<PAGE>
 
    
 As filed with the Securities and Exchange Commission on February 4, 1999     
                                                     Registration No. 333-66259
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
 
                    U.S. SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C. 20549
 
                               ----------------
                                
                             AMENDMENT NO. 3     
                                   Form S-1
                            REGISTRATION STATEMENT
                                     UNDER
                          THE SECURITIES ACT OF 1933
 
                               ----------------
                                 Phytera, Inc.
            (Exact name of registrant as specified in its charter)
 
         Delaware                    8731                    04-3159045
     (State or other     (Primary Standard Industrial     (I.R.S. Employer
     jurisdiction of      Classification Code Number)  Identification Number)
     incorporation or
      organization)
                      
 
                             377 Plantation Street
                        Worcester, Massachusetts 01605
                                (508) 792-6800
  (Address, including zip code, and telephone number, including area code, of
                   registrant's principal executive offices)
 
                            MALCOLM MORVILLE, Ph.D.
                     President and Chief Executive Officer
                                 Phytera, Inc.
                             377 Plantation Street
                        Worcester, Massachusetts 01605
                                (508) 792-6800
(Name, address, including zip code, and telephone number, including area code,
                             of agent for service)
 
                               ----------------
 
                                  Copies to:
       LYNNETTE C. FALLON, ESQ.                 ALAN L. JAKIMO, ESQ.
          Palmer & Dodge LLP                      Brown & Wood LLP
           One Beacon Street                   One World Trade Center
      Boston, Massachusetts 02108                    58th Floor
            (617) 573-0100                    New York, New York 10048
                                                   (212) 839-5300
 
                               ----------------
 
  Approximate date of commencement of proposed sale to the public: As soon as
practicable after the effective date of this Registration Statement.
 
                               ----------------
 
  If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [_]
 
  If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [_]
 
  If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
 
  If delivery of the prospectus is expected to be made pursuant to Rule 434,
check the following box. [_]
 
                               ----------------
 
  The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant
shall file a further amendment which specifically states that this
Registration Statement shall thereafter become effective in accordance with
Section 8(a) of the Securities Act of 1933 or until the Registration Statement
shall become effective on such date as the Commission, acting pursuant to
Section 8(a), may determine.
 
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<PAGE>
 
                                Explanatory Note
 
  This Registration Statement contains two forms of prospectus: (i) one to be
used in connection with an offering in the United States and Canada (the "US
Prospectus") and (ii) the other to be used in connection with a concurrent
offering outside of the United States and Canada (the "European Prospectus").
The European Prospectus will be produced in English and Danish. The US
Prospectus and the European Prospectus are identical in all respects except for
the front cover page and back cover page of the European Prospectus, both of
which are included herein after the final page of the US Prospectus as pages X-
1 and X-2 and are labeled "Alternate Pages for European Prospectus." Final
forms of each of the Prospectuses will be filed with the Securities and
Exchange Commission under Rule 424 (b).
 
  Additionally, an Application Form included as page X-3 will be delivered with
the Danish language version of the European Prospectus to Danish investors in
the European offering.
<PAGE>
 
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+                                                                              +
+The information in this prospectus is not complete and may be changed. We may +
+not sell these securities until the registration statement filed with the     +
+Securities and Exchange Commission is declared effective. This prospectus is  +
+not an offer to sell these securities and we are not soliciting an offer to   +
+buy these securities in any jurisdiction where the offer or sale is not       +
+permitted.                                                                    +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
                  
               SUBJECT TO COMPLETION, DATED FEBRUARY 4, 1999     
 
US PROSPECTUS
 
                                2,500,000 Shares
 
[Logo of Phytera, Inc. appears here]
                                  Common Stock
 
  This is an initial public offering of the shares of common stock of Phytera,
Inc. The shares of common stock will be offered to the public in Denmark.
Additionally, shares of common stock will be offered in private placements in
other European countries. The offering in the United States, Canada and Belgium
will be limited to institutional investors. There is currently no public market
for these shares. Phytera expects that the public offering price will be
between $12.00 and $14.00 per share.
 
  In the United States and Canada, we are offering 750,000 shares of common
stock. In Europe, we are offering 1,750,000 shares of common stock.
   
  We have applied for admission to trading and quotation of the common stock on
the European Association of Securities Dealers Automated Quotation system,
called EASDAQ, and for listing on the Copenhagen Stock Exchange, called the
CSE. We expect that these listings will become effective and that trading in
the shares of common stock will begin promptly after the initial public
offering price is determined through negotiations between Phytera and the
underwriters. Our trading symbol on EASDAQ and our short name on the CSE will
be PHYT.     
 
  Our business involves significant risks. These risks are described under the
caption "Risk Factors" beginning on page 8.
   
  None of EASDAQ, the CSE, the US Securities and Exchange Commission nor any
state securities commission has approved or disapproved of these securities or
determined if this prospectus is truthful or complete. Any representation to
the contrary is a criminal offense.     
 
                                  ------------
 
<TABLE>
<CAPTION>
                                                                      Per
                                                                     Share Total
<S>                                                                  <C>   <C>
Public offering price............................................... $     $
Underwriting discounts and commissions.............................. $     $
Proceeds, before expenses, to Phytera............................... $     $
</TABLE>
   
  The underwriters for the offering in the United States and Canada may also
purchase up to an additional 112,500 shares of common stock and the managers
for the offering in Europe may also purchase up to an additional 262,500 shares
of common stock, an aggregate of 375,000 shares, at the public offering price,
less the underwriting discounts and commissions, within 30 days from the date
of this prospectus to cover over-allotments.     
   
  In the distribution of the offering as a firm commitment underwriting, the
underwriters will purchase the offered shares of common stock from Phytera and
resell the shares to investors.     
 
                                  ------------
 
SG COWEN
 
       CARNEGIE INC.
 
                                                   BANCBOSTON ROBERTSON STEPHENS
 
      , 1999
<PAGE>
 
 
[Graphic: The graphic illustrates the various elements of Phytera's
Combinatorial Drug Discovery Program. Along the length of the page will be a
series of photographs, artist's renderings and other graphics, each
illustrating one of the elements of Phytera's Combinatorial Drug Discovery
Program.]
 
This diagram illustrates our Combinatorial Drug Discovery Program. We have
identified several lead structures and are developing one candidate drug. We
have not yet conducted any clinical trials, obtained any regulatory approvals,
or commercialized any drug product. Drug discovery and development involves
technological and commercial risks. Our Program and related product development
activities could fail because of these risks.
   
  ExPAND(R) and (u)MARINE(R) are registered trademarks of Phytera. ENRICH(TM)
and PINACLE(TM) are trademarks of Phytera for which there are applications for
registration pending in the US Patent and Trademark Office. MANIFOLD(TM) is a
trademark of Phytera for which there is an application for registration pending
in the European Trademark Office. All other trademarks and registered
trademarks used in this prospectus are the property of their respective owners.
    
                               ----------------
<PAGE>
 
                        
                     Information About This Prospectus     
   
  Phytera was incorporated in Delaware in May 1992 and operates three wholly-
owned subsidiaries, Phytera Ltd. in the United Kingdom and Phytera A/S and
Phytera Symbion ApS in Denmark. Phytera's headquarters and executive offices
are located at 377 Plantation Street, Worcester, Massachusetts 01605, US and
its telephone number is (508) 792-6800.     
 
  On September 17, 1998, the Board of Directors of Phytera authorized this
offering.
             
          Approval by the Belgian Banking and Finance Commission     
   
  The English language prospectus has been approved by the Belgian Banking and
Finance Commission, the Commission Bancaire et Financiere/Commissie voor het
Bank-en Financiewezen, called the CBF, on December 29, 1998 in accordance with
Article 29ter, (S)1, par. 1 of Royal Decree n(degrees) 185 of July 9, 1935 and
Article 18 of the Royal Decree of September 18, 1990 on the prospectus to be
published for the admission of securities to listing on the first market of a
stock exchange, which transposes into Belgian law the provisions of Directive
80/390/EEC. The approval of this prospectus by the CBF does not extend to the
Danish Tax Considerations section of this prospectus or to the summary of
certain differences between US GAAP and Danish GAAP nor does it imply any
judgment as to the appropriateness or the quality of this offering, the common
stock nor of the situation of Phytera. The notice prescribed by Article 29,
(S) 1 of the Royal Decree n(degrees) 185 of July 9, 1935 will appear in the
financial press prior to the first day of trading on EASDAQ. Based on the
approval by the CBF, this prospectus is recognized by the CSE in compliance
with Directive 80/390/EEC.     
                      
                   No Public Offer in the United Kingdom     
   
  Phytera has not authorized any offer of shares of common stock to the public
in the United Kingdom within the meaning of the Public Offers of Securities
Regulations 1995. The shares of common stock may not lawfully be offered or
sold to persons in the United Kingdom except in circumstances which do not
result in an offer to the public in the United Kingdom within the meaning of
these regulations or otherwise in compliance with all applicable provisions of
the regulations.     
                      
                   Responsibility for the Prospectus and     
                            
                         Declaration of Conformity     
   
  Phytera, here represented by the Board of Directors, confirms that, to the
best of its knowledge, the information given in this prospectus is in
accordance with the facts in all material respects and contains no omissions
likely to affect the import of the prospectus in any material respect. Under US
federal securities laws, Phytera's Chief Executive Officer, Chief Financial
Officer and members of the Board of Directors are generally liable, subject to
certain defenses, for untrue statements of material fact in this prospectus and
omissions of material fact which are required to be stated in this prospectus
or necessary to make the statements in this prospectus not misleading.     
 
  In the case of any doubt about the contents or the meaning of the information
of this document, an authorized or professional person who specializes in
advising on the acquisition of financial instruments should be consulted.
                          
                       Preparation of the Prospectus     
   
  This prospectus has been prepared in accordance with the rules and
regulations of the US Securities and Exchange Commission and EASDAQ and in
compliance with the Royal Decree of September 18, 1990 on the prospectus to be
published for the admission of securities to listing on the first market of a
stock exchange, which transposes into Belgian law the provisions of Directive
80/390/EEC. This prospectus has been produced in English and Danish for use in
connection with this offering. The Danish language version of this prospectus
will not be circulated in the US. In the event of any inconsistency between the
Danish language version and the English language version, the English language
version shall prevail.     
 
                                       3
<PAGE>
 
                                     
                                  Experts     
   
  Phytera's audited Consolidated Financial Statements as of December 31, 1996
and 1997 and for each of the three years in the period ended December 31, 1997
have been audited by Arthur Andersen LLP, independent public accountants, as
stated in their report with respect to the Consolidated Financial Statements
and included in this prospectus upon the authority of Arthur Andersen LLP as
experts in auditing and accounting. Arthur Andersen LLP's mailing address is
225 Franklin Street, Boston, MA 02110-2812, US.     
                  
               Where To Find More Information About Phytera     
   
  Phytera has filed with the US Securities and Exchange Commission a
registration statement under the Securities Act of 1933. This prospectus does
not contain all of the information contained in the registration statement and
its exhibits and schedules. For further information with respect to Phytera and
the common stock being offered, please refer to the registration statement and
its accompanying exhibits and schedules. Statements in this prospectus as to
the contents of any contract or other document are not necessarily complete.
Refer to the exhibits to the registration statement for a complete copy of
these contracts and other documents. The registration statement, including its
exhibits, may be inspected and copied without charge at the SEC's principal
office located at 450 Fifth Street, Judiciary Plaza, NW, Washington, DC 20549,
US. Copies may also be obtained by mail upon request and payment of prescribed
fees to the Public Reference Section at the SEC's principal office. The SEC
also maintains a web site at http://www.sec.gov that contains reports, proxy
and information statements, as well as other information regarding registrants
that file electronically with the SEC.     
   
  Phytera intends to furnish its stockholders with the following documents as
they become available:     
     
  . annual reports containing audited financial statements, and     
     
  . quarterly reports for the first three quarters of each fiscal year
    containing interim unaudited financial information.     
   
  You may obtain copies of all documents that Phytera files with the SEC upon
request to Phytera at its executive offices at 377 Plantation Street,
Worcester, MA 01605, US.     
   
  Companies approved for trading on EASDAQ and CSE are required to publish
relevant financial and other information regularly and to keep the public
informed of all events likely to affect the market price of their securities.
Price sensitive information will be made available to investors in Europe
through EASDAQ-Reuters Regulatory Company Reporting System, the CSE's internal
information system and other international information vendors. Phytera also
will provide a summary of its quarterly and annual financial statements to its
stockholders in Europe across the EASDAQ Company Reporting System. Investors
who do not have direct access to such information systems should ask their
financial intermediary how this information will be provided to them.     
   
  Copies of both the English language and Danish language prospectuses will be
made available, at no cost, upon prior written request to:     
     
  . SG Cowen International L.P., One Angel Court, London EC2R 7HJ, United
    Kingdom, telephone +44 (171) 696-0034     
     
  . Carnegie Bank A/S, Overgaden neden Vandet 9b, DK-1414 Copenhagen K,
    Denmark, telephone +45 32 88 02 00     
     
  . BancBoston Robertson Stephens International Ltd., 105 Piccadilly, London
    W1V 9FN, United Kingdom, telephone +44 (171) 518-7000     
   
  Copies of the English language and Danish language prospectuses and Phytera's
Restated Certificate of Incorporation and By-laws will be available for
inspection at the offices of EASDAQ, 56 Rue des Colonies, Box 15, B-1000
Brussels, Belgium.     
 
                                       4
<PAGE>
 
                               PROSPECTUS SUMMARY
   
  The following is just a summary. Potential investors should carefully read
the more detailed information contained in this prospectus, including the
Consolidated Financial Statements and the notes to the Consolidated Financial
Statements. The shares of common stock being offered involve a high degree of
risk. Investors should carefully consider the information set forth under the
heading "Risk Factors." We urge potential investors to read this prospectus in
its entirety.     
 
                                  The Company
   
  Phytera, Inc. is an international biopharmaceutical company with operations
in the United States, Denmark and the United Kingdom. We apply a range of
proprietary technologies to create novel chemical libraries from plant cells
and marine microbes that we grow and manipulate in cell culture. These chemical
libraries contain a large number of chemical compounds that we and our partners
are evaluating as potential new drugs.     
   
  We evaluate our chemical libraries for therapeutic utility in laboratory
tests for activity in different diseases. These diseases include bacterial,
fungal and viral infections, cancer, inflammation, allergy, asthma, depression,
memory and attention deficit disorders, diabetes, stroke and heart attack. We
conduct some of these testing programs in collaboration with our corporate
partners, including Eli Lilly and Company, Chiron Corporation, Tsumura & Co.,
NeuroSearch A/S, Galileo Laboratories, Inc. and Nycomed Amersham plc. Our
internal laboratory testing programs focus on the discovery and development of
drugs to treat resistant bacterial, fungal and viral infections. We apply
modern genetic engineering techniques to develop proprietary laboratory tests
that we believe offer significant advantages in the discovery of novel drugs.
       
  Our laboratory testing programs are aimed at identifying novel chemical lead
structures from our chemical libraries. A chemical lead structure is a chemical
compound of defined structure that exhibits activity in a laboratory test.
Chemical lead structures are used as starting points for a chemical synthesis
optimization program, which seeks to identify a candidate drug that possesses
all the necessary attributes for commercial development. We use proprietary
chemical synthesis techniques to optimize natural lead structures isolated from
our chemical libraries into candidate drugs for commercial development. To date
we have identified one candidate drug and several lead structures. Marinovir,
our novel candidate drug for the treatment of herpes infections, was isolated
from a marine microbe and is scheduled to enter clinical trials in 1999.     
   
  Nature is a proven source of new medicines, but a number of factors has
limited its systematic exploration as a source of novel chemicals, chemical
lead structures and candidate drugs. Our proprietary technologies provide
solutions to many of these limitations and facilitate access to increased
numbers of diverse chemicals from plant cells and marine microorganisms in cell
culture. We employ several types of cell culture manipulations, alone and in
combination, including genetic, hormonal, infection-related, environmental
and/or chemical treatments. These manipulations substantially expand the
variety and novelty of chemical compounds produced by the cell culture beyond
that found in the natural sourced material or in the initial cell culture.
Using these technologies, we have produced proprietary chemical libraries of
60,000 plant and marine cell culture extracts. Additionally, we are further
refining the process to deliver a library of individual chemical compounds
isolated from these extracts, with resultant advantages in laboratory tests for
activity in different diseases.     
   
  Our objective is to be the leader in the application of these technologies to
the search for new medicines derived from nature. To achieve this objective, we
intend to:     
     
  . take advantage of our corporate partnerships;     
 
  . advance our drug-resistant infectious diseases program; and
     
  . enhance and add to our technologies through internal innovation and
    acquisitions of additional technologies and products.     
 
                                       5
<PAGE>
 
   
  Except in the sections headed Summary Consolidated Financial Data,
Capitalization, Dilution and Selected Consolidated Financial Data or as
otherwise noted, all information in this Prospectus assumes:     
     
  . the conversion of all outstanding shares of Phytera's Series A
    Convertible Preferred Stock, Series B Convertible Preferred Stock, Series
    C Convertible Preferred Stock, Series D Convertible Preferred Stock and
    Series E Convertible Preferred Stock into an aggregate of 4,949,443shares
    of common stock immediately prior to the closing of this offering
    (assuming the Series E Convertible Preferred Stock converts into an
    aggregate of 722,746 shares of common stock and the closing of this
    offering on February 8, 1999 at an offering price of $13.00 per share
    (the mid-point of the expected range)) under the terms of a binding
    agreement executed by the holders of over 80% of Phytera's outstanding
    preferred stock that is binding upon all preferred stockholders;     
 
  . the exercise of outstanding warrants to purchase an aggregate of 68,995
    shares of common stock at $0.02 per share prior to the closing of this
    offering;
     
  . that the underwriters' over-allotment options are not exercised;     
 
  . all financial data is stated in US dollars; and
     
  . the effectiveness of a 0.654 for one reverse stock split effected
    immediately prior to the declaration of effectiveness of the registration
    statement for all periods presented.     
 
                                  The Offering
 
<TABLE>   
<S>                                    <C>
Common stock offered in the US
 offering............................  750,000 shares
Common stock offered in the European
 offering............................  1,750,000 shares
Aggregate amount common stock offered
 in the offering ....................  2,500,00 shares
Common stock to be outstanding after
 the offering........................  8,233,750 shares (1)
Underwriters' over-allotment
 options.............................  375,000 shares
Use of proceeds......................  To fund research and product development
                                       programs, to repay indebtedness and for
                                       general corporate purposes. See "Use of
                                       Proceeds."
Proposed EASDAQ and CSE symbol.......  PHYT
</TABLE>    
-------
          
(1) Based on the number of shares outstanding at November 30, 1998 and assuming
    the exercise of outstanding warrants to purchase 68,995 shares of common
    stock at $0.02 per share prior to the closing of this offering. Excludes an
    aggregate of 953,057 shares of common stock issuable upon exercise of stock
    options and warrants outstanding as of November 30, 1998 with a weighted
    average exercise price of $1.91 per share. See "Capitalization" and
    "Description of Capital Stock--Stock Purchase Warrants."     
 
  We expect that delivery of the common stock will be made in New York, New
York, US on or about February 8, 1999.
   
  In this prospectus, references to "USD', "$', or "dollars' are to United
States dollars, "DKK' or "kroner' are to Danish kroner, "(Pounds)' or "pounds'
are to British pounds, "BEF' is to Belgian francs and "ECUs' is to European
Currency Units.     
 
                                       6
<PAGE>
 
 
                      Summary Consolidated Financial Data
                     (in thousands, except per share data)
 
<TABLE>
<CAPTION>
                                                                         Nine Months     May 27, 1992
                                                                            Ended         (Inception)
                                  Year Ended December 31,               September 30,       through
                          -------------------------------------------  ----------------  September 30,
                           1993     1994     1995     1996     1997     1997     1998        1998
                          -------  -------  -------  -------  -------  -------  -------  -------------
<S>                       <C>      <C>      <C>      <C>      <C>      <C>      <C>      <C>
Consolidated Statement
 of Operations Data:
 Collaborative revenue..  $    68  $    34  $    50  $   247  $ 1,053  $   730  $ 1,100    $  2,552
 Loss from operations...   (1,764)  (4,266)  (5,339)  (8,158)  (9,972)  (7,880)  (6,447)    (37,694)
 Interest income
  (expense), net........     (125)     115     (106)     (30)     228      231       14         101
 Net loss...............  $(1,876) $(4,227) $(5,439) $(8,289) $(9,754) $(7,662) $(6,585)   $(37,689)
                          =======  =======  =======  =======  =======  =======  =======    ========
 Historical basic and
  diluted net loss per
  share (1).............  $(10.78) $(16.32) $(15.43) $(19.99) $(19.53) $(15.59) $(12.47)
 Pro forma basic and di-
  luted net loss per
  share (1).............                                      $ (2.17)          $ (1.45)
 Shares used in comput-
  ing historical basic
  and diluted net loss
  per share (1).........      175      260      353      435      521      512      594
 Shares used in comput-
  ing pro forma basic
  and diluted net loss
  per share (1).........                                        4,693             5,122
</TABLE>
 
<TABLE>
<CAPTION>
                                                  September 30, 1998
                                        ---------------------------------------
                                                                   Pro Forma
                                         Actual   Pro Forma (2) As Adjusted (3)
                                        --------  ------------- ---------------
<S>                                     <C>       <C>           <C>
Consolidated Balance Sheet Data:
 Cash, cash equivalents and marketable
  securities........................... $  6,988    $  6,988        $36,348
 Working capital.......................    5,051       5,051         34,411
 Total assets..........................    9,315       9,315         38,675
 Current portion of long-term debt.....      289         289            289
 Long-term debt less current portion...    2,189       2,189          2,189
 Redeemable convertible preferred
  stock................................   41,139         --             --
 Deficit accumulated during development
  stage................................  (39,648)    (39,648)       (39,648)
 Total stockholders' equity (deficit)..  (36,245)      4,894         34,254
</TABLE>
-------
(1) Computed as described in note 3(n) of notes to Consolidated Financial
    Statements.
   
(2) Presented on a pro forma basis to give effect to the automatic conversion,
    upon the closing of this offering, of all outstanding shares of existing
    Preferred Stock into shares of common stock.     
   
(3) As adjusted to reflect the sale of 2,500,000 shares of common stock offered
    by Phytera at an assumed initial public offering price of $13.00 per share
    (the mid-point of the expected range) and the application of the estimated
    net proceeds therefrom, after deducting the Underwriting discounts and
    commissions and estimated offering expenses payable by Phytera. Includes
    the exercise of outstanding warrants to purchase shares of common stock at
    $0.02 per share prior to the closing of this offering. See "Use of
    Proceeds," "Capitalization" and "Description of Capital Stock."     
Please Note: The currency exchange rate between ECUs and dollars at September
  30, 1998 was 1.1790 ECUs to $1.00.
 
                                       7
<PAGE>
 
                                  RISK FACTORS
 
  An investment in the shares of common stock will be subject to a high degree
of financial risk. In deciding whether to invest, prospective investors should
consider carefully the following risk factors as well as the other information
in this document. The list of risks set out below may not be exhaustive.
 
  It is especially important to keep these risk factors in mind when reading
forward-looking statements. These are statements that relate to future periods
and include statements about our lead structure and candidate drug discovery
efforts, product development and receipt of regulatory approvals. Generally,
the words "anticipates," "expects," "intends," "seeks," "plans" and similar
expressions identify such forward-looking statements. Forward-looking
statements involve risks and uncertainties, and our actual results could differ
significantly from the results discussed in the forward-looking statements.
 
We Are Uncertain of Our Future Profitability
 
  We are not able to predict when, or if, we will become profitable, nor are we
able to predict whether such profitability will be sustained if it is achieved.
We have never made a profit in any fiscal period and, as of September 30, 1998,
have an accumulated deficit of approximately $39.6 million. We had a net loss
in 1996 of $8.3 million, a net loss in 1997 of $9.8 million, and a net loss for
the nine months ended September 30, 1998 of $6.6 million. In addition, we
expect to incur operating losses over the next several years. To date, our only
sources of revenue have been up-front payments and research and development
funding from our corporate partners. For the foreseeable future, we expect that
our level of revenues and operating results will depend upon our ability to
enter into new partnerships while maintaining existing partnerships. We have
not received any revenues from the discovery, development or sale of a
commercial product and we may not realize any such revenues in the future. See
"Selected Consolidated Financial Data" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
 
We May Be Unable to Discover Drugs or Develop Products
 
  We may fail to discover lead structures or develop products. To date, we have
identified several lead structures and are developing one candidate drug, but
we have not entered into or completed clinical trials, or obtained regulatory
approval for or marketed any product. See "Business--Phytera's Combinatorial
Drug Discovery Program."
 
  We may fail to discover lead structures from natural product sources for many
reasons, including our inability to:
 
  . source the natural species;
 
  . gain access to their chemistry;
 
  . effectively screen and isolate and identify active chemical compounds.
 
  After discovery, our product development efforts may fail for many reasons,
including:
 
  . we fail to develop lead structures into candidate drugs;
 
  . the candidate drug or potential product fails in preclinical studies;
 
  . a potential product is not shown to be safe and effective in clinical
    studies;
 
  . required regulatory approvals are not obtained;
 
  . a potential product cannot be produced in commercial quantities at an
    acceptable cost; or
 
  . a product does not gain market acceptance.
 
Our Success Is Highly Dependent on Our Corporate Partnerships
 
  Our revenue stream and our strategy for identifying and developing lead
structures and candidate drugs are dependent on our entering into partnerships
with third parties. We may not be able to establish such corporate
partnerships, and we cannot guarantee that such partnerships will be
established on commercially acceptable terms. Our current or future corporate
partnerships may not ultimately be successful. Each of our existing partnership
agreements has an initial term of three years or less. Our partners could
terminate these agreements or these agreements could expire before any related
lead structures are identified or any related candidate drugs are developed.
The termination or expiration of any or all of these agreements could have a
material adverse effect on our business.
 
                                       8
<PAGE>
 
   
  Much of the revenue that we may receive under these partnerships depends upon
our partners' successful development and commercial introduction of new
products derived from our chemical diversity libraries or pharmaceutical
screens. Our partners may develop alternative technologies or products outside
of their partnerships with us, and these technologies or products may be used
to develop treatments for the diseases targeted by our partnerships. This could
have a material adverse effect on our business. See "--We May Be Unable to
Discover Drugs or Develop Products" and "Business--Corporate Partnerships."
       
We Face Uncertainty in Raising Additional Funds Necessary to Fund Our
Operations     
   
  We may be required to repeatedly raise additional capital to fund our
operations. Capital may be raised through public or private equity financings,
partnerships, debt financings, bank borrowings, or other sources. Additional
funding may not be available on favorable terms or at all. Our capital
requirements will depend upon numerous factors, including the following:     
 
  . the establishment of additional partnerships;
 
  . the development of competing technologies or products;
 
  . changing market conditions;
 
  . the cost of protecting our intellectual property rights;
 
  . the purchase of capital equipment;
 
  . the progress of our drug discovery and development programs;
 
  . the progress of our partnerships and receipt of any option/license,
    milestone and royalty payments resulting from those partnerships; and
 
  . in-licensing and acquisition opportunities.
 
  If adequate funds are not otherwise available, we may be required to curtail
operations significantly. To obtain additional funding, we may need to enter
into arrangements that require us to relinquish rights to certain technologies,
candidate drugs, products and/or potential markets. To the extent that
additional capital is raised through the sale of equity, or securities
convertible into equity, you may experience dilution of your proportionate
ownership in Phytera. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources."
   
Our Business May Fail Due to Intense Competition in Our Industry     
 
  Our business may fail because we face intense competition from major
pharmaceutical companies and specialized biotechnology companies providing
chemical diversity libraries, pharmaceutical screening systems, combinatorial
chemistry technologies and other expertise. In addition, in pursuing our
internal drug discovery program, we compete against pharmaceutical and
biotechnology companies developing drugs against infectious diseases, and our
partners face similar competition in the respective markets for which they are
developing drugs. Many of these competitors have greater financial and human
resources and more experience in research and development than we have.
Competitors that identify lead structures, develop candidate drugs, complete
clinical trials, obtain regulatory approvals, and begin commercial sales of
their products before us will enjoy a significant competitive advantage. We
anticipate that we will face increased competition in the future as new
companies enter the market and alternative technologies become available. See
"Business--Competition."
   
If We Fail to Obtain a License for Marinovir, We Will Be Unable to Continue its
Development     
   
  We must negotiate an exclusive license to certain patent rights in order to
commercialize marinovir. Pursuant to an exclusive option, we are currently
negotiating with an academic institution to determine the terms of this
license. The proposed license would cover an issued US composition of matter
patent on marinovir and a use patent covering its anti-inflammatory properties
and any counterparts issued outside the US. While we believe that we will
obtain a license on terms consistent with pharmaceutical industry standards, we
cannot guarantee that we will obtain the license on commercially acceptable
terms or at all. See "Business--Products Under Development" and "Business--
Patents and Proprietary Rights."     
 
                                       9
<PAGE>
 
We Depend on Patents and Proprietary Rights that May Fail to Protect Our
Business
   
  Our success will depend, in large part, on our ability to obtain and maintain
patent or other proprietary protection for our technologies, products, and
processes, and our ability to operate without infringing the proprietary rights
of other parties. We may not be able to obtain patent protection for the
composition of matter of discovered compounds, processes developed by our
employees, or uses of compounds discovered through our technology. Legal
standards relating to the validity of patents covering pharmaceutical and
biotechnological inventions and the scope of claims made under these patents
are still developing. There is no consistent policy regarding the breadth of
claims allowed in biotechnology patents. The patent position of a biotechnology
firm is highly uncertain and involves complex legal and factual questions.     
 
  We have been issued three patents and currently have eight patent
applications pending in the US and/or Denmark, with counterparts in several
other countries. We may not receive any issued patents based on currently
pending or any future applications. Any issued patents may not contain claims
sufficiently broad to protect against competitors with similar technology. In
addition, our patents, our partners' patents, and those patents for which we
have license rights may be challenged, narrowed, invalidated or circumvented.
Furthermore, rights granted under patents may not provide us with any
competitive advantage.
 
  We may have to initiate litigation to enforce our patent and license rights.
If our competitors file patent applications that claim technology also claimed
by us, we may have to participate in interference or opposition proceedings to
determine the priority of invention. An adverse outcome could subject us to
significant liabilities to third parties and require us to cease using the
technology or to license the disputed rights from third parties. We may not be
able to obtain any required licenses on commercially acceptable terms or at
all.
 
  The cost to us of any litigation or proceeding relating to patent rights,
even if resolved in our favor, could be substantial. Some of our competitors
may be able to sustain the costs of complex patent litigation more effectively
than we can because of their substantially greater resources. Uncertainties
resulting from the initiation and continuation of any pending patent or related
litigation could have a material adverse effect on our ability to compete in
the marketplace.
   
  We also rely on certain proprietary trade secrets and know-how that are not
patentable. We have taken measures to protect our unpatented trade secrets and
know-how, including the use of confidentiality agreements with our employees,
consultants, and certain contractors. It is possible that the agreements may be
breached, that we would have inadequate remedies for any breach, or that our
trade secrets will otherwise become known or be independently developed or
discovered by competitors. See "Business--Patents and Proprietary Rights."     
   
Our Libraries are Vulnerable to Loss which Would Have a Material Adverse Effect
on Our Business     
   
  Our chemical diversity libraries, cell cultures, cell culture extracts and
chemical compound libraries are critical assets. If the libraries are damaged
or destroyed by any event or series of events, such as a major fire,
earthquake, contamination or other casualty, it could have a material adverse
effect on our business, financial condition and results of operations. Due to
the nature of this risk, we have not been able to obtain adequate casualty
insurance against a loss of this type on commercially reasonable terms. We
believe appropriate loss control measures can provide protection against a
casualty, but to date we have not been able to fully implement these measures.
We intend to implement these loss control measures as quickly as feasible, but
our chemical diversity libraries, cell cultures, cell culture extracts and
chemical compound libraries will always be subject to some degree of
vulnerability. See "Business--Phytera's Combinatorial Drug Discovery Program."
    
We May Not Be Able to Obtain or Maintain Needed Sourcing Arrangements
 
  We may not be able to maintain existing sourcing arrangements or establish
any new arrangements that may be required to support the production of chemical
diversity libraries. We rely on such arrangements with botanical gardens,
countries rich in biodiversity, plant and marine research institutions, and
commercial seed companies to provide us with access to the natural species
required for our programs. Sourcing arrangements can be difficult and time-
consuming to establish and, once established, can be affected by changing
commercial, political and environmental circumstances.
   
  The 1992 Convention on Biological Diversity provides that each nation has a
sovereign right over its genetic resources. The Convention has been ratified by
a number of countries with significant biodiversity. Our     
 
                                       10
<PAGE>
 
policy is to comply with the terms of the Convention in sourcing plant
materials or marine microorganisms, even where the source country is not a
Convention signatory. While we believe that the Convention successfully
addresses many of the issues that arise in the area of biodiversity sourcing,
many of the Convention's signatories have not yet adopted mechanisms to
implement its provisions. This has added to the complexity of negotiating
sourcing agreements. We may not be able to negotiate such agreements on
commercially reasonable terms or at all. If we fail to successfully negotiate
such sourcing agreements, it could have a material adverse effect on our
sourcing strategy and on our ability to achieve our business objectives. See
"Business--Biodiversity Sourcing Agreements."
 
Uncertain Pharmaceutical Pricing Environment May Impact Our Business
   
  Our ultimate ability to commercialize any products that we or our partners
develop depends on the extent to which reimbursements to patients for the cost
of such products and related treatments will be available from government
health administration authorities, private health insurance providers, and
other organizations. It is uncertain whether third party payers will reimburse
patients for newly approved health care products or will do so at a level that
will enable us to obtain a satisfactory price for our products. Healthcare
reform is an area of increasing attention and is a priority of many government
officials. Any such reform measures, if adopted, could adversely affect the
pricing of therapeutic or diagnostic products in the US, the European Union,
known as the EU, or elsewhere and the amount of reimbursement available from
governmental agencies or third party insurers. We cannot predict the effect of
such measures upon our business.     
 
Qualified Managerial and Scientific Personnel Are Scarce in Our Industry
 
  We are highly dependent on the principal members of our scientific and
management staff. Our success will depend in part on our ability to identify,
attract and retain qualified managerial and scientific personnel. There is
intense competition for such personnel. We may not be able to continue to
attract and retain personnel with the advanced technical qualifications or
managerial expertise necessary for the development of our business. If we fail
to attract and retain key personnel, it could have a material adverse effect on
our business, financial condition and results of operations. See "Business--
Organization."
   
Concentration of Control of Our Stock Could Lead to Failure to Maximize Stock
Price     
   
  Upon completion of this offering (based on January 31, 1999 share numbers),
our significant stockholders, executive officers, Directors, and affiliated
entities together will beneficially own approximately 35.30% of the outstanding
shares of common stock (33.81% if the underwriters' over-allotment option is
exercised in full). This assumes the conversion of the Series E Convertible
Preferred Stock into an aggregate of 722,746 shares of common stock (assuming
the closing of this offering on February 8, 1999 at a public offering price of
$13.00 per share (the mid-point of the expected range)), the exercise of
warrants to purchase 2,170 shares of common stock at $0.02 per share and the
exercise of an aggregate of an additional 237,645 then exercisable options or
warrants held by our significant stockholders, executive officers, Directors
and affiliated entities. As a result, these stockholders, acting together, will
be able to influence significantly and possibly control most matters requiring
stockholder approval. This concentration of ownership may have the effect of
delaying or preventing a change in control of Phytera, including transactions
in which stockholders might otherwise receive a premium for their shares over
then current market prices. See "Principal Stockholders" and "Description of
Capital Stock."     
 
Series E Convertible Preferred Stock Conversion Rate Provision Could Have a
Dilutive Effect
   
  For the purposes of this prospectus, we have assumed that all outstanding
existing Preferred Stock other than Series E Convertible Preferred Stock will
convert to common stock at the rate of 0.654 for one. The outstanding shares of
Series E Convertible Preferred Stock have a special conversion rate adjustment
that is triggered by the timing and pricing of our initial public offering. The
Series E Convertible Preferred Stock would convert to common stock immediately
prior to the closing of this offering at the rate of 0.654 for one only if this
offering is closed on or before June 25, 1999, and the price per share in this
offering is not less than the "Minimum Price" which, as of November 30, 1998,
was $16.94. The Minimum Price increases, up to a maximum of $19.11, over the
period ending June 25, 1999. If this offering is closed after June 25, 1999, or
if the price per share in this offering is less than the Minimum Price, more
than one share of common stock will be issued upon conversion of each share of
Series E Convertible Preferred Stock. The information presented in this
Prospectus assumes that this offering will close on or prior to February 8,
1999 at a per share price of $13.00 (the mid-point of the expected range). This
price is below the Minimum Price for that date and would result in an
additional 191,315 shares of common stock becoming issuable upon conversion of
the Series E Convertible Preferred Stock. The closing of this offering on a
date later than February 8, 1999 or at a per share     
 
                                       11
<PAGE>
 
price below $13.00 would result in a greater number of shares outstanding at
the time of the closing of this offering. See "--Shares Eligible for Future
Sale Could Have an Adverse Effect on Market Price," "Capitalization,"
"Description of Capital Stock" and "Dilution."
 
Shares Eligible for Future Sale Could Have an Adverse Effect on Market Price
   
  Future sales of common stock in the public market could adversely affect the
stock's market price. Upon completion of this offering there will be 8,233,750
shares of common stock outstanding, assuming no currently outstanding options
or warrants are exercised (other than warrants to purchase 68,995 shares of
common stock with an exercise price of $0.02 per share that otherwise expire
upon the closing of this offering) and that the Series E Convertible Preferred
Stock converts at the rate stated in the above paragraph. The 2,500,000 shares
sold in this offering (plus any additional shares sold upon exercise of the
underwriters' over-allotment options) will be freely transferable.     
   
  The 5,733,750 shares of common stock expected to be outstanding prior to this
offering will, subject to certain agreements described below, be eligible for
immediate resale in Denmark and other member states of the EU. In the US, these
resales will also be subject to Rule 144 under the Securities Act. Certain of
our stockholders, Directors and employees, holding (on an as-converted basis)
in the aggregate approximately 4,948,819 shares of common stock (plus
approximately 223,878 shares issuable upon exercise of warrants exercisable at
$0.02 and vested options), have agreed, subject to certain limited exceptions,
not to sell or otherwise dispose of any of their shares for a period of 180
days after the date of this Prospectus. The holders of an additional 763,349
shares of common stock are subject to agreements not to sell or otherwise
dispose of any of their shares for a period of 90 days after the effectiveness
of the offering. See "Shares Eligible for Future Sale" and "Underwriting."     
   
Our Common Stock May Have a Volatile Public Trading Price and Low Trading
Volume     
   
  Prior to this offering, there has been no public market for the common stock.
An active public market for the common stock may not develop or be sustained
after the offering. We and the underwriters will, through negotiations,
determine the initial public offering price. The initial public offering price
is not necessarily indicative of the market price at which the common stock
will trade after this offering. The market prices for securities of companies
comparable to us have been highly volatile and the market has experienced
significant price and volume fluctuations that are unrelated to the operating
performance of the individual companies. Many factors may have a significant
adverse effect on the market price of the common stock, including:     
 
  . announcements of technological innovations or new commercial products by
    us or our competitors;
 
  . developments concerning proprietary rights, including patent and
    litigation matters;
 
  . publicity regarding actual or potential results with respect to products
    or compounds under development by us or our partners;
 
  . unexpected terminations of partnerships;
 
  . regulatory developments in the US, the EU and its member states, and
    other countries;
 
  . general market conditions; and
 
  . quarterly fluctuations in our revenues and other financial results.
 
Anti-Takeover Provisions in Our Charter and By-laws and Delaware Law May Limit
Stock Price
 
  Our Certificate of Incorporation, certain provisions of our By-laws and
certain provisions of Delaware law could delay or make more difficult a merger,
tender offer or proxy contest involving us. These provisions may have the
effect of delaying or preventing a change of control without action by the
stockholders and, therefore, could adversely affect the price of the common
stock. See "Management," "Description of Capital Stock--Preferred Stock" and
"Description of Capital Stock--Anti-Takeover Measures."
   
Investors Will Pay More Than Net Book Value Per Share     
   
  Investors in this offering will experience immediate and substantial dilution
in the value of their investment. This dilution will equal the difference
between the initial public offering price and the per share net book value of
Phytera immediately after this offering. Investors will experience additional
dilution upon the exercise of outstanding options and warrants. Furthermore,
owners of common stock do not have preferred subscription rights and we do not
anticipate that they will be accorded such rights in the future. See "Dilution"
and "Shares Eligible for Future Sale."     
 
                                       12
<PAGE>
 
Year 2000 Issues Could Cause Interruption or Failure of Our Computer Systems
 
  We use a significant number of computer systems and software programs in our
operations, including applications used in support of research and development
activities, accounting, and various administrative functions. Although we
believe that our internal systems and software applications contain source code
that is able to interpret appropriately the dates following December 31, 1999,
our failure to make or obtain necessary modifications to our systems and
software could result in systems interruptions or failures that could have a
material adverse effect on our business. We do not anticipate that we will
incur material expenses to make our systems Year 2000 compliant. Unanticipated
costs necessary to avoid potential systems interruptions could exceed our
present expectations and consequently have a material adverse effect on our
business. In addition, if our key supply and service providers fail to make
their respective computer software programs and operating systems Year 2000
compliant, it could have a material adverse effect on our business. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Year 2000."
 
                                       13
<PAGE>
 
                                USE OF PROCEEDS
   
  The net proceeds to be received by Phytera from the sale of the common stock
being offered are estimated to be $29,360,000, ($33,893,750 if the
underwriters' over-allotment options is exercised in full), based on an assumed
initial public offering price of $13.00 per share (the mid-point of the
expected range) and after deducting underwriting discounts and commissions and
estimated offering expenses payable by Phytera.     
   
  Phytera intends to use the net proceeds of this offering as follows:
$20,000,000 for the continued development and expansion of its Combinatorial
Drug Discovery Program, $6,000,000 for clinical development, $816,000 for
repayment of debt due upon the closing of this offering and the remainder for
general corporate purposes. Such general corporate purposes may include
acquisitions of other businesses, technologies or product rights. The amount
and timing of Phytera's actual expenditures will depend upon a number of
factors, including Phytera's ability to enter into additional partnership or
licensing arrangements, as well as the timing of and terms governing such
arrangements. In addition, Phytera's research and development expenditures will
vary with the progress of programs and as a result of variability in funding
from its partners. Phytera's management will have broad discretion to allocate
proceeds of this offering to uses that it believes are appropriate.     
   
  Phytera currently believes the net proceeds of the offering, together with
its existing cash, cash equivalents, short-term investments and cash generated
from operations and research funding from corporate partners, will enable it to
maintain its current and planned operations until December 31, 2000. See "Risk
Factors--We Will Need to Raise Additional Funds" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Liquidity and
Capital Resources."     
   
  Pending such uses, Phytera intends to invest the net proceeds of this
offering primarily in interest-bearing investment-grade securities.     
 
                                DIVIDEND POLICY
   
  Phytera has never declared or paid any cash dividends on its common stock and
does not anticipate doing so in the foreseeable future. Phytera currently
intends to retain future earnings, if any, for the development of its
technologies and future products.     
 
                                       14
<PAGE>
 
                                 CAPITALIZATION
   
  The following table sets forth, as of September 30, 1998, (1) the actual
capitalization of Phytera, (2) the pro forma capitalization of Phytera after
giving effect to (a) the increase in the number of authorized shares of common
stock to 25,000,000 and the authorization of 1,000,000 shares of undesignated
Preferred Stock and (b) the conversion of all issued and outstanding existing
Preferred Stock into 4,949,056 shares of common stock and (3) the pro forma
capitalization as adjusted to reflect the sale of the 2,500,000 shares of
common stock offered hereby at an assumed initial public offering price of
$13.00 per share (the mid-point of the expected range) after deducting
underwriting discounts and commissions and estimated offering expenses and the
application of the estimated net proceeds therefrom of Phytera as set forth in
"Use of Proceeds" and the exercise of outstanding warrants to purchase 69,382
shares of common stock at $0.02 per share prior to the closing of this
offering. The data in this table excludes an aggregate of 958,092 shares of
common stock issuable upon exercise of stock options and warrants outstanding
as of September 30, 1998. This table should be read in conjunction with the
Consolidated Financial Statements of Phytera, notes to the Consolidated
Financial Statements and other financial information included elsewhere in this
prospectus.     
 
<TABLE>   
<CAPTION>
                                                     September 30, 1998
                                              ---------------------------------
                                                                   Pro Forma As
                                               Actual   Pro Forma    Adjusted
                                              --------  ---------- ------------
                                                       (in thousands)
<S>                                           <C>       <C>        <C>
Current portion of long-term debt............ $    289   $    289    $   289
                                              ========   ========    =======
Long-term debt, less current portion......... $  2,189   $  2,189    $ 1,373
                                              --------   --------    -------
Redeemable convertible preferred stock, par
 value $0.01 per share, 14,446,382 shares
 authorized and 7,274,833 issued and
 outstanding, actual; no shares authorized,
 issued or outstanding, pro forma and pro
 forma as adjusted...........................   41,139        --         --
                                              --------   --------    -------
Stockholders' equity (deficit):
  Preferred Stock, par value $0.01 per share,
   no shares authorized, issued or
   outstanding, actual; 1,000,000 shares
   authorized and none issued and
   outstanding, pro forma and pro forma as
   adjusted..................................      --         --         --
  Common stock, par value $0.01 per share,
   13,000,000 shares authorized and 709,949
   issued and outstanding actual; 25,000,000
   shares authorized and 5,659,005 shares
   issued and outstanding pro forma;
   8,228,387 shares issued and outstanding
   pro forma as adjusted.....................       11         57         82
  Additional paid-in capital.................    5,203     46,296     75,631
  Deficit accumulated during development
   stage.....................................  (39,648)   (39,648)   (39,648)
  Deferred compensation (1)..................   (1,811)    (1,811)    (1,811)
                                              --------   --------    -------
    Total stockholders' equity (deficit).....  (36,245)     4,894     34,254
                                              --------   --------    -------
    Total capitalization..................... $  7,083   $  7,083    $35,627
                                              ========   ========    =======
</TABLE>    
--------
          
(1) Deferred compensation is the aggregate difference between the deemed value
    of certain stock options and the exercise price of such stock options.
    These stock options were not exercisable by the holders on September 30,
    1998. A compensation expense will be recorded as the right to exercise
    these stock options vests with the holder in future periods.     
 
                                       15
<PAGE>
 
                                    DILUTION
   
  The pro forma net tangible book value of Phytera as of September 30, 1998 was
$4,894,000 or approximately $0.86 per share of common stock. Pro forma net
tangible book value per share represents the total tangible assets of Phytera,
less total liabilities, divided by 5,659,005 shares of common stock to be
outstanding after giving effect to the conversion of all outstanding shares of
existing Preferred Stock into 4,949,056 shares of common stock upon the closing
of this offering. Assuming the receipt by Phytera of the net proceeds from the
sale of the 2,500,000 shares of common stock offered hereby at an assumed
public offering price of $13.00 per share (the mid-point of the expected range)
and the exercise of outstanding warrants to purchase 69,382 shares of common
stock at $0.02 per share prior to the closing of this offering, the pro forma
net tangible book value of Phytera as of September 30, 1998 would have been
$34,254,000 or $4.16 per share. This represents an immediate increase in the
pro forma net tangible book value of $3.30 per share to existing stockholders
of Phytera and an immediate dilution of $8.84 per share to new investors
purchasing common stock in this offering. The following table illustrates the
per share dilution to be incurred by new investors:     
 
<TABLE>
   <S>                                                             <C>   <C>
   Assumed initial public offering price per share................       $13.00
     Pro forma net tangible book value per share before this
      offering.................................................... $0.86
     Increase per share attributable to new investors.............  3.30
                                                                   -----
   Pro forma net tangible book value per share after this
    offering......................................................         4.16
                                                                         ------
   Dilution per share to new investors............................       $ 8.84
                                                                         ======
</TABLE>
   
  The following table sets forth, as of September 30, 1998 (after giving effect
to the conversion of all outstanding shares of existing Preferred Stock into
4,949,056 shares of common stock and the exercise of outstanding warrants to
purchase 69,382 shares of common stock at $0.02 per share prior to the closing
of this offering and assuming the Series E Stock is convertible into an
aggregate of 722,746 shares of common stock (assuming the closing of this
offering on February 8, 1999 at a public offering price of $13.00 per share
(the mid-point of the expected range)), the differences between the existing
stockholders and the new investors with respect to the number of shares of
common stock acquired from Phytera, the total consideration paid and the
average price per share (assuming a public offering price of $13.00 per share):
    
<TABLE>
<CAPTION>
                             Shares Purchased  Total Consideration
                             ----------------- ------------------- Average Price
                              Number   Percent   Amount    Percent   Per Share
                             --------- ------- ----------- ------- -------------
<S>                          <C>       <C>     <C>         <C>     <C>
Existing stockholders....... 5,728,387    70%  $43,944,000    57%     $ 7.67
New investors............... 2,500,000    30%   32,500,000    43%     $13.00
                             ---------   ---   -----------   ---
  Total..................... 8,228,387   100%  $76,444,000   100%
                             =========   ===   ===========   ===
</TABLE>
   
  Total Consideration is the aggregate purchase price paid by existing
stockholders for previously issued shares and is calculated by totaling the
gross proceeds from previous sales of Phytera's stock. The above information
excludes, as of September 30, 1998, an aggregate of 958,092 shares of common
stock issuable upon exercise of stock options and warrants outstanding as of
September 30, 1998 with a weighted average exercise price of $1.90 per share.
To the extent that such options and warrants are exercised, there will be
further dilution to new investors. See "Description of Capital Stock."     
 
 
                                       16
<PAGE>
 
                      SELECTED CONSOLIDATED FINANCIAL DATA
   
  The selected consolidated balance sheet data set forth below, as of December
31, 1995, 1996 and 1997, and the consolidated statements of operations data for
each of the three years in the period ended December 31, 1997, are derived from
Phytera's Consolidated Financial Statements which have been audited by Arthur
Andersen LLP, independent public accountants, and which are included elsewhere
in this prospectus. The selected consolidated financial data as of December 31,
1993 and 1994 and for the years then ended are derived from Phytera's
Consolidated Financial Statements not included in this prospectus, all of which
have been audited by Arthur Andersen LLP, independent public accountants. The
selected financial data as of September 30, 1998 and for the nine months ended
September 30, 1997 and 1998 and for the period from inception (May 27, 1992) to
September 30, 1998 are derived from Phytera's unaudited Consolidated Financial
Statements which are included elsewhere in this prospectus and which include,
in the opinion of Phytera, all adjustments (consisting only of normal recurring
adjustments) that are necessary for a fair presentation of its financial
position and the results of its operations for those periods. Operating results
for the nine months ended September 30, 1998 are not necessarily indicative of
the results that may be expected for the fiscal year ending December 31, 1998.
The selected consolidated financial data should be read in conjunction with,
and are qualified by reference to "Management's Discussion and Analysis of
Financial Condition and Results of Operations," Phytera's Consolidated
Financial Statements and accompanying notes and the Report of Independent
Public Accountants included elsewhere in this prospectus.     
 
<TABLE>
<CAPTION>
                                                                         Nine Months     May 27, 1992
                                                                            Ended         (inception)
                                  Year Ended December 31,               September 30,       through
                          -------------------------------------------  ----------------  September 30,
                           1993     1994     1995     1996     1997     1997     1998        1998
                          -------  -------  -------  -------  -------  -------  -------  -------------
                                          (in thousands, except per share data)
<S>                       <C>      <C>      <C>      <C>      <C>      <C>      <C>      <C>
Consolidated Statement
 of Operations Data:
 Collaborative revenue..  $    68  $    34  $    50  $   247  $ 1,053  $   730  $ 1,100    $  2,552
 Operating expenses:
 Research and
  development...........    1,230    3,270    3,964    5,232    7,673    5,711    5,638      27,191
 General and
  administrative........      602    1,030    1,425    1,675    1,740    1,287    1,909       8,633
 Charge for acquired
  research and
  development...........      --       --       --     1,498    1,612    1,612      --        4,422
                          -------  -------  -------  -------  -------  -------  -------    --------
  Total operating
   expenses.............    1,832    4,300    5,389    8,405   11,025    8,610    7,547      40,246
                          -------  -------  -------  -------  -------  -------  -------    --------
 Loss from operations...   (1,764)  (4,266)  (5,339)  (8,158)  (9,972)  (7,880)  (6,447)    (37,694)
 Interest income
  (expense), net........     (125)     115     (106)     (30)     228      231       14         101
 Foreign currency
  translation gain
  (loss)................       13      (76)       6     (101)     (10)     (13)    (152)        (96)
                          -------  -------  -------  -------  -------  -------  -------    --------
 Net loss...............  $(1,876) $(4,227) $(5,439) $(8,289) $(9,754) $(7,662) $(6,585)   $(37,689)
                          =======  =======  =======  =======  =======  =======  =======    ========
 Historical basic and
  diluted net loss per
  share (1).............  $(10.78) $(16.32) $(15.43) $(19.99) $(19.53) $(15.59) $(12.47)
 Pro forma basic and
  diluted net loss per
  share (1).............                                      $(2.17)           $ (1.45)
 Shares used in
  computing historical
  basic and diluted net
  loss per share (1)....      175      260      353      435      521      512      594
 Shares used in
  computing pro forma
  basic and diluted net
  loss per share (1)....                                        4,693             5,122
</TABLE>
 
<TABLE>
<CAPTION>
                                        December 31,                       September 30, 1998
                         ----------------------------------------------  -----------------------
                          1993     1994      1995      1996      1997     Actual   Pro Forma (2)
                         -------  -------  --------  --------  --------  --------  -------------
                                                  (in thousands)
<S>                      <C>      <C>      <C>       <C>       <C>       <C>       <C>
Consolidated Balance
 Sheet Data:
 Cash, cash equivalents
  and marketable
  securities............ $ 8,107  $ 4,383  $    470  $ 10,117  $  3,792  $  6,988    $  6,988
 Working capital........   8,933    2,789      (797)    8,976     2,586     5,051       5,051
 Total assets...........   9,439    6,924     2,704    12,396     6,289     9,315       9,315
 Current portion of
  long-term debt........      19    1,092       825       301       300       289         289
 Long-term debt, less
  current portion.......     710      752       745     1,274     1,550     2,189       2,189
 Redeemable convertible
  preferred stock.......  11,863   11,879    11,894    30,945    34,186    41,139         --
 Deficit accumulated
  during development
  stage.................  (3,417)  (7,659)  (13,113)  (22,055)  (32,233)  (39,648)    (39,648)
 Deferred compensation..     --       --        --        --        --     (1,811)     (1,811)
 Stockholders' equity
  (deficit).............  (3,410)  (7,648)  (13,101)  (21,210)  (30,886)  (36,245)      4,894
</TABLE>
--------
(1) Computed as described in note 3(n) of notes to Consolidated Financial
    Statements.
   
(2) Presented on a pro forma basis to give effect to the automatic conversion,
    upon the closing of this offering, of all outstanding shares of the
    existing Preferred Stock into an aggregate of 4,949,056 shares of common
    stock.     
 
                                       17
<PAGE>
 
               MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                      CONDITION AND RESULTS OF OPERATIONS
 
Overview
   
  Phytera, Inc. was incorporated as a Delaware corporation on May 27, 1992.
Phytera is a development stage biopharmaceutical company focused on applying
its proprietary Combinatorial Drug Discovery Program to the identification and
optimization of new lead structures and candidate drugs for pharmaceutical
application. Phytera's operations have been funded primarily through the sale
of equity securities and revenues generated from research partnerships with
pharmaceutical and biotechnology companies. As of September 30, 1998, Phytera
has signed partnership agreements with Eli Lilly and Company, Chiron
Corporation, Tsumura & Co., NeuroSearch A/S, Galileo Laboratories, Inc. and
Nycomed Amersham plc. See "Business--Corporate Partnerships."     
   
  Phytera has not been profitable since its inception and has an accumulated
deficit of approximately $39,648,000 as of September 30, 1998. Losses have
resulted primarily from expenses related to research and development programs
focused on expanding Phytera's Combinatorial Drug Discovery Program, which
includes combinatorial biology, pharmaceutical screening, combinatorial
chemistry and preclinical development of a novel candidate drug. Phytera has
also incurred costs related to the administrative activities required to
support these research and development efforts. Phytera's ability to fund its
operations and achieve profitability is dependent on its near-term ability to
market its broad technology base to and enter into research partnerships with
pharmaceutical and biotechnology companies, and on the longer-term development
and commercialization of products derived from these partnerships and Phytera's
internal drug discovery programs.     
 
  Phytera has built and expanded its technology base via the acquisition of
three companies. Plant Science Limited, a UK-based plant cell culture company,
was acquired in September 1992 and is now a wholly-owned subsidiary, Phytera
Ltd. Neptune Pharmaceuticals, Inc., a US-based marine microbiology company, was
acquired in July 1996 and has been integrated into the operations of Phytera,
Inc. Auda Pharmaceuticals ApS, a Danish combinatorial chemistry company, was
acquired in March 1997 and is now a wholly-owned subsidiary, Phytera Symbion
ApS. Each of these transactions was accounted for as a purchase with
approximately $1,312,000, $1,498,000 and $1,612,000, respectively of the
purchase price charged to operations as the cost of acquired research and
development. The results of operations of each of the acquired companies are
included in the Consolidated Statements of Operations since the date of
acquisition.
   
  In addition to the above acquisitions, Phytera established Phytera A/S, a
wholly-owned Danish subsidiary, in February 1996 with an equity investment of
approximately $89,500 in order to expand Phytera's plant cell culture
capabilities. The results of operations of Phytera A/S are included in the
Consolidated Statements of Operations since its date of incorporation.     
   
  The Consolidated Financial Statements include the accounts of Phytera, Inc.
and its wholly-owned subsidiaries, Phytera Ltd., Phytera Symbion ApS and
Phytera A/S. For the remainder of this discussion Phytera, Inc. and its
subsidiaries together will be referred to as "Phytera."     
 
Results of Operations
 
 Nine Months Ended September 30, 1998 and 1997
   
  Revenues from research and development partnership agreements were $1,100,000
and $730,000 for the nine months ended September 30, 1998 and 1997,
respectively. For the nine months ended September 30, 1998, all of the revenue
recognized by Phytera was derived from its partnerships with Tsumura & Co.,
Chiron Corporation and Eli Lilly and Company. For the nine months ended
September 30, 1997, revenues were derived entirely from Phytera's partnership
with Tsumura & Co., as payment for access to Phytera's extract libraries and in
support of Phytera's research activities under the partnership. The results of
operations for the nine months ended September 30, 1998 do not reflect the full
impact of Phytera's partnerships with Lilly and Chiron, which are expected to
have a more substantial effect on revenues and expenses in future periods. See
"Business--Corporate Partnerships."     
   
  Research and development expenses decreased by 1% to $5,638,000 for the nine
months ended September 30, 1998 from $5,711,000 for the nine months ended
September 30, 1997, due to reduced outside research support for preclinical
development and decreased laboratory supplies expense in the US. These
decreases were partially offset by an increase in research and development
expenses by Phytera's Danish subsidiaries,     
 
                                       18
<PAGE>
 
reflecting a full nine months of operations in 1998 for Phytera Symbion ApS,
which was acquired in March 1997, and increased plant sourcing costs in support
of Phytera A/S' plant cell culture activity.
   
  General and administrative expenses increased by 48.3% to $1,909,000 for the
nine months ended September 30, 1998 from $1,287,000 for the nine months ended
September 30, 1997. This increase resulted from compensation expense
attributable to stock options granted, and executive incentive compensation
programs, and a full nine months of expenses related to Phytera Symbion ApS.
General and administrative expenses at Phytera Symbion ApS during this period
included salary related costs, travel and other costs associated with the
Managing Director of Phytera A/S and Phytera Symbion ApS who joined Phytera at
the time of the Auda acquisition.     
 
  Net interest income was $14,000 for the nine months ended September 30, 1998,
compared to $231,000 for the same period in 1997. Interest income in 1998
decreased as a result of a decreasing cash balance resulting from the use of
cash for operations, while interest expense for the nine months ended September
30, 1998 increased due to interest accrued for additional debt funding received
from VdkstFonden of Copenhagen, Denmark.
 
 Years Ended December 31, 1997, 1996 and 1995
   
  Phytera's collaborative revenues for the years ended December 31, 1997, 1996
and 1995 were $1,053,000, $247,000 and $50,000, respectively and were derived
from research and development partnership and marketing agreements. In 1997 and
1996, such revenues were derived entirely from the partnership with Tsumura &
Co., while revenue in 1995 was derived from the Nycomed Amersham plc research
partnership in the area of plant culture-derived enzymes. See "Business--
Corporate Partnerships."     
   
  Research and development expenses increased to $7,673,000 in 1997 from
$5,232,000 in 1996 and $3,964,000 in 1995, primarily as a result of the
expansion of Phytera's plant cell culture, marine microbiology, combinatorial
chemistry and general drug discovery capabilities. Subsequent to the
acquisition of Neptune Pharmaceuticals, Inc. in 1996, Phytera established a
research program focused on the sourcing, culturing and extraction of marine
microbes. Also in 1996, Phytera established Phytera A/S as a wholly-owned
subsidiary to conduct plant cell culture activities. Phytera acquired Auda
Pharmaceuticals ApS in March 1997 and research and development expenses in 1997
include costs associated with this operation through the end of the year. In
addition, research and development staff at Phytera's Worcester facility
increased by four people in 1996 compared to 1995 and by seven people in 1997
compared to 1996.     
 
  General and administrative expenses were $1,740,000, $1,675,000, and
$1,425,000 for 1997, 1996 and 1995, respectively. The increase in 1997 compared
to 1996 was approximately 3.8% and was primarily due to normal cost increases.
The increase in 1996 compared to 1995 was approximately 17.6% and related
principally to general and administrative expenses incurred as a result of the
establishment of Phytera A/S, and to increased costs at Phytera, Inc. related
to increased staff.
 
  Net interest income was $228,000 in 1997, compared to net interest expense of
$30,000 and $106,000 in 1996 and 1995, respectively. This increase in 1997
resulted from a larger cash balance available for investment during the year as
a result of the sale of Series D Convertible Preferred Stock that occurred in
late 1996.
 
Liquidity and Capital Resources
   
  Phytera has experienced net losses and negative cash flow from operations
each year since its inception and, as of September 30, 1998, had an accumulated
deficit of $39,648,000. Phytera has financed its operations primarily through
private equity financings. As of September 30, 1998, net proceeds from equity
financings were $39,044,000. Phytera received total research payments from its
corporate partnerships of $3,161,000 through September 30, 1998, of which
$2,552,000 has been recognized as collaborative revenue. $609,000 of the
research payments that have been received by Phytera has not been recognized as
revenue as of September 30, 1998. Phytera has entered into several loan
agreements to fund leasehold improvements, the acquisition of equipment, for
working capital purposes and the acquisition of Phytera Ltd.     
   
  In 1992, Phytera issued a promissory note in the principal amount of
(Pounds)480,000 (approximately $816,000 at the September 30, 1998 exchange
rate) note payable to the University of Sheffield, bearing interest at 10% per
annum, in connection with the acquisition of Phytera Ltd. The note will be
payable on the closing of this offering. Interest on the unpaid principal
balance is due each October 1.     
 
                                       19
<PAGE>
 
   
  In July 1994, Phytera entered into a $1,100,000 equipment line of credit with
a United States bank. Phytera borrowed the maximum amount through December 31,
1994, at which time the amount outstanding under the equipment line of credit
was converted into a promissory note. The note is payable in 48 equal monthly
installments, beginning in January 1995 and is scheduled to end in December
1998, bearing interest at the bank's prime rate (8.5% at September 30, 1998)
plus 2%. Borrowings under the note are secured by substantially all of
Phytera's assets. The note contains certain covenants, including minimum levels
of liquidity and net worth. Phytera was in compliance with all covenants at
September 30, 1998. As of September 30, 1998, $68,750 was outstanding under
this note.     
   
  In 1996, Phytera entered into an agreement with VdkstFonden to obtain funding
for Phytera's Danish subsidiaries. This agreement was originally focused on
providing partial funding for the development of Phytera A/S, but was recently
expanded to include Phytera Symbion ApS. Under the agreement, VdkstFonden
provides a research and development loan of approximately DKK 13.2 million
(approximately $2,087,000 at the September 30, 1998 exchange rate) over a three
year period to finance approximately 45% of the operations of both Phytera A/S
and Phytera Symbion ApS. The loan accrues interest at an annual interest rate
of 7.98% and will be repaid over a five year period beginning in April 1999.
The loan was granted subject to certain conditions, each of which has been met
by Phytera. The loan is secured by a guarantee from Phytera, Inc. and by way of
a pledge of certain rights in the projects funded by the loan. As of September
30, 1998, approximately DKK 8,546,000 (approximately $1,347,000 at the
September 30, 1998 exchange rate) has been received from VdkstFonden.     
   
  During the nine months ended September 30, 1998 and the years ended December
31, 1997, 1996 and 1995, Phytera made purchases of equipment and leasehold
improvements in the amounts of approximately $297,000, $913,000, $627,000 and
$150,000, respectively. In addition to the VdkstFonden loan, Phytera entered
into several loans and operating leases that provided aggregate financing of
DKK 2,800,000 (approximately $442,000 at the September 30, 1998 exchange rate)
to Phytera's Danish subsidiaries during 1996 and 1997 and the nine months ended
September 30, 1998.     
   
  In September 1998, Phytera entered into a $1,000,000 equipment line of credit
with a US finance company. This agreement provides for the funding of equipment
purchases made by Phytera through July 15, 1999. Separate loans are created
each time funding is provided, and each loan is to be repaid over 48 months
from the date of the funding with a final payment of 12.5% of the initial
principal amount. The repayment amount is based on a percentage of the
outstanding principal of the loan. The percentage rate can vary prior to each
funding, but is then fixed for the term of the specific loan created by the
specific funding event. There was no outstanding balance under this line of
credit at September 30, 1998.     
   
  Management estimates that the proceeds from this offering, along with
existing cash balances, amounts to be received under existing partnership
agreements and funds available under existing borrowing arrangements, will be
sufficient to fund operations until December 31, 2000. Phytera's cash
requirements may vary materially from those now planned, depending upon the
results of its research and development strategies, the ability of Phytera to
enter into any corporate partnerships, the results of research and development,
competitive and technological advances, in-licenses and acquisitions and other
factors. If Phytera experiences increased losses, it may have to seek
additional financing from public or private sale of its securities, including
equity securities.     
   
  There have been no material events or significant changes in the financial or
other conditions of Phytera since September 30, 1998.     
 
Tax Matters
   
  At December 31, 1997, Phytera had available net operating loss carryforwards
of approximately $25,200,000 for US federal income tax purposes, which expire
at various dates beginning in 2009. Phytera also has available US federal tax
credits of approximately $330,000 expiring through the year 2010. Phytera's
non-US subsidiaries have approximately $690,000 of available net operating loss
carryforwards for non-US income tax reporting purposes as of December 31, 1997.
Phytera has recorded a full valuation allowance against its deferred tax asset
due to uncertainties surrounding the realization of these assets.     
   
  The US Internal Revenue Code of 1986, as amended, referred to in this
prospectus as the Code, contains provisions that may limit the US net operating
loss and tax credit carryforwards available to be used in any given year upon
the occurrence of certain events, including changes in the ownership interests
of significant     
 
                                       20
<PAGE>
 
   
stockholders. In the event of a cumulative change in ownership in excess of 50%
over a three year period, the amount of the US net operating loss carryforwards
that Phytera can utilize in any one year may be limited. In the event of a
change in ownership, as defined, the annual limitation on the use of the
existing net operating loss carryforwards is equal to an amount determined by
multiplying the value of Phytera at the time of the ownership change by the US
federal applicable rate of interest as determined by the US Internal Revenue
Service.     
 
Year 2000
   
  Many currently installed computer systems and software applications are coded
to accept only two digit entries in the year entry of the date code field.
Beginning in the year 2000, these codes will need to accept four digit year
entries to distinguish 21st century dates from 20th century dates. Phytera has
completed a review of all of its microprocessor-based computer systems to
assess what steps, if any, are required to achieve full Year 2000 compliance.
Phytera relies upon microprocessor-based personal computers and commercially
available applications software. These technologies have been put into service
recently, and our review has confirmed that virtually all of Phytera's systems
are currently Year 2000 compliant. The small number of systems that are not yet
Year 2000 compliant are systems that are integral components of certain
laboratory instrumentation used by Phytera. Phytera is in the process of
replacing these systems. It does not anticipate that it will incur material
expenses or meaningful delays in making these systems Year 2000 compliant.     
   
  Phytera is not able to assess the Year 2000 readiness of its research
partners, or the potential impact, if any, on its research programs if a
research partner is not Year 2000 compliant. Phytera is currently discussing
Year 2000 readiness with its material supply and service vendors. To date,
those vendors that have been contacted have indicated that their hardware or
software are or will be Year 2000 compliant on a timely basis. However, Phytera
intends to continue to assess its exposure to Year 2000 noncompliance on the
part of any of its material vendors and there can be no assurance that their
systems will be Year 2000 compliant.     
   
  Phytera believes that Year 2000 issues will not pose significant operational
problems for its business. Therefore, Phytera does not have, and does not
intend to create, a contingency plan in the event Year 2000 compliance cannot
be achieved in a timely manner. See "Risk Factors--Year 2000 Issues Could Cause
Interruption or Failure of Our Computer Systems."     
       
                                       21
<PAGE>
 
                                    BUSINESS
 
Overview
   
  Phytera is an international biopharmaceutical company engaged in identifying
and optimizing novel chemical lead structures through its Combinatorial Drug
Discovery Program. Phytera conducts operations in the United States, Denmark,
and the United Kingdom. Phytera's Combinatorial Drug Discovery Program enhances
the pharmaceutical industry's ability to use nature as a source of chemical
diversity by applying proprietary combinatorial biology, pharmaceutical
screening and combinatorial chemistry techniques. Phytera uses combinatorial
biology to create novel chemical diversity libraries from two relatively
untapped natural resources, plant cells and marine microbes, that it grows and
manipulates in cell culture. The combinatorial manipulations substantially
increase the variety and novelty of chemical compounds produced in cell culture
beyond that found in the native specimen. Phytera has entered into partnerships
with Eli Lilly and Company, Chiron Corporation, Tsumura & Co., NeuroSearch A/S,
Gallileo Laboratories, Inc. and Nycomed Amersham plc. Together with these
partners, Phytera tests its chemical diversity libraries for therapeutic
utility in pharmaceutical screens for diseases such as fungal infections,
cancer, inflammation, allergy, asthma, depression, memory and attention deficit
disorders, diabetes, stroke and myocardial infarction. Phytera's internal drug
discovery efforts are focused on drug-resistant bacterial, fungal and viral
infections. In particular, Phytera has developed bacterial and fungal screens
in which Multiple Drug Resistance pumps ("MDR pumps") have been inactivated.
Phytera believes that these "MDR knockout-based" screens offer significant
advantages in discovering novel antibacterial and antifungal drugs. Phytera
uses proprietary combinatorial chemistry techniques to optimize lead structures
identified through screening into candidate drugs for further development.     
   
  Nature is a source of a substantial portion of new medicines, but a number of
factors has limited the systematic exploration of nature as a source of
chemical diversity. These factors include access to sufficient quantity of
novel source material, difficulty in reaccessing source material, limited and
fixed chemical diversity, chemistry which is not easily reproducible or
scalable, difficulties associated with screening complex extract mixtures and
limited ability to optimize natural product lead structures. Phytera's
Combinatorial Drug Discovery Program encompasses a number of technologies to
provide an integrated solution to these limitations.     
   
  Phytera's combinatorial biology program produces chemical diversity libraries
from plant cell cultures using its ExPAND(R) technology and from marine microbe
cultures using its (u)MARINE(R) technology. Phytera has established an extensive
network of species sourcing collaborations in order to access plants and marine
microorganisms for its combinatorial biology program. Its combinatorial biology
technologies facilitate access and reaccess to novel plant and marine microbial
source material. The chemical diversity of cell cultures is increased by
applying proprietary manipulations, such as genetic, hormonal, infection-
related, environmental or chemical treatments. The resulting chemical
expression states are highly reproducible, ensuring that increased quantities
of interesting chemical compounds can be produced to facilitate drug discovery
and development. To date, Phytera has produced over 60,000 high quality cell
culture extracts through its ENRICH(TM) extraction technology and a pilot
library of individual natural chemical compounds by applying its PINACLE(TM)
chemical isolation methodology.     
   
  Phytera is applying its proprietary MANIFOLD(TM) combinatorial chemistry
technologies to optimize lead structures and select additional candidate drugs
for preclinical and clinical development. MANIFOLD is particularly suited for
optimizing natural product lead structures, many of which are not amenable to
conventional combinatorial chemistry techniques. Phytera has produced one
candidate drug and several lead structures. Marinovir, Phytera's candidate drug
from a marine microbe, is aimed at treating herpes infections and is currently
scheduled to enter clinical studies in 1999.     
 
Corporate Strategy
   
  Phytera's objective is to be the leader in the application of combinatorial
drug discovery technology to the search for new medicines derived from nature.
To achieve this objective, Phytera will leverage its broad range of proprietary
technologies in the following ways:     
     
  . Capitalize on Revenue-Generating Partnerships. Phytera has established
    several revenue-generating partnerships, such as its antifungal alliance
    with Eli Lilly and Company, and is continuing to pursue additional such
    relationships. These revenue-generating partnerships provide Phytera with
    both     
 
                                       22
<PAGE>
 
      
   tear-term and potential longer-term revenues through up-front payments,
   option/license fees, research funding, milestone payments and royalties
   and provide its partners with access to Phytera's novel chemical diversity
   libraries, proprietary screens and other proprietary technologies and
   resources. See "--Corporate Partnerships."     
     
  . Capitalize on Joint Research and Development Partnerships with Retained
    Product Rights. Phytera retains substantial product rights under a number
    of joint research and development partnerships, such as its alliance with
    NeuroSearch A/S, and is continuing to pursue additional relationships of
    this type with other partners. These retained product rights partnerships
    combine Phytera's novel chemical diversity libraries and other
    proprietary resources with pharmaceutical screens developed by its
    partners. Lead structures and candidate drugs identified by the screening
    of Phytera's libraries are expected to be the focus of joint development
    and commercialization efforts. See "--Corporate Partnerships."     
     
  . Advance Phytera's Drug-Resistant Infectious Diseases Program. Phytera
    intends to continue its internal drug discovery efforts, with particular
    focus on the use of its proprietary screen portfolio for drug-resistant
    infectious diseases. Included in this portfolio are antibacterial screens
    based on Phytera's MDR knockout technology (a joint discovery between
    Phytera and an academic institution to which Phytera holds exclusive
    commercial rights) which offer advantages in screening for new drugs to
    treat resistant infections. Phytera is currently seeking to advance one
    preclinical candidate drug, marinovir, to the clinic and is currently
    optimizing several lead structures identified within the program. See "--
    Phytera's Resistant Infectious Diseases Screening Program" and "--Patents
    and Proprietary Rights."     
     
  . Broaden and Leverage Phytera's Technology Platform. Phytera believes its
    intellectual property position represents a substantial barrier to entry
    by competitors. Phytera intends to broaden and leverage this position
    through further internal innovation and in-licensing and acquisitions of
    new technologies and novel products. It is also pursuing application of
    its current technologies to other business areas, such as agriculture.
        
                                       23
<PAGE>
 
Nature as a Source of Chemical Diversity
 
  Historically, natural products have represented a major source of medicines
used to treat human disease and, together with medicinal synthetic chemistry,
continue to generate a substantial number of pharmaceuticals. Drugs can be
derived from natural sources either directly or, more commonly, indirectly.
Direct derivation occurs when the natural chemical compound is used as a
pharmaceutical, as in the case of Taxol(R), a cancer drug from the Pacific yew
tree. Indirect derivation occurs when a lead structure from a natural source is
used as a chemical basis or conceptual starting point for a drug analog and
optimization program that results in a commercial product. An example of this
is Zocor(R), a cholesterol-lowering drug derived from a fungal lead structure.
 
  A recent study from the US National Institutes of Health reported that
natural product-derived drugs accounted for 39% of all approvals by the US FDA
from 1983 to 1994 across all therapeutic categories. In the case of infectious
diseases, 56% of all FDA-approved drugs were derived from natural products.
Many of today's most commercially important drugs were derived from a natural
product starting point, as illustrated below.
 
              Derivation of Certain Commercially Significant Drugs
 
 
<TABLE>   
<CAPTION>
                 1997 Worldwide     Therapeutic
  Brand Name       Sales Rank        Indication          Natural Product Derivation
-----------------------------------------------------------------------------------
  <S>            <C>            <C>                     <C>
  Zocor(R)              1         High cholesterol      Fungal lead structure
  Vasotec(R)            4         Hypertension          Snake venom lead structure
  Zantac(R)             5         Ulcers                Based on histamine-derived
                                                        structure
  Augmentin(R)          9         Bacterial infection   Bacterial lead structure
                                                        and fungal product
                                                        combination
  Pravachol(R)         13         High cholesterol      Fungal lead structure
  Mevalotin(R)         14         High cholesterol      Fungal lead structure
  Biaxin(R)            15         Bacterial infection   Bacterial lead structure
  Sandimmune(R)        16         Transplant rejection  Fungal product
  Taxol(R)             30         Cancer                Plant product
</TABLE>    
          
  As the table above illustrates, two natural product sources, terrestrial
fungi and bacteria, have played prominent roles in the development of new drugs
in the recent past. These successes have been driven by decades of extensive
evaluation of these sources by the pharmaceutical industry. However, continued
study of terrestrial microbes is increasingly resulting in the rediscovery of
the same natural chemistry. Thus, Phytera believes that terrestrial microbes
have diminished value as potential sources of new chemical diversity.     
   
  Plants and marine microorganisms represent two relatively untapped natural
sources of novel chemicals that may be useful in the discovery of new drugs.
According to scientific and other literature, only a small percentage of the
estimated 250,000 species of plants has been evaluated as a source of new
pharmaceuticals. Phytera believes that the pharmaceutical industry's evaluation
of plants for drug discovery has been limited by the use of traditional
sourcing approaches. These approaches require large amounts of plant material
so that species that are available only in small quantities or are subject to
conservation efforts cannot be readily sampled. An additional problem is the
difficulty of reaccessing the source material to obtain greater quantities for
further discovery and development once the plant extract is found to contain a
pharmaceutically active chemical compound. Reaccessing the source material can
be logistically difficult and time consuming, and it is often not possible to
successfully reaccess the species, or its pharmaceutically important chemistry.
    
                                       24
<PAGE>
 
  Marine microorganisms are a genetically and chemically distinct class of
organisms that are only just beginning to be examined as a source of lead
structures or candidate drugs. Marine microorganisms have never been
systematically sourced by the pharmaceutical industry. In the cases where
marine microorganisms have been sourced, both their isolation and subsequent
culture have been constrained by the failure to recognize their dependence on
specific marine nutrients for growth.
   
  The most significant limitation in traditional natural product drug discovery
is the inability to access much of the potential chemical diversity of a
sourced species. Traditional natural product drug discovery technologies sample
a species from a single environment and therefore access only a minor portion
of the chemical potential of that species. Changing environmental conditions
cause a plant or marine microbe to express different chemical compounds. In
order to fully access the chemical potential of a sourced species, living
tissue or cells from the sample must be exposed to a wide array of
environmental and other conditions. Phytera believes this is best accomplished
under the controlled laboratory conditions of cell culture by applying certain
technologies collectively termed "combinatorial biology".     
 
  In addition, pharmaceutical screening of complex extract mixtures
traditionally derived from natural products requires difficult chemical
isolation and identification steps after screening. The presence of nuisance
and dilutive chemical compounds in such mixtures creates problems for the
screening process and can also hinder the isolation and identification process.
Finally, active compounds discovered by screening of natural product extracts
are often not suitable drug candidates themselves. Rather, they are of value as
lead structures which can then be chemically modified to improve potency,
selectivity or physical and chemical characteristics. Such optimization of
natural product-derived lead structures has relied on traditional and
relatively slow medicinal chemistry approaches as many of the methods used in
conventional combinatorial chemistry are not easily applicable to such
situations.
 
Combinatorial Biology
 
  Historically, the term combinatorial biology has referred to the manipulation
of cells using recombinant DNA techniques, which involve the insertion of
genetic material from one type of organism into the genome of a second
organism. Such gene manipulation can enable the latter organism to produce
different chemistry than was possible in its original state. A more expansive
definition of combinatorial biology also encompasses the manipulation of the
genetic and enzymatic machinery of an organism. Such manipulation may include
chemical and environmental stresses, infection-related or hormonal
perturbations, the introduction of substances that chemically change the
organism's DNA, and various combinations of the foregoing. Applied in this way,
combinatorial biology allows cells to produce an extremely wide variety of
chemical compounds, many of which may not be produced by the organism in its
natural state. As such, combinatorial biology is an attractive method for
gaining access to a far greater portion of a species' chemical diversity than
is currently possible using traditional approaches.
 
                                       25
<PAGE>
 
Phytera's Combinatorial Drug Discovery Program
 
  The worldwide pharmaceutical industry depends upon the continuing discovery
of new lead structures and candidate drugs to maintain its drug development
pipeline. This requires, among other things:
 
  . multiple sources of novel chemicals;
 
  . innovative means of screening those chemicals for pharmaceutical
    activity; and
 
  . efficient methods of optimizing the chemical structures of
    pharmaceutically active compounds (lead structures) for preclinical and
    clinical development.
   
  Phytera's Combinatorial Drug Discovery Program integrates these three
elements by combining combinatorial biology, pharmaceutical screening and
combinatorial chemistry to exploit the diversity of chemistry from plants and
marine microorganisms more effectively than traditional approaches. Phytera
believes that this program addresses many of the significant problems and
limitations of traditional natural product drug discovery programs.     
 
         Phytera's Solutions to Natural Product Drug Discovery Problems
 
 
<TABLE>   
<CAPTION>
                                               Phytera Solution
          Problem                         Approach                   Technology
-----------------------------------------------------------------------------------
  <S>                       <C>                                  <C>
  Access to "novel" source  Cell culture technology requires     ExPAND
  material                  only a seed or leaf/stem clipping,
                            permitting access to those plant
                            species that are available in
                            limited quantity
                            Isolation and cell culture           (u)MARINE
                            technology permits access to marine
                            microorganisms not previously
                            isolated
  Difficulty in             Cell culture storage technology      ExPAND and (u)MARINE
  reaccessing source        eliminates need to reaccess source
  material                  material
  Limited and fixed         Combinatorial biology expands        ExPAND and (u)MARINE
  chemical diversity        chemical diversity in cell culture
  Chemistry not easily      Cell culture results in reproducible ExPAND and (u)MARINE
  reproducible or scalable  and scalable chemistry
  Difficulties associated   Extraction technology creates        ENRICH
  with screening of         refined cell culture extracts for
  complex extract mixtures  screening
                            Individual chemical compounds are    PINACLE
                            isolated prior to screening
 
  Limited optimization of   Proprietary combinatorial chemistry  MANIFOLD
  natural product lead      techniques are used to optimize
  structures                natural product lead structures
</TABLE>    
   
  Phytera's technological acronyms are:     
 
  ExPAND Expanded Phytochemistry Aimed at Novel Discovery
  (u)MARINE Broad access to the chemical diversity of MARINE micro(u)organisms
  ENRICH ENRICHed chemical extraction of natural species
  PINACLE Pre-isolated Individual NAtural Chemical Library Elements
  MANIFOLD Multiple Analoging of Natural Isolates For Optimal Lead
  Development
 
                                       26
<PAGE>
 
  The following diagram illustrates the various elements of Phytera's
Combinatorial Drug Discovery Program:
 
                PHYTERA'S COMBINATORIAL DRUG DISCOVERY PROGRAM

                ----------------------------------------------

                         WORLDWIDE SOURCING OF DIVERSE
                          PLANT AND MARINE SPECIMENS 

        . Botanical gardens              . Commercial seed suppliers
        . Biodiversity-rich countries    . Marine sourcing expeditions

                ----------------------------------------------
                                       |
                                      \|/
                ----------------------------------------------

                     GENERATE CHEMICAL DIVERSITY LIBRARIES

         . Establish and manipulate cell cultures using combinatorial biology
         . EXPAND (plant) and (mu)MARINE (marine microorganisms)
         . Produce extracts using ENRICH
         . Isolate individual chemical compounds using PINACLE

                ----------------------------------------------
                                       |
                                      \|/
                ----------------------------------------------

                           PHARMACEUTICAL SCREENING

         . Phytera's resistant infectious diseases screening program
           - bacterial, fungal, viral and MDR-based screens

         . Partnership programs
           - screens for cancer, inflammation, allergy, asthma, stroke,
             myocardial infarction, diabetes, memory and attention deficit
             disorders and depression

                ----------------------------------------------
                                       |
                                      \|/
                ----------------------------------------------

                         CANDIDATE DRUG IDENTIFICATION

         . Isolate and identify lead structures
         . Optimize lead structures using combinatorial chemistry (MANIFOLD)

                ----------------------------------------------
                                       |
                                      \|/
                ----------------------------------------------

                          PHARMACEUTICAL DEVELOPMENT

         . Preclinical and future clinical development of candidate drugs

                ----------------------------------------------
 
                                       27
<PAGE>
 
Sourcing of Plants and Marine Microorganisms
   
  Phytera has established worldwide sourcing programs for plant and marine
specimens. Phytera believes that its sourcing arrangements, combined with its
proprietary technology for establishing plant and marine microbial cell
cultures, represent an important strategic asset and a substantial barrier to
entry for potential competitors. Further, Phytera believes that its reputation
and proprietary technologies provide it with important advantages in forming
additional sourcing collaborations. See "--Biodiversity Sourcing Agreements."
    
Combinatorial Biology Program
   
  Phytera uses combinatorial biology to generate unique access to the chemistry
inherent in plant and marine samples obtained under its extensive sourcing
arrangements. Phytera's combinatorial biology program involves the manipulation
of the genetic and enzymatic machinery of an organism by exposing it to
chemical and environmental stresses, infection-related or hormonal
perturbations or the introduction of substances that chemically change the
organism's DNA and, various combinations of the foregoing. This program is
comprised of two novel and proprietary cell culture-based technologies, ExPAND
(for plants) and (u)MARINE (for marine microorganisms).     
   
  Phytera's culture libraries currently contain over 3,000 plant species and
over 8,000 marine microbial isolates and, to Phytera's knowledge, are unequaled
in the number and diversity of species.     
 
EXPAND and (u)MARINE technologies enable:
 
  . Initial establishment of cell cultures from sourced species. This
    overcomes difficulties in culturing plant cells and creating novel marine
    microbial cell cultures.
 
  . Combinatorial manipulation of genes, enzymes and metabolic pathways. This
    broadens access to the chemical diversity and novelty in each species
    beyond what is expressed in the native sample.
 
  . Maintenance and long-term storage of cell cultures. This facilitates
    reaccess to the plant cell or marine microorganism.
 
  . Reproducible and scalable reaccess to interesting chemical
    compounds. This enables access to pharmaceutically active chemical
    compounds at all stages of the discovery and early development process.
 
  ExPAND Technology
   
  Phytera's ExPAND technology program establishes plant cell cultures from
sourced plant species. This is a multi-stage process that establishes a cell
culture made up of finely dispersed plant cells in liquid medium. Successful
production of cell cultures from plants requires optimal culture conditions for
each species.     
   
  Once established in cell culture, plant cells are subjected to multiple,
proprietary manipulations in the form of genetic, hormonal, infection-related,
environmental or chemical treatments, applied singly and in combination. The
combinatorial matrix of manipulations substantially increases the variety and
novelty of chemical compounds in the cell culture by modulating the expression
of genes, enzymes and metabolic pathways. Interactions of the products of
manipulated genes and pathways also generate chemical compounds not otherwise
produced by the plant species. Phytera routinely applies various combinations
from a panel of as many as 15 manipulations to each plant cell culture and has
created libraries of very large numbers of reproducible cell culture extracts.
       
  Sunillin, the structurally novel prototype for a series of antifungal
compounds, is a product identified by Phytera's ExPAND technology. Sunillin is
only produced by certain combinatorial manipulations of a plant cell culture.
Sunillin was not detected in numerous samples of the native plant species used
to generate the cell cultures. See figure below. See "--Products Under
Development--Sunillin Antifungal Series."     
 
                                       28
<PAGE>
 
              Sunillin Is Produced by Combinatorial Manipulations
 
             [CHART DEPICTING SUNILLIN PRODUCTION APPEARS HERE] 
 
 
*As a % of maximum level produced by combinatorial manipulations
 
  In addition to enabling broader access to novel chemical diversity, Phytera's
ExPAND technology addresses other significant problems associated with
traditional natural product drug discovery, including access and reaccess to
species source material and reproducibility and scalability of species
chemistry.
   
  Small quantities of plant material, such as a seed or leaf or stem clipping,
are required to establish a cell culture. This enables access to plant species
available from botanical gardens and commercial seed vendors. It also provides
access to species in limited supply due to conservation concerns, sourcing
logistics or other issues. Phytera believes that these advantages will
facilitate access to the majority of the world's plant species.     
 
  Reaccess to source material can be a major problem with traditional
approaches and often requires new sourcing expeditions to harvest larger
quantities of the original plant material. This can present significant
logistical hurdles, require a great deal of time and often results in a failure
to reaccess the source or its pharmaceutically important chemistry. By
contrast, Phytera's ability to preserve and store its plant cell cultures,
primarily by cryopreservation or freezing, obviates the need for reaccess to
the source. Further, the ExPAND process is reproducible and scalable, providing
the increased quantities of chemical compounds required for further
pharmaceutical evaluation and preclinical development.
   
  Phytera has developed its expertise and know-how in the area of plant cell
culture over more than 15 years and has successfully cultured thousands of
diverse plant species. Phytera believes that this expertise and the resultant
cell culture libraries represent significant barriers to entry for competitors.
Phytera is seeking to broaden its chemical diversity libraries through the
sourcing of additional species and development of additional manipulation
techniques.     
 
  (u)MARINE Technology
 
  Marine microorganisms represent a promising and largely unexplored source of
lead structures and candidate drugs. The isolation and culture of marine
microorganisms has historically been limited by an incomplete understanding of
the environmental niches they occupy in the oceans. Traditional marine
microorganism isolation media are only minor modifications of those used for
terrestrial microorganisms and fail to reproduce the natural marine
environment. As a result, such media typically enable the isolation of only a
small percentage of the microorganisms present in a given marine sample.
 
  Phytera's (u)MARINE technology significantly increases isolation success rates
by utilizing microbial isolation conditions which more closely replicate the
growth conditions of marine microbes in their natural environment. Phytera
believes that its (u)MARINE technology may provide access to many species of
marine microorganisms that have never before been isolated.
 
  The (u)MARINE program is driven by broad sourcing of microbe-containing marine
specimens such as sediment, plant and animal macroorganisms and seawater.
Phytera's (u)MARINE culture library emphasizes the
 
                                       29
<PAGE>
 
   
most chemically prolific classes of marine microbes, fungi and actinomycetes,
rather than more commonly sampled and less chemically diverse organisms such as
eubacteria. Each microbial cell culture is fermented under a variety of
proprietary, marine nutrient-based conditions to induce multiple genetic and
enzymatic changes which modify its chemistry. As in the case of plant cell
cultures, combinatorial manipulations of marine microbial cell culture
conditions result in diverse chemical expression states, providing access to
novel chemical compounds. Marine microorganism cell cultures can be
successfully stored by cryopreservation (freezing) and reaccessed for future
use. Phytera's antiviral candidate, marinovir, is a marine microbial product
that is not produced by the originating cell culture under non-(u)MARINE
conditions. See "--Products Under Development--Marinovir--Preclinical Candidate
for Herpes Infections."     
 
Generation of Chemical Diversity Libraries
 
  ENRICH Extraction Technology
 
  One limiting factor in natural product-based drug discovery has been the use
of overly crude extracts which have not been processed to remove nuisance and
dilutive compounds prior to screening. To overcome this limitation, Phytera has
developed its ENRICH technology which refines extracts to generate high-quality
pharmaceutical screening samples. Studies have confirmed that ENRICH extraction
selectively increases the abundance of potentially important chemicals in
pharmaceutical screening samples and removes a substantial number of nuisance
and dilutive compounds.
   
  To date, Phytera has generated over 60,000 ENRICH cell culture extracts,
22,000 from its ExPAND program and 38,000 from its (u)MARINE program, and
expects to increase its extract libraries further in the future. Numerous
samples of these extracts are stored in a format that is compatible with the
high-throughput screening methods used by Phytera and other pharmaceutical and
biotechnology companies. Each stored sample is capable of supporting hundreds
of pharmaceutical screenings, enabling long term access to Phytera's novel
chemical diversity libraries. In the event that these extract libraries become
depleted, Phytera can replenish each sample by regrowth, re-manipulation and re-
extraction of the respective plant or marine microbial culture from its storage
bank.     
 
  PINACLE Technology
   
   While Phytera believes that its novel extract-based technologies overcome
many of the key limitations to successful natural product-based drug discovery,
the approach involves screening mixtures of natural chemical compounds.
Phytera's PINACLE technology is designed to solve many of the problems
associated with the screening of complex mixtures. The objective of Phytera's
PINACLE technology is to combine the high degree of chemical diversity
available from its combinatorial biology technology with the benefits of a one-
chemical-compound-per-screening-sample format. Phytera has established a pilot
library of PINACLE compounds, and is further developing this program in order
to produce a larger-scale library to be made available to commercial partners
in 2000.     
 
  The PINACLE process begins by subjecting plant cell and marine microbial
cultures to up to 15 manipulations using ExPAND and (u)MARINE technologies. The
precise series of subsequent steps is the subject of an ongoing technology
development effort. In the initial phase of PINACLE operation, manipulated
cultures grown at intermediate scale are being subjected to a series of
proprietary extraction and separation methods to isolate individual chemical
compounds. Isolated compounds then undergo multiparameter analysis using
techniques such as liquid chromatography, ultraviolet absorption, mass
spectrometry and nuclear magnetic resonance spectroscopy. These compounds are
then catalogued in a proprietary database and placed in 96-well microtiter
plates for later screening in a one-chemical-compound-per-screening-sample
format. As the PINACLE compound library grows, it will be increasingly
desirable to ensure that each culture subjected to this process has a high
probability of contributing new chemicals to the library which have not been
seen in previous cultures. Thus, a second phase of PINACLE technology
development is underway which will miniaturize and automate some parts of the
process. The goal will be to subject each plant species to up to
30 manipulations, to further diversify chemical expression. These manipulations
will be performed on smaller scale cultures, which will be rapidly extracted
and subjected to a protocol of multiparameter analysis to generate a unique
chemical profile for each extract. These profiles will be continuously compared
to identify those cell culture extracts containing the largest amounts of the
most novel and diverse chemistry. Only these selected cultures will then be
regrown on a larger scale and subjected to the separation, isolation and
analytical steps currently in use generating, if successful, large numbers of
additional compounds for entry into the PINACLE library database and
distribution into 96-well microtiter plates.
 
                                       30
<PAGE>
 
Pharmaceutical Screening
   
  For a novel chemical compound to be identified as a lead structure or
candidate drug, it must first exhibit activity in a pharmaceutical screen that
acts as a surrogate for the human disease state. In order to leverage its novel
chemical diversity libraries, Phytera has built an extensive pharmaceutical
screen portfolio that combines an internal program of screens for resistant
infectious diseases with partnership screens that span a wide variety of
disease areas. Phytera's screen portfolio is evolving over time as new
pharmaceutical screens are incorporated to replace certain existing screens and
to expand the portfolio to address new therapeutic targets.     
 
  Phytera's Resistant Infectious Diseases Screening Program
   
  Escalating drug resistance is now considered by many the single most
important issue in the management of human infectious diseases. Phytera
believes that the area of resistant infectious diseases is particularly suited
to screening Phytera's plant and marine microbial combinatorial biology-derived
libraries. Both plants and microbes are attacked by bacterial, fungal and viral
pathogens that have much in common with human pathogens. Plants and microbes
have, therefore, evolved chemical defense mechanisms that combat pathogen
invasion and reproduction. Further, they have developed approaches that deal
with the problem of resistance development in the invading pathogen. Phytera's
plant- and marine microbe-derived chemical diversity libraries thus offer a
potentially rich source of novel antimicrobial agents that may not be
susceptible to the current resistance problems encountered in the human
therapeutic area.     
 
  Phytera believes that this area represents a particularly attractive focus
for its internal drug discovery program due to:
 
  . Critical and growing medical need not addressed by existing therapies:
    particularly important in this regard is the continued emergence of new
    drug resistant pathogens;
 
  . Large commercial markets for effective new agents;
 
  . Reduced development risk since activity of a candidate drug in a
    laboratory model of infectious disease is often highly predicative of
    clinical efficacy in man; and
 
  . Relatively rapid and cost-effective clinical studies since many human
    infectious diseases involve acute, short treatment periods with easily
    measured symptoms and outcomes.
 
  Phytera's resistant infectious diseases screening program consists of over 20
molecular targets and whole cell screens which act as surrogates for human
diseases. Molecular target-based screens enable the testing of samples against
the increasing number and variety of important enzymes, receptors or ion
channels being identified via genomic studies as relevant to key diseases. By
contrast, whole cell screens offer the opportunity to discover drugs which act
by entirely new mechanisms, independent of existing knowledge of molecular
targets. This is particularly important in view of the novel chemistry that is
contained in Phytera's chemical diversity libraries because it increases the
odds of discovering agents which act by novel mechanisms. Finally, information
generated from screening efforts is tracked, analyzed and integrated with
upstream sourcing and culturing activities and downstream natural product
chemistry through a computerized database and bioinformatics system.
 
  MDR Knockout-Based Screens
 
  Among the most innovative of Phytera's screens are those based on its
proprietary MDR pump technology. One way pathogens effectively defend
themselves against antimicrobial drugs is through the operation of MDR pumps,
which remove the drug from the cell. These pumps, discovered in the 1980s, are
responsible for a significant percentage of drug resistance in both bacteria
and fungi. For example specific MDR pumps have been identified that expel the
leading antifungal drug, fluconazole (active ingredient in Diflucan(R)), from
the fungal cell.
   
  Phytera believes that the presence of MDR pumps in strains of pathogens used
as screening tools over the last several decades may have resulted in a failure
to detect whole classes of potential antimicrobial chemical compounds. Phytera
has established an MDR pump-based genomics program which combines its internal
resources with those of a number of leading academic centers in the US and
Europe. In this program, Phytera uses genetic engineering techniques to
generate a proprietary library of fungal and bacterial mutants that have one or
more of their MDR pumps selectively inactivated (or "knocked out"). Knowledge
of the MDR pump gene sequence(s) for certain microbial pathogens enables
identification of related sequences in a broader range of pathogens and
facilitates the construction of further MDR knockout strains. This approach has
generated numerous MDR knockout strains of microbial pathogens or related
organisms, each of which displays hypersensitivity to a wide range of
antimicrobial agents.     
 
                                       31
<PAGE>
 
   
  Based on these MDR knockouts, Phytera has developed high-sensitivity, high-
throughput pharmaceutical screens. Within its internal drug discovery program,
Phytera is using bacterial MDR knockouts; in one revenue generating
partnership, Phytera is using fungal MDR knockouts. Phytera's library of MDR
knockouts includes, among others, several major bacterial pathogens such as
Staphylococcus aureus and Escherichia coli (E. coli) and important fungal
pathogens such as Candida albicans.     
 
  Phytera's efforts to date clearly demonstrate that MDR knockout strains are
capable of detecting the antimicrobial activity of chemical compounds that is
undetected in screens using the corresponding wild-type strain of the pathogen
with normal MDR pump(s). Traditional antimicrobial screens used by the
pharmaceutical industry employ these wild-type strains. Thus, MDR knockout
pathogen strains offer the opportunity to discover chemically and
mechanistically novel classes of antibacterials and antifungals.
 
  A candidate drug identified by this approach can be used to treat pathogens
with active MDR pumps in three ways:
 
 . the concentration of the drug could be increased to overcome the effect of
   the active MDR pump in the pathogen. Marketed drugs that achieve this
   effect include antibacterials, such as erythromycin, and antifungals, such
   as Diflucan(R) (fluconazole);
 
 . the original lead structure identified by the screen could be synthetically
   modified to reduce the impact of the action of the MDR pump in the
   pathogen; and
 
 . the drug could be combined with a compound that inhibits the action of the
   MDR pump in the pathogen.
 
        MDR Knockout-Based Screens Can Detect Novel Antimicrobial Drugs

 [Graphic representation of a "Wild-type Microbe" that has functioning MDR pumps
  with the following adjacent text:
  . Drug largely removed from microbe by MDR pump
  . Microbial screen does not detect the activity of novel antimicrobial drugs

  Graphic representation of an "MDR Knockout Microbe" in which there are no 
  functioning MDR pumps with the following adjacent text:
  . Drug not removed from microbe
  . Microbial screen detects the activity of novel antimicrobial drugs]

  Partnership Screens
 
  Phytera is leveraging its chemical diversity libraries through a number of
corporate partnerships that expose this chemistry to a wide array of innovative
screening targets across numerous important therapeutic areas. Phytera's
partnership screens currently span 12 therapeutic areas. See "--Corporate
Partnerships."
 
Combinatorial Chemistry Program
 
  Lead structures identified by pharmaceutical screening rarely possess all the
properties required to be selected as a candidate drug. Usually, a lead
structure needs to be optimized to improve efficacy, safety, drug delivery
characteristics, pharmacokinetics or manufacturing procedures, prior to its
advancement as a candidate drug.
 
                                       32
<PAGE>
 
  Recently, combinatorial chemistry has emerged as an important and powerful
ancillary technology in the optimization of lead structures into candidate
drugs. Combinatorial chemistry is a chemical synthesis technology that, in many
ways, is analogous to the methods that living cells use to produce chemical
diversity. The basic concept involves the chemical reaction of a family of
closely related chemical structures (for example, family A/1/, A/2/ and A/3/)
with a different family of closely related structures (for example, family
B/1/, B/2/, and B/3/) to produce a number of combinatorial chemical analogs
(A/1/B/1/, A/1/B/2/, A/1/B/3/, A/2/B/1/, . . ., A/3/B/3/). If each chemical
family is large, then the resultant chemical library will be exponentially
larger. Two families of 100 chemicals will yield 10,000 new chemical compounds
when optimally combinatorialized. Thus, once a lead structure is identified,
combinatorial chemistry can be applied to produce large numbers of structural
analogs, which can be examined for the improved properties required in a
candidate drug. Together with medicinal synthetic chemistry and computer
assisted design, combinatorial chemistry now plays an important role in the
process of optimization of a lead structure.
   
  Phytera's combinatorial chemistry program, MANIFOLD, integrates solid phase
combinatorial chemistry techniques with other proprietary methods for analoging
natural product structures. These technologies greatly facilitate the
optimization of lead structures derived from Phytera's combinatorial biology-
based screening program. Certain of these natural product lead structures may
not be easily approachable by conventional combinatorial chemistry. Phytera
further applies its proprietary MANIFOLD technologies in the generation of
combinatorial libraries based on novel natural product structures isolated
within the PINACLE program and other interesting lead structures identified
from the literature or by Phytera's academic collaborators.     
   
  Among the structures to which Phytera has applied MANIFOLD are Actinomycin D,
balanol and a number of others that have been identified through its
combinatorial biology program. Actinomycin D is a potent but non-selective
natural inhibitor of DNA repair that is currently used for cancer therapy,
analogs of which could have wider indications in cancer and infectious
diseases. Balanol is a potent but non-selective inhibitor of the enzyme protein
kinase C, isoforms of which have been implicated in a wide variety of diseases.
Among structures identified within Phytera's combinatorial biology program are
PHY400 and PHY1100, both discovered from screening of Phytera's ExPAND plant
cell culture-derived chemical library. PHY400 is the prototype of a novel
series of antibacterial compounds which inhibit a specific molecular target
found in important pathogenic bacteria such as Staphylococcus spp. Inhibition
of the molecular target is correlated with in vitro activity against bacterial
pathogens. The objective of the associated MANIFOLD combinatorial chemistry
effort is to identify an analog of PHY400 which displays potent antibacterial
activity in vivo. Enhancement of in vivo activity is also the goal of a
MANIFOLD analog program around PHY1100, a potent, structurally novel inhibitor
of human angiogenesis in in vitro models, which was identified in partnership
with Tsumura & Co. Other lead structures identified in internal screening
programs or from external publications will enter the MANIFOLD analog program
in 1999.     
 
                                       33
<PAGE>
 
Corporate Partnerships
 
  Phytera is actively seeking to develop revenue-generating and retained
product rights partnerships with pharmaceutical and biotechnology companies.
The table below summarizes the focus of each of Phytera's current corporate
partnerships:
                        
                     Phytera's Corporate Partnerships     
 
 
<TABLE>   
<CAPTION>
                                                                    Type of Partnership
    Corporate Partner           Partnership Focus        Revenue-Generating Retained Product Rights
---------------------------------------------------------------------------------------------------
  <S>                    <C>                             <C>                <C>
  Eli Lilly and Company  Fungal diseases                          X
  Chiron Corporation     Cancer and other areas                   X
  Tsumura & Co.          Inflammation and allergy                 X                     X
  NeuroSearch A/S        Asthma, depression, diabetes,                                  X
                         memory and attention deficit
                         disorders
  Galileo Laboratories,  Stroke and myocardial                                          X
   Inc.                  infarction
  Nycomed Amersham plc.  Plant-derived enzymes for                X                     X
                         research laboratory use or
                         clinical diagnostics
</TABLE>    
          
  Revenue-generating partnerships are intended to provide Phytera with a source
of near-term and potential longer-term revenues through up-front payments,
license fees, research funding, milestone payments and royalties. Retained
product rights partnerships provide Phytera marketing rights to products
developed through joint research with partners. For payments received by
Phytera pursuant to corporate partnerships through September 30, 1998, see note
9 of notes to Consolidated Financial Statements.     
 
Eli Lilly and Company
   
  In July 1998, Phytera entered into a revenue-generating partnership with Eli
Lilly and Company, a US pharmaceutical company, to discover novel agents for
the diagnosis, treatment and prevention of infectious fungal diseases in humans
and animals. The partnership involves several of Phytera's proprietary
technologies, including chemical diversity libraries, MDR knockout-based
antifungal screens and the isolation and identification of active chemical
compounds. Lilly will also provide chemical compounds for screening and will be
responsible for lead structure optimization and candidate drug development and
commercialization. The initial term of the agreement is two years, and Lilly
has the right to extend the program for three additional years, in one year
increments. Lilly is obligated to make certain payments to Phytera to support
ongoing research and to make milestone payments at certain points in the
development process. The value of milestone payments which may be received by
Phytera in the future, if any, depends upon the success of the partnership in
discovering novel agents, the number of such agents Lilly chooses to develop,
and the level of success of the development effort. Therefore, the value of
future milestone payments, if any, cannot be accurately estimated, and Phytera
may not receive any such payments. If the collaboration is successful, Phytera
could receive more than $41,000,000 from Lilly under this agreement (exclusive
of royalties), but actual receipts from the partnership may be substantially
less than that amount. Royalty payments are due on the sales of any products
derived from this partnership. Lilly has made an initial equity investment of
$500,000 in connection with this agreement and will make a further equity
payment if a specific research milestone is triggered. See note 9(c) of notes
to Consolidated Financial Statements.     
 
Chiron Corporation
   
  In May 1998, Phytera entered into a revenue-generating partnership with
Chiron Corporation, a US biotechnology company, to discover novel agents for
the treatment of various forms of cancer and other diseases. Phytera has
provided chemical diversity libraries to Chiron for screening in certain of
Chiron's proprietary high throughput screening systems and will carry out the
isolation and identification of active chemical compounds. Under the terms of
this agreement, Phytera has received an up-front payment, will receive funding
for research activities, and may receive option and license fees based on
Chiron's selection of certain chemical compounds for further development.
Phytera is also entitled to future milestone payments at certain specified
points in the development process. The value of option fees, license fees, and
milestone     
 
                                       34
<PAGE>
 
   
payments which may be received by Phytera in the future, if any, depends upon
the success of the partnership in discovering novel agents, the number of such
agents Chiron chooses to develop, and the level of success of the development
effort. Therefore, the value of future option fees, license fees and milestone
payments, if any, cannot be accurately estimated, and Phytera may not receive
any such payments. If the collaboration is successful, Phytera could receive
more than $18,000,000 from Chiron under this agreement (exclusive of
royalties), but actual receipts from the partnership may be substantially less
than that amount. Royalty payments are due on sales of marketed products
derived from the partnership. The Chiron partnership terminates upon the
completion of screening and the isolation and identification of any active
chemical compounds. The agreement with Chiron contemplates an initial
collaboration term of up to 15 months, during which time Chiron will screen
Phytera's chemical diversity libraries. After the 15 month collaboration,
Chiron may, at its option, enter into an exclusive license to commercialize one
or more lead structures upon payment of an additional fee to Phytera, or
terminate this agreement upon 30 days' notice.     
 
Tsumura & Co.
   
  In June 1996, Phytera entered into a revenue-bearing and retained product
rights partnership with Tsumura & Co., a Japanese pharmaceutical company, to
discover novel agents for the treatment of inflammation and allergies. Under
the terms of the agreement, Phytera provides access to its chemical diversity
libraries for screening against selected allergy and inflammation targets.
Phytera and Tsumura share responsibilities for the discovery and development of
chemical compounds from this partnership. Tsumura is responsible for primary
screening and lead structure optimization, while Phytera is responsible for the
isolation and identification of active chemical compounds. Phytera and Tsumura
will jointly own any patents resulting from the partnership. Phytera has
retained North American development and marketing rights to any discoveries
emanating from the partnership and Tsumura has been granted development and
marketing rights outside North America. The parties have agreed to work
together to facilitate the optimal development of candidate drugs in their
respective territories. The agreement was originally entered into for a three-
year period and has been extended for an additional year, now remaining in
effect until June 2000. Under the agreement, Tsumura makes annual extract
library access payments and provides other research funding to Phytera and will
make milestone payments at certain specified points in the drug development
process. The value of milestone payments which may be received by Phytera in
the future, if any, depends upon the successful entry of lead structures into
clinical development and the level of success of the development effort.
Therefore, the value of future milestone payments, if any, cannot be accurately
estimated, and Phytera may not receive any such payments. If the collaboration
is successful, Phytera could receive approximately $7,000,000 in additional
payments from Tsumura under this agreement (exclusive of royalties), but actual
receipts from the partnership may be substantially less than that amount.
Royalty payments are due on marketed products derived from the partnership.
    
NeuroSearch A/S
   
  In May 1998, Phytera entered into a retained product rights partnership with
NeuroSearch A/S, a Danish neuropharmaceutical company, to discover novel agents
that interact with potassium ion channels. These agents may prove useful in the
treatment or prevention of a wide array of diseases, such as memory and
attention deficit disorders, depression, asthma, and diabetes. Phytera is
providing extracts from its chemical diversity libraries for screening in
NeuroSearch's proprietary potassium ion channel assay systems. Phytera will
also conduct the isolation and identification of active chemical compounds. The
parties share equally both the rights to and the costs of the discovery and
development of chemical compounds identified from this partnership and will
collaborate on lead structure optimization activities. The parties will
negotiate in good faith with respect to a development strategy once lead
structures have been identified. In the event the parties are not able to reach
agreement with respect to a development strategy, Phytera will retain exclusive
commercial rights in North America, NeuroSearch will retain exclusive
commercial rights in Europe, and the parties will share commercial rights in
the rest of the world equally. The agreement remains in effect for a three year
term, subject to extension by mutual agreement.     
 
Galileo Laboratories, Inc.
   
  In April 1998, Phytera entered into a retained product rights partnership
with Galileo Laboratories, Inc., a US biotechnology company. Under the terms of
this agreement, Phytera will provide chemical diversity libraries to Galileo
for screening in Galileo's proprietary assay systems for the purpose of
discovering chemical compounds that are useful for the prevention or treatment
of diseases such as stroke and myocardial infarction. The parties share equally
both the rights to and the costs of the discovery and development of chemical
    
                                       35
<PAGE>
 
compounds identified from this partnership. Phytera is responsible for
providing cell culture extracts for screening and for the isolation and
identification of active chemical compounds. Galileo is responsible for
conducting the primary and secondary pharmaceutical screening of the extracts.
The parties have agreed to collaborate on lead structure optimization
activities and will negotiate in good faith with respect to a development
strategy once lead structures have been identified. In the event the parties
are not able to reach agreement with respect to a development strategy, either
or both Phytera or Galileo may independently develop such lead compounds at
their own expense. In the event both partners choose to undertake development,
Phytera will retain exclusive commercial rights in Europe, Galileo will retain
exclusive commercial rights in North America, and the parties will share
commercial rights in the rest of the world equally. In the event only one party
chooses to develop the compound, such party shall be obligated to pay royalties
to the other party. The agreement terminates upon the execution of a final
agreement regarding the development of one or more candidate drugs identified
pursuant to this partnership.
 
Nycomed Amersham plc
   
  In July 1993, Phytera established a revenue-bearing and retained product
rights partnership with Nycomed Amersham plc, a UK company. Under this
partnership, Phytera and Amersham pursued a research and development program in
the area of plant cell culture-derived enzymes for application within
Amersham's Life Science Group. Amersham provided research support to Phytera
and agreed to make royalty payments based on Amersham's net sales of products
derived from the partnership. The parties will equally share any royalties or
other payments derived from licensing any inventions made by the partnership
for clinical diagnostic applications. In addition, Phytera retained rights to
any inventions made by the partnership for applications other than laboratory
testing, forensics testing and clinical diagnostics.     
   
  Phytera successfully completed this research program in 1995 with the
identification and bulk supply to Amersham of several novel enzymes meeting the
project specification. The agreement was amended in October 1998 to provide
that Phytera would assume responsibility and pay costs for pursuing out-
licenses to the intellectual property that was developed under the research
program in the clinical diagnostics area.     
       
Products Under Development
 
Marinovir--Preclinical Candidate for Herpes Infections
   
  Marinovir (formerly known as cyclomarin-A) is a novel chemical compound
isolated from a marine microbial cell culture utilizing Phytera's (u)MARINE
technology. Marinovir's dual antiviral/anti-inflammatory activity addresses two
important components of herpes pathology. As such, it has the potential of
providing a superior overall therapeutic effect in herpes virus infections.
Phytera is currently carrying out preclinical studies with the objective of
commencing clinical studies in 1999. See "Risk Factors--We May Be Unable to
Discover Drugs or Develop Products."     
   
  Preclinical tests have indicated that marinovir inhibits proliferation of
HSV-1 and HSV-2 in vitro with potencies similar to that of acyclovir, the
leading marketed product for the treatment of herpes infections. Marinovir
displays in vivo topical activity in two animal models of human herpes
infection and has also demonstrated anti-inflammatory action in the same animal
species. In a mouse model of vaginal herpes infection, topical application of
marinovir had a significant impact across all endpoints under study, including
herpes-related mortality, vaginal herpes levels, inflammatory indices and
neural deficits resulting in excessive urination. Phytera believes marinovir
may work through a novel mechanism of action because it is structurally
distinct from all other antiviral and anti-inflammatory agents known to Phytera
and is effective against acyclovir-resistant strains of HSV-2.     
 
  Marinovir was initially identified by academic collaborators as a novel anti-
inflammatory chemical compound using technology ultimately incorporated into
Phytera's (u)MARINE program. Subsequently, Phytera demonstrated that marinovir
had activity against the herpes virus. Phytera holds a use patent on the
application of marinovir as a treatment of viral infections and has exclusive
rights to license composition of matter and anti-inflammatory use patents on
marinovir from the originating academic institution. See "--Patents and
Proprietary Rights."
 
Sunillin Antifungal Series
   
  Sunillin, the lead structure for a series of over 8,000 analogs generated by
Phytera's MANIFOLD technology, was isolated from manipulated plant cell
cultures using Phytera's ExPAND technology. Sunillin     
 
                                       36
<PAGE>
 
   
and its analogs are structurally distinct from all other antifungal agents
known to Phytera. Phytera's extensive preclinical development work with
sunillin demonstrated that it is not suitable for commercial development, as is
the case with most lead structures. Phytera believes that within the large
number of analogs synthesized on the basis of the sunillin chemical structure,
compounds may be identified that retain antifungal activity and possess more
acceptable properties commensurate with commercial development. Phytera is
currently in the process of selecting a candidate drug for preclinical
development from this series.     
 
  The sunillin series has demonstrated a broader in vitro spectrum of
antifungal activity than fluconazole, the active ingredient in the leading
systemic antifungal drug, Diflucan(R). Sunillin and certain of its analogs
suppress growth of strains of fungal pathogens resistant to fluconazole and
have demonstrated the ability to protect mice in vivo from a lethal challenge
with Candida albicans or Aspergillus fumigatus, two human fungal pathogens.
Such compounds have also demonstrated the ability to inhibit an identified
molecular target within the fungal cell which appears to play a role in fungal
pathology. Other known antifungal drugs do not inhibit this target, indicating
that members of the sunillin series produce at least some of their antifungal
effects through a distinct mechanism of action. The fact that members of the
series have produced synergistic antifungal effects in conjunction with known
antifungal drugs has reinforced the concept of a distinct mechanism of action
for sunillin and its analogs.
 
Biodiversity Sourcing Agreements
   
  Phytera's proprietary plant and marine microorganism cell culture
technologies enable broad sourcing of biological material. Phytera believes
these technologies represent an important strategic asset and competitive
advantage. In the case of plants, the small amount of material required to
initiate the cell cultures (for example, a seed, leaf or stem clipping) enables
access to species that would not be available by traditional sourcing methods.
Phytera's marine microorganism culture technology allows access to species
that, to the best of its knowledge, have never previously been grown
successfully under laboratory conditions. Further, application of Phytera's
proprietary combinatorial biology technology generates expression of a greater
range of chemical compounds than is found using traditional natural product
approaches. In addition, the ability to store plant and marine microorganism
cultures provides reproducible and scalable access to such compounds.     
 
  The combination of these advantages provides a strategic asset that
facilitates the negotiation of sourcing agreements and has led to a number of
these agreements with botanical gardens and certain countries or their
appointed designees. This combination also serves as a barrier to entry by
competitors because it relies substantially on proprietary technologies which
Phytera believes cannot easily be replicated by others.
 
  Phytera's policy is to conduct all of its sourcing activities in compliance
with the requirements of the 1992 Convention on Biological Diversity. The most
important precept of this Convention is that each country has a sovereign right
over the genetic resources that are within its borders and therefore has the
right to control access to these resources. Parties wishing to access these
resources must do so only by agreement with the respective country, its
government or its appointed representative. A further concept embodied in the
Convention is that access should be linked with a sharing of benefits derived
from such access with the country of origin. While various forms of payment for
access to genetic resources are desirable, benefits sharing may also include
elements such as associated conservation efforts, education, technology
transfer, product rights and/or milestone and royalty payments on products
discovered and developed from these resources.
 
INBio Agreement
   
  In July 1998, Phytera entered into a two-year collaborative research
agreement with Instituto Nacional de Biodiversidad, called INBio, in Costa
Rica. INBio is a private, non-profit organization empowered by the government
of Costa Rica to develop and implement viable approaches to manage the
country's biodiversity resources. Under this joint research effort, access to a
portion of indigenous plant species that could not otherwise be investigated is
made possible through the unique combination of Phytera's ExPAND technology and
INBio's inventory and bioprospecting approach. Phytera will provide research
funding to INBio during the term of the agreement and INBio will be entitled to
royalties on the sales of products derived from the cultures provided to
Phytera. Ten percent of research funding and fifty percent of royalties
received by INBio shall be donated to the Ministry of Environment and Energy in
Costa Rica for biodiversity conservation.     
 
Other Plant Sourcing
   
  In addition to commercial seed sources, Phytera has established plant
sourcing agreements with a number of botanical gardens that provide Phytera
with access to a quantity and diversity of plant species sufficient to support
continued production of ExPAND extracts and PINACLE libraries. Although
specimens in the     
 
                                       37
<PAGE>
 
   
collections of such gardens that pre-date the Convention are not governed by
its terms, Phytera nonetheless structures its agreements with the gardens to
honor the tenets of the Convention whenever possible. As part of those
agreements, Phytera will make milestone and royalty payments to the country of
origin related to products developed from specimens originally sourced by the
botanical garden from such country, if it can be identified. If a country of
origin cannot be determined, Phytera will make such payments to a non-profit
trust established by Phytera for the purpose of promoting research and
conservation of biodiversity resources.     
       
Marine Sourcing
   
  Phytera also maintains an active program to acquire samples of marine
microorganisms from US territorial waters. Phytera acquires samples through a
variety of approaches, including charters, contract diving companies and
collaborations with academic groups conducting marine biology research
expeditions. It expects that marine sourcing expeditions outside of US
territorial waters may be conducted in the future.     
 
Patents and Proprietary Rights
   
  Phytera seeks to protect its core enabling technologies and drug discoveries
through patents or trade secrets, depending on the nature of the technology or
discovery, and in consultation with its external intellectual property
advisors. Phytera holds three patents, an issued US patent on the use of
marinovir to treat viral infections and two issued US use patents on the
production of novel enzymes in plant cell culture. It is pursuing counterpart
patents in other jurisdictions. Novel chemical compounds isolated from natural
sources are potentially patentable as composition of matter patents, even if a
crude natural product (for example, an extract or blend of extracts) containing
the chemical compound claimed has previously been used or marketed by others.
In addition, Phytera has eight patent applications pending in the US or Denmark
with counterpart filings in other countries. One of these applications covers
the identification and use of MDR knockouts. This invention was a joint
discovery by Phytera and an academic institution. Phytera has licensed the
academic institution's rights so that it now holds exclusive rights to this
invention. In connection with this license, Phytera is obligated to pay a
portion of research and development revenue deriving from the patented
technology to the academic institution. Phytera is also obligated to pay
certain milestone and royalty payments to the institution as products are
identified, developed and commercialized.     
   
  Phytera has an option from an academic institution to an exclusive license
with respect to an issued US composition of matter patent on marinovir and an
issued US use patent on its anti-inflammatory use and all associated foreign
patent applications. It is currently negotiating the terms of its exclusive
license with the academic institution. Phytera believes that a license will be
obtained under terms that are consistent with pharmaceutical industry
standards, in part because Phytera holds an issued patent on the use of
marinovir in the treatment of viral infections. However, there can be no
guarantee that Phytera will obtain the license on commercially acceptable terms
or at all.     
   
  Patent law, as it relates to inventions in the pharmaceutical and
biotechnology fields, is still evolving and involves complex legal and factual
questions for which legal principles are not firmly established. Moreover,
because (1) patent applications in the United States are maintained in secrecy
until patents issue, (2) patent applications in certain other countries
generally are not published until more than 18 months after they are filed, (3)
publication of technological developments in the scientific or patent
literature often lags behind the date of such developments and (4) searches of
prior art may not reveal all relevant prior inventions, Phytera cannot be
certain that it was the first to invent the subject matter covered by its
patent applications or that it was the first to file patent applications for
such inventions. Accordingly, there can be no assurance that patents will be
granted with respect to any of Phytera's pending patent applications or with
respect to any patent applications filed by it in the future.     
   
  There can be no assurance that patent applications filed by Phytera will
result in patents being issued, that the claims of such patents will offer
significant protection for Phytera's technology, or that any patents issued to
or licensed by Phytera will not be challenged, narrowed, invalidated or
circumvented. Phytera may also be subject to proceedings that result in the
revocation of patent rights previously owned by or licensed to Phytera, as a
result of which it may be required to obtain licenses from others to continue
to develop, test or commercialize its products. There can be no assurance that
Phytera will be able to obtain such licenses on acceptable terms or at all. In
addition, there may be pending or issued patents held by parties not affiliated
with     
 
                                       38
<PAGE>
 
Phytera that relate to the technology utilized by Phytera. As a result, Phytera
may need to acquire licenses, to assert infringement of, or contest the
validity of, such patents or other similar patents which may be issued. Phytera
could incur substantial costs in defending itself against patent infringement
claims, interference proceedings, opposition proceedings or other challenges to
its patent rights made by third parties, or in bringing such proceedings or
enforcing any patent rights of its own.
   
  Phytera also relies upon trade secrets, know-how and continuing technological
advances to develop and maintain its competitive position. Such information may
become available to Phytera's competitors. In an effort to maintain the
confidentiality and ownership of trade secrets and proprietary information,
Phytera requires employees, consultants and certain collaborators to execute
confidentiality and invention assignment agreements upon commencement of a
relationship with Phytera. These agreements are intended to enable Phytera to
protect its proprietary information by controlling the disclosure and use of
technology to which it has rights and provide for ownership by Phytera of
proprietary technology developed at Phytera or with its resources. There can be
no assurance, however, that these agreements will provide meaningful protection
for Phytera's trade secrets or other confidential information in the event of
unauthorized use or disclosure of such information or that adequate remedies
would exist in the event of such unauthorized use or disclosure. The loss or
exposure of trade secrets possessed by Phytera could adversely affect its
business.     
   
  Phytera relies upon common law trademark protection for its trademarks as
well as registration of trademarks with the US Patent and Trademark Office,
called the US PTO, and the European Trademark Office. Trademark registrations
have been issued by the US PTO for the ExPAND and (u)MARINE marks. Applications
have been filed with the US PTO for the PINACLE and ENRICH marks and with the
European Trademark Office for the MANIFOLD mark, but registrations have not yet
issued. There can be no assurance that any registered or unregistered
trademarks or trade name of Phytera may not infringe upon a third party's
rights. The requirement to change the trademark or trade name of Phytera could
entail significant expenses and could have a material adverse effect on
Phytera's business, financial condition and results of operations. See "Risk
Factors--We Depend on Patents and Proprietary Rights that May Fail to Protect
Our Business."     
 
Regulation
   
  Phytera's preclinical studies and future clinical trials, as well as the
manufacturing and marketing of its potential products, are subject to extensive
regulation by numerous governmental authorities, including the US Food and Drug
Administration, called the FDA, and the European Medicines Evaluation Agency,
called the EMEA. Phytera will be subject to similar regulation by agencies in
other countries where Phytera and its collaborators may test and market
products.     
   
  These regulatory authorities require certain steps including preclinical
studies in animal models to assess a candidate drug's efficacy and to identify
potential health problems resulting from use of a drug. Preclinical safety
tests must be conducted by laboratories that comply with applicable regulations
regarding Good Laboratory Practices. The results of these studies are submitted
to the appropriate regulatory authorities as part of an Investigational New
Drug Application which is filed to comply with FDA and EMEA regulations, prior
to beginning clinical testing.     
 
  Clinical trials are typically conducted in three sequential phases, which
sometimes overlap. In Phase I, clinical trials are conducted with a small
number of subjects to determine the early safety profile and the pattern of
drug distribution and metabolism. In Phase II, clinical trials are conducted
with groups of patients afflicted with a specified disease in order to
determine efficacy, optimal dosages and provide additional safety data. In
Phase III, large scale, multicenter comparative clinical trials are conducted
with patients afflicted with a target disease, in order to provide enough data
for the statistical proof of efficacy and safety required by the regulatory
authorities. The human trials must be adequate and well controlled to establish
the safety and efficacy of the drug for its intended use.
   
  The results of the preclinical testing and clinical trials are then submitted
to the FDA for a pharmaceutical product in the form of a New Drug Application,
for approval to commence commercial sales. In responding to a New Drug
Application, the FDA may grant marketing approval, request additional
information, or deny the application if it determines that the application does
not satisfy its regulatory approval criteria. Preparing a New Drug Application
involves considerable data collection, verification, analysis and expense.     
 
  At the European level, the EMEA assists in the operation of two new
procedures for obtaining marketing authorization in Europe--a centralized
community procedure and a decentralized country-based procedure--the
 
                                       39
<PAGE>
 
   
latter being based on the principle of mutual recognition pursuant to which
approval by the relevant regulatory authority of one member state is recognized
by those of others. As such, Phytera can choose to file for full authorization
of pharmaceutical products in the European community as a whole, or
authorization in single European countries can be sought by filing
authorization applications with the respective countries' regulatory
authorities.     
   
  If the centralized EU procedure is chosen, pharmaceutical legislation
requires that a Marketing Authorization Application, called a MAA, for a drug
produced through the use of biotechnology be submitted for review by the EMEA.
Similar to the requirements of the FDA, the pharmaceutical legislation of the
European Union requires that the safety and efficacy of a drug be demonstrated
in clinical trials prior to approval of an MAA for that drug. If approved by
the EMEA, an MAA is recommended for acceptance by the European Union.     
 
  In addition to obtaining FDA and EMEA approval for each type of product, each
manufacturing establishment for new drugs must receive approval by the FDA and
EMEA, regardless of whether the centralized community procedure or the
decentralized procedure is utilized for EMEA approval. Manufacturing
facilities, both within and outside the US, are subject to inspections by, or
under the authority of, the FDA and EMEA and by other federal, state or local
agencies. Manufacturing facilities also must comply with the FDA's current Good
Manufacturing Practice regulations and parallel manufacturing regulations of
the EMEA.
 
  Approval of a product by regulatory authorities outside the US and Europe
must be obtained prior to the commencement of commercial sales of the product
in such countries. The requirements governing the conduct of clinical trials
and product approvals vary widely from country to country, and the time
required for approval may be longer or shorter than that required for FDA or
EMEA approval. Although there are some procedures for unified regulatory
filings for certain countries, in general, each country at this time has its
own procedures and requirements.
   
  Phytera's research and development processes involve the controlled use of
hazardous materials. Phytera is subject to national, state and local laws and
regulations governing the use, manufacture, storage, handling and disposal of
hazardous materials and certain waste products. Phytera currently incur costs
to comply with environmental laws and regulations. Phytera cannot eliminate
completely the risk of accidental contamination or injury from hazardous
materials. If an accident of this type occurs, Phytera could be liable for
damages that result and such liability could exceed our resources. If Phytera
fails to control these risks, it could result in loss of permits that allow
Phytera to use hazardous materials, which could result in a material adverse
effect on Phytera's business, financial condition and results of operations.
    
Competition
   
  The biotechnology and pharmaceutical industries are characterized by rapidly
evolving technology and intense competition. Phytera competes against major
pharmaceutical companies and specialized biotechnology companies providing
chemical diversity libraries, pharmaceutical screening systems, combinatorial
chemistry technologies and other expertise. In addition, in pursuing its
internal drug discovery program, Phytera competes against pharmaceutical and
biotechnology companies developing drugs against infectious diseases. Many of
these competitors have greater financial and human resources and more
experience in research and development than Phytera. Competitors that identify
lead structures, develop candidate drugs, complete clinical trials, obtain
regulatory approvals, and begin commercial sales of their products before
Phytera will have a significant competitive advantage. Companies that are able
to achieve superior patent positions, develop lower cost alternatives, or
develop drugs with superior efficacy, lower side effects or improved delivery
characteristics will also have a significant competitive advantage. Products
currently exist for the treatment of many of the disease conditions that
Phytera is targeting with its internal discovery programs and partnerships, and
additional products are under development for these conditions. The existence
of these products may adversely affect the commercialization or marketability
of products which Phytera and its partners may develop. Companies also compete
with Phytera in recruiting and retaining highly qualified scientific and
management personnel.     
   
  Phytera anticipates that it will face increased competition in the future as
new companies enter the market and advanced technologies become available.
Phytera's processes may be rendered obsolete or uneconomical by technological
advances or entirely different approaches developed by one or more of its
competitors. The existing approaches of Phytera's competitors or new approaches
or technology developed by its competitors may be more effective than those
developed by Phytera. See "Risk Factors--Our Business May Fail Due to Intense
Competition in Our Industry."     
 
                                       40
<PAGE>
 
Facilities
   
  Phytera has approximately 26,000 square feet of laboratory and office space
in Worcester, Massachusetts, US pursuant to a lease that expires in March 2004.
Phytera's subsidiaries also lease approximately 10,000 square feet in
Sheffield, UK, approximately 4,600 square feet in Taastrup, Denmark and
approximately 4,100 square feet in Copenhagen, Denmark. Phytera believes its
current facilities are adequate for its current operations and that suitable
additional space will be available, when needed, on commercially reasonable
terms.     
 
Litigation; Legal Proceedings
 
  Phytera is not a party to any litigation or material legal proceedings.
 
Organization
 
  As of November 30, 1998, Phytera employed 75 people. Of these, 64 were
engaged in research and development and 11 were engaged in general
administration. As of each of December 31, 1997 and December 31, 1996, Phytera
employed 74 and 53 people, respectively. None of Phytera's employees are
covered by collective bargaining agreements. Phytera believes its employee
relations are good.
   
  Phytera conducts operations in Denmark, the United Kingdom and the United
States. The activities comprising Phytera's Combinatorial Drug Discovery
Program and preclinical development program conducted at each of these
locations are illustrated in the following chart.     
 
                                Phytera, Inc.
                             (Worcester, MA, US)

                          .  Combinatorial biology 
                          .  Marine microorganism culture
                          .  Pharmaceutical screening
                          .  Preclinical development


   Phytera Ltd.             Phytera Symmbion ApS             Phytera A/S
 (Sheffield, UK)            (Copenhagen, Denmark)         (Taastrup, Denmark)
 
 . Combinatorial biology    . Combinatorial chemistry    . Combinatorial biology 
 . Plant cell culture                                    . Plant cell culture
 
                                       41
<PAGE>
 
                                   MANAGEMENT
 
Executive Officers, Key Employees and Directors
   
  The following table sets forth certain information regarding the executive
officers, key employees and Directors of Phytera as of November 30, 1998:     
 
<TABLE>
<CAPTION>
              Name                Age                 Position
              ----                ---                 --------
<S>                               <C> <C>
Robert G. Foster (1).............  60 Chairman of the Board of Directors
Malcolm Morville, Ph.D. .........  53 Director, President and Chief Executive
                                      Officer
Christopher J. Pazoles, Ph.D. ...  48 Vice President of Research
Stephen J. DiPalma ..............  39 Chief Financial Officer and Vice
                                      President
Neil Goldsmith...................  35 Managing Director of Phytera Symbion ApS
                                      and Phytera A/S
Uffe Bundgaard-Jorgensen, Ph.D.    53 Director
(2)..............................
Gustav A. Christensen............  51 Director
Graham K. Crooke, MB. BS. (1)....  39 Director
Steven J. Roth (1)(2)............  50 Director
Poul Schluter....................  69 Director
</TABLE>
--------
(1) Member of Compensation Committee
(2) Member of Audit Committee
   
  The current members of Phytera's Board of Directors have been elected
pursuant to voting agreements set forth in an Amended and Restated Stockholders
Agreement among Phytera and certain of its stockholders dated as of May 25,
1998. Such agreement specifies that the Chief Executive Officer will be a Board
member and gives certain stockholders and groups of stockholders the right to
designate other Board members. All provisions of this agreement will terminate
upon the closing of this offering. The current members of the Board will then
be subject to re-election at the next annual meeting of stockholders pursuant
to the classified board procedures discussed below.     
   
  Robert G. Foster is a founder of Phytera and has served as Chairman of the
Board since August 1995. Mr. Foster is a founder of Commonwealth BioVentures,
Inc., referred to in this prospectus as CBI, and has served as Chairman,
President and Chief Executive Officer of CBI since November 1987. Through CBI,
he was a founding investor in Alpha-Beta Technology, Inc., EcoScience Corp.,
and TSI Corp., among others. Prior to founding CBI, Mr. Foster served as
Chairman, President and Chief Executive Officer of Ventrex Laboratories, Inc.
from 1976 to 1987. Mr. Foster is also a director of Meridian Medical
Technologies, Inc. and the Wyman-Gordon Company.     
   
  Malcolm Morville, Ph.D. has served as President, CEO and Director since he
joined Phytera in 1993. From 1988 to 1993, Dr. Morville held senior management
positions at ImmuLogic Pharmaceutical Corp., most recently as Division Vice
President, Allergic Diseases Strategic Business Unit. From 1970 to 1988, Dr.
Morville held scientific and management positions at Pfizer, Inc., both in the
US and UK. Dr. Morville is also a member of the Boards of Directors of
Interneuron Pharmaceuticals, Inc. and the Massachusetts Biotechnology Council.
He received his Ph.D. in Biochemistry from the University of Manchester, UK.
       
  Christopher J. Pazoles, Ph.D. has served as Vice President of Research since
he joined Phytera in 1994. From 1981 to 1994, Dr. Pazoles served at Pfizer,
Inc., most recently as Director of Early Development Planning and Assistant
Director, Department of Immunology and Infectious Diseases. Dr. Pazoles
received his Ph.D. in microbiology from the University of Notre Dame and
conducted post-doctoral studies at the National Institutes of Health.     
   
  Stephen J. DiPalma has served as Chief Financial Officer and Vice President
since he joined Phytera in 1997. Mr. DiPalma previously served as Chief
Financial Officer of Aquila Biopharmaceuticals, Inc. (formerly Cambridge
Biotech Corporation) from 1996 to 1997. Prior to joining Aquila
Biopharmaceuticals, Mr. DiPalma served as Chief Operating Officer at The Picker
Institute from 1995 to 1996 and Chief Financial Officer of Genica
Pharmaceuticals Corporation (currently Athena Diagnostics, Inc.) from 1988 to
1995. He holds an MBA from Babson College.     
 
                                       42
<PAGE>
 
   
  Neil Goldsmith has served since 1997 as Managing Director of Phytera Symbion
ApS and Phytera A/S. He also provides senior management support to Phytera Ltd.
under a consulting agreement with Prospero Biotech Ltd. From 1996 to 1997, Mr.
Goldsmith served as Managing Director of Auda Pharmaceuticals ApS ("Auda") and
joined Phytera when it acquired Auda. Prior to his service at Auda, Mr.
Goldsmith served as Managing Director at GX BioSystems A/S from 1995 to 1996
and PNA Diagnostics A/S in 1994. Mr. Goldsmith was Vice President, Business
Development at Pharmacia Biosensor AB from 1992 to 1993.     
   
  Uffe Bundgaard-Jorgensen, Ph.D. has served as a Director of Phytera since
1996 and as Managing Director of Danish Venture Finance A/S since 1988. Dr.
Bundgaard-Jorgensen worked for Hoff & Overgaard Consultants as a Planning
Consultant from 1970 to 1979 and Komgas (Energy) as Managing Director (Denmark)
from 1979 to 1988. Dr. Bundgaard-Jorgensen is Chairman of SAXoTech A/S and HTC
A/S and a director of Data Flight Europe A/S and PPU Maconomy A/S. Dr.
Bundgaard-Jorgensen received his Ph.D. from the University of Copenhagen.     
   
  Gustav A. Christensen is a founder of Phytera and has served as a Director of
Phytera since 1992. He is also a part-time consultant to Phytera, Inc. Mr.
Christensen has served as Chairman of Alpha-Beta Technology, Inc. since 1991.
From 1988 to 1990, Mr. Christensen served as President and Chief Executive
Officer of ImmuLogic Pharmaceutical Corp. From 1983 to 1988, he served as
Senior Vice President, Commercial Affairs at Genetics Institute. Prior to
joining Genetics Institute, Mr. Christensen held a variety of management
positions at Baxter International Inc. Mr. Christensen is also a director of
several privately held biotechnology companies and Diatide, Inc., a publicly
held biotechnology company. Mr. Christensen holds an MBA from Harvard Business
School and a M.Sc. in economics from the University of Aarhus.     
   
  Graham K. Crooke, MB. BS. has served as a Director of Phytera since 1995 and
is a partner at Ticonderoga Capital, Inc. (formerly Dillon, Read Venture
Capital). Prior to joining Dillon, Read Venture Capital in 1992, Dr. Crooke
worked as a consultant for Booz, Allen & Hamilton, Inc. from 1990 to 1991. He
served as Product Manager at Molecular Devices Corporation from 1988 to 1990.
Dr. Crooke is a Director of Centaur Pharmaceuticals, InsMed Pharmaceuticals,
Epic Therapeutics and ProScript. Dr. Crooke earned his medical degree from the
University of Western Australia in 1983 and his MBA from Stanford Business
School in 1988.     
   
  Steven J. Roth has served as a Director of Phytera since 1995. Mr. Roth has
been a private equity investor since 1984 and a Partner and Principal of CR
Management Associates, Inc. since 1990. Prior to 1990, Mr. Roth held senior
positions with Bartex Publishing Group, Heublein, Inc., Corning, Inc. and
Touche Ross & Co., Inc. He holds an MBA with distinction from Harvard Business
School.     
   
  Poul Schluter has served as a Director of Phytera since 1997. Mr. Schluter
was a member of the Danish parliament from 1964 through 1994, and served as
Prime Minister of Denmark from 1982 to 1993. Since 1994, Mr. Schluter has
served as a member of the European Parliament, holding the office of Vice
President from 1994 to 1996. Mr. Schluter also serves as a director for several
organizations, including Bayer A/S, and Henke-Ecolab. In addition, he is an
advisor to the Republic National Bank of New York and Waste Management
International.     
 
Classification of the Board of Directors
   
  Phytera's Restated Certificate, to be filed concurrently with the closing of
this offering, provides for a staggered Board of Directors consisting of three
classes, with each class being as nearly equal in number as possible. At each
annual meeting of Phytera's stockholders, the term of one class expires and
their successors are elected for a term of three years. Phytera has designated
two Class I Directors (Dr. Crooke and Mr. Schluter), two Class II Directors
(Messrs. Foster and Roth) and three Class III Directors (Dr. Morville, Mr.
Christensen and Dr. Bundgaard-Jorgensen). These Class I, Class II and Class III
Directors will serve until the annual meetings of stockholders to be held in
1999, 2000 and 2001, respectively, and until their respective successors are
duly elected and qualified, or until their earlier resignation or removal. The
Restated Certificate provides that Directors may be removed only for cause by a
majority of stockholders. There are no family relationships among any of the
Directors or executive officers. See "Description of Capital Stock--Anti-
Takeover Measures."     
 
Board Committees
   
  Phytera has standing Audit and Compensation Committees of the Board of
Directors. The Audit Committee, consisting of Dr. Bundgaard-Jorgensen and Mr.
Roth, held two meetings in 1997. The primary     
 
                                       43
<PAGE>
 
   
function of the Audit Committee is to assist the Board of Directors in the
discharge of its duties and responsibilities by providing the Board with an
independent review of the financial health of Phytera and of the reliability of
Phytera's financial controls and financial reporting systems. The Audit
Committee reviews the general scope of Phytera's annual audit, the fee charged
by its independent accountants and other matters relating to internal control
systems.     
   
  The Compensation Committee of the Board of Directors determines the
compensation to be paid to all executive officers of Phytera, including the
Chief Executive Officer. The Compensation Committee also administers Phytera's
1998 Equity Incentive Plan (which amended and restated its 1992 Stock Option
Plan), including the grant of stock options and other awards under such plans.
The Compensation Committee held four meetings during 1997. The Compensation
Committee is currently composed of Messrs. Foster and Roth and Dr. Crooke.     
 
Scientific Advisors
   
  Phytera's scientific advisors are individuals with demonstrated expertise in
various fields who advise Phytera on long-term scientific planning, research
and development. Members also evaluate Phytera's research program, recommend
personnel to Phytera and advise it on technology matters. While the scientific
advisors have not met as an entire group, individual advisors and small groups
have been available to advise Phytera on specific scientific and technical
issues. The scientific advisors are compensated on a time and expenses basis
and, in some cases, have received shares of common stock, stock options or
warrants of Phytera. Phytera has entered into consulting agreements with a
number of scientific advisors. Aggregate amounts paid to scientific advisors
during 1996, 1997 and 1998 do not constitute a material component of amounts
spent by Phytera on research and development, when taken as a whole.     
   
  No scientific advisor is employed by Phytera and individual members may have
other commitments to or consulting or advisory contracts with their employers
or other entities that may conflict or compete with their obligations to
Phytera. Accordingly, such persons are expected to devote only a small portion
of their time to Phytera. Phytera's scientific advisors are:     
 
<TABLE>
<CAPTION>
         Scientific Advisors               Academic Institution/Affiliation
         -------------------               --------------------------------
 <C>                                 <S>
 Marine Science
  Arnold L. Demain, Ph.D. .......... Massachusetts Institute of Technology,
                                     Massachusetts, US
  William Fenical, Ph.D. ........... Scripps Institution of Oceanography,
                                     California, US
 Molecular Biology
  Kim Lewis, Ph.D.  ................ Tufts University, Massachusetts, US
  Dominique Sanglard, Ph.D.  ....... Centre Hospitalier Universitaire Vaudois,
                                     Lausanne, Switzerland
 Pharmaceutical Development
  Ze'ev Shaked, Ph.D.  ............. ZS & Associates, Massachusetts, US
  Cornelius Wortel, M.D., Ph.D. .... Clinquest Inc., Massachusetts, US
 Plant Science
  Charles Arntzen, Ph.D. ........... Boyce Thompson Institute for Plant Research,
                                     Cornell University, New York, US
  Michael W. Fowler, Ph.D. ......... High Value Horticulture Ltd., Oxford, UK
  Robert Verpoorte, Ph.D. .......... Leiden/Amsterdam Center for Drug Research,
                                     Leiden,
                                     Netherlands
 Chemistry
  Robert Langer, Ph.D. ............. Massachusetts Institute of Technology,
                                     Massachusetts, US
  Lester Mitscher, Ph.D. ........... University of Kansas, Kansas, US
  John Nielsen, Ph.D. .............. The Technical University of Denmark,
                                     Copenhagen, Denmark
 Infectious Diseases
  Gary Doern, Ph.D. ................ University of Massachusetts Medical Center,
                                     Massachusetts, US
  Robert C. Moellering, Jr., M.D. .. Deaconess Hospital & Harvard Medical School,
                                     Massachusetts, US
  Alan H. Sugar, M.D. .............. Boston University School of Medicine,
                                     Massachusetts, US
</TABLE>
   
  Phytera's Directors and consultants are eligible to participate in the 1998
Equity Incentive Plan. See "--1998 Equity Incentive Plan."     
 
                                       44
<PAGE>
 
Executive Compensation
   
  The following tables summarizes the compensation paid to or earned during the
fiscal year ended December 31, 1997 by Phytera's Chief Executive Officer and
all of the other executive officers of Phytera whose salary and bonus exceeded
$100,000. These officers are collectively referred to in this prospectus as the
Named Executive Officers.     
 
                           Summary Compensation Table
 
<TABLE>
<CAPTION>
                                           Annual Compensation                     Long-Term Compensation
                                  ------------------------------------- ---------------------------------------------
                                                                        Securities
                                                         Other Annual   Underlying  Restricted Stock    All Other
Name and 1997 Principal Position  Salary ($) Bonus ($) Compensation ($) Options (#)   Award(s) ($)   Compensation ($)
--------------------------------  ---------- --------- ---------------- ----------- ---------------- ----------------
<S>                               <C>        <C>       <C>              <C>         <C>              <C>
Malcolm Morville,
 Ph.D...................           250,000    30,000         --              --             --             --
President and Chief
Executive Officer,
Director
Stephen J. DiPalma (1)..             9,231       --          --           49,050         12,263            --
Vice President, Finance
Christopher J. Pazoles,
 Ph.D...................           181,715       --          --              --             --             --
Vice President of
 Research
John S. McBride (2).....            63,144       --          --              --             --             --
</TABLE>
--------
   
(1) Mr. DiPalma commenced employment with Phytera on December 8, 1997.
    Restricted stock was awarded in December 1997, but was not purchased until
    March 1998. The restricted stock is subject to a repurchase right for those
    shares unvested should Mr. DiPalma cease to be employed with Phytera.     
   
(2) Mr. McBride served as Vice President, Business Development to Phytera until
    May 1997.     
 
 1997 Option Grants
   
  The following table contains certain information regarding stock option
grants during the twelve months ended December 31, 1997 by Phytera to the Named
Executive Officers:     
 
                       Option Grants In Last Fiscal Year
 
<TABLE>
<CAPTION>
                                                                               Potential Realizable
                                                                                 Value at Assumed
                           Number of                                          Annual Rates of Stock
                          Securities  Percent of Total                          Price Appreciation
                          Underlying  Options Granted  Exercise or             for Option Term (1)
                            Options     to Employees   Base Price  Expiration ----------------------
          Name            Granted (#)  in Fiscal Year   ($/Share)     Date      5% ($)     10% ($)
          ----            ----------- ---------------- ----------- ---------- ---------- -----------
<S>                       <C>         <C>              <C>         <C>        <C>        <C>
Malcolm Morville,
 Ph.D. .................       --           --             --            --          --         --
Stephen J. DiPalma (2)..    49,050           27%          1.15      12/09/07      35,375     89,648
Christopher J. Pazoles,
 Ph.D. .................       --           --             --            --          --         --
John S. McBride.........       --           --             --            --          --         --
</TABLE>
--------
   
(1) The dollar amounts under these columns are the result of calculations at
    the 5% and 10% rates set by the SEC and, therefore, are not intended to
    forecast possible future appreciation, if any, in the price of the
    underlying common stock. No gain to the optionees is possible without an
    increase in price of the common stock, which will benefit all stockholders
    proportionately. In order to realize the potential values set forth in the
    5% and 10% columns of this table, the per share price of the common stock
    would have to be $1.87 and $2.98, or approximately 63% and 160% above the
    respective exercise or base price shown.     
(2) Represents an option grant on December 9, 1997 covering 49,050 shares,
    exercisable with respect to 16,350 of the underlying shares on December 8
    in each of the years 1999, 2000 and 2001.
 
                                       45
<PAGE>
 
 Option Exercises and Year-End Option Values
 
  The following table provides information about the number of shares issued
upon option exercises by the Named Executive Officers during the year ended
December 31, 1997, and the value realized by the Named Executive Officers. The
table also provides information about the number and value of options held by
the Named Executive Officers at December 31, 1997.
 
              Aggregated Option Exercises In Last Fiscal Year And
                         Fiscal Year-End Option Values
 
<TABLE>
<CAPTION>
                                                           Number of Securities      Value of Unexercised
                                                          Underlying Unexercised     In-the-Money Options
                                                             Options at Fiscal      At Fiscal Year End ($)
                                                               Year-End (#)                   (1)
                         Shares Acquired      Value      ------------------------- -------------------------
          Name           on Exercise (#) Realized ($)(1) Exercisable Unexercisable Exercisable Unexercisable
          ----           --------------- --------------- ----------- ------------- ----------- -------------
<S>                      <C>             <C>             <C>         <C>           <C>         <C>
Malcolm Morville, Ph.D.
 (2)....................        --               --        88,454       89,762      1,068,508    1,083,412
Stephen J. DiPalma......        --               --             0       49,050              0      581,400
Christopher J. Pazoles,
 Ph.D. (2)..............     13,489          164,013       16,105       37,442        194,418      453,652
John S. McBride (3).....      8,502          108,476          --           --             --           --
</TABLE>
--------
(1) Based on the difference between the option exercise price and an assumed
    initial public offering price of $13.00 per share of the underlying common
    stock.
   
(2) Certain unvested options are subject to acceleration of vesting upon the
    occurrence of milestone events related to Phytera's performance.     
   
(3) All unvested options held by Mr. McBride were terminated upon his departure
    from Phytera on May 19, 1997. Vested options not exercised have lapsed.
        
Loans to Insiders
   
  Phytera has not made any loans to its Directors or executive officers.     
 
1998 Equity Incentive Plan
   
  Phytera's 1998 Equity Incentive Plan, which amends and restates its 1992
Stock Option Plan, authorizes the grant of certain tax-advantaged stock
options, non tax-advantaged stock options, stock grants and other stock-based
awards for the purchase of an aggregate of up to 1,569,600 shares (subject to
adjustment for stock splits and similar capital changes) of common stock to
employees, consultants and Directors of Phytera or any Affiliate (as defined in
the 1998 Equity Incentive Plan) capable of contributing to Phytera's
performance. These grants are collectively referred to as Awards. As of
November 30, 1998, options to purchase 792,802 shares of common stock were
outstanding. Grants of Awards under the 1998 Equity Incentive Plan and all
questions of interpretations with respect to the 1998 Equity Incentive Plan are
determined by Phytera's Board of Directors. The Board of Directors has
appointed the Compensation Committee to administer the 1998 Equity Incentive
Plan. In the event of a consolidation or merger of Phytera or the sale of
substantially all of its assets, the Board of Directors may terminate
outstanding options after a 20 day notice to the option holders. If the Board
does not take such action, the holders of outstanding options will be entitled
to an option for securities of the successor corporation.     
 
Employee Stock Purchase Plan
   
  Phytera has also adopted an employee stock purchase plan, referred to as the
Purchase Plan, under which employees may purchase shares of common stock at a
discount from fair market value. There are 163,500 shares of common stock
reserved for issuance under the Purchase Plan. The shares of common stock to be
issued under the Purchase Plan will not be purchased in the open market and are
authorized, unissued shares of Phytera's common stock. The Purchase Plan is
intended to qualify as an employee stock purchase plan within the meaning of
Section 423 of the the Code. Rights to purchase common stock under the Purchase
Plan are granted at the discretion of the Compensation Committee, which
determines the frequency and duration of individual offerings under the Plan
and the dates when stock may be purchased. Eligible employees participate
voluntarily and may withdraw from any offering at any time before stock is
purchased. Participation terminates automatically upon termination of
employment. The purchase price per share of common stock in an offering is 85%
of the lesser of its fair market value at the beginning of the offering period
or on the applicable exercise date and may be paid through payroll deductions,
periodic lump sum payments or a combination of both. The Purchase Plan
terminates on September 17, 2008.     
 
                                       46
<PAGE>
 
Compensation of Directors
   
  Phytera currently reimburses its Directors for out-of-pocket expenses
incurred in connection with their rendering of services as Directors.
Phytera's Directors generally receive no cash remuneration for their services,
with the exception of Mr. Schluter who receives $1,000 per board meeting. Mr.
Christensen receives a stipend for consulting services provided to Phytera.
For the 12 months ended December 31, 1997, Mr. Christensen was paid $160,000
for his consulting services. For the 11 months ended November 30, 1998, Mr.
Christensen was paid $133,333 for his consulting services.     
   
  Directors who are not currently receiving compensation as officers or
employees of Phytera are eligible to receive options under the 1998 Equity
Incentive Plan in consideration for their service as Directors. The
Compensation Committee of the Board of Directors determines the number of
options awarded to non-employee directors based on comparative analysis of
similarly situated companies. During the twelve months ended December 31,
1997, Phytera granted options to purchase 9,810 shares of common stock to each
of Mr. Foster and Dr. Crooke and warrants to purchase 9,810 shares of common
stock to each of Mr. Schluter and Danish Venture Finance A/S (for Dr.
Bundgaard-Jorgensen's service as a member of the Board of Directors). See
"Principal Stockholders." During the eleven months ended November 30, 1998,
Phytera granted options to purchase 3,270 shares of common stock to members of
the Board.     
 
Executive Employment Agreements
   
  Under an Employment Agreement dated June 5, 1996, Phytera agreed to employ
Dr. Morville as President and Chief Executive Officer of Phytera for a period
of three years at a minimum annual salary of $250,000, plus incentive bonuses
as determined by the Compensation Committee. If Dr. Morville is terminated
without cause (including a failure to renew the agreement) or if Dr. Morville
terminates his employment for good reason (as defined in the agreement), he
will be entitled to receive a lump sum payment equal to six months base
salary, plus any benefits to which he is entitled for a period of up to six
months and a portion of the options granted to, and restricted stock held by,
Dr. Morville which would have otherwise vested on the next vesting date
following termination. Such portion is calculated by multiplying the number of
shares which would otherwise be exercisable on the next applicable vesting
date by a fraction, the numerator of which is the number of calendar days
elapsed from the last vesting date until termination and the denominator of
which is the total number of days from the last vesting date until the next
vesting date.     
 
Compensation Committee Interlocks And Insider Participation
   
  The Compensation Committee is responsible for determining salaries,
incentives and other forms of compensation for Directors, executive officers
and other employees of Phytera. The Compensation Committee also administers
various incentive compensation and benefit plans. The Compensation Committee
currently consists of Messrs. Foster and Roth and Dr. Crooke. Commonwealth
BioVentures, Inc., of which Mr. Foster is President, is a general partner of
both Commonwealth BioVentures IV Limited Partnership and Commonwealth
BioVentures V Limited Partnership, each of which is a venture capital fund and
a principal stockholder of Phytera. Dr. Crooke is a partner of Ticonderoga
Capital, Inc., a venture capital firm and the general partner of Venture
Associates II, L.P., which is the general partner of Concord Partners II,
L.P., a principal stockholder of Phytera. CR Management Associates, of which
Mr. Roth is a partner and principal, is a general partner of CR Management
Capital Partners I, L.P., a stockholder of Phytera. See "Principal
Stockholders" and "Certain Transactions."     
 
                                      47
<PAGE>
 
                              CERTAIN TRANSACTIONS
   
  In September and December 1995 each of BancBoston Ventures, Inc.,
Commonwealth BioVentures V Limited Partnership, called CBI V, Concord Partners
II, L.P. and CR Management Capital Partners I, L.P. purchased a Convertible
Term Note in the principal amount of $250,000, except in the case of CBI V,
which purchased a Convertible Term Note of $900,000. These investors are called
the Bridge Investors, and this financing is referred to as the 1995 Bridge
Financing. In connection with the 1995 Bridge Financing, Phytera issued to each
of the Bridge Investors other than CBI V warrants to purchase 14,683 shares of
common stock at an exercise price of $8.41 per share; CBI V received warrants
to purchase 35,673 shares of common stock at an exercise price of $8.41 per
share. In January 1996, the Bridge Investors and Danish Development Finance
Corporation (now known as Danish Venture Finance A/S) purchased shares of
Series C Convertible Preferred Stock $0.01 par value per share, referred to
generally in this prospectus as the Series C Stock, at a price of $8.41 per
underlying common stock share and warrants to purchase common stock at a price
of $0.02 per share as set forth below:     
 
<TABLE>
<CAPTION>
                                                Common Stock Underlying
                                          ------------------------------------
                Investor                  Series C Shares(#) Warrant Shares(#)
                --------                  ------------------ -----------------
<S>                                       <C>                <C>
Danish Venture Finance A/S...............      188,352            25,993
BancBoston Ventures, Inc.................       26,837             3,704
Commonwealth BioVentures V Limited
 Partnership.............................       95,758            13,215
Concord Partners II, L.P. ...............       84,389            11,656
CR Management Capital Partners I, L.P....       84,389            11,656
</TABLE>
   
  In separate closings as of each October 30 and November 29, 1996, Phytera
issued shares of its Series D Convertible Preferred Stock, $0.01 par value per
share, referred to generally in this prospectus as the Series D Stock, to a
large number of institutional and individual investors, all of whom were
considered non-US persons. Shares of Series D Stock were purchased for $6.50
($9.94 on an as-converted basis) per share. Codan Forsikring A/S, a principal
stockholder of Phytera, purchased 524,000 shares of Series D Stock convertible
into 342,696 shares of common stock.     
   
  On March 11, 1997, Phytera completed the acquisition of Auda Pharmaceuticals
ApS (later renamed Phytera Symbion ApS), a Danish biotechnology company
headquartered in Copenhagen. Danish Venture Finance A/S, a principal
stockholder of Phytera, of which Dr. Bundgaard-Jorgensen is a Director, owned
approximately 92.4% of the outstanding share capital of Auda prior to its
acquisition. As consideration for its interest in Auda, Danish Venture Finance
A/S received 402,000 shares of Phytera's Series D Stock, convertible into
262,908 shares of common stock, valued at $11.47 per underlying common stock
share, for total compensation valued at $3,015,000.     
   
  In separate closings as of each of May 26 and June 25, 1998, Phytera issued
shares of its Series E Convertible Preferred Stock, $0.01 par value per share,
referred to generally in this prospectus as the Series E Stock, convertible
into 678,274 shares of common stock to certain qualified institutions and high
net worth individuals. Shares of Series E Stock were purchased for $11.24 per
underlying common stock share. Danish Venture Finance A/S, Concord Partners II,
L.P., and Codan Forsikring A/S, each a principal stockholder of Phytera,
purchased shares of Series E Stock convertible into 17,269, 21,364 and 150,000
shares of common stock, respectively. In addition, Mr. Steven J. Roth, a member
of the Board of Directors, purchased shares of Series E Stock convertible into
8,894 shares of common stock for his own account.     
   
  Each of the Series C Stock, Series D Stock, and Series E Stock currently
converts into common stock at the rate of 0.654 for one. The rate of conversion
of the Series E Stock may adjust depending on the timing and price of the
offering. See "Description of Capital Stock."     
 
                                       48
<PAGE>
 
                             PRINCIPAL STOCKHOLDERS
   
  The following table sets forth certain information regarding the beneficial
ownership of the shares of Phytera's common stock as of January 31, 1999, by
(1) each person known by Phytera to own beneficially more than 5% of the common
stock, (2) each Director of Phytera, (3) each Named Executive Officer and (4)
all Directors and Named Executive Officers of Phytera as a group. The table
reflects the conversion of the existing Preferred Stock of Phytera into an
aggregate of 5,016,268 shares of common stock upon the closing of this
offering. The number of shares of common stock deemed outstanding after this
offering includes an additional 2,500,000 shares of common stock of Phytera
which are being offered for sale by Phytera in this offering. The ownership
numbers and percentages have been calculated in accordance with the rules of
the SEC. These rules require the inclusion of shares that may be obtained upon
the exercise of any presently exercisable option or warrant or any option or
warrant that becomes exercisable within 60 days of January 31, 1999, with
respect to the holder of any such option of warrant. Since the number of
options or warrants, if any, may vary among the stockholders listed, the
denominator used to calculate the percentages may vary among the stockholders
listed. Unless otherwise indicated, the address of each stockholder is Phytera,
Inc., 377 Plantation Street, Worcester, MA 01605, US. Except as indicated by
footnote, each of the parties listed above has sole voting and investment power
with respect to all shares shown as beneficially owned by such party.     
 
<TABLE>   
<CAPTION>
                                                       Percentage of Total
                                             Shares    ----------------------
                                          Beneficially  Before        After
 Beneficial Owner                            Owned     Offering     Offering
 -----------------                        ------------ ---------    ---------
<S>                                       <C>          <C>          <C>
5% Stockholders
Commonwealth BioVentures IV Limited
 Partnership............................     849,158        14.73%       10.28%
Commonwealth BioVentures V Limited Part-
 nership (1)
 4 Milk Street
 Portland, ME 04101, US
Concord Partners II, L.P. (2)...........     476,480         8.27%        5.77%
 535 Madison Avenue
 New York, NY 10022, US
A/S Forsikringsselskabet Codan Pension..     476,112         8.27%        5.77%
A/S Forsikringsselskabet Codan Liv
Codan Forsikring A/S
 c/o Codanhus
 Gammel Kongevuej 60
 DK-1790 Copenhagen V, Denmark
Danish Development Finance Corporation
 Denmark................................     435,007         7.55%        5.27%
 (now known as Danish Venture Finance
 A/S)
 Gladsaxevej 376
 DK-2860 Soborg, Denmark
Directors
Robert G. Foster (3)....................     877,580        15.19%       10.60%
 c/o Commonwealth BioVentures, Inc.
 4 Milk Street
 Portland, ME 04301, US
Graham K. Crooke, M.D. (4)..............     484,328         8.40%        5.86%
 c/o Ticonderoga Capital, Inc.
 555 California Street, Suite 4360
 San Francisco, CA 94104, US
Uffe Bundgaard-Jorgensen, Ph.D. (5).....     435,007         7.55%        5.27%
 c/o Danish Venture Finance A/S
 Gladsaxevej 376
 DK-2860 Soborg, Denmark
Steven J. Roth (6)......................     198,825         3.45%        2.40%
 192 E. Emerson Road
 Lexington, MA 02173, US
Gustav A. Christensen (7)...............     132,386         2.28%        1.59%
Poul Schluter (8).......................       5,886            *            *
 Frederiksberg Alle 66
 DK-1820 Frederiksberg C, Denmark
Named Executive Officers
Malcolm Morville, Ph.D. (9).............     312,891         5.32%        3.73%
Christopher J. Pazoles, Ph.D. (10)......      39,158            *            *
John S. McBride.........................      21,582            *            *
 5 Olde Connecticut Path
 Westborough, MA 01581
Stephen J. DiPalma......................      16,350            *            *
All Directors and Named Executive
 Officers as a group
 (10 persons) ..........................   2,523,993        42.10%       29.71%
</TABLE>    
 
                                       49
<PAGE>
 
--------
  *Indicates less than 1%
          
 (1) Includes (a) 480,229 shares held by Commonwealth BioVentures IV Limited
     Partnership, called CBI IV, and (b) 368,929 shares held by CBI V, 4,774
     shares of which are issuable on exercise of warrants, all of which will
     terminate upon the closing of this offering if not exercised.     
   
 (2) Includes 2,386 shares issuable on exercise of warrants, all of which will
     terminate upon the closing of this offering if not exercised.     
          
 (3) Includes (a) 480,229 shares held by CBI IV and (b) 368,929 shares, 4,774
     of which are issuable on exercise of warrants which will terminate upon
     the closing of this offering if not exercised, held by CBI V. Mr. Foster,
     President and Chief Executive Officer of CBI IV and CBI V, disclaims
     beneficial ownership of the shares and warrants held by CBI IV and CBI V,
     except to the extent of his proportional pecuniary interests therein. Also
     includes stock options to purchase 13,080 shares exercisable as of January
     31, 1999 or within 60 days thereafter.     
   
 (4) Includes 476,480 shares, 2,386 of which are issuable on exercise of
     warrants which will terminate upon the closing of this offering if not
     exercised, held by Concord Partners II, LP. Dr. Crooke is a partner of
     Ticonderoga Capital, Inc., an affiliate of Concord Partners II, LP. He
     disclaims beneficial ownership of the shares held by Concord Partners II,
     LP, except to the extent of his proportional pecuniary interests therein.
     Also includes stock options to purchase 1,962 shares exercisable as of
     January 31, 1999 or within 60 days thereafter.     
   
 (5) Consists of 435,007 shares held by Danish Venture Finance A/S of which Dr.
     Bundgaard-Jorgensen is the Managing Director. Dr. Bundgaard-Jorgensen
     disclaims beneficial ownership of the shares held by Danish Venture
     Finance A/S, except to the extent of his proportional pecuniary interest
     therein.     
   
 (6) Includes 184,044 shares, 4,774 of which are issuable on exercise of
     warrants which will terminate upon the closing of this offering if not
     exercised, held by CR Management Capital Partners I, L.P., of which Mr.
     Roth is a general partner. Mr. Roth disclaims beneficial ownership of the
     shares and warrants held by CR Management Capital Partners I, L.P., except
     to the extent of his proportional pecuniary interest therein. Also
     includes stock options to purchase 5,886 shares exercisable as of January
     31, 1999 or within 60 days thereafter.     
   
 (7) Includes (a) 3,807 shares held in trust for the benefit of Mr. Christensen
     and (b) 29,430 shares held in trust for the benefit of his children. Also
     includes 50,276 shares subject to stock options exercisable as of January
     31, 1999 or within 60 days thereafter. Also includes 13,080 shares of
     common stock subject to a repurchase right held by Phytera.     
   
 (8) Represents shares issuable upon exercise of warrants exercisable as of
     January 31, 1999 or within 60 days thereafter.     
   
 (9) Includes 39,240 shares held by Dr. Morville's wife and 19,620 shares held
     by Dr. Morville's children, as to which Dr. Morville disclaims beneficial
     ownership, and 18,312 shares held in trust for his benefit by Delaware
     Charter Guarantee & Trust Co. Also includes stock options to purchase
     122,952 shares exercisable as of January 31, 1999 or within 60 days
     thereafter.     
   
(10) Includes stock options to purchase 25,670 shares exercisable as of January
     31, 1999 or within 60 days thereafter.     
       
                                       50
<PAGE>
 
                          DESCRIPTION OF CAPITAL STOCK
   
  Upon the closing of this offering, the authorized capital stock of Phytera
will consist of 25,000,000 shares of common stock, $0.01 par value per share,
and 1,000,000 shares of Preferred Stock, $0.01 par value per share, after
giving effect to the amendment and restatement of Phytera's Restated
Certificate. At November 30, 1998, there was outstanding an aggregate of (1)
715,312 shares of common stock and (2) 7,275,425 shares of Existing Preferred
Stock which will automatically convert into 4,949,443 shares of common stock
upon the closing of this offering, assuming that in connection with conversion
of the Series E Stock the closing of this offering occurs on February 8, 1999
at a price per share of $13.00 (the mid-point of the expected range). As of the
date of this prospectus, Phytera had 246 shareholders. Assuming the closing of
this offering occurs on February 8, 1999 at a per share price of $13.00 (the
mid-point of the expected range) and the exercise of warrants to purchase
68,995 shares of common stock, upon the closing of this offering, Phytera will
have 8,233,750 shares of common stock outstanding.     
   
  The following summary of certain provisions of the common stock and Preferred
Stock does not purport to be complete and is subject to, and qualified in its
entirety by, the provisions of Phytera's Restated Certificate, the form of
which is included as an exhibit to the Registration Statement, and by the
provisions of applicable law.     
   
  Since 1992 there has been a stock option plan for Phytera's employees and
officers, consultants and Board of Directors. The following table sets forth
the total number of options which are outstanding at November 30, 1998, their
exercise prices and their expiration.     
 
<TABLE>   
<CAPTION>
      Year Granted     Total Numbers     Range of Exercise Prices     Expiration
      ------------     -------------     ------------------------     ----------
      <S>              <C>               <C>                          <C>
          1993            16,791                     $0.02               2003
          1994            34,269                     $0.84               2004
          1995            19,146                     $0.84               2005
          1996            312,972              $0.84-$0.99               2006
          1997            105,187              $0.99-$1.15               2007
          1998            304,437              $1.15-$7.65               2008
                          -------
                          792,802
                          =======
</TABLE>    
   
  Phytera has issued warrants which give rights to purchase its capital stock.
The following table sets forth the total number of warrants which are
outstanding at November 30, 1998, their exercise prices and their expiration.
    
<TABLE>   
<CAPTION>
      Type of Stock   Year Granted Total Numbers Range of Exercise Prices  Expiration
      -------------   ------------ ------------- ------------------------  ----------
      <S>             <C>          <C>           <C>                      <C>
          Common          1995         85,637             $8.41           1999 or IPO*
          Common          1997         62,683          $0.99-$1.15            2003
                                      -------
                                      148,320
                                      =======
         Series C
        Preferred         1996         68,995             $0.02           2001 or IPO*
         Series C
        Preferred         1996         11,934             $8.41           2001 or IPO*
                                      -------
                                       80,929
                                      =======
                                      229,249
                                      =======
</TABLE>    
--------
* the earlier to occur
 
Common Stock
   
  Holders of common stock are entitled to one vote per share on matters to be
voted upon by the stockholders. There are no cumulative voting rights or
preemptive rights. Upon the liquidation, dissolution or winding up of Phytera,
holders of common stock share ratably in the assets of Phytera available for
distribution to its stockholders, subject to the preferential rights of any
then outstanding shares of Preferred Stock. There will be no shares of
Preferred Stock outstanding immediately following the effective date of the
Registration Statement. The common stock outstanding upon the effective date of
the Registration Statement, and the shares offered by Phytera hereby, upon
issuance and sale, will be fully paid and nonassessable. Phytera does not have
an established procedure pursuant to which it purchases back shares of common
stock from its stockholders.     
 
                                       51
<PAGE>
 
   
  Holders of common stock are entitled to receive dividends when, as and if
declared by the Board of Directors out of funds legally available therefor.
Phytera has not paid any dividends since its incorporation. Phytera does not
anticipate paying any dividends in the foreseeable future. If Phytera were to
pay any dividends, they would be distributed first to satisfy any preferential
payments to holders of any Preferred Stock then outstanding, if any, and then
distributed ratably to the holders of common stock. Any dividends declared and
paid by Phytera will be delivered by it or its agent to each stockholder at the
stockholder's last known address. Generally, any dividend which is delivered by
Phytera or its agent and not claimed by the holder of the shares in respect of
which the dividend has been paid within a certain period of time will become
the property of the governing body of the jurisdiction of the stockholders's
last known address. The time period referred to in the previous sentence varies
depending on the jurisdiction. In the United States, this time period is
determined by each state, and in Europe, this time period is determined by each
country.     
   
  As described more fully in the section headed "Settlement and Clearance", the
shares of common stock issued pursuant to this offering will be in the form of
either one global share certificate or one book entry (such form to be
determined in the discretion of the underwriters just prior to closing), which
will be deposited with The Depository Trust Company, referred to in this
prospectus as DTC, a US clearing agency. Common Stock held by existing
stockholders will continue to be represented by physical share certificates
issued in the name of each holder until appropriate arrangement has been made
by Phytera and the holder to convert to book entry. Additional shares of common
stock, up to the authorized but as yet unissued total stated in Phytera's
Restated Certificate, may be issued in such number and at such price as may be
determined in the discretion of Phytera's Board of Directors. Any increase in
the authorized number of shares of common stock requires the consent and
approval of Phytera's stockholders.     
 
Contingent Series E Conversion Adjustment
   
  The Series E Stock would convert to common stock on a 0.654 for one basis if
this offering (1) is closed on or before June 25, 1999 (the "Series E
Anniversary") and (2) the price per share in the offering is not less than
$15.29 plus $3.82 multiplied by a fraction, the numerator of which is the
number of days elapsed from June 25, 1998 up to and including the closing date
of this offering and the denominator of which is 365 (the "Minimum Price"). In
the event that either the offering is closed after the Series E Anniversary or
the price per share in the offering is less than the Minimum Price, the number
of shares of common stock outstanding after the offering will increase as a
result of a greater number of shares being issued upon conversion of the
currently outstanding shares of Series E Stock. If the offering is closed at a
per share price less than the Minimum Price, the number of shares of common
stock issuable upon conversion of the Series E Stock will increase to a number
that is equal in value (determined with reference to the actual offering price)
to the Minimum Price. If the offering is closed after the Series E Anniversary,
the number of shares of common stock issuable upon conversion shall increase by
a specified percentage on each of the Series E Anniversary and the dates five
months and ten months after the Series E Anniversary. Assuming this offering is
closed on February 8, 1999 at a per share price of $13.00 (the mid-point of the
expected price range), an additional 191,315 shares of common stock will be
issued upon the conversion of the Series E Stock.     
 
Preferred Stock
   
  Phytera's Board of Directors has the authority to issue up to 1,000,000
shares of Preferred Stock in one or more series and to fix the relative rights,
preferences, privileges, qualifications, limitations and restrictions thereof,
including dividend rights, dividend rates, conversion rights, voting rights,
terms of redemption, redemption prices, liquidation preferences and the number
of shares constituting any series or the designation of such series, without
further vote or action by the stockholders. The Board of Directors could,
without the approval of the stockholders, issue Preferred Stock having voting
or conversion rights that could adversely affect the voting power of the
holders of common stock and the issuance of Preferred Stock could be used,
under certain circumstances, to render more difficult or discourage a hostile
takeover of Phytera. Phytera has no present plans to issue any shares of
Preferred Stock.     
 
Stock Purchase Warrants
   
  From September through December 1995, Phytera, in connection with the
issuance of certain Convertible Term Notes, issued warrants to purchase an
aggregate of 85,637 shares of common stock. These warrants are referred to as
the Bridge Warrants. The Bridge Warrants are exercisable at $8.41 per share and
expire on the earlier of (1) January 31, 1999 or (2) the closing of this
offering. As of November 30, 1998, all of the Bridge     
 
                                       52
<PAGE>
 
   
Warrants remained outstanding. For the purpose of this prospectus, we have not
assumed these warrants will be exercised prior to this offering.     
   
  In January and July of 1996, Phytera, in connection with the issuance of
certain Series C Stock, issued warrants to purchase an aggregate of 148,041
shares of Series C Stock, convertible into 96,819 shares of common stock, at an
exercise price of $0.01 ($0.02 on an as converted basis) per share of Series C
Stock and warrants to purchase an aggregate of 18,247 shares of Series C Stock,
convertible into 11,934 shares of common stock, at an exercise price of $5.50
($8.41 on an as converted basis) per share of Series C Stock. These warrants
are collectively referred to as the Series C Warrants. The Series C Warrants
expire on the earlier of (1) five years from the respective date of the
issuance of the Series C Warrant or (2) the closing of this offering. As of
November 30, 1998, 123,744 Series C Warrants were outstanding and 42,544 had
been exercised, convertible into 80,929 and 27,824 shares of common stock,
respectively. Of the outstanding Series C Warrants, 105,497 are exercisable at
the price of $0.01 ($0.02 on an as converted basis) per share which are
convertible into 68,995 shares of common stock. For the purposes of this
prospectus, we have assumed the Series C Warrants with a $0.01 exercise price
($0.02 on an as converted basis) will be exercised prior to the closing of this
offering and that the remaining Series C Warrants will not be exercised prior
to this offering.     
   
  In December 1997, Phytera issued warrants to purchase an aggregate of 39,793
shares of common stock to selected employees and Directors in Denmark. These
warrants have an exercise price of $1.15 per share, vest over a three to five
year period beginning on January 1, 1999 and expire on December 9, 2003.
Phytera also issued warrants to DACC ApS to purchase an aggregate of 22,890
shares of common stock at an exercise price of $0.99. These warrants vest over
a two year period beginning on January 1, 1999, and expire on December 9, 2003.
    
Stockholders' Meetings
   
  Phytera is required to hold an annual meeting of stockholders that is held on
a date selected by its Board of Directors. Matters generally put to a
stockholders' vote include the election of Directors, the approval of certain
changes in the capital stock of Phytera, the adoption and/or amendment of
certain employee benefit plans, the approval of certain amendments to the
Certificate of Incorporation and By-laws of Phytera, and other extraordinary
matters. The presence in person or by proxy of stockholders owning a majority
of all votes entitled to be cast at a meeting constitutes a quorum. A plurality
of the votes cast is required for the election of Directors, which means that
those Directors receiving the most votes are elected to office although they
may not necessarily have received a majority of votes. Most other matters
require the affirmative vote of a majority of the votes cast by those
stockholders present at the meeting, although certain extraordinary matters
require a greater vote.     
   
  All stockholders (including those residing in Denmark and Belgium) will be
sent notice of an annual or special meeting not less than ten days nor more
than 60 days before it is scheduled to be held. In addition, Delaware law and
the rules of the SEC require greater advance notice for certain transactions.
Shares cannot be voted at a meeting unless the holder of record is present in
person or by proxy, a means by which a stockholder may authorize the voting of
his or her shares at a meeting. At a meeting, the shares represented by each
properly executed proxy card will be voted in accordance with the stockholder's
directions, thereby providing an alternative to a stockholder appearing in
person at a meeting in order to cast his or her vote. Any stockholder executing
a proxy card has the right to revoke it by providing written or oral notice of
revocation to the secretary of Phytera, or by delivering a subsequently
executed proxy card, at any time before the proxy is voted.     
 
Anti-Takeover Measures
   
  In addition to the Board of Directors' ability to issue shares of Preferred
Stock, the Restated Certificate and the By-laws of Phytera contain several
other provisions that are commonly considered to discourage unsolicited
takeover bids. Under the Restated Certificate and By-laws, the Board of
Directors may enlarge the size of the Board and fill any vacancies on the
Board. The By-laws also provide that special meetings of Phytera's stockholders
may be called only by the President, the Chairman of the Board, the Board of
Directors, any officer, stockholders holding a majority of the outstanding
voting capital stock, or any stockholder or stockholders holding at least 10%
of any series of Preferred Stock, and require advance notice of business to be
brought by a stockholder before such special meeting.     
 
                                       53
<PAGE>
 
   
  Phytera may be subject to a Delaware law regulating corporate takeovers,
referred to as the Anti-Takeover Law. In certain circumstances, the Anti-
Takeover Law prevents certain public Delaware corporations, from engaging in a
"business combination" (which includes a merger or sale of more than 10% of the
corporation's assets) with an "interested stockholder" (a stockholder who owns
15% or more of the corporation's outstanding voting stock) for three years
following the date on which such stockholder became an "interested stockholder"
subject to certain exceptions, unless the transaction is approved by the Board
of Directors and the holders of at least 66 2/3% of the outstanding voting
stock of the corporation (excluding shares held by the interested stockholder).
The statutory ban does not apply if, upon consummation of the transaction in
which any person becomes an interested stockholder, the interested stockholder
owns at least 85% of the outstanding voting stock of the corporation (excluding
shares held by persons who are both directors and officers or by certain
employee stock plans). A Delaware corporation subject to the Anti-Takeover Law
may "opt out" of the Anti-Takeover Law with an express provision either in its
certificate of incorporation or by-laws resulting from a stockholders'
amendment approved by at least a majority of the outstanding voting shares;
such an amendment is effective following expiration of twelve months from
adoption. The Anti-Takeover Law applies to Delaware corporations with a class
of stock listed on a national securities exchange or Nasdaq. It is not clear
whether the Anti-Takeover Law would apply to Phytera if the stock is not listed
on Nasdaq or another US exchange but is listed on foreign exchanges. Phytera
has not "opted out" of the Anti-Takeover Law.     
   
  The foregoing provisions of Delaware law and the Restated Certificate and By-
laws could have the effect of discouraging others from attempting a hostile
takeover of Phytera and, as a consequence, they may also inhibit temporary
fluctuations in the market price of the common stock that might result from
actual or rumored hostile takeover attempts. Such provisions may also have the
effect of preventing changes in the management of Phytera. It is possible that
such provisions could make it more difficult to accomplish transactions which
stockholders may otherwise deem to be in their best interests.     
 
Equity
   
  The table below shows the changes to equity capital in Phytera since its
formation. The data are for the three years ended December 31, 1995, 1996 and
1997 and the nine months ended September 30, 1998. The net proceeds from
capital issues were derived from the sale of the Existing Preferred Stock, the
sale of common stock and the exercise of options and warrants to purchase
common stock.     
 
                                 Equity Capital
 
<TABLE>
<CAPTION>
                                                                Accumulated
     As of               Paid in Capital Total Value of Shares   Net Loss     Stockholders Equity
     -----               --------------- --------------------- -------------  -------------------
<S>                      <C>             <C>                   <C>            <C>
December 31, 1995.......   $       834       $ 11,854,317      $ (13,061,259)    $ (1,206,942)
December 31, 1996.......    19,231,008         31,085,325        (21,350,139)       9,735,186
December 31, 1997.......     3,319,440         34,404,765        (31,104,151)       3,300,614
September 30, 1998......     8,177,865         42,582,630        (37,688,864)       4,893,766
</TABLE>
 
 
Transfer Agent
 
  The transfer agent and registrar for the common stock is American Stock
Transfer & Trust Company.
 
Recent Sales of Unregistered Securities
   
  Since September 1995, Phytera has issued and sold the following securities,
in each case in reliance on an exemption from required registration pursuant to
the Securities Act.     
 
1995 Bridge Financing
   
  From September through December 1995, Phytera issued certain Convertible Term
Notes, called the Bridge Notes, for an aggregate principal amount of $1,762,236
bearing interest on unpaid principal at a rate of 7% per annum and convertible
into Series C Stock at the conversion price of $6.25 ($9.56 on an as converted
basis) per share of Series C Stock, and the Bridge Warrants, exercisable at the
price of $8.41 per share, to certain current stockholders of Phytera. The
Bridge Notes and the Bridge Warrants are together referred to as the 1995
Bridge Financing.     
 
                                       54
<PAGE>
 
Series C Private Placement
   
  In January and July 1996, Phytera sold an aggregate of 1,113,055 shares of
Series C Stock convertible into 727,938 shares of common stock, at a price of
$6.25 ($9.56 on an as converted basis) per share of Series C Stock, and issued
the Series C Warrants. This Series C Stock and the Series C Warrants are
together referred to as the Series C Private Placement.     
   
  Both the 1995 Bridge Financing and the Series C Private Placement were exempt
from the registration requirements of the Securities Act pursuant to the
private offering exemption under Section 4(2) thereof. In determining the
availability of this exemption, Phytera relied on representations made by the
purchasers in the stock purchase agreement pursuant to which the Series C Stock
was purchased.     
 
Neptune Acquisition
   
  On July 31, 1996, as consideration for the acquisition by Phytera of Neptune
Pharmaceuticals, Inc., a US pharmaceutical company, Phytera issued 246,050
shares of Series B Stock, to the stockholders of Neptune convertible into
160,917 shares of common stock. Shares of Series B Stock were valued at $5.50
($8.41 on an as converted basis) per share.     
   
  The shares issued in connection with the Neptune acquisition were exempt from
the registration requirements of the Securities Act pursuant to the private
offering exemption under Section 4(2) thereof. In determining the availability
of this exemption, Phytera relied on representations made by the stockholders
of Neptune in the acquisition agreement.     
 
Series D Private Placement
   
  In separate closings as of each of October 30 and November 29, 1996, Phytera
issued an aggregate of 1,900,000 shares of its Series D Stock, convertible into
1,242,600 shares of common stock, to a large number of institutional and
individual investors. All purchasers of Series D Stock were "Non-US Persons" as
defined by Rule 902 under Regulation S under the Securities Act, primarily
resident in Scandinavia. In determining the availability of this exemption,
Phytera relied on representations made by investors in subscription agreements
pursuant to which the Series D Stock was purchased, as well as certain
representations from the placement agent in the placement agreement. Shares of
Series D Stock were purchased for $6.50 ($9.94 on an as converted basis) per
share, which represents the initial conversion price at which shares of Series
D Stock convert into common stock. Carnegie Bank A/S, acted as placement agent
for the sale of the Series D Stock and, pursuant to the terms of a placement
agreement between Carnegie and Phytera dated as of October 5, 1996, received a
placement fee equal to 7% of the aggregate proceeds raised, plus accountable
expenses.     
 
Auda Acquisition
   
  On March 11, 1997, as consideration for the acquisition by Phytera of Auda,
Phytera issued additional shares of Series D Stock to the selling stockholders
of Auda. Phytera issued 402,000 shares (convertible into 262,908 shares of
common stock) to Danish Venture Finance A/S (previously known as Danish
Development Finance Corporation) and 33,000 shares (convertible into 21,582
shares of common stock) to GJK Holding ApS, a Danish corporation. Shares of
Series D Stock were valued at $7.50 ($11.47 on an as converted basis) per
share.     
   
  The private placement of the Series D Stock and the shares issued in
connection with the Auda acquisition were exempt from the registration
requirements of the Securities Act pursuant to Regulation S. In determining the
availability of this exemption, Phytera relied on representations made by
Danish Development Finance Corporation and GJK Holding ApS in the Auda
acquisition agreement.     
 
Series E Private Placement
   
  In separate closings as of each of May 26 and June 25, 1998, Phytera issued
an aggregate of 762,586 shares of the Series E Stock which are convertible into
an aggregate of 678,274 shares of common stock (assuming the closing of this
offering on February 8, 1999 at a public offering price of $13.00 per share
(the mid-point of the expected range)) to certain qualified institutions and
high net worth individuals. Shares of Series E Stock were purchased for $10.00
($11.24 on an as converted basis) per share. Carnegie acted as placement agent
for the sale of the Series E Stock and, pursuant to the terms of a placement
agreement between Carnegie and Phytera dated March 23, 1998, received a
placement fee equal to 7% of the gross proceeds from the subscription of Series
E Stock by new investors and 2% of the gross proceeds from the subscription of
Series E Stock by existing investors of Phytera.     
 
                                       55
<PAGE>
 
   
  An additional 50,000 shares of Series E Stock which are convertible into an
aggregate of 44,472 shares of common stock (based on the same assumptions as
the immediately preceding paragraph) were purchased by Lilly on September 18,
1998 at a price of $10.00 ($11.24 on an as converted basis) per share. The
issuance to Lilly did not involve any compensation to Carnegie.     
   
  The sale of the Series E Stock and the sale to Lilly were exempt from the
Securities Act pursuant to Regulation D. In determining the availability of
this exemption, Phytera relied on representations made by Series E investors in
subscription agreements for the Series E Stock, as well as on selling
restrictions contained in the agreement with the placement agent.     
 
Employee, Director and Consultant Issuances
 
  The following securities have been sold in reliance on an exemption from
registration pursuant to Section 4(2) of the Securities Act:
   
  Since inception, Phytera has granted employees and consultants options under
its 1998 Equity Incentive Plan, which amends and restates its 1992 Stock Option
Plan, which have a ten-year term and are exercisable at a price equal to the
fair market value of the common stock at the date of grant, as determined in
good faith by the Compensation Committee of the Board of Directors. As of
November 30, 1998, options for 792,802 shares of Phytera's common stock were
outstanding. As of such date, options for 187,775 shares of common stock had
been exercised at an average price of $0.55 per share.     
   
  In December 1997, Phytera issued warrants to purchase an aggregate of 39,793
shares of its common stock to its Danish employees and certain members of the
Board of Directors based in Denmark which vest over a three to five year period
beginning on January 1, 1999 and are exercisable at $1.15 per share, being a
price equal to the fair market value of the common stock at the date of grant,
as determined in good faith by the Compensation Committee of the Board of
Directors. Phytera also issued warrants to DACC ApS to purchase an aggregate of
22,890 shares of common stock at an exercise price of $0.99 per share. Such
warrants vest over a two-year period beginning on January 1, 1999.     
   
  In addition, from inception through November 30, 1998, Phytera made grants of
an aggregate of 434,372 shares of common stock to certain employees, Directors
and consultants to Phytera. Such shares were sold at fair market value and are
subject to repurchase rights held by Phytera.     
 
                        SHARES ELIGIBLE FOR FUTURE SALE
   
  Future sales of common stock in the public market could adversely affect the
stock's market price. Upon completion of this offering there will be 8,233,750
shares of common stock outstanding, assuming no currently outstanding options
or warrants (other than the warrants for 68,995 shares with a price of $0.02
per share which expire on the closing of this offering) are exercised and that
the Series E Stock converts at the rate of one-to-one. The 2,500,000 shares
sold in this offering (plus any additional shares sold upon exercise of the
underwriters' over-allotment options) will be freely transferable. The
5,733,750 shares of common stock expected to be outstanding prior to this
offering will, subject to certain agreements described below, be eligible for
immediate resale in Denmark and other member states of the EU. In the US, such
resales will also be subject to Rule 144 under the Securities Act, as described
below.     
   
  Certain Phytera stockholders, Directors and employees holding in the
aggregate approximately 4,948,819 shares of common stock (plus approximately
223,878 shares issuable upon exercise of vested options and warrants
exercisable at $0.02 per share), have agreed, subject to certain limited
exceptions, not to sell or otherwise dispose of any of their shares for a
period of 180 days after the date of this prospectus without the prior written
consent of SG Cowen Securities Corporation. The holders of an additional
763,349 shares of common stock are subject to agreements not to sell or
otherwise dispose of any of their shares for a period of 90 days after the
effectiveness of the offering.     
   
  For US securities law purposes, the 5,733,750 outstanding shares of common
stock owned by existing stockholders are deemed "Restricted Shares" pursuant to
Rule 144 under the Securities Act. These shares may not be resold in the US,
except pursuant to an effective registration statement or an applicable
exemption from registration. If Phytera establishes a public market for its
common stock in the US, the holders of the Restricted     
 
                                       56
<PAGE>
 
   
Shares may sell such shares into the US public market relying on the exemptions
from registration under Rule 144 and Rule 701 under the Securities Act. Upon
expiration of the 180 day lock-up agreements described above, 4,834,965 shares
will be eligible for immediate sale in the US under Rules 144 and 701. The
remaining 113,854 locked-up Restricted Shares will become eligible for resale
under Rule 144 from time to time thereafter upon the expiration of the minimum
one year holding period prescribed by Rule 144.     
 
  Of the 784,931 Restricted Shares not subject to the 180 day lock-up
agreements, 13,208 Restricted Shares may be sold in the US pursuant to Rule
144(k) immediately upon the effectiveness of this offering, and the remaining
771,723 shares not subject to the 180 day lock-up agreement (which amount
includes 763,349 Restricted Shares subject to a 90 day lock-up agreement) may
be sold under Rule 144 and Rule 701 under the Securities Act upon the
expiration of 90 days after the effectiveness of this offering.
   
  In general, under Rule 144, as currently in effect, a person (or persons
whose shares are aggregated), including an affiliate, who has beneficially
owned Restricted Shares for at least one year from the later of the date such
Restricted Shares were acquired from Phytera and (if applicable) the date they
were acquired from an affiliate, is entitled to sell in the US, within any
three-month period, a number of shares that does not exceed the greater of 1%
of the then outstanding shares of common stock (57,337 shares based on the
number of shares to be outstanding after this offering) or the average weekly
trading volume in the public market (combined volume on all markets) during the
four calendar weeks preceding such sale. Sales in the US under Rule 144 are
also subject to certain requirements as to the manner and notice of sale and
the availability of public information concerning Phytera. Affiliates may sell
shares not constituting Restricted Shares in accordance with the foregoing
volume limitations and other restrictions, but without regard to the one-year
holding period. All sales of Restricted Shares held by affiliates of Phytera
must be sold under Rule 144, subject to the foregoing volume limitations and
other restrictions. Further, under Rule 144(k), if a period of at least two
years has elapsed between the later of the date Restricted Shares were acquired
from Phytera or an affiliate of Phytera, a holder of such Restricted Shares who
is not an affiliate of Phytera at the time of the sale and has not been an
affiliate of Phytera for at least three months prior to the sale would be
entitled to sell the shares immediately without regard to the volume
limitations or other conditions described above.     
   
  Rule 701 under the Securities Act provides an exemption from the registration
requirements of the Securities Act for offers and sales of securities issued
pursuant to certain compensatory benefit plans or written contracts of a
company not subject to the reporting requirements of Sections 13 or 15(d) of
the Securities Exchange Act of 1934, as amended, referred to in this prospectus
as the Exchange Act. Any employee, officer or director of or consultant to
Phytera who acquired shares of common stock from Phytera prior to this offering
or on exercise of a stock option granted prior to this offering is entitled to
rely on the resale provisions of Rule 701, which permit non-affiliates to sell
such shares without having to comply with the public information, holding
period, volume limitation, or notice requirements of Rule 144 and permit
affiliates to sell their Rule 701 shares without having to comply with the
holding period requirements of Rule 144 commencing, in each case, 90 days after
the date of this prospectus.     
 
  No prediction can be made as to the effect, if any, that market sales of
additional shares or the availability of such additional shares for sale will
have on the market price of the common stock. Nevertheless, sales of
substantial amounts of common stock in the public market may have an adverse
impact on the market price for the common stock. See "Risk Factors--Investors
Will Face Immediate and Substantial Dilution."
 
Registration Rights
   
  Pursuant to the terms of an Amended and Restated Investors' Rights Agreement
dated as of May 26, 1998, the holders of the 4,949,443 shares of common stock
to be issued on conversion of the Existing Preferred Stock and the holders of
68,995 shares expected to be issued on exercise of warrants expiring in
connection with the offering are entitled to certain rights with respect to
registration under the Securities Act. If Phytera proposes to register any of
its securities under the Securities Act, either for its own account or for the
account of other security holders, it is obligated to use its best efforts to
include these shares in such registration. These shares will not form a part of
the shares of common stock registered in this offering. In addition, these
stockholders have certain demand registration rights with respect to such
shares.     
 
Reporting Requirements
   
  Phytera is required to register the shares of common stock offered hereby
under Section 12(g) of the Exchange Act, subjecting it and its shareholders to
Exchange Act reporting requirements. Under Section 13 of     
 
                                       57
<PAGE>
 
   
the Exchange Act, any person who is the beneficial owner of more than 5% of
Phytera's common stock must file with the SEC to report acquisitions or
holdings of the common stock. Under Section 16 of the Exchange Act, any person
who is a beneficial holder of more than 10% of any of Phytera's common stock,
and all Directors and executive officers of Phytera, are required to file with
the SEC to report all changes in such person's beneficial ownership of the
common stock.     
   
  Under EASDAQ rules, any person who is a 5% Holder must report to Phytera all
acquisitions and dispositions of Phytera's common stock. Phytera is required to
notify EASDAQ, and to disclose to the public through the EASDAQ Publication
Mean, the identity and number of shares of common stock held by all 5% Holders.
       
  Under Danish law, any person who possesses any of Phytera's common stock
which in the aggregate represents either (1) 5% or more of Phytera's common
stock, or (2) 5% or more of the total voting power attributable to Phytera's
common stock, is required immediately to report the extent of such holdings and
such shareholders' identity to Phytera and the CSE. Subsequent changes in
percentage of common stock held or voting power acquired must be reported
immediately at each respective 5% interval (e.g. 10%, 15% and 20%) and at 33
1/3% and 66 2/3%. Reductions in common stock and voting power must also be
reported at such intervals accordingly.     
 
                            SETTLEMENT AND CLEARANCE
   
  The following summarizes Phytera's understanding of the operation of the
clearing system which will be in place after this offering. Persons proposing
to trade the common stock on EASDAQ or on the CSE should inform themselves
about the costs of such trading.     
   
  The common stock sold in this offering will be represented by one global
share certificate that will be deposited with DTC in the United States.
Transactions in the common stock executed in the United States will be settled
by book-entry through financial institutions that are participants in DTC.     
   
  DTC is a limited-purpose trust company that was created to hold securities
for its participating organizations, collectively called DTC Participants, and
to facilitate the clearance and settlement of transactions in such securities
between DTC Participants through electronic book-entry changes in accounts of
DTC Participants. DTC Participants include securities brokers and dealers,
banks and trust companies, clearing corporations and certain other
organizations. Access to DTC's system is also available to other entities such
as banks, brokers, dealers and trust companies, collectively called DTC
Indirect Participants that clear through or maintain a custodial relationship
with a DTC Participant, either directly or indirectly. Persons who are DTC
Participants may beneficially own securities held by or on behalf of DTC only
through DTC Participants or DTC Indirect Participants.     
   
  Phytera's common stock will be quoted on EASDAQ in USD. Transactions in the
common stock on EASDAQ will be settled in USD or any other Euroclear eligible
currency through the Euroclear System. Investors in the common stock on EASDAQ
must have a securities account with a financial institution which directly or
indirectly has access to Euroclear. Euroclear is a DTC Indirect Participant.
    
  Euroclear holds securities and book-entry interests in securities for its
direct participants, which include banks, securities brokers and dealers, other
professional intermediaries and foreign depositories and facilitates the
clearance and settlement of securities transactions between Euroclear
participants, and between Euroclear participants and participants of certain
other securities intermediaries, including DTC, through electronic book-entry
changes in accounts of such participants or other securities intermediaries.
 
  Euroclear provides Euroclear participants, among other things, with
safekeeping, administration, clearance and settlement, securities lending and
borrowing, and related services. Euroclear participants are investment banks,
securities brokers and dealers, banks, Central banks, supranationals,
custodians, investment managers, corporations, trust companies and certain
other organizations and include certain of the Underwriters.
   
  Phytera's common stock will be quoted in DKK on the CSE. Transactions in the
common stock on the CSE will be settled in DKK or any other eligible currency
through account-holding institutions at the Danish Securities Center
(Vaerdipapircentralen), where the common stock will be registered. Such
account-holding institutions include banks, stock broking companies and
mortgage associations. The Danish Securities Center will have a relationship
with a direct participant in Euroclear. For real time settlement on a gross
basis, delivery against payment is carried out in real time on a final and
irrevocable basis. Cash settlement is effected through account-holding
institutions with the Danish Central Bank.     
 
                                       58
<PAGE>
 
                               TAX CONSIDERATIONS
 
  The following is a general discussion of the tax consequences of an
investment in the common stock under US Federal, Danish and Belgian
regulations. This discussion is based on provisions of the law and the
regulations, administrative rulings and judicial discussions thereunder now in
effect, all of which are subject to change (possibly with retroactive effect)
or different interpretations. This discussion does not purport to be a
comprehensive description of all of the tax considerations that may be relevant
to a decision to acquire, hold, or dispose of the common stock. This discussion
is provided for general information purposes only, and does not constitute, and
should not be considered as, legal or tax advice to any prospective holder of
the common stock. Each prospective purchaser of the common stock is urged to
consult its own tax advisor with respect to the tax consequences of acquiring,
holding and disposing of common stock, the laws of any national, state or local
taxing jurisdiction.
 
United States Tax Considerations
   
  The following is a general discussion of the material US federal income
consequences of the ownership and disposition of common stock by a person that
for United States federal income tax purposes is: (1) a non-resident alien
individual, (2) a foreign corporation, (3) a foreign partnership, or (4) an
estate or trust which is not subject to US federal income tax without regard to
the source of its income (a "non-US holder"). This discussion does not address
the US federal income tax consequences that may be relevant to particular non-
US holders subject to special treatment under the federal income tax law as a
result of their personal circumstances, and does not address the treatment of
non-US holders of common stock under the laws of any state, local or foreign
taxing jurisdiction.     
 
Dividends
 
  Distributions paid to a non-US holder of common stock which constitute
dividends for US federal income tax purposes generally will be subject to
withholding of US federal income tax at a 30% rate or such lower rate as may be
specified by an applicable income tax treaty (such as that between the US and
Belgium), unless the dividends are effectively connected with the conduct of a
trade or business carried by the non-US holder within the US (and are
attributable to a US permanent establishment or fixed base of such holder, if
an applicable income tax treaty so requires as a condition for the non-US
holder to be subject to US income tax on a net income basis with respect to
such dividends). Such "effectively connected" dividends are generally subject
to tax at rates applicable to US citizens, resident aliens and domestic US
corporations, and are not generally subject to withholding (provided that the
non-US holder provides certain appropriate certification). Any such effectively
connected dividends received by a non-US corporation may also, under certain
circumstances, be subject to an additional "branch profits tax" at a 30% rate
or such lower rate as may be specified by an applicable income tax treaty.
   
  Under the "Convention Between the United States of America and the Kingdom of
Belgium For the Avoidance of Double Taxation and the Prevention of Fiscal
Evasion With Respect to Taxes on Income" (the "Belgium Treaty"), a non-US
holder that qualifies as a "resident of Belgium" may, as long as the shares of
common stock held by such person are not attributable to the conduct of a trade
or business or the rendering of independent personal services in the US through
a permanent establishment or fixed base situated therein, be entitled to a
reduced withholding tax rate on dividends paid by Phytera equal to 15%, rather
than 30% as discussed above. For this purpose, the term "resident of Belgium"
generally means (1) a Belgian corporation and (2) any person other than a
corporation (including an individual, a partnership, an estate, a trust, or any
body of persons) who is a resident of Belgium for purposes of its tax status.
In addition, the Belgium Treaty provides that if a non-US holder entitled to a
reduced rate of withholding under the above test is a Belgian company that owns
at least ten percent of the voting stock of Phytera, the withholding tax rate
is further reduced to five percent. Furthermore, under the Notice 87-56, the
additional 30% branch profits tax described above may be eliminated for
"qualified residents" of Belgium (the term qualified resident having the
meaning set forth in Section 884(e)(4) of the Code).     
 
  Under currently effective US Treasury Regulations, dividends paid to an
address in a foreign country are presumed to be paid to a resident of that
country (unless the payor has knowledge to the contrary) for purposes of the
withholding discussion above and, under the current interpretation of US
Treasury Regulations, for purposes of determining the applicability of a tax
treaty rate. Under recently finalized US Treasury Regulations that will
generally be effective for distributions after December 31, 1998 (extended,
under certain transition
 
                                       59
<PAGE>
 
   
rules, until December 31, 1999) (the "Final Withholding Regulations"), however,
a non-US holder of common stock who wishes to claim the benefit of an
applicable treaty rate would be required to satisfy applicable certification
requirements. In addition, under the Final Withholding Regulations, in the case
of common stock held by a foreign partnership among other things, (1) the
certification requirement would generally be applied to the partners of the
partnership and (2) the partnership would be required to provide certain
information, including a US taxpayer identification number or be subject to
withholding at the full 30% rate. The final Withholding Regulations also
provide look-through rules for tiered partnerships.     
 
  A non-US holder of common stock that is eligible for a reduced rate of US
withholding tax pursuant to a tax treaty may obtain a refund of any excess
amounts currently withheld by the timely filing of an appropriate claim for
refund with the US Internal Revenue Service.
 
Gain on Disposition of Common Stock
   
  A non-US holder generally will not be subject to US federal income tax in
respect of gain recognized on a disposition of common stock except in the
following circumstances: (1) where the gain is effectively connected with the
conduct of a trade or business in the US by such non-US holder (and is
attributable to a permanent establishment or fixed base maintained in the US by
such non-US holder if an applicable income tax treaty so requires as a
condition for such non-US holder to be subject to United States taxation on a
net income basis with respect to such gain), (2) in the case of a non-US holder
who is an individual and holds the common stock as a capital asset, such holder
is present in the United States for 183 or more days in the taxable year of the
sale and certain other conditions exist, (3) in some cases where Phytera is or
has been a "US real property holding corporation" for US federal income tax
purposes (which Phytera believes it is not currently and will not become) or
(4) the non-US holder is subject to tax pursuant to certain provisions of the
Code applicable to US expatriates. Effectively connected gains realized by a
corporate non-US holder may also, under certain circumstances, be subject to an
additional "branch profits tax" at a 30% rate or such lower rate as may be
specified by an applicable income tax treaty.     
 
Information Reporting and Backup Withholding
 
  Under current law, US information reporting requirements (other than
reporting of dividend payments for purposes of the withholding tax noted above)
and backup withholding tax generally will not apply to dividends paid to non-US
holders that are either subject to the 30% withholding tax discussed above or
that are not so subject because an applicable tax treaty (such as the Belgium
Treaty) reduces such withholding. Otherwise, backup withholding of US federal
income tax at a rate of 31% may apply to dividends paid with respect to common
stock to non-US holders that are not "exempt recipients" and that fail to
provide certain information (including the holder's US taxpayer identification
number). Generally, unless the payor of dividends has definite knowledge that
the payee is a United States person (as such term is defined in the Code and
attendant regulations), the payor may treat dividend payments to a payee with a
foreign address as exempt from information reporting and backup withholding.
However, under the Final Withholding Regulations, dividend payments generally
will be subject to information reporting and backup withholding unless
applicable certification requirements are satisfied. See the discussion above
with respect to the rules applicable to foreign partnerships under the Final
Withholding Regulations.
   
  In general, US information reporting and backup withholding requirements also
will not apply to a payment made outside the US of the proceeds of a sale of
common stock through an office outside the United States of a non-United States
broker. However, US information reporting (but not backup withholding)
requirements will apply to a payment made outside the US of the proceeds of a
sale of common stock through an office outside the US of a broker (1) that is a
United States person, (2) that derives 50% or more of its gross income for
certain periods from the conduct of a trade or business in the US, (3) that is
a "controlled foreign corporation" as to the US or (4) (effective beginning
January 1, 1999) that is a foreign partnership with certain connections to the
US, unless the broker has documentary evidence in its records that the holder
or beneficial owner is a non-US person or the holder or beneficial owner
otherwise establishes an exemption. Payment of the proceeds of the sale of
common stock to or through a US office of a broker is currently subject to both
US backup withholding and information reporting unless the holder certifies its
non-US status under penalties of perjury or otherwise establishes an exemption.
    
  Non-US holders should consult their tax advisors regarding the application of
information reporting and backup withholding in their particular situations,
the availability of an exemption therefrom, and the procedure
 
                                       60
<PAGE>
 
for obtaining such an exemption, if available. Any amounts withheld from a
payment to a non-US holder under the backup withholding rules will be allowed
as a credit against such holder's US federal income tax liability provided the
required information is furnished to the US Internal Revenue Service. A non-US
holder generally may obtain a refund of any excess amounts withheld under the
backup withholding rules by filing the appropriate claim for refund with the
US Internal Revenue Service.
 
Danish Tax Considerations
   
  The following discussion summarizes certain Danish tax consequences relating
to an investment in common stock by a Danish resident investor. This summary
deals only with common stock held by portfolio investors with less than 25% of
the share capital of Phytera. Danish tax authorities distinguish between
"listed" and "unlisted" shares when assessing tax consequences for individual
investors who are Danish residents. The Danish tax authorities have not
confirmed that all of the shares sold in this offering will be deemed to be
"listed" shares for Danish tax purposes. The analysis set forth below assumes
that all shares sold in this offering will be treated as "listed".     
 
Dividends
   
  For Danish resident shareholders, the US withholding tax on dividend
payments by Phytera is in principle reduced from 30% to 15% pursuant to the
US-Danish income tax treaty. Special rules apply to the calculation of the
relief available under this treaty in different circumstances.     
 
  Residents
   
  The gross amount of distributions by Phytera will be treated as taxable
income for resident shareholders. The dividend is deemed acquired as of the
date of the shareholders' meeting where the decision regarding distribution is
taken. For Danish resident individuals, dividends on common stock are taxed as
share income. For the 1999 tax year, the first DKK 36,000 (DKK 72,000 if
married) of share income is taxed at a rate of 25%, any dividend income over
that amount is taxed at a rate of 40%. These share income levels are subject
to change in subsequent tax years. The US-Danish income tax treaty provides
that any US withholding tax can be set-off against the Danish tax. Dividend
income is not subject to local income taxes. For information regarding
individual pension accounts, see below.     
   
  For Danish resident companies holding less than 25% of a company's share
capital, 66% of the total dividend is taxed as ordinary income; 34% of the
dividend is tax-exempt. Given that the Danish corporation tax rate is
currently 32%, the effective tax rate on dividends is approximately 21%. In
addition, Danish resident companies are entitled to a reduction in share
income for the US tax withheld. Dividend income is not subject to local income
taxes.     
   
  Dividends received by Danish banks and other entities in the business of
share investment are taxed as ordinary business income at a rate of 32%. No
part of the dividend is tax-exempt.     
 
  Pension funds are tax exempt, but must pay a real interest rate duty on
dividend income. Pension funds, life insurance companies, and other entities
subject to the Danish real interest duty are subject to a five percent duty on
dividends. The US withholding tax can be set-off against the five percent duty
on the dividend. The real interest rate rules apply to all pension capital
arising from tax deductible pension schemes, including pension accounts of
individuals held by banks.
 
  Non-residents
 
  If a non-resident holds common stock other than through a business that is a
permanent establishment in Denmark, no Danish tax is levied on dividends.
 
Capital Gains Tax
 
  Residents
 
  Shares of Phytera common stock disposed of by Danish residents will be
subject to the same capital gains tax as shares of Danish listed companies.
Gains and losses on shares are calculated as the difference between the market
value in DKK at the time of purchase and the market value in DKK at the time
of disposal. Accordingly, the capital gains tax is affected by changes in the
exchange rate between US dollars and Danish kroner.
 
  Capital gains received on the disposal of common stock by an individual are
taxed as investment income (approximately 40%-59%) or share income (25%-40%).
If the shares were held for less than three years, capital gains on the
disposal of shares are taxed as investment income (approximately 40%-59%).
Such gains and losses are computed according to the so-called "share-for-share
method." Under this method, gains and losses are
 
                                      61
<PAGE>
 
calculated as the difference between the purchase price and the corresponding
disposal price for each separate share. Any losses on shares held for less
than three years may be offset against similar gains or, if no such gains are
available, may be carried forward for five years.
 
  Gains on shares held for three years or longer are tax-exempt if the market
value of the individual's total portfolio of listed shares, listed investment
fund certificates, and the like, within the last three years, has not exceeded
a certain level, which is DKK 113,300 for the 1999 tax year. For married
couples the aggregate value of both spouses' portfolios cannot exceed this
level. The market value of an individual's or married couples' portfolio is
generally measured immediately after each purchase and immediately prior to
each disposal of a listed share, and again at the end of each calendar year.
Gains on the disposal of listed shares are tax-exempt only if the market value
of the portfolio does not exceed the limit at any of the measurement dates.
   
  If the shares are held for at least three years, and the portfolio exceeds
DKK 113,300, capital gains are taxed as share income (25%-40%). Gains and
losses on shares held for three years or longer are calculated in accordance
with the "average method." Under this method, the gain or loss is calculated
as the difference between the purchase price of the shares, which is
calculated as a fraction of the total purchase price for all of the shares in
the same company held for at least three years, and the disposal price of the
shares. Any losses on listed shares held for three years or more may be offset
against similar gains (assuming the portfolio exceeds the DKK 113,300 limit),
or may be carried forward for five years.     
 
  For information regarding individual pension accounts, see below.
 
  The taxation of capital gains upon the disposal of shares of common stock by
a resident individual is outlined as follows:
 
<TABLE>
<CAPTION>
                                                               Ownership for three years or longer
                                                        -------------------------------------------------
                                                           Value less than or       Value greater than
Disposal of Shares  Ownership for less than three years   equal to DKK 113,300         DKK 113,300
------------------  ----------------------------------- ------------------------ ------------------------
<S>                 <C>                                 <C>                      <C>
Capital gains            Investment income              Tax exempt               Share income
Capital losses           . Offset against taxable       Capital losses cannot be . Offset against taxable
                           gains on the sale of         set off                    gains on listed shares
                           shares held for less                                    held for three years
                           than three years                                        or more (incl.
                           (incl. spouses'                                         spouses' shares)
                           shares).
                         . Carried forward for                                   . Carried forward for
                           five years.                                             five years
Calculation method       Share-for-share method         Average method
</TABLE>
   
  Capital gains on common stock held by a company for less than three years
are taxed as ordinary income at a rate of 32%. Gains and losses are calculated
in accordance with the average method, as discussed above. Losses realized on
the sale of shares held by a company for less than three years can be deducted
from taxable gains on the sale of other shares owned for less than three
years, or can be carried forward for five years. Losses are reduced by the
amount of tax exempt dividends received in connection with such shares.     
 
  Gains on common stock held for more than three years are tax exempt and
losses are not deductible.
 
  The taxation of capital gains upon the disposal of shares of common stock by
a resident company is outlined as follows:
 
<TABLE>   
<CAPTION>
Disposal of Shares  Ownership for less than three years              Ownership for three years or longer
------------------  -----------------------------------              -----------------------------------
<S>                 <C>                                              <C>
Capital gains       Ordinary income (32%)                            Tax exempt
Capital losses      . Offset against taxable gains on disposal of    .No set-off
                      other shares held for less than three years.
                    . Tax-exempt dividends are deducted from the     .No tax deduction
                      loss.
                    . Carried forward for five years.
</TABLE>    
   
  For Danish banks and other entities in the business of share investment,
capital gains received on the disposal of common stock are taxed as ordinary
business income at a rate of 32% irrespective of the period of ownership. Any
corresponding losses are deductible.     
 
                                      62
<PAGE>
 
       
  Pension funds are tax exempt, but must pay a real interest rate duty of five
percent on any capital gains on listed shares. The capital gain is calculated
annually using the "mark-to market" method. Capital losses on listed shares are
calculated using the same method and are deductible against capital gains. The
real interest rate rules apply to all pension capital arising from tax
deductible pension schemes, including pension accounts of individuals held by
banks.
 
  The proceeds from the sale of shares to the issuing company are taxed as a
deemed dividend distribution whether the sale is made by an individual or a
company. In certain circumstances and upon application to the tax authorities,
permission can be obtained to subject the sale to normal capital gains tax
rules.
 
  Non-residents
 
  If a non-resident holds common stock other than through a business that is a
permanent establishment in Denmark, no Danish tax is levied on capital gains.
 
Transfer Duty
   
  On the disposal of common stock by a Danish resident, a duty of 0.5% is
assessed based upon the market value of the transferred shares. Non-residents
are not subject to the share transfer tax. Beginning on October 1, 1999, no
such duty shall be payable.     
   
Insurance Companies     
   
  Life insurance companies are subject to both a corporate tax and a real
interest rate duty on capital gains and dividends. In order to avoid double
taxation, the real interest rate duty is reduced by a percentage of the taxable
income. For all insurance companies, the deduction of provisions, insurance
payments and the like may be reduced to the extent the company has tax exempt
dividends or capital gains on shares (realized or unrealized). Thus, the
benefits of the exempt 34% of the total dividends received (100%-66%) and the
tax exempt gains on the shares of common stock may indirectly trigger corporate
taxation.     
 
Belgian Tax Considerations
   
  The following is a summary of the material Belgian income and stamp tax
consequences of the acquisition, ownership and disposition of common stock. The
summary uses the term, "Belgian Holders," to refer to beneficial owners of
common stock of Phytera whose ownership of such common stock is not
attributable to a permanent establishment or a fixed base in another country
and who are considered residents of Belgium for the purposes of Belgian law.
    
Dividends
 
  Belgian Withholding Tax
   
  Dividends distributed on common stock are subject to a withholding tax at the
rate of 25%, when paid or attributed through a professional intermediary in
Belgium. However, no dividend withholding tax is due if no Belgian professional
intermediary is used to pay or attribute the dividend. Phytera has no intention
to use a Belgian professional intermediary to pay or attribute dividends to
non-Belgian Holders. No withholding tax is due on dividends paid on the common
stock to a company with its fiscal residence in Belgium.     
 
  In a case where dividends are paid outside Belgium without any intervention
of a paying agent in Belgium, no dividend withholding tax is, in principle,
due. However, where the Belgian Holder is a Belgian resident or entity subject
to the tax on legal entities (for example, a pension fund), the Belgian Holder
itself must pay the dividend withholding tax at the rate of 25%.
 
  Income Tax
   
  In the hands of a Belgian Holder who is an individual holding common stock as
a private investment, the Belgian dividend withholding tax is a final tax and
the dividends need not be reported in the individual's annual income tax
return. If no withholding tax has been levied (i.e., in case of payment or
attribution outside of Belgium), the individual must report the dividends in
his or her tax return. Thus, in the case of Phytera, such Belgian Holder will
be taxed at the separate rate of 15%, to be increased with a municipal
surcharge (varying, as a rule, from six percent to nine percent).     
 
  In the hands of an individual Belgian Holder whose holding of common stock is
effectively connected with a business, the dividends are taxable at the
ordinary rates for business income (i.e., varying from 25% to 55%, to be
increased by a crisis contribution of three percent of the tax due and the
appropriate municipal surcharge). Any Belgian withholding tax is creditable
against the final income tax due by the Belgian Holder,
 
                                       63
<PAGE>
 
provided that the Belgian Holder has the full legal ownership of the common
stock at the time of payment or attribution of any dividends, and provided
further that the dividend distribution does not entail a reduction in value of
or a capital loss on the common stock.
 
  Dividends received by Belgian Holders which are resident companies are, in
principle, subject to corporate income tax at the rate of 40.17% (i.e., the
standard rate of 39% increased by the crisis contribution of three percent of
the corporate income tax due). Lower rates may be applicable to Belgian
resident companies which, among other conditions, are not 50% or more owned by
another company and which derive taxable income below certain thresholds fixed
by law.
   
  However, provided that the dividends benefit from the so-called "dividend-
received deduction," only five percent of the dividends received will be
taxable. In order to benefit from this deduction, Phytera must not fall within
one of the categories in which the distributed dividends are expressly excluded
from the "dividend-received deduction" (for example, dividends which are
distributed by tax-haven countries or are paid out of income has benefited from
a special tax regime) and the beneficiary should hold, at the time of payment
of the dividends, a participation of at least five percent in Phytera or a
participation which has an acquisition value of at least BEF 50 million.     
 
  For Belgian resident entities subject to the Belgian Tax on Juridical
Entities (for example, pension funds), the Belgian dividend withholding tax is
a final tax.
 
Capital Gains
 
  Individual Belgian Holders holding the common stock as a private investment
and entities subject to Belgian tax on legal entities are not subject to
Belgian capital gains tax on the disposal of the common stock. Individual
Belgian Holders may, however, be subject to a 33% tax (to be increased by the
three percent crisis, contribution and the appropriate municipal surcharge) if
the capital gain is deemed to be "speculative" in nature, as defined by Belgian
case law.
 
  Individual Belgian Holders whose holding of common stock may be considered as
effectively connected with a business will be taxable at ordinary (progressive)
rates on any capital gains realized upon a disposal of common stock if they
have held it for five years or less, but will be taxed at 16.5% (to be
increased by the three percent crisis contribution and the appropriate
municipal surcharge) on such gains if they have held the common stock for more
than five years before disposing of same.
   
  Belgian resident companies are not subject to capital gains taxation,
provided that the dividends received on the shares which such companies have
disposed of would qualify for the "dividend-received deduction" (except for the
minimum holding requirement). As noted above, it is Phytera's view that any
dividends it may distribute might qualify.     
 
Indirect Taxes
 
  In principle, a stamp tax is levied upon the subscription of new common stock
and the purchase and sale in Belgium of common stock, if effected by means of a
professional intermediary. The rate applicable to subscriptions of new common
stock is 0.35%, but there is a limit of 10,000 BEF per transaction. The rate
applicable for secondary sales and purchases in Belgium of common stock through
a professional intermediary is 0.17%, but there is a limit of 10,000 BEF per
transaction.
 
  An exemption is available to professional intermediaries (e.g., credit
institutions), insurance companies, pension funds, and collective investment
vehicles which are acting for their own account. A non-resident holder of
common stock who is acting for his or her own account will also be entitled to
an exemption from this stamp tax, provided that he or she delivers to the
issuer or the professional intermediary in Belgium, as the case may be, an
affidavit confirming his or her non-resident status vis-a-vis Belgium.
 
                                       64
<PAGE>
 
                                  UNDERWRITING
   
  Phytera has entered into a European underwriting agreement with the European
managers named below. SG Cowen Securities International L.P., Carnegie Bank A/S
and BancBoston Robertson Stephens International Ltd are acting as European lead
managers for the European managers. Under the terms of the European
underwriting agreement, Phytera has agreed to sell to each European manager and
each European manager has agreed to purchase from Phytera, the number of shares
of common stock set forth opposite its name below:     
 
<TABLE>
<CAPTION>
                                                                        Number
                            European Manager                           of Shares
                            ----------------                           ---------
   <S>                                                                 <C>
   SG Cowen International L.P. .......................................
   Carnegie Bank A/S..................................................
   BancBoston Robertson Stephens International Ltd....................
                                                                       ---------
     Total............................................................ 1,750,000
                                                                       =========
</TABLE>
   
  Phytera has entered into a US underwriting agreement with the US underwriters
named below. SG Cowen Securities Corporation, Carnegie Inc. and BancBoston
Robertson Stephens Inc. are acting as US representatives for the US
underwriters. Under the terms of the US underwriting agreement, Phytera has
agreed to sell to each US underwriter and each US underwriter has agreed to
purchase from Phytera, the number of shares of common stock set forth opposite
its name below:     
 
<TABLE>
<CAPTION>
                                                                        Number
                             US Underwriter                            of Shares
                             --------------                            ---------
   <S>                                                                 <C>
   SG Cowen Securities Corporation....................................
   Carnegie Inc.......................................................
   BancBoston Robertson Stephens Inc. ................................
                                                                        -------
     Total............................................................  750,000
                                                                        =======
</TABLE>
   
  The offering price and aggregate underwriting discounts and commissions per
share for the European offering and the US offering are identical. The
completion of each offering is contingent upon the completion of the other.
       
  The US and European underwriting agreements provide that the underwriters
will not be obligated to purchase the shares of common stock from Phytera if,
among other things, there is any material adverse change in Phytera's business
or they do not receive the closing documents required under the terms of the
underwriting agreements. If the underwriters purchase any of the shares of
common stock offered and covered by the underwriting agreements they have
agreed to purchase all the shares being offered, other than those covered by
the over-allotment options described below.     
   
  The underwriters propose to offer shares of common stock directly to the
public at the initial public offering price set forth on the cover page of this
prospectus and to certain dealers at that price less a concession not in excess
of $    per share. The underwriters may allow, and those dealers may re-allow,
a concession not in excess of $    per share to certain other brokers and
dealers. After the shares of common stock are released for sale to the public,
the offering price and other selling terms may from time to time be varied by
the US representatives and European lead managers acting together. Once the
underwriters have signed the underwriting agreements, they will bear the risk
that investors from whom they have obtained indications of interest will not
purchase the shares of common stock. We expect that delivery of the common
stock will be made in New York, New York, US on or about February 8, 1999.     
   
  In an agreement among the US underwriters and European managers, the US
underwriters have represented and agreed that, with certain exceptions:     
     
  . they are not purchasing any shares of common stock for the account of
    anyone other than a United States or Canadian person and     
     
  . they have not offered or sold, and will not offer or sell, directly or
    indirectly, any shares or distribute any prospectus relating to the
    shares outside the United States or Canada or to anyone other than a
    United States or Canadian person.     
 
                                       65
<PAGE>
 
   
  In that agreement, the European managers have represented and agreed that,
with certain exceptions:     
     
  . they are not purchasing any shares for the account of any United States
    person or Canadian person and     
     
  . they have not offered or sold, and will not offer or sell, directly or
    indirectly, any shares or distribute any prospectus relating to the
    shares in the United States or Canada or to any United States or Canadian
    person.     
   
  The representations and agreements of any underwriter that is both a US
underwriter and a European manager made by it in its capacity as a US
underwriter apply to it only in its capacity as a US underwriter and the
representations and agreements made by it in its capacity as a European manager
apply to it only in its capacity as a European manager. These limitations do
not apply to stabilization transactions or to certain other transactions
specified in the agreement among the US underwriters and the European managers.
       
  A United States or Canadian person includes:     
     
  .any national or resident of the United States or Canada,     
     
  . any corporation, profit sharing trust or other trust or other entity
    organized under the laws of the United States or Canada or of any
    political subdivision of the United States or Canada, except a branch of
    any United States or Canadian person located outside of the United States
    or Canada, and     
     
  . any United States or Canadian branch of a person that is otherwise not a
    United States or Canadian person.     
   
  Under the agreement between the US underwriters and the European managers,
the US underwriters may agree to sell shares of common stock to the European
managers and the European managers may agree to sell shares of common stock to
the US underwriters. The price of any shares sold under this agreement shall be
the public offering price, less an amount not greater than the selling
concession.     
   
  Phytera has granted to the US underwriters and the European managers options,
exercisable for up to 30 days after the date of this prospectus, to purchase up
to an aggregate of 375,000 additional shares of common stock to cover over-
allotments, if any. If the underwriters exercise the over-allotment options,
each underwriter has agreed to purchase approximately the same percentage of
the total number of these additional shares that the number of shares of common
stock to be purchased by each of them as shown in the tables above bears to the
total number of shares of common stock in the offering. The underwriters may
exercise these options only to cover over-allotments made in connection with
the sale of shares of common stock in the offering.     
   
  Phytera, its officers, all Directors who own shares of common stock and
certain other stockholders, warrantholders and optionholders of Phytera have
agreed that for a period of 180 days following the date of this prospectus,
without the prior consent of SG Cowen Securities Corporation, they will not,
directly or indirectly, offer, sell, assign, transfer, encumber, pledge,
contract to sell, grant an option to purchase or otherwise dispose of, other
than by operation of law, any shares of common stock or any securities
convertible into or exercisable or exchangeable for shares of common stock.
These securities include options, warrants and the like, whether the owners
hold the securities directly in their own names or indirectly through others
and whether the securities were acquired by them before or after the date of
this prospectus. SG Cowen Securities Corporation has advised Phytera that it
has no present intention of releasing any of Phytera's stockholders or
optionholders from the lock-up agreements they have signed until the expiration
of the 180-day period.     
   
  Phytera has agreed to indemnify the underwriters against certain liabilities,
including liabilities under the Securities Act and to contribute to payments
the underwriters may be required to make related to these liabilities.     
   
  The US representatives and European lead managers have advised Phytera that
the underwriters do not intend to confirm sales in excess of five percent of
the number of shares of common stock in the offering to any account over which
they exercise discretionary authority.     
   
  Until the distribution of common stock is completed, rules of the SEC and
EASDAQ may limit the ability of the underwriters and certain selling group
members to bid for and purchase the common stock. As an exception to these
rules, the underwriters, through a stabilizing manager to be designated by
them, are permitted to engage in certain transactions on EASDAQ that stabilize
the price of the common stock. These transactions consist of bids or purchases
for the purpose of pegging, fixing or maintaining the price of the common
stock. Under EASDAQ rules, the maximum price at which any such stabilizing
transactions may be made may not exceed the initial public offering price.     
 
 
                                       66
<PAGE>
 
   
  If the underwriters create a short position in the common stock in connection
with this offering, i.e., if they sell a greater number of shares of common
stock than are being sold in the offering, they may reduce that short position
by purchasing common stock in the open market. The underwriters may also elect
to reduce any short position by exercising all or part of the over-allotment
options described above.     
   
  The underwriters may impose a penalty bid on underwriters and selling group
members. This means that if the underwriters purchase common stock in the open
market to reduce the underwriters' short positions or to stabilize the price of
the common stock, they may reclaim the amount of the selling concession from
the underwriters who sold those shares of common stock as part of this
offering.     
   
  In general, purchases of a security for the purpose of stabilization or to
reduce a short position could cause the price of a security to be higher than
it might be in the absence of such purchases. The imposition of a penalty bid
might also have an effect on the price of a security to the extent that it
could discourage resales of the security.     
   
  Phytera and the underwriters do not make any representation or prediction
relating to whether the transactions described above will have any effect on
the price of the common stock or, if so, the magnitude of the effect. In
addition, Phytera and the underwriters do not make any representation that the
underwriters will engage in these transactions or that these transactions, once
commenced, will not be discontinued without notice.     
   
  Prior to this offering, there has been no public market for the common stock.
Consequently, the initial public offering price was determined by negotiations
between Phytera and the US representatives and European lead managers. Among
the factors considered in these negotiations were:     
     
  .  prevailing market conditions,     
     
  .  Phytera's results of operations in recent periods,     
     
  .  the market capitalizations and stages of development of companies
     believed to be comparable to Phytera,     
     
  .  the present state of Phytera's development and     
     
  .  other factors that Phytera, the US representatives and the European
     managers believe are relevant.     
   
  Although the shares of common stock offered for sale by the underwriters will
be registered under the Securities Act, Phytera does not intend to apply for
listing of its common stock on any securities exchange in the United States or
for quotation through the National Association of Securities Dealers Automated
Quotation System. The US underwriters have advised Phytera that they intend to
offer or sell shares of common stock only to United States or Canadian persons
that they reasonably believe to be institutional investors. Therefore, US
purchasers of shares of common stock may be required to seek liquidity for
their shares outside of the United States on EASDAQ or on the CSE.     
   
  Carnegie Bank A/S, one of the European lead managers and an affiliate of
Carnegie Inc., one of the US representatives, acted as placement agent for the
sale of Phytera's Series E Stock and received a placement fee in connection
with that sale.     
 
                                       67
<PAGE>
 
                             SUBSCRIPTION AND SALE
   
  The offerings of the common stock will commence on the date that the
underwriters and Phytera determine the initial public offering price for the
common stock. Pricing for the offerings will occur simultaneously. The closing
of the issuance and sale of the common stock by Phytera in respect of the
offerings will occur simultaneously and are expected to occur on the fourth
business day following the determination of the initial public offering price.
In the event that the offerings are oversubscribed, the available shares will
be apportioned by the underwriters among the subscriptions received.     
 
Denmark
 
  In Denmark, the offering of the shares of common stock will be subject to the
following subscription procedures:
 
    The subscription period is expected to commence on February 1, 1999 and
  terminate at 5:00 P.M. Central European time on the date that the initial
  public offering price is determined, unless terminated earlier. The CSE
  will be notified of the termination of the subscription period. The initial
  public offering price will be announced in Denmark through the CSE.
     
    Certain selling agents in Denmark may request that investors use a
  subscription application form which is included with the Danish version of
  this prospectus. This form, if requested, must be received by the selling
  agent from whom it was obtained prior to the termination of the
  subscription period and is subject to the written instructions included
  therein.     
     
    Names and addresses of investors must be disclosed to the European
  managers who are entitled to pass on such information to Phytera.     
 
Belgium
   
  The shares of common stock will not be offered publicly, directly or
indirectly, in Belgium at the time of this offering. Nevertheless, the
admission to trading on EASDAQ of the shares of common stock constitutes a
public offer in Belgium necessitating the approval of this prospectus by the
CBF as described on page 3 of this prospectus.     
 
Austria
   
  The shares of common stock have not been offered and will not be offered to
the general public in Austria but will be offered to a defined group of certain
institutional investors on the basis of a private placing or otherwise only in
circumstances where an exemption from the duty to publish a securities sale
prospectus under the Austrian Capital Market Act is applicable. Therefore, this
prospectus is not intended for subscription and sale to the general public and
it is addressed to institutional investors only.     
 
France
   
  The offering does not and is not intended to constitute an offer to the
public ("appel public a l'epargne") under French law. The prospectus is issued
in France only to persons who are qualified investors as defined under French
law, in particular Article 6 of the Ordinance No. 67-833 dated 28 September
1967 (as amended) in conjunction with Article 1 of the Decree No. 98-880 dated
1 October 1998. The prospectus has not been submitted for approval to the
French Commission des Operations de Bourse (COB), nor have any procedures
required under French law for the public offering of shares in France been
followed. This prospectus may not be used in connection with any offer or sale
of securities issued by Phytera to the public in France.     
 
Germany
 
  The shares of common stock have not been offered and will not be offered to
persons in Germany except to persons who acquire or dispose of securities or
dispose of securities as part of their profession or as a business either for
their own account or for the account of third parties (Section 2, No. 1
Securities Sales Prospectus Act "Wertpapierverkaufspropekt-Gesetz") or
otherwise only in circumstances where an exemption from the duty to publish a
securities sales prospectus under the German Securities Sales Prospectus Act is
applicable.
 
 
                                       68
<PAGE>
 
Italy
   
  The European managers have represented and agreed that no action has been or
will be taken which would allow the offering of the shares of common stock to
the public in the Republic of Italy and that individual sales of shares of
common stock to any person in the Republic of Italy have only been or will only
be made in accordance with Italian securities, tax and other applicable laws
and regulations. Accordingly, the shares of common stock may not be offered,
sold or delivered and neither this prospectus nor any other offering material
relating to the shares of common stock may be distributed or made available in
the Republic of Italy unless (1) such activities are carried out by a
securities intermediary appropriately authorized to conduct such activities in
the Republic of Italy and in accordance with applicable Italian securities laws
and any other applicable law or regulatory requirements and (2) the applicable
requirements, if any, for notices to the Consob under Article 4 of Consob
Regulation 6430 and to the Bank of Italy under Article 129 of Legislative
Decree No. 385 of 1st September, 1993, as amended, and the Bank of Italy's
instructions issued thereunder, are fully complied with.     
 
Sweden
   
  The shares of common stock will be offered to a limited number of potential
investors only. The offered shares of common stock will not be offered to the
public in Sweden and are therefore not within the scope of the prospectus
regulations in the Swedish Financial Instruments Trading Act. This prospectus
has not been submitted for approval by or registration with the Swedish
Financial Supervisory Authority.     
 
United Kingdom
   
  The European managers have represented and agreed with Phytera that:     
 
  They have not offered or sold and prior to the expiration of the period of
six months from the date of the issue of the shares of common stock, will not
offer or sell any shares of common stock to persons in the United Kingdom,
except to persons whose ordinary activities involve them in acquiring, holding,
managing or disposing of investments (as principal or agent) for the purposes
of their business or otherwise in circumstances which have not resulted and
will not result in an offer to the public in the United Kingdom within the
meaning of the Public Offers of Securities Regulations 1995 or the Financial
Services Act of 1986.
 
  They have complied and will comply with all applicable provisions of the
Financial Services Act of 1986 with respect to anything done by it in relation
to the shares of common stock in, from or otherwise involving the United
Kingdom.
 
  They have only issued or passed on and will only issue or pass on in the
United Kingdom any document received by it in connection with the issue of the
shares of common stock to a person who is of a kind described in Article 11(3)
of the Financial Services Act of 1986 (Investment Advertisements) (Exceptions)
Order 1996 (as amended) or is a person to whom such document may otherwise
lawfully be issued or passed on.
 
                                 LEGAL MATTERS
   
  The validity of the shares of common stock offered hereby will be passed upon
for Phytera by Palmer & Dodge LLP, Boston, Massachusetts. Lynnette C. Fallon, a
partner of Palmer & Dodge LLP, is the Secretary of Phytera. Certain legal
matters in connection with this offering will be passed upon for the
Underwriters by Brown & Wood LLP, New York, New York. Certain legal matters in
connection with Phytera's patents will be passed upon for it by Clark & Elbing,
LLP, Boston, Massachusetts. Certain matters of Danish law, including, among
other things, the statements of Danish law included in this prospectus under
the caption "Income Tax Considerations--Danish Tax Considerations" will be
passed upon by Dragsted & Helmer Nielsen, Copenhagen, Denmark, and Bech-Bruun &
Trolle, Copenhagen, Denmark, for Phytera and the underwriters, respectively.
Certain matters of English law will be passed upon by Denton Hall, London,
England, for Phytera. Palmer & Dodge LLP and Brown & Wood LLP will rely upon
Dragsted & Helmer Nielsen and Bech-Bruun & Trolle with respect to certain
matters governed by Danish law and upon Denton Hall with respect to certain
matters governed by English law.     
 
                                       69
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
                       Consolidated Financial Statements
 
                                     INDEX
 
<TABLE>
<CAPTION>
                                                                          Page
                                                                          ----
<S>                                                                       <C>
Report of Independent Public Accountants................................. F-2
Consolidated Balance Sheets as of December 31, 1995, 1996, 1997 and
 September 30, 1998 (unaudited) and Pro Forma September 30, 1998
 (unaudited)............................................................. F-3
Consolidated Statements of Operations for the Years Ended December 31,
 1995, 1996 and 1997, for the Nine Months Ended September 30, 1997 and
 1998 (unaudited) and for the Period from Inception (May 27, 1992) to
 September 30, 1998 (unaudited).......................................... F-4
Consolidated Statements of Changes in Stockholders' Equity (Deficit) for
 the Period from Inception (May 27, 1992) to December 31, 1997, and for
 the Nine Months Ended September 30, 1998 (unaudited) and Pro Forma
 September 30, 1998 (unaudited).......................................... F-5
Consolidated Statements of Cash Flows for the Years Ended December 31,
 1995, 1996 and 1997, for the Nine Months Ended September 30, 1997 and
 1998 (unaudited) and for the Period from Inception (May 27, 1992) to
 September 30, 1998 (unaudited).......................................... F-6
Notes to Consolidated Financial Statements............................... F-7
</TABLE>
 
                                      F-1
<PAGE>
 
   
  After the .654-for-one reverse stock split discussed in Note 6(a) to
Phytera's financial statements is effected, we expect to be in a position to
render the following audit report.     
                                                       
                                                    /s/ Arthur Andersen LLP     
 
Boston, Massachusetts
   
February 3, 1999     
 
                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
 
To the Stockholders and Board of Directors of
Phytera, Inc.:
   
  We have audited the accompanying consolidated balance sheets of Phytera, Inc.
(a Delaware corporation in the development stage) and subsidiaries as of
December 31, 1995, 1996 and 1997, the related consolidated statements of
operations and cash flows for each of the three years in the period ended
December 31, 1997, and the related statement of stockholders' equity (deficit)
for the period from inception (May 27, 1992) through December 31, 1997. These
financial statements are the responsibility of Phytera's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.     
 
  We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
 
  In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Phytera, Inc. and subsidiaries
as of December 31, 1995, 1996 and 1997, and the results of their operations and
their cash flows for each of the three years in the period ended December 31,
1997, in conformity with United States generally accepted accounting
principles.
 
Boston, Massachusetts
February 20, 1998 (except with respect
to the matters discussed in Note 6(a),
   
as to which the date is February 3, 1999)     
 
                                      F-2
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
                          Consolidated Balance Sheets
 
<TABLE>
<CAPTION>
                                       December 31,                                  Pro Forma
                           ---------------------------------------  September 30,  September 30,
                              1995          1996          1997          1998           1998
                           -----------  ------------  ------------  -------------  -------------
                                                                     (unaudited)    (unaudited)
 <S>                       <C>          <C>           <C>           <C>            <C>
          ASSETS
 Current Assets:
   Cash and cash
    equivalents..........  $   470,010  $  4,011,527  $  3,342,130  $  5,887,649   $  5,887,649
   Marketable
    securities...........          --      6,105,391       450,000     1,100,000      1,100,000
   Prepaid expenses and
    other current
    assets...............      136,273       246,327       232,788       295,288        295,288
                           -----------  ------------  ------------  ------------   ------------
     Total current
      assets.............      606,283    10,363,245     4,024,918     7,282,937      7,282,937
                           -----------  ------------  ------------  ------------   ------------
 Equipment and
  Improvements, at cost:
   Laboratory equipment..    1,989,571     2,331,802     2,985,962     2,974,963      2,974,963
   Leasehold
    improvements.........      455,506       603,518       751,899       905,019        905,019
   Office equipment......      307,592       465,792       584,930       739,703        739,703
                           -----------  ------------  ------------  ------------   ------------
                             2,752,669     3,401,112     4,322,791     4,619,685      4,619,685
   Less--Accumulated
    depreciation and
    amortization.........      894,662     1,448,540     2,153,328     2,717,617      2,717,617
                           -----------  ------------  ------------  ------------   ------------
                             1,858,007     1,952,572     2,169,463     1,902,068      1,902,068
                           -----------  ------------  ------------  ------------   ------------
 Other Assets............      239,561        79,695        94,633       129,649        129,649
                           -----------  ------------  ------------  ------------   ------------
     Total Assets........  $ 2,703,851  $ 12,395,512  $  6,289,014  $  9,314,654   $  9,314,654
                           ===========  ============  ============  ============   ============
 LIABILITIES, REDEEMABLE
   CONVERTIBLE PREFERRED
         STOCK AND
   STOCKHOLDERS' EQUITY
         (DEFICIT)
 Current Liabilities:
   Current portion of
    long-term debt (note
    4)...................  $   825,000  $    300,993  $    299,536  $    289,278   $    289,278
   Accounts payable......      297,098       199,868       243,790       431,368        431,368
   Accrued expenses......      281,019       339,860       363,340       862,633        862,633
   Deferred revenue......          --        546,079       531,898       648,529        648,529
                           -----------  ------------  ------------  ------------   ------------
     Total current
      liabilities........    1,403,117     1,386,800     1,438,564     2,231,808      2,231,808
                           -----------  ------------  ------------  ------------   ------------
 Long-Term Debt, less
  current portion (note
  4).....................      745,440     1,273,526     1,549,836     2,189,080      2,189,080
                           -----------  ------------  ------------  ------------   ------------
 Convertible Debt........    1,762,236           --            --            --             --
                           -----------  ------------  ------------  ------------   ------------
 Commitments (note 8)
 Redeemable Convertible
  Preferred Stock, $0.01
  par value--Authorized--
  14,446,382 shares; no
  shares pro forma Issued
  and outstanding--
  2,766,486 shares,
  6,025,591 shares,
  6,460,591 shares,
  7,274,833 shares and no
  shares as of December
  31, 1995, 1996 and
  1997, September 30,
  1998 and pro forma
  September 30, 1998,
  respectively...........   11,893,915    30,945,219    34,186,184    41,138,563            --
                           -----------  ------------  ------------  ------------   ------------
 Stockholders' Equity
  (Deficit) (note 6):
   Preferred stock, $0.01
    par value--
   Authorized--1,000,000
    shares pro forma
   Issued and
    outstanding--no
    shares                         --            --            --            --             --
   Common stock, $0.01
    par value--
   Authorized--13,000,000
    shares actual;
    25,000,000 shares pro
    forma
   Issued and
    outstanding--499,035
    shares, 529,758
    shares, 607,783
    shares, 709,949
    shares and 5,659,005
    shares as of December
    31, 1995, 1996 and
    1997, September 30,
    1998 and pro forma
    September 30, 1998,
    respectively.........        4,990         5,298         6,078         7,099         56,590
   Additional paid-in
    capital..............        7,501       839,919     1,341,534     5,206,617     46,295,689
   Deficit accumulated
    during the
    development stage....  (13,113,348)  (22,055,250)  (32,233,182)  (39,647,629)   (39,647,629)
   Deferred
    compensation.........          --            --            --     (1,810,884)    (1,810,884)
                           -----------  ------------  ------------  ------------   ------------
     Total stockholders'
      equity (deficit)...  (13,100,857)  (21,210,033)  (30,885,570)  (36,244,797)     4,893,766
                           -----------  ------------  ------------  ------------   ------------
     Total liabilities,
      redeemable
      preferred stock and
      stockholders'
      equity (deficit)...  $ 2,703,851  $ 12,395,512  $  6,289,014  $  9,314,654   $  9,314,654
                           ===========  ============  ============  ============   ============
</TABLE>
 
  The accompanying notes are an integral part of these Consolidated Financial
                                  Statements.
 
                                      F-3
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
                     Consolidated Statements of Operations
 
<TABLE>
<CAPTION>
                                                                                            Inception
                                                                   Nine Months Ended        (May 27,
                              Years Ended December 31,               September 30,          1992) to
                         -------------------------------------  ------------------------  September 30,
                            1995         1996         1997         1997         1998          1998
                         -----------  -----------  -----------  -----------  -----------  -------------
                                                                      (unaudited)          (unaudited)
<S>                      <C>          <C>          <C>          <C>          <C>          <C>
Collaborative Revenue... $    49,632  $   247,000  $ 1,052,657  $   730,311  $ 1,100,257  $  2,551,963
                         -----------  -----------  -----------  -----------  -----------  ------------
Operating Expenses:
  Research and
   development..........   3,964,007    5,231,383    7,672,748    5,711,002    5,638,715    27,191,166
  General and
   administrative.......   1,424,539    1,675,317    1,739,806    1,287,038    1,908,900     8,632,962
  Charge for acquired
   research and develop-
   ment.................         --     1,498,339    1,611,728    1,611,728          --      4,421,517
                         -----------  -----------  -----------  -----------  -----------  ------------
                           5,388,546    8,405,039   11,024,282    8,609,768    7,547,615    40,245,645
                         -----------  -----------  -----------  -----------  -----------  ------------
    Loss from
     operations.........  (5,338,914)  (8,158,039)  (9,971,625)  (7,879,457)  (6,447,358)  (37,693,682)
Other:
  Interest income.......     100,801      142,413      383,591      319,702      167,610     1,035,765
  Interest expense......    (207,135)    (172,505)    (155,793)     (89,115)    (152,833)     (935,285)
  Foreign currency
   translation gain
   (loss)...............       6,720     (100,749)     (10,185)     (13,496)    (152,132)      (95,662)
                         -----------  -----------  -----------  -----------  -----------  ------------
    Net loss............ $(5,438,528) $(8,288,880) $(9,754,012) $(7,662,366) $(6,584,713) $(37,688,864)
                         ===========  ===========  ===========  ===========  ===========  ============
Net Loss per Share:
  Basic and Diluted..... $    (15.43) $    (19.99) $    (19.53) $    (15.59) $    (12.47)
  Pro Forma Basic and
   Diluted..............                           $     (2.17)              $     (1.45)
Weighted Average Common
  Shares Outstanding:
  Basic and Diluted.....     353,444      434,801      521,178      512,008      593,552
  Pro Forma Basic and
   Diluted..............                             4,692,624                 5,121,511
</TABLE>
 
 
  The accompanying notes are an integral part of these Consolidated Financial
                                  Statements.
 
                                      F-4
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
      Consolidated Statements of Changes in Stockholders' Equity (Deficit)
 
<TABLE>
<CAPTION>
                                                             Deficit
                            Common Stock                   Accumulated
                         -------------------- Additional    During the                      Total
                         Number of  $0.01 Par   Paid in    Development     Deferred     Stockholders'
                          Shares      Value     Capital       Stage      Compensation  Equity (Deficit)
                         ---------  --------- -----------  ------------  ------------  ----------------
<S>                      <C>        <C>       <C>          <C>           <C>           <C>
Initial Sale of Common
 Stock..................   196,200   $ 1,962  $     1,038  $        --   $       --      $     3,000
 Exercise of stock
  options...............    13,080       131           69           --           --              200
 Accretion of preferred
  stock.................       --        --           --         (6,093)         --           (6,093)
 Net loss...............       --        --           --     (1,519,500)         --       (1,519,500)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, December 31,
 1992...................   209,280     2,093        1,107    (1,525,593)         --       (1,522,393)
 Sale of common stock...   256,695     2,567        1,358           --           --            3,925
 Exercise of stock
  options...............    13,080       131           69           --           --              200
 Accretion of preferred
  stock.................       --        --           --        (15,332)         --          (15,332)
 Net loss...............       --        --           --     (1,876,218)         --       (1,876,218)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, December 31,
 1993...................   479,055     4,791        2,534    (3,417,143)         --       (3,409,818)
 Sale of common stock...     4,905        49        4,076           --           --            4,125
 Exercise of stock
  options...............    13,521       135           72           --           --              207
 Accretion of preferred
  stock.................       --        --           --        (15,332)         --          (15,332)
 Net loss...............       --        --           --     (4,227,013)         --       (4,227,013)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, December 31,
 1994...................   497,481     4,975        6,682    (7,659,488)         --       (7,647,831)
 Exercise of stock
  options...............     1,553        15          819           --           --              834
 Accretion of preferred
  stock.................       --        --           --        (15,332)         --          (15,332)
 Net loss...............       --        --           --     (5,438,528)         --       (5,438,528)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, December 31,
 1995...................   499,035     4,990        7,501   (13,113,348)         --      (13,100,857)
 Exercise of stock
  options...............    23,904       239          343           --           --              582
 Exercise of Series C
  Warrants (note 6(f))..       --        --           --       (251,447)         --         (251,447)
 Issuance of stock
  options to
  consultants...........       --        --         4,890           --           --            4,890
 Repurchase of
  restricted stock......   (10,628)     (106)         (57)          --           --             (163)
 Issuance of restricted
  stock for consulting
  services..............    17,447       175       14,497           --           --           14,672
 Accretion of preferred
  stock.................       --        --           --       (401,575)         --         (401,575)
 Warrants issued in
  connection with
  issuance of Series C
  preferred stock (note
  6(c)).................       --        --       812,745           --           --          812,745
 Net loss...............       --        --           --     (8,288,880)         --       (8,288,880)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, December 31,
 1996...................   529,758     5,298      839,919   (22,055,250)         --      (21,210,033)
 Exercise of stock
  options...............    36,362       364       24,752           --           --           25,116
 ESOP purchases.........     5,693        56        6,473           --           --            6,529
 Sale of common stock...    35,970       360       35,390           --           --           35,750
 Issuance of Series D
  redeemable convertible
  preferred stock in
  connection with Auda
  Pharmaceuticals ApS
  acquisition...........       --        --       435,000           --           --          435,000
 Accretion of preferred
  stock.................       --        --           --       (423,920)         --         (423,920)
 Net Loss...............       --        --           --     (9,754,012)         --       (9,754,012)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, December 31,
 1997...................   607,783     6,078    1,341,534   (32,233,182)         --      (30,885,570)
 Deferred compensation
  related to grants or
  common stock options..       --        --     2,115,350           --    (2,115,350)            --
 Amortization of
  deferred
  compensation..........       --        --           --            --       304,466         304,466
 Issuance of common
  stock options.........       --        --        35,600           --           --           35,600
 Exercise of stock
  options...............    85,816       858       70,374           --           --           71,232
 Exercise of Series C
  redeemable convertible
  preferred stock
  warrants (note 6(f))..       --        --           --        (10,333)         --          (10,333)
 Sale of restricted
  common stock..........    16,350       163       18,587           --           --           18,750
 Value of discount
  ascribed to the
  guaranteed rate of
  return on Series E
  redeemable convertible
  preferred stock.......       --        --     1,625,172           --           --        1,625,172
 Accretion of preferred
  stock.................       --        --           --       (413,108)         --         (413,108)
 Accretion of discount
  ascribed to the
  guaranteed rate of
  return on Series E
  redeemable convertible
  preferred stock.......       --        --           --       (406,293)         --         (406,293)
 Net Loss...............       --        --           --     (6,584,713)         --       (6,584,713)
                         ---------   -------  -----------  ------------  -----------     -----------
Balance, September 30,
 1998 (unaudited).......   709,949     7,099    5,206,617   (39,647,629)  (1,810,884)    (36,244,797)
 Conversion of
  redeemable convertible
  preferred stock into
  common stock
  (unaudited)........... 4,949,056    49,491   41,089,072           --           --       41,138,563
                         ---------   -------  -----------  ------------  -----------     -----------
 Pro Forma Balance,
  September 30, 1998
  (unaudited)........... 5,659,005   $56,590  $46,295,689  $(39,647,629) $(1,810,884)    $ 4,893,766
                         =========   =======  ===========  ============  ===========     ===========
</TABLE>
 
  The accompanying notes are an integral part of these Consolidated Financial
                                  Statements.
 
                                      F-5
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
                     Consolidated Statements of Cash Flows
 
<TABLE>
<CAPTION>
                                                                   Nine Months Ended          Inception
                              Years Ended December 31,               September 30,        (May 27, 1992) to
                         -------------------------------------  ------------------------    September 30,
                            1995         1996         1997         1997         1998            1998
                         -----------  -----------  -----------  -----------  -----------  -----------------
                                                                      (unaudited)            (unaudited)
<S>                      <C>          <C>          <C>          <C>          <C>          <C>
Cash Flows from
 Operating Activities:
 Net loss............... $(5,438,528) $(8,288,880) $(9,754,012) $(7,662,366) $(6,584,713)   $(37,688,864)
 Adjustments to
  reconcile net loss to
  net cash used in
  operating activities--
  Charge for acquired
   research and
   development, net of
   cash paid............         --     1,459,651    1,611,728    1,611,728          --        4,103,038
  Stock issuance in
   exchange for
   interest on bridge
   financing loan.......         --        10,622          --           --           --           70,074
  Stock issuance in
   exchange for rent....         --           --           --           --           --           93,500
  Stock issuance in
   exchange for
   consulting
   services.............         --        14,406          --           --           --           14,406
  Compensation related
   to issuance of
   common stock
   options..............         --         4,890          --           --       340,293         345,183
  Depreciation and
   amortization.........     485,286      553,878      704,788      493,562      564,289       2,850,531
  Changes in assets and
   liabilities--
   Accounts receivable,
    prepaid expenses and
    other current
    assets..............     210,404     (110,054)      26,041     (188,400)     (62,500)       (273,724)
   Accounts payable.....    (270,888)    (225,625)       4,702      264,848      187,576         244,329
   Accrued expenses.....        (812)      76,499       18,133       97,298      499,293         855,439
   Deferred revenue.....         --       528,421      (14,181)     288,743      116,630         648,528
                         -----------  -----------  -----------  -----------  -----------    ------------
    Net cash used in
     operating
     activities.........  (5,014,538)  (5,976,192)  (7,402,801)  (5,094,587)  (4,939,132)    (28,737,560)
                         -----------  -----------  -----------  -----------  -----------    ------------
Cash Flows from
 Investing Activities:
 Purchases of equipment
  and improvements......    (149,604)    (626,723)    (913,422)    (892,106)    (296,894)     (4,689,058)
 Decrease (increase) in
  marketable
  securities............   1,547,640   (6,105,391)   5,655,391    3,455,638     (650,000)     (1,100,000)
 (Increase) decrease in
  restricted cash.......    (220,000)     220,000          --           --           --              --
 Increase in other
  assets................     (19,561)     (60,134)     (13,803)     (17,933)     (35,016)       (128,514)
 Net cash acquired in
  acquisition of Auda
  Pharmaceuticals ApS,
  net of acquisition
  costs.................         --           --     1,662,990    1,662,990          --        1,662,990
                         -----------  -----------  -----------  -----------  -----------    ------------
    Net cash provided by
     (used in) investing
     activities.........   1,158,475   (6,572,248)   6,391,156    4,208,589     (981,910)     (4,254,582)
                         -----------  -----------  -----------  -----------  -----------    ------------
Cash Flows from
 Financing Activities:
 Net (payments of)
  proceeds from notes
  payable...............    (266,606)    (139,554)    (295,420)    (228,972)    (227,911)        162,115
 Proceeds from long-term
  debt..................         --        67,073      627,244      429,140      769,342       1,386,835
 Proceeds from
  convertible debt......   1,762,236          --           --           --           --        1,762,236
 Net proceeds from sale
  (repurchase) of
  preferred stock.......         --    16,058,311          --           --     7,747,576      35,494,761
 Proceeds from sale of
  common stock..........         --          (163)      35,750       35,750       18,750          64,387
 Proceeds from the
  exercise of stock
  options and warrants..         834          985       25,116       20,489       71,249          98,791
 Proceeds from ESOP
  purchases.............         --           --         6,529          --           --            6,529
 Proceeds from the
  issuance of stock in
  exchange for
  consulting services...         --           266          --           --           --              266
 Net effect of foreign
  currency translation
  adjustments...........      (6,096)     103,039      (56,971)     (68,756)      87,555         (96,129)
                         -----------  -----------  -----------  -----------  -----------    ------------
    Net cash provided by
     financing
     activities.........   1,490,368   16,089,957      342,248      187,651    8,466,561      38,879,791
                         -----------  -----------  -----------  -----------  -----------    ------------
Net (decrease) increase
 in cash and cash
 equivalents............  (2,365,695)   3,541,517     (669,397)    (698,347)   2,545,519       5,887,649
Cash and Cash
 Equivalents, beginning
 of period..............   2,835,705      470,010    4,011,527    4,011,527    3,342,130             --
                         -----------  -----------  -----------  -----------  -----------    ------------
Cash and Cash
 Equivalents, end of
 period................. $   470,010  $ 4,011,527  $ 3,342,130  $ 3,313,180  $ 5,887,649    $  5,887,649
                         ===========  ===========  ===========  ===========  ===========    ============
Supplemental Disclosure
 of Noncash
 Transactions:
 Acquisition of Phytera
  Ltd.--
 Assumed liabilities.... $       --   $       --   $       --   $       --   $       --     $ (1,073,327)
 Fair value of assets
  acquired..............         --           --           --           --           --           42,668
 Issuance of stock in
  connection with
  Phytera Ltd.
  acquisition...........         --           --           --           --           --            1,000
 Acquisition of Neptune
  Pharmaceuticals,
  Inc.--
 Assumed liabilities.... $       --   $  (128,394) $       --   $       --   $       --     $   (128,394)
 Fair value of assets
  acquired..............         --        22,018          --           --           --           22,018
 Issuance of stock in
  connection with
  Neptune
  Pharmaceuticals,
  Inc...................         --     1,353,275          --           --           --        1,353,275
 Acquisition of Auda
  Pharmaceuticals ApS--
 Assumed liabilities.... $       --   $       --   $   (44,569) $   (44,569) $       --     $    (44,569)
 Fair value of assets
  acquired..............         --           --     1,739,370    1,739,370          --        1,739,370
 Issuance of stock in
  connection with Auda
  Pharmaceuticals ApS...         --           --     3,262,500    3,262,500          --        3,262,500
 Conversion of
  convertible debt and
  interest into
  preferred stock....... $       --   $ 1,799,038  $       --   $       --   $       --     $  1,799,038
Supplemental Disclosure
 of Cash Flow
 Information:
 Cash paid for
  interest.............. $   181,079  $   187,474  $   134,355  $    32,113  $    21,285    $    692,973
</TABLE>
 
  The accompanying notes are an integral part of these Consolidated Financial
                                  Statements.
 
                                      F-6
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
                   Notes to Consolidated Financial Statements
                (Including Data Applicable to Unaudited Periods)
 
(1) Operations
   
  Phytera, Inc. and subsidiaries (Phytera) was incorporated on May 27, 1992.
Phytera is an international biopharmaceutical company engaged in identifying
and optimizing novel chemical lead structures through its Combinatorial Drug
Discovery Program.     
   
  Phytera is in the development stage. Under United States generally accepted
accounting principles ("US GAAP"), a development stage enterprise is defined as
an enterprise which is devoting substantially all of its efforts toward
developing products, raising capital and marketing products under development.
Under US GAAP, development stage enterprises are required to provide certain
additional disclosure in their financial statements. Phytera is subject to a
number of risks similar to those of other development stage companies,
including dependence on key individuals, competition from substitute products
and larger companies, the development of commercially usable products and the
need to obtain adequate additional financing necessary to fund the development
of its products.     
 
(2) Acquisitions
   
  On July 31, 1996, Phytera issued 246,050 shares of its Series B redeemable
convertible preferred stock for 100% of the outstanding capital stock of
Neptune Pharmaceuticals, Inc. ("Neptune"). These shares were valued at $5.50
per share which represented the fair market value based upon comparable sales
of Series B redeemable convertible preferred stock. The acquisition was
accounted for as a purchase in accordance with Accounting Principles Board
Opinion ("APB") No. 16. The assets acquired from Neptune consisted primarily of
intellectual property which, at the date of acquisition, had not established
technological feasibility and has no alternative future uses. The intellectual
property consisted of know-how and methodologies related to marine culture
extracts and an option to license certain technology from an academic
institution. In order for the intellectual property acquired from Neptune to be
commercialized and generate cash flows, Phytera needs to expend a substantial
amount on additional research and development, preclinical testing and clinical
trials, regulatory clearances, and manufacturing, distribution and marketing
arrangements the outcome of which is uncertain. The cost and time required to
complete the development of the intellectual property is significant and
difficult to estimate given the uncertainties of research and development and
the regulatory process. Accordingly, the net realizable value of the acquired
intellectual property is uncertain. The portion of the purchase price allocated
to intellectual property, totaling $1,498,339, was charged to operations in the
year ended December 31, 1996 as in-process research and development. The
results of operations of Neptune have been included in the accompanying
Consolidated Financial Statements since the date of acquisition.     
   
  On March 11, 1997, Phytera issued 435,000 shares of its Series D redeemable
convertible preferred stock for 100% of the outstanding capital stock of Auda
Pharmaceuticals ApS ("Auda"). These shares were valued at $7.50 per share which
represented the fair market value based upon comparable sales of Series D
redeemable convertible preferred stock. The acquisition was accounted for as a
purchase in accordance with APB No. 16. The assets of Auda consisted primarily
of $1,662,990 of cash and intellectual property which, at the date of
acquisition, had not established technological feasibility and has no
alternative future uses. The intellectual property consisted of rights to three
patents licensed from the University of Copenhagen which may have use in
Phytera's combinational chemistry programs. In order for the intellectual
property acquired from Auda to be commercialized and generate cash flows
Phytera needs to expend a substantial amount on additional research and
development, preclinical testing and clinical trials, regulatory clearances,
and manufacturing, distribution and marketing arrangements the outcome of which
is uncertain. The cost and time required to complete the development of the
intellectual property is significant and difficult to estimate given the
uncertainties of research and development and the regulatory process.
Accordingly, the net realizable value of the intellectual property is
uncertain. The portion of the purchase price allocated to intellectual
property, totaling $1,611,728, was charged to operations in the year ended
December 31, 1997 as in-process research and development. The results of Auda's
operations have been included in the accompanying Consolidated Financial
Statements since the date of acquisition.     
   
  The following unaudited pro forma summary information presents the combined
results of operations of Phytera, Neptune and Auda as if the acquisitions had
occurred at the beginning of 1996 and 1997, respectively. This unaudited pro
forma financial information is presented for informational purposes only and
    
                                      F-7
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
   
may not be indicative of the results of operations as they would have been if
Phytera, Neptune and Auda had been a single entity, nor is it necessarily
indicative of the results of operations that may occur in the future.     
 
<TABLE>
<CAPTION>
                                        Years Ended December      Nine Months
                                                 31,                 Ended
                                       ------------------------  September 30,
                                          1996         1997          1997
                                       -----------  -----------  -------------
     <S>                               <C>          <C>          <C>
     Collaborative revenues........... $   267,200  $ 1,052,657   $   730,311
     Net loss.........................  (8,758,011)  (9,854,791)   (7,763,146)
     Basic and diluted net loss per
      share...........................      (21.07)      (19.72)       (15.78)
</TABLE>
 
(3) Significant Accounting Policies
 
  The accompanying Consolidated Financial Statements reflect the application of
certain significant accounting policies as described in this note and elsewhere
in the notes to Consolidated Financial Statements.
 
  (a) Summary of Certain Differences Between US GAAP, Danish generally accepted
      accounting principles ("Danish GAAP") and International Accounting
      Standards ("IAS")
     
    In preparing its Consolidated Financial Statements for each of the years
  ended December 31, 1995, 1996 and 1997 and nine-month periods ended
  September 30, 1997 and 1998, Phytera has applied accounting principles
  which are in accordance with US GAAP. These accounting principles differ in
  some respects from Danish GAAP and IAS. The more significant differences
  have been summarized below. The following sections list only the material
  differences in accounting principles and related presentation and
  disclosure items which apply to Phytera.     
 
    IAS and Danish GAAP differ in certain respects from US GAAP in such
  regards as the classification and presentation of items in the balance
  sheet and income statement as well as disclosure in the notes. The
  explanatory notes to the income statement do differ both in terms of extent
  and content. US GAAP require specific disclosures to be made related to the
  consolidated statements of operations, consolidated balance sheets, and
  accompanying notes. However, IAS tend to be less specific regarding the
  form of presentation and structure of such disclosure.
 
    In the balance sheet, US GAAP requires assets and liabilities to be
  classified in ascending order, starting with current assets and current
  liabilities, whereas the Danish GAAP requires a mandatory line by line
  presentation, based on the European Union fourth directive. This structure
  lists fixed assets and equity first and current assets and current
  liabilities last (in descending order). Further differences relate to the
  classification of assets on a line by line basis. US GAAP statements
  usually display fixed assets at historical cost and total accumulated
  depreciation as a separate line in the balance sheet. Danish GAAP
  statements show fixed assets at net book value in the balance sheet with an
  accompanying note explaining the "difference" between historical cost and
  accumulated depreciation. Furthermore, Danish GAAP classifies current
  assets differently on a line by line basis on the balance sheet. US GAAP
  classifies leasehold improvements as tangible fixed assets, whereas these
  are included in intangible fixed assets according to Danish GAAP. Similarly
  the grouping and classification of debt and payables can vary under US GAAP
  and Danish GAAP presentation rules.
 
    US GAAP requires research and development costs to be charged to the
  profit and loss account as incurred. IAS recognize development costs as an
  asset provided that certain conditions are met. Phytera has not recognized
  any such assets under IAS, and the development costs are expensed as
  incurred in the same way as research costs.
 
    Under US GAAP, a company such as Phytera and subsidiaries is deemed to be
  a "development stage company", which requires very strict reporting forms,
  including certain aggregate amounts from its inception until the most
  recent reporting period to be reported in the consolidated statements of
  operations and consolidated statements of cash flows and consolidated
  statement of stockholders' equity (deficit). Accounting policy footnotes
  require special disclosure explaining accounting for development stage
  companies. IAS is less specific regarding the form of presentation and
  structure of such disclosure.
 
                                      F-8
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
 
 
  (b) Use of Estimates
 
    The preparation of financial statements in conformity with generally
  accepted accounting principles requires management to make estimates and
  assumptions that affect the reported amounts of assets and liabilities and
  disclosure of contingent assets and liabilities at the date of the
  financial statements and the reported amounts of revenues and expenses
  during the reporting period. Actual results could differ from those
  estimates.
 
  (c) Consolidation
     
    The accompanying Consolidated Financial Statements include the accounts
  of Phytera and its wholly owned subsidiaries, Phytera Ltd., Phytera A/S and
  Phytera Symbion ApS. All material intercompany accounts and transactions
  have been eliminated in consolidation.     
 
  (d) Unaudited Pro Forma Presentation
     
    The unaudited Pro Forma Consolidated Balance Sheet as of September 30,
  1998 reflects the automatic conversion of all outstanding shares of
  redeemable convertible preferred stock into 4,949,056 shares of common
  stock which will occur upon the closing of Phytera's proposed initial
  public offering (assuming the Series E Convertible Preferred Stock converts
  into an aggregate of 722,746 shares of common stock and the closing of the
  proposed initial public offering on or before February 8, 1999 at an
  offering price of $13.00 per share (the mid-point of the expected range)).
      
  (e) Interim Financial Statements
     
    The accompanying Consolidated Financial Statements as of September 30,
  1998 and for the nine-month periods ended September 30, 1997 and 1998 are
  unaudited, but in the opinion of management, include all adjustments
  consisting of normal recurring adjustments necessary for a fair
  presentation of results for the interim periods. Certain information and
  footnote disclosures normally included in financial statements prepared in
  accordance with generally accepted accounting principles have been omitted,
  although Phytera believes that the disclosures included are adequate to
  make the information presented not misleading. Results for the nine months
  ended September 30, 1998 are not necessarily indicative of the results that
  may be expected for the year ending December 31, 1998.     
 
  (f) Revenue Recognition
     
    Substantially all of Phytera's revenues have been derived from research
  and development partnerships (see note 9). Research funding, which is not
  subject to achieving development milestones, is recognized as revenue over
  the life of the research agreement as the required services are provided
  and costs are incurred. Revenues derived from providing extracts are
  recognized upon shipment of the extracts. Milestone payments will be
  recognized as revenue upon achievement of the milestone and receipt of
  payment. License fees will be recognized as revenue upon receipt and
  fulfillment of all performance obligations. Deferred revenue represents
  amounts received prior to recognition as revenue.     
 
  (g) Cash and Cash Equivalents
     
    Cash and cash equivalents are stated at cost, which approximates market.
  Phytera considers highly liquid investments with maturities of 90 days or
  less at the time of acquisition to be cash equivalents. Cash and cash
  equivalents include money market accounts that are readily convertible to
  cash and commercial paper purchased with a maturity of 90 days or less.
      
  (h) Marketable Securities
     
    Phytera accounts for marketable securities under Statement of Financial
  Accounting Standards ("SFAS") No. 115, Accounting for Certain Investments
  in Debt and Equity Securities. Phytera has classified its marketable
  securities as held-to-maturity and they are recorded at amortized cost,
  which approximates fair market value.     
     
    At December 31, 1996, 1997 and September 30, 1998, Phytera's marketable
  securities consist of corporate bonds that mature within one year of the
  balance sheet date.     
 
                                      F-9
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
 
  (i) Depreciation and Amortization
     
    Phytera provides for depreciation and amortization by charges to
  operations in amounts estimated to allocate the cost of equipment and
  improvements over their estimated useful lives on a straight-line basis as
  follows:     
 
<TABLE>
<CAPTION>
            Asset Classification    Estimated Useful Life
            --------------------    ---------------------
            <S>                     <C>
            Laboratory equipment...        5 years
            Leasehold
             improvements..........     Life of lease
            Office equipment.......       3-7 years
</TABLE>
 
  (j) Research and Development Expenses
     
    Phytera charges research and development expenses to operations as
  incurred.     
 
  (k) Foreign Currency Translation
     
    The financial statements of Phytera's non US subsidiaries are translated
  in accordance with SFAS No. 52, Foreign Currency Translation. The
  functional currency of Phytera's foreign subsidiaries is the US dollar,
  accordingly, all assets and liabilities of the foreign subsidiaries are
  translated using the exchange rate at the balance sheet date, except for
  prepaid expenses, equipment and improvements and stockholders' equity
  (deficit), which are translated at historical rates. Revenues and expenses
  are translated at average rates during the period, except for depreciation
  and amortization, which are translated at historical rates. Translation
  gains and losses arising from the translations are included in the
  consolidated statements of operations, since the functional currency is the
  US dollar for all operations.     
 
  (l) Financial Instruments
 
    SFAS No. 107, Disclosures About Fair Value of Financial Instruments,
  requires disclosure about fair value of financial instruments. Financial
  instruments consist of cash equivalents, marketable securities, accounts
  payable and debt. The estimated fair value of these financial instruments
  approximates their carrying value.
 
  (m) Concentration of Credit Risk
     
    SFAS No. 105, Disclosure of Information About Financial Instruments with
  Off-Balance-Sheet Risk and Financial Instruments with Concentrations of
  Credit Risk, requires disclosure of any significant off-balance-sheet and
  credit risk concentration. Phytera has no significant off-balance-sheet
  concentration of credit risk such as foreign exchange contracts or other
  hedging arrangements. Financial instruments that subject Phytera to credit
  risk consist of cash and cash equivalents and marketable securities.
  Phytera's collaborative revenue for the years ended December 31, 1996 and
  1997 and for the nine months ended September 30, 1997 was derived entirely
  from Tsumura & Co. Approximately 55%, 31% and 14% of Phytera's
  collaborative revenue for the nine months ended September 30, 1998 was
  derived from Tsumura & Co., Chiron Corporation and Eli Lilly and Company,
  respectively. See note 9.     
 
  (n) Net Loss per Share
     
    Basic and diluted net loss per common share was determined by dividing
  net loss attributable to common shareholders, which reflects the accretion
  of preferred stock to redemption value, by the weighted average vested
  common shares outstanding during the period. The computation of basic and
  diluted net loss per share reflects adjustments to net loss of $15,332,
  $401,575, $423,920, $317,940 and $819,401 for the accretion of preferred
  stock to its redemption value for the years ended December 31, 1995, 1996,
  1997 and the nine months ended September 30, 1997 and 1998, respectively.
  Basic and diluted net loss per share are the same, as outstanding common
  stock options and warrants and convertible preferred stock are considered
  antidilutive as Phytera has recorded a net loss for all periods presented.
  Options and warrants to purchase a total of 258,081, 645,576, 747,753,
  723,098, and 1,029,437 common shares have been excluded from the
  computation of diluted weighted average shares outstanding for the years
  ended December 31, 1995, 1996, 1997, and for the nine months ended
  September 30, 1997 and 1998, respectively. Shares of common stock issuable
  upon the conversion of outstanding redeemable convertible preferred stock
  have also been excluded for all periods presented.     
 
                                      F-10
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes To Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
     
    The calculation of pro forma net loss per common share assumes that all
  series of redeemable convertible preferred stock had been converted to
  common stock as of the original issuance dates. The calculation also
  assumes that the Series E redeemable convertible preferred stock converts
  into an aggregate of 722,746 shares of common stock which is based upon a
  closing of Phytera's proposed initial public offering on or before February
  8, 1999 at a public offering price of $13.00 per share (the mid-point of
  the expected range).     
 
  (o) New Accounting Standards
     
    In June 1997, the Financial Accounting Standards Board ("FASB") issued
  SFAS No. 130, Reporting Comprehensive Income. SFAS No. 130 requires
  disclosure of all components of comprehensive income on an annual and
  interim basis. Comprehensive income is defined as the change in equity of a
  business enterprise during a period from transactions and other events and
  circumstance from non-operating sources. SFAS No. 130 is effective for
  fiscal years beginning after December 15, 1997. Phytera has adopted this
  statement, however as of September 30, 1998, Phytera does not have any
  material components of comprehensive income.     
     
    In July 1997, the FASB issued SFAS No. 131, Disclosures About Segments of
  an Enterprise and Related Information. SFAS No. 131 requires certain
  financial and supplementary information to be disclosed on an annual and
  interim basis for each reportable segment of an enterprise. SFAS No. 131 is
  effective for fiscal years beginning after December 15, 1997. Phytera will
  adopt this statement in their 1998 year end financial statements.     
 
(4) Long-Term Debt
 
  Long-term debt obligations consist of the following as of December 31, 1996
and 1997 and September 30, 1998:
 
<TABLE>
<CAPTION>
                                               December 31,
                                           --------------------- September 30,
                                              1996       1997        1998
                                           ---------- ---------- -------------
     <S>                                   <C>        <C>        <C>
     Note payable to University of
      Sheffield........................... $  822,000 $  792,384  $  816,000
     Note payable to a Danish
      organization........................     67,073    685,257   1,510,656
     Note payable to a United States
      bank................................    550,000    275,000      68,750
     Note payable to an unrelated third
      party...............................    100,691     73,990      64,656
     Note payable to a Danish bank........     34,755     22,741      18,296
                                           ---------- ----------  ----------
                                            1,574,519  1,849,372   2,478,358
     Less--Current portion................    300,993    299,536     289,278
                                           ---------- ----------  ----------
                                           $1,273,526 $1,549,836  $2,189,080
                                           ========== ==========  ==========
</TABLE>
   
  Long-term debt includes a (Pounds)480,000 (approximately $816,000 at the
September 30, 1998 exchange rate) note payable to the University of Sheffield,
bearing interest at 10% per annum, issued in connection with the acquisition of
Phytera Ltd. The note is payable on the closing of a qualified initial public
offering of Phytera's common stock, as defined, but may be accelerated upon the
sale or transfer of all or substantially all of Phytera's assets or upon a
voluntary petition of bankruptcy. Interest on the unpaid principal balance is
due each October 1.     
   
  In 1996, Phytera established a credit facility with a Danish organization to
fund its Danish operations. The maximum loan is DKK 13,232,700 ($2,086,797 at
the September 30, 1998 exchange rate), and is disbursed to Phytera quarterly,
based on a percentage of the operating expenses incurred by its operations in
Denmark through December 31, 1998. Interest accrues from the time of
disbursement at a rate of 7.98% per annum. The note and interest accrued are
payable quarterly beginning April 1, 1999. The loan balance outstanding,
including accrued but unpaid interest, at December 31, 1996, 1997 and September
30, 1998, was DKK 397,350, DKK 4,693,541 and DKK 9,564,726, respectively
($67,073, $685,257 and $1,510,656 at the December 31, 1996, and 1997 and
September 30, 1998 exchange rates, respectively).     
 
                                      F-11
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes To Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
   
  In July 1994, Phytera entered into a $1,100,000 equipment line of credit with
a US bank. Phytera borrowed the maximum amount through December 31, 1994, at
which time the amount outstanding under the equipment line of credit was
converted into a promissory note. The note is payable in 48 equal monthly
installments, beginning in January 1995 and bearing interest at the bank's
prime rate (8.5% at September 30, 1998) plus 2%. Borrowings under the note are
secured by substantially all of Phytera's assets. The note contains certain
covenants, including minimum levels of liquidity and net worth. Phytera was in
compliance with all covenants at December 31, 1997 and September 30, 1998.     
   
  In October 1996, Phytera entered into a DKK 619,580 ($97,708 at the September
30, 1998 exchange rate) note payable with a third party for the purpose of
funding leasehold improvements. During 1997, additional leasehold improvements
for the amount of DKK 13,750 ($2,168 at September 30, 1998) were completed and
the amount was added to the existing note balance without any change in payment
terms. The note is payable quarterly over five years beginning October 1996.
The note bears interest at 6% plus a discount rate, which was 3.25% at
September 30, 1998.     
   
  In September 1996, Phytera entered into a DKK 217,700 ($34,331 at the
September 30, 1998 exchange rate) note payable with a Danish bank for the
purchase of a vehicle. The note is payable in 48 equal monthly installments,
beginning in October 1996 and bearing interest at 6.75%. The note is secured by
the vehicle.     
   
  In September 1998, Phytera entered into a $1,000,000 equipment line of credit
with a US finance company. This agreement provides for the funding of equipment
purchases made by Phytera through July 15, 1999. Separate loans are created
each time funding is provided, and each loan is to be repaid over 48 months
from the date of the funding with a final payment of 12.5% of the initial
principal amount. The repayment amount is based on a percentage of the
outstanding principal of the loan. The percentage rate can vary prior to each
funding, but is then fixed for the term of the specific loan created by the
specific funding event. The line is secured by all equipment purchased under
this agreement. There was no outstanding balance under this line of credit at
September 30, 1998.     
 
(5) Convertible Debt
   
  During 1995, Phytera borrowed $1,762,236 from existing investors and
affiliates under convertible promissory notes bearing interest at 7% per annum.
On January 31, 1996, these notes plus accrued interest were converted into
287,846 shares of Phytera's Series C convertible preferred stock in conjunction
with the financing discussed in note 6(c).     
 
(6) Stockholders' Equity (Deficit)
 
  (a) Recapitalization
     
    On December 23, 1998, Phytera's Board of Directors approved a 0.654-for-
  one reverse stock split of Phytera's common stock. The reverse stock split
  will be effective prior to the consummation of the proposed initial public
  offering of common stock. All share and per share amounts of common stock
  for all periods have been retroactively adjusted to reflect the reverse
  stock split. Upon the closing of Phytera's proposed initial public
  offering, its certificate of incorporation will be amended and restated to,
  among other things, change its authorized capital stock to 25,000,000
  shares of $0.01 par value common stock and 1,000,000 shares of $0.01 par
  value preferred stock.     
 
  (b) Common Stock
     
    As of September 30, 1998, Phytera had authorized 13,000,000 shares of
  common stock, $0.01 par value and had issued 709,949 of such shares.     
 
                                      F-12
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes To Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
     
    Phytera has authorized the issuance of up to 434,372 shares of common
  stock pursuant to restricted stock agreements, of which 429,467 have been
  issued at September 30, 1998. A portion of these shares vested immediately,
  and the remaining shares vest ratably through 2003. All unvested stock, as
  defined, is subject to repurchase at its original issuance price by Phytera
  upon the employee leaving Phytera. In January 1996, Phytera exercised its
  repurchase right to purchase 10,628 shares of common stock. As of December
  31, 1997 and September 30, 1998, 48,069, and 57,552 shares of restricted
  common stock, respectively, were unvested and subject to repurchase right.
      
                                      F-13
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
 
  (c) Redeemable Convertible Preferred Stock
 
    Redeemable convertible preferred stock activity since inception is as
  follows:
 
<TABLE>
<CAPTION>
                         Series A             Series B              Series C             Series D              Series E
                   -------------------- --------------------- -------------------- --------------------- --------------------
                    Number    Carrying   Number    Carrying    Number    Carrying   Number    Carrying    Number    Carrying
                   of Shares   Value    of Shares    Value    of Shares   Value    of Shares    Value    of Shares   Value
                   --------- ---------- --------- ----------- --------- ---------- --------- ----------- --------- ----------
<S>                <C>       <C>        <C>       <C>         <C>       <C>        <C>       <C>         <C>       <C>
Sale of Series A
 redeemable
 convertible
 preferred
 stock...........   908,602  $1,697,381       --  $       --        --  $      --        --  $       --       --   $      --
 Accretion of
  preferred
  stock..........       --        6,093       --          --        --         --        --          --       --          --
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance December
 31, 1992........   908,602   1,703,474       --          --        --         --        --          --       --          --
 Sale of Series B
  redeemable
  convertible
  preferred
  stock..........       --          --  1,857,884  10,144,445       --         --        --          --       --          --
 Accretion of
  preferred
  stock..........       --        6,093       --        9,239       --         --        --          --       --          --
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance December
 31, 1993........   908,602   1,709,567 1,857,884  10,153,684       --         --        --          --       --          --
 Accretion of
  preferred
  stock..........       --        6,093       --        9,239       --         --        --          --       --          --
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance, December
 31, 1994........   908,602   1,715,660 1,857,884  10,162,923       --         --        --          --       --          --
 Accretion of
  preferred
  stock..........       --        6,093       --        9,239       --         --        --          --       --          --
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance, December
 31, 1995........   908,602   1,721,753 1,857,884  10,172,162       --         --        --          --       --          --
 Conversion of
  bridge
  financing loan
  and interest
  into preferred
  stock..........       --          --        --          --    287,846  1,799,038       --          --       --          --
 Sale of Series C
  redeemable
  convertible
  preferred
  stock..........       --          --        --          --    784,913  4,011,900       --          --       --          --
 Issuance of
  Series B
  redeemable
  convertible
  preferred stock
  in connection
  with Neptune
  Pharmaceuticals,
  Inc.
  acquisition....       --          --    246,050   1,353,275       --         --        --          --       --          --
 Sale of Series D
  redeemable
  convertible
  preferred
  stock..........       --          --        --          --        --         --  1,900,000  11,233,666      --          --
 Exercise of
  warrants to
  purchase Series
  C redeemable
  convertible
  preferred stock
  (note 6(f))....       --          --        --          --     40,296    251,850       --          --       --          --
 Accretion of
  preferred
  stock..........       --        6,093       --        9,239       --     162,976       --      223,267      --          --
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance, December
 31, 1996........   908,602   1,727,846 2,103,934  11,534,676 1,113,055  6,225,764 1,900,000  11,456,933      --          --
 Issuance of
  Series D
  redeemable
  convertible
  preferred stock
  in connection
  with Auda
  Pharmaceuticals
  ApS
  acquisition....       --          --        --          --        --         --    435,000   2,817,045      --          --
 Accretion of
  preferred
  stock..........       --        6,093       --        9,239       --     182,707       --      225,881      --          --
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance, December
 31, 1997........   908,602   1,733,939 2,103,934  11,543,915 1,113,055  6,408,471 2,335,000  14,499,859      --          --
 Sale of Series E
  redeemable
  convertible
  preferred
  stock..........       --          --        --          --        --         --        --          --   812,586   6,122,629
 Amortization of
  discount
  ascribed to the
  guaranteed rate
  of return on
  Series E
  redeemable
  convertible
  preferred stock
  ...............       --          --        --          --        --         --        --          --       --      406,293
 Exercise of
  warrants to
  purchase Series
  C redeemable
  convertible
  preferred stock
  (note 6(f))....       --          --        --          --      1,656     10,350       --          --       --          --
 Accretion of
  preferred
  stock..........       --        4,569       --        6,929       --     137,030       --      170,064      --       94,515
                    -------  ---------- --------- ----------- --------- ---------- --------- -----------  -------  ----------
Balance,
 September 30,
 1998 ...........   908,602  $1,738,508 2,103,934 $11,550,844 1,114,711 $6,555,851 2,335,000 $14,669,923  812,586  $6,623,437
                    =======  ========== ========= =========== ========= ========== ========= ===========  =======  ==========
</TABLE>
     
    As of September 30, 1998, Phytera had authorized the issuance of up to
  14,446,382 shares of preferred stock, $0.01 par value. The authorized
  shares have been designated as follows: 908,602 shares of Series A
  redeemable convertible preferred stock ("Series A"), 2,194,843 shares each
  of Series B and Series BB redeemable convertible preferred stock ("Series
  B"), 1,239,047 shares each of Series C and Series CC redeemable convertible
  preferred stock ("Series C"), 2,335,000 shares each of Series D and Series
  DD redeemable convertible preferred stock ("Series D") and 1,000,000 shares
  of Series E and Series EE redeemable convertible preferred stock ("Series
  E"), in the aggregate ("the Preferred Stock").     
 
                                      F-14
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
     
    Phytera has recorded outstanding redeemable convertible preferred stock
  outside the equity section of the balance sheet as a liability. The
  redeemable convertible preferred stock is recorded at its net sales price
  and the carrying value is accreted (increased) over time such that at the
  earliest date of potential redemption the redeemable convertible preferred
  stock is carried as a liability at its redemption value. The periodic
  accretion recorded to increase the carrying value is charged directly to
  deficit accumulated during the development stage.     
     
    In January 1996, Phytera issued 838,359 shares of Series C and warrants
  to purchase 115,694 shares of Series C at $0.01 per share in exchange for
  cash of $3,440,706 and the conversion of bridge notes payable of $1,762,236
  and accrued interest thereon of $36,802. Phytera has recorded the value
  attributed to the warrants as additional paid in capital. The total value
  attributed to these warrants of approximately $635,000 will be accreted to
  the redemption value of the Series C over the period to its earliest
  redemption date. In addition, Phytera granted warrants to purchase 18,247
  shares of Series C at $5.50 per share in exchange for a guarantee
  commitment from certain stockholders. During the year ended December 31,
  1996, certain stockholders exercised warrants to purchase 40,296 shares of
  Series C at $0.01 per share.     
     
    In July 1996, Phytera issued 234,400 shares of Series C and warrants to
  purchase 32,347 shares of Series C at $0.01 per share for $1,465,000. Total
  net proceeds for the issuance of Series C totaled $6,623,683. Phytera has
  recorded the value attributed to the warrants as additional paid in
  capital. The total value attributed to these warrants of approximately
  $177,600 will be accreted to the redemption value of the Series C over the
  period to its earliest redemption date. During the nine months ended
  September 30, 1998, certain stockholders exercised warrants to purchase
  1,656 shares of Series C at $0.01 per share.     
     
    In October 1996, Phytera issued 1,900,000 shares of Series D at a price
  of $6.50 per share for total net proceeds of $11,233,666.     
     
    In March 1997, Phytera issued 435,000 shares of its Series D for 100% of
  the outstanding capital stock of Auda. Phytera recorded these shares at a
  value of $7.50 per share pursuant to this transaction.     
     
    On May 26, 1998, June 25, 1998, and September 18, 1998, Phytera issued
  580,086, 182,500, and 50,000 shares, respectively, of Series E at a price
  of $10.00 per share for total net proceeds of $7,747,576.     
 
    The rights and privileges of the Preferred Stock are listed below:
 
   Conversion
     
    The Preferred Stock is convertible into common stock at the rate of 0.654
  of a share of common stock for each share of Preferred Stock, adjustable
  for certain dilutive events except as discussed below for the Series E.
  Conversion is at the option of the preferred stockholder but is mandatory
  upon the closing of an initial public offering ("IPO") of Phytera's common
  stock at a per share price of at least $9.65, with gross proceeds to
  Phytera in excess of $10,000,000.     
     
    The Series E is entitled to a contingent conversion price adjustment
  under certain circumstances. In the event Phytera closes an IPO on or prior
  to June 25, 1999, but at a price per share to the public less than a value
  reflecting a 25% annualized return above the per share of $10.00, the
  conversion price shall be automatically adjusted so that the Series E will
  be converted into a number of common shares that would equal a 25%
  annualized return. In the event that an IPO is not closed prior to June 25,
  1999, the conversion rate of the Series E into common shares will be
  adjusted to a rate of one and one half shares of common stock for each
  share of Series E. In the event that an IPO is not closed prior to November
  25, 1999, the conversion rate of Series E to common shares will be adjusted
  to a rate of two shares common stock for each share of Series E. In the
  event that an IPO is not closed prior to April 25, 2000, the     
 
                                      F-15
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes To Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
 
  conversion rate of Series E to common shares will be adjusted to a rate of
  two-and-one-half shares of common stock for each share of Series E. The
  terms of this contingent conversion price adjustment are applicable when
  the Series E converts to common stock under any circumstances.
     
    Phytera has recorded the value attributed to the contingent conversion
  price adjustment of the Series E as additional paid in capital. This amount
  was determined to be equal to $2.00 per share which will be accreted to the
  redemption value of the Series E over the estimated outstanding period of
  one year. Phytera has determined that $2.00 represents the estimate of the
  value of the guaranteed return as it anticipates conversion within one
  year.     
 
   Voting Rights
 
    The holders of Preferred Stock are entitled to vote on all matters and
  are entitled to the number of votes equal to the number of shares of common
  stock into which the Preferred Stock is convertible.
 
   Dividends
     
    The holders of the Series A shall be entitled to receive, when and if
  declared by the Board of Directors, cumulative cash dividends at the annual
  rate of $0.1544 per share. Such dividends shall accrue after the first
  calendar quarter when Phytera's net after-tax income exceeds $100,360.     
     
    The holders of the Series B, C, D and E Preferred stock shall be entitled
  to receive, when and if declared by the Board of Directors, cumulative cash
  dividends at the annual rate of $0.44, $0.50, $0.52 and $0.80 per share,
  respectively. Such dividends shall accrue after the first calendar quarter
  when Phytera's net after-tax income exceeds $500,000. In addition, the
  holders of the Preferred Stock shall be entitled to receive a dividend
  equal to any dividend paid on common stock.     
 
   Liquidation Preference
     
    The holders of the Preferred Stock have preference in the event of any
  voluntary or involuntary liquidation, dissolution or winding up of Phytera.
  The holders of the Series A are entitled to a preference of $1.93 per
  share, plus any accrued but unpaid dividends. The holders of the Series B
  are entitled to a preference of $5.50 per share plus any accrued but unpaid
  dividends. The holders of the Series C are entitled to a preference of
  $6.25 per share, plus any accrued but unpaid dividends. The holders of the
  Series D are entitled to a preference of $6.50 per share, plus any accrued
  but unpaid dividends. The holders of the Series E are entitled to a
  preference of $10.00 per share, plus any accrued but unpaid dividends.     
 
   Redemption
     
    Preferred Stock is redeemable at the option of the holder over a three-
  year period commencing on January 1, 2001. On January 1, 2001, 2002 and
  2003, Phytera shall offer to each holder of the Preferred Stock, redemption
  of a maximum of 33 1/3%, 50% and 100%, respectively, of the total number of
  shares of Preferred Stock held by such holder on such redemption date. The
  redemption price per share shall be equal to $1.93, $5.50, $6.25, $6.50 and
  $10.00 for each share of Series A, B, C, D and E, respectively, plus all
  accrued and unpaid dividends.     
 
  (d) Stock Option Plans
     
    Phytera's 1992 Stock Option Plan ("the Plan") provides for the grant of
  incentive stock options ("ISOs") and nonqualified options to purchase up to
  915,600 shares of common stock to key employees and consultants. Under
  terms of the Plan, the exercise price of options granted shall be
  determined by the Compensation Committee and for ISOs, shall not be less
  than the fair market value of the stock on the date of grant. The term of
  each stock option shall be determined by the Board of Directors but shall
  not exceed ten years from the date of grant.     
     
    Phytera's 1998 Equity Incentive Plan ("the 1998 Plan"), which amends and
  restates its 1992 Stock Option Plan, authorizes the grant of incentive
  stock options, nonqualified stock     
 
                                      F-16
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
     
  options, stock grants and other stock-based awards for the purchase of an
  additional 654,000 shares of Common Stock to employees, consultants and
  directors of Phytera or any affiliate capable of contributing to Phytera's
  performance. Grants of Awards under the 1998 Equity Incentive Plan and all
  questions of interpretations with respect to the 1998 Plan are determined
  by the Board of Directors of Phytera. The Board of Directors has appointed
  the Compensation Committee to administer the 1998 Plan. This plan has been
  adopted by the Board of Directors subject to shareholder approval.     
 
    A summary of option activity under the Plan for the years ended December
  31, 1996, 1997 and the nine-months ended September 30, 1998 is as follows:
 
<TABLE>
<CAPTION>
                                                                        Weighted
                                                              Exercise  Average
                                                             Price per  Exercise
                                                    Shares     Share     Price
                                                    -------  ---------- --------
     <S>                                            <C>      <C>        <C>
     Outstanding, December 31, 1995................ 172,443  $0.02-0.84  $0.49
      Granted...................................... 418,429   0.84-0.99   0.92
      Exercised.................................... (23,904)  0.02-0.84   0.03
      Forfeited....................................  (7,030)  0.02-0.84   0.78
                                                    -------  ----------  -----
     Outstanding, December 31, 1996................ 559,938  $0.02-0.99  $0.83
      Granted...................................... 118,485   0.99-1.15   1.13
      Exercised.................................... (36,362)  0.02-0.99   0.69
      Forfeited.................................... (43,034)  0.02-1.15   0.54
                                                    -------  ----------  -----
     Outstanding, December 31, 1997................ 599,027  $0.02-1.15  $0.92
      Granted...................................... 304,437   1.15-7.65   1.56
      Exercised.................................... (85,816)  0.02-1.15   0.87
      Forfeited.................................... (19,810)  0.02-1.15   0.95
                                                    -------  ----------  -----
     Outstanding, September 30, 1998............... 797,838  $0.02-7.65  $1.16
                                                    =======  ==========  =====
     Exercisable, September 30, 1998............... 222,096  $0.02-1.53  $1.01
                                                    =======  ==========  =====
</TABLE>
 
    The range of exercise prices for options outstanding and options
  exercisable at September 30, 1998 is as follows:
 
<TABLE>
<CAPTION>
                   Options Outstanding                  Options Exercisable
     -----------------------------------------------------------------------
                                    Weighted
                                     Average   Weighted             Weighted
                                    Remaining  Average              Average
        Range of         Options   Contractual Exercise   Options   Exercise
     Exercise Prices   Outstanding    Life      Price   Exercisable  Price
     ---------------   ----------- ----------- -------- ----------- --------
     <S>               <C>         <C>         <C>      <C>         <C>
     $0.02                21,566   5.06 years   $0.02      17,004    $0.02
     $0.84--$1.53        773,983   8.26 years    1.18     205,092     1.09
     $7.65                 2,289   9.96 years    7.65         --       --
                         -------   ----------   -----     -------    -----
                         797,838   7.89 years   $1.16     222,096    $1.01
                         =======   ==========   =====     =======    =====
</TABLE>
     
    In connection with certain stock option grants during the nine months
  ended September 30, 1998, Phytera recorded deferred compensation of
  $2,115,350, which represents the aggregate difference between the exercise
  price and the fair market value of the common stock determined for
  accounting purposes. The deferred compensation will be recognized as an
  expense over the vesting period of the underlying stock options. Phytera
  recorded compensation expense of $304,466 in the nine months ended
  September 30, 1998 related to these options.     
     
    In October 1995, the FASB issued SFAS No. 123, Accounting for Stock-Based
  Compensation, which requires the measurement of the fair value of stock
  options or warrants to be included in the statement of income or disclosed
  in the notes to the financial statements. Phytera has determined that it
  will continue to account for stock-based compensation for employees under
  APB No. 25 and elected the disclosure-only     
 
                                      F-17
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
  alternative under SFAS No. 123 for options granted in 1995, 1996, 1997 and
  the nine months ended September 30, 1998 using the Black-Scholes option
  pricing model prescribed by SFAS No. 123. The assumptions used are as
  follows:
 
<TABLE>
<CAPTION>
                                            Years Ended           Nine Months
                                           December 31,              Ended
                                   ----------------------------- September 30,
                                     1995      1996      1997        1998
                                   --------- --------- --------- -------------
     <S>                           <C>       <C>       <C>       <C>
     Risk-free interest rate...... 5.7%-7.8% 5.7%-6.9% 5.8%-6.9%   4.6%-5.7%
     Expected dividend yield......       --        --        --          --
     Expected lives...............  10 years  10 years  10 years  3-10 years
     Expected volatility..........       60%       60%       60%         60%
     Weighted average fair value
      per share of options
      granted.....................     $0.55     $0.61     $0.75       $6.71
     Weighted average remaining
      contractual life of options
      outstanding.................      8.52      8.49      8.21        7.89
</TABLE>
     
    Had compensation cost for Phytera's stock plan been determined based on
  the fair value at the grant dates, as prescribed in SFAS No. 123, Phytera's
  net loss and net loss per share would have been as follows:     
 
<TABLE>
<CAPTION>
                                       Years Ended              Nine Months Ended
                                      December 31,                September 30,
                            --------------------------------- ---------------------
                               1995       1996       1997        1997       1998
                            ---------- ---------- ----------- ---------- ----------
   <S>                      <C>        <C>        <C>         <C>        <C>
   Net loss
    As reported............ $5,438,528 $8,288,880 $ 9,754,012 $7,662,366 $6,584,713
    Pro forma..............  5,457,616  8,744,691  10,266,151  8,046,471  7,566,982
   Basic and diluted net
    loss per common share
    As reported............ $    15.43 $    19.99 $     19.53 $    15.59 $    12.47
    Pro forma..............      15.44      20.11       19.70      15.72      12.64
</TABLE>
     
    The Black-Scholes option pricing model was developed for use in
  estimating the fair value of traded options which have no vesting
  restrictions and are fully transferable. In addition, option pricing models
  require the input of highly subject assumptions, including expected stock
  price volatility. Because Phytera's employee stock options have
  characteristics significantly different from those of traded options, and
  because changes in the subjective input assumptions can materially affect
  the fair value estimate, in management's opinion, the existing models do
  not necessarily provide a reliable single measure of the fair value of its
  employee stock options.     
 
  (e) Employee Stock Purchase Plan
     
    In December 1997, Phytera established an Employee Share Ownership Program
  ("ESOP") for Phytera's employees based in Denmark. This plan authorizes
  Phytera to issue and sell up to an aggregate of 6,474 shares of common
  stock, of which 5,693 shares of common stock were purchased at fair market
  value as of December 31, 1997.     
     
    Phytera has also adopted an Employee Stock Purchase Plan ("the Purchase
  Plan") under which employees may purchase shares of common stock at a
  discount from fair market value. There are 163,500 shares of common stock
  reserved for issuance under the Purchase Plan. To date, no shares of common
  stock have been issued under the Purchase Plan. The Purchase Plan is
  intended to qualify as an employee stock purchase plan within the meaning
  of Section 423 of the Internal Revenue Code. Rights to purchase common
  stock under the Purchase Plan are granted at the discretion of the
  Compensation Committee, which determines the frequency and duration of
  individual offerings under the Purchase Plan and the dates when stock may
  be purchased. Eligible employees participate voluntarily and may withdraw
  from any offering at     
 
                                      F-18
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
 
  any time before stock is purchased. Participation terminates automatically
  upon termination of employment. The purchase price per share of common
  stock in an offering is 85% of the lesser of its fair market value at the
  beginning of the offering period or on the applicable exercise date and may
  be paid through payroll deductions, periodic lump-sum payments or a
  combination of both. The Purchase Plan terminates on September 17, 2008.
  This plan has been adopted by the Board of Directors subject to shareholder
  approval.
 
  (f) Warrants
     
    In connection with certain promissory notes, Phytera issued warrants to
  purchase 85,637 shares of common stock. These warrants are exercisable for
  shares of common stock at an exercise price of $8.41 per share. The
  warrants shall be exercisable prior to the earlier of January 31, 1999 or
  the effective date of an initial public offering.     
     
    As of September 30, 1998 Phytera has outstanding 106,089 and 18,247
  warrants for the purchase of Series C at $0.01 and $5.50 per share,
  respectively, which were issued in connection with the issuance of
  convertible debt, as discussed in Note 5.     
     
    In December 1997, Phytera granted warrants to purchase 39,793 shares of
  common stock to selected employees and directors in Denmark. Such warrants
  have an exercise price of $1.15 per share, and vest over a three to five
  year period beginning on January 1, 1999.     
     
    On December 9, 1997 warrants to purchase 22,890 shares of common stock
  were granted to a consultant of Phytera in Denmark. These warrants have an
  exercise price of $0.99 per share and become fully exercisable as of
  January 1, 2000.     
 
(7) Income Taxes
   
  Phytera follows SFAS No. 109, Accounting for Income Taxes, by providing for
income taxes under the liability method. Deferred taxes are determined based on
the difference between the financial statement and tax bases of assets and
liabilities, as measured by the current tax rates. The principal differences
between assets and liabilities for financial reporting and tax return purposes
result primarily from start-up costs and of purchased research and development
costs that have been capitalized for income tax purposes.     
 
  The components of the net deferred tax asset with the approximate income tax
effect of each type of temporary difference are as follows:
 
<TABLE>
<CAPTION>
                                                       1996          1997
                                                    -----------  ------------
     <S>                                            <C>          <C>
     Net operating loss carryforwards.............. $ 7,398,000  $ 10,096,000
     Research and development tax credit
      carryforwards................................     270,000       330,000
     Purchased research and development............     600,000       640,000
     Temporary differences.........................      74,000      (238,000)
                                                    -----------  ------------
                                                      8,342,000    10,828,000
     Valuation allowance...........................  (8,342,000)  (10,828,000)
                                                    -----------  ------------
     Net deferred tax asset........................ $       --   $        --
                                                    ===========  ============
</TABLE>
   
  Phytera has recorded a full valuation allowance against its deferred tax
assets due to uncertainties surrounding the realization of these assets.     
   
  Phytera has available net operating loss carryforwards for the period from
inception to December 31, 1996 and 1997 on an aggregate basis, of approximately
$18,495,000 and $25,200,000, respectively, for US federal income tax purposes,
which expire at various dates beginning in 2009. Phytera also has available US
federal tax credits of approximately $270,000 and $330,000 at December 31, 1996
and 1997, respectively, expiring through the year 2010. Phytera's foreign
subsidiaries have approximately $690,000 of available net operating     
 
                                      F-19
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
 
loss carryforwards for foreign income tax reporting purposes as of December 31,
1997. These carryforwards expire on various dates beginning in 2001.
   
  The US Internal Revenue Code of 1986, as amended (the "Code"), contains
provisions that may limit the US net operating loss and tax credit
carryforwards available to be used in any given year upon the occurrence of
certain events, including changes in the ownership interests of significant
stockholders. In the event of a cumulative change in ownership in excess of 50%
over a three year period, the amount of the US net operating loss carryforwards
and tax credit carryforwards that Phytera can utilize in any one year may be
limited. In the event of a change in ownership, as defined, the annual
limitation on the use of the existing net operating loss carryforwards is equal
to an amount determined by multiplying the value of Phytera at the time of the
ownership change by the US federal applicable rate of interest as determined by
the US Internal Revenue Service.     
 
(8) Commitments
   
  Phytera leases certain equipment and conducts its operations in leased
facilities under noncancelable operating leases that expire through 2004. Rent
expense was approximately $694,000, $957,000 and $1,132,000, during the years
ended December 31, 1995, 1996 and 1997, respectively. Rent expense for the nine
months ended September 30, 1997 and September 30, 1998 amounted to
approximately $842,000 and $915,000, respectively. The minimum rental payments
under these lease agreements are approximately as follows:     
 
<TABLE>
<CAPTION>
                                                 Amount
                                               ----------
            <S>                                <C>
            1998.............................. $1,219,000
            1999..............................  1,161,000
            2000..............................    963,000
            2001..............................    885,000
            2002..............................    865,000
            Thereafter........................  1,354,000
                                               ----------
                                               $6,447,000
                                               ==========
</TABLE>
 
(9) Partnership Agreements
 
  (a) Tsumura & Co.
     
    In June 1996, Phytera entered into a partnership with Tsumura & Co.
  ("Tsumura") focused on the discovery of novel agents for the treatment of
  inflammation and allergies. Phytera received nonrefundable payments of
  $780,000, $1,002,500 and $652,125 during the years ended December 31, 1996
  and 1997 and the nine months ended September 30, 1998, respectively, in
  consideration of its agreement to provide certain extracts and perform
  research activities for Tsumura. Phytera recognizes revenue under this
  agreement as it provides the extracts to Tsumura and performs the required
  research. Phytera recognized $247,000 and $1,052,657 of revenue for the
  years ended December 31, 1996 and 1997 and $730,311 and $605,737 for the
  nine-month periods ended September 30, 1997 and 1998, respectively.     
 
  (b) Chiron Corporation
     
    In May 1998, Phytera entered into a collaboration agreement with Chiron
  Corporation ("Chiron"), whereby Phytera provides certain extracts to Chiron
  in order to facilitate the research and development of certain
  pharmaceutical products. For the nine months ended September 30, 1998,
  Phytera received a nonrefundable payment of $150,000 from Chiron. This
  payment was related to the shipment of a specified number of extracts and
  was recorded as revenue upon shipment.     
 
  (c) Eli Lilly and Company
     
    In July 1998, Phytera entered into a research collaboration agreement
  with Eli Lilly and Company ("Lilly") pursuant to which Phytera will
  collaborate with Lilly on the discovery of novel agents for the     
 
                                      F-20
<PAGE>
 
                         PHYTERA, INC. AND SUBSIDIARIES
                         (A Development Stage Company)
 
             Notes to Consolidated Financial Statements, Continued
                (Including Data Applicable to Unaudited Periods)
     
  diagnosis, treatment and prevention of infectious fungal disease in humans
  and animals. Under the terms of this two-year agreement, Phytera will
  receive research funding, an equity investment, and potential future
  milestone and royalty payments. In September, 1998 Lilly purchased 50,000
  shares of Series E for $500,000 which represented the fair value of the
  Series E on the date of purchase. Phytera receives research funding from
  Lilly based upon the number of full time equivalent researchers dedicated
  to the agreement. Phytera recognizes the payments as revenue as the
  services are provided. As of September 30, 1998, Phytera received research
  funding of $428,028 of which $344,520 had been recognized as revenue.
  Milestone payments will be recognized as revenue upon achievement of the
  specified milestones. No milestone payments have been received as of
  September 30, 1998.     
 
(10) Accrued Expenses
 
  Accrued expenses at December 31, 1996 and 1997 and September 30, 1998 consist
of the following:
 
<TABLE>
<CAPTION>
                                                December 31,
                                              ----------------- September 30,
                                                1996     1997       1998
                                              -------- -------- -------------
     <S>                                      <C>      <C>      <C>
     Accrued payroll and payroll related
      expenses............................... $ 70,248 $181,074   $296,204
     Other accrued expenses..................  269,612  182,266    566,429
                                              -------- --------   --------
                                              $339,860 $363,340   $862,633
                                              ======== ========   ========
</TABLE>
 
(11) Geographic Information
   
  Revenues, net loss and identifiable assets for Phytera's U.S. and European
operations are summarized as follows:     
 
<TABLE>
<CAPTION>
                                         European
                         United States Subsidiaries Eliminations  Consolidated
                         ------------- ------------ ------------  ------------
<S>                      <C>           <C>          <C>           <C>
  Year ended December
   31, 1996
Revenues from unaffili-
 ated customers.........  $   247,000   $      --   $       --    $   247,000
Transfers between geo-
 graphic regions........          --           --           --            --
                          -----------   ----------  -----------   -----------
    Total Revenue.......  $   247,000   $      --   $       --    $   247,000
                          ===========   ==========  ===========   ===========
Net Income (Loss).......  $(8,474,359)  $  185,479  $       --    $(8,288,880)
                          ===========   ==========  ===========   ===========
Identifiable assets.....  $11,644,970   $1,389,281  $  (638,739)  $12,395,512
                          ===========   ==========  ===========   ===========
  Year ended December
   31, 1997
Revenues from unaffili-
 ated customers.........  $ 1,052,657   $      --   $       --    $ 1,052,657
Transfers between geo-
 graphic regions........          --           --           --            --
                          -----------   ----------  -----------   -----------
    Total Revenue.......  $ 1,052,657   $      --   $       --    $ 1,052,657
                          ===========   ==========  ===========   ===========
Net Loss................  $ 7,717,176   $2,036,836  $       --    $ 9,754,012
                          ===========   ==========  ===========   ===========
Identifiable assets.....  $ 6,147,071   $4,166,991  ($4,025,048)  $ 6,289,014
                          ===========   ==========  ===========   ===========
  Nine months ended Sep-
   tember 30, 1998
Revenues from unaffili-
 ated customers.........  $ 1,100,257   $      --   $       --    $ 1,100,257
Transfers between geo-
 graphic regions........          --           --           --            --
                          -----------   ----------  -----------   -----------
    Total Revenue.......  $ 1,100,257   $      --   $       --    $ 1,100,257
                          ===========   ==========  ===========   ===========
Net Loss................  $ 3,883,837   $2,700,876  $       --    $ 6,584,713
                          ===========   ==========  ===========   ===========
Identifiable assets.....  $10,182,807   $5,280,802  ($6,148,955)  $ 9,314,654
                          ===========   ==========  ===========   ===========
</TABLE>
 
                                      F-21
<PAGE>
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
   
 You should rely only on the information contained in this document or that we
have referred you to. We have not authorized anyone to provide you with
information that is different. This prospectus relates only to the common
stock and is not an offer to sell or the solicitation of an offer to buy
securities in any unlawful circumstances. The delivery of this prospectus and
the sale of the common stock does not mean that the affairs of Phytera have
not changed since the date of this prospectus or that this prospectus would
not be revised if issued on a date later than the date below.     
 
                              ------------------
 
                               TABLE OF CONTENTS
 
<TABLE>   
<CAPTION>
                                                                          Page
                                                                          ----
<S>                                                                       <C>
Experts..................................................................   4
Additional Information...................................................   4
Prospectus Summary.......................................................   5
Risk Factors.............................................................   8
Use of Proceeds..........................................................  14
Dividend Policy..........................................................  14
Capitalization...........................................................  15
Dilution.................................................................  16
Selected Consolidated Financial Data.....................................  17
Management's Discussion and Analysis of Financial Condition and Results
 of Operations...........................................................  18
Business.................................................................  22
Management...............................................................  42
Certain Transactions.....................................................  48
Principal Stockholders...................................................  49
Description of Capital Stock.............................................  51
Shares Eligible for Future Sale..........................................  56
Settlement and Clearance.................................................  58
Tax Considerations.......................................................  59
Underwriting.............................................................  65
Subscription and Sale....................................................  68
Legal Matters............................................................  69
Index to Financial Statements............................................ F-1
</TABLE>    
 
                              ------------------
 
 Until      , 1999, all dealers that effect transactions in these securities,
whether or not participating in this offering, may be required to deliver a
prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.
 
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
 
 
                               2,500,000 Shares
 
 
 
 
                                 Common Stock
 
                              ------------------
                                 US PROSPECTUS
                              ------------------
 
                                   SG COWEN
 
                                 CARNEGIE INC.
 
                                  BANCBOSTON
                              ROBERTSON STEPHENS
 
                                        , 1999
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
<PAGE>
 
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+                                                                              +
+The information in this prospectus is not complete and may be changed. We may +
+not sell these securities until the registration statement filed with the     +
+Securities and Exchange Commission is declared effective. This prospectus is  +
+not an offer to sell these securities and we are not soliciting an offer to   +
+buy these securities in any jurisdiction where the offer or sale is not       +
+permitted.                                                                    +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
                  
               SUBJECT TO COMPLETION, DATED FEBRUARY 4, 1999     
 
EUROPEAN PROSPECTUS
 
                                2,500,000 Shares
 
                            [LOGO OF PHYTERA, INC.]
 
                                  Common Stock
 
  This is an initial public offering of the shares of common stock of Phytera,
Inc. The shares of common stock will be offered to the public in Denmark.
Additionally, shares of common stock will be offered in private placements in
other European countries. The offering in the United States, Canada and Belgium
will be limited to institutional investors. There is currently no public market
for the shares. Phytera expects that the public offering price will be between
$12.00 and $14.00 per share.
 
  In Europe, we are offering 1,750,000 shares of common stock. In the United
States and Canada, we are offering 750,000 shares of common stock.
   
  We have applied for admission to trading and quotation of the common stock on
the European Association of Securities Dealers Automated Quotation system,
called EASDAQ, and for listing on the Copenhagen Stock Exchange, called the
CSE. Our trading symbol on EASDAQ and our short name on the CSE will be PHYT.
We expect that these listings will become effective and that trading in the
shares of common stock will begin promptly after the initial public offering
price is determined through negotiations between Phytera and the underwriters.
    
  Our business involves significant risks. These risks are described under the
caption "Risk Factors" beginning on page 8.
   
  None of EASDAQ, the CSE, the US Securities and Exchange Commission nor any
state securities commission has approved or disapproved of these securities or
determined if this prospectus is truthful or complete. Any representation to
the contrary is a criminal offense.     
 
                                 ------------
 
<TABLE>
<CAPTION>
                                                                      Per
                                                                     Share Total
<S>                                                                  <C>   <C>
Public offering price............................................... $     $
Underwriting discounts and commissions.............................. $     $
Proceeds, before expenses, to Phytera............................... $     $
</TABLE>
 
                                 ------------
   
  The managers for the offering in Europe may also purchase up to an additional
262,500 shares of common stock and the underwriters for the offering in the
United States and Canada may also purchase up to an additional 112,500 shares
of common stock, an aggregate of 375,000 shares, at the public offering price,
less the underwriting discounts and commissions, within 30 days from the date
of this prospectus to cover over-allotments.     
   
  In the distribution of the offering as a firm commitment underwriting, the
underwriters will purchase the offered shares of common stock from Phytera and
resell the shares to investors.     
 
SG COWEN INTERNATIONAL
 
      CARNEGIE BANK A/S
 
                                                   BANCBOSTON ROBERTSON STEPHENS
                         INTERNATIONAL LTD
 
      , 1999
<PAGE>
 
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
   
 You should rely only on the information contained in this document or that we
have referred you to. We have not authorized anyone to provide you with
information that is different. This prospectus relates only to the common stock
and is not an offer to sell or the solicitation of an offer to buy securities
in any unlawful circumstances. The delivery of this prospectus and the sale of
the common stock does not mean that the affairs of Phytera have not changed
since the date of this prospectus or that this prospectus would not be revised
if issued on a date later than the date below.     
 
                               -----------------
 
                               TABLE OF CONTENTS
 
<TABLE>   
<CAPTION>
                                                                          Page
                                                                          ----
<S>                                                                       <C>
Experts..................................................................   4
Additional Information...................................................   4
Prospectus Summary.......................................................   5
Risk Factors.............................................................   8
Use of Proceeds..........................................................  14
Dividend Policy..........................................................  14
Capitalization...........................................................  15
Dilution.................................................................  16
Selected Consolidated Financial Data.....................................  17
Management's Discussion and Analysis of Financial Condition and Results
 of Operations...........................................................  18
Business.................................................................  22
Management...............................................................  42
Certain Transactions.....................................................  48
Principal Stockholders...................................................  49
Description of Capital Stock.............................................  51
Shares Eligible for Future Sale..........................................  56
Settlement and Clearance.................................................  58
Tax Considerations.......................................................  59
Underwriting.............................................................  65
Subscription and Sale....................................................  68
Legal Matters............................................................  69
Index to Financial Statements............................................ F-1
</TABLE>    
 
                               -----------------
 
 Until      , 1999, all dealers that effect transactions in these securities,
whether or not participating in this offering, may be required to deliver a
prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.
 
 
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
 
 
                                2,500,000 Shares
 
 
 
 
                                  Common Stock
 
                             ---------------------
                              EUROPEAN PROSPECTUS
                             ---------------------
 
                             SG COWEN INTERNATIONAL
 
                               CARNEGIE BANK A/S
 
                                   BANCBOSTON
                               ROBERTSON STEPHENS
                               INTERNATIONAL LTD
 
                                        , 1999
 
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<PAGE>
 
  Danish Application
                Form  Phytera, Inc
 
    Securities codes  Existing shares      Temporary
 
 Subscription period           , 1999 to the date of determination of the
                      initial public offering price
 
         Offer price  Announced          , 1999
            interval
 
      Initial Public  To be announced
      Offering price
 
      Selling agents  SG Cowen International L.P., Carnegie Bank A/S and
                      BancBoston Robertson Stephens International Ltd
 
        Payment date  The third day following the determination of the initial
                      public offering price (fourth day, if the determination
                      is made after 4:30 p.m. New York time)
 
             Listing  [The day following the determination of the initial
                      public offering price]
 
                      The offer price will be determined through bookbuilding,
                      see "Underwriting" in the prospectus dated        ,
                      1999. Applications for subscription for amounts of up to
                      and including DKK 2 million can be submitted using this
                      form. Applications for subscription for amounts of more
                      than DKK 2 million can be made by contacting the
                      account-holding institution. If the total number of
                      applications for shares exceeds the number of shares
                      offered, an allocation will be made among the
                      applications received as detailed in the offering
                      circular.
 
                      Pursuant to the prospectus dated          I/We hereby
                      apply for subscription of the number of shares of Common
                      Stock of Phytera, Inc., $0.01 par value, as indicated
                      below.
 
                      Up to and including the value of DKK 2 million.
                      Submitted as an irrevocable application.
 
                      Maximum price per share:
                      ---------------------------------------------------------
 
                      DKK value:
                      ---------------------------------------------------------
 
                      No. of shares:
                      ---------------------------------------------------------
 
                      If no maximum price is indicated the application is
                      considered to be made at the initial public offer price,
                      i.e. without limitation.
 
                      Investor declares
                      This application is made pursuant to the conditions
                      detailed in the prospectus dated          , 1999.
 
                      This application is irrevocable.
 
                      I/We am/are obligated to pay an amount corresponding to
                      the value of the allocated shares at the offer price.
                      Payment will take place on          , 1999 subsequent to
                      invoice that is to be sent to me/us, against
                      registration of the allocated shares in the Danish
                      Securities Centre, "Vaerdipapircentralen". If the
                      applications exceed the number of shares offered, an
                      allocation of the shares will take place as detailed in
                      the prospectus.
 
                      Information and signature
 
                      Name                       VP-account
                      ---------------------------------------------------------
 
                      Address                    Account for settlement
                      ---------------------------------------------------------
 
                      Postal code and city       Account-holding institution
                      ---------------------------------------------------------
 
                      Date                       To be registered by name in
                                                 the company's stock register
                                                 [_] (check)
                      ---------------------------------------------------------
 
                      Telephone                  The application has been
                                                 submitted through
                      ---------------------------------------------------------
 
                      Signature                  Registration no.
                      ---------------------------------------------------------
 
                                                 CD-ident.
                                                 ------------------------------
 
                                                 Date
                                                 ------------------------------
 
                      Company stamp
                                                 Telephone
                      ---------------------------------------------------------
 
                      The application form must be submitted to the account-
                      holding institution on        , 1999 at 4.00 p.m. at the
                      latest.
 
<TABLE>
              <S>                     <C>               <C>
              SG Cowen International  Carnegie Bank A/S BancBoston Robertson Stephens International Ltd
</TABLE>
<PAGE>
 
                                    PART II
 
                     INFORMATION NOT REQUIRED IN PROSPECTUS
 
Item 13. Other Expenses of Issuance and Distribution
   
  The following table sets forth the estimated expenses and costs (other than
underwriting discounts and commissions) expected to be incurred by Phytera in
connection with the issuance and distribution of the securities being
registered under this registration statement. Except for the SEC registration
fee and the NASD filing fees, all expenses have been estimated and are subject
to future contingencies:     
 
<TABLE>
     <S>                                                               <C>
     SEC registration fee............................................. $  9,591
     EASDAQ listing fee...............................................   93,800
     Copenhagen Stock Exchange filing fee.............................    5,434
     CBF filing fee...................................................   15,000
     NASD filing fees.................................................    3,980
     Printing and engraving expenses..................................  175,000
     Accounting fees and expenses.....................................  175,000
     Legal fees and expenses..........................................  300,000
     Transfer agent and registrar fees................................    5,000
     Miscellaneous expenses...........................................   82,195
                                                                       --------
       Total.......................................................... $865,000
                                                                       ========
</TABLE>
 
Item 14. Indemnification of Directors and Officers
   
  Section 145 of the Delaware General Corporation Law permits Phytera to
indemnify any present or former Director, officer, employee and agent of
Phytera against actual and reasonable expenses (including attorneys' fees)
incurred by such person in connection with any action, suit or proceeding
brought against such person by reason of such person's status or service as a
Director, officer, employee or agent by or on behalf of Phytera, and, in the
case of a present or former Director or officer of Phytera, against expenses
(including attorneys' fees), judgments, fines and settlements actually and
reasonably incurred by such person in connection with any such action, suit or
proceeding, if (i) the person acted in good faith and in a manner the person
reasonably believed to be in or not opposed to the best interests of Phytera,
and (ii) in the case of a criminal proceeding, the person had no reasonable
cause to believe such person's conduct was unlawful. Except as ordered by a
court, no indemnification shall be made in connection with any proceeding
brought by or in the right of the corporation where the person involved is
adjudged to be liable to Phytera.     
   
  Article TENTH of Phytera's Certificate of Incorporation as proposed to be
amended and restated effective immediately prior to the closing of this
offering (the "Restated Certificate") provides that Phytera shall, to the
fullest extent permitted by the General Corporation Law of the State of
Delaware, as amended from time to time, indemnify each person who was or is a
party or is threatened to be made a party to any threatened, pending or
completed action, suit or proceeding whether civil, criminal, administrative or
investigative by reason of the fact that he is or was, or has agreed to become
a Director or officer of Phytera or is or was serving, or has agreed to serve,
at the request of Phytera, as a Director, officer or trustee of, or in a
similar capacity with, another corporation, partnership, joint venture, trust
or other enterprise. The indemnification provided for in Article TENTH is
expressly not exclusive of any other rights to which those seeking
indemnification may be entitled under any law, agreement or vote of
shareholders or Directors or otherwise, and shall inure to the benefit of the
heirs, executors and administrators of such persons. Article TENTH also permits
the Board of Directors to authorize the grant of indemnification rights to
other employees and agents of Phytera and such rights may be equivalent to, or
greater or less than, those set forth in Article TENTH.     
   
  Article V, Section 2 of Phytera's By-laws provides that Phytera shall have
the power to purchase and maintain insurance on behalf of its officers,
Directors, employees and agents, against any liability asserted against and
incurred by such persons in any such capacity.     
   
  Phytera has entered into indemnification agreements with each of its
Directors and executive officers and has obtained insurance covering the
officers and Directors of Phytera against certain losses and insuring Phytera
against certain of its obligations to indemnify its Directors and officers.
    
                                      II-1
<PAGE>
 
  Section 102(b)(7) of the General Corporation Law of the State of Delaware
provides that a corporation may eliminate or limit the personal liability of a
Director to the corporation or its stockholders for monetary damages for breach
of fiduciary duty as a Director, provided that such provisions shall not
eliminate or limit the liability of a Director (i) for any breach of the
Director's duty of loyalty to the corporation or its stockholders, (ii) for
acts or omissions not in good faith or which involve intentional misconduct or
a knowing violation of law, (iii) under Section 174 of the General Corporation
Law of the State of Delaware, or (iv) for any transaction from which the
Director derived an improper personal benefit. No such provision shall
eliminate or limit the liability of a Director for any act or omission
occurring prior to the date when such provision becomes effective.
   
  Pursuant to the Delaware General Corporation Law, Article NINTH of the
Restated Certificate eliminates a Director's personal liability for monetary
damages to Phytera and its shareholders for breach of fiduciary duty as a
Director, except in circumstances involving a breach of the Director's duty of
loyalty to Phytera or shareholders, acts or omissions not in good faith,
intentional misconduct, knowing violations of the law, self-dealing or the
unlawful payment of dividends or repurchase of stock.     
   
  Phytera believes that courts in Europe and the US may have jurisdiction in an
action against Phytera, its Directors or officers. Such jurisdiction will be
delivered by the laws of the jurisdiction in effect at that time.     
 
Item 15. Recent Sales of Unregistered Securities
   
  Since September 1995, Phytera has issued and sold the following securities,
in each case in reliance on an exemption from required registration pursuant to
the Securities Act of 1933, as amended (the "Securities Act"):     
 
1995 Bridge Financing
   
  From September through December 1995, Phytera issued certain Convertible Term
Notes (the "Bridge Notes"), for an aggregate principal amount of $1,762,236
bearing interest on unpaid principal at a rate of 7% per annum and convertible
into Series C Convertible Preferred Stock $0.01 par value per share ("Series C
Stock") at the conversion price of $6.25 ($9.56 on an as converted basis) per
share, and certain warrants to purchase 85,637 shares of common stock (the
"Bridge Warrants"), exercisable at the price of $8.41 per share, to certain
current stockholders of Phytera (collectively, the "Bridge Financing").     
 
Series C Private Placement
   
  In January and July 1996, and Phytera sold an aggregate of 1,113,055
(convertible into 727,938 shares of common stock) shares of Series C Stock at a
price of $6.25 ($9.56 on an as converted basis) per share, and issued warrants
to purchase an aggregate of 148,041 shares of Series C Stock (convertible into
96,819 shares of common stock) at an exercise price of $0.01 ($0.02 on an as
converted basis) per share. In addition, warrants for an aggregate of 18,247
shares of Series C Stock, convertible into 11,934 shares of common stock, were
issued in consideration of certain financing guaranties by principal
stockholders at an exercise price of $5.50 ($8.41 on an as converted basis) per
share (collectively, the "Series C Private Placement").     
   
  Both the 1995 Bridge Financing and the Series C Private Placement were exempt
from the registration requirements of the Securities Act pursuant to the
private offering exemption under Section 4(2) thereof. In determining the
availability of this exemption, Phytera relied on representations made by the
purchasers in the stock purchase agreement pursuant to which the Series C Stock
was purchased.     
 
Neptune Acquisition
   
  On July 31, 1996, as consideration for the acquisition by Phytera of Neptune
Pharmaceuticals, Inc. ("Neptune"), a US pharmaceutical company, Phytera issued
246,050 shares of Series B Convertible Preferred Stock, $0.01 par value per
share ("Series B Stock"), convertible into 160,917 shares of common stock, to
the stockholders of Neptune. Shares of Series B Stock were valued at $5.50
($8.41 on an as converted basis) per share.     
   
  The shares issued in connection with the Neptune acquisition were exempt from
the registration requirements of the Securities Act pursuant to the private
offering exemption under Section 4(2) thereof. In determining the availability
of this exemption, Phytera relied on representations made by the stockholders
of Neptune in the acquisition agreement.     
 
                                      II-2
<PAGE>
 
Series D Private Placement
   
  In separate closings as of each of October 30 and November 29, 1996, Phytera
issued an aggregate of 1,900,000 shares of its Series D Convertible Preferred
Stock, $0.01 par value per share ("Series D Stock"), convertible into 1,242,600
shares of common stock, to a large number of institutional and individual
investors. All purchasers of Series D Stock were "Non-US Persons" as defined by
Rule 902 under Regulation S under the Securities Act, primarily resident in
Scandinavia. In determining the availability of this exemption, Phytera relied
on representations made by investors in subscription agreements pursuant to
which the Series D Stock was purchased, as well as certain representations from
the placement agent in the placement agreement. Shares of Series D Stock were
purchased for $6.50 ($9.94 on an as converted basis) per share, which
represents the initial conversion price at which shares of Series D Stock
convert into common stock. Carnegie Bank A/S, ("Carnegie") acted as placement
agent for the sale of the Series D Stock and, pursuant to the terms of a
placement agreement between Carnegie and Phytera dated as of October 5, 1996,
received a placement fee equal to 7% of the aggregate proceeds raised, plus
accountable expenses.     
 
Auda Acquisition
   
  On March 11, 1997, as consideration for the acquisition by Phytera of Auda
Pharmaceuticals ApS ("Auda"), a Danish pharmaceutical company, Phytera issued
additional shares of Series D Stock to the selling stockholders of Auda.
Phytera issued 402,000 shares to Danish Venture Finance A/S (previously known
as Danish Development Finance Corporation) and 33,000 shares to GJK Holding
ApS, a Danish corporation. Such shares are convertible into 262,908 and 21,582
shares of common stock, respectively. Shares of Series D Stock were valued at
$7.50 ($11.47 on an as converted basis) per share.     
   
  The private placement of the Series D Stock and the shares issued in
connection with the Auda acquisition were exempt from the registration
requirements of the Securities Act pursuant to Regulation S. In determining the
availability of this exemption, Phytera relied on representations made by
Danish Development Finance Corporation and GJK Holding ApS in the Auda
acquisition agreement.     
 
Series E Private Placement
   
  In separate closings as of each of May 26 and June 25, 1998, Phytera issued
an aggregate of 762,586 shares (convertible into 678,274 shares of common
stock) of its Series E Convertible Preferred Stock, $0.01 par value per share
("Series E Stock") to certain "accredited investors" as defined by Rule 501
under Regulation D promulgated under the Securities Act. Shares of Series E
Stock were purchased for $10.00 per share. Carnegie acted as placement agent
for the sale of the Series E Stock and, pursuant to the terms of a placement
agreement between Carnegie and Phytera dated March 23, 1998, received a
placement fee equal to 7% of the gross proceeds from the subscription of Series
E Stock by new investors and 2% of the gross proceeds from the subscription of
Series E Stock by existing investors of Phytera.     
 
  An additional 50,000 shares of Series E Stock was purchased by Eli Lilly and
Company ("Lilly") on September 18, 1998 at a price of $10.00 per share. The
issuance to Lilly did not involve any compensation to Carnegie.
 
  The total 812,586 of Series E Stock outstanding are convertible into an
aggregate of 722,746 shares of common stock, assuming the closing of this
offering on February 8, 1999 at a public offering price of $13.00 per share
(the mid-point of the expected range).
   
  The sale of the Series E Stock and the sale to Lilly were exempt from the
Securities Act pursuant to Regulation D. In determining the availability of
this exemption, Phytera relied on representations made by Series E investors in
subscription agreements for the Series E Stock, as well as selling restrictions
contained in the agreement with the placement agent.     
 
Employee, Director and Consultant Issuances
 
  The following securities have been sold in reliance on an exemption from
registration pursuant to Section 4(2) of the Securities Act:
   
  Since inception, Phytera has granted employees and consultants options under
its Amended and Restated 1992 Stock Option Plan which have a ten-year term and
are exercisable at a price equal to the fair market value     
 
                                      II-3
<PAGE>
 
   
of the common stock at the date of grant, as determined in good faith by the
Compensation Committee of the Board of Directors. As of November 30, 1998,
options for 792,802 shares of Phytera's common stock were outstanding. As of
such date, options for 187,775 shares of common stock had been exercised at an
average price of $0.55 per share.     
   
  In December 1997, Phytera issued warrants to purchase an aggregate of 39,793
shares of its common stock to its Danish employees and certain members of the
Board of Directors based in Denmark which vest over a three to five year period
beginning on January 1, 1999 and are exercisable at $1.15 per share, being a
price equal to the fair market value of the common stock at the date of grant,
as determined in good faith by the Compensation Committee of the Board of
Directors. Phytera also issued warrants to DACC ApS to purchase an aggregate of
22,890 shares of common stock at an exercise price of $0.99 per share. Such
warrants vest over a two-year period beginning on January 1, 1999.     
   
  In addition, from inception through November 30, 1998, Phytera made grants of
an aggregate of 434,372 shares of common stock to certain employees, Directors
and consultants to Phytera. Such shares were sold at fair market value and are
subject to repurchase rights held by Phytera.     
 
                                      II-4
<PAGE>
 
Item 16. Exhibits
 
<TABLE>   
<CAPTION>
   Exhibit No.                            Description
   -----------                            -----------
   <C>         <S>
       1.1     Form of European Underwriting Agreement.(1)
       1.2     Form of US Underwriting Agreement.(1)
       3.1     Amended and Restated Certificate of Incorporation of Phytera,
               Inc., as amended through
               May 26, 1998.(1)
       3.2     Form of Certificate of Amendment of Restated Certificate of
               Incorporation of Phytera, Inc. to be filed immediately prior to
               the effectiveness of this offering.(1)
       3.3     Form of Amended and Restated Certificate of Incorporation of
               Phytera, Inc. to be filed immediately prior to the closing of
               this offering.(1)
       3.4     By-laws of Phytera, Inc.(1)
       3.5     Form of Amended and Restated By-laws to become effective
               immediately prior to the closing of this offering.(1)
       4.1     Specimen Common Stock Purchase Warrant, together with a list of
               holders.(1)
       4.2     Specimen Common Stock Purchase Warrant, together with a list of
               holders.(1)
       4.3     Agreement with VaekstFonden dated April 11, 1996.(1)
       4.4     Note payable to Silicon Valley Bank dated July 15, 1994. This
               exhibit has been omitted in reliance on Item 601(b)(4)(iii) of
               Regulation S-K. The registrant undertakes to furnish a copy of
               the debt instrument on request of the Commission.
       4.5     Note payable to Danish Technology Institute dated July 26, 1996.
               This exhibit has been omitted in reliance on Item 601(b)(4)(iii)
               of Regulation S-K. The registrant undertakes to furnish a copy
               of the debt instrument on request of the Commission.
       4.6     Note payable to Unibank for the purchase of a vehicle dated
               September 24, 1996. This exhibit has been omitted in reliance on
               Item 601(b)(4)(iii) of Regulation S-K. The registrant undertakes
               to furnish a copy of the debt instrument on request of the
               Commission.
       5.1     Opinion of Palmer & Dodge LLP as to the legality of the shares
               being registered.(1)
      10.1*    1998 Equity Incentive Plan.(1)
      10.2*    1998 Employee Stock Purchase Plan.(1)
      10.3*    Employment Agreement between Phytera, Inc. and Malcolm Morville
               dated as of June 5, 1996.(1)
      10.4     Form of Indemnification Agreement between Phytera, Inc. and its
               Directors and executive officers.(1) Such agreements are
               materially different only as to the signing Directors and
               executive officers and the dates of execution.
      10.5     Amended and Restated Investors' Rights Agreement among Phytera,
               Inc. and certain stockholders of Phytera, Inc. dated May 26,
               1998.(1)
      10.6     Confidentiality Agreement between Phytera, Inc. and Malcolm
               Morville dated March 1, 1998.(1)
      10.7     Confidentiality Agreement between Phytera, Inc. and Stephen
               DiPalma dated November 11, 1997.(1)
      10.8     Confidentiality Agreement between Phytera, Inc. and Christopher
               Pazoles dated May 24, 1994.(1)
      10.9     Noncompetition Agreement between Phytera, Inc. and Malcolm
               Morville dated October 28, 1993.(1)
      10.10    Noncompetition Agreement between Phytera, Inc. and Stephen
               DiPalma dated November 7, 1997.(1)
      10.11    Noncompetition Agreement between Phytera, Inc. and Christopher
               Pazoles dated May 24, 1994.(1)
      10.12    Lease Agreement, dated November 1, 1993, between Phytera, Inc.
               and Worcester Business Development Corporation.(1)
      10.13    Lease Agreement, dated October 31, 1994, between Phytera, Inc.
               and the University of Sheffield.(1)
</TABLE>    
 
                                      II-5
<PAGE>
 
<TABLE>   
<CAPTION>
   Exhibit No.                           Description
   -----------                           -----------
   <C>         <S>
     10.14     Lease Agreement, dated July 26, 1996, between Phytera, Inc. and
               Dansk Teknologisk Institut.(1)
     10.15     Lease Agreement, dated April 1, 1997, between Phytera, Inc. and
               Auda Pharmaceuticals ApS and Symbion A/S.(1)
     10.16+    Research Collaboration Agreement between Phytera, Inc. and
               Tsumura & Co., dated June 28, 1996, as amended on July 11,
               1998.(1)
     10.17+    Research Collaboration and License Agreement between Phytera,
               Inc. and Galileo Laboratories, Inc., dated April 21, 1998.(1)
     10.18+    Research Collaboration and License Agreement between Phytera,
               Inc. and NeuroSearch A/S, dated May 1, 1998.(1)
     10.19+    Research Collaboration Agreement between Phytera, Inc. and
               Chiron Corporation, dated May 20, 1998. Filed herewith.(1)
     10.20+    Research Collaboration Agreement between Phytera, Inc. and Eli
               Lilly and Company, dated July 21, 1998.(1)
     10.21+    Research Collaboration Agreement between Phytera, Inc. and
               Nycomed Amersham plc, dated July 30, 1993.(1)
     10.22     Amendment to Research Collaboration Agreement between Phytera,
               Inc. and Nycomed Amersham plc dated October 29, 1998.(1)
     10.23+    License Agreement between Phytera, Inc. and University of
               Maryland dated July 1, 1998.(1)
     23.1      Consent of Arthur Andersen LLP. Filed herewith.
     23.2      Consent of Palmer & Dodge LLP. Included in the opinion filed as
               Exhibit 5.1
     23.3      Consent of Dragsted & Helmer Nielsen. Filed herewith.
     24        Power of attorney. Included on the signature page of the
               original Registration Statement.
     27        Financial Data Schedule.(1)
</TABLE>    
--------
*  Indicates a management contract or compensatory plan.
+  Certain confidential material contained in the document has been omitted and
   filed separately with the Securities and Exchange Commission pursuant to
   Rule 406 of the Securities Act.
(1)Previously filed.
 
Item 17. Undertakings
 
  (a) The undersigned Registrant hereby undertakes to provide to the
Underwriters at the closing specified in the underwriting agreements (filed
herewith as Exhibits 1.1 and 1.2), certificates in such denominations and
registered in such names as required by the Underwriters to permit prompt
delivery to each purchaser.
 
  (b) The undersigned Registrant hereby undertakes that:
 
    (1) For purposes of determining any liability under the Securities Act,
  the information omitted from the form of prospectus filed as part of this
  Registration Statement in reliance upon Rule 430A and contained in a form
  of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or
  497(h) under the Securities Act shall be deemed to be part of this
  Registration Statement as of the time it was declared effective.
 
    (2) For the purpose of determining any liability under the Securities
  Act, each post-effective amendment that contains a form of prospectus shall
  be deemed to be a new registration statement relating to the securities
  offered therein, and the offering of such securities at that time shall be
  deemed to be the initial bona fide offering thereof.
 
  (c) Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to Directors, officers and controlling persons of the
Registrant pursuant to the provisions described under "Item 14--Indemnification
of Directors and Officers" above, or otherwise, the Registrant has been advised
that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Securities Act and
is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of expenses
incurred or paid by a Director, officer or controlling person of the Registrant
in the successful defense of any action, suit or proceeding) is asserted by
such Director, officer or controlling person in connection with the securities
being registered, the Registrant will, unless in the opinion of its counsel the
matter has been settled by controlling precedent, submit to a court of
appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Securities Act and will be governed
by the final adjudication of such issue.
 
                                      II-6
<PAGE>
 
                                   SIGNATURES
   
  Pursuant to the requirements of the Securities Act of 1933, the Registrant
certifies that it has duly caused this Amendment No. 3 to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Worcester,
Commonwealth of Massachusetts, on February 4, 1999.     
 
                                          Phytera, Inc.
 
                                                /s/ Malcolm Morville, Ph.D.
                                          By: _________________________________
                                                  Malcolm Morville, Ph.D.
                                               President and Chief Executive
                                                          Officer
 
  Pursuant to the requirements of the Securities Act of 1933, this Registration
Statement has been signed below by the following persons in the capacities and
on the dates indicated.
 
<TABLE>   
<CAPTION>
              Signature                          Title                   Date
              ---------                          -----                   ----
 
<S>                                    <C>                        <C>
     /s/ Malcolm Morville, Ph.D.       President, Chief Executive  February 4, 1999
______________________________________  Officer and Director
       Malcolm Morville, Ph.D.          (Principal Executive
                                        Officer)
 
                  *                    Vice President, Finance     February 4, 1999
______________________________________  (Principal Financial and
           Stephen DiPalma              Accounting Officer)
 
                  *                    Director                    February 4, 1999
______________________________________
            Steven J. Roth
 
                  *                    Director                    February 4, 1999
______________________________________
   Uffe Bundgaard-Jorgensen, Ph.D.
 
                  *                    Director                    February 4, 1999
______________________________________
            Poul Schluter
 
                  *                    Director                    February 4, 1999
______________________________________
           Robert G. Foster
 
                  *                    Director                    February 4, 1999
______________________________________
        Graham K. Crooke, M.D.
 
                  *                    Director                    February 4, 1999
______________________________________
        Gustav A. Christensen
</TABLE>    
 
    /s/ Malcolm Morville, Ph.D.
By: _______________________________
      Malcolm Morville, Ph.D.
         Attorney-in-Fact
 
                                      II-7
<PAGE>
 
                                 EXHIBIT INDEX
 
 
<TABLE>   
<CAPTION>
   Exhibit No.                            Description
   -----------                            -----------
   <C>         <S>
       1.1     Form of European Underwriting Agreement.(1)
       1.2     Form of US Underwriting Agreement.(1)
       3.1     Amended and Restated Certificate of Incorporation of Phytera,
               Inc., as amended through
               May 26, 1998.(1)
       3.2     Form of Certificate of Amendment of Restated Certificate of
               Incorporation of Phytera, Inc. to be filed immediately prior to
               the effectiveness of this offering.(1)
       3.3     Form of Amended and Restated Certificate of Incorporation of
               Phytera, Inc. to be filed immediately prior to the closing of
               this offering.(1)
       3.4     By-laws of Phytera, Inc.(1)
       3.5     Form of Amended and Restated By-laws to become effective
               immediately prior to the closing of this offering.(1)
       4.1     Specimen Common Stock Purchase Warrant, together with a list of
               holders.(1)
       4.2     Specimen Common Stock Purchase Warrant, together with a list of
               holders.(1)
       4.3     Agreement with VaekstFonden dated April 11, 1996.(1)
       4.4     Note payable to Silicon Valley Bank dated July 15, 1994. This
               exhibit has been omitted in reliance on Item 601(b)(4)(iii) of
               Regulation S-K. The registrant undertakes to furnish a copy of
               the debt instrument on request of the Commission.
       4.5     Note payable to Danish Technology Institute dated July 26, 1996.
               This exhibit has been omitted in reliance on Item 601(b)(4)(iii)
               of Regulation S-K. The registrant undertakes to furnish a copy
               of the debt instrument on request of the Commission.
       4.6     Note payable to Unibank for the purchase of a vehicle dated
               September 24, 1996. This exhibit has been omitted in reliance on
               Item 601(b)(4)(iii) of Regulation S-K. The registrant undertakes
               to furnish a copy of the debt instrument on request of the
               Commission.
       5.1     Opinion of Palmer & Dodge LLP as to the legality of the shares
               being registered.(1)
      10.1*    1998 Equity Incentive Plan.(1)
      10.2*    1998 Employee Stock Purchase Plan.(1)
      10.3*    Employment Agreement between Phytera, Inc. and Malcolm Morville
               dated as of June 5, 1996.(1)
      10.4     Form of Indemnification Agreement between Phytera, Inc. and its
               Directors and executive officers.(1) Such agreements are
               materially different only as to the signing Directors and
               executive officers and the dates of execution.
      10.5     Amended and Restated Investors' Rights Agreement among Phytera,
               Inc. and certain stockholders of Phytera, Inc. dated May 26,
               1998.(1)
      10.6     Confidentiality Agreement between Phytera, Inc. and Malcolm
               Morville dated March 1, 1998.(1)
      10.7     Confidentiality Agreement between Phytera, Inc. and Stephen
               DiPalma dated November 11, 1997.(1)
      10.8     Confidentiality Agreement between Phytera, Inc. and Christopher
               Pazoles dated May 24, 1994.(1)
      10.9     Noncompetition Agreement between Phytera, Inc. and Malcolm
               Morville dated October 28, 1993.(1)
      10.10    Noncompetition Agreement between Phytera, Inc. and Stephen
               DiPalma dated November 7, 1997.(1)
      10.11    Noncompetition Agreement between Phytera, Inc. and Christopher
               Pazoles dated May 24, 1994.(1)
</TABLE>    
<PAGE>
 
<TABLE>   
<CAPTION>
   Exhibit No.                           Description
   -----------                           -----------
   <C>         <S>
     10.12     Lease Agreement, dated November 1, 1993, between Phytera, Inc.
               and Worcester Business Development Corporation.(1)
     10.13     Lease Agreement, dated October 31, 1994, between Phytera, Inc.
               and the University of Sheffield.(1)
     10.14     Lease Agreement, dated July 26, 1996, between Phytera, Inc. and
               Dansk Teknologisk Institut.(1)
     10.15     Lease Agreement, dated April 1, 1997, between Phytera, Inc. and
               Auda Pharmaceuticals ApS and Symbion A/S.(1)
     10.16+    Research Collaboration Agreement between Phytera, Inc. and
               Tsumura & Co., dated June 28, 1996, as amended on July 11,
               1998.(1)
     10.17+    Research Collaboration and License Agreement between Phytera,
               Inc. and Galileo Laboratories, Inc., dated April 21, 1998.(1)
     10.18+    Research Collaboration and License Agreement between Phytera,
               Inc. and NeuroSearch A/S, dated May 1, 1998.(1)
     10.19+    Research Collaboration Agreement between Phytera, Inc. and
               Chiron Corporation, dated May 20, 1998.(1)
     10.20+    Research Collaboration Agreement between Phytera, Inc. and Eli
               Lilly and Company, dated July 21, 1998.(1)
     10.21+    Research Collaboration Agreement between Phytera, Inc. and
               Nycomed Amersham plc, dated July 30, 1993.(1)
     10.22     Amendment to Research Collaboration Agreement between Phytera,
               Inc. and Nycomed Amersham plc dated October 29, 1998.(1)
     10.23+    License Agreement between Phytera, Inc. and University of
               Maryland dated July 1, 1998. (1)
     23.1      Consent of Arthur Andersen LLP. Filed herewith.
     23.2      Consent of Palmer & Dodge LLP. Included in the opinion filed as
               Exhibit 5.1
     23.3      Consent of Dragsted & Helmer Nielsen. Filed herewith.
     24        Power of attorney. Included on the signature page of the
               original Registration Statement.
     27        Financial Data Schedule.(1)
</TABLE>    
--------
*Indicates a management contract or compensatory plan.
+Certain confidential material contained in the document has been omitted and
   filed separately with the Securities and Exchange Commission pursuant to
   Rule 406 of the Securities Act.
(1)Previously filed.