** **

**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 The Quarterly Period Ended September 30,  2007**                                                                                                      |
| ** **                                                                                                                                                       | ** **                                                                                              | ** ** |
| **Or**                                                                                                                                                           |
| ** **                                                                                                                                                       | ** **                                                                                              | ** ** |
| **o**                                                                                                                                                            | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                                                                                                                       | ** **                                                                                              | ** ** |
| **For the Transition Period from                        to** |
| ** **                                                                                                                                                       | ** **                                                                                              | ** ** |
| **Commission File Number 000-50439**                                                                                                                             |

 

**NitroMed, Inc.**

(Exact Name ofRegistrant 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’s telephone number, including area code: **(781) 266-4000**

 

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

 

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

 

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

 
| Large Accelerated  Filer  o |   | Accelerated  Filer  x |   | Non-Accelerated Filer    o |
|---------------------------------------|--------|---------------------------------|--------|--------------------------------------|

 

 

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

 

As of October 29,2007, the registrant had 45,773,801 shares of Common Stock, $0.01 par value pershare, outstanding.

 

 

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NITROMED, INC.

 

FORM 10-Q

 

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2007

 

**TABLE OF CONTENTS**

 
| PART I.       | FINANCIAL INFORMATION                                                                                    |   |
|--------------------|----------------------------------------------------------------------------------------------------------|--------|
| Item 1.            | Financial Statements  (unaudited)                                                                        |   |
|               | Condensed Balance Sheets as  of September 30, 2007 and December 31, 2006                       |   |
|               | Condensed Statements of Operations  for the three and nine months ended September 30, 2007 and 2006 |   |
|               | Condensed Statements of Cash  Flows for the nine months ended September 30, 2007 and 2006           |   |
|               | Notes  To Unaudited Financial Statements                                                                 |   |
| Item 2.            | Management’s Discussion and  Analysis of Financial Condition and Results of Operations              |   |
| Item 3.            | Quantitative  and Qualitative Disclosures About Market Risk                                              |   |
| Item 4.            | Controls and  Procedures                                                                                 |   |
| PART II.      | OTHER INFORMATION                                                                                        |   |
| Item 1A.           | Risk Factors                                                                                             |   |
| Item 2.            | Unregistered  Sales of Equity Securities and Use of Proceeds                                             |   |
| Item 6.            | Exhibits                                                                                                 |   |
| SIGNATURES         |                                                                                                     |
| EXHIBIT INDEX |                                                                                                     |

 

2

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**PART I. FINANCIALINFORMATION**

 

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

 

**NITROMED, INC.CONDENSED BALANCE SHEETS**

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

 
| ** **                                                                                                                                                                     | ** ** | **September 30,  2007** | ** ** | **December 31,  2006** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| **Assets**                                                                                                                                                                     | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Current assets:                                                                                                                                                                |       |                         |       |                        |       |
| Cash and cash equivalents                                                                                                                                                      |       | $                            | 9,292      |                        | $          | 21,074 |   |
| Marketable securities                                                                                                                                                          |       | 28,932                       |       | 21,079                      |       |
| Accounts receivable                                                                                                                                                            |       | 1,515                        |       | 1,370                       |       |
| Inventories                                                                                                                                                                    |       | 2,696                        |       | 2,846                       |       |
| Prepaid expenses and other current assets                                                                                                                                      |       | 531                          |       | 570                         |       |
| Total current assets                                                                                                                                                           |       | 42,966                       |       | 46,939                      |       |
| Property and equipment, net                                                                                                                                                    |       | 350                          |       | 963                         |       |
| Restricted cash                                                                                                                                                                |       | 191                          |       | 803                         |       |
| Total assets                                                                                                                                                                   |       | $                            | 43,507     |                        | $          | 48,705 |   |
|                                                                                                                                                                           |       |                         |       |                        |       |
| **Liabilities and Stockholders’ Equity**                                                                                                                                  | ** ** | ** **                   | ** ** | ** **                  | ** ** |
| Current liabilities:                                                                                                                                                           |       |                         |       |                        |       |
| Accounts payable                                                                                                                                                               |       | $                            | 2,558      |                        | $          | 1,923 |   |
| Accrued expenses                                                                                                                                                               |       | 7,405                        |       | 6,545                       |       |
| Accrued restructuring                                                                                                                                                          |       | —                       |       | 299                         |       |
| Deferred revenue                                                                                                                                                               |       | —                       |       | 206                         |       |
| Current portion of long-term debt                                                                                                                                              |       | 5,525                        |       | 6,925                       |       |
|                                                                                                                                                                           |       |                         |       |                        |       |
| Total current liabilities                                                                                                                                                      |       | 15,488                       |       | 15,898                      |       |
| Long-term debt                                                                                                                                                                 |       | —                       |       | 3,728                       |       |
|                                                                                                                                                                           |       |                         |       |                        |       |
| Commitments and contingencies (Note 13)                                                                                                                                        |       |                         |       |                        |       |
| 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; 45,320 and 37,181 shares issued and outstanding at  September 30, 2007 and December 31, 2006, respectively |       | 453                          |       | 372                         |       |
| Additional paid-in capital                                                                                                                                                     |       | 366,052                      |       | 342,528                     |       |
| Accumulated deficit                                                                                                                                                            |       | (338,512                     | )          | (313,808                    | )          |
| Accumulated other comprehensive income  (loss)                                                                                                                                 |       | 26                           |       | (13                         | )          |
| Total stockholders’ equity                                                                                                                                                |       | 28,019                       |       | 29,079                      |       |
| Total liabilities and stockholders’ equity                                                                                                                                |       | $                            | 43,507     |                        | $          | 48,705 |   |

 

See accompanying notes.

 

3

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**NITROMED, INC.CONDENSED STATEMENTS OF OPERATIONS**

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

 
| ** **                                                            | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                            | ** ** | **2007**                                             | ** ** | **2006**                                            | ** ** | **2007** | ** ** | **2006** | ** ** |
| Revenues:                                                             |       |                                                 |       |                                                |       |   |   |   |   |
| Product revenue                                                       |       | $                                                    | 3,759      |                                                | $          | 3,427 |   | $ | 11,042 |   | $ | 8,598 |   |
|                                                                  |       |                                                 |       |                                                |       |   |   |   |   |
| Costs and operating expenses:                                         |       |                                                 |       |                                                |       |   |   |   |   |
| Cost of product sales                                                 |       | 560                                                  |       | 1,310                                               |       | 2,151 |   | 2,827 |   |
| Research and development (1)                                          |       | 3,807                                                |       | 4,074                                               |       | 9,745 |   | 14,590 |   |
| Sales, general and administrative (1)                                 |       | 8,127                                                |       | 15,022                                              |       | 23,709 |   | 51,386 |   |
| Restructuring charge                                                  |       | —                                               |       | —                                              |       | 1,004 |   | 2,038 |   |
| Total costs and operating expenses                                    |       | 12,494                                               |       | 20,406                                              |       | 36,609 |   | 70,841 |   |
| Loss from operations                                                  |       | (8,735                                               | )          | (16,979                                             | )          | (25,567 | ) | (62,243 | ) |
| Non-operating income:                                                 |       |                                                 |       |                                                |       |   |   |   |   |
| Interest expense                                                      |       | (152                                                 | )          | (319                                                | )          | (585 | ) | (1,073 | ) |
| Interest income                                                       |       | 533                                                  |       | 778                                                 |       | 1,448 |   | 2,592 |   |
|                                                                  |       | 381                                                  |       | 459                                                 |       | 863 |   | 1,519 |   |
|                                                                  |       |                                                 |       |                                                |       |   |   |   |   |
| Net loss                                                              |       | $                                                    | (8,354     | )                                                   | $          | (16,520 | ) | $ | (24,704 | ) | $ | (60,724 | ) |
|                                                                  |       |                                                 |       |                                                |       |   |   |   |   |
| Basic and diluted net loss per common share                           |       | $                                                    | (0.18      | )                                                   | $          | (0.45 | ) | $ | (0.60 | ) | $ | (1.68 | ) |
| Shares used in computing basic and diluted  net loss per common share |       | 45,180                                               |       | 37,090                                              |       | 40,877 |   | 36,146 |   |

 

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(1) Includes stock-basedcompensation expense as follows:

 
|  Research and development          |   | $ | 581 |   | $ | 714   |   | $ | 1,666 |   | $ | 2,313 |   |
|-----------------------------------------|--------|---|-----|--------|---|-------|--------|---|-------|--------|---|-------|--------|
|  Sales, general and administrative |   | $ | 762 |   | $ | 1,154 |   | $ | 3,078 |   | $ | 4,128 |   |

 

See accompanying notes.

 

4

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**NITROMED, INC.CONDENSED STATEMENTS OF CASH FLOWS**

**(inthousands) (unaudited)**

 
| ** **                                                                   | ** ** | **Nine Months Ended  September 30,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                   | ** ** | **2007**                                            | ** ** | **2006** | ** ** |
| **Operating activities**                                                     | ** ** | ** **                                          | ** ** | ** ** | ** ** |
| Net loss                                                                     |       | $                                                   | (24,704    | ) | $ | (60,724 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities: |       |                                                |       |   |   |
| Depreciation and amortization                                                |       | 247                                                 |       | 617 |   |
| Non-cash restructuring charge                                                |       | —                                              |       | 597 |   |
| Stock-based compensation expense                                             |       | 4,744                                               |       | 6,441 |   |
| Changes in operating assets and  liabilities:                                |       |                                                |       |   |   |
| Accounts receivable                                                          |       | (145                                                | )          | 1,028 |   |
| Inventories                                                                  |       | 150                                                 |       | 194 |   |
| Prepaid expenses and other current assets                                    |       | 39                                                  |       | 2,860 |   |
| Deferred revenue                                                             |       | (206                                                | )          | (1,979 | ) |
| Accounts payable and accrued expenses                                        |       | 1,775                                               |       | (11,052 | ) |
| Accrued restructuring charge                                                 |       | (299                                                | )          | 350 |   |
| Net cash used in operating activities                                        |       | (18,399                                             | )          | (61,668 | ) |
| **Investing activities**                                                     | ** ** | ** **                                          | ** ** | ** ** | ** ** |
| Purchase of property and equipment                                           |       | (162                                                | )          | (104 | ) |
| Proceeds from sale of equipment                                              |       | 528                                                 |       | — |   |
| Purchases of marketable securities                                           |       | (54,717                                             | )          | (122,349 | ) |
| Sales of marketable securities                                               |       | 46,903                                              |       | 142,425 |   |
| Other assets                                                                 |       | 612                                                 |       | — |   |
| Net cash (used in) provided by investing  activities                         |       | (6,836                                              | )          | 19,972 |   |
| **Financing activities**                                                     | ** ** | ** **                                          | ** ** | ** ** | ** ** |
| Net proceeds from sale of common stock                                       |       | 18,240                                              |       | 58,505 |   |
| Principal payments on long-term debt                                         |       | (5,128                                              | )          | (4,644 | ) |
| Proceeds from employee stock plans                                           |       | 341                                                 |       | 912 |   |
| Net cash provided by financing activities                                    |       | 13,453                                              |       | 54,773 |   |
| Net change in cash and cash equivalents                                      |       | (11,782                                             | )          | 13,077 |   |
| Cash and cash equivalents at beginning of  period                            |       | 21,074                                              |       | 11,091 |   |
| Cash and cash equivalents at end of period                                   |       | $                                                   | 9,292      |   | $ | 24,168 |   |

 

See accompanying notes.

 

5

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**NITROMED, INC.NOTES TO UNAUDITED FINANCIAL STATEMENTS**

**SEPTEMBER 30,2007**

** **

### **(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, 2007. These unaudited financial statements shouldbe read in conjunction with the Company’s latest annual audited financialstatements and related notes thereto included in the Company’s Annual Report onForm 10-K, which was filed with the Securities and Exchange Commission (“SEC”)on March 8, 2007.

 

The Company’sprincipal source of revenue is from the sale of BiDil® (isosorbidedinitrate/hydralazine hydrochloride), the Company’s product for the treatmentof heart failure in self-identified black patients as an adjunct to currentstandard therapies. The Company has used and will continue to requiresubstantial funds to manufacture, market and sell BiDil during 2007 and beyond.The Company also expects to incur additional expenses related to the ongoingdevelopment of the planned extended release formulation of BiDil, known asBiDil XRTM, for which the Company commenced clinical development in October2006. The Company believes that its existing cash, cash equivalents andmarketable securities, and cash it expects to generate from sales of BiDil,will be sufficient to fund its current business plan for at least the nexttwelve months. The Company will require substantial additional cash to fund itsoperations beyond the next twelve month period, and may seek to raise thesefunds through financings, including public or private equity offerings, debtfinancings, collaborative arrangements with corporate partners or a combinationof any of the foregoing. There can be no assurance that funds will be availableon terms acceptable to the Company, if at all. If adequate funds are notavailable, the Company will be required to scale back or eliminate some or allof its sales and marketing efforts for BiDil, as well as delay its developmentefforts with respect to BiDil XR. The Company may also be required to licenseto others the right to develop or commercialize products or technologies thatthe Company would otherwise seek to develop and commercialize on its own. TheCompany could also be required to limit, scale back or cease its operations,any of which would have a material and adverse effect on the Company.

 

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

###  

As discussedabove, the Company’s principal source of revenue is from the sale of BiDil,which was launched and began shipping in the third quarter of 2005.

 

*ProductSales.  *The Company follows the provisions of Securitiesand Exchange Commission 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 that 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 channel,remaining shelf-life of the product shipped, weekly prescription data andquarterly forecasted sales.

 

*SalesReturns, Allowances, Rebates and Discounts.  *The Company’sproduct sales are subject to returns, allowances, rebates, and cash andcontract discounts that are customary in the pharmaceutical industry. A largeportion of the Company’s product sales are made to pharmaceutical wholesalersfor further distribution through pharmacies to patients, who are consumers ofthe product. All revenues from product sales are recorded net of applicableallowances for sales returns, allowances, rebates and cash and contract discounts.The Company determines the provisions for sales returns, allowances, rebatesand discounts based primarily on estimates and contractual terms.

 

6

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*ProductReturns*.   Consistentwith industry 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. Commercial product shipped during2005 and the first half of 2006 had a shelf-life of twelve months from date ofmanufacture with expiration dates ranging from April 2006 toApril 2007. During the third quarter of 2006, the Company began shippingcommercial product with an expiration date of 18 months. During the firstquarter of 2007, BiDil’s shelf life for newly produced finished goods wasincreased to 24 months. The Company began shipping product with anexpiration date of 24 months in the second quarter of 2007. Factors that areconsidered in the Company’s estimate of future product returns include ananalysis of the amount of product in the wholesaler and pharmacy channels,discussions with key wholesalers and other customers regarding inventory levelsand shipment trends, review of consumer consumption data based on aggregateweekly and monthly prescription data derived from Source Projected Launchtracprovided by Wolters Kluwer Health, and the remaining time to expiration of theCompany’s product. At September 30, 2007 and December 31, 2006, theCompany’s product return reserve was $1.1 million and $1.3 million,respectively. This reserve is evaluated on a quarterly basis, assessing each ofthe factors described above, and adjusted accordingly. In developing areasonable estimate for the reserve for product returns, the Company considersthe factors in paragraph 8 of Statement of Financial Accounting StandardsNo. 48, *Revenue Recognition When a Right of ReturnExists*. The Company believes it has developed a reasonable estimateof returns based on actual return data compared to product shipped. The Companywill continue to monitor actual returns as the Company develops more salesexperience with BiDil. Based on the factors noted above, among others, theCompany believes its estimate of product returns is reasonable, and changes, ifany, from this estimate would not have a material impact to the Company’sfinancial statements.

 

*SampleVoucher and Co-Pay Programs*.   Beginning in the third quarter of 2005, theCompany initiated a sample voucher program whereby the Company offers anincentive to patients in the form of a free 30-day trial, or approximately100 tablets, of BiDil. The Company also initiated a co-pay program that offersincentives to patients for payment of co-pay costs insurance companies chargeto purchase BiDil. The Company accounts for these programs in accordance withEmerging Issues Task Force Issue No. 01-09, *Accountingfor Consideration Given by a Vendor to a Customer*. These samplevoucher and co-pay programs have a six month expiration date, such that eachprogram is active for two quarters at a time. At the end of each quarter theCompany estimates the amount of reimbursement claims based on those claimsreceived for the sample vouchers and co-pay cards distributed during thequarter, and uses this information to estimate the usage for the next quarter.At the end of each semi-annual period the Company adjusts the estimated voucherand co-pay card usage to actual. The amount of reimbursement is recorded as areduction to revenue. For the three month periods ended September 30, 2007and 2006, the Company recorded a reduction to revenue of $45,000 and $111,000,respectively. For the nine month periods ended September 30, 2007 and2006, the Company recorded a reduction to revenue of $79,000 and $467,000,respectively. The Company expects to continue to offer sample voucher andco-pay incentives in future periods.

 

*SalesDiscounts, Rebates and Allowances*.   Sales discounts, rebates and contractualallowances result primarily from sales under contracts with healthcareproviders, wholesalers, Medicare and Medicaid programs and other governmentalagencies. The Company estimates sales discounts, rebates and contractualallowances by considering the following factors: current contract prices,terms, sales volume, estimated customer and wholesaler inventory levels andcurrent average rebate rates. For the three month periods endedSeptember 30, 2007 and 2006, the Company recorded sales discounts, rebatesand other allowances of $1.3 million and $0.2 million, respectively. For thenine month periods ended September 30, 2007 and 2006, the Company recordedsales discounts, rebates and other allowances of $3.8 million and $0.8 million,respectively.

 

**(3)****                                 AccountsReceivable**

 

Accountsreceivable consists of amounts due from wholesalers and pharmacies for thepurchase of BiDil. Ongoing evaluations of customers’ credit worthiness areperformed and collateral is generally not required. As of September 30,2007, the Company has not reserved any amount for bad debts related to the saleof BiDil. The Company continuously reviews all customer accounts to determineif an allowance for uncollectible accounts is necessary. The Company currentlyprovides substantially all of its customers with payment terms of net 30 days.Amounts past due from customers are determined based on contractual paymentterms. Through September 30, 2007, payments have generally been made in atimely manner.

 

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

 

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

 

7

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| ** **         | ** ** | **September 30,  2007** | ** ** | **December 31,  2006** | ** ** |
|--------------------|------------|------------------------------|------------|-----------------------------|------------|
| Raw materials |       | $                            | 1,948      |                        | $          | 2,123 |   |
| Finished goods     |       | 748                          |       | 723                         |       |
| Total              |       | $                            | 2,696      |                        | $          | 2,846 |   |

 

On a quarterly basis, the Company analyzes itscurrent inventory levels and future irrevocable inventory purchase commitmentsand writes down inventory that has become un-saleable or has a cost basis inexcess of its expected net realizable value. The Company relies on SumitomoCorp., which to the Company’s knowledge is the sole worldwide source, for thesupply of hydralazine hydrochloride, one of the two active ingredients inBiDil. The Company currently has $1.9 million of hydralazine hydrochloride ininventory at September 30, 2007 which represents approximately 6 to 8 yearssupply. Following this inventory’s initial retest dates, which occur at variousdates between January and June of 2008, the Company will retest the inventoryfor stability on a continuing basis. The Company believes that the retests willbe successful and will continue to evaluate this raw material on an ongoingbasis based on the results of stability retesting and industry practices. Inaddition, the Company evaluates its future irrevocable inventory purchasecommitments compared to forecasted product sales, the current level ofinventory and its related product dating. Expired inventory is disposed of, andthe related costs are written off. For the three month periods endedSeptember 30, 2007 and 2006, the Company recorded inventory impairmentcharges of $-0- and $0.8 million, respectively. For the nine month periodsended September 30, 2007 and 2006, the Company recorded inventoryimpairment charges of $0.5 million and $1.4 million, respectively.

 

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

###  

The Company follows the fair value recognitionprovisions of Statement of Financial Accounting Standards No. 123(R),*Share-Based Payment* (“SFAS 123R”). Compensation costrecognized subsequent to December 31, 2005 includes: (a) compensation costfor all stock-based payments granted, but not yet vested as of January 1,2006, based on the grant-date fair value estimated in accordance with theoriginal provisions of Statement of Financial Accounting StandardsNo. 123, *Accounting for Stock Based Compensation*(“SFAS 123”), and (b) compensation cost for all stock-based paymentsgranted subsequent to January 1, 2006, based on the grant-date fair valueestimated in accordance with the provisions of SFAS 123R. Such amountshave been reduced by the Company’s estimate of forfeitures of all unvestedawards. Results for prior periods have not been restated.

 

For stock options granted to non-employees, theCompany recognizes compensation expense in accordance with the requirements ofEmerging Issues Task Force No. 96-18, *Accounting for EquityInstruments That Are Issued to Other Than Employees for Acquiring, or in Conjunctionwith Selling, Goods or Services* (“EITF 96-18”)*.* EITF96-18 requires that companies recognize compensation expense based on theestimated fair value of options granted to non-employees over their vestingperiod, which is generally the period during which services are rendered bysuch non-employees. The fair value of unvested non-employee stock awards isre-measured at each reporting period.

 

In January 2007, the Company modified the terms ofcertain vested stock option awards previously granted to the Company’s formerinterim president and chief executive officer in order to extend the term ofthe exerciseability of the vested portion of the options from three monthsfollowing the cessation of employment to five years following the cessation ofemployment. As a result of this modification in January 2007, the Companyincurred a stock-based compensation charge in the amount of $459,000.

 

In May 2007, the Company entered into a TransitionAgreement with L. Gordon Letts, Ph.D., the Company’s former Chief ScientificOfficer and Senior Vice President of Research and Development. Pursuant to theterms of the Transition Agreement, options previously granted by the Company toDr. Letts will continue to vest during a one-year transition period, duringwhich time Dr. Letts will continue to be an employee of the Company. Pursuantto the terms of the Transition Agreement, the terms of stock option awardsgranted to Dr. Letts were modified in order to extend the term of theexerciseability of the options from three months following the cessation ofemployment to two years following the cessation of the one-year transitionperiod. As a result of this modification, the Company incurred a stock-basedcompensation charge in the amount of $14,000 for the three month period endedSeptember 30, 2007, and $160,000 for the nine month period ended September 30,2007, and will continue to recognize additional amounts as the options vest.

 

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 

 

8

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termination of employment for cause. The forfeitureprovision lapses as follows: 25% of the shares are no longer subject toforfeiture to the Company, or “vest,” on the date that is six months after thegrant date; 25% vest on the first anniversary of the grant date; and 50% veston the second anniversary of the grant date.  Upon a change in control ofthe Company or upon termination of the employee’s employment without cause, allunvested restricted shares shall immediately vest in full. The Companyrecognized $239,000 of stock-based compensation expense for the three monthsended September 30, 2007 and $556,000 for the nine months ended September 30,2007. On the accompanying balance sheets the number of shares of the Company’scommon stock outstanding as of September 30, 2007 does not include 456,935shares of unvested restricted common stock.

 

In connection with recording stock-basedcompensation expense related to non-employees, the Company recorded reversalsof $8,600 and $29,000 for the three months ended September 30, 2007 and 2006,respectively. The Company recorded reversals of stock-based compensationexpense related to non-employees of $13,000 and $205,000 for the nine monthsended September 30, 2007 and 2006, respectively.

 

The fair value of each stock option is estimated onthe grant date using the Black-Scholes option-pricing model. Informationpertaining to stock options and related assumptions is noted in the followingtable:

 
| ** **                                               | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                               | ** ** | **2007**                                            | ** ** | **2006** | ** ** |
| Options granted (in thousands)                           |       | 951                                                 |       | 3,019 |   |
| Weighted-average exercise price of stock  options        |       | $                                                   | 2.63       |   | $ | 7.86 |   |
| Weighted-average grant date fair-value of  stock options |       | $                                                   | 1.61       |   | $ | 4.83 |   |
| Assumptions:                                             |       |                                                |       |   |   |
| Volatility                                               |       | 76                                                  | %          | 76 | % |
| Risk-free interest rate                                  |       | 4.8                                                 | %          | 4.7 | % |
| Expected life (years)                                    |       | 5.0                                                 |       | 5.8 |   |
| Dividend                                                 |       | None                                                |       | None |   |

 

Volatility is determined exclusively usinghistorical volatility data of the Company’s common stock based on the period oftime since the Company’s common stock has been publicly traded. The risk-freeinterest rate is based on the U.S. Treasury yield curve in effect at thetime of grant commensurate with the expected life assumption. The expected lifeof stock options granted is based exclusively on historical data and representsthe weighted average period of time that stock options granted are expected tobe outstanding. The expected life is applied to the stock option grant group asa whole, as the Company does not expect substantially different exercise orpost-vesting termination behavior amongst its employee population.

 

The Company is using the straight-line attributionmethod to recognize stock-based compensation expense. The amount of stock-basedcompensation expense recognized during a period is based on the value of theportion of the awards that are ultimately expected to vest. SFAS 123R requiresforfeitures to be estimated at the time of grant and revised, if necessary, insubsequent periods 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 5.7% to all unvested options as of September 30, 2007.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’s2003 Plan as of September 30, 2007, and changes during the nine monthperiod then ended is presented below:

 

9

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| ** **                                        | ** ** | **Options  Outstanding** | ** ** | **Weighted-  average  Exercise Price** | ** ** | **Weighted-  average  Remaining  Contracted  Term in  Years** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|---------------------------------------------------|------------|--------------------------|------------|---------------------------------------------|------------|--------------------------------------------------------------------|------------|---------------------------------|------------|
| Outstanding at December 31, 2006             |       | 4,935,932                |       | $                                           | 6.90       |                                                               |       |                            |       |   |
| Granted                                           |       | 951,000                  |       | $                                           | 2.63       |                                                               |       |                            |       |   |
| Exercised                                         |       | (273,050                 | )          | $                                           | 1.14       |                                                               |       |                            |       |   |
| Forfeited/Cancelled                               |       | (776,127                 | )          | $                                           | 7.01       |                                                               |       |                            |       |   |
| Outstanding at September 30, 2007            |       | 4,837,755                |       | $                                           | 6.37       |                                                               | 7.62       |                            | $          | 160,785 |   |
| Vested or expected to vest at September 30,  2007 |       | 4,535,271                |       | $                                           | 6.47       |                                                               | 7.54       |                            | $          | 159,790 |   |
| Exercisable at September 30, 2007            |       | 2,347,148                |       | $                                           | 7.48       |                                                               | 6.39       |                            | $          | 151,973 |   |

 

During the nine months ended September 30, 2007and 2006, the total intrinsic value of options exercised (i.e. the differencebetween the market price at exercise and the price paid by the employee toexercise the options) was $526,000 and $1.9 million, respectively, and thetotal amount of cash received from exercise of these options was $311,000 and$661,000, respectively. The total grant-date fair value of stock options thatvested during the nine months ended September 30, 2007 and 2006 wasapproximately $2.5 million and $2.4 million, respectively.

 

As of September 30, 2007, there was $8.7million of total unrecognized compensation cost related to unvested stockoptions. This cost is expected to be recognized over a weighted average periodof 2.6 years.

 

Asummary of the Company’s restricted stock award activity as of September 30,2007 and changes during the nine month period then ended is presented below:

 
| ** **                                                   | ** ** | **Restricted Shares  Outstanding** | ** ** | **Weighted-  Average  Grant Date  Fair Value  Per Share** | ** ** |
|--------------------------------------------------------------|------------|-----------------------------------------|------------|--------------------------------------------------------------------------|------------|
| **Non-vested shares outstanding at  December 31, 2006** |       | —                                  |       | $                                                                        | —     |   |
| Awards granted                                               |       | 734,790                                 |       | $                                                                        | 3.22       |   |
| Restrictions lapsed                                          |       | (164,078                                | )          | $                                                                        | 3.22       |   |
| Awards forfeited                                             |       | (113,777                                | )          | $                                                                        | 3.22       |   |
| **Non-vested shares outstanding at September  30, 2007**     |       | 456,935                                 |       | $                                                                        | 3.22       |   |

 

As of September 30, 2007, there was $1.5 million oftotal unrecognized compensation cost related to unvested restricted shares. Thetotal fair value of these share-based awards will be recognized over theremaining vesting term of 1.5 years.

 

**(6)**                                 Restructuring

** **

On March 31, 2006, the Company recorded chargesof $2.0 million related to a restructuring of its discovery research operationsthat was intended to better align costs with revenue and operatingexpectations. The restructuring charges pertained to employee severance andimpairment of assets and were recorded in accordance with Statement ofFinancial Accounting Standards No. 146,*Accounting for Costs Associated with Exit or Disposal Activities*(“SFAS 146”)*,*and Statement of Financial Accounting Standards No. 144, *Accounting for the Impairment or Disposal ofLong-Lived Assets* (“SFAS144”)*.*

 

In connection with the restructuring plan, theCompany terminated 30 employees in its discovery research group, orapproximately 30% of the Company’s workforce, resulting in a charge of $1.4million. None of these employees remained employed as of March 31, 2006.

 

As a result of terminating these employees, theCompany recorded an impairment charge for certain research laboratoryequipment, computer equipment, and furniture and fixtures in an aggregateamount of $597,000 due to the fact that these assets would no longer beutilized. These assets were written down to their fair value utilizing a thirdparty appraiser to estimate the fair value of the assets based on currentmarket quotes and the current condition of the equipment, furniture andfixtures.

 

10

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The following table summarizes the restructuringactivity as of September 30, 2007 as part of the March 2006 restructuringplan:

 
| ** **          | ** ** | **Charge** | ** ** | **Cash  Payments  and  Write-offs** | ** ** | **Accrued at  December 31, 2006** | ** ** | **Cash  Payments** | ** ** | **Accrued at  September 30, 2007** | ** ** |
|---------------------|------------|------------|------------|-------------------------------------|------------|--------------------------------------------------|------------|--------------------|------------|---------------------------------------------------|------------|
| Workforce reduction |       | $          | 1,441,000  |                                | $          | (1,371,000                                       | )          | $                  | 70,000     |                                              | $          | (70,000 | ) | $ | — |   |
| Impairment          |       | 597,000    |       | (597,000                            | )          | —                                           |       | —             |       | —                                            |       |
| Total               |       | $          | 2,038,000  |                                | $          | (1,968,000                                       | )          | $                  | 70,000     |                                              | $          | (70,000 | ) | $ | — |   |

 

On October 10, 2006, theCompany recorded a restructuring charge of $3.2 million, which was comprised ofseverance benefits of $2.5 million and impairment charges of $0.7 million forcertain research and development equipment, leasehold improvements, furnitureand fixtures, and computers. The restructuring charges were recorded inaccordance with SFAS 146 and SFAS 144. The October 2006restructuring program included the elimination of 120 sales personnel and 8general and administrative and research and development personnel. None ofthese employees remained employed as of December 31, 2006. As a result ofthese terminations, the Company’s decision to no longer pursue research anddevelopment internally, and the Company’s decision to move to a smallerfacility, certain research and development equipment, leasehold improvements,furniture and fixtures, and computers became impaired. These assets werewritten down to the fair value based on either a third-party quote or theestimated discounted cash flows they would generate over their estimatedremaining economic life to the Company.

 

The following table summarizes the restructuring activityas of September 30, 2007 as part of the October 2006 restructuring plan:

 
| ** **          | ** ** | **Charge** | ** ** | **Cash  Payments  and  Write-offs** | ** ** | **Accrued at  December 31, 2006** | ** ** | **Cash  Payments** | ** ** | **Accrued at  September 30, 2007** | ** ** |
|---------------------|------------|------------|------------|-------------------------------------|------------|--------------------------------------------------|------------|--------------------|------------|---------------------------------------------------|------------|
| Workforce reduction |       | $          | 2,500,000  |                                | $          | (2,271,000                                       | )          | $                  | 229,000    |                                              | $          | (229,000 | ) | $ | — |   |
| Impairment          |       | 745,000    |       | (745,000                            | )          | —                                           |       | —             |       | —                                            |       |
| Total               |       | $          | 3,245,000  |                                | $          | (3,016,000                                       | )          | $                  | 229,000    |                                              | $          | (229,000 | ) | $ | — |   |

 

Inthe first quarter of 2007, the Company recorded a restructuring charge of $1.0million related to vacating its former headquarters location. The charge wasrecorded pursuant to SFAS 146. In March 2007, the Company entered into anAssignment of Lease and Assumption Agreement (the “Assignment Agreement”) withShire Human Genetic Therapies, Inc. (“Shire”), pursuant to which the Companyassigned its lease for office and laboratory space located at 125 Spring Streetin Lexington, Massachusetts (the “Spring Street Lease”). Pursuant to theterms of the Assignment Agreement, the Company agreed to pay Shire the amountof approximately $1,160,000 as consideration for Shire’s assumption of theSpring Street Lease. In addition to this charge, the Company incurred $612,000in expenses primarily related to real estate brokerage fees and clean-up costs.Offsetting these charges was a reversal of $768,000 in accrued rent related tothe Spring Street Lease. All amounts were paid as of March 31, 2007, and theCompany has no further obligations related to this lease.

 

**(7)**                                 AccumulatedOther Comprehensive Loss

** **

TheCompany presents comprehensive loss in accordance with Statementof Financial Accounting Standards No. 130, *Reporting ComprehensiveIncome*. Accumulated othercomprehensive loss is comprised entirely of net loss and unrealized gains andlosses on available-for-sale marketable securities. For the three months endedSeptember 30, 2007 and 2006, total comprehensive loss equaled $8,331,000and $16,514,000, respectively. For the nine months ended September 30,2007 and 2006, total comprehensive loss equaled $24,665,000 and $60,671,000, respectively.

 

**(8)****                                ****Sale of Common Stock**

 

OnMay 30, 2007, the Company completed a direct offering of shares ofthe Company’s common stock previously registered under an effective shelfregistration statement. Pursuant to this offering, the Company sold approximately7.6 million shares of the Company’s common stock to selected institutionalinvestors at a price of $2.60 per share. Proceeds to the Company from thisregistered direct offering, net of offering expenses and placement agency fees,totaled $18.2 million.

 

11

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### **(9)****                                ****Net Loss Per Share**

###  

Basic net loss pershare is computed by dividing net loss by the weighted average number of sharesof common stock outstanding during the period. Since the Company has a net lossfor all periods presented, the effect of all potentially dilutive securities,which comprise stock options and restricted stock, is anti-dilutive.Accordingly, basic and diluted net loss per share are the same.

 

As ofSeptember 30, 2007 and 2006, options to purchase 4,837,755 and 4,751,368shares of common stock, respectively, were not included in the computation ofdiluted net loss per share since their inclusion would be anti-dilutive. Inaddition, 456,935 shares of restricted common stock are also not included.

 

### **(10)****                         ****Single Source Suppliers**

###  

### The Company currently obtains one of the keyactive pharmaceutical ingredients for its commercial requirements for BiDilfrom a single source. The Company also relies on the services of onemanufacturing source to produce BiDil. The disruption or termination of thesupply of the commercial requirement for BiDil or a significant increase in thecost of the key active pharmaceutical ingredient from this single source, orthe disruption or termination of the manufacturing source, could have amaterial adverse effect on the Company’s business, financial position andresults of operations.

###  

### **(11)****                         ****Concentration of Credit Risk**

###  

Statement of Financial Accounting StandardsNo. 105, *Disclosure of Information about Financial Instrumentswith Off-Balance-Sheet Risk and Financial Instruments with Concentrations ofCredit Risk*, requires disclosure of any significantoff-balance-sheet and credit risk concentrations. The Company has nooff-balance-sheet or concentrations of credit risk such as foreign exchangecontracts, options contracts or other foreign hedging arrangements. The Companymaintains its cash and cash equivalents and marketable securities balances withseveral high-credit quality financial institutions.

 

The following table summarizes the number of tradecustomers that individually comprise greater than 10% of total revenues andtheir respective percentage of the Company’s total revenues:

 
| ** **                                 | ** ** | **Number of ** | ** ** | ** **                                                            | ** ** | ** ** | ** ** | ** ** | ** ** |
|--------------------------------------------|------------|--------------------------|------------|-----------------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                                 | ** ** | **Significant **    | ** ** | **Percentage of Total Revenues by Customer** | ** ** |
| ** **                                 | ** ** | **Customers**            | ** ** | **A**                                                                 | ** ** | **B**      | ** ** | **C**      | ** ** |
| ** **                                 | ** ** | ** **               | ** ** | ** **                                                            | ** ** | ** ** | ** ** | ** ** | ** ** |
| Three months ended September 30, 2007 |       | 3                        |       | 34                                                                    | %          | 40         | %          | 16         | %          |
| Three months ended September 30, 2006 |       | 3                        |       | 39                                                                    | %          | 33         | %          | 16         | %          |
| Nine months ended September 30, 2007  |       | 3                        |       | 35                                                                    | %          | 37         | %          | 17         | %          |
| Nine months ended September 30, 2006  |       | 3                        |       | 35                                                                    | %          | 33         | %          | 18         | %          |

 

The following table summarizes the number ofcustomers that individually comprise greater than 10% of total accountsreceivable and their respective percentage of the Company’s total accountsreceivable:

 
| ** **              | ** ** | **Number of** | ** ** | ** **                                                      | ** ** | ** ** | ** ** | ** ** | ** ** |
|-------------------------|------------|--------------------|------------|-----------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **              | ** ** | **Significant**    | ** ** | **Percentage of Total Accounts Receivable** | ** ** |
| ** **              | ** ** | **Customers**      | ** ** | **A**                                                           | ** ** | **B**      | ** ** | **C**      | ** ** |
| As of:                  |       |               |       |                                                            |       |       |       |       |       |
| September 30, 2007 |       | 3                  |       | 38                                                              | %          | 32         | %          | 20         | %          |
| December 31, 2006       |       | 3                  |       | 30                                                              | %          | 37         | %          | 16         | %          |

 

### **(12)****                         ****Long Term Debt**

###  

On June 28, 2005,the Company borrowed (i) $10.0 million from Oxford Finance Corporation (“Oxford”),and (ii) $10.0 million from General Electric Capital Corporation (“GECC”)pursuant to the terms of Promissory Notes (the “Notes”). The Notes bearinterest at a fixed rate of 9.95% per annum and are payable in 36 consecutivemonthly installments of principal and accrued interest, beginning onJuly 1, 2005. Also on June 28, 2005, the Company entered intoMaster Security Agreements with both Oxford and GECC (the “Agreements”). Underthe terms of these Agreements, the Company granted to both Oxford and GECC asecurity interest in and against all of the property of the Company and in andagainst all additions, attachments, accessories and accessions to suchproperty, all substitutions, replacements or exchanges, and all insurance and/orother proceeds (the “Collateral”). The Collateral comprises all of theCompany’s personal property and 

 

12

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fixtures including, butnot limited to, all inventory, equipment, fixtures, accounts, deposit accounts,documents, investment property, instruments, general intangibles, chattel paperand any and all proceeds (but excluding intellectual property). TheCollateral does not include any intellectual property or products (or interestsin any intellectual property or products (including any royalties)) acquired,whether by purchase, license or otherwise, on or after the execution of theAgreements (collectively, “New Property”), nor do the Agreements limit anyindebtedness secured by any New Property provided that debt ornon-cash equity (e.g., stock) is used to acquire NewProperty. In the event that the Company uses cash to purchase NewProperty, Oxford’s and GECC’s existing liens will extend to such NewProperty.

 

The Agreements alsocontain a material adverse change clause with both Oxford and GECC. Under thisclause, if Oxford or GECC reasonably determines that the Company’s ability torepay the Notes has been materially impaired, the Company would be consideredin default. As of September 30,2007, the Company was in compliance with this clause.

 

InFebruary 2007, in connection with (i) the Company’s assignment to Shireof certain office furniture, laboratory equipment and other personal propertypursuant to the terms of the Assignment Agreement and (ii) the sale of certain laboratory equipmentpreviously used by the Company’s discovery research group, the Company enteredinto a Release of Collateral (the “Release”) with both Oxford and GECC. Pursuantto the terms of each Release, GECC and Oxford released any and allsecurity interests or liens that either GECC or Oxford had in all laboratoryequipment, office furniture and leasehold improvements and fixtures thenlocated at 125 Spring Street in Lexington, Massachusetts as of the date of theRelease. In addition, GECC and Oxford each released any and all securityinterests or liens that either GECC or Oxford may have had in any and allcomputer and electronic equipment, wherever located, to the extent that suchcomputer and electronic equipment was acquired by the Company prior to the dateof the Release.

 

### **(13)****                         ****Commitments andContingencies**

###  

In connection withthe Company’s efforts to obtain the approval of BiDil from the FDA, the Companycontracted with the law firm of FoxKiser LLC (“FoxKiser”) for services relatedto the regulatory approval process for BiDil. The agreement provided forpayment of legal consulting fees upon receipt of written FDA approval of BiDil.On June 23, 2005, the Company received written FDA approval of BiDil, andin July 2005 the Company paid FoxKiser $2.4 million pursuant to the termsof this agreement. In addition, the agreement requires the Company to payroyalties to FoxKiser on commercial sales of BiDil. The royalty term ends sixmonths after the date of market introduction of an FDA-approved generic versionof BiDil. During the third quarter of 2005, the Company entered into a separateconsulting agreement with FoxKiser following the approval by the FDA of BiDil,which ceased to be effective in the third quarter of 2006. During the threemonth periods ended September 30, 2007 and 2006, the Company recorded expensesof $0.0 and $0.2 million, respectively, pertaining to the legal consulting feesrelated to these agreements. During the nine month periods ended September 30,2007 and 2006, the Company recorded expenses of $0.0 and $0.9 million,respectively, pertaining to the legal consulting fees related to theseagreements. During the three month periods ended September 30, 2007 and2006, the Company also paid royalties to FoxKiser in the amounts of $0.1million and $0.1 million, respectively. During the nine month periods endedSeptember 30, 2007 and 2006, the Company also paid royalties to FoxKiserin the amounts of $0.3 million and $0.3 million, respectively.

 

InFebruary 2005, the Company engaged Schwarz Pharma Manufacturing, Inc.under a five-year exclusive manufacturing and supply agreement solely for thethree times daily immediate release dosage formulation of BiDil. Under thesupply agreement, the Company has the right to engage a backup manufacturer,but to date has not elected to use this right. In connection with this supplyagreement, the Company has outstanding binding purchase orders of $648,000 forproduction of BiDil finished goods to occur during the fourth quarter of 2007.

 

### **(14)****                         ****License Agreement**

###  

In February 2007, inconnection with the Company’s efforts to develop BiDil XR, the Company enteredinto a license agreement with Elan Pharma International Limited (“Elan”).Pursuant to the agreement, Elan granted to the Company an exclusive worldwidelicense, for the term of the agreement, to certain know-how, patents andtechnology, and any improvements to any of the foregoing developed by eitherparty during the term of the agreement. Pursuant to this license, the Companyhas the right to import, use, offer for sale and sell the oral capsuleformulation incorporating specified technology referred to in the agreement andcontaining, as its sole active combination of ingredients, the combination ofthe active drug substances isosorbide dinitrate and hydralazine hydrochloride,including BiDil XR. In consideration for the grant of the license, the Companyhas agreed to pay Elan royalties that are calculated by reference to annual netsales parameters set forth in the agreement. In addition, the Company has alsoagreed to pay Elan specified amounts upon the achievement of specifieddevelopment and commercialization milestone events of up to $2.5 million,of which $250,000 has been expensed and paid to date.

 

13

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The term of the agreement runs in the United Statesfrom the effective date of the agreement until the later of (a) the 20thanniversary of the date of the first sale of the product by the Company or apermitted sublicensee to an unaffiliated third party, which is referred to inthe agreement as the first in market sale, or (b) the expiration of thelast-to-expire patent for the product listed in the FDA’s “Orange Book.”Elsewhere in the world, the term will run on a country by country basis fromthe effective date of the agreement until the later of (a) the 20th anniversaryof the date of the first in market sale of the product in the country concernedor (b) the expiration of the life of the last to expire patent included in theElan intellectual property in that country. Following the expiration of theinitial term, the agreement shall continue automatically for rolling three yearperiods thereafter, unless the agreement has been terminated by either of theparties by serving written notice to the other party one year prior to the endof the initial term or any such additional three year period. Either Elan orthe Company may terminate the agreement in the event of a material, uncuredbreach by the other party, or if the other party goes into liquidation orbecomes bankrupt or insolvent. In addition, the Company may terminate theagreement in the event of a technical failure, which is defined as theinability to achieve a pharmacokinetic profile for the product consistent withthat of BiDil administered three times daily. Elan may terminate the agreementwith respect to a particular country in the territory in the event that theCompany does not meet certain obligations set forth in the agreement withrespect to such country, provided that Elan must first consult with the Companyand, if applicable, provide the Company with an opportunity to meet suchobligations prior to exercising Elan’s termination rights.

 

### **(15)****                         ****Operating Lease**

###  

In February 2007, the Company entered into a leasefor 19,815 square feet of office space at 45 Hayden Avenue in Lexington,Massachusetts (the “Hayden Avenue Lease”). The term of the Hayden Avenue Leaseis for sixty-six months beginning on April 1, 2007. The expected minimum rentalcommitments under the Hayden Avenue Lease are $101,000 for the remainder of2007, $510,000 in 2008, $560,000 in 2009, $580,000 in 2010, $592,000 in 2011and $456,000 for the nine month period ending September 2012.

 

In March 2007, the Company entered into theAssignment Agreement with Shire, pursuant to which the Company assigned itslease for office and laboratory space located at 125 Spring Street inLexington, Massachusetts. The Company is no longer responsible for obligationsunder the Spring Street Lease.

 

### **(16)****                         ****Subsequent Event**

###  

OnOctober 15, 2007, the Company entered into a License Agreement with a privatelyheld company, pursuant to which the Company granted the licensee anon-exclusive license under certain non-strategic patent rights owned and/orlicensed by the Company. Pursuant to the terms of the License Agreement, thelicensee paid the Company an upfront license fee in the amount of $750,000.

 

### **(17)****                         ****New Accounting Standards**

###  

InSeptember 2006, the Financial Accounting Standards Board ("FASB")issued Statement of Financial Accounting Standards No. 157, *Fair Value Measurements* (“SFAS 157”),which defines fair value, establishes a framework for measuring fair valueunder GAAP and expands disclosures about fair value measurements. SFAS 157applies to other accounting pronouncements that require or permit fair valuemeasurements. The new guidance is effective for financial statements issued forfiscal years beginning after November 15, 2007 and for interim periodswithin those fiscal years. The Company is currently evaluating the requirementsof SFAS 157; however, the Company does not believe that the adoption willhave a material effect on its consolidated financial statements.

 

InFebruary 2007, the FASB issued Statement of Financial Accounting StandardsNo. 159, *The Fair Value Option for Financial Assetsand Financial Liabilities* (“SFAS 159”). SFAS 159 provides companieswith an option to report selected financial assets and liabilities at fairvalue. The objective of SFAS 159 is to reduce both complexity in accounting forfinancial instruments and the volatility in earnings caused by measuringrelated assets and liabilities differently. Generally accepted accountingprinciples have required different measurement attributes for different assetsand liabilities that can create artificial volatility in earnings. The FASB hasindicated that it believes SFAS 159 helps to mitigate this type ofaccounting-induced volatility by enabling companies to report related assetsand liabilities at fair value, which would likely reduce the need for companiesto comply with detailed rules for hedge accounting. SFAS 159 also establishespresentation and disclosure requirements designed to facilitate comparisonsbetween companies that choose different measurement attributes for similar typesof assets and liabilities. For example, SFAS 159 requires companies to provideadditional information that will help investors and other users of financialstatements to more easily understand the effect of a company’s choice to usefair value on its earnings. SFAS 159 also requires companies to display thefair value of those assets 

 

14

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andliabilities for which a company has chosen to use fair value on the face of thebalance sheet. SFAS 159 does not eliminate disclosure requirements included inother accounting standards, including requirements for disclosures about fairvalue measurements included in SFAS 157 and Statement of Financial AccountingStandards No. 107, *Disclosures about FairValue of Financial Instruments*. SFAS 159 is effective as of thebeginning of a company’s first fiscal year beginning after November 15,2007. Early adoption is permitted as of the beginning of the previous fiscalyear, provided that the company makes that choice in the first 120 days of thatfiscal year and also elects to apply the provisions of SFAS 157.

 

InJune 2007, the Emerging Issues Task Force issued EITF Issue 07-03, *Accounting for Advance Payments for Goods or Services to Be Used inFuture Research and Development* (“EITF 07-03”). EITF 07-03 addressesthe diversity which exists with respect to the accounting for thenon-refundable portion of a payment made by a research and development entityfor future research and development activities. Under EITF 07-03, an entitywould defer and capitalize non-refundable advance payments made for researchand development activities until the related goods are delivered or the relatedservices are performed. EITF 07-03 is effective for fiscal years beginningafter December 15, 2007 and interim periods within those years. The Companydoes not expect the adoption of EITF 07-03 to have a material impact on itsfinancial position or results of operations.

 

15

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

 

**Overview**

** **

We are an emerging pharmaceutical company withsubstantial intellectual property in nitric oxide-based drug development. Wehave devoted substantially all of our efforts towards the research anddevelopment of our product candidates and the commercialization of ourcurrently marketed product, BiDil®. We have also applied our nitricoxide technology to develop novel pharmaceuticals, as well as safer and moreeffective versions of existing drugs, and to target significant diseases thatare characterized by a deficiency in nitric oxide. Since our inception, we havemainly funded our operations through the sale of equity securities, debtfinancings, license fees, research and development funding, milestone paymentsfrom our collaborative partners, and more recently, sales of BiDil. We havenever been profitable and have incurred an accumulated deficit of $338.5million as of September 30, 2007.

 

In June 2005, the U.S. Food and Drug Administration,or FDA, approved our product, BiDil, for the treatment of heart failure inself-identified black patients as an adjunct to current standard therapies.BiDil is an orally administered fixed-dose combination of isosorbide dinitrateand hydralazine hydrochloride. We commercially launched BiDil inJuly 2005. We engaged Schwarz Pharma Manufacturing Inc., or SchwarzPharma, under a five-year manufacturing and supply agreement exclusively forthe three times daily immediate release dosage formulation of BiDil.

 

In March 2006, we eliminated our discoveryresearch program and terminated substantially all of the employees in ourdiscovery research group in a restructuring of our company that was intended tobetter align costs with revenue and operating expectations. In connection withour restructuring in March 2006, we determined to limit our futureinternal development activities to the continued development of an extendedrelease formulation of BiDil designed to be taken once per day, known as BiDilXRTM, as well as efforts to out-license our nitric oxide-enhancing technology inexchange for potential milestone payments and royalties on sales.

 

In October 2006, we implemented a revisedstrategy and business model in order to focus our resources on the developmentof BiDil XR as expeditiously as possible. As part of this strategic shift, weeliminated our sales force and replaced it with a small team of seniorcardiovascular business managers focused on hospitals and key opinion leaders,resulting in a net reduction of approximately 120 in sales force headcount. Inaddition, we also eliminated approximately 20% of our general andadministrative personnel in connection with this restructuring program. InAugust 2007, we began to deploy an expanded field organization designed todouble our sales force in specific geographic areas with a focus on selectedprescriber targets. Our current field sales organization is managed by oursenior vice president of commercial operations and is comprised ofapproximately 60 people.

 

Our sales force continues to focus on regional andnational thought-leader physicians, current and past BiDil prescribers and keyinstitutions that treat, and influence the treatment of, large numbers ofAfrican-Americans diagnosed with heart failure. We also continue to exploreadditional marketing methods that can be utilized to reach the broader numberof existing and potential BiDil prescribers. We believe that this strategyallows us to focus our marketing and prescription pull-through efforts withrespect to the current BiDil formulation as we continue our development effortswith respect to BiDil XR. Based on our preclinical studies with BiDil XR, wecommenced clinical development of BiDil XR in October 2006. We havescheduled a meeting with the FDA, to be held in December 2007, to discuss theavailable pharmacokinetic study results and development plan for BiDil XR.

 

In connection with our efforts to develop BiDil XR, 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, with specified sublicense rights,to specified intellectual property of Elan, as well as any improvements to anyof the foregoing developed by either party during the term of the agreement.Pursuant to the license, we may import, use, offer for sale and sell an oralcapsule formulation incorporating specified technology owned or controlled byElan and containing, as its sole active combination of ingredients, thecombination of the active drug substances isosorbide dinitrate and hydralazinehydrochloride. In consideration for the grant of the license, we have agreed topay Elan royalties that are calculated by reference to annual net salesparameters set forth in the agreement. In addition, we have also agreed to payElan specified amounts upon the achievement of specified development andcommercialization milestone events set forth in the agreement.

 

Inaddition, we continue to pursue opportunities for our BiDil franchise innon-U.S. markets, particularly in the European Union. We are engaged indiscussions with the European Medicines Agency and are preparing a MarketingAuthorization Application with respect to BiDil for submission to that agency.

 

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In the near-term, a key driver of our success will beour ability to successfully commercialize and sustain market penetration ofBiDil with our expanded, restructured sales force and to expeditiously develop,and obtain regulatory approval for the commercial sale of, BiDil XR. Since wecommercially launched BiDil in July 2005, we have generated approximately$27.6 million in product sales, including product sales of $3.8 million in thethree month period ending September 30, 2007. We will need to generatesignificant revenues from sales of BiDil and, if approved, BiDil XR, to achieveprofitability. At the present time, we are unable to estimate the level ofrevenues that we will realize from the sales of BiDil or, if approved, BiDilXR. We are therefore unable to estimate when we will achieve profitability, ifat all.

 

As a result of our restructurings in March andOctober 2006, we expect that research, development and commercializationexpenses will decline in 2007 as compared to 2006, due primarily to a decreasein headcount and research and commercialization activities, partially offset byan increase in ongoing development expenses for BiDil XR and increased expensesassociated with our expanded sales organization. We estimate that our operatingexpenses related to research and development and sales, general andadministrative functions for the year ended December 31, 2007 will beapproximately $50 million, excluding cost of product sales but includingshare-based compensation expense related to Statement of Financial AccountingStandards No. 123R.

 

At September 30, 2007, our principal source ofliquidity was $38.2 million of cash and cash equivalents and marketablesecurities. We believe that our existing cash, cash equivalents and marketablesecurities, as well as cash expected to be generated from sales of BiDil, willbe sufficient to fund our current business plan for at least the next twelvemonths. We have used and will continue to require substantial funds tomanufacture, market and sell BiDil during 2007 and beyond. We also expect toincur additional expenses relating to the ongoing development of BiDil XR.Accordingly, we will require substantial additional cash to fund our operationsbeyond the next twelve month period. We may seek to raise these funds throughfinancings, including public or private equity offerings, debt financings,collaborative arrangements with corporate partners or a combination of any ofthe foregoing. Even if we are able to raise additional capital, there can be noassurance that funds will be available on terms that are acceptable to us, ifat all. If adequate funds are not available, we will be required to scale backor eliminate some or all of our sales and marketing efforts for BiDil, as wellas delay our development efforts with respect to BiDil XR. We may also berequired to license to others the right to develop or commercialize products ortechnologies that we would otherwise seek to develop and commercialize on ourown. We could also be required to limit, scale back or cease our operations,any of which would have a material and adverse effect on our business,financial condition and results of operations.

 

**Financial Operations Overview**

 

*Revenue.*Our first commercial product, BiDil, waslaunched in July 2005, and generated product sales of $3.8 million in thethird quarter of 2007. Prior to the launch of BiDil, all of our revenue hadbeen derived from license fees, research and development payments and milestonepayments that we received from our corporate collaborators. In future years, wewill seek to generate revenue from a combination of product sales, licensefees, and milestone and royalty payments in connection with collaborative orstrategic relationships, as well as royalties resulting from the license of ourintellectual property. We expect that any collaborative revenue we generatewill fluctuate from quarter to quarter as a result of the timing and amount ofresearch and development, milestone and other payments received under ourcollaborative or strategic relationships and related continuing obligations, aswell as the timing and amount of revenue we recognize for the sale of ourproducts, to the extent any are successfully commercialized.

 

*Research and Development.*Research and development expense consists ofexpenses incurred in identifying, developing and testing product candidates.These expenses consist primarily of salaries and related expenses 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 summarizes our primary research anddevelopment programs. We have not provided program costs because prior to 2000we did not track and accumulate cost information by research program.

 

•      *BiDil.* From May 2001 to July 2004, weenrolled 1,050 patients at 169 clinical sites in the United States in our phaseIII clinical trial for BiDil. We halted the trial in July 2004 due to asignificant survival benefit in the preliminary data for patients taking BiDil.The FDA approved BiDil on June 23, 2005, and we launched BiDil inJuly 2005. The total cost for the BiDil A-HeFT trial was approximately$43.0 million.

 

•      *BiDil XR*. The current formulation of BiDil is animmediate-release tablet that must be taken three times daily. We are currentlypursuing the development of BiDil XR, an extended release formulation of BiDil,that could be taken once a day. To date, we have incurred approximately$8.4 million in connection with the development of BiDil XR. Based on our 

 

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preclinical studies with BiDil XR, we commencedclinical development of BiDil XR during October 2006. Because of its stage ofdevelopment, and the uncertainties inherent in pharmaceutical developmentgenerally, we may not be able to successfully develop and commercializeBiDil XR. Moreover, we cannot reasonably estimate or know the nature, timingand estimated costs of the efforts necessary to complete the development of, orthe period in which material cash inflows are expected to commence, if at all,for BiDil XR.

 

•      *Nitric Oxide-Enhancing**Cardiovascular Compounds*.We have utilized our nitric oxide expertise and proprietary position to developa proprietary nitric oxide-enhancing cardio-renal compound, referred to asNMI-3377. We have retained all commercial rights to this product candidate andare currently seeking out-licensing and collaboration opportunities for thiscompound. Currently, we do not intend to incur additional internal research anddevelopment expenses related to NMI-3377. Because this compound has not beendeveloped beyond the pre-clinical stage, the successful development of thisproduct candidate is highly uncertain. In addition, we cannot be certain if wewill be able to secure an out-licensing or collaboration partner for thiscompound on favorable terms, if at all. As such, we are not able to estimatewhen material cash inflows from product sales, milestones and royalties couldcommence, if at all.

 

•      *Other Discovery Research*. We have used our know-how and expertise innitric oxide to develop drug candidates that are nitric oxide-enhancing versionsof existing medicines in the areas of cardiovascular,gastrointestinal/anti-inflammatory and pulmonary medicine. These studies havenot progressed beyond the discovery stage of testing, and it remainsspeculative whether the addition of nitric oxide will result in an improvedclinical profile of these medicines. We are currently seeking out-licensing andcollaboration opportunities for these product candidates, and are not presentlyengaging in any internal research and development activities with respect tothese drugs. We cannot be certain if we will be able to secure out-licensing orcollaboration partners for these product candidates on favorable terms, if atall. As such, we are not able to estimate when material cash inflows fromproduct sales, milestones and royalties could commence, if ever.

 

*Sales,**General and Administrative.*Sales, general and administrative expenseconsists primarily of salaries and other related costs for personnel in salesand marketing, executive, finance, investor relations, accounting, businessdevelopment, legal and human resource functions. Other costs include facilitycosts not otherwise included in research and development expense; costs forpublic relations, advertising and promotion services; professional fees for legaland accounting services; and costs related to our former contract salesagreement with Publicis Selling Solutions, Inc., or Publicis.

 

*Non-Operating Income.*Interest income includes interest earned onour cash, cash equivalents and marketable securities, and interest expenseassociated with our long-term debt.

 

**Results of Operations**

 

***ThreeMonths Ended September 30, 2007 and 2006***

** **

*Revenue.*Total revenue for the three months ended September 30,2007 was $3.8 million compared to $3.4 million for the three months endedSeptember 30, 2006. The $0.4 million, or 10% increase in revenues in thecurrent period is due to increased shipments of BiDil during the third quarterof 2007. Product sales of BiDil accounted for all of the revenue for both thethree month periods ended September 30, 2007 and 2006.

 

*Cost ofProduct Sale*s. Cost of product sales was $0.6 million for thethree month period ended September 30, 2007 and $1.3 million for the threemonth period ended September 30, 2006. For the three month periods endedSeptember 30, 2007 and 2006, we recorded inventory impairment charges of$-0- and $0.8 million, respectively. These inventory impairment charges wererelated to commercial trade and patient sample inventory product in excess ofexpected future inventory requirements and future purchase commitments, basedon our current sales forecast.

 

*Researchand Development.*Research and development expense for thethree months ended September 30, 2007 was $3.8 million compared to$4.1 million for the three months ended September 30, 2006. The $0.3million, or 7%, decrease in research and development expenses in the currentperiod was primarily due to $0.4 million in reduced headcount expenses and a$1.0 million decrease in medical expenditures supporting the commercial launchof BiDil. These decreases are offset by a $1.0 million increase in spendingrelated to the development of BiDil 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, 2007 and 2006:

 

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| ** **                                          | ** ** | **Three Months  Ended  September 30,** | ** ** |
|-----------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                          | ** ** | **2007**                                         | ** ** | **2006** | ** ** |
| **Research and Development Program (in  millions)** | ** ** | ** **                                       | ** ** | ** ** | ** ** |
| BiDil                                               |       | $                                                | 1.7        |   | $ | 2.5 |   |
| BiDil XR                                            |       | 2.1                                              |       | 0.9 |   |
| Other discovery research                            |       | —                                           |       | 0.3 |   |
| Nitric oxide-enhancing cardiovascular  compounds    |       | —                                           |       | 0.4 |   |
| Total research and development expense              |       | $                                                | 3.8        |   | $ | 4.1 |   |

 

*Sales,General and Administrative.*Sales, general and administrativeexpense for the three months ended September 30, 2007 was $8.1 millioncompared to $15.0 million for the three months ended September 30, 2006.The $6.9 million, or 46%, decrease in sales, general and administrative expensewas primarily due to a decrease of  $4.7million related to a reduction in headcount due to the restructuring action inOctober 2006, a decrease of $0.4 million in expenses related to our formercontract sales force agreement with Publicis, and a $1.6 million decrease inadvertising expenses.

 

*Stock-based Compensation Expense.*We account for share-based payments toemployees under Statement of Financial Accounting Standards No. 123(revised 2004),*Share-Based Payment,*or SFAS 123R. As such, we recognize compensation cost based on (a) therequirement of SFAS 123R for all share-based payments granted after December31, 2005 and (b) the requirements of Statement of Financial AccountingStandards No. 123, *Accounting for Stock BasedCompensation*, for all awards granted to employees prior to December31, 2005 that were unvested on that date. We recognized $1.3 million and $1.9million in stock-based compensation expense for the three months endedSeptember 30, 2007 and 2006, respectively.

 

*Non-OperatingIncome.*Non-operating income for the three months endedSeptember 30, 2007 was $381,000 compared to $459,000 for the three monthsended September 30, 2006. The $78,000, or 17%, decrease was primarily dueto lower fund balances available for investment, and a $167,000 reduction ininterest expense due to a lower long-term debt balance in 2007.

 

***NineMonths Ended September 30, 2007 and 2006***

** **

*Revenue.*Total revenue for the nine months ended September 30, 2007was $11.0 million compared to $8.6 million for the nine months endedSeptember 30, 2006. The $2.4 million, or 28%, increase in revenues in thecurrent period is due to increased shipments of BiDil during the nine monthsended September 30, 2007. Product sales of BiDil accounted for all of therevenue for both nine month periods ended September 30, 2007 and 2006.

 

*Cost ofProduct Sale*s. Cost of product sales was $2.2 million for thenine month period ended September 30, 2007 and $2.8 million for the nine monthperiod ended September 30, 2006. For the nine month periods endedSeptember 30, 2007 and 2006, we recorded inventory impairment charges of$0.5 million and $1.4 million, respectively. These inventory impairment chargeswere related to commercial trade and patient sample inventory product 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, 2007 was $9.7 million compared to$14.6 million for the nine months ended September 30, 2006. The $4.9million, or 33%, decrease in research and development expenses in the currentperiod was primarily due to $2.3 million in reduced headcount expenses as aresult of our restructuring actions in March 2006 and October 2006 and a $6.0million decrease in medical expenditures supporting the commercial launch ofBiDil and other discovery research. These decreases are offset by a $3.3million increase in spending related to the development of BiDil 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, 2007 and 2006:

 
| ** **                                         | ** ** | **Nine Months  Ended  September 30,** | ** ** |
|----------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                         | ** ** | **2007**                                        | ** ** | **2006** | ** ** |
| **Research and Development Program (in millions)** | ** ** | ** **                                      | ** ** | ** ** | ** ** |
| BiDil                                              |       | $                                               | 4.0        |   | $ | 7.8 |   |
| BiDil XR                                           |       | 5.6                                             |       | 2.1 |   |
| Other discovery research                           |       | 0.1                                             |       | 1.9 |   |
| Nitric oxide-enhancing cardiovascular  compounds   |       | —                                          |       | 2.6 |   |
| Nitric oxide-enhanced stents                       |       | —                                          |       | 0.2 |   |
| Total research and development expense             |       | $                                               | 9.7        |   | $ | 14.6 |   |

 

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*Sales, General and Administrative.*Sales, general andadministrative expense for the nine months ended September 30, 2007 was$23.7 million compared to $51.4 million for the nine months endedSeptember 30, 2006. The $27.7 million, or 54%, decrease in sales, generaland administrative expense was primarily due to a decrease of $10.8 million inexpenses related to our former contract sales force agreement with Publicis,$7.8 million in decreased payroll and related expenses due to a decrease inheadcount related to the October 2006 restructuring action, $5.9 million indecreased advertising expenses and $0.7 million of severance benefits relatedto the cessation of service on March 20, 2006 of our then-president andchief executive officer and our then-chief financial officer, chief businessofficer and treasurer.

 

*Restructuring Charge.* On March 31, 2006, we recorded charges of $2.0 million for arestructuring of our discovery research operations that was intended to betteralign costs with revenue and operating expectations. The restructuring chargespertain to employee severance benefits and impairment of assets. Therestructuring charges were recorded in accordance with Statement of FinancialAccounting Standards No. 146,*Accounting for Costs Associated with Exit or Disposal*Activities, or SFAS 146, andStatement of Financial Accounting Standards No. 144, *Accounting for the Impairment or Disposal ofLong-Lived Assets.* In connection with the restructuring plan, weterminated 30 employees from our discovery research group, or approximately 30%of our workforce, resulting in a charge of $1.4 million. None of theseemployees remained employed as of March 31, 2006, and all amounts werepaid by March 31, 2007. As a result of terminating these employees we recordedan impairment charge for certain research laboratory equipment, computerequipment, and furniture and fixtures aggregating $597,000. These assets werewritten down to their fair value utilizing a third party appraiser to estimatefair value based on current market quotes and the current condition of theequipment, furniture and fixtures.

 

Inthe first quarter of 2007, we recorded a restructuring charge of $1.0 millionrelated to vacating our former headquarters location. The charge was recordedpursuant to SFAS 146. In March 2007, we entered into an Assignment of Lease andAssumption Agreement, which we refer to as the Assignment Agreement, with ShireHuman Genetic Therapies, Inc., or Shire, pursuant to which we assigned ourlease for office and laboratory space located at 125 Spring Street inLexington, Massachusetts, which we refer to as the Spring StreetLease. Pursuant to the terms of the Assignment Agreement, we agreed to payShire the amount of approximately $1,160,000 as consideration for Shire’sassumption of the Spring Street Lease. In addition to this charge, we incurred$612,000 in expenses primarily related to real estate brokerage fees andclean-up costs. Offsetting these charges was a reversal of $768,000 in accruedrent related to the Spring Street Lease. All amounts were paid as of June 30,2007.

 

*Stock-based Compensation Expense.*We recognized $4.7 million and $6.4 millionin stock-based compensation expense for the nine months endedSeptember 30, 2007 and 2006, respectively. As of September 30, 2007,the total unrecognized compensation cost related to unvested option awards wasapproximately $8.7 million, which will be recognized over a weightedaverage period of 2.6 years. As of September 30, 2007, the totalunrecognized compensation cost related to unvested restricted shares wasapproximately $1.5 million, which will be recognized over the remainingvesting period of 1.5 years.

 

*Non-OperatingIncome.*Non-operating income for the nine months endedSeptember 30, 2007 was $0.9 million compared to $1.5 million for the ninemonths ended September 30, 2006. The $0.6 million, or 43%, decrease wasprimarily due to lower fund balances available for investment, and a $488,000reduction in interest expense due to lower long-term debt balances in 2007.

 

**Liquidityand Capital Resources**

** **

Since ourinception, we have primarily funded our operations through the sale of equitysecurities, debt financings, license fees, research and development funding,milestone payments from our collaborative partners and, more recently, sales ofBiDil. As of September 30, 2007, we have received net proceeds of $321.0million from the issuance of equity securities, primarily as the result of thesale of $99.1 million of our redeemable convertible preferred stock, net proceedsof $60.1 million from our initial public offering in November 2003,net proceeds of $81.8 million from our follow-on public offering inDecember 2004, net proceeds of $58.5 million from our registered directoffering in January 2006, and net proceeds of $18.2 million from ourregistered direct offering in May 2007. At September 30, 2007, we had$38.2 million in cash, cash equivalents and marketable securities.

 

During the nine months ended September 30,2007, operating activities used cash of $18.4 million, primarily due to

 

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a net loss of $24.7 million anddecreases in deferred revenue of $0.2 million, accrued restructuring charges of$0.3 million and inventory of $0.2 million, offset by increases in accountspayable and accrued expenses of $1.8 million, stock-based compensation expenseof $4.7 million and an increase in accounts receivable of $0.1 million.

 

During the nine months ended September 30,2007, investing activities used cash of $6.8 million primarily due to netpurchases of marketable securities of $7.8 million, offset by proceeds from thesale of $0.5 million of equipment and a reduction of restricted cash in theamount of $0.6 million due to terminating our former headquarters lease.

 

During the nine months ended September 30,2007, financing activities provided cash of $13.5 million due to $18.2 millionin proceeds from the sale of common stock and $0.3 million from employee stockpurchases, offset by $5.1 million in long-term debt payments.

 

On June 28,2005, we borrowed (i) $10.0 million from Oxford Finance Corporation, orOxford, and (ii) $10.0 million from General Electric Capital Corporation,or GECC, pursuant to the terms of promissory notes made by us with both Oxfordand GECC, respectively. The notes bear interest at a fixed rate of 9.95% perannum and are payable in 36 consecutive monthly installments of principal andaccrued interest, beginning July 1, 2005. The notes are secured by asecurity interest in all our personal property and fixtures with the exceptionof any intellectual property or products acquired, whether by purchase, licenseor otherwise, on or after the execution of the notes, provided that debt ornon-cash equity is used to acquire the new property.

 

The agreements that weentered into with each of Oxford and GECC in connection with the notes alsocontain a material adverse change clause with both Oxford and GECC. Under thisclause, if Oxford or GECC reasonably determine that our ability to repay thenotes has been materially impaired, we would be considered in default. As of September 30, 2007, we were incompliance with this clause. As of September 30, 2007, we had paid aggregateprincipal in the amount of $14.5 million.

 

InFebruary 2007, in connection with (i) our assignment to Shire of certainoffice furniture, laboratory equipment and other personal property related to theassignment to Shire of the lease for our former office and laboratory spacelocated at 125 Spring Street in Lexington, Massachusetts and (ii) the sale of certain laboratory equipmentpreviously used by our discovery research group, we entered into a release ofcollateral with both Oxford and GECC. Pursuant to the terms of each release,GECC and Oxford released any and all security interests or liens thateither GECC or Oxford had in all laboratory equipment, office furniture andleasehold improvements and fixtures then located at 125 Spring Street inLexington, Massachusetts as of the date of the release. In addition, GECC andOxford each released any and all security interests or liens that either GECCor Oxford may have had in any and all computer and electronic equipment,wherever located, to the extent that such computer and electronic equipment wasacquired by us prior to the date of the release.

 

On August 3, 2005,we filed a registration statement utilizing a “shelf” registration process withthe Securities and Exchange Commission, or SEC. Under this shelf process, wemay sell from time to time, in one or more offerings of common stock anddebt securities up to a total dollar amount of $250 million. This shelf registrationis more fully detailed in a Registration Statement on Form S-3 we filedwith the SEC on August 3, 2005. On May 30, 2007, we completed adirect offering of shares of our common stock previously registered under oureffective shelf registration statement. Pursuant to this offering, we soldapproximately 7.6 million shares of our common stock to selected institutionalinvestors at a price of $2.60 per share. Proceeds to us from this registereddirect offering, net of offering expenses and placement agency fees, totaled$18.2 million.

 

**Contractual Obligations**

 

The following table summarizes our contractualobligations at September 30, 2007, and the effects such obligations areexpected to have on our liquidity and cash flows in future periods.

 
| **Contractual Obligations**   | ** ** | **Total** | ** ** | **Less than  one year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  five years** | ** ** |
|------------------------------------|------------|-----------|------------|-----------------------------------|------------|--------------------|------------|--------------------|------------|-------------------------------------|------------|
| Long term debt                     |       | $         | 5,756,000  |                              | $          | 5,756,000          |       | $                  | —     |                                | $          | — |   | $ | — |   |
| Operating lease obligation         |       | 2,798,000 |       | 475,000                           |       | 1,129,000          |       | 1,194,000          |       | —                              |       |
| Purchase obligations (1)           |       | 648,000   |       | 648,000                           |       | —             |       | —             |       | —                              |       |
| License milestones (2)             |       | —    |       | —                            |       | —             |       | —             |       | —                              |       |
| Total contractual cash obligations |       | $         | 9,202,000  |                              | $          | 6,879,000          |       | $                  | 1,129,000  |                                | $          | 1,194,000 |   | $ | — |   |

 

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(1)  In April and June of 2007, we placedbinding purchase orders totaling the approximate amount of $648,000 withSchwarz Pharma for production of BiDil finished goods during the fourth quarterof 2007.

 

(2)  On February 9, 2007, we entered intoa License Agreement with Elan, pursuant to which we may be obligated to paycertain milestone payments in the aggregate amount of $2,500,000, of which$250,000 has been paid to date. We are uncertain as to the timing of any futurepayments pursuant to the terms of the License Agreement.

 

We believe that our existing cash, cash equivalentsand marketable securities, as well as cash expected to be generated from salesof BiDil, will be sufficient to fund the current business plan for at least thenext twelve months. We will require substantial additional funding in thefuture and may seek that funding through collaborative co-promotionarrangements and/or public or private financings. However, additional fundingmay not be available to us on acceptable terms, if at all. In addition,the terms of any financing may adversely affect the holdings or the rightsof our stockholders. For example, if we raise additional funds by issuingequity securities or convertible debt securities, further dilution to ourexisting stockholders may result. We also could be required to seek fundsthrough arrangements with collaborators or others that may require us torelinquish rights to some of our technologies, product candidates or products.If we are unable to obtain funding on a timely basis, we may be requiredto significantly curtail certain of our sales and marketing efforts, as well asour development efforts with respect to BiDil XR. In addition, we may berequired to limit, scale back or cease our operations.

 

Even if we are able to raise additional funds in atimely manner, our future capital requirements may vary from what weexpect and will depend on many factors, including the following:

 

•                    the magnitude of product sales of BiDil;

 

•                    the successful commercialization of BiDil;

 

•                    the cost of manufacturing, marketing andselling BiDil;

 

•                    the timing of when we receive significantrevenue from BiDil, if at all;

 

•                    the time and costs involved in completing theclinical trials and further development of, and obtaining regulatory approvalsfor, BiDil XR, if at all;

 

•                    our ability to establish and maintainco-promotion, out-licensing and collaborative arrangements;

 

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

 

•                    the effect of competing technological andmarket developments;

 

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

 

•                    the cost of obtaining and maintaininglicenses to use patented technologies.

 

**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, accounts receivable, inventories, accrued expenses and the factorsused to estimate the fair value of our stock options using the Black-Scholesoption pricing model. We base our estimates on historical experience, knowntrends and events and various other factors that are believed to be reasonableunder the circumstances, the results of which form the basis for makingjudgments about the carrying values of assets and liabilities that are notreadily apparent from other sources. Actual results may differ from theseestimates under different assumptions or conditions. There were no material changesin our judgments or estimates during the third quarter of 2007. For a detailed

 

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explanation of the judgments made in theseareas, refer to Management’s Discussion and Analysis of Financial Condition andResults of Operations within our Annual Report on Form 10-K for the yearended December 31, 2006, which is on file with the SEC.

 

**Recently Issued Accounting Pronouncements**

 

InSeptember 2006, the Financial Accounting Standards Board, or FASB, issuedStatement of Financial Accounting Standards No. 157, *Fair Value Measurements*, or SFAS 157,which defines fair value, establishes a framework for measuring fair valueunder GAAP and expands disclosures about fair value measurements. SFAS 157applies to other accounting pronouncements that require or permit fair valuemeasurements. The new guidance is effective for financial statements issued forfiscal years beginning after November 15, 2007 and for interim periodswithin those fiscal years. We are currently evaluating the requirements ofSFAS 157; however, we do not believe that the adoption will have amaterial effect on our consolidated financial statements.

 

InFebruary 2007, the FASB issued Statement of Financial Accounting StandardsNo. 159, *The Fair Value Option for Financial Assetsand Financial Liabilities*, or SFAS 159. SFAS 159 provides companieswith an option to report selected financial assets and liabilities at fairvalue. The objective of SFAS 159 is to reduce both complexity in accounting forfinancial instruments and the volatility in earnings caused by measuringrelated assets and liabilities differently. Generally accepted accountingprinciples have required different measurement attributes for different assetsand liabilities that can create artificial volatility in earnings. FASB hasindicated that it believes SFAS 159 helps to mitigate this type ofaccounting-induced volatility by enabling companies to report related assetsand liabilities at fair value, which would likely reduce the need for companiesto comply with detailed rules for hedge accounting. SFAS 159 also establishespresentation and disclosure requirements designed to facilitate comparisonsbetween companies that choose different measurement attributes for similartypes of assets and liabilities. For example, SFAS 159 requires companies toprovide additional information that will help investors and other users offinancial statements to more easily understand the effect of a company’s choiceto use fair value on its earnings. It also requires companies to display thefair value of those assets and liabilities for which a company has chosen touse fair value on the face of the balance sheet. SFAS 159 does not eliminatedisclosure requirements included in other accounting standards, includingrequirements for disclosures about fair value measurements included inSFAS 157 and Statement of Financial Accounting Standards No. 107, *Disclosures about Fair Value of Financial Instruments*. SFAS159 is effective as of the beginning of a company’s first fiscal year beginningafter November 15, 2007. Early adoption is permitted as of the beginningof the previous fiscal year provided that the a company makes that choice inthe first 120 days of that fiscal year and also elects to apply the provisionsof SFAS 157.

 

InJune 2007, the Emerging Issues Task Force issued EITF Issue 07-03, *Accounting for Advance Payments for Goods or Services to Be Used inFuture Research and Development*, or EITF 07-03. EITF 07-03 addressesthe diversity which exists with respect to the accounting for thenon-refundable portion of a payment made by a research and development entityfor future research and development activities. Under EITF 07-03, an entitywould defer and capitalize non-refundable advance payments made for researchand development activities until the related goods are delivered or the relatedservices are performed. EITF 07-03 is effective for fiscal years beginningafter December 15, 2007 and interim periods within those years. We do notexpect the adoption of EITF 07-03 to have a material impact on our financialposition or results of operations.

 

**Inflation**

 

We believe the effects of inflation generally do nothave a material adverse impact on our operations or financial condition.

 

**Off-Balance Sheet Arrangements**

 

We do not have any material off-balance sheetarrangements.

 

**Forward-Looking Statements**

 

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 facts, 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

 

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forward-lookingstatements. There are a number of important factors that could cause actualresults or events to differ materially from those disclosed in theforward-looking statements we make. These important factors include the riskfactors set forth below under Part II, Item 1A., “Risk Factors.” Although wemay elect to update forward-looking statements in the future, wespecifically disclaim any obligation to do so, even if our estimates change,except as specifically required by law or the rules of the SEC, andreaders should not rely on those forward-looking statements as representing ourviews as of any date subsequent to the date of this quarterly report.

 

**Item 3.****           Quantitativeand 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 maturities of two years or less. In addition, wehold auction rate securities that reset monthly. However, the maturities of theauction rate securities at September 30, 2007 range from 2007 to 2045. Our cashis deposited in and invested through highly rated financial institutions inNorth America. Our marketable securities are subject to interest rate risk andwill fall in value if market interest rates increase. If market interest rateswere to increase immediately and uniformly by 10% from levels atSeptember 30, 2007, we estimate that the fair value of our investmentportfolio would decline by an immaterial amount. We have the ability to holdour fixed income investments until maturity, and therefore we do not expect ouroperating results or cash flows to be affected to any significant degree by theeffect of a change in market interest rates on our investments.

 

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

 

Our management,with the participation of our chief executive officer and chief financialofficer, evaluated the effectiveness of our disclosure controls and proceduresas of September 30, 2007. The term “disclosure controls and procedures,”as defined in Rules 13a-15(e) and 15d-15(e) under the ExchangeAct, means controls and other procedures of a company that are designed toensure that information required to be disclosed by a company in the reportsthat it files or submits under the Exchange Act is recorded, processed,summarized and reported, within the time periods specified in the SEC’srules and forms. Disclosure controls and procedures include, withoutlimitation, 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 30,2007, our chief executive officer and chief financial officer concluded that,as of such date, our disclosure controls and procedures were effective at thereasonable 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, 2007, 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 Form 10-Q, in evaluatingNitroMed and our business. If any of the following risks occur, our business,financial condition and operating results could be materially adverselyaffected.

 

Thefollowing risk factors restate and supersede the risk factors previouslydisclosed in Item 1A. of our Annual Report on Form 10-K for the year endedDecember 31, 2006.

 

**Risks Relating toour Business**

 

**Our business issubstantially dependent on the commercial success of BiDil and our productcandidate, BiDil XR, and if we do not successfully commercialize BiDil andmaintain market presence of BiDil during the planned development of BiDil XR,our business will be materially harmed and our stock price will decline.**

 

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On June 23, 2005, the FDA approved BiDil for thetreatment of heart failure in self-identified black patients as an adjunct tocurrent standard therapy. We launched BiDil in July 2005 and thereforehave only recently begun to receive revenue from sales of BiDil. BiDil iscurrently our only commercial product, and we expect that it will account forall of our product sales and substantially all of our total revenues for thenear future. We face a number of significant risks relating to our ability tosuccessfully commercialize BiDil, including risks relating to:

 

•       our ability to successfully market and sell BiDilwith our small sales force and centralized marketing efforts;

 

•       the success of our revised sales and marketingstrategies for BiDil;

 

•       our ability to recruit and train our sales forceand the effectiveness of our sales force in influencing prescribing behaviorwith heart failure specialists and key institutions;

 

•       our ability to successfully secure preferablereimbursement treatment from government and third-party insurers for BiDil;

 

•       our ability to successfully enter into aco-promotion agreement for BiDil on favorable terms, if at all;

 

•       our ability to gain market acceptance of BiDilas safe, effective and medically necessary;

 

•       the availability of substantial amounts of cashto fund our BiDil commercialization plans;

 

•       competitive factors, including competitionresulting from physicians prescribing the two lower cost generically availablecomponents of BiDil (isosorbide dinitrate and hydralazine hydrochloride) as asubstitute for BiDil, and adverse effects on pricing or reimbursement resultingfrom this substitution;

 

•       our ability to effectively develop and/orcontract for adequate marketing, manufacturing, and distribution capabilities;

 

•       our ability to maintain the necessary patentprotection, licenses and regulatory approvals required to market and sellBiDil; and

 

•       the various other factors discussed in detailthroughout this section titled “Risk Factors.”

 

We are also seeking to develop a once-a-day extendedrelease formulation of BiDil, referred to as BiDil XR. If we do not maintain amarket presence for BiDil in the near term, we will not be able to successfullycommercialize BiDil or build a sufficient commercial foundation from which tolaunch BiDil XR and, as a result, our near-term ability to generate productrevenue, our reputation and our ability to raise additional capital will bematerially impaired, and the value of our stock will decline.

 

**We will requiresubstantial additional amounts of cash to fund our operating plan, includingcommercializing BiDil and seeking to develop and commercialize BiDil XR, and,if additional capital is not available, we may need to limit, scale backor cease our operations.**

** **

We have used and will continue to require substantialfunds to manufacture, market and sell BiDil during 2007 and beyond. We alsoexpect to incur additional expenses relating to the ongoing development ofBiDil XR, which commenced clinical development during October 2006. We believethat our existing cash, cash equivalents and marketable securities, as well ascash expected to be generated from sales of BiDil, will be sufficient to fundthe current business plan for at least the next twelve months.

 

However, our future capital requirements, and theperiod in which we expect our current cash to support our operations,may vary from what we expect due to a number of factors, including thefollowing:

 

•       the magnitude of product sales of BiDil;

 

•       the successful commercialization of BiDil;

 

•       the cost of manufacturing, marketing and sellingBiDil;

 

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•       the timing of when we receive significantrevenue from BiDil, if at all;

 

•       the time and costs involved in completing theclinical trials and further development of, and obtaining regulatory approvalsfor, BiDil XR, if at all;

 

•       our ability to establish and maintainco-promotion, out-licensing and collaborative arrangements;

 

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

 

•       the effect of competing technological and marketdevelopments;

 

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

 

•       the cost of obtaining and maintaining licensesto use patented technologies.

 

We will require substantial additional funding in thefuture and may seek such funding through collaborative co-promotionarrangements and/or public or private financings. Additional financingmay not be available to us on acceptable terms, if at all. In addition,the terms of any financing may adversely affect the holdings or the rightsof our stockholders. For example, if we raise additional funds by issuingequity securities, further dilution to our then-existing stockholders willresult. If we are unable to obtain funding on a timely basis, we may becompelled to significantly curtail our sales and marketing efforts for BiDiland/or our development efforts with respect to BiDil XR. We may also becompelled to seek funds through arrangements with collaborators or others thatmay require us to relinquish rights to some of our technologies, productcandidates or products. We could also be required to limit, scale back or ceaseour operations, any of which would have a material and adverse effect on ourbusiness, financial condition and results of operations.

 

**Poor performanceby our sales force, or difficulties arising from the restructuring andexpansion of our sales organization, could prevent us from achieving theresults we need to maintain market presence of BiDil.**

** **

In October 2006, we initiated a restructuring programthat included a reduction of our sales force and administrative headcount. Aspart of the restructuring program, we eliminated our existing sales force andreplaced it with a small team of senior cardiovascular business managersfocused on hospitals and key opinion leaders, resulting in a net reduction ofapproximately 120 in sales force headcount. In addition, we also eliminatedapproximately 20% of our general and administrative personnel in connectionwith this restructuring program. In August 2007, we began to deploy an expandedfield organization designed to double our sales force in specific geographicareas with a focus on selected prescriber targets. Our current salesorganization is managed by our senior vice president of commercial operationsand is comprised of approximately 60 people. Our near-term revenue for BiDilwill depend significantly upon the efforts and success of our restructured andexpanded sales organization. If our expanded sales organization does notgenerate additional prescriptions, our ability to generate product revenue willbe harmed and the value of our stock will decline.

 

During the first quarter of 2006, we elected to reducethe number of sales territories in which we have sales representation. As aresult of our October 2006 restructuring, we significantly reduced thenumber of individuals in our sales organization who cover these territories.Even as we expand our sales force in certain geographic areas, any failure toadequately cover our current sales territories, or to cover through alternativemarketing efforts the territories in which we have elected not to have salesrepresentation, will result in reduced sales force productivity and lossof revenue related to BiDil.

 

The success of our revised selling strategy will alsodepend on our ability to recruit the caliber of representatives necessary toimplement our new strategy. Since launching BiDil, we have dramatically reducedour sales force representation through various territory realignments andrestructurings, which could significantly limit our ability to successfullyrecruit and retain highly qualified sales personnel. In addition, we areseeking sales representatives with a very high level of technical, selling andinstitutional experience to fill our cardiovascular business manager andcardiovascular specialist positions. These are highly specialized skills and wemay not be able to hire sales personnel who meet these qualifications. Anydelay in our ability to recruit the required number of individuals to cover ourrevised sales territories, or any failure to attract and retain qualifiedpersonnel, could significantly delay or hinder the success of our revisedselling strategy.

 

**If we do notsuccessfully market and sell BiDil, either directly through our small,restructured sales force or indirectly through third-party co-promotionarrangements, our future revenue will be limited.**

 

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We launched BiDil in the United States ourselves,using a contract sales force. We transitioned to the use of a smaller salesforce during the first quarter of 2006, we internalized this sales force duringthe second quarter of 2006, and in October 2006 we replaced this salesforce with a small team of senior cardiovascular business managers. In August2007, we began to deploy an expanded field organization designed to double oursales force in specific geographic areas. The transition to and expansion ofthis specialized sales force could prove ineffective in increasing the sales ofBiDil, which would adversely affect our financial position and depress thevalue of our stock.

 

The direct marketing efforts in which we will continueto engage through our expanded, specialized sales team will be focused onnational thought leaders, regional heart failure specialists and keyinstitutions that treat, and influence the treatment of, large numbers ofAfrican Americans who have been diagnosed with heart failure. Our approach isto educate those thought leaders and institutions on the value of BiDil, andthen leverage their influence to impact the broader base of prescribers. If weare unable to convince these thought leaders and institutions that BiDil issafe, effective and medically necessary, we will be unsuccessful in ourmarketing approach. In addition, even if we are successful in gainingacceptance of BiDil with these key targets, these thought leaders andinstitutions may not be willing or able to influence the prescribing activityof other physicians, or to do so within a timeframe that will impact BiDilprescriptions in the near term. Furthermore, our indirect marketing efforts maynot be successful in maintaining market awareness of BiDil with current andpotential prescribers.

 

If we decide to further expand our marketing reach forBiDil, we will likely pursue sales, marketing and distribution arrangementswith third parties, including co-promotion arrangements. We may not beable to successfully enter into sales, marketing and/or distribution agreementswith third parties on terms that are favorable to us, if at all. In addition,we may have limited or no control over the sales, marketing anddistribution activities of these third parties. If we decide to rely onthird-party entities for sales, marketing and distribution support, our futurerevenues for BiDil will depend heavily on the success of the efforts of thesethird parties.

 

**If the governmentor third-party payors do not reimburse patients for BiDil, or do not reimbursefor BiDil at favorable levels, BiDil might not be used or purchased, and ourrevenues and profits will be adversely affected.**

 

Our revenues and profits depend heavily upon theavailability of coverage and favorable reimbursement for the use of BiDil fromthird-party healthcare and state and federal government payors. Reimbursementby a third party payor may depend upon a number of factors, including thethird-party payor’s determination that use of a product is:

 

•       safe, effective and medically necessary;

 

•       appropriate for the specific patient;

 

•       cost-effective; and

 

•       neither experimental nor investigational.

 

Since reimbursement approval for a product is requiredfrom third-party and government payors in order for patients to be reimbursedfor the cost of a product, seeking this approval, particularly when seekingapproval for a preferred form of reimbursement over other competitiveproducts, is a time-consuming and costly process. Third-party payors conductclinical reviews of pharmaceutical products to determine whether a product issafe, effective and medically necessary. These third-party payors may find thatBiDil is not sufficiently effective to justify reimbursement approval or thatthe effectiveness of BiDil does not justify its cost. In addition, third-partypayors may require cost-benefit analysis data from us in order todemonstrate the cost-effectiveness of BiDil. For any individual third-partypayor, we may not be able to provide data sufficient to gain reimbursementon a similar or preferred basis to competitive products, if at all. Furthermore,some third-party payors may consider the generically available individualcomponents of BiDil to be substitutable for, or therapeutically equivalent to,BiDil, despite the lack of FDA approval for the use of those individualcomponents in the treatment of heart failure. To the extent that third-partypayors consider the generically equivalent individual components of BiDil to besubstitutable for, or therapeutically equivalent to, BiDil, we may be limitedin our ability or unable to obtain preferential reimbursement from thosethird-party payors.

 

Even after reimbursement at an agreed level isapproved by a third-party payor, we may lose that reimbursement entirely,or we may lose the similar or better reimbursement we receive compared tocompetitive products. As reimbursement is often approved for a period of time,this risk is greater at the end of the time period, if any, for which thereimbursement was approved. In addition, legislative or regulatory efforts tocontrol or reduce healthcare costs or reform government

 

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healthcare programs could result in lower prices orrejection of BiDil. Changes in coverage and reimbursement policies orhealthcare cost containment initiatives that limit or restrict reimbursementfor BiDil may cause our revenues to decline. Any failure by us to obtainreimbursement for BiDil, or to secure a preferred form of reimbursementthat reduces costs to patients, may negatively impact market acceptance ofBiDil and adversely affect our ability to generate revenues from sales.

 

A number of private insurers and Medicare Part Dplans that cover BiDil cover the product at the Tier III level. Tier level is aterm generally used to denote the level of reimbursement and, consequently, thelevel of patient co-pay, for a product that is approved by a third-party payor.At Tier III, patient co-pays are at a significantly higher level than theywould be at Tier II, ranging from approximately $30.00 to $50.00 perprescription. Tier II reimbursement denotes a preferential level ofreimbursement at which patient co-pays range from approximately $15.00 to$30.00 per prescription. We may not be able to obtain reimbursementcoverage for BiDil from many private insurers or Medicare Part D plans or,even if we obtain such coverage, we may not be able to obtain preferentialreimbursement treatment. Any failure by us to secure such coverage, or tosecure it at preferential levels, would have a substantially negative effect onsales of BiDil, market acceptance of BiDil would be negatively impacted and ourability to generate revenues from sales would be significantly impaired.Although we have been added to preferred formularies covering a substantialmajority of insured African Americans over the age of 45, we have not achievedpreferential reimbursement on all plans. Furthermore, we cannot know if BiDilwill continue to be listed on any of these plans at a preferentialreimbursement level, if at all. In addition, although preferentialreimbursement for BiDil removes a financial barrier to accessing the product,it does not require or guarantee that physicians will prescribe the drug.Accordingly, we cannot assess the impact that the current listing of BiDil onany given plan will have on our future revenues, if any.

 

**Physicians,third-party payors and patients may not be receptive to BiDil, which couldprevent us from achieving profitability.**

 

Our business is substantially dependent on marketacceptance of BiDil. We currently market BiDil only in the United States, andkey participants in the U.S. pharmaceutical marketplace, such as physicians,third-party payors and patients, may not accept and use BiDil.

 

Factors that we believe will materially affect marketacceptance of BiDil include:

 

•       the availability of favorable government andthird-party payor reimbursement;

 

•       the ability to produce and sell BiDil at acompetitive price;

 

•       the availability in generic form of theindividual components that constitute BiDil and the perception that thesegeneric components are equivalent to BiDil;

 

•       the failure of physicians, third-party payorsand patients to accept a product intended to improve therapeutic results basedon ethnicity;

 

•       the success of our promotional programs, whichwill be centralized in nature going forward;

 

•       the timing of our receipt of marketing approval,if any, for our next-generation BiDil product under development, BiDil XR, orfor any expansion of our current label for BiDil, such as extended productdating or inclusion of new data;

 

•       the safety, efficacy and ease of administrationof BiDil; and

 

•       the timing of our receipt of any marketingapprovals outside the U.S., the terms of any non-U.S. approval, includinglabeling requirements and/or limitations, and the countries in which approvalsare obtained, if any.

 

**The availabilityof lower priced generic forms of the components of BiDil may adverselyaffect our sales of BiDil and the pricing or reimbursement we are able toobtain for BiDil.**

** **

BiDil is a fixed-dosed combination of two individualcomponents, both of which are available in generic form and are separatelymarketed (isosorbide dinitrate for angina and hydralazine hydrochloride forhypertension) at prices substantially below the prices we are charging forBiDil. Moreover, isosorbide dinitrate is available in the dosage that weinclude in BiDil. While neither of these two generic drugs is approved for thetreatment of heart failure, it is impracticable for

 

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us to prevent physicians from prescribing acombination of these two, lower cost generic drugs as a substitute forprescribing BiDil. We believe that a number of physicians have prescribed thecombination of these generic drugs, rather than BiDil. If these and otherphysicians continue to prescribe the combination of these two generic drugs,rather than BiDil, our ability to generate revenue from the sales of BiDilcould be limited. Our ability to generate revenue could also be limited if:

 

•       potential large purchasers of BiDil, such as hospitalsor health maintenance organizations, require substitution of these genericdrugs for BiDil;

 

•       state formularies, other government agencies orprivate payors that approve reimbursement for drugs require substitution ofthese generic drugs for BiDil; or

 

•       the availability of these generic drugs reducesthe price or reimbursement amounts we are able to achieve for BiDil.

 

**We do nothave the internal technology to successfully develop BiDil XR and our successwill depend on our ability to co-develop such technology with a collaborativepartner.**

** **

Although we intend to pursue the development of BiDilXR as expeditiously as possible, we do not currently have the internaltechnology to pursue this development on our own. The technology underlyingextended release formulations of pharmaceutical products is highly proprietaryand would take years and the expenditure of significant amounts of capital forus to develop. We have entered into a license agreement with Elan, pursuant towhich we have licensed proprietary extended release technology which we believeis compatible for use with BiDil. We have done extensive preclinicaldevelopment with Elan, but we cannot be sure that our development efforts willresult in a successful extended release formulation of BiDil.

 

**We cannot becertain that clinical testing of BiDil XR will be successful, nor can we becertain that we will be able to obtain regulatory approval for BiDil XR.**

** **

In order to obtain regulatory approvals for thecommercial sale of BiDil XR, we will be required to complete clinical studiesand clinical trials in humans to demonstrate the safety and efficacy of BiDilXR. We may not be able to obtain the authority from the FDA to commence orcomplete these clinical trials. Clinical testing may not prove that BiDil XR issafe and effective to the extent necessary to permit us to obtain marketingapproval. Moreover, positive results demonstrated in preclinical studies andclinical trials that we complete may not be indicative of results obtained infuture clinical trials. Assuming we successfully complete the required clinicaltesting, we will be required to submit a new drug application, or NDA, to theFDA. FDA approval of the NDA is required before marketing BiDil XR may begin inthe United States. The FDA will undertake an extensive and lengthy review ofthe NDA. We can not provide any assurance that BiDil XR will be approved, evenif the FDA accepts our NDA submission.

 

We cannot predict whether the results of any clinicalstudies conducted with respect to BiDil XR will be successful. Furthermore, wecannot predict the number or the type of clinical trials that will be necessaryto adequately support regulatory approval for BiDil XR, nor can we predict theamount of time that will be required in order to complete those clinicaltrials. For example, depending on the results of initial clinical studies,additional testing with alternate formulations of BiDil XR may also berequired. The fact that BiDil is a combination of two active ingredients(isosorbide dinitrate and hydralazine hydrochloride) may further complicate thedevelopment of the extended release formulation. We could also experiencedelays or failures in clinical trials for a number of other reasons. Forexample:

 

•       the results from early clinical trials may notbe statistically significant or predictive of results that will be obtainedfrom expanded, advanced clinical trials;

 

•       we may encounter difficulties or delays inmanufacturing sufficient quantities of BiDil XR used in any clinical trials;

 

•       the timing and completion of clinical trials ofBiDil XR depend on, among other factors, the number of patients we will berequired to enroll in the clinical trials and the rate at which those patientsare enrolled and any increase in the required number of patients, decrease inrecruitment rates or difficulties retaining study participants may result inincreased costs, program delays or program termination;

 

•       BiDil XR may prove to have undesirable orunintended side effects, toxicities or other characteristics that may preventor limit its commercial use;

 

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•       we, along with our collaborators andsubcontractors, may not employ, in any capacity, persons who have been debarredfrom performing or assisting in such services. Employment of such a debarredperson (even if inadvertently) may result in delays in FDA’s review or approvalof our products, or the rejection of data developed with the involvement ofsuch person(s); and

 

•       institutional review boards or regulators,including the FDA, or our collaborators may hold, suspend or terminate ourclinical research or the clinical trials of BiDil XR for various reasons,including failure to achieve established success criteria, noncompliance withregulatory requirements or if, in their opinion, the participating subjects arebeing exposed to unacceptable health risks.

 

Additionally, the FDA may conclude that the dataprovided from our studies of BiDil XR is insufficient and may require that weperform additional large-scale outcomes studies. We currently do not intend topursue the clinical development of BiDil XR if the FDA requires us toconduct large-scale outcome studies as a condition to obtaining FDA approval.Moreover, if we experience delays in obtaining FDA approval, we may determineto not devote the substantial additional resources necessary to pursue theclinical development of BiDil XR. Even if our clinical testing of BiDil XR issuccessful, we still may not be able to obtain regulatory approval of BiDil XRif the FDA concludes that the data does not support such request for approval.If we do not successfully develop and commercialize this product, then ourability to generate revenue from BiDil XR will be materially impaired and ourstock price may decline.

 

**The developmentand future commercialization of BiDil XR may be terminated or delayed, andthe cost of development and future commercialization may increase, ifthird parties on whom we rely to manufacture BiDil XR do not fulfill theirobligations.**

** **

We do not have manufacturing capabilities for BiDil XRand have no current plans to develop any such capacity in the future. In orderto continue to develop BiDil XR, apply for regulatory approvals andcommercialize this product, we plan to rely on our collaborative licensor,Elan, for the production of clinical and commercial quantities of BiDil XR.Although we are in the process of negotiating a manufacturing and supplyagreement with Elan, we may not be able to finalize an agreement oncommercially favorable terms, if at all. In addition, contract manufacturersare subject 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 through contract,we do not have control over compliance by our contract manufacturers with theseregulations and standards. Our present or future contract manufacturersmay not be able to comply with cGMP and other FDA requirements or similarregulatory requirements outside the United States. Any failure by our contractmanufacturers or us to comply with applicable regulations could result insanctions being imposed on us, including fines, injunctions, civil penalties,failure of regulatory authorities to grant marketing approval of our productcandidate, delays, suspension or withdrawal of approvals, seizures or recallsof such product candidate, operating restrictions, and criminal prosecutions,any of which could significantly and adversely affect our business. We willdepend upon these third parties to perform their obligations in a timelymanner and in accordance with applicable laws and regulations, including thoserelated to quality control and quality assurance. To 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 continueclinical trials of BiDil XR;

 

•       we may be delayed in submittingapplications for regulatory approvals for BiDil XR; and

 

•       even if we successfully commercialize BiDil XR,we may be required to cease distribution and/or recall some or all batchesof the product and we may not be able to meet commercial demands for ourproducts or achieve profitability.

 

**Currently, we areengaging in limited internal research and development activities and,accordingly, our ability to generate future revenue from our nitric oxidetechnology portfolio is completely dependent on our ability to enter intoscientifically and commercially successful out-licensing or collaborativearrangements with third parties.**

** **

At the end of the first quarter of 2006, we scaledback our research and development staff in a restructuring of our company andhave limited our internal research and development activities to the continueddevelopment of BiDil XR. We are currently seeking out-licensing andcollaboration opportunities for our other potential product candidates based onour proprietary nitric oxide technology, including NMI-3377, a pre-clinicalcardio-renal compound. The application of our

 

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proprietary nitric oxide technology is unproven inhumans and, as a result, we may not be able to successfully out-licenseany products based on this technology. Our product candidates include nitricoxide enhancements of existing drugs; in these cases, we are modifyingcompounds whose chemical and pharmacological profiles are well-documented andunderstood. Many of our potential product candidates, however, are newmolecules with chemical and pharmacological profiles that differ from that ofthe existing drugs. These compounds may not demonstrate in patients thechemical and pharmacological properties shown in laboratory studies, and theymay interact with human biological systems in unforeseen, ineffective orharmful ways. In addition, it is possible that existing drugs ornewly-discovered drugs may not benefit from the application of our nitricoxide technology. We may not be able to secure out-licensing orcollaboration partners for these potential product candidates. Even if we aresuccessful in entering into out-licensing or collaborative arrangements withrespect to our potential product candidates, we have no assurance that we willbe able to secure such arrangements on terms completely favorable to us. If ourout-licensing or collaboration arrangements include unfavorable financialterms, our ability to generate revenue from our technology portfolio will beseverely limited.

 

Additional factors that may affect the success ofour potential future collaborations include the following:

 

•       our future licensing partners or collaboratorsmay be pursuing alternative technologies or developing alternative productcandidates, either on their own or in collaboration with others, thatmay be competitive with the product candidate which they have licensedfrom us or will be collaborating with us and which could affect theircommitment to our future collaboration;

 

•       future reductions in marketing or sales effortsor a discontinuation of marketing or sales of our products by our licensingpartners or collaborators would reduce our revenues, which could be based on apercentage of net sales by the partner or collaborator;

 

•       our future licensing partners or collaboratorsmay terminate their agreements with us, which could make it difficult forus to attract new partners or collaborators or adversely affect how we areperceived in the business and financial communities; and

 

•       our future licensing partners or collaboratorsmay pursue higher-priority programs or change the focus of theirdevelopment programs, which could affect a partner’s or collaborator’scommitment to us.

 

As a result of the foregoing factors, our potentialstrategic partners or collaborators may not be successful in developingand commercializing any products based on our proprietary nitric oxidetechnology. Any failure of such potential partners or collaborators at anystage of the development or commercialization process with respect to ourpotential product candidates would significantly reduce the possibility that wewould realize any future revenue from our technology portfolio.

 

**Because we have ahistory of losses and our future profitability is uncertain, an investment inour common stock is highly speculative.**

** **

We have experienced significant operating losses sinceour inception in 1992. For the quarter ended September 30, 2007, we had anet loss of $8.4 million. As of September 30, 2007, we had anaccumulated deficit of $338.5 million. We expect that we will continue toincur substantial losses and that our cumulative losses will increase as ourcommercialization efforts continue. We expect that the losses that we incurwill fluctuate from quarter to quarter and that these fluctuations may besubstantial.

 

A large portion of our expenses is fixed, includingexpenses related to facilities, equipment and personnel. We have spentsignificant amounts to launch our first product, BiDil, and we expect to incursignificant operating expenses in connection with our ongoing commercializationactivities related to BiDil. We received approval for BiDil from the FDA onJune 23, 2005, and launched commercial sales of BiDil in July 2005.We have also spent significant amounts to fund research, development andcommercialization of our product candidates and to enhance our coretechnologies. Currently, our research and development activities are limited tothe continued development of BiDil XR. We are not engaging in any internalresearch and development activities with respect to other potential productcandidates and, therefore, do not expect to incur substantial research anddevelopment expenses in the near term. Although we currently estimate that ouroperating expenses will decrease in fiscal year 2007, we will still need togenerate significant revenue to achieve profitability. We are currently unableto estimate the level of revenues that we will realize from thecommercialization of BiDil. We are therefore unable to estimate when we willachieve profitability, if at all. Even if we do achieve profitability, wemay not be able to sustain or increase profitability on a quarterly orannual basis. Our failure to become and remain profitable could depress the marketprice of our common stock and could impair our ability to raise capital orcontinue our operations.

 

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Our BiDil product revenues have been and will continueto be subject to considerable variation due to the significant reduction in ourdirect sales force, volatility in prescription volume, the manner in which weaccount for product sales considering product returns rates, level of discountsincurred, the level of purchases by individual customers and other mattersrelated to the commercialization of this product. We have experienced and arelikely to continue to experience significant revenue deferrals and productreturns, as well as additional charges and expenses associated with stockingincentives, rebates, discounts, and other promotional incentives, and othermatters related to the commercialization of this product. Significant inventoryadjustments may also occur due to sales forecast variances or otherfactors. Any deferrals, returns or adjustments that negatively impact revenue,or our failure, for this or any other reason, to generate significant near-termrevenue growth, would reduce our stock price and adversely affect our abilityto raise capital.

 

**If the third-partymanufacturer of BiDil encounters delays or difficulties in production, wemay not be able to meet demand for the product and we may losepotential revenue, which could cause the price of our common stock to decline.**

** **

We do not manufacture BiDil and have no plans to doso. We engaged Schwarz Pharma under a five-year exclusive manufacturing andsupply agreement solely for the three times daily immediate release dosageformulation of BiDil. Under the supply agreement, we have the right to engage abackup manufacturer but do not currently have any backup manufacturingagreement in place. The terms of the supply agreement provide that itmay be terminated by either us or Schwarz Pharma under specifiedcircumstances, including a material breach of the supply agreement by either party,the occurrence of a payment default by us, our material impairment of themanufacturing licenses we have granted to Schwarz Pharma or a failure ofSchwarz Pharma to supply conforming products. In addition, either partymay terminate the supply agreement in the event the FDA takes any action,the result of which is to permanently prohibit the manufacture, sale or use ofthe product.

 

Furthermore, Schwarz Pharma may encounterdifficulties in production. These problems may include, but are notlimited to:

 

•       difficulties with production costs and yields;

 

•       quality control and assurance;

 

•       difficulties obtaining ingredients for ourproducts;

 

•       shortages of qualified personnel;

 

•       compliance with strictly enforced federal, stateand foreign regulations; and

 

•       lack of capital funding.

 

If we are unable to maintain a commercially reasonablemanufacturing agreement for the production of BiDil with Schwarz Pharma, wehave no back-up manufacturing facility and thus we would not be able tomanufacture and sell BiDil until another facility was qualified. The number ofthird-party manufacturers with the manufacturing and regulatory expertise andfacilities necessary to manufacture finished products for us on a commercialscale is limited, and it would take a significant amount of time to arrange,qualify, and receive necessary regulatory approval for alternativearrangements. We may not be able to contract for alternative manufacturingon acceptable terms, if at all.

 

If we are unable to successfully contract for third-partymanufacturing, or if Schwarz Pharma or any other third-party manufacturer ofBiDil fails to deliver the required commercial quantities of finished producton a timely basis and at commercially reasonable prices, we may be unableto meet the demand for our product and we may lose potential revenues, allof which could cause the price of our common stock to decline.

 

**We rely on asingle source supplier for one of the two active ingredients in BiDil, and theloss of this supplier could prevent us from selling BiDil, which wouldmaterially harm our business.**

** **

We rely on Sumitomo Corp. for our supply ofhydralazine hydrochloride, one of the two active ingredients in BiDil. To thebest of our knowledge, Sumitomo is currently the only supplier of hydralazine hydrochlorideworldwide. We do not have any agreement with Sumitomo regarding the supply ofhydralazine hydrochloride. If Sumitomo stops manufacturing or is unable tomanufacture hydralazine hydrochloride, or if we are unable to procurehydralazine hydrochloride from Sumitomo

 

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on commercially favorable terms, we may be unableto continue to sell BiDil on commercially viable terms, if at all. Furthermore,because Sumitomo is currently the sole supplier of hydralazine hydrochloride,Sumitomo has unilateral control over the price of hydralazine hydrochloride.Any increase in the price for hydralazine hydrochloride may reduce ourgross margins and adversely affect our ability to achieve profitability.

 

**If our plannedcollaborative partners do not obtain and maintain the regulatory approvalsrequired to market and sell our potential nitric-oxide based product candidatesin the United States, then our business may be unsuccessful, and the marketprice of our stock may substantially decline.**

** **

We are currently seeking out-licensing andcollaboration opportunities for our potential product candidates based on ourproprietary nitric oxide technology, including NMI-3377, a pre-clinicalcardio-renal compound. Our partners will not be able to market any of ourpotential nitric-oxide based product candidates in the United States withoutmarketing approval from the FDA. The process of obtaining FDA approval ofpharmaceutical products is costly, complex and time consuming. Any newpharmaceutical product must undergo rigorous pre-clinical and clinical testingand an extensive regulatory approval process mandated by the FDA. Suchregulatory review includes the determination of manufacturing capability andproduct performance. The drug approval process is affected by such factors as:

 

•       the severity of the disease;

 

•       the quality of the regulatory submission;

 

•       the drug’s clinical efficacy and safety;

 

•       the strength of the chemistry and manufacturingcontrol of the process;

 

•       the manufacturing facility’s compliance withcGMP requirements and other applicable regulatory requirements;

 

•       the availability of alternative treatments;

 

•       the risks and benefits demonstrated in clinicaltrials; and

 

•       the patent status and marketing exclusivityrights of certain innovative products.

 

The regulatory process to obtain market approval for anew drug takes many years and requires substantial expenditures. There can beno assurance that our strategic partners will be successful in obtaining FDAapproval for our potential nitric-oxide based product candidates. If ourstrategic partners do not receive the required regulatory approval or clearanceto market any of our potential product candidates, these partners will not beable to develop and commercialize these product candidates, which willsignificantly impair our ability to realize revenue from these productcandidates and which will likely affect our ability to achieveprofitability and cause the market price of our common stock to substantiallydecline.

 

**We or ourpotential strategic collaborators may not be able to obtain the necessaryregulatory approvals in order to market and sell BiDil, or our productcandidates, such as BiDil XR, in foreign countries.**

** **

Our marketing approval for BiDil is limited to theUnited States. Until we or our potential strategic collaborators obtain therequired regulatory approvals for BiDil or any potential product candidates inany specific foreign country, neither we nor our collaborators will be able tosell these products in that country. International regulatory authorities haveimposed numerous and varying regulatory requirements, and the approvalprocedures could involve testing in addition to that required by the FDA.Furthermore, approval by one regulatory authority does not ensure approval byany other regulatory authority. In addition, if we enter into collaborativepartnerships in order to obtain foreign regulatory approval for BiDil or any ofour product candidates, such as BiDil XR, we may be dependent upon thesecollaborators to conduct clinical or other testing and to obtain suchregulatory approvals. We or our collaborators may not be able to obtainfinal regulatory approvals for BiDil or for any of our other potential productcandidates in foreign countries. Any failure to obtain the necessarygovernmental approvals or failure to obtain approvals of the scope requestedcould delay, or even preclude, us or our licensees or other collaboratorsfrom marketing BiDil or our product candidates, or limit the commercial use ofBiDil or our product candidates in these foreign jurisdictions. Alternatively,foreign regulatory approvals may entail limitations on the indicated usesof BiDil or our product candidates and impose labeling requirements which may alsoadversely impact our ability to market BiDil or our product candidates. We arepreparing a Marketing Authorization Application for BiDil for submission to the

 

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European Medicines Agency. We cannot be certain whenwe will file this submission and, once filed, whether the submission will besuccessful.

 

**Even if we or ourplanned strategic partners obtain regulatory approvals, our marketed products,including BiDil, will be subject to ongoing regulatory review and oversight. Ifwe, or our planned strategic partners, fail to comply with continuing UnitedStates and foreign regulations, we could lose our approvals to market BiDil,our strategic partners could lose approvals to market our out-licensed productsbased on our proprietary nitric oxide technology, and our business would beseriously harmed.**

** **

Even after approval, any products we or our potentialstrategic partners develop will be subject to ongoing regulatory review andrestrictions, including the review of clinical results which are reported aftersuch products are made commercially available, and restrictions on theindications for which we or our potential strategic partners can market theproduct. The FDA can propose to withdraw approval if new clinical data orexperience shows that a product is not safe for use under the approvedconditions of use. The FDA, we or our potential strategic partnersmay need to send important information about such products to healthcareproviders. The marketing claims we or our potential strategic partners arepermitted to make in labeling or advertising regarding our marketed productsare limited to those specified in any FDA approval.

 

For example, because BiDil is specifically approvedfor use by self-identified black patients, we may not promote BiDil foruse in other patient populations. We must submit copies of our advertisementsand promotional labeling for BiDil, including, for example, professionaljournal advertisements, website pages, professional direct mailers,direct-to-consumer advertisements, convention booth panels and handouts, to theFDA at the time of initial publication or dissemination. If the FDA believesthese materials or statements made by our sales representatives or othercompany officials promote our products for unapproved indications or otherwisefail to comply with the FDA’s promotional labeling or advertising regulations,the FDA could allege that our promotional activities misbrand our products orcause our products to violate new drug approval requirements. Based on suchallegations, the FDA could issue an untitled letter or warning letter, whichrequests, among other things, that we cease such promotional activities,including disseminating the advertisements and promotional labeling, and thatwe issue corrective advertisements and labeling, including sending letters tohealthcare providers. The FDA also could take enforcement action includingseizure of allegedly violative product, or could seek an injunction or criminalprosecution against us and our officers or employees. If we repeatedly ordeliberately fail to submit such advertisements and labeling to the agency, theFDA could withdraw our approvals. The FDA also monitors manufacturers’ supportof continuing medical education, or CME, programs where the programs involvethe manufacturers’ or a competitor’s products to ensure that manufacturers donot influence the CME content as a means of promoting their products foroff-label uses. 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 off-label marketing of BiDil could subject us tocivil or criminal prosecution, for which the government could seek to recoversubstantial monetary penalties, the imposition of restrictions on our marketingactivities, and the exclusion of BiDil from eligibility for governmentreimbursement programs.

 

In addition, the manufacturer and the manufacturingfacilities we use to produce BiDil, or that our potential strategic partnersmay use to produce product candidates based on our nitric oxidetechnology, are subject to periodic review and inspection by the FDA. We or ourpotential strategic partners are required to report any serious and unexpectedadverse experiences and certain quality problems with BiDil or the respectiveproduct candidate and make other periodic reports to the FDA. The discovery ofany previously unknown problems with a product, manufacturer or facilitymay result in restrictions on the product, manufacturer or manufacturingfacility, including withdrawal of the product from the market. Certain changesto an approved product, including the way it is manufactured or promoted, oftenrequire prior FDA approval before the product as modified may be marketed.If we or our potential strategic partners fail to comply with applicablecontinuing regulatory requirements, we or our potential strategic partners may besubject to fines, untitled letters, warning letters, civil penalties,suspension or withdrawal of regulatory approvals, product recalls and seizures,injunctions, operating restrictions and/or criminal prosecutions and penalties.

 

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**If we, ourthird-party manufacturers or our service providers fail to comply withapplicable laws and regulations, we or they could be subject to enforcementactions, which could affect our ability to develop, market and sell BiDil, orany potential product candidates, and harm our reputation.**

** **

If we or our third-party manufacturers or serviceproviders fail to comply with applicable federal, state or foreign laws orregulations, we or they could be subject to enforcement actions which couldaffect our ability to develop, market and sell BiDil, or any potential productcandidates, successfully and could harm our reputation and lead to loweracceptance of BiDil, or any potential product candidates, by the market. Theseenforcement actions include:

 

•       product seizures;

 

•       voluntary or mandatory recalls;

 

•       patient or physician notifications, includingletters to healthcare professionals and corrective advertising;

 

•       withdrawal of product approvals;

 

•       restrictions on, or prohibitions against,marketing our products;

 

•       operating restrictions;

 

•       fines;

 

•       restrictions on importation or exportation ofour products;

 

•       injunctions;

 

•       debarments;

 

•       civil and criminal penalties; and

 

•       suspension of review of, or refusal to approve,pending applications.

 

**If the clinicaltrials for any product candidates our planned strategic partners advance intoclinical testing are not successful, these partners may not be able tosuccessfully develop and commercialize our potential product candidates.**

** **

In order to obtain regulatory approvals for thecommercial sale of product candidates that we successfully out-license, ourcollaborators will be required to complete extensive clinical trials in humansto demonstrate the safety and efficacy of our product candidates. Our strategicpartners may not be able to obtain authority from the FDA or otherregulatory agencies to commence or complete these clinical trials. Even ifpermitted, such clinical testing may not prove that our product candidatesare sufficiently safe and effective to permit our strategic partners to obtainmarketing approvals from regulatory authorities. Moreover, positive resultsdemonstrated in pre-clinical studies and early clinical trials that ourstrategic partners complete may not be indicative of results obtained infuture clinical trials. Furthermore, our collaborators, institutional reviewboards or regulatory agencies may suspend, hold or terminate clinicaltrials at any time for various reasons, including failure to achieve establishedsuccess criteria, noncompliance with regulatory requirements or if it isbelieved that the patients participating in such trials are being exposed tounacceptable health risks. Adverse or inconclusive clinical trial resultsconcerning any of our product candidates could require our strategic partnersto conduct additional clinical trials, result in increased costs andsignificantly delay the filing for marketing approval for those productcandidates with the FDA, result in a filing for a narrower indication than wasoriginally sought or result in a decision to discontinue development of thoseproduct candidates.

 

The successful completion of our strategic partners’clinical trials will depend on, among other things, the rate of patientenrollment. Patient enrollment is a function of many factors, including thesize of the patient population, the nature of the clinical protocol, theavailability of alternative treatments, the proximity of patients to clinicalsites and the eligibility criteria for the study. Our strategic partnersmay be unable to enroll the number of patients we need to complete a trialon a timely basis, if at all. Moreover, delays in planned patient enrollmentfor clinical trials may cause our strategic partners to incur increasedcosts and delay commercialization. Because we will need to rely on thirdparties for the development of our

 

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product candidates, we will have less control over thetiming and other aspects of these clinical trials than if we conducted them onour own. These third parties may not complete activities on schedule, or maynot conduct clinical trials in accordance with regulatory requirements or thetrial design.

 

As a result of these factors, third parties on whom werely may not successfully begin or complete clinical trials on ourpotential product candidates in a timely manner, if at all. Moreover, if ourstrategic partners do not successfully develop, obtain the necessary regulatoryapprovals for, and commercialize our products, our future revenues may bematerially impaired.

 

**If the estimateswe make and the assumptions on which we rely in preparing our financialstatements prove inaccurate, our actual results may vary significantly.**

** **

Our financial statements have been prepared inaccordance with accounting principles generally accepted in the United States.The preparation of these financial statements requires us to make estimates andjudgments that affect the reported amounts of our assets, liabilities, revenuesand expenses, the amounts of charges taken by us and related disclosure. Suchestimates and judgments include revenue recognition, product returns, thecarrying value of our accounts receivable, inventory and property andequipment, our estimates of accrued expenses and liabilities and our estimatesof the fair value of equity instruments granted or sold by us. We base ourestimates and judgments on historical experience and on various otherassumptions that we believe to be reasonable under the circumstances. However,these estimates and judgments, or the assumptions underlying them,may prove to be incorrect. Accordingly, our actual financial resultsmay vary significantly from the estimates contained in our financialstatements. For a further discussion of the estimates and judgments that wemake and the critical accounting policies that affect these estimates andjudgments, see “Management’s Discussion and Analysis of Financial Condition andResults of Operations—Critical Accounting Policies and Estimates” above.

 

**Risks Relating toour Intellectual Property Rights**

 

**Ourpatent protection for BiDil, the individual components of which are availablein generic form, is limited, and we may be subject to generic substitutionor competition and resulting pricing pressure.**

** **

We have no composition of matter patent coveringBiDil, our product for the treatment of heart failure in self-identified blackpatients as an adjunct to current standard therapy. BiDil is a fixed-dosecombination of two individual components, isosorbide dinitrate and hydralazinehydrochloride, both of which are available in generic form, which are approvedand separately marketed, in dosages similar to those we include in BiDil, forindications other than heart failure, at prices below the prices we arecharging for BiDil. We have two issued method-of-use patents that expire in2020. One patent covers the use of the combination of isosorbide dinitrate andhydralazine hydrochloride to reduce mortality associated with chroniccongestive heart failure, for improving the oxygen consumption, for improvingthe quality of life or for improving exercise tolerance in a black patient. Theother patent covers the use of the combination of isosorbide dinitrate andhydralazine hydrochloride in certain dosage amounts for reducing mortalityassociated with heart failure in a black patient. Our method of use patent thatcovered the use of the combination of isosorbide dinitrate and hydralazinehydrochloride to reduce the incidence of mortality associated with chroniccongestive heart failure expired in accordance with its terms in April 2007.

 

We may not be able to enforce our method-of-usepatents to prevent physicians from prescribing isosorbide dinitrate andhydralazine hydrochloride separately for the treatment of heart failure inblack patients, even though neither drug is approved for such use. We alsomay not be able to enforce these method-of-use patents to preventhospitals and pharmacies from supplying such patients with these individualcomponents separately in lieu of BiDil.

 

Other factors may also adversely affect ourpatent protection for BiDil. If we are successful in marketing BiDil,manufacturers of generic drugs will have an incentive to challenge our patentposition. The combination therapy of isosorbide dinitrate and hydralazinehydrochloride 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. Patentand Trademark Office considered published reports on these clinical trials andconcluded that they did not constitute prior art that would prevent theissuance of the 2007 patent. The U.S. patent office also considered thequestion of whether the 2007 patent constituted prior art with respect to the2020 patents, and determined that the claims of the 2020 patents werenon-obvious and patentable. A court considering the validity of the 2020patents with respect to questions of prior art might be presented with otheralleged prior art or might reach conclusions different than those reached bythe U.S. patent office. If the 2020 patents were to be invalidated or ifphysicians were to prescribe isosorbide dinitrate and hydralazine hydrochlorideseparately for heart failure in black patients, our BiDil revenue could besignificantly reduced, we could fail to recover the cost of developing BiDiland BiDil might not be a viable commercial product.

 

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**Ifwe are not able to obtain and enforce patent protection for our discoveries,our ability to secure out-licensing or collaborative arrangements with respectto our product candidates will be harmed, and we may not be able tooperate our business profitably.**

** **

Our success depends, in part, on our ability toprotect proprietary methods and technologies that we developed under the patentand other intellectual property laws of the United States and other countries,in order to prevent others from using our inventions and proprietaryinformation. Because certain United States patent applications are confidentialuntil patents issue, such as applications filed prior to November 29,2000, or applications filed after such date which will not be filed in foreigncountries, third parties may have filed patent applications for technologycovered by our pending patent applications without our being aware of thoseapplications, and our patent applications may not have priority overpatent applications of others.

 

Prior to the restructuring of our research anddevelopment activities, our intellectual property strategy depended on ourability to rapidly identify and seek patent protection for our discoveries.This process is expensive and time consuming, and we may not be able to prosecuteall necessary or desirable patent applications or maintain all issued patentsat a reasonable cost. Despite our efforts to protect our proprietary rights,unauthorized parties may be able to obtain and use information that weregard as proprietary. The mere issuance of a patent does not guarantee that itis valid or enforceable; even if we have obtained patents, they may not bevalid or enforceable against third parties.

 

The issued patents and patent applications for ourproduct candidates and nitric oxide technology include claims with respect toboth the composition of specific products or compounds and specific methods ofusing these products or compounds in therapeutic areas. In some cases, likeBiDil, our only patent protection is with respect to the method of using aproduct or compound. Method-of-use patents may provide less protection forour product candidates and products. If another company gains FDA approval foran indication separate from the one claimed in our method-of-use patents, physiciansmay be able to prescribe that product for use in the approved indication. Inaddition, physicians may prescribe a product for which we or our potentialstrategic partners have obtained approval for an unapproved indication for thatproduct. As a practical matter, we or our potential strategic partnersmay not be able to enforce our method-of-use patents against physiciansprescribing products for such off-label use. Off-label use and any resultingoff-label sales could make it more difficult to obtain the price we or ourpotential strategic partners would otherwise wish to achieve for, or tosuccessfully commercialize, our products. In addition, in those situationswhere we have only method-of-use patent coverage for a product candidate, itmay be more difficult to find a pharmaceutical company partner to licenseor support development of our product candidate.

 

Our pending patent applications may not result inissued patents. The patent position of pharmaceutical or biotechnologycompanies, including ours, is generally uncertain and involves complex legaland factual considerations. The standards which the U.S. patent office and itsforeign counterparts use to grant patents are not always applied predictably oruniformly and can change over time. There is also no uniform, worldwide policyregarding the subject matter and scope of claims granted or allowable inpharmaceutical or biotechnology patents. Accordingly, we do not know the degreeof future protection for our proprietary rights or the breadth of claimsallowed in any patents issued to us or to others.

 

We also rely on trade secrets, know-how andtechnology, which are not protected by patents, to maintain our competitiveposition. If any trade secret, know-how or other technology not protected by apatent were to be disclosed to or independently developed by a competitor, ourbusiness and financial condition could be materially adversely affected.

 

**Ifwe become involved in patent litigation or other proceedings to enforce ourpatent rights, we would incur substantial costs and expenses, as well assubstantial liability for damages, and/or we, or our strategic partners, couldbe required to stop product development and commercialization efforts.**

** **

A third party may sue us or our potentialstrategic partners for infringing on its patent rights. Likewise, we or ourpotential strategic partners may need to resort to litigation to enforce apatent issued to us or to seek a declaratory judgment on the scope and validityof third-party proprietary rights. The cost to us or our potential strategicpartners of any litigation or other proceedings relating to intellectualproperty rights, even if resolved in our or our partner’s favor, could besubstantial, and the litigation would divert management efforts. Some of ourcompetitors may be able to sustain the costs of complex patent litigationmore effectively than we can because they have substantially greater resources.In addition, our strategy of providing nitric oxide-enhancing versions ofexisting products could lead to more patent litigation due to the fact that themarkets for these existing products are very large and competitive.Uncertainties resulting from litigation could limit our ability to continue ouroperations. For example, we filed an opposition in the European Patent Office,or EPO, to revoke NicOx S.A.’s European Patent No. 904 110, which we referto as EP ’110. This patent is directed to the use of organic compoundscontaining a nitrate group or inorganic compounds containing a nitric oxide groupto reduce the toxicity caused

 

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by certain drugs, including non-steroidalanti-inflammatory drugs. The basis for our opposition, in part, is that theclaims in EP ’110 are anticipated and therefore invalid if they areconstrued to cover a single compound chemically linked to a nitrate moiety. InMarch 2007, the three-member EPO Opposition Division invalidated all of theclaims of EP ‘110, and the official written decision revoking EP ‘110 wasissued on June 19, 2007. Pursuant to the rules of the EPO, NicOx had anopportunity to file an appeal regarding this invalidation decision. On October5, 2007, we received notice from the EPO Opposition Division that no appeal hadbeen submitted within the applicable time limit, and accordingly the oppositionproceedings are finally terminated.

 

Nevertheless, if any parties are able to successfullyclaim that the development or use by us or our potential strategic partners ofproprietary technologies infringes upon their intellectual property rights, weor our potential strategic partners might be forced to pay damages, potentiallyincluding treble damages, if we or our potential strategic partners are foundto have willfully infringed on such parties’ patent rights. In addition to anydamages we or our potential strategic partners might have to pay, a court couldrequire us or our potential strategic partners to stop the infringing activityor obtain a license on terms that are unfavorable to us. In addition, some licensesmay be non-exclusive, and therefore our competitors may have accessto the same technology licensed to us. If we or our potential strategicpartners fail to obtain a required license or are unable to design around apatent, we or our potential strategic partners 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.

 

**Wein-license a significant portion of our principal proprietary technologies, andif we fail to comply with our obligations under any of the related agreements,we could lose license rights that are necessary to commercializing BiDil andout-licensing our other product candidates.**

** **

We are a party to a number of licenses that give usrights to third-party intellectual property that are necessary for ourbusiness. In particular, we have obtained the exclusive right to develop andcommercialize BiDil pursuant to a license agreement with Dr. Jay N. Cohn,and some of our intellectual property rights relating to nitric oxide compoundshave been obtained pursuant to license agreements with the Brigham and Women’sHospital and Boston University. In addition, we may enter into additionallicenses in the future. These licenses impose various development,commercialization, funding, royalty, diligence, and other obligations on us. Ifwe breach these obligations, the licensor may have the right to terminatethe license or render the license non-exclusive, which would result in us beingunable to develop, manufacture and sell products that are covered by thelicensed technology.

 

**Risks Relating toour Industry**

 

**We could benegatively impacted by the application or enforcement of federal and statefraud and abuse laws, including anti-kickback laws and other federal and stateanti-referral laws.**

** **

We are subject to various federal and state lawspertaining to healthcare fraud and abuse, including anti-kickback laws and physicianself-referral laws. Violations of these laws are punishable by criminal andcivil sanctions, including, in some instances, imprisonment and exclusion fromparticipation in federal and state healthcare programs, including the Medicare,Medicaid and Veterans Administration health programs. Because of thefar-reaching nature of these laws, we may be required to alter ordiscontinue one or more of our practices to be in compliance with these 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. If there is a change in law, regulation oradministrative or judicial interpretations, we may have to change ordiscontinue our business practices or our existing business practices could bechallenged as unlawful, which could have a material adverse effect on ourbusiness, financial condition and results of operations.

 

In addition, we could become subject to false claimslitigation under federal statutes, which can lead to treble damages based onthe reimbursements by federal healthcare programs, civil money penalties(including penalties levied on a per false claim basis), restitution, criminalfines and imprisonment, and exclusion from participation in Medicare, Medicaidand other federal and state healthcare programs. These false claims statutesinclude the False Claims Act, which allows any person to bring suit on behalfof the federal government alleging the submission of false or fraudulentclaims, or causing to present such false or fraudulent claims, under federalprograms or contracts claims or other violations of the statute and to share inany amounts paid by the entity to the government in fines or settlement. Thesesuits against pharmaceutical and biotechnology companies have increasedsignificantly in recent years and have increased the risk that a healthcarecompany will have to defend a false claim action, pay fines or restitution, orbe excluded from the Medicare, Medicaid or other federal and state healthcareprograms as a result of an investigation arising out of such action. It ispossible that we could become

 

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subject to such litigation and, if we are notsuccessful in defending against it, such litigation would have a materialadverse effect on our business, financial condition and results of operations.In addition, the cost of defending claims or allegations under the False ClaimsAct, even if successful, would also have a material adverse effect on ourbusiness, financial condition and results of operations.

 

**Weface significant competition, which may result in others commercializingproducts more successfully than ours.**

** **

The pharmaceutical industry is highly competitive andcharacterized by rapid and significant technological change. Our principalcompetitors in the markets we have targeted, including cardiovascular disease,are large, multinational pharmaceutical companies that have substantiallygreater financial and other resources than we do and are conducting extensiveresearch and development activities on technologies and product candidatessimilar to or competitive with ours. Many of our competitors are moreexperienced than we are in pharmaceutical development and commercialization,obtaining regulatory approvals and product marketing and manufacturing. As aresult, they may:

 

•                                          develop andcommercialize products that render BiDil obsolete or non-competitive or thatcause our product candidates to be less desirable as a result of patent or non-patentexclusivity;

 

•                                          developproduct candidates and market products that are less expensive or moreeffective than BiDil;

 

•                                          commercializecompeting products before our partners can launch any products developed fromour product candidates;

 

•                                          initiate orwithstand substantial price competition more successfully than we can;

 

•                                          have greatersuccess in recruiting skilled scientific workers from the limited pool ofavailable talent;

 

•                                          moreeffectively negotiate third-party licenses and strategic relationships; and

 

•                                          takeadvantage of product acquisition or other opportunities more readily than wecan.

 

There are a number of companies currently marketingand selling products to treat heart failure in the general population that willcompete with BiDil. These include GlaxoSmithKline, plc, which currently marketsCoreg®, Merck & Co., Inc., which currently markets Vasotec® andAstra Zeneca, plc, which currently markets Toprol XL®.

 

We also face competition from other pharmaceuticalcompanies seeking to develop drugs using nitric oxide technology. For example,we are aware of at least seven companies working in the area of nitric oxidebased therapeutics. These companies are: Angiogenix Inc., GB Therapeutics,NicOx S.A., OxoN Medica, RenoPharm, Vasopharm BIOTECH GmbH and Nitrox LLC.

 

**Wemay be exposed to product liability claims and may not be able to obtainor maintain adequate product liability insurance.**

** **

Our business exposes us to the risk of productliability claims that is inherent in the clinical testing, manufacturing andmarketing of human therapeutic products. Our clinical trial and commercialproduct liability insurance is subject to deductibles and coverage limitations.We may not be able to obtain or maintain insurance on acceptable terms, ifat all. Moreover, any insurance that we do obtain may not provide adequateprotection against potential liabilities, and our capital resources could bedepleted as a result.

 

**Risks Relating toour Common Stock**

** **

**Theprice of our common stock is likely to continue to be volatile in the future.**

** **

The stock market has from time to time experiencedsignificant price and volume fluctuations that may be unrelated to theoperating performance of particular companies. In particular, the market priceof our common stock, like that of the securities of other biopharmaceuticalcompanies, has been and may continue to be highly volatile. During theperiod from January 1, 2005 to September 30, 2007, our stock pricehas ranged from a low of $1.75 per share (on September 28, 2007) to

 

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a high of $27.99 per share (on February 2, 2005).The following factors, among others, may affect the price of our commonstock:

 

•                                          fluctuationsin our financial results, including with respect to sales of BiDil;

 

•                                          announcementsconcerning fundamental or material corporate transactions, restructuring or thelike;

 

•                                          generalmarket conditions;

 

•                                          announcementsof technological innovations or new commercial products by our competitors;

 

•                                          announcementsof actual or potential medical results relating to products under developmentby our potential strategic partners or our competitors’ products;

 

•                                          governmentalregulations and regulatory developments in both the U.S. and foreign countriesaffecting us or our competitors;

 

•                                          disputesrelating to patents or other proprietary rights affecting us, our potentialstrategic partners or our competitors;

 

•                                          publicconcern as to the safety of products developed by us, our potential strategicpartners or other biotechnology and pharmaceutical companies;

 

•                                          fluctuationsin price and volume in the stock market in general, or in the trading of thestock of biopharmaceutical and biotechnology companies in particular, that areunrelated to our operating performance;

 

•                                          issuances ofsecurities in equity, debt or other financings;

 

•                                          sales ofcommon stock by existing stockholders; and

 

•                                          theperception that such issuances or sales could occur.

 

**Insidershave substantial control over us and could delay or prevent a change in corporatecontrol.**

** **

As of October 29, 2007, our directors, executiveofficers and principal stockholders, together with their affiliates, owned, inthe aggregate, approximately 33.8% of our outstanding common stock. As aresult, 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, will have the ability to control the management and affairsof our company. Accordingly, this concentration of ownership may harm themarket price of our common stock by:

 

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

 

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

 

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

 

**Provisions in our charter documents and underDelaware law may prevent or frustrate attempts by stockholders to changecurrent management and hinder efforts to acquire a controlling interest in ourcompany.**

 

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Provisions of our restated certificate ofincorporation and bylaws may discourage, delay or prevent a merger,acquisition or other change in control that stockholders may considerfavorable, including transactions in which stockholders might otherwise receivea premium for their shares. These provisions may prevent or frustrateattempts by stockholders to replace or remove our current management. Theseprovisions include:

 

•                                          a prohibitionon stockholder action through written consent;

 

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

 

•                                          advancenotice requirements for stockholder proposals and nominations;

 

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

 

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

 

In addition, Section 203 of the Delaware GeneralCorporation Law prohibits a publicly held Delaware corporation from engaging ina business combination with an interested stockholder, generally defined as aperson or entity which together with its affiliates owns or within the lastthree years has owned 15% of our voting stock, for a period of three yearsafter the date of the transaction in which the person became an interestedstockholder, unless the business combination is approved in a prescribedmanner. Accordingly, Section 203 may discourage, delay or prevent achange in control of our company.

 

**Substantiallyall of our outstanding common stock may be sold into the market at any time.This could cause the market price of our common stock to drop significantly.**

** **

Sales of a substantial number of shares of our commonstock in the public market could occur at any time. These sales, or theperception in the market that the holders of a large number of shares intend tosell shares, could reduce the market price of our common stock. As ofOctober 29, 2007, there were 45,773,801 shares of common stockoutstanding. Substantially all of these shares may also be resold in thepublic market at any time. In addition, we have a significant number of sharesthat are subject to outstanding options and restricted stock awards. The saleof the common stock underlying these options and pursuant to these restrictedstock awards after such time as the options and restricted stock awards havevested and become exerciseable or free from forfeiture, as the case may be,could cause a further decline in our stock price. These sales also might makeit difficult for us to sell equity securities in the future at a time and at aprice that we deem appropriate.

 

**Wemay incur significant costs and suffer management distraction and reputationaldamage from class action litigation.**

** **

Our stock price has been, and is likely to continue tobe, volatile. When the market price of a company’s stock is volatile, holdersof that company’s stock may bring securities class action litigationagainst the company that issued the stock. If any of our stockholders were tobring a lawsuit of this type against us, even if the lawsuit was without merit,we could incur substantial costs defending the lawsuit.

 

**Item 2.****           Unregistered Sales ofEquity Securities and Use of Proceeds**

 

The following table sets forth information concerning the purchase of ourequity securities by us during the third quarter of 2007:

 
| **Period**                                  | ** ** | **Total Number of  Shares Purchased  (1)** | ** ** | **Average  Price Per  Share** | ** ** | **Total Number of  Shares Purchased as  Part of Publicly  Announced Plans or  Programs (2)** | ** ** | **Maximum Number  of Shares that May  Yet be Purchased  Under the Plans or  Programs** | ** ** |
|---------------------------------------------|------------|-----------------------------------------------------------|------------|------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------|------------|
| July 1, 2007 – July 31, 2007           |       | —                                                    |       | —                             |       | —                                                                                                                                    |       | —                                                                                                                              |       |
| August 1, 2007 – August 31, 2007       |       | —                                                    |       | —                             |       | —                                                                                                                                    |       | —                                                                                                                              |       |
| September 1, 2007 – September 30, 2007 |       | 37,350                                                    |       | $                                  | 2.05       |                                                                                                                                      | —     |                                                                                                                                | —     |   |
| Total                                       |       | 37,350                                                    |       |                               |       | —                                                                                                                                    |       | —                                                                                                                              |       |
|                                             |            |                                                           |            |                                    |            |                                                                                                                                           |            |                                                                                                                                     |            |  |

 

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(1) The amount listed in this column represents shares of common stocksurrendered by certain employees to us in satisfaction of tax withholdingobligations incurred upon the lapse of restrictions on shares of common stockduring the period in accordance with the terms of restricted stock agreementsentered into between us and those employees on March 16, 2007.

 

(2) We currently have no plan or program torepurchase our equity securities, aside from additional shares that will besurrendered to us in satisfaction of tax withholding obligations incurred uponthe future lapse of restrictions on shares of common stock in accordance with theterms of restricted stock agreements entered into between us and certainemployees.

 

**Item 6.****           Exhibits**

 

See theExhibit Index on the page immediately preceding the exhibits for alist of exhibits filed as part of this Quarterly Report on Form 10-Q,which Exhibit Index is 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/ JAMES G. HAM, III |
|                   | James G. Ham, III                                                             |
|                   | Vice President, Chief  Financial Officer, Treasurer                           |
|                   | and Secretary*(Principal Financial Officer and Principal Accounting Officer)* |
| Date: October 31, 2007 |

 

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**EXHIBIT INDEX**

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

 

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