly uncertain. As such, we are unable to estimatethe cost to complete the research and development phase nor are we able toestimate the timing of bringing potential products to market and, therefore,when material cash inflows from milestones and royalties could commence. Ourfailure to

 

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commercialize theseproducts under development on a timely basis could have a material adverseeffect on our business, financial condition and results of operations. 

 

•                                          *Nitric Oxide Stents.* We are currentlyworking with Boston Scientific Corporation, or Boston Scientific, to developstents coated with nitric oxide-releasing compounds. This program is inpre-clinical development. We expect that additional expenditures will berequired to conduct pre-clinical testing and, if such pre-clinical testing issuccessful, to apply for and conduct clinical trials. Because this program is inpre-clinical development, the successful development of products based uponthis program is highly uncertain. As such, we are unable to estimate the costto complete the research and development phase, nor are we able to estimate thetiming of bringing potential products to market and, therefore, when materialcash inflows from milestones and royalties could commence. Our failure tocommercialize products based upon this program on a timely basis could have amaterial adverse effect on our business, financial condition and results ofoperations. 

 

*General and Administrative.*  General and administrative expense consistsprimarily of salaries and other related costs for personnel in executive,finance, accounting, business development and human resource functions. Othercosts include facility costs not otherwise included in research and developmentexpense and professional fees for legal and accounting services. 

 

As aresult of the consummation of our initial public offering on November 10,2003, we anticipate increases in general and administrative expense forinvestor relations and other activities associated with operating as apublicly-traded company. These increases will also likely include the hiring ofadditional personnel. We intend to continue to incur increased internal andexternal business development costs to support our various product developmentefforts, which can vary from period to period. We do not anticipate incurringsignificant costs to support the expected commercial introduction of BiDil untilthe second half of 2004. 

 

*Non Operating Income (Expense).*  Other income includes interest earned on ourcash, cash equivalents and marketable securities, as well as rental income froma sublease of a portion of our facilities in 2003. Other income is net ofinterest expense. 

 

*Merck Collaboration.*  In December 2002, we entered into anexclusive, worldwide research, collaboration and licensing agreement thatgranted Merck marketing and sales rights for nitric oxide-enhancing COX-2inhibitors. The research portion of the agreement is for three years and can beextended by mutual agreement. In 2003, we received an upfront non-refundablelicense payment of $10.0 million and two payments, each of$5.0 million, for achieving the first two milestones. The license feerevenue and the revenue from the first $5.0 million milestone payment arebeing recognized over the remaining life of the research and developmentprogram, which ends December 31, 2005. The revenue from the second$5.0 million payment was recognized in the fourth quarter of 2003, theperiod in which Merck achieved the milestone. We received $600,000 in researchand development fees from Merck during the three months ended March 31,2004, all of which has been recognized as revenue for the three months endedMarch 31, 2004. We expect to receive additional research and developmentfunding through 2005 and milestone payments upon the successful achievement ofspecified research objectives and royalties on any product sales. 

 

*Boston Scientific Collaboration.*  In November 2001, we entered into adevelopment and license agreement with Boston Scientific to develop stentscoated with nitric oxide-releasing compounds. We have granted Boston Scientifican exclusive worldwide license to develop and commercialize products forrestenosis incorporating two nitric oxide-releasing compounds. In considerationof this license, Boston Scientific made an upfront non-refundable licensepayment of $1.5 million, which is being recognized over the estimated timeperiod of our contractual obligation to provide research and developmentservices. In the event that specified research, development andcommercialization milestones are achieved, Boston Scientific is obligated tomake milestone payments to us. Boston Scientific is also obligated to payroyalties to us on the sale of any products resulting from the collaboration.In December 2003, we entered into an extension to the agreement thatcontinues the research and development collaboration through December 2005and we received an additional $3.0 million, which is being recognized ratablyover the research and development collaboration term. Boston Scientific made a$3.5 million investment in our

 

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series F junior redeemable convertible preferredstock in 2001 and made an additional $500,000 investment in our series Eredeemable convertible preferred stock in August 2003. 

 

**Results of Operations**

 

***Three Months EndedMarch 31, 2004 and 2003***

 

*Revenue.* Total revenue for the three months ended March 31, 2004 was$2.3 million compared to $1.7 for the three months ended March 31,2003. The $0.6 million, or 35% increase in revenue in the 2004 period isattributable to additional fees received from Merck and Boston Scientific, andis being recognized ratably over the respective collaboration arrangements.

 

*Research and Development.*  Research and development expense for thethree months ended March 31, 2004 was $5.6 million compared to$4.4 million for the three months ended March 31, 2003. The $1.2million, or 27% increase in research and development expenses was primarily dueto additional clinical related costs of $985,000  associated with the  BiDiltrial. The following table summarizes the primary components of our researchand development expense for our principal research and development programs forthe three months ended March 31, 2004 and 2003.

 
|                                    |   | **Three  Months Ended  March 31,** |   |
|-----------------------------------------|--------|-----------------------------------------|--------|
|                                    |   | **2004**                                |   | **2003** |   |
| **Research and  Development Program**   |   |                                    |   |   |   |
|                                    |   |                                    |   |   |   |
| BiDil                                   |   | $                                       | 3,998  |   | $ | 3,013 |   |
| Nitric oxide-enhancing COX-2 inhibitors |   | 738                                     |   | 420 |   |
| Nitric oxide stents                     |   | 458                                     |   | 442 |   |
| Other expansion of discovery research   |   | 434                                     |   | 559 |   |
| Total research and development expense  |   | $                                       | 5,628  |   | $ | 4,434 |   |

 

*General and Administrative.*  General and administrative expense for thethree months ended March 31, 2004 was $1.5 million compared to $566,000for the three months ended March 31, 2003.  The $970,000, or 171% increase in general and administrative expenses was attributable, inpart, to increased costs of approximately $673,000 associated with operating asa public company and $240,000 for the preparation of the possible launch ofBiDil.

 

*Non Operating Income (Expense).*  Non operating income (expense), net for thethree months ended March 31, 2004 was $277,000 compared to $119,000 forthe three months ended March 31, 2003. The $158,000, or 133% increase wasdue to higher fund balances available for investment, net of lower rentalincome due to our sublease rental agreement ending at our current facility.

 

**Liquidity and Capital Resources**

 

Wehave financed our operations since inception through the sale of equity, debtand payments from collaborative partners for licenses, research and developmentand achievement of milestones. As of March 31, 2004, we have received netproceeds of $159.2 million from the issuance of equity securities,primarily as the result of the sale of $99.1 million of our redeemableconvertible preferred stock and net proceeds of $60.1 million from our initialpublic offering in November 2003. At March 31, 2004, we had $90.0 million in cash, cash equivalentsand marketable securities. 

 

Duringthe three months ended March 31, 2004, operating activities used cash of$6.3 million, driven by a net loss of $4.6 million, an increase inprepaid and other assets of $377,000, and a decrease in payables, deferredrevenue and other liabilities of  $2.5million, with adjustments for non-cash charges for stock-based compensation anddepreciation and amortization aggregating $390,000.

 

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Duringthe three months ended March 31, 2004, investing activities used cash of$9.1 million due to net purchase of marketable securities of $8.3 million,purchases of computer and lab equipment of $29,000, and a $806,000 securitydeposit for a new facility lease in Lexington, Massachusetts. We expect toinvest approximately $2.0 to $4.0 million in capital expenditures for2004, principally related to the purchase of laboratory equipment and build-outrelated cost for this new facility. 

 

*Contractual Obligations*

 

Thefollowing table summarizes our contractual obligations at March 31, 2004and the effects such obligations are expected to have on our liquidity and cashflows in future periods.

 
|                               |   | **Payments  Due by Period** |       |
|------------------------------------|--------|-----------------------------|------------|
| **Contractual Obligations**        |   | **Total**                   |       | **Less than  one year** |   | **1-3 years** |   | **4-5 years** |   | **More than  five years** |   |
|                               |   |                        |       |   |   |   |   |   |   |   |   |
| Short and long-term debt           |   | $                           | 11,000     |   | $ | 11,000 |   | — |   | — |   | — |   |
| Operating lease obligations(1)     |   | 15,473,000                  |       | 820,000 |   | $ | 2,701,000 |   | $ | 3,010,000 |   | $ | 8,942,000 |   |
| Total contractual cash obligations |   | $                           | 15,484,000 |   | $ | 831,000 |   | $ | 2,701,000 |   | $ | 3,010,000 |   | $ | 8,942,000 |   |

 

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(1)                                  On January 30,2004, we entered into a lease for approximately 52,000 square feet oflaboratory and office space at 125 Spring Street, Lexington, Massachusetts. Therent obligation for the building is expected to commence thirty days from theearlier of (a) July 8, 2004 or (b) the date on which we commence occupancyof the building.  The lease is for a termof ten years with options that permit renewals for additional 5 yearperiods.  The expected minimum rentalobligations are included in the table. 

 

Basedon our operating plans, we expect to have cash and marketable securities in arange of $66.0 million to $76.0 million at December 31, 2004. We believethat our existing cash, cash equivalents and marketable securities, and cash weexpect to receive under our collaborations with Merck and Boston Scientific,will be sufficient to fund our planned operations, including increases inspending for our BiDil clinical program, for at least 21 months from thedate of this report. However, we may require significant additional fundsearlier than we currently expect to conduct the clinical trial and to obtainregulatory approvals necessary to launch BiDil and to develop our other productcandidates. 

 

We mayseek additional funding through collaborative arrangements and public orprivate financings. Additional funding may not be available to us on acceptableterms, or at all. In addition, the terms of any financing may adversely affectthe holdings or the rights of our stockholders. For example, if we raiseadditional funds by issuing equity securities, further dilution to our existingstockholders may result. If we are unable to obtain funding on a timely basis,we may be required to significantly curtail one or more of our research ordevelopment programs. We also could be required to seek funds througharrangements with collaborators or others that may require us to relinquishrights to some of our technologies, product candidates, or products which wewould otherwise pursue on our own. 

 

Evenif we are able to raise additional funds in a timely manner, our future capitalrequirements may vary from what we expect and will depend on many factors,including the following: 

 

•                                          the costs oflaunching BiDil, if and when it is approved by regulatory authorities; 

 

•                                          the timing,receipt and amount of milestone and other payments, if any, from collaborators;

 

•                                          the timing,receipt and amount of sales and royalties, if any, from our potential products;

 

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•                                          the resourcesrequired to successfully complete our clinical trials; 

 

•                                          the time andcosts involved in obtaining regulatory approvals; 

 

•                                          continuedprogress in our research and development programs, as well as the magnitude ofthese programs; 

 

•                                          the cost ofmanufacturing, marketing and sales activities; 

 

•                                          the costsinvolved in preparing, filing, prosecuting, maintaining and enforcing patentclaims; 

 

•                                          the cost ofobtaining and maintaining licenses to use patented technologies; and 

 

•                                          our abilityto establish and maintain additional collaborative arrangements. 

 

*Off-Balance Sheet Arrangements*

 

We donot have any relationships with unconsolidated entities or financialpartnerships, such as entities often referred to as structured finance orspecial purpose entities, which would have been established for the purpose offacilitating off-balance sheet arrangements or other contractually narrow orlimited purposes.  As such, we are notexposed to any financing, liquidity, market or credit risk that could arise ifwe had engaged in such relationships.

 

*Inflation*

 

Webelieve the effects of inflation generally do not have a material adverseimpact on our operations or financial condition.

 

**CriticalAccounting Policies and Estimates**

 

Ourdiscussion and analysis of our financial condition and results of operationsare based on our financial statements which have been prepared in accordancewith accounting principles generally accepted in the United States. Thepreparation of these financial statements requires us to make estimates andjudgments that affect the reported amounts of assets and liabilities and thedisclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting periods. On an on-going basis, we evaluate our estimates andjudgments, including those related to revenue, accrued expenses and the fairvalue assigned to our common stock and stock awards. We base our estimates onhistorical experience, known trends and events and various other factors thatare believed to be reasonable under the circumstances, the results of whichform the basis for making judgments about the carrying values of assets andliabilities that are not readily apparent from other sources. Actual resultsmay differ from these estimates under different assumptions or conditions. 

 

Webelieve the following critical accounting policies affect our more significantjudgments and estimates used in the preparation of our financial statements. 

 

*Revenue.* We record revenue on an accrual basis as it is earned and when amountsare considered collectible. Revenues received in advance of performanceobligations, or in cases where we have a continuing obligation to performservices, are deferred and recognized over the contractual or estimatedperformance period. Revenues from milestone payments that represent theculmination of a separate earnings process are recorded when the milestone isachieved. Contract revenues are recorded as the services are performed. When weare required to defer revenue, the period over which such revenue should berecognized is subject to estimates by management and may change over the courseof the collaborative agreement. 

 

*Accrued Expenses.*  As part of the process of preparingfinancial statements, we are required to estimate accrued expenses. Thisprocess involves identifying services which have been performed on our behalfand estimating the level of service performed and the associated cost incurredfor such service as of each balance sheet

 

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date in our financial statements. Examples ofestimated expenses which we accrue include contract service fees such asamounts paid to clinical monitors, data management organizations andinvestigators in conjunction with clinical trials, as well as fees paid tocontract manufacturers in conjunction with the production of clinical materialsand professional service fees, such as lawyers and accountants. In connectionwith such service fees, our estimates are most affected by our understanding ofthe status and timing of services provided relative to the actual levels ofservices incurred by such service providers. The majority of our serviceproviders invoice us monthly in arrears for services performed. In the eventthat we do not identify certain costs which have begun to be incurred, or weunder- or over-estimate the level of services performed or the costs of suchservices, our reported expenses for such period would be too low or too high.The date on which certain services commence, the level of services performed onor before a given date and the cost of such services are often determined basedon subjective judgments. We make these judgments based upon the facts andcircumstances known to us in accordance with generally accepted accountingprinciples. 

 

*Stock-Based Compensation.*  We have elected to follow AccountingPrinciples Board Opinion No. 25, “Accounting for Stock Issued toEmployees,” or APB 25, and related interpretations in accounting for ourstock-based compensation plans, rather than the alternative fair value methodprovided for under Statement of Financial Accounting Standards No. 123,“Accounting for Stock-Based Compensation,” or SFAS 123. In 2003 and 2002,certain  stock options were granted atexercise prices less than the fair value of our common stock and, as a result,we recorded deferred stock compensation expense. In the notes to our financialstatements, we provide pro forma disclosures in accordance with SFAS 123.We account for transactions in which services are received from non-employeesin exchange for equity instruments based on the fair value of such servicesreceived or of the equity instruments issued, whichever is more reliablymeasured, in accordance with SFAS 123 and Emerging Issues Task Force, orEITF, Issue 96-18, “Accounting for Equity Instruments that Are Issued to Otherthan Employees for Acquiring, or in Conjunction with Selling, Goods orServices,” or EITF 96-18.

 

Accountingfor equity instruments granted or sold by us under APB 25, SFAS 123 andEITF 96-18 requires fair value estimates of the equity instrument granted orsold. If our estimates of the fair value of these equity instruments are toohigh or too low, our expenses may be over- or under-stated. For equityinstruments granted or sold in exchange for the receipt of goods or services,we estimate the fair value of the equity instruments based upon considerationof factors that we deem to be relevant at that time. Because shares of ourcommon stock were not publicly traded prior to the commencement of our publicoffering on November 5, 2003, market factors historically considered invaluing stock and stock option grants included comparative values of publiccompanies discounted for the risk and limited liquidity provided for in theshares we were issuing, pricing of private sales of our redeemable convertiblepreferred stock, prior valuations of stock grants and the effect of events thathad occurred between the time of such grants, economic trends, and thecomparative rights and preferences of the security granted compared to therights and preferences of our other outstanding equity. 

 

Priorto our initial public offering, the fair value of our common stock wasdetermined by our board of directors contemporaneously with the grant. In theabsence of a public trading market for our common stock, our board of directorsconsidered numerous objective and subjective factors in determining the fairvalue of our common stock. At the time of option grants and other stockissuances, our board of directors considered the liquidation preferences,dividend rights, voting control and anti-dilution protection attributable toour then-outstanding redeemable convertible preferred stock, the status ofprivate and public financial markets, valuations of comparable private andpublic companies, the likelihood of achieving a liquidity event such as aninitial public offering, our existing financial resources, our anticipatedcontinuing operating losses and increased spending levels required to completeour clinical trials, dilution to common stockholders from anticipated futurefinancings and a general assessment of future business risks. 

 

**Recently IssuedAccounting Pronouncements**

 

InJanuary 2003, the Financial Accounting Standards Board issuedInterpretation No. 46, “Consolidation of Variable Interest Entities,” orFIN 46, which was amended by FIN 46R, issued in December 2003. Thisinterpretation of Accounting Research Bulletin No. 51, “ConsolidatedFinancial Statements,” addresses consolidation by business enterprises ofvariable interest entities, or VIEs, that either do not have sufficient equityinvestment at risk to permit the entity to finance its activities withoutadditional subordinated financial support or for which the equity investorslack an essential characteristic of a controlling financial interest. Thisinterpretation

 

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applies immediately to VIEs created afterJanuary 31, 2003. It also applies in the first fiscal year or interimperiod ending after March 15, 2004 to VIEs created before February 1,2003 in which an enterprise holds a variable interest. FIN 46 requiresdisclosure of VIEs in financial statements issued after January 31, 2003if it is reasonably possible that as of the transition date: (1) we will be theprimary beneficiary of an existing VIE that will require consolidation or, (2)we will hold a significant variable interest in, or have significantinvolvement with, an existing VIE. We do not have any entities that requiredisclosure or entities that would require consolidation under FIN 46 that hadnot previously been consolidated as a result of FIN 46. 

 

In November 2003, during discussion on EITFIssue No. 03-01, “The Meaning ofOther-Than-Temporary Impairment and Its Application to Certain Investments,”the EITF reached a consensus which requires certain quantitative andqualitative disclosures for debt and marketable equity securities classified asavailable-for-sale or held-to-maturity under SFAS 115, *Accounting for Certain Investments inDebt and Equity Securities*, that are impaired at the balance sheetdate but for which an other-than-temporary impairment has not been recognized.The consensus on quantitative and qualitative disclosures is effective forfiscal years ending after December 15, 2003 and comparative informationfor earlier periods presented is not required. We currently do not have anyimpaired investments and thus the adoption of this consensus did not have amaterial impact on our financial statements. 

 

In December 2003, the Securities and ExchangeCommission, or SEC, issued Staff Accounting Bulletin No. 104, “Revenue Recognition,” orSAB 104, which supercedes SAB 101, “Revenue Recognition in Financial Statements*,*” or SAB 101. SAB 104’s primary purpose is torescind accounting guidance contained in SAB 101 related to multipleelement revenue arrangements and to rescind the SEC’s “Revenue Recognition in Financial Statements Frequently Asked Questionsand Answers,” or FAQ, issued with SAB 101. Selected portions of theFAQ have been incorporated into SAB 104. The adoption of SAB 104 didnot have a material impact on our revenue recognition policies. 

 

**Forward-LookingStatements**

 

Thisquarterly report on Form 10-Q includes forward-looking statements withinthe meaning of Section 21E of the Securities Exchange Act of 1934, asamended, which we refer to as the Exchange Act. For this purpose, anystatements contained herein regarding our strategy, future operations,financial position, future revenues, projected costs, prospects, plans andobjectives of management, other than statements of historical facts, areforward-looking statements. The words “anticipates,” “believes,” “estimates,”“expects,” “intends,” “may,” “plans,” “projects,” “will,” “would” and similarexpressions are intended to identify forward-looking statements, although notall forward-looking statements contain these identifying words. We cannotguarantee that we actually will achieve the plans, intentions or expectationsdisclosed in our forward-looking statements. There are a number of importantfactors that could cause actual results or events to differ materially from thosedisclosed in the forward-looking statements we make. These important factorsinclude our “critical accounting estimates” and the risk factors set forthbelow under the caption “Factors That May Affect Future Results.” Although wemay elect to update forward-looking statements in the future, we specificallydisclaim any obligation to do so, even if our estimates change, and readersshould not rely on those forward-looking statements as representing our viewsas of any date subsequent to the date of this quarterly report. 

 

**Factors That MayAffect Future Results**

 

**RisksRelating to our Business**

 

**Because we have ahistory of losses and our future profitability is uncertain, our common stockis a highly speculative investment.**

 

Wehave experienced significant operating losses since our inception in 1992. Forthe three months ended March 31, 2004, we had a net loss of$4.6 million. As of March 31, 2004, we had an accumulated deficit ofapproximately $111.4 million. We expect that we will continue to incursubstantial losses and that our cumulative losses will increase as ourresearch, development and commercialization efforts expand. We expect that thelosses that we incur will fluctuate from quarter to quarter and that thesefluctuations may be substantial. To date, we have not recorded any revenue fromthe sale of products and we will not be able to do so unless and until one ofour products completes clinical trials and receives regulatory approval. BiDilis our only product candidate that has

 

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advanced into clinical trials and we do not anticipatereceiving revenues from BiDil until at least 2006, if ever. All of our otherproduct candidates are in research or pre-clinical development, will requiresignificant additional testing prior to submission of any regulatoryapplications and, as such, are not expected to be commercially available formany years, if at all. 

 

Alarge portion of our expenses is fixed, including expenses related tofacilities, equipment and personnel. In addition, we expect to spendsignificant amounts to fund research, development and commercialization of ourproduct candidates and to enhance our core technologies. As a result, we expectthat our operating expenses will continue to increase significantly in the nearterm and, consequently, we will need to generate significant revenue to achieveprofitability. We do not expect to achieve profitability until at least 2008and may not achieve profitability until after that date, if at all. Even if wedo achieve profitability, we may not be able to sustain or increaseprofitability on a quarterly or annual basis. Our failure to become and remainprofitable would depress the market price of our common stock and could impairour ability to raise capital, expand our business, diversify our productofferings or continue our operations. 

 

**We will requiresubstantial additional funds and, if additional capital is not available, wemay need to limit, scale back or cease our operations.**

** **

Wehave used and will continue to require substantial funds to conduct researchand development, including preclinical testing and clinical trials of ourpotential products, and to manufacture and market any products that areapproved for commercial sale. For example, we estimate that the total directcost to complete our BiDil clinical trial will be at least $39.0 millionand that we will incur significant additional expenditures to conductpre-clinical testing and any clinical trials of our nitric oxide-enhancing COX-2inhibitors, nitric-oxide stents and other early-stage development programs.Because their successful development is uncertain, we are unable to estimatethe actual funds we will require to complete research and development andcommercialize our products under development. We believe that our existing cashand investment securities, including the net proceeds of our initial publicoffering of common stock, which was completed on November 10, 2003, willbe sufficient to support our current operating plan for at least 21 monthsfrom the date of this report. 

 

However,our future capital requirements and the period in which we expect our currentcash to support our operations may vary from what we expect due to a number offactors, including the following: 

 

•                                          the costs oflaunching BiDil, if and when it is approved by regulatory authorities; 

 

•                                          the timing,receipt and amount of milestone and other payments, if any, from collaborators;

 

•                                          the timing,receipt and amount of sales and royalties, if any, from our potential products;

 

•                                          the resourcesrequired to successfully complete our clinical trials; 

 

•                                          the time andcosts involved in obtaining regulatory approvals; 

 

•                                          continuedprogress in our research and development programs, as well as the magnitude ofthese programs; 

 

•                                          the cost ofmanufacturing, marketing and sales activities; 

 

•                                          the costsinvolved in preparing, filing, prosecuting, maintaining and enforcing patentclaims; 

 

•                                          the cost ofobtaining and maintaining licenses to use patented technologies; and 

 

•                                          our abilityto establish and maintain additional collaborative arrangements. 

 

Wewill be required to seek additional funding in the future and may do so throughcollaborative arrangements and public or private financings. Additionalfinancing may not be available to us on acceptable terms,

 

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or at all. In addition, the terms of the financing mayadversely affect the holdings or the rights of our stockholders. For example,if we raise additional funds by issuing equity securities, further dilution toour then-existing stockholders will result. If we are unable to obtain fundingon a timely basis, we may be required to significantly curtail one or more ofour research or development programs. We also could be required to seek fundsthrough arrangements with collaborators or others that may require us torelinquish rights to some of our technologies, product candidates or productswhich we would otherwise pursue on our own. 

 

**We are heavilydependent on obtaining regulatory approval for and successfully commercializingBiDil, our most advanced drug candidate.**

** **

Ourresearch, development and management resources are primarily dedicated to ourmost advanced drug candidate, BiDil, which is not expected to be commerciallyavailable until at least 2006, if at all. If we experience significant delaysin completing our phase III confirmatory trial of BiDil, obtain unfavorable oronly marginally favorable results from this trial, or fail to achieveregulatory approval or market acceptance of BiDil, our near-term ability togenerate product revenue, our reputation and our ability to raise additionalcapital will be materially impaired and the value of an investment in our stockwill decline. 

 

**The application ofour nitric oxide technology is unproven in humans and, as a result, we may notbe able to successfully develop and commercialize any products based upon thistechnology.**

** **

A keycomponent of our strategy is to seek to improve existing medicines with ourproprietary nitric oxide technology. Our product candidates include nitricoxide enhancements of existing drugs. Thus, we are modifying compounds whosechemical and pharmacological profiles are well-documented and understood.However, each of our product candidates is a new molecule with a chemical andpharmacological profile that differs from that of the existing drug. None ofour product candidates has been sufficiently studied or tested for its chemicaland pharmacological properties to have been fully explored and documented.These compounds may not demonstrate in patients the chemical andpharmacological properties ascribed to them in laboratory studies, and they mayinteract with human biological systems in unforeseen, ineffective or harmfulways. In addition, it is possible that existing drugs or newly-discovered drugsmay not benefit from the application of our nitric oxide technology. If we arenot able to successfully develop and commercialize drugs based upon ourtechnological approaches, we will not become profitable and the value of ourstock will decline. 

 

**If our clinicaltrials for BiDil and any other product candidates we advance into clinicaltesting are not successful, we may not be able to successfully develop andcommercialize our products.**

** **

In orderto obtain regulatory approvals for the commercial sale of our productcandidates, we and our collaborators will be required to complete extensiveclinical trials in humans to demonstrate the safety and efficacy of our productcandidates. We may not be able to obtain authority from the FDA or otherregulatory agencies to commence or complete these clinical trials. Ifpermitted, such clinical testing may not prove that our drug candidates aresafe and effective to the extent necessary to permit us to obtain marketingapprovals from regulatory authorities. Moreover, positive results demonstratedin preclinical studies and clinical trials that we complete may not beindicative of results obtained in future clinical trials. Furthermore, we, oneof our collaborators, institutional review boards, or regulatory agencies maysuspend clinical trials at any time if it is believed that the subjects orpatients participating in such trials are being exposed to unacceptable healthrisks. Adverse or inconclusive clinical trial results concerning any of ourdrug candidates could require us to conduct additional clinical trials, resultin increased costs and significantly delay the filing for marketing approvalfor those drug candidates with the FDA or result in a filing for a narrowerindication. 

 

Thesuccessful completion of our BiDil trial will depend on, among other things,the rate of patient enrollment. Patient enrollment is a function of manyfactors, including the size of the patient population, the nature of the clinicalprotocol, the availability of alternative treatments, the proximity of patientsto clinical sites and the eligibility criteria for the study. We haveexperienced decreasing patient enrollment in our BiDil trial over time,primarily due to the patient eligibility criteria and having exhausted theavailable pool of potential patients at our clinical sites. As a result, wehave revised the patient eligibility criteria and increased the number ofclinical sites in an attempt to maintain enrollment levels. Despite thesechanges, we may be unable to enroll the number of patients

 

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we need to complete the trial on a timely basis.Delays in planned patient enrollment for the trial may cause us to incur increasedcosts and delay commercialization. 

 

OurBiDil trial is the first clinical trial of BiDil in the specific drugcombination and formulation that we intend to commercialize. We did not conductthe prior clinical trials involving the two generic drugs that comprise theBiDil composition, which were conducted in the 1980s and were not specificallydesigned to study the safety or efficacy of the therapeutic for AfricanAmericans. These prior trials generated the data that served as the basis forthe original new drug application for BiDil filed by Medco Research, now KingPharmaceuticals, a third-party pharmaceutical company with whom we have norelationship. Medco received a non-approvable letter from the FDA with respectto its new drug application in 1997. After re-analysis of this data andextensive discussions with the FDA, in 1999 we acquired the new drugapplication from Dr. Jay Cohn, Professor of the Department of Medicine atthe University of Minnesota, who had acquired the new drug application fromMedco Research. The data generated in these prior trials also served as thebasis for our amendment to that new drug application and the FDA’s resultingrequest for a confirmatory trial. In the trial, we are studying the use ofBiDil as a supplement to current standard-of-care medicines, whereas in priorclinical trials the combination of drugs contained in BiDil was studied as asubstitute for an approved therapeutic. As a result, we have limited clinicalexperience with BiDil in the drug combination and for the specific indicationfor which we intend to seek marketing approval. 

 

TheFood and Drug Administration, or FDA, deemed the original new drug applicationfiled by Medco Research seeking approval for use of BiDil in the general heartfailure population non-approvable because the data did not show a statisticallysignificant benefit in that population. In 2001, the FDA issued us a letterstating that, in addition to the data in African American heart failurepatients already submitted to the agency, a clearly positive trial in AfricanAmericans with heart failure would, together with the satisfaction of otherconditions, including its approval of our manufacturing process and marketingmaterials, provide a basis for approval of BiDil. This letter from the FDA wasnot an “approvable” letter, which means that the FDA retains broad discretionin determining whether to ultimately approve BiDil. 

 

Werely on academic institutions or clinical research organizations to superviseor monitor some or all aspects of our BiDil trial and we expect to rely onacademic institutions and clinical research organizations for other productcandidates we advance into clinical testing. Accordingly, we have less controlover the timing and other aspects of these clinical trials than if we conductedthem entirely on our own. 

 

As aresult of these factors, we, or third parties on whom we rely, may notsuccessfully begin or complete our clinical trials in the time periods we haveforecasted, if at all. Moreover, if we incur costs and delays in our programsor if we do not successfully develop and commercialize our products, our stockprice could decline. 

 

**If we and ourpartners do not obtain and maintain the regulatory approvals required to marketand sell BiDil and our other products under development, then our business willbe unsuccessful and the market price of our stock will substantially decline.**

** **

We andour partners will not be able to market any of our products in the UnitedStates, Europe or in any other country without marketing approval from the FDAor equivalent foreign regulatory agency. The regulatory process to obtainmarket approval for a new drug or medical device takes many years and requiresexpenditures of substantial resources. We have had only limited experience inpreparing applications and obtaining regulatory approvals. 

 

We areseeking regulatory approval of our lead drug candidate, BiDil, for thetreatment of heart failure in African Americans, based upon a confirmatoryclinical trial performed exclusively on subjects who are self-identified asAfrican American. To our knowledge, the FDA has never approved a drug productfor use particularly in an ethnic population. The FDA’s receptiveness to drugsthat are approved and marketed on the basis of different ethnicity-basedtherapeutic outcomes is untested and we believe may be adversely affected bycontrary scientific or public health evidence or political or legal factors.For example, scientific evidence could emerge that suggests that there is nophysiological basis to support pharmaceutical development of drugs based uponethnicity. Moreover, others may express the view that ethnicity is only asociological concept and, accordingly, there is not a valid basis for thecommercialization of medicines based on ethnicity. These factors may impede orprevent us from obtaining FDA approval of BiDil even if the data from our BiDiltrial is positive. 

 

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If wedo not receive required regulatory approval or clearance to market BiDil or anyof our other products under development, we will not be able to develop andcommercialize these products, which will affect our ability to achieveprofitability, and will cause the value of our common stock to substantiallydecline. 

 

**Even if we receiveregulatory approval to market our product candidates, the market may not bereceptive to BiDil or our other product candidates upon their commercialintroduction, which will prevent us from being profitable.**

** **

BiDiland the other product candidates that we are developing are based upon newtechnologies or therapeutic approaches. In addition, we plan to market BiDilonly in the U.S. Key participants in the U.S. pharmaceutical marketplace, suchas physicians, payors and consumers, may not accept a product intended toimprove therapeutic results based on ethnicity. As a result, it may be moredifficult for us to convince the medical community and third-party payors toaccept and use our products. 

 

Otherfactors that we believe will materially affect market acceptance of BiDil andour other product candidates under development include: 

 

•                                          the timing ofour receipt of any marketing approvals, the terms of any approval and thecountries in which approvals are obtained; 

 

•                                          the safety,efficacy and ease of administration; 

 

•                                          the successof our physician education programs; and 

 

•                                          theavailability of government and third-party payor reimbursement. 

 

**If we or our thirdparty manufacturers or service providers fail to comply with regulatory laws andregulations, we or they could be subject to enforcement actions, which couldaffect our ability to market and sell our products and may harm our reputation.**

** **

If weor our third party manufacturers or service providers fail to comply withapplicable federal, state or foreign laws or regulations, we could be subjectto enforcement actions which could affect our ability to develop, market andsell our products successfully and could harm our reputation and lead to lessacceptance of our products by the market. These enforcement actions include: 

 

•                                          productseizures; 

 

•                                          voluntary ormandatory recalls; 

 

•                                          voluntary ormandatory patient or physician notification; 

 

•                                          withdrawal ofproduct approvals; 

 

•                                          restrictionson, or prohibitions against, marketing our products; 

 

•                                          fines; 

 

•                                          restrictionson importation of our products; 

 

•                                          injunctions; 

 

•                                          civil andcriminal penalties; and 

 

•                                          suspension ofreview, refusal to approve pending applications or withdrawal of approval. 

 

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**We depend on Merckand Boston Scientific, and expect to depend on additional collaborativepartners in the future, for a significant portion of our revenues and todevelop, conduct clinical trials with, obtain regulatory approvals for, andmanufacture, market and sell some of our products under development, and thesecollaborations may not be successful.**

** **

We arerelying on Merck to fund the development of and to commercialize products basedupon our nitric oxide-enhancing COX-2 inhibitor technologies, and we arerelying on Boston Scientific to fund the development of and to commercializenitric oxide-enhancing stents using our technology to treat the re-closure ofarteries, or restenosis, following balloon angioplasty, a treatment to widen blockedarteries. All of our $12.8 million of revenues for 2003 and our $2.3 million ofrevenues for the three months ended March 31, 2004 were derived fromlicensing, research and development and milestone payments paid to us by Merckand Boston Scientific. Our agreements with Merck and Boston Scientific, whichprovide to us research and development funding for certain of our leadprograms, generally are terminable upon short notice by the collaborator andadditional payments due to us under the collaboration agreements are generallybased on the achievement of specific development and commercializationmilestones that may not be met. These collaborations also entitle us to royaltypayments that are based on the sales of products developed and marketed throughthe collaboration. These future royalty payments may not materialize or be lessthan expected if the related products are not successfully developed ormarketed, or if we or our collaborators are forced to license intellectualproperty from third parties. Accordingly, we cannot predict with certaintywhen, if ever, either of these collaborations will continue to generaterevenues for us. The loss of either of these large collaborations would likelysignificantly decrease our near term revenues and future prospects. We intendto enter into collaborative agreements with other parties in the futurerelating to other product candidates, and we are likely to have similar riskswith regard to any such future collaborations. 

 

Inaddition, our existing collaborations and any future collaborative arrangementsthat we seek to enter into with third parties may not be scientifically orcommercially successful. Factors that may affect the success of ourcollaborations include the following: 

 

•                                          ourcollaborators may be pursuing alternative technologies or developingalternative products, either on their own or in collaboration with others, thatmay be competitive with the product on which they are collaborating with us orwhich could affect our collaborative partners’ commitment to the collaborationwith us; 

 

•                                          reductions inmarketing or sales efforts or a discontinuation of marketing or sales of ourproducts by our collaborators would reduce our revenues, which will be based ona percentage of net sales by the collaborator; 

 

•                                          ourcollaborators may terminate their collaborations with us, which could make itdifficult for us to attract new collaborators or adversely affect how we areperceived in the business and financial communities; and 

 

•                                          ourcollaborators may pursue higher-priority programs or change the focus of theirdevelopment programs, which could affect the collaborators’ commitment to us. 

 

**We have no salesand marketing experience and may depend significantly on third parties who maynot successfully commercialize our products.**

** **

Wehave no sales, marketing and distribution experience. We intend toindependently launch and market BiDil and certain other products not alreadysubject to marketing agreements where we believe the target physician marketcan be effectively reached by the internal sales force we intend to establish.In order to develop an internal sales, distribution and marketing capability,we will have to invest significant amounts of money and management resources.We plan to minimize these expenditures prior to obtaining the results of ourBiDil trial, but this may provide us insufficient time to build our sales andmarketing capabilities in advance of BiDil’s launch. If we develop thesecapabilities and approval of BiDil is delayed substantially, or BiDil is notapproved, we will have incurred significant unrecoverable expenses. 

 

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Forproducts for which we decide to perform sales, marketing and distributionfunctions ourselves, we could face a number of additional risks, including: 

 

•                                          we may not beable to attract and build a significant marketing or sales force; 

 

•                                          the cost ofestablishing a marketing or sales force may not be justifiable in light of therevenues generated by any particular product; and 

 

•                                          our directsales and marketing efforts may not be successful. 

 

Forproduct candidates with larger target physician markets, we plan to relysignificantly on sales, marketing and distribution arrangements with thirdparties. For example, we plan to rely on our existing collaborative partnersfor the commercialization of nitric oxide-enhancing COX-2 inhibitors and stentscoated with nitric oxide-releasing compounds. We may have to enter intoadditional marketing arrangements in the future and we may not be able to enterinto these arrangements on terms which are favorable to us, if at all. Inaddition, we may have limited or no control over the sales, marketing anddistribution activities of these third parties. Our future revenues may dependheavily on the success of the efforts of these third parties. 

 

**We have limitedmanufacturing experience and resources and we must incur significant costs todevelop this expertise or rely on third parties to manufacture our products.**

** **

Wehave no manufacturing experience. In order to continue to develop products,apply for regulatory approvals and commercialize our products, we will need todevelop, contract for, or otherwise arrange for the necessary manufacturingcapabilities. We currently rely on third parties for the production of certainof our products, including BiDil, for preclinical and clinical testingpurposes, and we expect to continue to do so in the future. Only a limitednumber of manufacturers can supply nitric oxide-based medicines, and we havenot secured a long-term commercial supply arrangement for any of our productcandidates, including BiDil. The manufacturing process for any of our productsis an element of the FDA approval process and we will need to contract withmanufacturers who can meet the FDA requirements on an ongoing basis. As part ofobtaining regulatory approval for BiDil, we will need to engage a commercialmanufacturer that will be required, among other things, to produce validationbatches of the drug consistent with regulatory approval requirements. To theextent we enter into manufacturing arrangements with third parties, we will bedependent upon these third parties to perform their obligations in a timelymanner and in accordance with applicable government regulations. In addition,if we receive the necessary regulatory approval for our products, we alsoexpect to rely on third parties, including our collaborative partners, toproduce materials required for commercial production. We may experiencedifficulty in obtaining adequate manufacturing capacity for our needs. If weare unable to obtain or maintain contract manufacturing of these products, orto do so on commercially reasonable terms, we may not be able to successfullydevelop and commercialize our products. 

 

To theextent that we enter into manufacturing arrangements with third parties, wewill be dependent upon these third parties to perform their obligations in atimely manner and consistent with regulatory requirements. If third-partymanufacturers with whom we contract fail to perform their obligations, we maybe adversely affected in a number of ways, including: 

 

•                                          we may not beable to initiate or continue clinical trials of products that are underdevelopment; 

 

•                                          we may bedelayed in submitting applications for regulatory approvals for our products; 

 

•                                          we may berequired to cease distribution and/or recall some or all batches of ourproducts; and 

 

•                                          ultimately,we may not be able to meet commercial demands for our products. 

 

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**Our patentprotection for BiDil, which is a combination of two generic drugs, is limited,and we may be subject to generic substitution or competition and resultingpricing pressure.**

** **

Wehave no composition of matter patent covering our lead product candidate,BiDil, which we intend to market for the treatment of heart failure in AfricanAmericans. BiDil is a combination of two generic drugs, isosorbide dinitrateand hydralazine, which are approved and separately marketed, in dosages similarto those we include in BiDil, for indications other than heart failure, atprices below the prices we expect to charge for BiDil. We have two issuedmethod-of-use patents covering, respectively, the use of the combination ofisosorbide dinitrate and hydralazine to reduce the incidence of mortalityassociated with chronic congestive heart failure, expiring in 2007, and totreat heart failure in African Americans, expiring in 2020. As a practicalmatter, we may not be able to enforce these method-of-use patents to preventphysicians from prescribing isosorbide dinitrate and hydralazine for thetreatment of heart failure in African Americans, even though neither drug isapproved for such use. 

 

Otherfactors may also adversely affect our patent protection for BiDil. Thecombination therapy of isosorbide dinitrate and hydralazine for use in heartfailure was developed through lengthy, publicly-sponsored clinical trialsconducted during the 1980s, prior to the filing of the patent application thatresulted in the 2007 patent. The U.S. Patent and Trademark Office, or U.S.patent office, considered published reports on these clinical trials andconcluded that they did not constitute prior art that would prevent theissuance of the 2007 patent. The U.S. patent office also considered thequestion of whether the 2007 patent constituted prior art with respect to the2020 patent, but determined that the claims of the 2020 patent were non-obviousand patentable. A court considering the validity of the 2007 or 2020 patentswith respect to questions of prior art might be presented with other allegedprior art or might reach conclusions different from those reached by the U.S.patent office. If the 2007 or 2020 patents were to be invalidated or ifphysicians were to prescribe isosorbide dinitrate and hydralazine rather thanBiDil for heart failure in African Americans, our BiDil revenue could besignificantly reduced, we could fail to recover the cost of developing BiDiland BiDil might not be a viable product. 

 

**If we are not ableto obtain and enforce patent protection for our discoveries, our ability todevelop and commercialize our product candidates will be harmed and we may notbe able to operate our business profitably.**

** **

Oursuccess depends, in part, on our ability to protect proprietary methods andtechnologies that we develop under the patent and other intellectual propertylaws of the United States and other countries, in order to prevent others fromusing our inventions and proprietary information. Because certain United Statespatent applications are confidential until patents issue, such as applicationsfiled prior to November 29, 2000 or applications filed after such datewhich will not be filed in foreign countries, third parties may have filed patentapplications for technology covered by our pending patent applications withoutour being aware of those applications, and our patent applications may not havepriority over any patent applications of others. 

 

Ourstrategy depends on our ability to rapidly identify and seek patent protectionfor our discoveries. This process is expensive and time consuming, and we maynot be able to file and prosecute all necessary or desirable patentapplications at a reasonable cost or in a timely manner. Despite our efforts toprotect our proprietary rights, unauthorized parties may be able to obtain anduse information that we regard as proprietary. The mere issuance of a patentdoes not guarantee that it is valid or enforceable, so even if we obtainpatents, they may not be valid or enforceable against third parties. 

 

Theissued patents and patent applications for our drug development candidates andnitric oxide technology include claims with respect to both the composition ofspecific drugs or compounds and specific methods of using these drugs orcompounds in therapeutic areas. In some cases, like BiDil, our only patentprotection is with respect to the method of using a drug or compound and we donot have patent claims covering the underlying composition of the drug or compound.Method-of-use patents may provide less protection for our product candidatesbecause it may be more difficult to prove direct infringement against apharmaceutical manufacturer or distributor. In addition, if any other companymarkets a drug that we expect to market under the protection of a method-of-usepatent, physicians will be able to prescribe that drug for use in theindication for which we have obtained approval, even though the drug is notapproved for such indication. As a practical matter, we may not be able toenforce our method-of-use patents against physicians prescribing drugs for suchoff-label use. Off-label use and any resulting off-label sales could make itmore difficult to obtain the price we would otherwise wish to achieve for, orto

 

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successfully commercialize, our product. In addition,in those situations where we have only method-of-use patent coverage for aproduct candidate, it may be more difficult to find a pharmaceutical companypartner to license or support development of our product candidate. 

 

Ourpending patent applications may not result in issued patents. The patentposition of pharmaceutical or biotechnology companies, including ours, isgenerally uncertain and involves complex legal and factual considerations. Thestandards which the U.S. patent office and its foreign counterparts use togrant patents are not always applied predictably or uniformly and can change.There is also no uniform, worldwide policy regarding the subject matter andscope of claims granted or allowable in pharmaceutical or biotechnologypatents. Accordingly, we do not know the degree of future protection for ourproprietary rights or the breadth of claims allowed in any patents issued to usor to others. 

 

Wealso rely on trade secrets, know-how and technology, which are not protected bypatents, to maintain our competitive position. If any trade secret, know-how orother technology not protected by a patent were to be disclosed to or independentlydeveloped by a competitor, our business and financial condition could bematerially adversely affected. 

 

**If we becomeinvolved in patent litigation or other proceedings to enforce our patentrights, we could incur substantial costs and expenses, substantial liabilityfor damages or be required to stop our product development andcommercialization efforts.**

** **

Athird party may sue us for infringing on its patent rights. Likewise, we mayneed to resort to litigation to enforce a patent issued to us or to determinethe scope and validity of third party proprietary rights. For example, the costto us of any litigation or other proceeding relating to intellectual propertyrights, even if resolved in our favor, could be substantial, and the litigationwould divert our management’s efforts. Some of our competitors may be able tosustain the costs of complex patent litigation more effectively than we canbecause they have substantially greater resources. In addition, our strategy ofproviding nitric oxide-enhancing versions of existing medicines could lead tomore patent litigation as the markets for these existing medicines are verylarge and competitive. Uncertainties resulting from the initiation andcontinuation of any litigation could limit our ability to continue ouroperations. 

 

Forexample, we have filed an opposition in the European Patent Office, or EPO, torevoke NicOx S.A.’s European Patent No. 904 110, which we refer to as EP‘110. This patent is directed to the use of organic compounds containing anitrate group or inorganic compounds containing a nitric oxide group to reducethe toxicity caused by certain drugs, including non-steroidal anti-inflammatorydrugs, or NSAIDs. The basis for our opposition, in part, is that the claims inEP ‘110 are anticipated and therefore invalid if they are construed to cover asingle compound chemically linked to a nitrate. While we believe that theclaims in EP ‘110 will be invalidated, or be narrowed, we cannot predict withcertainty the outcome of the opposition. If the EPO finds that there are validclaims in EP ‘110 that cover compounds chemically linked to nitrates, we may beadversely affected in our ability to market our product candidates for reducinggastrointestinal toxicity without first obtaining a license from NicOx, whichmay not be available on favorable terms, if at all. We do not know whetherNicOx has filed claims of similar scope to the EP ‘110 patent in the U.S. 

 

If anyparties are able to successfully claim that our creation or use of proprietary technologiesinfringes upon their intellectual property rights, we might be forced to paydamages, potentially including treble damages, if we are found to havewillfully infringed on such parties’ patent rights. In addition to any damageswe might have to pay, a court could require us to stop the infringing activityor obtain a license on unfavorable terms. Moreover, any legal action against usor our partners claiming damages and seeking to enjoin commercial activitiesrelating to the affected products and processes could, in addition tosubjecting us to potential liability for damages, require us or our partners toobtain a license in order to continue to manufacture or market the affectedproducts and processes. Any license required under any patent may not be madeavailable on commercially-acceptable terms, if at all. In addition, somelicenses may be non-exclusive, and therefore our competitors may have access tothe same technology licensed to us. If we fail to obtain a required license orare unable to design around a patent, we may be unable to effectively marketsome of our technology and products, which could limit our ability to generaterevenues or achieve profitability and possibly prevent us from generatingrevenue sufficient to sustain our operations. In addition, a number of ourcollaborations provide that royalties payable to us for licenses to ourintellectual property may be offset by amounts paid by our collaborationpartners to third parties who have competing or superior

 

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intellectual property positions in the relevantfields, which could result in significant reductions in our revenues fromproducts developed through collaborations. 

 

**We in-license asignificant portion of our principal proprietary technologies and if we fail tocomply with our obligations under any of the related agreements, we could loselicense rights that are necessary to developing BiDil and our other productcandidates.**

 

We area party to a number of licenses that give us rights to third party intellectualproperty that is necessary for our business. In particular, we have obtainedthe exclusive right to develop and commercialize BiDil pursuant to a licenseagreement with Dr. Jay N. Cohn, and some of our intellectual propertyrights relating to nitric oxide compounds have been obtained pursuant tolicense agreements with the Brigham and Women’s Hospital and Boston University.We expect to enter into additional licenses in the future. These licensesimpose various development, commercialization, funding, royalty, diligence, andother obligations on us. If we breach these obligations, the licensor may havethe right to terminate the license or render the license non-exclusive, whichwould result in us being unable to develop, manufacture and sell products thatare covered by the licensed technology. 

 

**We facesignificant competition, which may result in others discovering, developing orcommercializing products before or more successfully than we do.**

 

Thepharmaceutical and medical device industries are highly competitive andcharacterized by rapid and significant technological change. Our principalcompetitors in the markets we have targeted, such as cardiovascular disease andinflammation, are large, multinational pharmaceutical and medical devicecompanies that have substantially greater financial and other resources than wedo and are conducting extensive research and development activities ontechnologies and products similar to or competitive with ours. Moreover, thereare a number of companies currently marketing and selling products to treatheart failure in the general population that will compete with BiDil, if it isapproved. These include GlaxoSmithKline, plc, which currently markets Coreg;Merck & Co., Inc., which currently markets Vasotec;Pfizer Inc., which currently markets Inspra; and Astra Zeneca, plc, whichcurrently markets Tropol XL. We also face competition from other pharmaceuticalcompanies seeking to develop drugs using nitric oxide technology. For example,we are aware of at least four companies working in the area of nitric-oxidebased therapeutics. These companies are GB Therapeutics, of Ontario, Canada,which we believe is in early stage preclinical development of nitrate medicinesfor Alzheimer’s disease, Parkinson’s disease and dementia; NicOx S.A., a Frenchcompany, which we believe is engaged in the research and development ofnitric-oxide releasing derivatives of existing drug classes; OxoN Medica, ofCalifornia, which we believe is in preclinical development of drug targets fordiseases resulting from dysfunction of the endothelial cells that line theinside of blood vessel walls; and Vasopharm BIOTECH GmbH, of Germany, which webelieve is focused on disease mechanisms involving nitric oxide signalingpathways within the vascular wall. 

 

Manyof our competitors are more experienced than we are in drug development andcommercialization, obtaining regulatory approvals and product marketing andmanufacturing. As a result, our competitors may develop and commercializepharmaceutical products before we do. In addition, our competitors may developand commercialize products which render our products obsolete ornon-competitive. 

 

**We may be exposedto product liability claims and may not be able to obtain or maintain adequateproduct liability insurance.**

** **

Ourbusiness exposes us to the risk of product liability claims that is inherent inthe manufacturing, testing, and marketing of human therapeutic products. Ourclinical trial liability insurance is subject to deductibles and coveragelimitations. We do not currently have any commercial product liabilityinsurance. We may not be able to obtain or maintain insurance on acceptableterms, or at all. Moreover, any insurance that we do obtain may not provideadequate protection against potential liabilities. 

 

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**RisksRelating to Our Common Stock**

** **

**Our stock price issubject to fluctuation, which may cause an investment in our stock to suffer adecline in value.**

** **

Themarket price of our common stock may fluctuate significantly in response tofactors that are beyond our control. The stock market in general has recentlyexperienced extreme price and volume fluctuations. The market prices ofsecurities of pharmaceutical, biotechnology and other life sciences companieshave been extremely volatile, and have experienced fluctuations that often havebeen unrelated or disproportionate to the operating performance of thesecompanies. For example, our stock price could be adversely affected if drugsdeveloped by others that utilize nitric oxide technology are not successful inclinical testing, fail to achieve regulatory approval or are not accepted inthe marketplace, even though these failures may not be related to our productcandidates or technology. These broad market fluctuations could result inextreme fluctuations in the price of our common stock, which could cause adecline in the value of our common stock. 

 

**We may incursignificant costs from class action litigation due to our expected stockvolatility.**

** **

Ourstock price may fluctuate for many reasons, including as a result of publicannouncements regarding the progress of our development and marketing efforts,the addition or departure of key personnel, variations in our quarterlyoperating results and changes in market valuations of pharmaceutical,biotechnology or other life sciences companies. Recently, when the market priceof a company’s stock has been volatile as our stock price may be, holders ofthat company’s stock have occasionally brought securities class actionlitigation against the company that issued the stock. If any of ourstockholders were to bring a lawsuit of this type against us, even if thelawsuit was without merit, we could incur substantial costs defending thelawsuit. A stockholder lawsuit could also divert the time and attention of ourmanagement. 

 

**Insiders havesubstantial control over us and could delay or prevent a change in corporatecontrol.**

** **

As ofMarch 31, 2004, our directors, executive officers and principalstockholders, together with their affiliates, own, in the aggregate,approximately 56% of our outstanding common stock. As a result, thesestockholders, if acting together, will have the ability to determine theoutcome of matters submitted to our stockholders for approval, including theelection and removal of directors and any merger, consolidation or sale of allor substantially all of our assets. In addition, these persons, if actingtogether, will have the ability to control the management and affairs of ourcompany. Accordingly, this concentration of ownership may harm the market priceof our common stock by: 

 

•                                          delaying,deferring or preventing a change in control of our company; 

 

•                                          impeding amerger, consolidation, takeover or other business combination involving ourcompany; or 

 

•                                          discouraginga potential acquirer from making a tender offer or otherwise attempting toobtain control of our company. 

 

**Provisions in ourcharter documents and under Delaware law may prevent or frustrate attempts bystockholders to change current management and hinder efforts to acquire acontrolling interest in us.**

** **

Provisionsof our restated certificate of incorporation and bylaws may discourage, delayor prevent a merger, acquisition or other change in control that stockholdersmay consider favorable, including transactions in which stockholders mightotherwise receive a premium for their shares. These provisions may prevent orfrustrate attempts by stockholders to replace or remove our current management.These provisions include: 

 

•                                          a prohibitionon stockholder action through written consent; 

 

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•                                          a requirementthat special meetings of stockholders be called only by a majority of the boardof directors, the chairman of the board or the chief executive officer; 

 

•                                          advancenotice requirements for stockholder proposals and nominations; 

 

•                                          limitationson the ability of stockholders to amend, alter or repeal our certificate ofincorporation or bylaws; and 

 

•                                          the authorityof the board of directors to issue preferred stock with such terms as the boardof directors may determine. 

 

Inaddition, Section 203 of the Delaware General Corporation Law prohibits apublicly-held Delaware corporation from engaging in a business combination withan interested stockholder, generally defined as a person or entity whichtogether with its affiliates owns or within the last three years has owned 15%of our voting stock, for a period of three years after the date of thetransaction in which the person became an interested stockholder, unless thebusiness combination is approved in a prescribed manner. Accordingly,Section 203 may discourage, delay or prevent a change in control of ourcompany.

 

**Item 3.****           Quantitativeand Qualitative Disclosures About Market Risk******

 

We areexposed to market risk related to changes in interest rates. Our currentinvestment policy is to maintain an investment portfolio consisting mainly ofU.S. money market and high-grade corporate securities, directly or throughmanaged funds, with maturities of one year or less. Our cash is deposited inand invested through highly rated financial institutions in North America. Ourmarketable securities are subject to interest rate risk and will fall in valueif market interest rates increase. If market interest rates were to increaseimmediately and uniformly by 10% from levels at March 31, 2004, weestimate that the fair value of our investment portfolio would decline by animmaterial amount. We have the ability to hold our fixed income investmentsuntil maturity, and therefore we do not expect our operating results or cashflows to be affected to any significant degree by a change in market interestrates on our investments. 

 

**Item 4.****           Controlsand Procedures**

 

Ourmanagement, with the participation of our chief executive officer and chieffinancial officer, evaluated the effectiveness of our disclosure controls andprocedures (as defined in Rules 13a-15(e) and 15d-15(e) under the ExchangeAct) as of March 31, 2004. Based on this evaluation, our chief executiveofficer and chief financial officer concluded that, as of March 31, 2004,our disclosure controls and procedures were (1) designed to ensure thatmaterial information relating to us is made known to our chief executiveofficer and chief financial officer by others within our company, particularlyduring the period in which this report was being prepared and(2) effective, in that they provide reasonable assurance that informationrequired to be disclosed by us in the reports that we file or submit under theExchange Act is recorded, processed, summarized and reported within the timeperiods specified in the SEC’s rules and forms. 

 

Nochange in our internal control over financial reporting (as defined inRules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during thefiscal quarter ended March 31, 2004 that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting. 

 

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**PART II.****                                                OTHERINFORMATION**

 

**Item 2.****           Changesin Securities, Use of Proceeds****andIssuer Purchases of Equity Securities.**

 

***Use of Proceeds from Registered Securities***

 

OnNovember 10, 2003, we completed an initial public offering of 6,000,000shares of our common stock at a price to the public of $11.00 per share. Theoffer and sale of all of the shares in the initial public offering wereregistered under the Securities Act of 1933, as amended, pursuant to aregistration statement on Form S-1 (File No. 333-108104), which wasdeclared effective by the Securities and Exchange Commission onNovember 5, 2003. Deutsche Bank Securities Inc., J.P. MorganSecurities Inc. and Pacific Growth Equities were the managing underwritersof the initial public offering. The offering commenced on November 5, 2003and did not terminate until after the sale of all of the securities registeredin the Registration Statement. As part of the initial public offering, wegranted these underwriters an over-allotment option to purchase up to anadditional 900,000 shares of our common stock from us. The underwriters did notexercise the over-allotment option. There were no selling stockholders in theoffering.

 

Theaggregate price of the offering amount registered on our behalf was$66.0 million. In connection with the offering, we paid approximately$4.6 million in underwriting discounts and commissions to the underwritersand incurred an estimated $1.3 million in other offering expenses. None ofthe underwriting discounts and commissions or offering expenses were incurredor paid to directors or officers of ours or their associates or to personsowning 10 percent or more of our common stock or to any affiliates ofours. After deducting the underwriting discounts and commissions and offeringexpenses, we received net proceeds from the offering of approximately$60.1 million. As of March 31, 2004, all of such proceeds remain fromthe offering, and pending use of the proceeds, we have invested these funds inshort-term, interest-bearing, investment-grade securities.

 

**Item 6.****           Exhibits and Reports onForm 8-K.**

 

(a)               Theexhibits listed in the accompanying exhibit index are filed as part of thisQuarterly Report on Form 10-Q.

 

(b)              Thefollowing reports on Form 8-K were filed for the quarter for which this reportis filed:

 

Current Report on Form 8-K dated and filedJanuary 12, 2004 (reporting, under Items 9 and 12, information related toa presentation by Michael D. Loberg, Ph.D., our President and Chief ExecutiveOfficer, at the JP Morgan Healthcare Conference, including information relatedto our 2003 year-end financial targets).

 

Current Report on Form 8-K dated and filedMarch 4, 2004 (reporting, under Item 12, our company’s press releasereporting financial results for the quarter ended December 31, 2003).

 

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**SIGNATURES**

** **

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized. 

 
|               | NITROMED, INC. |
|--------------------|----------------|
|               |           |   |
|               |           |   |
|               | By:            | /s/ Joseph Grimm |   |
|               |           | Joseph Grimm |
|               |           | Senior Vice  President, Business Development and Chief  Financial Officer, Treasurer and Secretary *(Principal  Financial Officer)* |
|               |           |   |
| Date: May 17, 2004 |           |   |

 

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**EXHIBITINDEX**

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                                                                |
|---------------------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |   |                                                                                                                                                                                                           |
| 31.1                |   | Certification of the Chief Executive Officer pursuant to  Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934, as  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 31.2                |   | Certification of the Chief Financial Officer pursuant to  Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934, as  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 32.1                |   | Certification of the Chief Executive Officer pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002                                              |
| 32.2                |   | Certification of the Chief Financial Officer pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002.                                             |

 

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