<PAGE>   1
                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-Q


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

                  FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998


                         Commission file number: 0-27406





                              CONNETICS CORPORATION
             (Exact name of registrant as specified in its charter)




           DELAWARE                                              94-3173928
(State or other jurisdiction of                                (IRS Employer
incorporation or organization)                            Identification Number)

                             3400 WEST BAYSHORE ROAD
                           PALO ALTO, CALIFORNIA 94303
                    (Address of principal executive offices)

       Registrant's telephone number, including area code: (650) 843-2800






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

As of July 31, 1998, 17,197,896 shares of the Registrant's common stock were
outstanding, at $0.001 par value.


<PAGE>   2
                              CONNETICS CORPORATION

                          QUARTERLY REPORT ON FORM 10-Q
                       FOR THE PERIOD ENDED JUNE 30, 1998

                                TABLE OF CONTENTS
<TABLE>
<CAPTION>
                                                                                                                    Page
<S>            <C>         <C>                                                                                      <C>  
PART I.        FINANCIAL INFORMATION

               Item 1.     Condensed Financial Statements

                           Condensed Balance Sheets at June 30, 1998 and December 31, 1997.......................     3

                           Condensed Statements of Operations for the three and six months ended June 30, 1998
                           and 1997..............................................................................     4

                           Condensed Statements of Cash Flows for the six months ended June 30, 1998 and 1997....     5

                           Notes to Condensed Financial Statements ..............................................     6
  
               Item 2.     Management's Discussion and Analysis of Financial Condition and
                           Results of Operations.................................................................    10

               Item 3.     Quantitative and Qualitative Disclosures About Market Risks...........................    14

PART II.       OTHER INFORMATION

               Item 1.     Legal Proceedings.....................................................................    15

               Item 2.     Changes in Securities and Use of Proceeds.............................................    15

               Item 3.     Defaults Upon Senior Securities.......................................................    15 

               Item 4.     Submission of Matters to a Vote of Security Holders...................................    15 

               Item 5.     Other Information.....................................................................    16

               Item 6.     Exhibits and Reports on Form 8-K......................................................    17
                                                                                                 
                                Exhibits.........................................................................    17

                                Reports on Form 8-K..............................................................    17

SIGNATURE                  ......................................................................................    18

</TABLE>

<PAGE>   3



PART I.       FINANCIAL INFORMATION

ITEM 1.       FINANCIAL STATEMENTS

                              CONNETICS CORPORATION

                            CONDENSED BALANCE SHEETS
                                 (IN THOUSANDS)
<TABLE>
<CAPTION>

                                                                                         JUNE 30,          DECEMBER 31,
                                                                                           1998                1997
                                                                                        ----------          ----------     
                                                                                        (UNAUDITED)
                                              ASSETS
<S>                                                                                     <C>                 <C>
Current assets:
     Cash and cash equivalents                                                          $   13,387          $    8,452
     Short-term investments                                                                  4,199               5,894
     Accounts and other receivables                                                            318               1,527
     Other current assets                                                                      255                 158
                                                                                        ----------          ----------     
         Total current assets                                                               18,159              16,031

Property and equipment, net                                                                  1,327               1,663
Notes receivable from related parties                                                          364                 333
Deposits and other assets                                                                      110                 160
License agreements and product rights                                                        9,520              12,881
                                                                                        ----------          ----------     

                                                                                        $   29,480          $   31,068
                                                                                        ==========          ==========

                               LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
     Accounts payable                                                                  $       971         $     1,492
     Accrued and other current liabilities                                                   1,105               1,100
     Accrued process development expenses                                                      989                 586
     Accrued payroll and related expenses                                                      683                 536
     Current portion of notes payable and other liabilities                                  6,457               2,884
     Current portion of capital lease obligations, capital loans and long-term debt          1,618               2,746
                                                                                        ----------          ----------     
         Total current liabilities                                                          11,823               9,344

Noncurrent portion of capital lease obligations, capital loans and long-term debt              474                 649
Other long-term liabilities                                                                  5,749               9,666
Redeemable convertible preferred stock, Series A                                                 -                 600

Stockholders' equity:
     Common stock and additional paid-in capital                                           92,182              77,566
     Notes receivable from stockholders                                                        (65)                (75)
     Deferred compensation, net                                                               (499)               (763)
     Accumulated deficit                                                                   (80,138)            (65,873)
     Treasury stock, at cost                                                                   (46)                (46)
                                                                                        ----------          ----------     
Total stockholders' equity                                                                  11,434              10,809
                                                                                        ----------          ----------
        
                                                                                        $   29,480          $   31,068
                                                                                        ==========          ==========

</TABLE>
                  See notes to condensed financial statements.

                                        3

<PAGE>   4




                                            CONNETICS CORPORATION

                                      CONDENSED STATEMENTS OF OPERATIONS
                                   (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
                                                 (UNAUDITED)



<TABLE>
<CAPTION>
                                                             THREE MONTHS ENDED              SIX MONTHS ENDED
                                                                  JUNE 30,                       JUNE 30,
                                                        -----------------------------  ----------------------------
                                                             1998           1997           1998             1997
                                                        -----------------------------  ----------------------------
<S>                                                     <C>              <C>           <C>              <C>
Revenues:
     Product                                            $     1,652      $   1,594     $     3,171      $    3,047
     License                                                  1,648             --           1,648              --
                                                         -----------      ---------     -----------      ----------
Total revenues                                                3,300          1,594           4,819           3,047

Operating cost and expenses:
     Cost of product sales                                      312            257             607             483
     License amortization                                     1,680          1,781           3,360           3,562
     Research and development                                 3,105          5,732           5,283          10,897
     Selling, general and administrative                      3,043          2,419           5,505           4,040
     Charge for acquired in-process technology                4,000              -           4,000               -
                                                         -----------      ---------     -----------      ----------
Total operating costs and expenses                           12,140         10,189          18,755          18,982
Interest income                                                 234            234             411             469
Interest expense                                               (345)          (443)           (739)           (895)
                                                         -----------      ---------     -----------      ----------
Net loss                                                $    (8,951)     $  (8,804)    $   (14,264)     $  (16,361)
                                                         ===========      =========     ==========       ========= 
Basic and diluted net loss per share                    $     (0.54)     $   (0.88)    $     (0.95)     $    (1.72)
                                                         ===========      =========     ==========       =========
Shares used to calculate net loss per share                   16,672         10,009         15,081           9,543
                                                         ===========     ==========     ==========       =========

</TABLE>

                  See notes to condensed financial statements.

                                       4
<PAGE>   5



                              CONNETICS CORPORATION

                       CONDENSED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)
                                   (UNAUDITED)


<TABLE>
<CAPTION>



                                                                                          SIX MONTHS ENDED
                                                                                              JUNE 30,
                                                                                    ---------------------------
                                                                                      1998              1997
                                                                                    ---------         ---------
<S>                                                                                 <C>               <C>       
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss                                                                            $(14,264)         $(16,361)
Adjustments to reconcile net loss to net cash used by operating activities:
     Depreciation and amortization                                                     3,817             3,919
     Technology acquired in exchange for common stock                                  4,010                --
     Amortization of deferred compensation                                               335               258
     Accrued interest on notes payable                                                   259               553
     Changes in assets and liabilities:
         Current and other assets                                                      1,092            (1,187)
         Current and other liabilities                                                    34            (1,696)
         Other long-term liabilities                                                     397               249
                                                                                     --------          --------
Net cash used in operating activities                                                 (4,320)          (14,265)
                                                                                     --------          --------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of short-term investments                                                   (3,971)          (10,147)
Sales and maturities of short-term investments, net                                    5,666             9,423
Capital expenditures                                                                     (73)             (586)
Licensed assets and product rights                                                      (308)                -
                                                                                     --------          --------
Net cash provided by (used in) investing activities                                    1,314            (1,310)
                                                                                     --------          --------
CASH FLOWS FROM FINANCING ACTIVITIES
Payment of notes payable                                                              (1,000)               --
Proceeds from capital loans and long-term debt                                             2               333
Payments of obligations under capital leases and capital loans                        (1,304)           (1,003)
Proceeds from issuance of common stock, net of issuance costs                         10,243            10,931
                                                                                     --------          --------
Net cash provided by financing activities                                              7,941            10,261
                                                                                     --------          --------
Net change in cash and cash equivalents                                                4,935            (5,314)
Cash and cash equivalents at beginning of period                                       8,452            14,555
                                                                                     --------          --------
Cash and cash equivalents at end of period                                           $13,387          $  9,241
                                                                                     ========          ========
SUPPLEMENTARY INFORMATION:
Interest paid                                                                        $   360          $    342 

</TABLE>
 
                  See notes to condensed financial statements.

                                       5

<PAGE>   6



                              CONNETICS CORPORATION

                     NOTES TO CONDENSED FINANCIAL STATEMENTS
                                  JUNE 30, 1998
                                   (UNAUDITED)



1.       BASIS OF PRESENTATION

The accompanying unaudited condensed financial statements of Connetics
Corporation (the "Company" or "Connetics") have been prepared in accordance with
generally accepted accounting principles for interim financial information and
pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, such financial statements do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments, consisting
of normal recurring accrual adjustments, considered necessary for a fair
presentation have been included. Operating results for the three and six month
periods ended June 30, 1998 are not necessarily indicative of the results that
may be expected for the year ending December 31, 1998.

These financial statements and notes should be read in conjunction with the
Company's audited financial statements and notes thereto for the year ended
December 31, 1997 included in the Company's Form 10-K Report.


2.       NET LOSS PER SHARE

In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 128, "Earnings Per Share" (SFAS
128), which requires the Company to simplify the calculation of earnings per
share ("EPS") and achieve comparability with the recently issued International
Accounting Standard No. 33, "Earnings Per Share." Statement No. 128 replaced the
calculation of primary and fully diluted earnings per share with basic and
diluted earnings per share. Unlike primary earnings per share, basic earnings
per share excludes any dilutive effects of options, warrants and convertible
securities. Diluted earnings per share is very similar to the previously
reported fully diluted earnings per share. Earnings per share amounts for all
periods presented have been restated, where appropriate, to conform to the
Statement 128 requirements.

The following table sets forth the computation of basic and diluted earnings per
share:
<TABLE>
<CAPTION>

                                                              Three Months Ended June 30,     Six Months Ended June 30,
                                                              ----------------------------- ----------------------------
     (In thousands except per share amounts)                       1998           1997           1998           1997
                                                              -------------- -------------- -------------- -------------
<S>                                                              <C>           <C>           <C>             <C>
     Numerator:
        Net loss                                                 $(8,952)      $(8,804)      $(14,264)       $(16,361)
        Preferred stock dividends                                      -           (35)            (1)            (81)
                                                              -------------- -------------- -------------- -------------
        Numerator for basic and diluted earnings per share        (8,952)       (8,839)       (14,265)        (16,442)
          loss attributable to common stockholders

     Denominator:
        Denominator for basic and diluted earnings per share   
          weighted-average shares                                 16,672        10,009         15,081           9,543

     Basic and diluted net loss per share                         $(0.54)       $(0.88)        $(0.95)         $(1.72)
                                                              ============== ============== ============== =============

</TABLE>
Options to purchase 1,964,921 shares of common stock at exercise prices ranging
from $0.4448 to $11.00, warrants to purchase 1,289,193 shares of common stock at
exercise prices ranging from $4.89 to 


                                      6

<PAGE>   7

$11.00 were outstanding at June 30, 1998 but were not included in the
computation of diluted earnings per share as their effect would be antidilutive.


3.       COMPREHENSIVE INCOME

As of January 1, 1998, the Company adopted Statement No. 130, "Reporting
Comprehensive Income" (SFAS 130). Statement 130 establishes new rules for the
reporting and display of comprehensive income and its components; however, the
adoption of this Statement had no impact on the Company's net income or
shareholders' equity. Statement 130 requires unrealized gains or losses on the
Company's available-for-sale securities and foreign currency translation
adjustments, which prior to adoption were reported separately in shareholders'
equity to be included in other comprehensive income. Prior year financial
statements have been reclassified to conform to the requirements of Statement
130.

During the three and six months ended June 30, 1998, total comprehensive income
(loss) amounted to $(9.0) million and $(14.3) million, respectively, compared to
$(8.8) million and $(16.4) million for the same periods in 1997, respectively.
The components of comprehensive income, net of related tax, for the three and
six month periods ended June 30, 1998 and 1997 are as follows:

<TABLE>
<CAPTION>

                                                    Three months ended June 30,     Six months ended June 30,
                                                   ------------------------------ -------------------------------
     (In thousands)                                     1998           1997            1998            1997
                                                   ------------------------------ -------------------------------
<S>                                                    <C>            <C>            <C>             <C>
     Net loss                                          $(8,951)       $(8,804)       $(14,264)       $(16,361)
     Unrealized gains (loss) on securities                   1              4              (1)              3
     Foreign currency translation adjustment                --             --              --              --
                                                   ==============================================================
     Comprehensive income (loss)                       $(8,950)       $(8,800)       $(14,265)       $(16,358)
                                                   ==============================================================

</TABLE>

The components of accumulated other comprehensive income, net of related tax, at
June 30, 1998 and December 31, 1997 are as follows:
<TABLE>
<CAPTION>

            (In thousands)                                              1998                 1997
                                                                ------------------------------------------
            <S>                                                      <C>                 <C>
            Unrealized gains (loss) on securities                    $       1           $       2
            Foreign currency translation adjustments                        --                  --
                                                                ------------------------------------------
            Accumulated comprehensive income (loss)                  $       1           $       2
                                                                ==========================================
</TABLE>


4.       LICENSED ASSETS AND PRODUCT RIGHTS

Pursuant to its equity and asset purchase agreements with SmithKline Beecham
Properties, Inc. ("SBP"), the Company guaranteed a total value of the common
shares issued to SBP of $8,000,000 on April 1, 1998. As of April 1, 1998, the
aggregate fair market value of the shares previously issued under the agreement
was less than $8,000,000 and, as a result, the Company was required to issue
additional shares. On April 10, 1998, the Company issued 1,037,779 shares of its
Common Stock to SBP in fulfillment of such obligation. The issuance completed
the Company's obligation to issue equity to SBP under its Stock Issuance
Agreement with SBP. The Company also paid SBP approximately $308,000 in cash on
May 4, 1998 in conjunction with the transaction to fulfill its obligation to SBP
related to the equity agreement. (See Note 5 of Notes to Financial Statements
for the year ended December 31, 1997 in the Company's Annual Report on Form
10-K).

                                       7

<PAGE>   8

On April 28, 1998, the Company entered into a Second Omnibus Amendment with
SmithKline Beecham Corporation, SBP and related entities (collectively
"SmithKline"). Under this Amendment, the Company restructured its payment
obligations under a promissory note issued to SmithKline in connection with the
Ridaura acquisition. This amendment adjusts the December 18, 1997 amended note
repayments for the remaining principal payments of $10.0 million to SmithKline
as follows:

<TABLE>
<CAPTION>
                  Payment Due Date                   Amount Due
                  ----------------                   ----------
                  <S>                                <C>
                  July 1, 1998                       $1,100,000
                  October 1, 1998                    $1,100,000
                  January 4, 1999                    $2,500,000
                  April 1, 1999                      $  800,000
                  July 1, 1999                       $  800,000
                  October 1, 1999                    $  700,000
                  January 3, 2000                    $1,500,000
                  April 1, 2000                      $1,500,000

</TABLE>

The Company is required to pay interest on the principal amount outstanding of
$4.7 million from April 8, 1998 through January 4, 1999 at prime rate plus 2%
per annum, and on the principal amount outstanding of $5.3 million from January
5, 1999 through April 1, 2000 at prime rate plus 3% per annum.


5.       LIQUIDITY AND FINANCIAL VIABILITY

In the course of its development activities, the Company has sustained
continuing operating losses and expects such losses to continue over at least
the next few years. The Company plans to continue to finance its operating
activities with a combination of stock sales, such as the initial public
offering, self-managed private financings, payments from corporate partnering
arrangements, acquisition of revenue generating products such as Ridaura and/or
debt financing. Ultimately, the Company's ability to continue as a going concern
in the future is dependent upon obtaining substantial additional financings.


6.        OTHER MATTERS

In April 1998, the Company entered into an agreement with Alta BioPharma
Partners, L.P. ("Alta") and certain funds affiliated with Alta (collectively the
"Investors"), to sell an aggregate of 2,162,163 shares of the Company's Common
Stock at a price of $4.625 per share, for an aggregate purchase price of
approximately $10 million. The financing closed on April 10, 1998 and the
Company filed a registration statement on Form S-3 covering the resale of the
shares of Common Stock purchased by the Investors in June, 1998.

On April 27, 1998, the Company entered into a development, commercialization and
supply agreement with Suntory Pharmaceuticals, a division of Suntory Limited, of
Osaka, Japan for ConXn for the treatment of scleroderma. Under the terms of the
agreement, Suntory will pay approximately $14 million in license fees and
milestone payments to the Company, be responsible for all development and
commercialization expenses in Japan, and pay royalties on sales in Japan for the
treatment of scleroderma. The Company has retained rights to all other
indications in Japan for ConXn. Suntory will purchase relaxin materials from the
Company and make milestone payments based upon development progress in the
United States and Japan. On April 30, 1998, Suntory paid an up-front license fee
of $1.5 million (net of international withholding tax) to the Company.

                                       8
<PAGE>   9

On May 5, 1998, the Company entered into a license agreement with Genentech,
Inc. ("Genentech") under which the Company received an exclusive license under
certain patent rights and know-how to Actimmune(R) (gamma interferon) for the
treatment of chronic granulomatous disease ("CGD") and several additional
indications (non-cancer dermatological diseases, infectious diseases,
osteopetrosis, pulmonary fibrosis and asthma) in the United States. Under the
terms of the agreement, the Company issued Genentech 340,048 shares of its
common stock valued at $2.0 million at the time of closing with a guaranteed
value of $4.0 million at December 28, 1998. In the event that the initial
issuance of shares is less than $4.0 million on December 28, 1998, the Company
will either issue additional shares or pay cash to Genentech. The Company will
also be required to pay certain development and commercialization milestones and
royalties on sales. The parties also entered into a Supply Agreement under which
Genentech will manufacture and supply gamma interferon, in bulk product or
finished product, with a termination date on the earlier of May 5, 2001 or the
date on which a third party manufacturer, approved by the parties, enters into a
supply agreement with the Company. The Company expects to form a new subsidiary
corporation to further develop and market gamma interferon, and in addition,
recorded a $4.0 million noncash one-time license fee charge for the quarter
ended June 30, 1998. Because the viability of the license is largely dependent
on additional research and development of gamma interferon, the Company has
expensed the full purchase amount in the current period.



                                       9
<PAGE>   10



ITEM 2.       MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
              AND RESULTS OF OPERATIONS

SPECIAL NOTE: EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED THEREIN, THE
FOLLOWING DISCUSSION CONSISTS OF FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS
AND UNCERTAINTIES WHICH COULD CAUSE ACTUAL RESULTS OR EVENTS TO DIFFER
MATERIALLY FROM THOSE IN SUCH FORWARD-LOOKING STATEMENTS. POTENTIAL RISKS AND
UNCERTAINTIES INCLUDE, WITHOUT LIMITATION, UNCERTAINTY OF PRODUCT DEVELOPMENT
AND MARKET ACCEPTANCE; UNCERTAINTY OF FUTURE RIDAURA(R) REVENUES AND COSTS;
UNCERTAINTY OF CLINICAL TRIALS; UNCERTAINTY OF FUTURE PROFITABILITY; FUTURE
CAPITAL REQUIREMENTS AND UNCERTAINTY OF FUTURE FUNDING; AND RISKS ASSOCIATED
WITH POSSIBLE FUTURE PRODUCT ACQUISITIONS. ADDITIONAL INFORMATION CONCERNING
THESE AND OTHER FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY
FROM THOSE IN THE FORWARD LOOKING STATEMENTS IS CONTAINED UNDER THE HEADING
"ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS" COMMENCING ON PAGE 20 OF THE
COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31,
1997.

The following discussion should be read in conjunction with the unaudited
condensed financial statements and notes thereto included in Part I, Item 1 of
this Quarterly Report and with Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in the Company's Annual Report on
Form 10-K for the year ended December 31, 1997.

OVERVIEW

Connetics Corporation (the "Company") acquires, develops and markets products in
the areas of rheumatology and dermatology. The Company acquired the U.S. and
Canadian rights to Ridaura(R) (auranofin), a treatment foR rheumatoid arthritis,
from SmithKline Beecham Corporation and related entities ("SmithKline") in
December 1996, and in December 1997 the Company sold off its Canadian rights to
Ridaura. The Company's products under development include LUXIQ(TM)
(betamethsone valerate ViaFoam) for the treatment of scalp psoriasis and othEr
dermatoses; clobetasol ViaFoam for the treatment of severe dermatoses; ConXn(R)
(relaxin) for the treatment oF scleroderma, infertility and other fibrotic
disorders; T-cell receptor (TCR) peptide vaccines for the treatment of multiple
sclerosis and rheumatoid arthritis; and gamma interferon for the treatment of
chronic granulomatous disease, keloids, non-cancer dermatological diseases,
infectious diseases, osteopetrosis, pulmonary fibrosis and asthma.

In April 1998, the Company entered into an agreement with Alta BioPharma
Partners, L.P. ("Alta") and certain funds affiliated with Alta (collectively the
"Investors"), to sell an aggregate of 2,162,163 shares of the Company's Common
Stock at a price of $4.625 per share, for an aggregate purchase price of
approximately $10 million. The financing closed on April 10, 1998 and the
Company filed a registration statement on Form S-3 covering the resale of the
shares of Common Stock purchased by the Investors in June, 1998.

On April 27, 1998, the Company entered into a development, commercialization and
supply agreement with Suntory Pharmaceuticals, a division of Suntory Limited, of
Osaka, Japan for ConXn for the treatment of scleroderma. Under the terms of the
agreement, Suntory will pay approximately $14 million in license fees and
milestone payments to the Company, be responsible for all development and
commercialization expenses in Japan, and pay royalties on sales in Japan for the
treatment of scleroderma. The Company has retained rights to all other
indications in Japan for ConXn. Suntory will purchase relaxin materials from the
Company and make milestone payments based upon development progress in the
United States and Japan. On April 30, 1998, Suntory paid an up-front license fee
of $1.5 million (net of international withholding tax) to the Company.

On May 5, 1998, the Company entered into a license agreement with Genentech,
Inc. ("Genentech") under which the Company received an exclusive license under
certain patent rights and know-how to Actimmune(R) (gamma interferon) for the
treatment of chronic granulomatous disease ("CGD") and several additional
indications (non-cancer dermatological diseases, infectious diseases,
osteopetrosis,


                                       10
<PAGE>   11
pulmonary fibrosis and asthma) in the United States. Under the terms of the
agreement, the Company issued Genentech 340,048 shares of its common stock
valued at $2.0 million at the time of closing with a guaranteed value of $4.0
million at December 28, 1998. In the event that the initial issuance of shares
is less than $4.0 million on December 28, 1998, the Company will either issue
additional shares or pay cash to Genentech. The Company will also be required to
pay certain development and commercialization milestones and royalties on sales.
The parties also entered into a Supply Agreement under which Genentech will
manufacture and supply gamma interferon, in bulk product or finished product,
with a termination date on the earlier of May 5, 2001 or the date on which a
third party manufacturer, approved by the parties, enters into a supply
agreement with the Company. The Company expects to form a new subsidiary
corporation to further develop and market gamma interferon.

There can be no assurance that any of the Company's potential products will be
successfully developed, receive the necessary regulatory approvals or be
successfully commercialized.

RESULTS OF OPERATIONS

The Company's product revenues are derived from the sales of Ridaura and were
$1.7 million and $3.2 million for the three and six months ended June 30, 1998,
respectively, compared to $1.6 million and $3.0 million for the same periods in
1997, respectively. In December 1997, the Company sold the Canadian rights to
Ridaura to Pharmascience, Inc., a Canadian corporation. Revenue on an adjusted
basis to reflect the disposition of Riduara rights in Canada for the three and
six months ended June 30, 1997 were $1.5 million and $2.9 million, respectively.
In connection with an agreement with Suntory Pharmaceuticals, the Company also
recorded $1.6 million licensing revenue for the three months ended June 30,
1998. The Company believes the increase in product revenue for the three and six
months ended June 30, 1998 as compared to the same periods in 1997 resulted in
part from the promotion efforts of the Company's sales organization.

Under Transitional Services and Supply agreements between SmithKline and the
Company, SmithKline will manufacture and supply Ridaura in final package form
through December 2001 and managed distribution of the product, with no
additional consideration, through December 1997. Under a distribution
arrangement with CORD Logistics, Inc. ("CORD"), in December 1997 CORD began
managing customer orders and distribution of Ridaura and any other future
products of the Company. As a result, the Company began incurring distribution
costs of approximately 3% of net revenue.

The Company's cost of product sales includes the cost of Ridaura purchased from
SmithKline, a percentage royalty cost based on product sales, and distribution
costs from CORD. For the three and six months ended June 30, 1998, the Company
recorded $0.3 million and $0.6 million, respectively, in cost of product sales
compared to $0.3 million and $0.5 million for the same periods in 1997.
Amortization expense associated with the acquisition of product rights to
Ridaura were $1.7 million and $3.4 million compared to $1.8 million and $3.6
million for the same periods in 1998 and 1997, respectively.

Research and development expenses were $3.1 million and $5.3 million for the
three and six months ended June 30, 1998, compared to $5.7 and $10.9 million for
the same periods in 1997. The decrease in research and development expenses of
$2.6 million and $5.6 million, respectively was primarily due to lower clinical
trial expenses. In the first six months of 1998, the Company's clinical trial
activities consisted of a 13 patient open label clinical trial of ConXn for the
treatment of scleroderma and a 41 patient Phase II clinical of gamma interferon
for the treatment of keloids compared with two Phase III, two Phase II and one
Phase I/II clinical trials during the same period in 1997. Research and
development expenses are expected to increase over the next two quarters due to
the initiation of a Phase III clinical trial of clobetasol mousse in July 1998
for the treatment of severe psoriasis and skin dermatoses, manufacturing costs
associated with LUXIQ, an expected pivotal trial of ConXn for the treatment of
scleroderma, and possible acquisition of new technologies and products.


                                       11

<PAGE>   12

Selling, general and administrative expenses increased to $3.0 million and $5.5
million for the three and six months ended June 30, 1998, respectively, compared
to $2.4 million and $4.0 million for the same periods in 1997, respectively. The
increase in expenses were primarily due to the activities of an established
sales and marketing organization, costs associated with the promotion and
marketing of Ridaura and increases in personnel in the general and
administrative functions. Selling, general and administrative expenses are
expected to increase primarily due to increased staffing of the sales
organization, costs associated with marketing Ridaura and possible launching of
new approved or acquired products.

Pursuant to the gamma interferon license agreement with Genentech in May 1998,
the Company recorded a $4.0 million noncash one-time license fee charge for the
quarter ended June 30, 1998. The Company has determined that the viability of
the license is largely dependent on additional research and development of gamma
interferon, and as a result, has expensed the full purchase amount in the
current period.

Interest income was $234,000 and $411,000 in the three and six months ended June
30, 1998, compared with $234,000 and $469,000 for the corresponding periods in
1997, respectively. The decrease in interest income during the first six months
of 1998 was due to a lower average cash and investment balance during the first
quarter offset by the Company's self-managed private place in April 1998, which
raised $10.0 million. Interest earned in the future will depend on Company
funding cycles and prevailing interest rates. Interest expense decreased to
$345,000 and $739,000 for the three and six months ended June 30, 1998, compared
with $443,000 and $895,000 for the corresponding periods in 1997. The decrease
in interest expense during the first six months of 1998 was due to lower imputed
interest expense, $259,000 in 1998 compared to $553,000 in 1997, attributable to
the non-interest bearing $11.0 million promissory note payable to SmithKline as
partial consideration for the acquisition of U.S. and Canadian rights to
Ridaura, and lower interest expense associated with lower balances outstanding
for obligations under capital leases and loans, and notes payable. The decrease
was offset in part by $291,000 in accrued interest payable pursuant to the
amended repayment terms of the SmithKline note by which the Company is required
to pay interest on the principal amount outstanding at prime rate plus 2% per
annum.

Net losses for the three and six months ended June 30, 1998 were $9.0 million
and $14.3, respectively, compared to $8.8 million and $16.4 million for the
corresponding periods in 1997, respectively. The Company recorded a $4 million
one-time charge for the license of gamma interferon from Genentech in April
1998. Other than the one-time licensing charge, the decrease of $2.1 million in
net losses for the six months ended June 30, 1998 from the same period in 1997
was primarily due to a decrease of approximately $5.6 million in development
activities, lower amortization costs due to the sale of Canadian rights to
Ridaura and an additional $1.6 million in licensing revenue in connection with
the agreement with Suntory Pharmaceuticals for ConXn. The decrease in net loss
was offset in part by higher selling, general and administrative expenses. The
Company expects to incur additional losses over the next few years and losses
are expected to fluctuate from period to period based on timing of product
revenues, clinical material purchases, possible acquisitions of new products and
technologies, scale-up activities and clinical activities.


LIQUIDITY AND CAPITAL RESOURCES

The Company has financed its operations to date primarily through private sales
of equity securities, proceeds from its initial public offering in February 1996
and five self-managed financings, two in 1996, two in 1997 and one in 1998. At
June 30, 1998, cash, cash equivalents and short-term investments totaled $17.6
million, an increase of $3.3 million from $14.3 million at December 31, 1997.
Cash infusion of $11.5 million for the second quarter ending June 30, 1998 was
through sales of the Company's common stock ($10.0 million) and an up-front
license fee payment from Suntory Limited ($1.5 million).

                                       12
<PAGE>   13

Cash used in operations for the six months ended June 30, 1998 was $4.3 million
compared with $14.3 million for the same period in 1997. Net loss for the first
six months of 1998 was affected by a number of charges that did not use cash,
including a $4.0 million technology licensed in exchange for common stock, and
$3.4 million of amortization expense and $259,000 imputed interest expense
associated with the acquisition of Ridaura. Cash outflow for the quarter was
primarily for operating activities. Receivables at June 30, 1998 were $0.3
million compared with $1.5 million for the same period in 1997 due to a shorter
collection cycle as product sales in 1998 are direct to wholesalers with payment
terms of 2% discount, net 30 days. In 1997, the Company's sole customer was
SmithKline who in turn distributed Ridaura under a Transitional Services
Agreement with the Company. Payment terms under this arrangement were on a
quarterly basis, thirty days after the end of each quarter.

Investing activities, other than the changes in the Company's short-term
investments, consumed $0.4 million in cash during the six month period ended
June 30, 1998, of which $73,000 was for equipment expenditures required for
operations and $308,000 was for fulfillment of obligation under the equity and
asset purchase agreements with SmithKline (see Note 4 of Notes to Condensed
Financial Statements).

Cash provided by financing activities was $7.9 million for the six months ended
June 30, 1998 compared with $10.3 million for the same period in 1997. The
Company raised $10.0 million in April 1998 through private sales of its common
stock which was offset in part by $1.3 million in payments on obligations under
capital leases and loans, and $1.0 million in principal payment to SmithKline
for obligations under a promissory note in connection with the Ridaura
acquisition.

Working capital decreased by $0.4 million to $6.3 million at June 30, 1998 from
$6.7 million at December 31, 1997. The decrease in working capital resulted from
the reclassification to current the note payable due to SmithKline in 1999 for
rights to Ridaura, offset in part by higher cash balance. On April 28, 1998, the
Company entered into a second omnibus amendment with SmithKline and restructured
its payment obligations under the promissory note such that $5.3 million of
payments previously due within one year are now due after January 1999 (see Note
4 of Notes to Condensed Financial Statements).

At June 30, 1998, the Company had an aggregate of $14.3 million in future
obligations of principal payments under capital leases, loans, long-term debt
and other obligations, of which $8.5 million is to be paid within the next year

The Company has a Structured Equity Line Flexible Financing Agreement (the
"Equity Line Agreement") with Kepler Capital LLC ("Kepler") that allows the
Company to access capital through sales of its Common Stock. The equity line is
potentially available for a three-year period beginning December 1, 1997. If,
during the next three years, the Stock meets certain volume restrictions and
trades above $10.00, then up to $500,000 would be drawn down approximately every
three months during the three year term of the equity line. The Company's
trading price is currently below the $10.00 price requirement. While the Equity
Line Agreement has the potential to provide the Company with additional future
financing, the sale of shares thereunder will have a dilutive impact on other
stockholders of the Company.

The Company believes that its existing cash, cash equivalents and short-term
investments along with cash generated from sales of Ridaura, will be sufficient
to fund the Company's operating expenses, debt obligations and capital
requirements through early 1999. The Company's future capital uses and
requirements depend on numerous factors, including the progress of its research
and development programs, the progress of clinical and advanced-stage clinical
testing, the time and costs involved in obtaining regulatory approvals, the cost
of filing, prosecuting, and enforcing patent claims and other intellectual
property rights, competing technological and market developments, the ability of
the Company to establish collaborative arrangements, the level of product
revenues, the possible acquisition of new products and technologies, and the
development of commercialization activities, and therefore


                                       13
<PAGE>   14

such capital uses and requirements may increase in future periods. As a result,
the Company will require substantial additional funds prior to reaching
profitability and may attempt to raise additional funds through equity or debt
financings, collaborative arrangements with corporate partners or from other
sources. There can be no assurance that additional funding will be available for
the Company to finance its ongoing operations on acceptable terms, if at all.


IMPACT OF YEAR 2000

The "Year 2000 Issue" is the result of certain computer programs being written
using two digits rather than four to define the applicable year. Some of the
Company's older computer programs were written using two digits rather than four
to define the applicable year and as a result, those computer programs that have
time-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. This could cause a system failure or miscalculations causing
disruptions of operations, including, among other things, a temporary inability
to process transactions, send invoices, or engage in similar normal business
activities.

Based on a recent assessment, the Company presently believes that with
modifications and upgrades to existing software, the Year 2000 Issue will not
pose significant operational problems for its computer systems. However, if such
modifications and upgrades are not made, or are not completed timely, the Year
2000 Issue could have an impact on the operations of the Company. The total Year
2000 project cost is estimated at less than $50,000.

The Company has begun initiating formal communications with its significant
service providers and suppliers to determine the extent to which the Company's
interface systems are vulnerable to those third parties' failure to remediate
their own Year 2000 Issues. However, there can be no guarantee that the systems
of other companies on which the Company's systems rely will be timely converted
and would not have an adverse effect on the Company's systems.



ITEM 3.       QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     Not Applicable.




                                       14
<PAGE>   15


PART II.  OTHER INFORMATION



ITEM 1.       LEGAL PROCEEDINGS

     None



ITEM 2.       CHANGES IN SECURITIES AND USE OF PROCEEDS

     On April 10, 1998, the Company sold an aggregate of 2,162,163 shares of the
Company's Common Stock to Alta BioPharma Partners, L.P. and certain affiliated
funds ("Alta"), at a price of $4.625 per share, for an aggregate purchase price
of $10,000,003.88. The financing closed on April 10, 1998. No underwriter was
involved in this private placement. The shares were sold under an exemption from
registration pursuant to Section 4(2) of the Securities Act of 1933, as amended.
The Company relied on such exemption due to factors such as Alta's status as a
sophisticated investor and the fact that no general solicitation or
advertisement was made in connection with the sale.



ITEM 3.       DEFAULTS UPON SENIOR SECURITIES

     None



ITEM 4.       SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

     On May 22, 1998, the Company held its annual meeting of stockholders. At
the meeting, the stockholders approved the following matters by the following
votes:

     1)    Election of the following directors:

<TABLE>
<CAPTION>
                                               FOR              WITHHELD
           <S>                              <C>                  <C>

           G. Kirk Raab                     11,128,640           51,265
           Thomas G. Wiggans                11,128,640           51,265
           Eugene A. Bauer, M.D.            11,128,640           51,265
           Alexander E. Barkas, Ph.D.       11,128,640           51,265
           Brian H. Dovey                   11,128,640           51,265
           John C. Kane                     11,128,640           51,265
           Thomas D. Kiley, Esq.            11,128,640           51,265
           Kenneth B. Plumlee               11,128,640           51,265
           Joseph J. Ruvane, Jr.            11,128,640           51,265
</TABLE>

     2)    Approval of amendments to the Company's 1994 Stock Plan to increase
           the number of shares issuable thereunder to an aggregate of 2,600,000
           shares.

                                    FOR               AGAINST            ABSTAIN
                                  
                                  7,235,025           809,643             20,187


                                     15

<PAGE>   16

     3)    Approval of amendments to the Company's 1995 Directors' Stock Plan to
           increase the number of shares issuable thereunder to an aggregate of
           250,000.

                                    FOR               AGAINST            ABSTAIN

                                  7,862,379           185,576             16,900

     4)    Approval of amendments to the Company's 1995 Employee Stock Purchase
           Plan to increase the number of shares issuable thereunder to an
           aggregate of 500,000.

                                     FOR              AGAINST            ABSTAIN
                                  7,948,218           100,837             15,800

     5)    Ratification of the appointment of Ernst & Young LLP to serve as the
           Company's independent auditors for the fiscal year ending December
           31, 1998.

                                     FOR              AGAINST            ABSTAIN

                                 11,156,435            12,920             10,550


ITEM 5.       OTHER INFORMATION


     None

                                       16

<PAGE>   17




ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

<TABLE>
<CAPTION>

(a)      Exhibits.
<S>      <C>      <C>
         10.1(1)  Agreement dated as of April 23, 1998 between the Company and
                  Suntory Limited.

         10.2(1)  License Agreement dated as of May 5, 1998 between the Company
                  and Genentech, Inc.

         10.3(1)  Supply Agreement dated as of May 5, 1998 between the Company
                  and Genentech, Inc.

         10.4(2)  Common Stock Purchase Agreement dated April 10, 1998 by and
                  among the Company and certain investors.

         10.5(2)  Registration Rights Agreement dated April 10, 1998 by and
                  among the Company and certain investors.

         10.6(2)  Second Omnibus Agreement with SmithKline Beecham Corporation
                  and related entities dated April 28, 1998.

         27.1     Financial Data Schedule (EDGAR - filed version only)
</TABLE>

(1)      Certain confidential portions of such exhibit have been omitted and
         filed separately with the Securities and Exchange Commission.

(2)      Incorporated by reference from an exhibit filed with the Company's
         Current Report on Form 8-K (File No. 0-27406) filed on May 6, 1998.




(b)      Reports on Form 8-K.

     On May 6, 1998, the Company filed a Current Report on Form 8-K, listing
several items under Item 5 (Other Events). Specifically, the Company disclosed
(i) the sale of 2,162,163 shares of Common Stock to certain investors for an
aggregate purchase price of approximately $10 million, (ii) the issuance of
1,037,779 shares of Common Stock to SmithKline Beecham Properties, Inc., and
(iii) the restructuring of a promissory note owed to SmithKline Beecham
Corporation. No financial statements were filed with this report.



                                       17
<PAGE>   18



                                    SIGNATURE


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



                                  CONNETICS CORPORATION


                                  By: /s/ JOHN L. HIGGINS
                                      ---------------------------
                                      John L. Higgins
                                      Vice President, Finance and Administration
                                             and Chief Financial Officer

Date:    August 13, 1998




                                       18
<PAGE>   19

                               INDEX TO EXHIBITS

<TABLE>
<CAPTION>
Exhibit
Number                                 Description
-------                                -----------
<S>         <C>
10.1(1)     Agreement dated as of April 23, 1998 between the Company and Suntory
            Limited.

10.2(1)     License Agreement dated as of May 5, 1998 between the Company and
            Genentech, Inc.

10.3(1)     Supply Agreement dated as of May 5, 1998 between the Company and
            Genentech, Inc.

10.4(2)     Common Stock Purchase Agreement dated April 10, 1998 by and among
            the Company and certain investors.

10.5(2)     Registration Rights Agreement dated April 10, 1998 by and among the
            Company and certain investors.

10.6(2)     Second Omnibus Agreement with SmithKine Beecham Corporation and 
            related entities dated April 28, 1998.

27.1        Financial Data Schedule (EDGAR-filed version only)

</TABLE>

(1)  Certain confidential portions of such exhibit have been omitted and filed
     separately with the Securities and Exchange Commission.

(2)  Incorporated by reference from an exhibit filed with the Company's Current
     Report on Form 8-K (File No. 0-27406) filed on May 6, 1998.