**Tableof Contents**

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**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, DC 20549**

** **

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**FORM 10-Q**

 

**(Mark One)**

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

 

**For TheQuarterly Period Ended September 30, 2008**

 

**Or**

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

 

**For the Transition Period from           to          **

 

**Commission File Number 000-50439**

 

**NitroMed, Inc.**

(ExactName of Registrant as Specified in Its Charter)

 

| **Delaware**                                                     | ** ** | **22-3159793**      |
|------------------------------------------------------------------|------------|---------------------|
| (State or Other  Jurisdiction of                                 |       | (I.R.S. Employer    |
| Incorporation or  Organization)                                  |       | Identification No.) |
|                                                             |       |                |
| **45 Hayden Avenue, Suite 3000, Lexington,  Massachusetts** | ** ** | **02421**           |
| (Address of  Principal Executive Offices)                        |       | (Zip Code)          |

 

Registrant’stelephone number, including area code: **(781) 266-4000**

 

 

Former Name, FormerAddress and Formal Fiscal Year, if Changed Since Last Report

 

Indicate by check markwhether the registrant: (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days.  Yes x     No o

 

Indicate by check mark whether the registrantis a large accelerated filer, an accelerated filer, a non-accelerated filer, ora smaller reporting company. See definitions of “large accelerated filer,” “acceleratedfiler,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 
| Large accelerated filer o                                                                             |   | Accelerated filer x         |
|------------------------------------------------------------------------------------------------------------|--------|----------------------------------|
| Non-accelerated filer o  (Do not check if a smaller       reporting company) |   | Smaller reporting company x |

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act). Yes  o   No  x

 

As of October 31,2008, the registrant had 46,076,551 shares of Common Stock, $0.01 par value pershare, outstanding.

 

 

 

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NITROMED, INC.

 

FORM 10-Q

 

FOR THE QUARTERLYPERIOD ENDED SEPTEMBER 30, 2008

 

**TABLE OFCONTENTS**

 
|               |                                                                                                     | **Page** |
|--------------------|----------------------------------------------------------------------------------------------------------|----------|
| PART I.       | FINANCIAL  INFORMATION                                                                                   | 3        |
| Item  1.           | Financial  Statements (unaudited)                                                                        | 3        |
|               | Condensed Balance Sheets as of September 30, 2008  and December 31, 2007                       |     |
|               | Condensed Statements of Operations for the three and  nine months ended September 30, 2008 and 2007 |     |
|               | Condensed Statements of Cash Flows for the nine months  ended September 30, 2008 and 2007           |     |
|               | Notes To Unaudited Financial Statements                                                                  |     |
| Item 2.            | Management’s  Discussion and Analysis of Financial Condition and Results of Operations              | 14       |
| Item 3.            | Quantitative  and Qualitative Disclosures About Market Risk                                              | 21       |
| Item 4.            | Controls and  Procedures                                                                                 | 22       |
| PART II.      | OTHER INFORMATION                                                                                        | 22       |
| Item  1A.          | Risk  Factors                                                                                            | 22       |
| Item 5.            | Other Information                                                                                        | 35       |
| Item  6.           | Exhibits                                                                                                 | 35       |
| SIGNATURES         | 36                                                                                                       |
| EXHIBIT INDEX | 37                                                                                                       |

 

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**PART I.FINANCIAL INFORMATION**

 

**Item 1.****           Financial Statements(unaudited)**

 

**NITROMED, INC.CONDENSED BALANCE SHEETS(in thousands, except par value amounts)**

 
| ** **                                                                                                                                                                     | ** ** | **September 30,   2008** | ** ** | **December 31,   2007** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------|------------|-----------------------------------|------------|
| **Assets**                                                                                                                                                                     | ** ** | ** **                         | ** ** | ** **                        | ** ** |
| Current assets:                                                                                                                                                                |       |                               |       |                              |       |
| Cash and cash equivalents                                                                                                                                                      |       | $                                  | 13,631     |                              | $          | 8,167 |   |
| Short-term marketable securities                                                                                                                                               |       | 4,192                              |       | 23,233                            |       |
| Accounts receivable                                                                                                                                                            |       | 1,979                              |       | 1,929                             |       |
| Inventories                                                                                                                                                                    |       | 1,230                              |       | 1,401                             |       |
| Prepaid expenses and other current assets                                                                                                                                      |       | 170                                |       | 334                               |       |
| Total current assets                                                                                                                                                           |       | 21,202                             |       | 35,064                            |       |
| Property and equipment, net                                                                                                                                                    |       | 137                                |       | 312                               |       |
| Long-term marketable securities                                                                                                                                                |       | 1,553                              |       | —                            |       |
| Restricted cash                                                                                                                                                                |       | —                             |       | 191                               |       |
|                                                                                                                                                                           |       |                               |       |                              |       |
| Total assets                                                                                                                                                                   |       | $                                  | 22,892     |                              | $          | 35,567 |   |
|                                                                                                                                                                           |       |                               |       |                              |       |
| **Liabilities  and Stockholders’ Equity**                                                                                                                                 | ** ** | ** **                         | ** ** | ** **                        | ** ** |
| Current liabilities:                                                                                                                                                           |       |                               |       |                              |       |
| Accounts payable                                                                                                                                                               |       | $                                  | 690        |                              | $          | 3,235 |   |
| Accrued expenses                                                                                                                                                               |       | 3,107                              |       | 6,379                             |       |
| Accrued restructuring                                                                                                                                                          |       | 71                                 |       | —                            |       |
| Current portion of long-term debt                                                                                                                                              |       | —                             |       | 3,728                             |       |
|                                                                                                                                                                           |       |                               |       |                              |       |
| Total current liabilities                                                                                                                                                      |       | 3,868                              |       | 13,342                            |       |
|                                                                                                                                                                           |       |                               |       |                              |       |
| Commitments and contingencies (Note 10)                                                                                                                                        |       |                               |       |                              |       |
| Stockholders’ equity:                                                                                                                                                     |       |                               |       |                              |       |
| Preferred stock, $0.01 par value; 5,000  shares authorized; no shares issued or outstanding                                                                                    |       | —                             |       | —                            |       |
| Common stock, $0.01 par value; 65,000  shares authorized; 46,042 and 45,381 shares issued and outstanding at September 30,  2008 and December 31, 2007, respectively |       | 460                                |       | 454                               |       |
| Additional paid-in capital                                                                                                                                                     |       | 368,526                            |       | 367,125                           |       |
| Accumulated deficit                                                                                                                                                            |       | (349,973                           | )          | (345,382                          | )          |
| Accumulated other comprehensive income                                                                                                                                         |       | 11                                 |       | 28                                |       |
| Total stockholders’ equity                                                                                                                                                |       | 19,024                             |       | 22,225                            |       |
| Total liabilities and stockholders’ equity                                                                                                                                |       | $                                  | 22,892     |                              | $          | 35,567 |   |

 

Seeaccompanying notes.

 

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**NITROMED, INC.CONDENSED STATEMENTS OF OPERATIONS(in thousands, except per share amounts) (unaudited)**

 
| ** **                                  | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                  | ** ** | **2008**                                             | ** ** | **2007**                                            | ** ** | **2008** | ** ** | **2007** | ** ** |
| Revenues:                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Product sales                               |       | $                                                    | 4,003      |                                                | $          | 3,759 |   | $ | 11,767 |   | $ | 11,042 |   |
|                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Cost and operating expenses:                |       |                                                 |       |                                                |       |   |   |   |   |
| Cost of product sales                       |       | 1,429                                                |       | 560                                                 |       | 2,943 |   | 2,151 |   |
| Research and development (1)                |       | 482                                                  |       | 3,807                                               |       | 2,622 |   | 9,745 |   |
| Sales, general and administrative (1)       |       | 2,534                                                |       | 8,127                                               |       | 8,438 |   | 23,709 |   |
| Restructuring charge                        |       | (17                                                  | )          | —                                              |       | 2,708 |   | 1,004 |   |
| Total cost and operating expenses           |       | 4,428                                                |       | 12,494                                              |       | 16,711 |   | 36,609 |   |
| Loss from operations                        |       | (425                                                 | )          | (8,735                                              | )          | (4,944 | ) | (25,567 | ) |
| Non-operating income:                       |       |                                                 |       |                                                |       |   |   |   |   |
| Interest expense                            |       | (4                                                   | )          | (152                                                | )          | (90 | ) | (585 | ) |
| Interest income                             |       | 124                                                  |       | 533                                                 |       | 579 |   | 1,448 |   |
| Other expense                               |       | (85                                                  | )          | —                                              |       | (137 | ) | — |   |
| Total non-operating income                  |       | 35                                                   |       | 381                                                 |       | 352 |   | 863 |   |
|                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Net loss                                    |       | $                                                    | (390       | )                                                   | $          | (8,354 | ) | $ | (4,592 | ) | $ | (24,704 | ) |
|                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Basic and diluted net loss per common share |       | $                                                    | (0.01      | )                                                   | $          | (0.18 | ) | $ | (0.10 | ) | $ | (0.60 | ) |
| Weighted average shares outstanding:        |       |                                                 |       |                                                |       |   |   |   |   |
| Basic and diluted                           |       | 46,042                                               |       | 45,180                                              |       | 45,954 |   | 40,877 |   |

 

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(1) Includes stock-based compensation expense asfollows:

 
| Research and development          |   | $ | (20 | )      | $ | 581 |   | $ | 74    |   | $ | 1,666 |   |
|-----------------------------------|--------|---|-----|--------|---|-----|--------|---|-------|--------|---|-------|--------|
| Sales, general and administrative |   | $ | 282 |   | $ | 762 |   | $ | 1,071 |   | $ | 3,078 |   |

 

See accompanying notes.

 

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**NITROMED, INC.CONDENSED STATEMENTS OF CASH FLOWS(in thousands) (unaudited)**

 
| ** **                                                                   | ** ** | **Nine Months Ended   September 30,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **2008**                                                  | ** ** | **2007** | ** ** |
| **Operating  activities**                                                    | ** ** | ** **                                                | ** ** | ** ** | ** ** |
| Net loss                                                                     |       | $                                                         | (4,592     | ) | $ | (24,704 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities: |       |                                                      |       |   |   |
| Depreciation and amortization                                                |       | 89                                                        |       | 247 |   |
| Non-cash restructuring charge                                                |       | 72                                                        |       | — |   |
| Stock-based compensation expense                                             |       | 1,145                                                     |       | 4,744 |   |
| Impairment charge on auction rate  securities                                |       | 97                                                        |       | — |   |
| Changes in operating assets and  liabilities:                                |       |                                                      |       |   |   |
| Accounts receivable                                                          |       | (50                                                       | )     | (145 | ) |
| Inventories                                                                  |       | 171                                                       |       | 150 |   |
| Prepaid expenses and other current assets                                    |       | 164                                                       |       | 39 |   |
| Deferred revenue                                                             |       | —                                                    |       | (206 | ) |
| Accounts payable and accrued expenses                                        |       | (5,817                                                    | )          | 1,775 |   |
| Accrued restructuring charge                                                 |       | 71                                                        |       | (299 | ) |
| Net cash used in operating activities                                        |       | (8,650                                                    | )          | (18,399 | ) |
| **Investing  activities**                                                    | ** ** | ** **                                                | ** ** | ** ** | ** ** |
| Purchase of property and equipment                                           |       | —                                                    |       | (162 | ) |
| Proceeds from sale of equipment                                              |       | 14                                                        |       | 528 |   |
| Sales of marketable securities                                               |       | 27,452                                                    |       | 46,903 |   |
| Purchases of marketable securities                                           |       | (10,078                                                   | )          | (54,717 | ) |
| Other assets                                                                 |       | 191                                                       |       | 612 |   |
| Net cash provided by (used in) investing  activities                         |       | 17,579                                                    |       | (6,836 | ) |
| **Financing  activities**                                                    | ** ** | ** **                                                | ** ** | ** ** | ** ** |
| Net proceeds from sale of common stock                                       |       | —                                                    |       | 18,240 |   |
| Principal payments on long-term debt                                         |       | (3,728                                                    | )          | (5,128 | ) |
| Proceeds from employee stock plans                                           |       | 263                                                       |       | 341 |   |
| Net cash (used in) provided by financing  activities                         |       | (3,465                                                    | )          | 13,453 |   |
| Net change in cash and cash equivalents                                      |       | 5,464                                                     |       | (11,782 | ) |
| Cash and cash equivalents at beginning of  period                            |       | 8,167                                                     |       | 21,074 |   |
| Cash and cash equivalents at end of period                                   |       | $                                                         | 13,631     |   | $ | 9,292 |   |

 

Seeaccompanying notes.

 

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**NITROMED, INC.NOTES TO UNAUDITED FINANCIAL STATEMENTSSEPTEMBER 30, 2008**

** **

### **(1)****                                 Operationsand Basis of Presentation**

###  

The accompanyingunaudited financial statements of NitroMed, Inc. (“NitroMed” or the “Company”)have been prepared in accordance with United States generally acceptedaccounting principles (“GAAP”) for interim financial information and with theinstructions to Form 10-Q and Article 10 of Regulation S-X.Accordingly, they do not include all of the information and footnotes requiredby GAAP for complete financial statements. In the opinion of management, alladjustments (consisting of normal recurring accruals) considered necessary forthe fair presentation of the results for the interim periods have beenincluded. The preparation of financial statements in conformity with GAAPrequires management to make estimates and assumptions that affect the amountsreported in the financial statements and accompanying notes. Interim resultsare not necessarily indicative of results to be expected for the entire fiscalyear ending December 31, 2008. These unaudited financial statements shouldbe read in conjunction with the Company’s latest annual audited financial statementsand related notes thereto included in the Company’s Annual Report on Form 10-Kfor the fiscal year ended December 31, 2007, which was filed with theSecurities and Exchange Commission (“SEC”) on March 6, 2008.

 

NitroMed is the maker of BiDil®. Sinceits inception, the Company has funded its operations mainly through the sale ofequity securities, debt financings, license fees, research and developmentfunding, milestone payments from its collaborative partners and, more recently,sales of BiDil. In June 2005, the U.S. Food and Drug Administration (“FDA”)approved BiDil for the treatment of heart failure in self-identified blackpatients as an adjunct to current standard therapies. BiDil is an orallyadministered fixed-dose combination of isosorbide dinitrate and hydralazinehydrochloride. The Company commercially launched BiDil in July 2005, andhas since generated approximately $43.6 million in product sales,including product sales of $4.0 million during the third quarter of 2008.

 

Based upon the Company’s determination thatthe successful commercialization of BiDil requires a magnitude of resourcesthat it cannot currently allocate to the program, as well as the Company’splans to conserve cash in order to pursue the development of an extended releaseformulation of BiDil, known as BiDil XRTM, in January 2008 the Companydiscontinued active promotional efforts related to BiDil. The Companyconcurrently implemented a restructuring plan in which the Company immediatelyand significantly reduced its workforce. Although the Company has discontinuedactive promotional efforts related to BiDil, the Company continues tomanufacture and sell BiDil and maintain the product on the market for patientsthrough normal wholesale and retail channels. The Company has also conductedlimited advertising in select medical publications, and has utilized athird-party marketing firm to contact healthcare professionals on the Company’sbehalf, in each case in an effort to maintain a limited market presence forBiDil.

 

As discussed below under Note 13, “SubsequentEvent,” on October 22, 2008 the Company entered into a purchase and saleagreement to sell the Company’s BiDil drug business, including BiDil XR, to JHPPharmaceuticals, LLC, a privately held specialty pharmaceutical company.  JHP Pharmaceuticals will also assume all butcertain specified liabilities relating to the BiDil drug business.  Subject to the satisfaction of specified closing conditions, the Companyexpects to close the transaction in early 2009. The Company is also continuingto consider and explore strategic alternatives for its remaining business andassets that are intended to maximize shareholder value. These strategicalternatives may include, without limitation, a business combination with acompany that is believed to have significant unrealized value or growthpotential, a divestiture of any remaining assets, or another similartransaction or transactions. If the Company is unable to successfullyconsummate one or more of such strategic transactions, it may be required tocease its operations and dissolve its business, including seeking to liquidateits remaining assets and discharge any remaining liabilities.

 

Pending the successful sale of the Company’sBiDil drug business to JHP Pharmaceuticals, the Company expects to incuroperating expenses going forward primarily related to keeping BiDil availableon the market prior to the consummation of that asset sale. Whether or not theBiDil drug business asset sale is completed, the Company believes that itsexisting sources of liquidity and the cash expected to be generated from futuresales of BiDil will be sufficient to fund its operations for at least the nexttwelve months. In the event that the closing of the asset sale is significantlydelayed or is not completed, the Company’s future revenue from sales of BiDilcould decline significantly based on a number of factors, including a declinein BiDil prescriptions by healthcare providers and a decline in the willingnessof third party payors to provide reimbursement at favorable levels, in eachcase due, at least in part, to the prior elimination of the Company’s salesforce and discontinuation of its active promotional efforts related to BiDil.

 

### **(2)****           RevenueRecognition**

###  

The Company’s principalsource of revenue is the sale of BiDil, which the Company began shipping in July of2005.

 

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*Product Sales/Deferred Revenue.*TheCompany follows the provisions of SEC Staff Accounting Bulletin No. 104, *Revenue Recognition,* and recognizes revenue from productsales upon delivery of product to wholesalers or pharmacies, when persuasiveevidence of an arrangement exists, the fee is fixed or determinable, title toproduct and associated risk of loss has passed to the wholesalers andpharmacies, and collectibility of the related receivable is reasonably assured.All revenues from product sales are recorded net of applicable allowances forsales returns, rebates, and discounts. For arrangements where the risk of losshas not passed to wholesalers or pharmacies, the Company defers the recognitionof revenue until such time as the risk of loss has passed. In addition, theCompany evaluates the level of shipments to wholesalers and pharmacies on aquarterly basis compared to the estimated level of inventory in the saleschannel, remaining shelf life of the product shipped, weekly prescription dataand quarterly forecasted sales.

 

*Sales Returns, Allowances,Rebates and Discounts.*The Company’s product sales aresubject to returns, wholesaler allowances, rebates, and cash and contractdiscounts that are customary in the pharmaceutical industry. A large portion ofthe Company’s product sales are made to pharmaceutical wholesalers for furtherdistribution through pharmacies to patients, who are consumers of the product.All revenues from product sales are recorded net of applicable allowances forsales returns, wholesaler allowances, rebates and cash and contract discounts.The Company determines the provisions for sales returns, allowances, rebatesand discounts based primarily on historical experience, known trends andevents, and contractual terms.

 

*Product Returns*. Consistent withindustry practice, the Company offers contractual return rights that allowcustomers to return product only during the period that is six months prior to,and twelve months after, product expiration. During the first quarter of 2008,BiDil’s shelf life for newly produced commercial product was increased to36 months from the date of manufacture. Factors that are considered in theCompany’s estimate of future product returns include an analysis of the amountof product in the wholesaler and pharmacy channels, discussions with keywholesalers and other customers regarding inventory levels and shipment trends,review of consumer consumption data, and the remaining time to expiration ofthe Company’s product. At September 30, 2008 and December 31, 2007,the Company’s product return reserve was $1.0 million and $0.9 million,respectively. For the three months ended September 30, 2008 and 2007, theCompany recorded a reduction to revenue for product returns of $0.2 million and$0.2 million, respectively. For the nine months ended September 30, 2008and 2007, the Company recorded a reduction to revenue for product returns of$0.9 million and $0.8 million, respectively. The return rate and associated reserve are evaluated on a quarterlybasis, assessing each of the factors described above, and adjusted accordingly.In developing a reasonable estimate for the reserve for product returns, theCompany considers the factors in paragraph 8 of Statement of FinancialAccounting Standards No. 48, *Revenue Recognition When aRight of Return Exists*. Based on the factors noted above, theCompany believes that its estimate of product returns is reasonable andchanges, if any, from this estimate would not have a material impact to theCompany’s financial statements.

 

*Sales Discounts, Rebates andAllowances*. Sales discounts, rebates and contractual allowances result primarilyfrom sales under contracts with healthcare providers, wholesalers, Medicare andMedicaid programs and other governmental agencies. The Company estimates salesdiscounts, rebates and contractual allowances by considering the followingfactors: current contract prices, terms, sales volume, estimated customer andwholesaler inventory levels and current average rebate rates. For the threemonth periods ended September 30, 2008 and 2007, the Company recordedsales discounts, rebates and other allowances of $1.5 million and $1.3 million,respectively. For the nine month periods ended September 30, 2008 and2007, the Company recorded sales discounts, rebates and other allowances of$4.5 million and $3.8 million, respectively.

 

**(3)****           Fair Value Measurements**

 

In September 2006, the FinancialAccounting Standards Board issued Statement of Financial Accounting Standards No. 157,*Fair Value Measurements* (“SFAS157”). SFAS 157 defines fair value, establishes a framework for measuring fairvalue in accordance with generally accepted accounting principles and expandsdisclosures about fair value measurements. SFAS 157 codifies the definition offair value as the price that would be received to sell an asset or paid totransfer a liability in an orderly transaction between market participants atthe measurement date, clarifies the principle that fair value should be basedon the assumptions market participants would use when pricing the asset orliability and establishes a fair value hierarchy that prioritizes theinformation used to develop those assumptions. SFAS 157 is effective for fiscalyears beginning after November 15, 2007 and interim periods within thoseyears. The Company adopted SFAS 157 on January 1, 2008. The three levelsof the fair value hierarchy under SFAS 157 are described below:

 

·                  Level1 – Observable inputs such as quoted prices in active markets that areaccessible at the measurement date for identical assets or liabilities. Thefair value hierarchy gives the highest priority to Level 1 inputs.

 

·                  Level2 - Other inputs that are observable, directly or indirectly, such asquoted prices for similar assets and liabilities or market corroborated inputs.

 

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·                  Level 3 -Unobservable inputs used when little or no market data is available and requirethe Company to develop its own assumptions about how market participants wouldprice the assets or liabilities. The fair value hierarchy gives the lowestpriority to Level 3 inputs.

 

In determining fair value, the Company utilizes valuation techniquesthat maximize the use of observable inputs and minimize the use of unobservableinputs to the extent possible, and also considers counterparty credit risk inits assessment of fair value.

 

The following table sets forth, by levelwithin the fair value hierarchy, a summary of the fair market value ofavailable-for-sale securities classified as cash equivalents and marketablesecurities held at September 30, 2008:

 
| **September 30, 2008**                | ** ** | **Level 1** | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
|-------------------------------------------------|------------|------------------|------------|------------------|------------|------------------|------------|-----------|------------|
| Cash equivalent available-for-sale  investments |       | $                | 12,191     |             | $          | —           |       | $         | —     |   | $ | 12,191 |   |
| Corporate securities                            |       | $                | —     |             | $          | 4,192            |       | $         | —     |   | $ | 4,192 |   |
| Total short-term marketable securities          |       | $                | —     |             | $          | 4,192            |       | $         | —     |   | $ | 4,192 |   |
| Long-term marketable securities (1)             |       | $                | —     |             | $          | —           |       | $         | 1,553      |   | $ | 1,553 |   |

 

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(1)  The Company recorded impairmentcharges of $97,000 for the nine months ended September 30, 2008 related tocertain auction rate securities that are classified as Level 3 securities.

 

The reconciliation of the Company’s assetsmeasured at fair value on a recurring basis using unobservable inputs (Level 3)is as follows:

 
| ** **                                          | ** ** | **Auction Rate Securities** | ** ** |
|-----------------------------------------------------|------------|-----------------------------|------------|
| Balance at January 1, 2008                     |       | $                           | —     |   |
| Transfers to Level 3                                |       | 1,650                       |       |
| Unrealized loss reported in statement of operations |       | (97                         | )          |
| Balance at September 30, 2008                  |       | $                           | 1,553      |   |

 

For available-for-sale securities that utilize Level 1 and, ifapplicable, Level 2 inputs, the Company utilizes both direct and indirectobservable price quotes. Due to the lack of market quotes or other inputs thatare observable for certain of the auction rate securities held by the Company,the Company utilizes valuation models for these securities that relyexclusively on Level 3 inputs, including those that are based on expected cashflow streams and collateral values, such as assessments of counterparty creditquality, default risk underlying the security, discount rates and overallcapital market liquidity. The valuation of the auction rate securities held bythe Company is subject to uncertainties and, therefore, is difficult topredict. Factors that may impact the Company’s valuation for these securitiesinclude changes to credit ratings of the securities and to the underlyingassets supporting those securities, rates of default of the underlying assets,underlying collateral value, discount rates, counterparty risk and ongoingstrength and quality of market credit and liquidity.

 

As of September 30, 2008, all marketablesecurities held by the Company have maturity dates that range from 2008 to2045.

 

As of September 30, 2008, the Companyheld approximately $1.6 million of auction rate securities. These auctionrate securities are comprised of approximately $1.3 million of preferred stockclosed-end fund auction rate securities and a $0.3 million government-backedstudent loan auction rate security. Auction rate securities are securities thatare structured to allow for short-term interest rate resets, but withcontractual maturity dates that can be well in excess of ten years. Auctionshave historically provided a liquid market for these securities. However,beginning in February 2008, the majority of auction rate securities in themarketplace failed at auction due to sell orders exceeding buy orders. Suchfailures resulted in the interest rate on these securities resetting topredetermined rates within the underlying loan agreement, which might be higheror lower than the current market rate of interest. The Company’s ability toliquidate its auction rate securities and fully recover the carrying value ofits investments in the near term may be limited or not exist. In the event thatthe Company needs to access its investments in these auction rate securities,the Company will not be able to do so until a future auction of theseinvestments is successful, the issuer redeems the outstanding securities, abuyer is found outside the auction process, or the securities mature, whichcould be in as many as 37 years. As a result of these factors, the Companyrecorded impairment charges of $45,000 and $97,000 for the three and nine monthperiods ended September 30, 2008, respectively. The Company may berequired to record additional impairment charges on these investments from timeto time.

 

As of September 30, 2008, the Company classifiesits auction rate securities as long-term marketable securities, reflectingmanagement’s determination that these securities may not be liquidated withinone year due to the auction failures described above. The Company has notexperienced any realized losses on sales of auction rate securities in 2008.

 

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For the nine months ended September 30,2008, the cumulative impairments recorded by the Company include an impairmentof $16,000 on its government-backed student loan auction rate security and animpairment of $81,000 on its preferred stock closed-end fund auction ratesecurities.

 

The primary objective of the Company’s investmentactivities is to preserve principal while at the same time maximizing theincome that the Company receives from the Company’s investments withoutsignificantly increasing risk. To achieve this objective, the Company maintainsits portfolio of cash equivalents and marketable securities in a variety ofsecurities, including U.S. government agencies, municipal notes, certainsecurities which may have an auction reset feature, corporate notes and bonds,commercial paper, and money market funds. These securities are classified asavailable for sale and consequently are recorded on the balance sheet at fairvalue with unrealized gains or losses, other than those determined to beother-than-temporary impairments, reported as a separate component ofaccumulated other comprehensive income (loss). If interest rates rise, themarket value of the Company’s investments may decline, which could result in arealized loss if the Company is forced to sell an investment before itsscheduled maturity. The Company does not utilize derivative financialinstruments to manage its interest rate risks.

 

**(4)****           Inventories**

 

### Inventories are stated at the lower of costor market, with cost determined on a first-in, first-out basis. Inventoriesconsisted of the following (in thousands):

 
| ** **     | ** ** | **September 30,   2008** | ** ** | **December 31,   2007** | ** ** |
|----------------|------------|------------------------------------|------------|-----------------------------------|------------|
| Raw materials  |       | $                                  | 144        |                              | $          | 349 |   |
| Finished goods |       | 1,086                              |       | 1,052                             |       |
| Total          |       | $                                  | 1,230      |                              | $          | 1,401 |   |

 

On a quarterly basis, the Company analyzes its current inventory levelsand future irrevocable inventory purchase commitments and writes down inventorythat has become un-saleable or has a cost basis in excess of its expected netrealizable value. In addition, the Company evaluates its future irrevocableinventory purchase commitments compared to forecasted product sales, thecurrent level of inventory and its related product dating. For the three monthperiods ended September 30, 2008 and 2007, the Company recorded inventoryimpairment charges of $0.2 million and $-0-, respectively. For the nine monthperiods ended September 30, 2008 and 2007, the Company recorded inventoryimpairment charges of $0.5 million and $0.5 million, respectively.

 

### **(5)****           Stock-Based Compensation**

###  

The Company follows the fair value recognition provisions of Statementof Financial Accounting Standards No. 123(R),*Share-Based Payment*(“SFAS 123R”). Compensation cost recognized subsequent to December 31,2005 includes: (a) compensation cost for all stock-based payments grantedbut not yet vested as of January 1, 2006, based on the grant-date fairvalue estimated in accordance with the original provisions of Statement ofFinancial Accounting Standards No. 123, *Accountingfor Stock Based Compensation*, and (b) compensation cost for allstock-based payments granted subsequent to January 1, 2006, based on thegrant-date fair value estimated in accordance with the provisions of SFAS123R. Such amounts have been reduced by the Company’s estimate offorfeitures of all unvested awards. Results for prior periods have not beenrestated.

 

For stock options granted to non-employees, the Company recognizescompensation expense in accordance with the requirements of Emerging IssuesTask Force No. 96-18, *Accounting for EquityInstruments That Are Issued to Other Than Employees for Acquiring, or inConjunction with Selling, Goods or Services* (“EITF 96-18”)*.* EITF 96-18 requires that companies recognizecompensation expense based on the estimated fair value of options granted tonon-employees over their vesting period, which is generally the period duringwhich services are rendered by such non-employees. The fair value of unvestednon-employee stock awards is re-measured at each reporting period.

 

In March and April 2007,the Company entered into restricted stock agreements with certain executiveofficers and employees of the Company, pursuant to which these individuals weregranted an aggregate of 734,790 shares of the Company’s common stock under theCompany’s Amended and Restated 2003 Stock Incentive Plan (the “2003 Plan”),which are subject to forfeiture to the Company prior to vesting under certaincircumstances, including voluntary separation or termination of employment forcause. The forfeiture provision lapses as follows: 25% of the shares are nolonger subject to forfeiture to the Company, or “vest,” on the date that is sixmonths after the grant date; 25% vest on the first anniversary of the grantdate; and 50% vest on the second anniversary of the grant date. Upon achange in control of the Company or upon termination of the employee’semployment without cause, all unvested restricted shares shall immediately vestin full. The Company recognized $18,000 and $239,000 of stock-basedcompensation expense related to this restricted common stock for the threemonth periods ended September 30, 2008 and 2007, respectively. The Companyrecognized $956,000 and $556,000 of stock-based compensation expense related tothis restricted common stock for the nine month periods ended September 30,2008 and 2007, respectively.  Included inthe expense for the nine 

 

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months ended September 30, 2008 is $770,000 ofexpense for accelerated vesting related to involuntary terminations inconnection with the Company’s January 2008 restructuring.  On the accompanying balance sheets, thenumber of shares of the Company’s common stock outstanding does not include34,751 and 451,778 shares of unvested restricted common stock as of September 30,2008 and December 31, 2007, respectively.

 

The fair value of each stock option is estimated on the grant dateusing the Black-Scholes option-pricing model. Information pertaining to stockoptions and related assumptions is noted in the following table:

 
| ** **                                               | ** ** | **Nine Months Ended   September 30,** | ** ** |
|----------------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                               | ** ** | **2008**                                                  | ** ** | **2007** | ** ** |
| Options granted (in thousands)                           |       | 385                                                       |       | 951 |   |
| Weighted-average exercise price of stock  options        |       | $                                                         | 1.01       |   | $ | 2.63 |   |
| Weighted-average grant date fair-value of  stock options |       | $                                                         | 0.67       |   | $ | 1.61 |   |
| Assumptions:                                             |       |                                                      |       |   |   |
| Volatility                                               |       | 76                                                        | %          | 76 | % |
| Risk-free interest rate                                  |       | 3.1                                                       | %          | 4.8 | % |
| Expected life (years)                                    |       | 5.5                                                       |       | 5.0 |   |
| Dividend                                                 |       | None                                                      |       | None |   |

 

Volatility is determined exclusively using historical volatility dataof the Company’s common stock based on the period of time since the Company’scommon stock has been publicly traded. The risk-free interest rate isbased on the U.S. Treasury yield curve in effect at the time of grantcommensurate with the expected life assumption. The expected life of stockoptions granted is based exclusively on historical data and represents theweighted average period of time that stock options granted are expected to beoutstanding. The expected life is applied to the stock option grant group as awhole, as the Company does not expect substantially different exercise orpost-vesting termination behavior among its employee population.

 

The Company is using the straight-line attribution method to recognizestock-based compensation expense. The amount of stock-based compensationexpense recognized during a period is based on the value of the portion of theawards that are ultimately expected to vest. SFAS 123R requires forfeitures tobe estimated at the time of grant and revised, if necessary, in subsequentperiods if actual forfeitures differ from those estimates. The term “forfeitures”is distinct from “cancellations” or “expirations” and represents only theunvested portion of the surrendered option. The Company has applied an annualforfeiture rate of 7.0% to all unvested options as of September 30, 2008.This analysis will be re-evaluated quarterly and the forfeiture rate will beadjusted as necessary. Ultimately, the actual expense recognized over thevesting period will only be for those options that vest.

 

A summary of option activity under the Company’s 2003 Plan as of September 30,2008, and changes during the nine month period then ended is presented below(in thousands, except weighted average data):

 
| ** **                                             | ** ** | **Options   Outstanding** | ** ** | **Weighted-  average   Exercise Price** | ** ** | **Weighted-   average   Remaining  Contracted  Term in  Years** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|--------------------------------------------------------|------------|--------------------------------|------------|---------------------------------------------------|------------|--------------------------------------------------------------------------------|------------|---------------------------------|------------|
| Outstanding at December 31, 2007                  |       | 4,748                          |       | $                                                 | 6.28       |                                                                           |       |                            |       |   |
| Granted                                                |       | 385                            |       | $                                                 | 1.01       |                                                                           |       |                            |       |   |
| Exercised                                              |       | (102                           | )          | $                                                 | 0.72       |                                                                           |       |                            |       |   |
| Forfeited/Cancelled                                    |       | (2,117                         | )          | $                                                 | 6.74       |                                                                           |       |                            |       |   |
| Outstanding at September 30, 2008                 |       | 2,914                          |       | $                                                 | 5.44       |                                                                           | 6.31       |                            | $          | — |   |
| Vested or expected to vest at September 30,  2008 |       | 2,803                          |       | $                                                 | 5.55       |                                                                           | 6.22       |                            | $          | — |   |
| Exercisable at September 30, 2008                 |       | 2,007                          |       | $                                                 | 6.43       |                                                                           | 5.33       |                            | $          | — |   |

 

During the nine months ended September 30, 2008 and 2007, the totalintrinsic value of options exercised (i.e., the difference between the marketprice at exercise and the price paid by the employee to exercise the options)was $26,000 and $526,000, respectively, and the total amount of cash receivedfrom exercise of these options was $73,000 and $311,000, respectively. Thetotal grant-date fair value of stock options that vested during the nine monthsended September 30, 2008 and 2007 was approximately $1.9 million and $2.5million, respectively.

 

As of September 30, 2008, there was $1.9 million of totalunrecognized compensation cost related to unvested stock options. This cost isexpected to be recognized over a weighted average period of 1.9 years.

 

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A summary of the Company’s restricted stock award activity as of September 30,2008 and changes during the nine month period then ended is presented below:

 
| ** **                                                    | ** ** | **Restricted Shares  Outstanding  (in thousands)** | ** ** | **Weighted-  Average  Grant Date  Fair Value   Per Share** | ** ** |
|---------------------------------------------------------------|------------|--------------------------------------------------------------|------------|--------------------------------------------------------------------------------|------------|
| **Non-vested  shares outstanding at December 31, 2007**  |       | 452                                                          |       | $                                                                              | 3.22       |   |
| Awards granted                                                |       | —                                                       |       | $                                                                              | —     |   |
| Restrictions lapsed                                           |       | (313                                                         | )          | $                                                                              | 3.22       |   |
| Awards forfeited                                              |       | (104                                                         | )          | $                                                                              | 3.22       |   |
| **Non-vested  shares outstanding at September 30, 2008** |       | 35                                                           |       | $                                                                              | 3.22       |   |

 

As of September 30, 2008, there was $51,000 of total unrecognizedcompensation cost related to unvested restricted shares. The remainingcompensation cost is expected to be recognized over the remaining vesting termof less than a year.

 

**(6)**                                 Restructuring

** **

In the first quarter of 2008, the Companyrecorded restructuring charges of $2.7 million, which was comprised ofseverance benefits of $2.6 million and impairment charges of$0.1 million for disposed computer equipment. The severance benefits wererecorded in accordance with Statement of Financial Accounting Standards No. 112,*Employers’**Accounting for Postemployment Benefits* for contractualtermination benefits for certain executives and SFAS 146 for one-timetermination benefits for the remainder of employees terminated. In conjunctionwith the January 2008 restructuring, the Company eliminated approximately80 positions and discontinued active promotional activities related to BiDil.

 

The following table summarizes the activityas of September 30, 2008 related to the January 2008 restructuringplan:

 

| ** **          | ** ** | **Charge** | ** ** | **Cash  Payments and   Write-offs** | ** ** | **Accrued at    September 30,**

**2008** | ** ** |
|---------------------|------------|------------|------------|-----------------------------------------------|------------|---------------------------------------------------------------|------------|
| Workforce reduction |       | $          | 2,636      |                                          | $          | (2,565                                                        | )          | $ | 71 |   |
| Impairment          |       | 72         |       | (72                                           | )          | —                                                        |       |
| Total               |       | $          | 2,708      |                                          | $          | (2,637                                                        | )          | $ | 71 |   |

 

**(7)**                                 AccumulatedOther Comprehensive Income/(Loss)

** **

The Company presents comprehensive loss in accordance with Statementof Financial Accounting Standards No. 130, *Reporting ComprehensiveIncome*. Accumulated other comprehensiveloss is comprised of net loss and unrealized gains and losses onavailable-for-sale marketable securities. For the three months ended September 30,2008 and 2007, total comprehensive loss equaled $388,000 and $8,331,000,respectively. For the nine months ended September 30, 2008 and 2007, totalcomprehensive loss equaled $4,609,000 and $24,665,000, respectively.

 

### **(8)****                                 LossPer Share**

###  

Basic net loss per shareis computed by dividing net loss available to common stockholders by theweighted average number of shares of common stock outstanding during theperiod. Since the Company has a net loss for all periods presented, the effectof all potentially dilutive securities, which are comprised of stock optionsand restricted stock, is anti-dilutive. Accordingly, basic and diluted net lossper share are the same.

 

### As of September 30, 2008 and 2007,options to purchase 2,913,974 and 4,837,755 shares of common stock,respectively, were not included in the computation of diluted net loss pershare since their inclusion would be anti-dilutive. In addition, 34,751 sharesof unvested restricted common stock issued and outstanding as of September 30,2008 and 456,935 shares of unvested restricted common stock issued andoutstanding as of September 30, 2007 were also not included since theirinclusion would be anti-dilutive.

###  

### **(9)****                                 Concentrationof Credit Risk**

###  

Statement of Financial Accounting Standards No. 105, *Disclosure of Information about Financial Instruments withOff-Balance-Sheet Risk and Financial Instruments with Concentrations of CreditRisk*, requires disclosure of any significant off-balance-sheet andcredit risk concentrations. The Company has no off-balance-sheet orconcentrations of credit risk such as foreign exchange 

 

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contracts, options contracts or other foreign hedging arrangements. TheCompany maintains its cash and cash equivalents and marketable securitiesbalances with several high-credit quality financial institutions.

 

The following table summarizes the number of trade customers thatindividually comprise greater than 10% of total revenues and their respectivepercentage of the Company’s total revenues:

 
| ** **                                 | ** ** | **Number of** | ** ** | ** **                                                            | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------|------------|--------------------|------------|-----------------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                                 | ** ** | **Significant**    | ** ** | **Percentage of Total Revenues by Customer** | ** ** |
| ** **                                 | ** ** | **Customers**      | ** ** | **A**                                                                 | ** ** | **B**      | ** ** | **C**      | ** ** |
| Three months ended September 30, 2008 |       | 3                  |       | 36                                                                    | %          | 37         | %          | 18         | %          |
| Three months ended September 30, 2007 |       | 3                  |       | 34                                                                    | %          | 40         | %          | 16         | %          |
| Nine months ended September 30, 2008  |       | 3                  |       | 35                                                                    | %          | 38         | %          | 18         | %          |
| Nine months ended September 30, 2007  |       | 3                  |       | 35                                                                    | %          | 37         | %          | 17         | %          |

 

The following table summarizes the number of customers thatindividually comprise greater than 10% of total accounts receivable and theirrespective percentage of the Company’s total accounts receivable:

 
| ** **              | ** ** | **Number of ** | ** ** | ** **                                                                            | ** ** | ** ** | ** ** | ** ** | ** ** |
|-------------------------|------------|--------------------------|------------|---------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **              | ** ** | **Significant**          | ** ** | **Percentage of Total Accounts Receivable by Customer** | ** ** |
| ** **              | ** ** | **Customers**            | ** ** | **A**                                                                                 | ** ** | **B**      | ** ** | **C**      | ** ** |
| As of:                  |       |                     |       |                                                                                  |       |       |       |       |       |
| September 30, 2008 |       | 3                        |       | 38                                                                                    | %          | 37         | %          | 18         | %          |
| December 31, 2007  |       | 3                        |       | 34                                                                                    | %          | 38         | %          | 17         | %          |

 

To date, the Company has not written off any significant accountsreceivable.

 

### **(10)****                          Commitmentsand Contingencies**

###  

In February 2005,the Company engaged Schwarz Pharma Manufacturing, Inc. under a five-yearexclusive manufacturing and supply agreement solely for the three times dailyimmediate release dosage formulation of BiDil. In connection with this supplyagreement, the Company placed binding purchase orders of $324,000 forproduction of BiDil finished goods to occur during the fourth quarter of 2008.

 

**(11)****                          Sublease**

 

In May 2008, theCompany entered into an Assignment of Lease and Assumption Agreement (the “AssignmentAgreement”) with Cubist Pharmaceuticals, Inc. (“Cubist”), pursuant towhich the Company assigned to Cubist its lease of approximately 19,815 squarefeet of office space in Lexington, Massachusetts (the “Premises”).  Concurrent with the execution of theAssignment Agreement, the Company entered into a Sublease (the “Sublease”) withCubist, pursuant to which the Company agreed to sublease approximately 4,000square feet of the Premises.  The initial term of the Sublease (the “Term”)was for three months beginning on June 1, 2008. Upon the expirationof the Term, the Company has the right to extend the Sublease, without notice,on a month-to-month basis. The Company has elected to extend the Sublease on amonth-to-month basis subsequent to the expiration of the Term. Pursuant to theterms of the Sublease, the Company is obligated to pay rent to Cubist in theamount of approximately $9,200 per month in advance.

 

**(12)****                          Amendmentto Cohn License Agreement**

 

On September 5, 2008, the Company entered into a letter agreementwith Jay N. Cohn, M.D. (the “Letter Agreement”), pursuant to which the Companyand Dr. Cohn clarified their understandings with respect to royaltypayments pursuant to the Collaboration and License Agreement, dated as of January 22,1999 and as amended on August 10, 2000, January 29, 2001 and March 15,2002, by and between the Company and Dr. Cohn (the “Original Agreement”).  The Letter Agreement resolves certaindisputes with regard to the amount of planned costs and excess costs, as thoseterms are defined and referred to in the amendments to the Original Agreementdated January 29, 2001 and March 15, 2002. In addition, the LetterAgreement clarifies that the Company will pay Dr. Cohn a specified reducedroyalty on net sales of Collaboration Products (as defined in the OriginalAgreement) until such time as the aggregate dollar amount retained by theCompany and not required to be paid to Dr. Cohn as a result of suchreduced royalty rate equals a specified aggregate dollar amount (the “MaximumAmount”).  Once the Maximum Amount has been achieved, the Company willresume making royalty payments to Dr. Cohn at the rate specified in theOriginal Agreement.  Additionally, the Letter Agreement clarifies thatshould the Company sublicense its rights under the Original Agreement to athird party, Dr. Cohn will receive a specified percentage of any royaltypayments the Company receives from the sublicense, and any such payments madeto Dr. Cohn by the Company shall also be subject to offset up to theMaximum Amount.  Pursuant to the terms of the Letter Agreement, theparties 

 

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agreed to terminate the amendments to the Original Agreement dated January 29,2001 and March 15, 2002. In consideration for agreeing to the terms of theLetter Agreement, the Company made a one time cash payment to Dr. Cohn inthe amount of $800,000. This payment has been included as a component of costof product sales in the Company’s interim statement of operations for the threeand nine months ended September 30, 2008.

 

**(13)****                          SubsequentEvent – Agreement to Sell BiDil Drug Business**

 

OnOctober 22, 2008, the Company entered into an asset purchase and saleagreement with JHP Pharmaceuticals, LLC, a privately held specialtypharmaceutical company, pursuant to which JHP Pharmaceuticals has agreed toacquire substantially all of the assets related to the Company’s BiDil drugbusiness. The purchase and sale agreement provides that at closing the Companywill receive consideration of $24.5 million in cash, subject to an accountsreceivable adjustment, plus up to an additional $1.8 million for closing dateinventory.  JHP Pharmaceuticals willassume all but specified liabilities related to the transferred assets.

 

Theasset sale transaction is subject to specified closing conditions, includingthat the Company’s stockholders approve the transaction, that regulatory andother consents are obtained from third parties, and other customary closingconditions.  The obligation of JHPPharmaceuticals to complete the transaction is also subject to the absence ofchanges or circumstances that are materially adverse to the business, financialcondition or results of operations of the BiDil drug business as a whole orthat materially impair the Company’s ability to complete the transaction. TheCompany’s obligation to complete the asset sale is subject to the absence of amaterial adverse effect on the ability of JHP Pharmaceuticals to complete thepurchase of the assets. In connection with the asset purchase and saleagreement, the Company and JHP Pharmaceuticals entered into a voting agreement,dated October 22, 2008, with certain funds affiliated with HealthCareVentures L.L.C., Rho Ventures and Invus Public Equities, L.P., together owningor controlling an aggregate of approximately 28% of the Company’s common stock,pursuant to which such stockholders have agreed, among other things, to votetheir shares of common stock in favor of the asset sale. The Company expects toclose the transaction in early 2009.

 

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

 

**Overview**

** **

***Recent Developments.***

 

BiDil Asset Sale. On October 22,2008, we entered into an asset purchase and sale agreement with JHPPharmaceuticals, LLC, a privately held specialty pharmaceutical company,pursuant to which JHP Pharmaceuticals has agreed to acquire substantially allof the assets related to our BiDil® drug business which is furtherdescribed below.  The purchase and saleagreement provides that at closing we will receive consideration of $24.5million in cash, subject to an accounts receivable adjustment, plus up to anadditional $1.8 million for closing date inventory.  JHP Pharmaceuticals will assume all butspecified liabilities related to the transferred assets.

 

Theasset sale transaction is subject to specified closing conditions, includingthat our stockholders approve the transaction, that regulatory and otherconsents are obtained from third parties, and other customary closingconditions.  The obligation of JHPPharmaceuticals to complete the transaction is also subject to the absence ofchanges or circumstances that are materially adverse to the business, financialcondition or results of operations of the BiDil drug business as a whole orthat materially impair our ability to complete the transaction. Our obligationto complete the asset sale is subject to the absence of a material adverseeffect on the ability of JHP Pharmaceuticals to complete the purchase of theassets.  In connection with the assetpurchase and sale agreement, we and JHP Pharmaceuticals entered into a votingagreement, dated October 22, 2008, with certain funds affiliated with HealthCareVentures L.L.C., Rho Ventures and Invus Public Equities, L.P., together owningor controlling an aggregate of approximately 28% of our common stock, pursuantto which those stockholders have agreed, among other things, to vote theirshares of common stock in favor of the asset sale. We expect to close thetransaction in early 2009.

 

We are also continuing to consider and explore strategic alternativesfor our remaining business and assets that are intended to maximize shareholdervalue.  These strategic alternatives mayinclude, without limitation, a business combination with a company that isbelieved to have significant unrealized value or growth potential, adivestiture of any remaining assets, or another similar transaction ortransactions.   If we are unable tosuccessfully consummate one or more of such strategic transactions, we may berequired to cease our operations and dissolve our business, including seekingto liquidate our remaining assets and discharge any remaining liabilities.

 

Amendment to Cohn LicenseAgreement. On September 5, 2008, we entered into aletter agreement with Jay N. Cohn, M.D., pursuant to which we clarified ourmutual understandings with respect to royalty payments pursuant to thecollaboration and license agreement, dated as of January 22, 1999 and asamended on August 10, 2000, January 29, 2001 and March 15, 2002,by and between us and Dr. Cohn, which we refer to as the originalagreement.  The letter agreement resolvescertain disputes with regard to the amount of planned costs and excess costs,as those terms are defined and referred to in the amendments to the originalagreement dated January 29, 2001 and March 15, 2002. In addition, theletter agreement clarifies that we will pay Dr. Cohn a specified reducedroyalty on net sales of collaboration products (as defined in the originalagreement) until such time as the aggregate dollar amount retained by us andnot required to be paid to Dr. Cohn as a result of such reduced royaltyrate equals a specified aggregate dollar amount, which we refer to as themaximum amount.  Once the maximum amount has been achieved, we will resumemaking royalty payments to Dr. Cohn at the rate specified in the originalagreement.  Additionally, the letter agreement clarifies that should wesublicense our rights under the original agreement to a third party, Dr. Cohnwill receive a specified percentage of any royalty payments we receive from thesublicense, and any such payments made to Dr. Cohn by us will also besubject to offset up to the maximum amount.  In consideration for agreeingto the terms of the letter agreement, we made a one time cash payment to Dr. Cohnin the amount of $800,000.

 

***BiDil******.***  Weare the maker of BiDil, which is indicated for the treatment of heart failurein self-identified black patients as an adjunct to current standard therapies.BiDil is an orally administered fixed-dose combination of isosorbide dinitrateand hydralazine hydrochloride. The U.S. Food and Drug Administration, or FDA,approved BiDil in June 2005, and we commercially launched BiDil in July 2005.We are currently a party to an exclusive five-year manufacturing and supplyagreement with Schwarz Pharma Manufacturing, Inc., or Schwarz Pharma, forthe three times daily immediate release dosage formulation of BiDil.

 

In January 2008, we discontinued active promotional activities forBiDil based upon our determination that the successful commercialization ofBiDil requires a magnitude of resources that we cannot currently allocate tothe program, as well as our plans to conserve cash in order to pursuethe development of BiDil XRTM, an extended release formulation of BiDil. Weconcurrently implemented a restructuring plan that eliminated approximately 80positions, and our reduced headcount now stands at approximately 6 positions.Although we have discontinued active promotional efforts related to BiDil, wecontinue to manufacture and sell BiDil and maintain the product on the market for patients throughnormal wholesale and retail channels. We have also conducted limitedadvertising in select medical publications, and have utilized a third-partymarketing firm to contact healthcare professionals on our 

 

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behalf,in each case in an effort to maintain a limited market presence for BiDil. Inconjunction with implementing our January 2008 restructuring plan, weimplemented a plan to pursue strategic alternatives for our business, includingthe potential divestiture of our BiDil and BiDil XR business and/or our nitricoxide intellectual property portfolio, a merger or consolidation with anothercompany, or other comparable arrangements.

 

Our January 2008restructuring follows the elimination of our discovery research program in March 2006and the replacement of our sales force with a small team of seniorcardiovascular business managers in October 2006.  The January 2008 restructuring alsofollows our efforts in August 2007 to deploy an expanded fieldorganization designed to focus on selected prescriber targets.

 

As discussed above under “RecentDevelopments,” in October 2008 we entered into an agreement to sell ourBiDil drug business, including BiDil XR, to JHP Pharmaceuticals. Subject to thesatisfaction of specified closing conditions, we expect to close thistransaction in early 2009.

 

***BiDil XR****.*  BiDil is anorally-administered medicine that is presently dosed three times daily. Inconnection with our efforts to develop BiDil XR as a once-daily formulation, inFebruary 2007 we entered into a license agreement with Elan PharmaInternational Limited, or Elan, pursuant to which Elan granted to us anexclusive worldwide royalty-bearing license to import, use, offer for sale andsell an oral capsule formulation incorporating specified technology owned orcontrolled by Elan and containing, as its sole active combination ofingredients, the combination of the active drug substances isosorbide dinitrateand hydralazine hydrochloride (which includes BiDil XR). In considerationfor the grant of the license, we have agreed to pay Elan royalties that arecalculated by reference to annual net sales parameters set forth in theagreement. In addition, we have also agreed to pay Elan specified amounts uponthe achievement of specified development and commercialization milestone eventsset forth in the agreement.

 

In December 2007, wemet with the FDA to discuss our proposed development plan for BiDil XR. The FDAagreed that our clinical development plan to conduct bioequivalence andpharmacodynamic studies comparing BiDil XR to the current commercial immediaterelease formulation of BiDil is acceptable. Our proposed plan could support FDAapproval to commercialize BiDil XR, if bioequivalence is demonstrated. Thebioequivalence study design compares the pharmacokinetics of the BiDil XRformulation to the pharmacokinetics of BiDil. Pharmacokinetics refers to themanner in which the body absorbs, distributes, metabolizes and excretes thestudy drug. The adequacy of the results will ultimately be determined by theFDA during the regulatory review period.

 

In conjunction withentering into the license agreement with Elan, we also entered into adevelopment agreement with an affiliate of Elan, pursuant to which we haveconducted the clinical studies on BiDil XR prototypes. Our pilot clinicaltrials have tested several BiDil XR prototypes and compared theirpharmacokinetic profile with BiDil tablets. In preliminary clinical studies inhealthy volunteers, we have demonstrated our ability to delay the release ofisosorbide dinitrate and hydralazine hydrochloride by varying the amount ofcoating and ratios of different polymers on beads in capsules. We havecontinued to develop and refine BiDil XR prototypes as we seek a finalformulation. However, additional clinical studies and trials will be requiredin order to finalize the BiDil XR formulation prior to the commencement ofbioequivalence trials.  Based upon ourdecision to enter into an agreement to sell our BiDil drug business, includingBiDil XR, to JHP Pharmaceuticals, we have not yet commenced the next set ofclinical trials pursuant to our BiDil XR development plan.

 

***Liquidity***.  Since our inception, we have mainly fundedour operations through the sale of equity securities, debt financings, licensefees, research and development funding, milestone payments from ourcollaborative partners, and more recently, sales of BiDil.  We have incurred an accumulated deficit of$350.0 million as of September 30, 2008.

 

As a result of our January 2008restructuring, we estimate that our operating expenses related to research anddevelopment and sales, general and administrative functions for the year endingDecember 31, 2008 will be approximately $14 million to $16 million,including share-based compensation expense related to Statement of FinancialAccounting Standards No. 123(R), but excluding cost of product sales andcharges related to our January 2008 restructuring.

 

At September 30,2008, our principal source of liquidity was $17.8 million of cash, cashequivalents and short-term marketable securities, which excludes $1.6 millionof auction rate securities classified as long-term marketable securities due toliquidity constraints.  Pending thesuccessful sale of our BiDil drug business to JHP Pharmaceuticals, if at all,we expect to incur operating expenses going forward primarily related tokeeping BiDil available on the market prior to the consummation of that assetsale. Whether or not the BiDil drug business asset sale is completed, webelieve that our existing sources of liquidity and the cash expected to begenerated from future sales of BiDil will be sufficient to fund our operationsfor at least the next twelve months. In the event that the planned sale of theBiDil drug business is significantly delayed or is not completed, our futurerevenue from sales of BiDil could decline significantly based on a number offactors, including a decline in BiDil prescriptions by healthcare providers anda decline in the willingness of third party payors to provide reimbursement atfavorable levels, in each case due, at least in part, to the prior eliminationof our sales force and discontinuation of our active promotional effortsrelated to BiDil.

 

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We are also continuing toconsider and explore strategic alternatives for our remaining business andassets that may include, without limitation, a business combination, adivestiture of any remaining assets, or another similar transaction ortransactions.   If we are unable tosuccessfully consummate one or more of such strategic transactions, we may berequired to cease our operations and dissolve our business, including seekingto liquidate our remaining assets and discharge any remaining liabilities.

 

**Financial Operations Overview**

 

*Revenue.*Ourfirst commercial product, BiDil, was launched in July 2005, and generatedproduct sales of $4.0 million in the third quarter of 2008. Prior to the launchof BiDil, all of our revenue had been derived from license fees, research anddevelopment payments and milestone payments that we received from our corporatecollaborators. We discontinued active promotion of BiDil in January 2008.

 

*Research andDevelopment.*Research and development expense consistsof expenses incurred in identifying, developing and testing product candidates.These expenses consist primarily of salaries and related expenses forpersonnel, fees paid to professional service providers for independentmonitoring and analysis of our clinical trials, costs of contract research andmanufacturing, product development costs, costs of facilities and BiDil medicalsupport costs.

 

The following summarizesour primary research and development programs. We have not provided programcosts because prior to 2000 we did not track and accumulate cost information byresearch program.  As discussed aboveunder “Recent Developments,” in October 2008 we entered into an agreementto sell our BiDil drug business assets, including BiDil XR, to JHPPharmaceuticals. Subject to the satisfaction of specified closing conditions,we expect to close this transaction in early 2009.

 

·*      BiDil.* From May 2001to July 2004, we enrolled 1,050 patients at 169 clinical sites in theUnited States in our phase III clinical trial for BiDil. We halted the trial inJuly 2004 due to a significant survival benefit in the preliminary datafor patients taking BiDil. The FDA approved BiDil on June 23, 2005, and welaunched BiDil in July 2005. The total cost for the BiDil A-HeFT trial wasapproximately $43.0 million.

 

·       *BiDil XR*. The current formulation of BiDil isan immediate-release tablet that must be taken three times daily. We havepursued the development of BiDil XR, an extended release formulation of BiDilthat could be taken once a day. To date, we have incurred expenses ofapproximately $11.0 million in connection with the development of BiDilXR. Preliminary clinical studies of BiDil XR demonstrated proof of principle,and we commenced clinical development of BiDil XR in October 2006.Additional formulation studies and trials will be required in order to finalizethe formulation prior to the commencement of bioequivalence trials. Because ofits stage of development, and the uncertainties inherent in pharmaceuticaldevelopment generally, we may not be able to successfully develop andcommercialize BiDil XR in the event that the BiDil drug business asset sale isnot completed.

 

·      *Other Discovery Research.* We have used our know-how andexpertise in nitric oxide to develop drug candidates that are nitricoxide-enhancing versions of existing medicines in the areas of cardiovascular,gastrointestinal/anti-inflammatory and pulmonary medicine. These studies havenot progressed beyond a discovery stage of testing, and it remains speculativewhether the addition of nitric oxide will result in an improved clinicalprofile of these medicines. We continue to seek divestiture opportunities forthese product candidates and technologies, and are not presently engaging inany internal research and development activities with respect to these drugs.We cannot be certain if we will be able to secure divestiture arrangements forthese product candidates and intellectual property on favorable terms, if atall.

 

*Sales, General and Administrative.*Sales, general andadministrative expense have historically consisted primarily of salaries andother related costs for personnel in sales and marketing, executive, finance,investor relations, accounting, business development and human resourcefunctions. Other costs include facility costs not otherwise included inresearch and development expense; costs for public relations, advertising andpromotion services; professional fees for legal and accounting services; andcosts related to our former arrangements with a contract sales organization.

 

*Non-OperatingIncome.*Interest income includes interest earned onour cash, cash equivalents and marketable securities, and interest expenseassociated with previous borrowings.

 

**Results of Operations**

 

***ThreeMonths Ended September 30, 2008 and 2007***

** **

*Revenue.*Total revenue for the three months ended September 30,2008 was $4.0 million, compared to $3.8 million for the three months endedSeptember 30, 2007. Product sales of BiDil accounted for all of therevenue for the three month periods ended September 30, 2008 and 2007. Theincrease in product revenue in the 2008 period is due to increased shipments ofBiDil.

 

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*Cost ofProduct Sale*s. Cost of product sales was $1.4 million for thethree month period ended September 30, 2008, compared to $0.6 million forthe three month period ended September 30, 2007. The increase in cost ofproduct sales in the 2008 period is primarily due to the payment of $0.8million to Dr. Jay Cohn in connection with specified amendments to ourlicensing agreement with him. For the three month periods ended September 30,2008 and 2007, we recorded inventory impairment charges of $0.2 million and$-0-, respectively.

 

*Researchand Development.*Research and development expense for thethree months ended September 30, 2008 was $0.5 million, compared to$3.8 million for the three months ended September 30, 2007. The $3.3million, or 87%, decrease in research and development expenses in the currentperiod was primarily due to a $0.7 million decrease in headcount and relatedcompensation expenses as a result of our January 2008 restructuring, a$1.0 million decrease in medical expenditures supporting the commercializationof BiDil and a $1.6 million decrease in spending related to the development ofBiDil XR.

 

The followingtable summarizes the primary components of our research and development expensefor our principal research and development programs for the three month periodsended September 30, 2008 and 2007:

 
| ** **                                          | ** ** | **Three Months   Ended   September 30,** | ** ** |
|-----------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                          | ** ** | **2008**                                                     | ** ** | **2007** | ** ** |
| **Research and Development Program (in  millions)** | ** ** | ** **                                                   | ** ** | ** ** | ** ** |
| BiDil                                               |       | $                                                            | 0.3        |   | $ | 1.7 |   |
| BiDil XR                                            |       | 0.2                                                          |       | 2.1 |   |
| Total research and development expense              |       | $                                                            | 0.5        |   | $ | 3.8 |   |

 

*Sales,General and Administrative.*Sales, general and administrativeexpense for the three months ended September 30, 2008 was $2.5 million,compared to $8.1 million for the three months ended September 30, 2007.The $5.6 million, or 69%, decrease in sales, general and administrative expensewas primarily due to $3.1 million in reduced salary and benefit expenses and$0.6 million in reduced compensation expense related to our January 2008restructuring, as well as $1.7 million in decreased advertising expenses as aresult of our decision to discontinue active promotional efforts for BiDil in January 2008.

 

*Restructuring Charges.*In the first quarter of 2007, we recorded a net restructuring charge of $1.0million related to our lease obligation at our former headquarters. The chargewas recorded pursuant to Statement of Financial Accounting Standards No. 146,*Accounting for Costs Associated with Exit orDisposal Activities*,or SFAS 146. In March 2007, we assigned our lease to a third party andvacated the space.  We paid $1.2 million to end our lease obligation andincurred $0.6 million in expenses primarily related to real estate brokeragefees and clean-up costs. Offsetting these charges was a reversal of $0.8million in accrued rent. All amounts were paid as of March 31, 2007.

 

In the first quarter of 2008, we recordedrestructuring charges of $2.7 million, which were comprised of severancebenefits of $2.6 million related to the reduction of our employeeheadcount from approximately 90 to approximately 6 positions, and impairmentcharges of $0.1 million for disposal of computer equipment. The severancebenefit charges were recorded in accordance with Statement of FinancialAccounting Standards No. 112, *Employers’**Accounting for Postemployment Benefits*, or SFAS 112, for contractualtermination benefits for certain executives and SFAS 146 for one-timetermination benefits for the remainder of employees terminated. As of September 30,2008, we owed $0.1 million for salary continuation payments. As a result ofthis restructuring, we estimate that our operating expenses related to researchand development and sales, general and administrative functions for the yearending December 31, 2008 will be approximately $14 million to$16 million, including share-based compensation expense related toStatement of Financial Accounting Standards No. 123(R), but excluding costof product sales  and charges related toour January 2008 restructuring.

 

*Leasing Arrangements*.In May 2008, we entered into an assignment of lease and assumptionagreement with Cubist Pharmaceuticals, Inc., or Cubist, pursuant to whichwe assigned to Cubist our lease of approximately 19,815 square feet of officespace in Lexington, Massachusetts. Concurrent with the execution of this assignment agreement, we enteredinto a sublease with Cubist, pursuant to which we agreed to sublease approximately4,000 square feet of office space covered under the assigned lease.  Theinitial term of this sublease was for three months beginning on June 1,2008.  Upon the expiration of the initial term, we have the right toextend the sublease, without notice, on a month-to-month basis. We have electedto extend the sublease on a month-to-month basis subsequent to the expirationof the initial term. Pursuant to the terms of the sublease, we are obligated topay rent to Cubist in the amount of approximately $9,200 per month in advance.

 

*Stock-based CompensationExpense.*We recognized $0.3 million and $1.3 millionin stock-based compensation expense for the three months ended September 30,2008 and 2007, respectively. As of September 30, 2008, the totalunrecognized compensation 

 

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cost related to unvested awards was approximately $1.9 million,which will be recognized over a weighted average period of 1.9 years.

 

*Non-OperatingIncome.*Non-operating income was $35,000 for the three monthsended September 30, 2008, compared to $381,000 for the three months ended September 30,2007. The $346,000, or 91%, decrease for the three month period ended September 30,2008 compared to the three month period ended September 30, 2007 isprimarily due to a $148,000 reduction in interest expense incurred on long-termdebt, offset by lower fund balances available for investment and an impairmentcharge of $45,000 related to auction rate securities.

 

***NineMonths Ended September 30, 2008 and 2007***

** **

*Revenue.*Total revenue for the nine months ended September 30,2008 was $11.8 million, compared to $11.0 million for the nine monthsended September 30, 2007. Product sales of BiDil accounted for all of therevenue for the nine month periods ended September 30, 2008 and 2007. Theincrease in product revenue in the 2008 period is due to increased shipments ofBiDil.

 

*Cost ofProduct Sale*s. Cost of product sales was $2.9 million for thenine month period ended September 30, 2008, compared to $2.2 million forthe nine month period ended September 30, 2007. The increase in cost ofproduct sales in the 2008 period is primarily due to the payment of $0.8million to Dr. Jay Cohn in connection with specified amendments to ourlicensing agreement with him. For the nine month periods ended September 30,2008 and 2007, we recorded inventory impairment charges of $0.5 million and$0.5 million, respectively. These inventory impairment charges were related tocommercial trade, patient sample inventory product and raw materials in excessof expected future inventory requirements and future purchase commitments,based on our current sales forecast.

 

*Researchand Development.*Research and development expense for thenine months ended September 30, 2008 was $2.6 million, compared to$9.7 million for the nine months ended September 30, 2007. The $7.1million, or 73%, decrease in research and development expenses in the currentperiod was primarily due to a $2.7 million reduction in headcount and relatedcompensation expenses as a result of our January 2008 restructuring, a$1.9 million decrease in medical expenditures supporting the commercializationof BiDil and a $2.4 million decrease in spending related to the development ofBiDil XR.

 

The followingtable summarizes the primary components of our research and development expensefor our principal research and development programs for the nine month periodsended September 30, 2008 and 2007:

 
| ** **                                          | ** ** | **Nine Months Ended   September 30,** | ** ** |
|-----------------------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                          | ** ** | **2008**                                                  | ** ** | **2007** | ** ** |
| **Research and Development Program (in  millions)** | ** ** | ** **                                                | ** ** | ** ** | ** ** |
| BiDil                                               |       | $                                                         | 1.1        |   | $ | 4.0 |   |
| BiDil XR                                            |       | 1.5                                                       |       | 5.6 |   |
| Other discovery research                            |       | —                                                    |       | 0.1 |   |
| Total research and development expense              |       | $                                                         | 2.6        |   | $ | 9.7 |   |

 

*Sales,General and Administrative.*Sales, general and administrativeexpense for the nine months ended September 30, 2008 was $8.4 million,compared to $23.7 million for the nine months ended September 30, 2007.The $15.3 million, or 64%, decrease in sales, general and administrativeexpense was primarily due to $8.4 million in reduced salary and benefitexpenses and $2.1 million in reduced compensation expense as a result of our January 2008restructuring, as well as $4.3 million in decreased advertising expenses as aresult of our decision to discontinue active promotional efforts for BiDil in January 2008.

 

*Restructuring Charges.*In the first quarter of 2007, we recorded a net restructuring charge of $1.0million related to our lease obligation at our former headquarters. The chargewas recorded pursuant to SFAS 146. In March 2007 we assigned our lease toa third party and vacated the space.  We paid $1.2 million to end ourlease obligation and incurred $0.6 million in expenses primarily related toreal estate brokerage fees and clean-up costs. Offsetting these charges was areversal of $0.8 million in accrued rent. All amounts were paid as of March 31,2007.

 

In the first quarter of 2008, we recordedrestructuring charges of $2.7 million, which were comprised of severancebenefits of $2.6 million related to the reduction of our employeeheadcount from approximately 90 to approximately 6 positions, and impairmentcharges of $0.1 million for disposal of computer equipment. The severancebenefit charges were recorded in accordance with SFAS 112 for contractualtermination benefits for certain executives and SFAS 146 for one-timetermination benefits for the remainder of employees terminated. As of September 30,2008, we owed $0.1 million for salary continuation payments. As a result ofthis restructuring, we estimate that our operating expenses related to researchand development and sales, general and administrative 

 

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functions for the year ending December 31, 2008 will beapproximately $14 million to $16 million, including share-basedcompensation expense related to Statement of Financial Accounting Standards No. 123(R),but excluding cost of product sales  andcharges related to our January 2008 restructuring.

 

*Leasing Arrangements*.In May 2008, we entered into an assignment of lease and assumptionagreement with Cubist, pursuant to which we assigned to Cubist our lease ofapproximately 19,815 square feet of office space in Lexington,Massachusetts.  Concurrent with theexecution of this assignment agreement, we entered into a sublease with Cubist,pursuant to which we agreed to sublease approximately 4,000 square feet ofoffice space covered under the assigned lease.  The initial term of thissublease was for three months beginning on June 1, 2008.  Upon theexpiration of the initial term, we have the right to extend the sublease,without notice, on a month-to-month basis. We have elected to extend the sublease on a month-to-month basissubsequent to the expiration of the initial term. Pursuant to the terms of thesublease, we are obligated to pay rent to Cubist in the amount of approximately$9,200 per month in advance.

 

*Stock-basedCompensation Expense.*We recognized $1.1 million and$4.7 million in stock-based compensation expense for the nine months ended September 30,2008 and 2007, respectively. As of September 30, 2008, the totalunrecognized compensation cost related to unvested awards was approximately$1.9 million, which will be recognized over a weighted average period of1.9 years.

 

*Non-OperatingIncome.*****Non-operating incomewas $0.4 million for the nine months ended September 30, 2008, compared to$0.9 million for the nine months ended September 30, 2007. The $0.5million, or 59%, decrease for the nine month period ended September 30,2008 compared to the nine month period ended September 30, 2007 isprimarily due to lower fund balances available for investment and impairmentcharges of $0.1 million related to auction rate securities, offset by a $0.5million reduction in interest expense incurred on long-term debt.

 

**Liquidityand Capital Resources**

** **

Since our inception, we have primarily fundedour operations through the sale of equity securities, debt financings, licensefees, research and development funding, milestone payments from ourcollaborative partners and, more recently, sales of BiDil. As of September 30,2008, we have received net proceeds of $321.2 million from the issuance ofequity securities, including net proceeds of $18.2 million from ourregistered direct offering in May 2007.

 

At September 30, 2008, we had $17.8million in cash, cash equivalents and short-term marketable securities, whichexcludes $1.6 million of auction rate securities that were classified aslong-term marketable securities due to liquidity constraints.

 

During the nine months ended September 30,2008, operating activities used cash of $8.7 million, primarily due to a netloss of $4.6 million and decreases in accounts payable and accruedexpenses of $5.8 million, offset by stock-based compensation expense of $1.1million.

 

During the nine months ended September 30,2008, investing activities provided cash of $17.6 million, primarily due to netsales of marketable securities.

 

During the nine months ended September 30,2008, financing activities used cash of $3.5 million, primarily due to $3.7million in long-term debt payments, offset by $0.3 million in proceeds fromemployee stock plans.

 

On June 28, 2005, we borrowed (i) $10.0 millionfrom Oxford Finance Corporation, or Oxford, and (ii) $10.0 millionfrom General Electric Capital Corporation, or GECC, pursuant to the terms ofpromissory notes made by us with both Oxford and GECC, respectively. The notesbore interest at a fixed rate of 9.95% per annum and were payable in 36consecutive monthly installments of principal and accrued interest, beginning July 1,2005. The notes were secured by a security interest in all our personalproperty and fixtures with the exception of any intellectual property orproducts acquired, whether by purchase, license or otherwise, on or after theexecution of the notes. As of June 30, 2008, the promissory notes had beenpaid in full.

 

As of September 30, 2008, all marketablesecurities held by us have maturity dates that range from 2008 to 2045.

 

As of September 30, 2008, we heldapproximately $1.6 million of auction rate securities. These auction ratesecurities are comprised of approximately $1.3 million of preferred stockclosed-end fund auction rate securities and a $0.3 million government-backedstudent loan auction rate security. Auction rate securities are securities thatare structured to allow for short-term interest rate resets, but withcontractual maturity dates that can be well in excess of ten years. Auctionshave historically provided a liquid market for these securities. However,beginning in February 2008, the majority of auction rate securities in themarketplace failed at auction due to sell orders exceeding buy orders. Suchfailures resulted in the interest rate on these securities resetting topredetermined rates 

 

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within the underlying loan agreement, which might be higher or lowerthan the current market rate of interest. Our ability to liquidate our auctionrate securities and fully recover the carrying value of our investments in thenear term may be limited or not exist. In the event that we need to access ourinvestments in these auction rate securities, we will not be able to do sountil a future auction of these investments is successful, the issuer redeemsthe outstanding securities, a buyer is found outside the auction process, orthe securities mature, which could be in as many as 37 years. As a result ofthese factors, we recorded impairment charges of $45,000 and $97,000 for thethree and nine month periods ended September 30, 2008, respectively. Wemay be required to record additional impairment charges on these investmentsfrom time to time.

 

As of September 30, 2008, we classifyour auction rate securities as long-term marketable securities, reflectingmanagement’s determination that these securities may not be liquidated withinone year due to the auction failures described above. We have not experiencedany realized losses on sales of auction rate securities in 2008.

 

For the nine months ended September 30,2008, the cumulative impairments recorded by us include an impairment of$16,000 on our government-backed student loan auction rate security and animpairment of $81,000 on our preferred stock closed-end fund auction ratesecurities.

 

*Contractual Obligations*

 

The following table summarizes ourcontractual obligations at September 30, 2008, and the effect suchobligations are expected to have on our liquidity and cash flows in futureperiods.

 
| **Contractual Obligations** | ** ** | **Total** | ** ** | **Less than   one year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than   five years** | ** ** |
|----------------------------------|------------|-----------|------------|-----------------------------------------|------------|--------------------|------------|--------------------|------------|-------------------------------------------|------------|
| Operating lease (1)              |       | $         | —     |                                    | $          | —             |       | $                  | —     |                                      | $          | — |   | $ | — |   |
| Purchase obligations (2)         |       | 324,000   |       | 324,000                                 |       | —             |       | —             |       | —                                    |       |
| License milestones (3)           |       | —    |       | —                                  |       | —             |       | —             |       | —                                    |       |
| Total                            |       | $         | 324,000    |                                    | $          | 324,000            |       | $                  | —     |                                      | $          | — |   | $ | — |   |

 

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(1)  In May 2008, we entered into asublease with Cubist, pursuant to which we agreed to sublease approximately4,000 square feet of office space at a rate of approximately $9,200 per monthin advance. The initial term of this sublease was for three monthsbeginning on June 1, 2008.  Upon the expiration of the initial term,we have the right to extend the sublease, without notice, on a month-to-monthbasis.

 

(2)  In April and July 2008,we placed binding purchase orders totaling $324,000 with Schwarz Pharma forproduction of BiDil finished goods during the fourth quarter of 2008.

 

(3)  In February 2007,we entered into a License Agreement with Elan, pursuant to which we may beobligated to pay certain milestone payments in the aggregate amount of $2.5million, of which $250,000 was paid in the first quarter of 2007. We areuncertain as to the timing of future payments, if any, pursuant to the terms ofthe License Agreement.

 

In January 2008, we ceased activelypromoting sales of BiDil, which is our only significant source of revenue. Asdescribed above under “– Recent Developments,” in October 2008 we enteredinto an agreement to sell our BiDil drug business, including BiDil XR, to JHPPharmaceuticals. Pending the successful sale of our BiDil drug business to JHPPharmaceuticals, if at all, we expect to incur operating expenses going forwardprimarily related to keeping BiDil available on the market prior to theconsummation of that asset sale. Whether or not the BiDil drug business assetsale is completed, we believe that our existing sources of liquidity and thecash expected to be generated from future sales of BiDil, together with thesignificant reduction in expenditures as a result of our January 2008restructuring, will be sufficient to fund our operations for at least the nexttwelve months. However, our future capital requirements, and the period inwhich we expect our current cash to support our operations, may vary due to anumber of factors, including the following:

 

·                  our ability to successfullyconsummate one or more strategic arrangements relating to our business andassets, including the planned sale ofthe BiDil drug business, and the expenses related to any such transactions;

 

·                  the amount of future product sales ofBiDil;

 

·                  the cost of manufacturing and sellingBiDil;

 

·                  the timing of collections related tosales of BiDil;

 

·                  the time and costs involved incompleting the clinical trials and further development of, and obtainingregulatory approvals for, BiDil XR, if at all;

 

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·                  the effect of competing technologicaland market developments;

 

·                  the costs involved in preparing,filing, prosecuting, maintaining and enforcing patent claims;

 

·                  the cost of maintaining licenses touse patented technologies;

 

·                  unfavorable conditions in the capitalmarkets, which may adversely affect the liquidity and value of our investments;and

 

·                  general global and domestic economicconditions, including inflation, recessionary risks and volatile energy costs.

 

We are also continuing to consider and explorestrategic alternatives for our remaining business and assets that may include,without limitation, a business combination, a divestiture of any remainingassets, or another similar transaction or transactions.   If we are unable to successfully consummateone or more of such strategic transactions, we may be required to cease ouroperations and dissolve our business, including seeking to liquidate ourremaining assets and discharge any remaining liabilities.

 

**Critical Accounting Policies and Estimates**

 

Our discussion and analysis of our financialcondition and results of operations are based on our financial statements,which have been prepared in accordance with United States generally acceptedaccounting principles. The preparation of these financial statements requiresus to make estimates and judgments that affect the reported amounts of assetsand liabilities and the disclosure of contingent assets and liabilities at thedate of the financial statements and the reported amounts of revenues andexpenses during the reporting periods. On an on-going basis, we evaluate ourestimates and judgments, including those related to revenue and relatedreserves, the net realizable value of inventory, accrued expenses and the factorsused to determine the fair value assigned to our stock options. We base ourestimates on historical experience, known trends and events and various otherfactors that are believed to be reasonable under the circumstances, the resultsof which form the basis for making judgments about the carrying values ofassets and liabilities that are not readily apparent from other sources. Actualresults may differ from these estimates under different assumptions orconditions. There were no material changes in our judgments or estimates duringthe third quarter of 2008. For a detailed explanation of the judgments made inthese areas, refer to Management’s Discussion and Analysis of FinancialCondition and Results of Operations within our Annual Report on Form 10-Kfor the year ended December 31, 2007, which is on file with the Securitiesand Exchange Commission, or SEC.

 

**Inflation**

 

We believe the effects of inflation generallydo not have a material adverse impact on our operations or financial condition.

 

**Off-Balance Sheet Arrangements**

 

We do not have any material off-balance sheetarrangements.

 

**Forward-LookingStatements**

 

This QuarterlyReport on Form 10-Q includes forward-looking statements within the meaningof Section 21E of the Securities Exchange Act of 1934, as amended, whichwe refer to as the Exchange Act. For this purpose, any statements containedherein regarding our strategy, future operations, financial position, futurerevenues, projected costs, prospects, plans and objectives of management, otherthan statements of historical fact, are forward-looking statements. The words “anticipates,”“believes,” “estimates,” “expects,” “intends,” “may,” “plans,” “projects,” “will,”“would” and similar expressions are intended to identify forward-lookingstatements, although not all forward-looking statements contain theseidentifying words. We cannot guarantee that we actually will achieve the plans,intentions or expectations disclosed in our forward-looking statements. Thereare a number of important factors that could cause actual results or events todiffer materially from those disclosed in the forward-looking statements wemake. These important factors include the risk factors set forth below under Part II,Item 1A., “Risk Factors.” Although we may elect to update forward-lookingstatements in the future, we specifically disclaim any obligation to do so,even if our estimates change, except as specifically required by law or the rules ofthe SEC, and readers should not rely on those forward-looking statements asrepresenting our views as of any date subsequent to the date of this quarterlyreport.

 

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

 

We are exposed tomarket risk related to changes in interest rates. Our current investment policyis to maintain an investment portfolio consisting mainly of U.S. money marketand high-grade corporate and U.S. government-related securities, directly orthrough managed funds, with maturity dates of two years or less. In addition,we hold auction rate securities that reset monthly. Our 

 

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cash is deposited in and invested through highly rated financialinstitutions in North America. Our marketable securities are subject tointerest rate risk and will fall in value if market interest rates increase. Ifmarket interest rates were to increase immediately and uniformly by 10% fromlevels at September 30, 2008, we estimate that the fair value of ourinvestment portfolio would decline by an immaterial amount. We have the abilityto hold our fixed income investments until maturity, and therefore we do notexpect our operating results or cash flows to be affected to any significantdegree by the effect of a change in market interest rates on our investments.

 

The primary objective of our investmentactivities is to preserve principal while at the same time maximizing theincome we receive from our investments without significantly increasing risk.To achieve this objective, we maintain our portfolio of cash equivalents andmarketable securities in a variety of securities, including U.S. governmentagencies, corporate notes and bonds, commercial paper, and money market funds.These securities are classified as available for sale and consequently arerecorded on the balance sheet at fair value with unrealized gains or lossesreported as a separate component of accumulated other comprehensive income(loss). If interest rates rise, the market value of our investments maydecline, which could result in a realized loss if we are forced to sell aninvestment before its scheduled maturity. We do not utilize derivativefinancial instruments to manage our interest rate risks.

 

As of September 30, 2008, all marketablesecurities held by us have maturity dates that range from 2008 to 2045.

 

As of September 30, 2008, we heldapproximately $1.6 million of auction rate securities. These auction ratesecurities are comprised of approximately $1.3 million of preferred stockclosed-end fund auction rate securities and a $0.3 million government-backedstudent loan auction rate security. Auctions have historically provided aliquid market for these securities. However, beginning in February 2008, themajority of auction rate securities in the marketplace failed at auction due tosell orders exceeding buy orders. Our ability to liquidate our auction ratesecurities and fully recover the carrying value of our investments in the nearterm may be limited or not exist. In the event that we need to access ourinvestments in these auction rate securities, we will not be able to do sountil a future auction of these investments is successful, the issuer redeemsthe outstanding securities, a buyer is found outside the auction process, orthe securities mature, which could be in as many as 37 years. As a result ofthese factors, we recorded impairment charges of $45,000 and $97,000 for thethree and nine months ended September 30, 2008, respectively.  We may be required to record additionalimpairment charges on these investments from time to time.

 

As of September 30, 2008, we classifyour auction rate securities as long-term marketable securities, reflectingmanagement’s determination that these securities may not be liquidated withinone year due to the auction failures described above. We have not experiencedany realized losses on sales of auction rate securities in 2008.

 

For the nine months ended September 30,2008, the cumulative impairments recorded by us include an impairment of$16,000 on our government-backed student loan auction rate security and animpairment of $81,000 on our preferred stock closed-end fund auction ratesecurities.

 

**Item 4.   Controls and Procedures**

 

Our chiefexecutive officer and interim chief financial officer evaluated theeffectiveness of our disclosure controls and procedures as of September 30,2008. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and15d-15(e) under the Exchange Act, means controls and other procedures of acompany that are designed to ensure that information required to be disclosedby a company in the reports that it files or submits under the Exchange Act isrecorded, processed, summarized and reported, within the time periods specifiedin the SEC’s rules and forms. Disclosure controls and procedures include,without limitation, controls and procedures designed to ensure that informationrequired to be disclosed by a company in the reports that it files or submitsunder the Exchange Act is accumulated and communicated to the company’smanagement, including its principal executive and principal financial officers,as appropriate to allow timely decisions regarding required disclosure.Management recognizes that any controls and procedures, no matter how welldesigned and operated, can provide only reasonable assurance of achieving theirobjectives, and management necessarily applies its judgment in evaluating thecost-benefit relationship of possible controls and procedures. Based on theevaluation of our disclosure controls and procedures as of September 30,2008, our chief executive officer and interim chief financial officer concludedthat, as of such date, our disclosure controls and procedures were effective atthe reasonable assurance level.

 

No change in ourinternal control over financial reporting (as defined in Rules 13a-15(f) and15d-15(f) under the Exchange Act) occurred during the fiscal quarter endedSeptember 30, 2008, that has materially affected, or is reasonably likelyto materially affect, our internal control over financial reporting.

 

**PART II.OTHER INFORMATION**

 

**Item 1A. Risk Factors**

 

Youshould carefully consider the following risk factors, in addition to otherinformation included in this Quarterly Report on 

 

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Form 10-Q, inevaluating NitroMed and our business. If any of the following risks occur, ourbusiness, financial condition and operating results could be materiallyadversely affected.

 

*Until the closing of the proposedsale of our BiDil drug business to JHP Pharmaceuticals, we expect to continueour commercial activities in accordance with our existing business strategy.  Except as specifically described below, thefollowing discussion of  risks related toour business, operations, financial condition and prospects does not reflectchanges to our business that will occur if we consummate the proposed assetsale with JHP Pharmaceuticals.*

* *

Thefollowing risk factors restate and supersede the risk factors previouslydisclosed in Item 1A. of our Annual Report on Form 10-K for the yearended December 31, 2007.

 

**Risks Relating to Our Business, Strategy andFinancial Condition**

 

***Ifwe fail to complete the asset sale we will have limited resources with which tocontinue to operate our business and we may not be able to successfullycomplete any other strategic transactions for the sale or other divestiture ofour BiDil business or remaining assets.***

*** ***

***The consummation of the proposedasset sale with JHP Pharmaceuticals is subject to a number of closingconditions, including that our stockholders approve the transaction and thatregulatory and other consents are obtained from third parties. The obligationof JHP Pharmaceuticals to complete the transaction is also subject to theabsence of changes or circumstances that are materially adverse to thebusiness, financial condition or results of operations of the BiDil drugbusiness as a whole, or that materially impair our ability to complete thetransaction. Our obligation to complete the asset sale is subject to theabsence of a material adverse effect on the ability of JHP Pharmaceuticals tocomplete the purchase of the assets. If the closing conditions for thetransaction are not satisfied, then the asset sale agreement can be terminated.We have determined to discontinue active promotion of BiDil and currently havevery limited manpower with which to operate our business and also have limitedcash resources to fund our operations. As such, if the asset purchase agreementis terminated and/or we are otherwise not able to consummate the asset sale, wewill have limited ability to continue our operations. If we do not complete theasset sale, we will review all options for continuing operations andpotentially seek to sell our stock or assets to a third party. However, a thirdparty may not offer to purchase these assets for a price equal to or greaterthan the price proposed to be paid by JHP Pharmaceuticals, and we may not beable to sell the assets at all.***

*** ***

***We arealso continuing to consider and explore strategic alternatives for ourremaining business and assets that are intended to maximize shareholder value.These strategic alternatives may include, without limitation, a businesscombination with a company that is believed to have significant unrealizedvalue or growth potential, a divestiture of any remaining assets, or anothersimilar transaction or transactions. We can not assure you that we willsuccessfully consummate one or more further strategic transactions on favorableterms, or at all. If we are unable to successfully consummate one or more ofsuch strategic transactions, we may be required to cease our operations anddissolve our business, including seeking to liquidate our remaining assets anddischarge any remaining liabilities. We can not give you any assurances as tothe amount of liquidation proceeds that might eventually be distributed tostockholders or the timing of such distribution, if any. Moreover, if we decideto dissolve and liquidate our assets, that action would require the approval ofthe holders of the majority of our then outstanding shares of common stock, andwe can not give any assurances as to the amount of liquidation proceeds thatmight eventually be distributed to our stockholders.***

*** ***

***We have discontinued active promotional activitiesrelated to our only commercially-available product, BiDil, which is likely tosignificantly adversely affect our future revenue and our ability to continueto fund our operations.***

*** ***

In January 2008, we discontinued active promotional activities forBiDil based upon our determination that the successful commercialization ofBiDil requires a magnitude of resources that we cannot currently allocate tothe program, as well as our plans at that time to conserve cash in order topursue the development of BiDil XR. We concurrently implemented a restructuringplan that eliminated approximately 80 positions, and our reducedheadcount now stands at approximately six positions. Although we havediscontinued our promotional activities for BiDil, we continue to manufactureand sell BiDil and maintain the product on the market for patients throughnormal wholesale and retail channels. We have also conducted limitedadvertising in select medical publications, and have utilized a third-partymarketing firm to contact healthcare professionals on our behalf, in each casein an effort to maintain a limited market presence for BiDil.

 

Unless and until we complete a divestiture of BiDil, we expect to incuroperating expenses going forward primarily related to keeping BiDil availableon the market. We expect to fund a substantial portion of these operatingexpenses through ongoing BiDil sales. We believe that the elimination of oursales force and discontinuation of our active promotional efforts related toBiDil is likely to result in a decline in BiDil prescriptions by healthcareproviders and could also adversely affect the willingness of third party payorsto provide reimbursement at favorable levels. If physicians do not continue toprescribe BiDil in sufficient quantities, and/or if 

 

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managedcare providers remove BiDil from a preferential reimbursement tier on theirplan formularies, then our future revenue from sales of BiDil will declinesignificantly, and we may not generate sufficient capital to fund our continuedoperations.

 

***We******have ahistory of operating losses and if we are not able to consummate the assetsale, we will require substantial additional cash to fund our operating plan,including supporting any continued sales of BiDil and/or the development andcommercialization of BiDil XR. If such additional capital is not available, wemay be required to cease our operations.***

 

We have experienced significant operating losses since our inception in1992. As of September 30, 2008, we had an accumulated deficit of$350.0 million.  We have incurredlosses in all but one quarter since our inception, we have discontinued activepromotion of BiDil, and we may incur losses in future periods. Losses that wemay incur in the future could fluctuate from quarter to quarter, and thesefluctuations could be substantial.

 

In January 2008, we ceased actively promoting sales of BiDil,which is our only significant source of revenue. Pending the successful sale ofour BiDil drug business to JHP Pharmaceuticals, we expect to incur operatingexpenses going forward primarily related to keeping BiDil available on themarket prior to the consummation of that asset sale. Whether or not the BiDildrug business asset sale is completed, we believe that our existing sources ofliquidity and the cash expected to be generated from future sales of BiDil,together with the significant reduction in expenditures as a result of our January 2008restructuring, will be sufficient to fund our operations for at least the nexttwelve months. However, our future capital requirements, and the period inwhich we expect our current cash to support our operations, may vary due to anumber of factors, including the following:

 

·                  ourability to successfully consummate one or more strategic arrangements relatingto our business and assets, including the planned sale of the BiDil drugbusiness, and the expenses related to any such transactions;

 

·                  theamount of future product sales of BiDil;

 

·                  thecost of manufacturing and selling BiDil;

 

·                  thetiming of collections related to sales of BiDil;

 

·                  thetime and costs involved in completing the clinical trials and furtherdevelopment of, and obtaining regulatory approvals for, BiDil XR, if at all;

 

·                  theeffect of competing technological and market developments;

 

·                  thecosts involved in preparing, filing, prosecuting, maintaining and enforcingpatent claims;

 

·                  thecost of maintaining licenses to use patented technologies;

 

·                   unfavorable conditions in thecapital markets, which may adversely affect the value and liquidity of ourinvestments; and

 

·                   general global and domestic economicconditions, including inflation, recessionary risks and volatile energy costs.

 

We are also continuing to consider and explore strategic alternativesfor our remaining business and assets that may include, without limitation, abusiness combination, a divestiture of any remaining assets, or another similartransaction or transactions.   If we areunable to successfully consummate one or more of such strategic transactions,we may be required to cease our operations and dissolve our business, includingseeking to liquidate our remaining assets and discharge any remainingliabilities.

 

***We will incur significant expenses in connection withthe asset sale, and could be required to make significant payments if theagreement is terminated under certain conditions, either of which couldadversely affect our financial condition and cause our stock price to decline.***

*** ***

We could be obligated topay JHP Pharmaceuticals a termination fee of up to approximately $936,000 undercertain circumstances or to reimburse JHP Pharmaceuticals for up to $500,000 inexpenses in connection with the termination of the asset purchase agreement,if, among other things, (a) our stockholders fail to approve the assetsale proposal presented at the special meeting, (b) at or prior to the time of such failure, an acquisitionproposal relating to us was announced, disclosed or otherwise communicated toour board of directors or stockholders and (c) within 12 months after thetermination of the asset purchase agreement we enter into or consummate anacquisition transaction. In addition, we have incurred and expect to continueto incur significant expenses related to the proposed transaction.  These fees and expenses are payable by useven if the transaction is not consummated. 

 

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Any significantexpenses or payment obligations incurred by us in connection with the assetsale could adversely affect our financial condition and our ability to continueto fund our operations, and could cause our stock price to further decline.

 

### ***If wefail to regain compliance with the requirements for continued listing on TheNASDAQ Global Market, our common stock could be delisted from trading, whichwould adversely affect the liquidity of our common stock and our ability toraise additional capital or enter into strategic transactions.***

###  

On September 16,2008, we received a letter from the NASDAQ Stock Market’s ListingQualifications Department providing notification that, for the last 30consecutive business days, the bid price of our common stock had closed belowthe minimum $1.00 per share requirement for continued inclusion on The NASDAQGlobal Market, referred to as the minimum bid price rule. NASDAQ stated in suchnotification that, in accordance with the NASDAQ Marketplace Rules, we have 180calendar days, or until March 16, 2009, to regain compliance with theminimum bid price rule.  On October 22,2008, we received an additional letter from NASDAQ to advise us that it hassuspended enforcement of the bid price requirements for all NASDAQ listedcompanies through January 19, 2009.  Thebid price rules will be reinstated on January 20, 2009.  As a result of this suspension, NASDAQ hasinformed us that, because we still had 151 days remaining in our 180 daycompliance period as of the suspension date, upon reinstatement of the bidprice rules on January 20, 2009, we will still have that number ofdays, or until June 19, 2009, to regain compliance.

 

NASDAQ has notified usthat if, at any time before June 19, 2009, the bid price of our commonstock closes at $1.00 per share or more for a minimum of 10 consecutivebusiness days, NASDAQ will provide written notification that we have achievedcompliance with the minimum bid price rule. However, NASDAQ may, in its discretion, require that we maintain a bidprice of in excess of $1.00 for a period in excess of 10 days, but generally nomore than 20 days, before determining that we have demonstrated the ability tomaintain long-term compliance.  If we donot regain compliance with the minimum bid price rule by June 19,2009, NASDAQ will provide written notification that our securities will bedelisted from The NASDAQ Global Market. At that time, we may appeal NASDAQ’s determination to delist oursecurities to a NASDAQ Listing Qualifications Panel.  We cannot assure you that any such appeal, ifmade, would be successful. Alternatively, in the event such delisting is based solely uponnon-compliance with the minimum bid price rule, we could apply to transfer oursecurities to The NASDAQ Capital Market, provided that we satisfy therequirements for initial listing on such market, other than the minimum bidprice rule.  If such an application wereapproved and we otherwise maintain the listing requirements for The NASDAQCapital Market, other than the minimum bid price requirement, we would beafforded the remainder of The NASDAQ Capital Market’s second 180 calendar daygrace period in order to regain compliance with the minimum bid price rule.

 

There are many factorsthat may adversely affect our minimum bid price, including those describedthroughout this section titled “Risk Factors.” Many of these factors areoutside of our control. As a result, we may not be able to sustain compliancewith the minimum bid price rule in the long term. Any potential delistingof our common stock from The NASDAQ Global Market would make it more difficultfor our stockholders to sell our common stock in the public market and wouldlikely result in decreased liquidity and increased volatility for our commonstock.

 

***In the event that the sale of the BiDil drugbusiness is not completed in a timely manner, or at all, and/or if we do notmaintain an adequate level of revenue from sales of BiDil given our lack ofpromotional activities, the availability of cash to fund our planneddevelopment of BiDil XR will significantly decline, our BiDil XR developmentefforts may not be successful and our business may fail.***

 

Unless and until we successfully consummate one or more significantstrategic transactions, we will depend upon continued sales of BiDil to fund asubstantial portion of our costs and expenses to develop BiDil XR. In January 2008,we discontinued active promotional efforts related to BiDil, and we intend onlyto expend the resources necessary to maintain BiDil on the market for patientsthrough normal wholesale and retail channels. As a result of our lack of activepromotional efforts for BiDil, sales of BiDil may decline rapidly. Ourinability to successfully generate further revenue from BiDil sales willadversely affect our ability to seek to advance the development of BiDil XR, inwhich case we may be required to further curtail or cease our operations.

 

Factors that we believe may materially adversely affect continued salesof BiDil, and may also affect sales of BiDil XR, if it is successfullydeveloped and commercialized, include:

 

·                  thediscontinuation of our active promotional efforts related to BiDil as a resultof our January 2008 restructuring plan;

 

·                  theunavailability of favorable government and third-party payor reimbursement;

 

·                  ourinability to manufacture and sell BiDil at a competitive price;

 

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·                  the availability in generic form and at substantiallylower prices of the individual components that constitute BiDil (isosorbidedinitrate, which is separately marketed for angina, and hydralazinehydrochloride, which is separately marketed for hypertension) and themisperception by physicians, patients and payors that these generic componentsare equivalent to BiDil;

 

·                  the requirement by potential large purchasers ofBiDil, such as hospitals or health maintenance organizations, or by stateformularies, other government agencies or private payors that approvereimbursement for drugs, that the generic components of BiDil be substitutedfor BiDil;

 

·                  the failure of physicians, third-party payors andpatients to accept a product intended to improve therapeutic results based onethnicity or to accept BiDil as being safe, effective, easy to administer andmedically necessary; and

 

·                  our inability to maintain the necessary patentprotection, licenses and regulatory approvals required to manufacture and sellBiDil.

 

***If the third-party manufacturer of BiDil encounters delays ordifficulties in production, we may not be able to meet demand for the productand we may lose potential revenue, which would adversely affect our financialresults and our ability to execute our business plan.***

 

We do notphysically manufacture BiDil and have no plans to do so. We have engagedSchwarz Pharma under a five-year exclusive manufacturing and supply agreementsolely for the three times daily immediate release dosage formulation of BiDil.Under the supply agreement, we have the right to engage a backup manufacturerbut do not currently have any backup manufacturing agreement in place. The termsof the supply agreement provide that it may be terminated by either us orSchwarz Pharma under specified circumstances, including a material breach ofthe supply agreement by either party, the occurrence of a payment default byus, a material impairment of the manufacturing licenses we have granted toSchwarz Pharma or a failure of Schwarz Pharma to supply conforming products. Inaddition, either party may terminate the supply agreement in the event the FDAtakes any action, the result of which is to permanently prohibit themanufacture, sale or use of the product.

 

Furthermore,Schwarz Pharma may encounter difficulties in production. These problems mayinclude, but are not limited to:

 

·                  difficulties with production costs and yields;

 

·                  quality control and assurance;

 

·                  difficulties obtaining ingredients for our products;

 

·                  shortages of qualified personnel;

 

·                  compliance with strictly enforced federal, state andforeign regulations; and

 

·                  lack of capital funding.

 

If we are unableto maintain a commercially reasonable manufacturing agreement for theproduction of BiDil with Schwarz Pharma, we have no back-up manufacturingfacility and thus we would not be able to manufacture and sell BiDil untilanother facility was qualified. The number of third-party manufacturers withthe manufacturing and regulatory expertise and facilities necessary tomanufacture finished products for us on a commercial scale is limited, and itwould take a significant amount of time to arrange, qualify, and receivenecessary regulatory approval for alternative arrangements. We may not be ableto contract for alternative manufacturing on acceptable terms, if at all.

 

If we are unableto successfully contract for third-party manufacturing, or if Schwarz Pharma orany other third-party manufacturer of BiDil fails to deliver the requiredcommercial quantities of finished product on a timely basis and at commerciallyreasonable prices, we may be unable to meet the demand for our product and wemay lose potential revenues, all of which could cause the price of our commonstock to decline and would adversely affect our financial results and ourability to execute our business plan.

 

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***We rely on a single supplier for one of the two active ingredients inBiDil, and the loss of this supplier could prevent or interrupt the sale ofBiDil, which would materially harm our business.***

 

We rely onSumitomo Corp. for our supply of hydralazine hydrochloride, one of the twoactive ingredients in BiDil. Sumitomo is currently the only supplier which isqualified to provide hydralazine hydrochloride for the manufacture of BiDil. Wedo not have any agreement with Sumitomo regarding the supply of hydralazinehydrochloride. If Sumitomo stops manufacturing or is unable to manufacturehydralazine hydrochloride, or if we are unable to procure hydralazinehydrochloride from Sumitomo on commercially favorable terms, we will need toidentify, qualify, and obtain FDA approval of a new drug application, or NDA,supplement for an alternative manufacturer/supplier of hydralazinehydrochloride. If we are unable or are delayed in doing this, we may be unableto continue to sell BiDil on commercially viable terms, if at all, or thesupply of BiDil may be interrupted. Furthermore, because Sumitomo is currentlythe sole qualified supplier of hydralazine hydrochloride for the manufacture ofBiDil, Sumitomo exercises control over the price of hydralazine hydrochloridethat we purchase. Any increase in the price for hydralazine hydrochloride mayreduce our gross margins and adversely affect our ability to sell BiDil at afavorable price, unless an alternative manufacturer/supplier can be identifiedand qualified, a NDA supplement for the use of this manufacturer/supplier canbe approved by the FDA, and a favorable price can be negotiated.

 

***BiDil is subject to ongoing regulatory review and oversight. If we failto comply with continuing United States regulations, we could lose our approvalto market BiDil and our business would be seriously harmed.***

 

Even afterapproval, any products we develop are subject to ongoing regulatory review andrestrictions, including the review of new clinical results and otherpost-marketing data. The FDA can propose to withdraw approval or placeadditional restrictions on indications for which we can market the product orthe manner in which we may distribute the product if new clinical data orexperience shows that a product is not safe for use under the approvedconditions of use. In addition, we are required to report any serious andunexpected adverse experiences and certain quality problems with BiDil and makeother periodic reports to the FDA.

 

The marketingclaims we are permitted to make in labeling or advertising regarding ourmarketed products must comply with FDA laws and regulations and are limited tothose specified in any FDA approval. Although we are not actively marketingBiDil, we could face liability for our previous marketing activities if the FDAbelieves that we have promoted our products for unapproved indications orotherwise failed to comply with the FDA’s promotional labeling or advertisingregulations, or guidelines regarding company support for continuing medicaleducation. Based on such allegations, the FDA could issue an untitled letter orwarning letter, or take other enforcement action including seizure of allegedlyviolative product, injunctions or civil or criminal prosecution against us andour officers or employees. In addition, the Department of Justice enforces lawsprohibiting kickbacks to healthcare providers and false claims in connectionwith government-funded reimbursement programs for drug purchases, such asMedicare and Medicaid, and any prior off-label marketing of BiDil could subjectus to civil or criminal prosecution, for which the government could seek torecover substantial monetary penalties, the imposition of restrictions on ourmarketing activities, and the exclusion of BiDil from eligibility forgovernment reimbursement programs.

 

In addition, themanufacturer and the manufacturing facilities we use to produce BiDil aresubject to periodic review and inspection by the FDA. The discovery of anypreviously unknown problems with a product, manufacturer or facility may resultin restrictions on the product, manufacturer or manufacturing facility,including withdrawal of the product from the market. Certain changes to anapproved product often require prior FDA approval before the product, asmodified, may be marketed.

 

If we or ourthird-party manufacturers or service providers fail to comply with applicablefederal, state or foreign laws or regulations, we or they could be subject toenforcement actions which could affect our ability to develop, market and sellBiDil successfully and could harm our reputation and lead to lower acceptanceof BiDil by the market. These enforcement actions include product seizures;voluntary or mandatory recalls; patient or physician notifications, includingletters to healthcare professionals and corrective advertising; withdrawal ofproduct approvals; restrictions on, or prohibitions against, marketing ourproducts; operating restrictions; fines; restrictions on importation orexportation of our products; injunctions; debarments; civil and criminalpenalties; and suspension of review of, or refusal to approve, pendingapplications.

 

***Clinical testing of BiDil XR may not be successful, in which case wemay be unable to commercialize BiDil XR and the value of our business willsubstantially decline.***

 

In order to obtainregulatory approvals for the commercial sale of BiDil XR, we will be requiredto complete clinical trials in humans to demonstrate the safety and efficacy ofBiDil XR. Clinical testing is expensive, difficult to design and implement, cantake many years to complete and is uncertain as to outcome. A failure of one ormore of our clinical trials of BiDil XR can occur at any stage of testing.

 

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We met with theFDA in December 2007, and the agency agreed that our clinical developmentplan to conduct bioequivalence and pharmacodynamic studies comparing BiDil XRto the current commercial immediate release formulation of BiDil is acceptable.The agency indicated that such a plan could support FDA approval tocommercialize BiDil XR, if bioequivalence is demonstrated. The bioequivalencestudy design compares the pharmacokinetics of the XR formulation to thepharmacokinetics of the immediate release formulation. Pharmacokinetics refersto the manner in which the body absorbs, distributes, metabolizes and excretesthe study drug. The adequacy of the results will ultimately be determined bythe FDA during the regulatory review period. Although we are encouraged by thismeeting with the FDA, we may experience numerous unforeseen events during, oras a result of, our planned clinical trials of BiDil XR that could delay orprevent our ability to receive regulatory approval for, or commercialize, BiDilXR, including:

 

·                  conditions imposed on us by the FDA regarding thescope or design of our clinical trials;

 

·                  difficulty obtaining or maintaining internal reviewboard approval of studies;

 

·                  problems in finalizing the formulation of BiDil XRthrough our planned clinical studies;

 

·                  our clinical trials may produce negative orinconclusive results, and we may decide, or regulators may require us, toconduct additional clinical trials, including testing alternative formulationsof BiDil XR;

 

·                  the number of patients required for our clinicaltrials may be larger than we anticipate, enrollment in our clinical trials maybe slower than we currently anticipate, or participants may drop out of ourclinical trials at a higher rate than we anticipate, any of which would resultin significant delays and increased costs;

 

·                  our third party contractors may fail to comply withregulatory requirements or meet their contractual obligations to us in a timelymanner;

 

·                  we might have to suspend or terminate one or more ofour clinical trials if the participants are being exposed to unacceptablehealth risks;

 

·                  regulators may require that we hold, suspend orterminate clinical research for various reasons, including noncompliance withregulatory requirements;

 

·                  the cost of our clinical trials may be greater than weanticipate;

 

·                  the supply or quality of BiDil XR or other materialsnecessary to conduct our clinical trials may be insufficient or inadequate; and

 

·                  the effects of BiDil XR may not be the desired effectsor may include undesirable side effects or may have other unexpectedcharacteristics.

 

If we are requiredto conduct additional clinical trials or other testing of BiDil XR beyond thosethat we currently contemplate, if we are unable to successfully complete ourclinical trials or other testing, if the results of these trials or tests arenot positive or are only modestly positive or if there are safety concerns, wemay:

 

·                  be delayed in obtaining marketing approval for BiDilXR;

 

·                  not be able to obtain marketing approval;

 

·                  obtain approval for an indication that is not as broadas intended; or

 

·                  have the product removed from the market afterobtaining marketing approval.

 

Our productdevelopment costs will also increase if we experience delays in testing orapprovals. We do not know whether future clinical trials will begin as planned,will need to be redesigned or will be completed on schedule, if at all.Significant clinical trial delays also could shorten any periods during whichwe may have the exclusive right to commercialize BiDil XR, or allow ourcompetitors to bring products to market before we do, which could impair ourability to commercialize BiDil XR and may harm our business and results ofoperations.

 

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***We currently rely on a third party contract research organization toconduct our clinical trials of BiDil XR, and we rely on other third partyentities to conduct certain testing activities related to these clinicaltrials. These third parties may not perform satisfactorily, including failingto meet established deadlines for the completion of such trials.***

 

We do notindependently conduct clinical trials for BiDil XR. We rely on a third partycontract research organization to enroll qualified patients and conduct ourclinical trials of BiDil XR. In addition, we rely on other third party entitiesto conduct testing activities related to these clinical trials. Our reliance onthese third parties for clinical development activities reduces our controlover these activities. We are responsible for ensuring that each of our clinicaltrials is conducted in accordance with the general investigational plan andprotocols for the trial. Moreover, the FDA requires us to comply withstandards, commonly referred to as Good Clinical Practices, for conducting,recording, and reporting the results of clinical trials to assure that data andreported results are credible and accurate and that the rights, integrity andconfidentiality of trial participants are protected. Our reliance on thirdparties that we do not control does not relieve us of these responsibilitiesand requirements. Furthermore, any of these third parties may also haverelationships with other entities, some of which may be our competitors. If anyof these third party entities fail to successfully carry out their contractualduties, meet expected deadlines or conduct our clinical trials and relatedtesting in accordance with regulatory requirements or our stated protocols, wewill not be able to obtain, or may be delayed in obtaining, regulatoryapprovals for BiDil XR and will not be able to, or may be delayed in ourefforts to, successfully commercialize BiDil XR.

 

***If we are not able to obtain required regulatory approvals, we will notbe able to commercialize BiDil XR and our ability to generate revenue will bematerially impaired.***

 

BiDil XR, and theactivities associated with its development and commercialization, includingtesting, manufacture, safety, efficacy, recordkeeping, labeling, storage,approval, advertising, promotion, sale and distribution, are subject to comprehensiveregulation by the FDA and other regulatory agencies in the United States and byauthorities in other countries. Failure to obtain regulatory approval for BiDilXR will prevent us from commercializing BiDil XR.

 

Securing FDAapproval may require the submission of extensive preclinical and clinical data,information about product manufacturing processes and inspection of facilitiesand supporting information to the FDA for each therapeutic indication toestablish the product candidate’s safety and efficacy. BiDil XR may not beeffective, may be only moderately effective or may prove to have undesirableside effects, toxicities or other characteristics that may preclude us fromobtaining regulatory approval or prevent or limit commercial use.

 

The process ofobtaining regulatory approvals is expensive and often takes many years, ifapproval is obtained at all, and can vary substantially based upon the type,complexity and novelty of the product candidate involved. Changes in theregulatory approval policy during the development period, changes in or theenactment of additional statutes or regulations, or changes in regulatoryreview for each submitted product application may cause delays in the approvalor rejection of an application. The FDA has substantial discretion in theapproval process and may refuse to accept any application, or the FDA maydecide that our data are insufficient for approval and require additionalpreclinical, clinical or other studies. In addition, varying interpretations ofthe data obtained from preclinical and clinical testing could delay, limit orprevent regulatory approval of a product candidate. Any regulatory approval weultimately obtain may be limited in scope or subject to restrictions orpost-approval commitments that render the product not commercially viable. Ifany regulatory approval that we obtain is delayed or is limited, we may decidenot to commercialize BiDil XR after receiving the approval.

 

***The development and future commercialization of BiDil XR may be terminatedor delayed, and the cost of development and future commercialization mayincrease, if third parties on whom we rely to manufacture BiDil XR do notfulfill their obligations.***

 

We do not havemanufacturing capabilities for BiDil XR and have no current plans to developany such capacity in the future. In order to continue to develop BiDil XR,apply for regulatory approvals and commercialize this product, we plan to relyon our collaborative licensor, Elan, for the production of clinical andcommercial quantities of BiDil XR. In addition, contract manufacturers aresubject to ongoing periodic, unannounced inspection by the FDA andcorresponding state and foreign agencies or their designees to ensure strictcompliance with current Good Manufacturing Practices, or cGMP, and othergovernmental regulations and corresponding foreign standards. The cGMPrequirements govern, among other things, quality control of the manufacturingprocess and documentation of policies and procedures. Other than throughcontract, we do not have control over compliance by our contract manufacturerswith these regulations and standards. Our present or future contractmanufacturers may not be able to comply with cGMP and other FDA requirements orsimilar regulatory requirements outside the United States. Any failure by ourcontract manufacturers or us to comply with applicable regulations could resultin sanctions being imposed on us, including fines, injunctions, civilpenalties, failure of regulatory authorities to grant marketing approval ofBiDil XR, delays, suspension or withdrawal of approvals, seizures or recalls ofsuch product candidate, operating restrictions, and criminal prosecutions, anyof which could significantly and adversely affect our business. We will dependupon these third parties to perform their obligations in a timely manner and inaccordance with applicable laws and regulations, including those related toquality control and quality assurance. To 

 

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the extent thatthird-party manufacturers with whom we contract fail to perform theirobligations in accordance with applicable laws and regulations, we may beadversely affected in a number of ways, including:

 

·                  we may not be able to initiate or continue clinicaltrials of BiDil XR;

 

·                  we may be delayed in submitting applications forregulatory approvals for BiDil XR; and

 

·                  even if we successfully commercialize BiDil XR, we maybe required to cease distribution and/or recall some or all batches of theproduct and we may not be able to meet commercial demands for our products orachieve profitability.

 

**RisksRelating to Our Intellectual Property Rights**

 

***Our patent protection for BiDil, the individual components of which areavailable in generic form, is limited, and we may be subject to genericsubstitution or competition and resulting pricing pressure.***

 

We have nocomposition of matter patent covering BiDil, our product for the treatment ofheart failure in self-identified black patients as an adjunct to currentstandard therapy. BiDil is a fixed-dose combination of two individualcomponents, isosorbide dinitrate and hydralazine hydrochloride, both of whichare available in generic form and are approved and separately marketed indosages similar to those we include in BiDil for indications other than heartfailure at prices below the prices we are charging for BiDil. We have twoissued method-of-use patents that expire in 2020. One patent covers the use ofthe combination of isosorbide dinitrate and hydralazine hydrochloride to reducemortality associated with chronic congestive heart failure, for improving theoxygen consumption, for improving the quality of life or for improving exercisetolerance in a black patient. The other patent covers the use of thecombination of isosorbide dinitrate and hydralazine hydrochloride in certaindosage amounts for reducing mortality associated with heart failure in a blackpatient. Our method of use patent that covered the use of the combination ofisosorbide dinitrate and hydralazine hydrochloride to reduce the incidence ofmortality associated with chronic congestive heart failure expired inaccordance with its terms in April 2007.

 

We may not be ableto enforce our method-of-use patents to prevent physicians from prescribingisosorbide dinitrate and hydralazine hydrochloride separately for the treatmentof heart failure in black patients, even though neither drug is approved forsuch use. We also may not be able to enforce these method-of-use patents toprevent hospitals and pharmacies from supplying such patients with theseindividual components separately in lieu of BiDil.

 

Other factors mayalso adversely affect our patent protection for BiDil. If we are successful inmarketing BiDil, manufacturers of generic drugs will have an incentive tochallenge our patent position. The combination therapy of isosorbide dinitrateand hydralazine hydrochloride for use in heart failure was developed through lengthy,publicly-sponsored clinical trials conducted during the 1980s, prior to thefiling of the patent application that resulted in the 2007 patent. The U.S.Patent and Trademark Office, or U.S. patent office, considered publishedreports on these clinical trials and concluded that they did not constituteprior art that would prevent the issuance of the 2007 patent. The U.S. patentoffice also considered the question of whether the 2007 patent constitutedprior art with respect to the 2020 patents, and determined that the claims ofthe 2020 patents were non-obvious and patentable. A court considering thevalidity of the 2020 patents with respect to questions of prior art might bepresented with other alleged prior art or might reach conclusions different thanthose reached by the U.S. patent office. If the 2020 patents were to beinvalidated or if physicians were to prescribe isosorbide dinitrate andhydralazine hydrochloride separately for heart failure in black patients, ourBiDil revenue could be significantly reduced, we could fail to recover the costof developing BiDil and BiDil might not be a viable commercial product.

 

***If we are not able to obtain and enforce patent protection for ourdiscoveries, our ability to divest our product candidates and technologies willbe harmed, and we may not be able to operate our business profitably.***

 

Our successdepends, in part, on our ability to protect proprietary methods andtechnologies that we developed 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 filedpatent applications for technology covered by our pending patent applicationswithout us being aware of those applications, and our patent applications maynot have priority over patent applications of others.

 

The process ofseeking patent protection for our discoveries is expensive and time consuming,and we may not be able to prosecute all necessary or desirable patentapplications or maintain all issued patents at a reasonable cost. Despite ourefforts to protect our proprietary rights, unauthorized parties may be able toobtain and use information that we regard as proprietary. The mere issuance 

 

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of a patent does notguarantee that it is valid or enforceable; even if we have obtained patents,they may not be valid or enforceable against third parties.

 

The issued patentsand patent applications for our potential product candidates and nitric oxidetechnology include claims with respect to both the composition of specificproducts or compounds and specific methods of using these products or compoundsin therapeutic areas. In some cases, like BiDil, our only patent protection iswith respect to the method of using a product or compound. Method-of-usepatents may provide less protection for our product candidates and products. Ifanother company gains FDA approval for an indication separate from the oneclaimed in our method-of-use patents, physicians may be able to prescribe thatproduct for use in the approved indication. In addition, physicians mayprescribe a product for which we or our potential strategic partners haveobtained approval for an unapproved indication for that product. As a practicalmatter, we or our potential strategic partners may not be able to enforce ourmethod-of-use patents against physicians prescribing products for such off-labeluse. Off-label use and any resulting off-label sales could make it moredifficult to obtain the price we or our potential strategic partners wouldotherwise wish to achieve for, or to successfully commercialize, our potentialproducts. In addition, in those situations where we have only method-of-usepatent coverage for a product candidate, it may be more difficult to find apharmaceutical company partner to license or support development of ourpotential product candidates.

 

Our pending patentapplications may not result in issued patents. The patent position ofpharmaceutical or biotechnology companies, including ours, is generallyuncertain and involves complex legal and factual considerations. The standardswhich the U.S. patent office and its foreign counterparts use to grant patentsare not always applied predictably or uniformly and can change over time. Thereis also no uniform, worldwide policy regarding the subject matter and scope ofclaims granted or allowable in pharmaceutical or biotechnology patents.Accordingly, we do not know the degree of future protection for our proprietaryrights or the breadth of claims allowed in any patents issued to us or toothers.

 

We also rely ontrade secrets, know-how and technology, which are not protected by patents, tomaintain our competitive position. If any trade secret, know-how or othertechnology 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 become involved in patent litigation or other proceedings toenforce our patent rights, we would incur substantial costs and expenses, couldincur substantial liability for damages, and could be required to stop productdevelopment and commercialization efforts.***

 

A third party maysue us for infringing on its patent rights. Likewise, we may need to resort tolitigation to enforce a patent issued to us or to seek a declaratory judgmenton the scope and validity of third-party proprietary rights. The cost to us ofany litigation or other proceedings relating to intellectual property rights,even if resolved in our favor, could be substantial, and the litigation woulddivert management’s efforts. Some of our competitors may be able to sustain thecosts of complex patent litigation more effectively than we can because theyhave substantially greater resources. Uncertainties resulting from litigationcould limit our ability to continue our operations.

 

If a third partyis able to successfully claim that the development or use by us of proprietarytechnologies infringes upon their intellectual property rights, we might beforced to pay damages, potentially including treble damages, if we are found tohave willfully infringed on such parties’ patent rights. In addition to anydamages we might have to pay, a court could require us to stop the infringingactivity or obtain a license on terms that are unfavorable to us. In addition,some licenses may be non-exclusive, and therefore our competitors may haveaccess to the same technology licensed to us. If we fail to obtain a requiredlicense or are unable to design around a patent, we may be unable toeffectively market some of our technology and product candidates, which couldlimit our ability to generate revenues or achieve profitability and possiblyprevent us from generating sufficient revenue to sustain our operations.

 

***Our in-licenses are a significant portion of our principal proprietarytechnologies, and if we fail to comply with our obligations under any of therelated agreements, we could lose license rights that are necessary tocommercializing BiDil and divesting or out-licensing our other productcandidates.***

 

We are a party toa number of licenses that give us rights to third-party intellectual propertythat are necessary for our business. In particular, we have obtained theexclusive 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.In addition, we may enter into additional licenses in the future. Theselicenses impose various development, commercialization, funding, royalty,diligence, and other obligations on us. If we breach these obligations, thelicensor may have the right to terminate the license or render the licensenon-exclusive, which would result in us being unable to develop, manufactureand sell products that are covered by the licensed technology.

 

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**RisksRelating to Our Industry**

 

***We could be negatively impacted by the application or enforcement offederal and state fraud and abuse laws, including anti-kickback laws and otherfederal and state anti-referral laws.***

 

We are subject tovarious federal and state laws pertaining to healthcare fraud and abuse, includinganti-kickback laws and physician self-referral laws. Violations of these lawsare punishable by criminal and civil sanctions, including, in some instances,imprisonment and exclusion from participation in federal and state healthcareprograms, including the Medicare, Medicaid and Veterans Administration healthprograms. Because of the far-reaching nature of these laws, we may be requiredto alter or discontinue one or more of our practices to be in compliance withthese laws. Healthcare fraud and abuse regulations are complex, and even minorirregularities can potentially give rise to claims that a statute orprohibition has been violated. Any violations of these laws, or any actionagainst us for violation of these laws, even if we successfully defend againstit, could result in a material adverse effect on our business, financialcondition and results of operations. Moreover, if there is a change in law,regulation or administrative or judicial interpretations, we may have to changeor discontinue our business practices or our existing business practices couldbe challenged as unlawful, which could have a material adverse effect on ourbusiness, financial condition and results of operations.

 

In addition, wecould become subject to false claims litigation under federal statutes, whichcan lead to treble damages based on the reimbursements by federal healthcareprograms, civil money penalties (including penalties levied on a per falseclaim basis), restitution, criminal fines and imprisonment, and exclusion fromparticipation in Medicare, Medicaid and other federal and state healthcareprograms. These false claims statutes include the False Claims Act, whichallows any person to bring suit on behalf of the federal government allegingthe submission of false or fraudulent claims, or causing to present such falseor fraudulent claims, under federal programs or contracts claims or otherviolations of the statute and to share in any amounts paid by the entity to thegovernment in fines or settlement. These suits against pharmaceutical andbiotechnology companies have increased significantly in recent years and haveincreased the risk that a healthcare company will have to defend a false claimaction, pay fines or restitution, or be excluded from the Medicare, Medicaid orother federal and state healthcare programs as a result of an investigationarising out of such action. It is possible that we could become subject to suchlitigation and, if we are not successful in defending against it, suchlitigation would have a material adverse effect on our business, financialcondition and results of operations. In addition, the cost of defending claimsor allegations under the False Claims Act, even if successful, would also havea material adverse effect on our business, financial condition and results ofoperations.

 

***We face significant competition******and our ability tosuccessfully compete has been significantly adversely affected by ourdiscontinuation of promotional activities for BiDil******, which mayresult in others commercializing competitive products more successfully.***

 

The pharmaceuticalindustry is highly competitive and characterized by rapid and significanttechnological change. Moreover, because we have discontinued all promotionalactivities for BiDil and we have ceased all research and development related toour nitric oxide-based product candidates, our ability to effectively competein the marketplace has been significantly adversely affected. Our principalcompetitors are large, multinational pharmaceutical companies that havesubstantially greater financial and other resources than we do and areconducting extensive research and development activities on technologies andproduct candidates similar to or competitive with ours. Many of our competitorsare more experienced than we are in pharmaceutical development andcommercialization, obtaining regulatory approvals and product marketing andmanufacturing. As a result, our competitors may:

 

·                  develop and commercialize products that render BiDiland/or BiDil XR, if successfully developed and commercialized, obsolete ornon-competitive or that cause BiDil to be less desirable as a result of patentor non-patent exclusivity;

 

·                  develop product candidates and market products thatare less expensive or more effective than BiDil;

 

·                  initiate or withstand substantial price competitionmore successfully than we can;

 

·                  have greater success in recruiting skilled scientificworkers from the limited pool of available talent;

 

·                  more effectively negotiate third-party licenses andstrategic relationships; and

 

·                  take advantage of product acquisition or otheropportunities more readily than we can.

 

There are a numberof companies currently marketing and selling products to treat heart failure inthe general population that compete with BiDil. These includeGlaxoSmithKline, plc, which currently markets Coreg®, Merck & Co., Inc.,which currently markets Vasotec® and Astra Zeneca, plc, whichcurrently markets Toprol XL®. We also compete on the basis of theavailability in generic form and at substantially lower prices of theindividual components that constitute BiDil (isosorbide dinitrate, which is 

 

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separately marketed forangina, and hydralazine hydrochloride, which is separately marketed forhypertension). Although these generic components are not bioequivalent toBiDil, physicians have prescribed them in lieu of prescribing BiDil and maycontinue to do so in the future.

 

We expect to facesimilar competitive factors with respect to BiDil XR to the extent that BiDilXR is successfully developed and commercialized.

 

***We may be exposed to product liability claims and may not be able toobtain or maintain adequate product liability insurance.***

 

Our businessexposes us to the risk of product liability claims that is inherent in theclinical testing, manufacturing and marketing of human therapeutic products.Our clinical trial and commercial product liability insurance is subject todeductibles and coverage limitations. We may not be able to obtain or maintaininsurance on acceptable terms, if at all. Moreover, any insurance that we doobtain may not provide adequate protection against potential liabilities, andour capital resources could be depleted as a result.

 

**RisksRelating to our Common Stock**

 

***The price of our common stock is likely to continue to be volatile inthe future.***

 

The stock markethas from time to time experienced significant price and volume fluctuationsthat may be unrelated to the operating performance of particular companies. Inaddition, the market price of our common stock has been and may continue to behighly volatile. During the period from January 1, 2006 to October 31,2008, our stock price ranged from a low of $0.15 per share on October 8,2008 to a high of $14.90 per share on January 9, 2006. The followingfactors, among others, may affect the price of our common stock:

 

·                  fluctuations in our financial results, including withrespect to sales of BiDil;

 

·                  announcements concerning fundamental or materialcorporate transactions, restructuring or the like, or our failure tosuccessfully consummate any such transactions;

 

·                  general market conditions, both domestic and international;

 

·                  announcements of technological innovations or newcommercial products by our competitors;

 

·                  announcements of actual or potential results relatingto our BiDil XR development program;

 

·                  governmental regulations and regulatory developmentsin both the U.S. and foreign countries affecting us or our competitors;

 

·                  disputes relating to patents or other proprietaryrights affecting us or our competitors;

 

·                  public concern as to the safety of products developedby us or other biotechnology and pharmaceutical companies;

 

·                  fluctuations in price and volume in the stock marketin general, or in the trading of the stock of biopharmaceutical andbiotechnology companies in particular, that are unrelated to our operatingperformance; and

 

·                  sales of common stock by existing stockholders and/orthe perception that such issuances or sales could occur.

 

***Insiders have substantial control over us and could delay or prevent achange in corporate control.***

 

As of October 31,2008, our directors and executive officers, together with their affiliates,owned, in the aggregate, approximately 33% of our outstanding common stock. Asa result, these stockholders, if acting together, may have the ability todetermine the outcome of matters submitted to our stockholders for approval,including the election and removal of directors and any merger, consolidationor sale of all or substantially all of our assets. In addition, these persons,if acting together, could have the ability to control the management andaffairs of our company. Accordingly, this concentration of ownership may harmthe market price of our common stock by:

 

·                  delaying, deferring or preventing a change in controlof our company;

 

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·                  impeding a merger, consolidation, takeover or otherbusiness combination involving our company; or

 

·                  discouraging a potential acquirer from making a tenderoffer or otherwise attempting to obtain control of our company.

 

***Provisions in our charter documents and under Delaware law may preventor frustrate attempts by stockholders to change current management and hinderefforts to acquire a controlling interest in our company.***

 

Provisions of ourrestated certificate of incorporation and bylaws may discourage, delay orprevent a merger, acquisition or other change in control that stockholders mayconsider favorable, including transactions in which stockholders might otherwisereceive a premium for their shares. These provisions may prevent or frustrateattempts by stockholders to replace or remove our current management. Theseprovisions include:

 

·                  a prohibition on stockholder action through writtenconsent;

 

·                  a requirement that special meetings of stockholders becalled only by a majority of the board of directors, the chairman of the boardor the chief executive officer;

 

·                  advance notice requirements for stockholder proposalsand nominations;

 

·                  limitations on the ability of stockholders to amend,alter or repeal our certificate of incorporation or bylaws; and

 

·                  the authority of the board of directors to issuepreferred stock with such terms as the board of directors may determine.

 

In addition, Section 203of the Delaware General Corporation Law prohibits a publicly held Delawarecorporation from engaging in a business combination with an interestedstockholder, generally defined as a person or entity which together with itsaffiliates owns or within the last three years has owned 15% of our votingstock, for a period of three years after the date of the transaction in whichthe person became an interested stockholder, unless the business combination isapproved in a prescribed manner. Accordingly, Section 203 may discourage,delay or prevent a change in control of our company.

 

***Pendingthe completion of the asset sale, we may not be able to enter into a businesscombination with another party because of restrictions in the asset saleagreement.***

*** ***

Covenants in the assetsale agreement impede our ability to complete specified transactions that arenot in the ordinary course of business pending completion of the assetsale.  Moreover, while the asset saleagreement is in effect, we are prohibited from soliciting, initiating,encouraging and/or taking actions designed to facilitate any inquiries or themaking of any proposal or offer that could lead to, or entering intodiscussions or negotiations with regard to, an acquisition proposal with anythird party, subject to specified exceptions. Any such acquisition proposal could be favorable to our stockholders.

 

***Substantially all of our outstanding common stock may be sold into themarket at any time. This could cause the market price of our common stock todrop significantly.***

 

Sales of asubstantial number of shares of our common stock in the public market couldoccur at any time. These sales, or the perception in the market that theholders of a large number of shares intend to sell shares, could reduce themarket price of our common stock. As of October 31, 2008, there were46,076,551 shares of common stock outstanding. Substantially all of theseshares may also be resold in the public market at any time. In addition, wehave a significant number of shares that are subject to outstanding options andrestricted stock awards. The sale of the common stock underlying these optionsand pursuant to these restricted stock awards after such time as the optionsand restricted stock awards have vested and become exercisable or free fromforfeiture, as the case may be, could cause a further decline in our stockprice. These sales also might make it difficult for us to sell equitysecurities in the future at a time and at a price that we deem appropriate.

 

***We may incur significant costs and suffer management distraction anddamage to our reputation from class action litigation.***

 

Our stock pricehas been, and is likely to continue to be, volatile. When the market price of acompany’s stock is volatile, holders of that company’s stock may bringsecurities class action litigation against the company that issued the stock.If any of our stockholders were to bring a lawsuit of this type against us,even if the lawsuit was without merit, we could incur substantial costsdefending the lawsuit.

 

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**Item 5.    Other Information**

 

On October 31, 2008, we entered into a consulting agreement withJane A. Kramer, our former vice president of corporate affairs. Pursuant to theterms of the consulting agreement, Ms. Kramer provides us with consultingservices related to corporate communications and investor relations, and wecompensate Ms. Kramer at a rate of $175.00 per hour. The initial term ofthe consulting agreement runs until April 30, 2009, and the agreementprovides that either party may terminate the agreement upon ten days writtennotice. The consulting agreement also imposes customary obligations regardinginventions and proprietary information, which obligations are retroactivelyeffective as of the date of her separation of service. Prior to entering intothis agreement, Ms. Kramer provided consulting services to us from time totime at an hourly rate of $250.00 per hour pursuant to an oral arrangement.

 

The foregoing descriptionof the consulting agreement does not purport to be complete and is qualified inits entirety by reference to the full text of the consulting agreement, whichis filed as Exhibit 10.2 to this Quarterly Report on Form 10-Q and isincorporated herein by reference.

 

**Item 6.    Exhibits**

 

See the Exhibit Indexon the page immediately preceding the exhibits for a list of exhibitsfiled as part of this Quarterly Report on Form 10-Q, which Exhibit Indexis incorporated herein by this reference.

** **

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** **

**SIGNATURES**

** **

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

 
|                         | NITROMED, INC. |
|------------------------------|---------------------|
|                         |                |   |
|                         | By:                 | /s/ KENNETH M.  BATE |
|                         |                | Kenneth M. Bate |
|                         |                | President, Chief  Executive Officer and Interim Chief Financial  Officer |
| * *                     | * *            | *(Principal  Executive Officer and Principal Financial Officer)* |
| Date: November 6,  2008 |                |   |

 

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**EXHIBIT INDEX**

 
| **Exhibit  Number** | ** ** | **Description**                                                                                                                                                                                                                                                                                                                                                                                                |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| *10.1               |       | Letter  Agreement, dated as of September 5, 2008, between NitroMed, Inc.  and Jay N. Cohn, M.D.                                                                                                                                                                                                                                                                                                      |
| 10.2                |       | Consulting  Agreement, dated as of October 31, 2008, between NitroMed, Inc. and  Jane A. Kramer.                                                                                                                                                                                                                                                                                                     |
| 10.3                |       | Purchase  and Sale Agreement, dated as of October 22, 2008, by and between  NitroMed, Inc. and JHP Pharmaceuticals, LLC, filed as an exhibit to  NitroMed’s Current Report on Form 8-K (File No. 000-50439) filed on  October 23, 2008 and incorporated herein by reference.                                                                                                |
| 10.4                |       | Voting  Agreement, dated October 22, 2008, by and between NitroMed, Inc.,  JHP Pharmaceuticals, LLC and certain funds affiliated with  HealthCare Ventures LLC, Rho Ventures and Invus Public Equities, L.P.,  filed as an exhibit to NitroMed’s Current Report on Form 8-K (File No. 000-50439)  filed on October 23, 2008 and incorporated herein by reference. |
| 31.1                |       | Certification  of the Chief Executive Officer and Interim Chief Financial Officer pursuant  to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act  of 1934, as amended.                                                                                                                                                                                                                |
| 32.1                |       | Certification  of the Chief Executive Officer and Interim 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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*****                    Confidential treatment requested as to certain portions, which portionshave been filed separately with the Securities and Exchange Commission

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