**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

 

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**FORM 10-Q**

 
| ** **                                                                                                                | **(Mark One)** |
|---------------------------------------------------------------------------------------------------------------------------|----------------|
| ** **                                                                                                                | **ý**     | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|                                                                                                                      |           |   |   |
| **For the  quarterly period ended March 31, 2005**                                                                   |
|                                                                                                                      |           |   |   |
| **OR**                                                                                                                    |
|                                                                                                                      |           |   |   |
| ** **                                                                                                                | **o**          | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|                                                                                                                      |           |   |   |
| **For the  transition period from       to       ** |
|                                                                                                                           |                |  |  |  |

 

**CommissionFile Number: 000-30289**

 

**PRAECIS PHARMACEUTICALSINCORPORATED**

(Exact name of registrant asspecified in its charter)

 
| **Delaware**                                               | ** ** | **04-3200305**       |
|------------------------------------------------------------|------------|----------------------|
| (State or  other jurisdiction of                           |       | (I.R.S.  Employer    |
| incorporation  or organization)                            |       | Identification  No.) |
|                                                       |       |                 |
| **830  Winter Street, Waltham, MA 02451-1420**             |
| (Address of  principal executive offices and zip code)     |
|                                                       |       |                 |
| **(781) 795-4100**                                         |
| (Registrant’s  telephone number, including area code) |

 

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

 

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

 

As of April 29, 2005, there were 52,423,851 sharesof the registrant’s common stock, $.01 par value, outstanding.

 

 

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**PRAECISPHARMACEUTICALS INCORPORATEDFORM 10-QFOR THE QUARTER ENDED MARCH 31, 2005**

**INDEX**

 
| ** **             | ** ** | ** **                                                                                                | **PAGE  NUMBER** |
|------------------------|------------|-----------------------------------------------------------------------------------------------------------|------------------|
| ** **             | ** ** | ** **                                                                                                |             |
| **PART I.**       | ** ** | **FINANCIAL  INFORMATION**                                                                                | 3                |
| ** **             | ** ** | ** **                                                                                                |             |
| Item 1.                |       | Financial Statements  (Unaudited)                                                                         | 3                |
|                   |       |                                                                                                      |             |
| * *               | * *   | Condensed  Consolidated Balance Sheets –   December 31, 2004 and March 31, 2005            | 3                |
| * *               | * *   |                                                                                                      |             |
| * *               | * *   | Condensed  Consolidated Statements of Operations –   three months ended March 31, 2004 and 2005 | 4                |
| * *               | * *   |                                                                                                      |             |
| * *               | * *   | Condensed  Consolidated Statements of Cash Flows –   three months ended March 31, 2004 and 2005 | 5                |
| * *               | * *   |                                                                                                      |             |
| * *               | * *   | Notes  to Condensed Consolidated Financial Statements                                                     | 6                |
| * *               | * *   |                                                                                                      |             |
| Item  2.               |       | Management’s  Discussion and Analysis of Financial Condition and Results of Operations               | 11               |
|                   |       |                                                                                                      |             |
| Item  3.               |       | Quantitative  and Qualitative Disclosures About Market Risk                                               | 36               |
|                   |       |                                                                                                      |             |
| Item 4.                |       | Controls and Procedures                                                                                   | 36               |
|                   |       |                                                                                                      |             |
| **PART II.**      | ** ** | **OTHER INFORMATION**                                                                                     | 37               |
| ** **             | ** ** | ** **                                                                                                |             |
| Item 1.                |       | Legal Proceedings                                                                                         | 37               |
|                   |       |                                                                                                      |             |
| Item 6.                |       | Exhibits                                                                                                  | 37               |
|                   |       |                                                                                                      |             |
| **SIGNATURE**          | 39         |
| ** **             |       |
| **EXHIBIT INDEX** | 40         |

 

2

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**PART I.FINANCIAL INFORMATION**

 

**ITEM 1.  FINANCIAL STATEMENTS****.**

 

**PRAECIS PHARMACEUTICALS INCORPORATEDCondensed ConsolidatedBalance Sheets(In thousands, except share data)(Unaudited)**

 
| ** **                                                                                                                                     | ** ** | **December 31,** | ** ** | **March 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|--------------------|------------|
| ** **                                                                                                                                     | ** ** | **2004**              | ** ** | **2005**           | ** ** |
| ** **                                                                                                                                     | ** ** | ** **            | ** ** | ** **         | ** ** |
| **Assets**                                                                                                                                     |       |                  |       |               |       |
| Current  assets:                                                                                                                               |       |                  |       |               |       |
| Cash and  cash equivalents                                                                                                                     |       | $                     | 11,178     |               | $          | 43,547 |   |
| Marketable  securities                                                                                                                         |       | 72,171                |       | 25,023             |       |
| Accounts  receivable                                                                                                                           |       | 1,052                 |       | 954                |       |
| Inventory                                                                                                                                      |       | 93                    |       | 115                |       |
| Prepaid  expenses and other current assets                                                                                                     |       | 952                   |       | 747                |       |
|                                                                                                                                           |       |                  |       |               |       |
| Total  current assets                                                                                                                          |       | 85,446                |       | 70,386             |       |
|                                                                                                                                           |       |                  |       |               |       |
| Property and  equipment, net                                                                                                                   |       | 64,538                |       | 63,736             |       |
| Inventory                                                                                                                                      |       | 4,136                 |       | 4,905              |       |
| Other assets                                                                                                                                   |       | 187                   |       | 175                |       |
|                                                                                                                                           |       |                  |       |               |       |
| Total assets                                                                                                                                   |       | $                     | 154,307    |               | $          | 139,202 |   |
|                                                                                                                                           |       |                  |       |               |       |
| **Liabilities  and Stockholders’ Equity**                                                                                                 |       |                  |       |               |       |
| Current  liabilities:                                                                                                                          |       |                  |       |               |       |
| Accounts  payable                                                                                                                              |       | $                     | 2,191      |               | $          | 544 |   |
| Accrued  expenses                                                                                                                              |       | 6,085                 |       | 5,077              |       |
| Deferred revenue                                                                                                                               |       | 167                   |       | 167                |       |
| Current  portion of long-term debt                                                                                                             |       | 596                   |       | 605                |       |
|                                                                                                                                           |       |                  |       |               |       |
| Total  current liabilities                                                                                                                     |       | 9,039                 |       | 6,393              |       |
|                                                                                                                                           |       |                  |       |               |       |
| Deferred  revenue                                                                                                                              |       | 1,722                 |       | 1,681              |       |
| Long-term  debt                                                                                                                                |       | 31,373                |       | 31,218             |       |
|                                                                                                                                           |       |                  |       |               |       |
| Commitments  and contingencies                                                                                                                 |       |                  |       |               |       |
|                                                                                                                                           |       |                  |       |               |       |
| Stockholders’  equity:                                                                                                                    |       |                  |       |               |       |
| Common  Stock, $0.01 par value; 200,000,000 shares authorized; 52,378,398 shares in  2004 and 52,423,851 shares in 2005 issued and outstanding |       | 524                   |       | 524                |       |
| Additional  paid-in capital                                                                                                                    |       | 355,721               |       | 355,794            |       |
| Accumulated  other comprehensive loss                                                                                                          |       | (169                  | )          | (160               | )          |
| Accumulated  deficit                                                                                                                           |       | (243,903              | )          | (256,248           | )          |
|                                                                                                                                           |       |                  |       |               |       |
| Total  stockholders’ equity                                                                                                               |       | 112,173               |       | 99,910             |       |
|                                                                                                                                           |       |                  |       |               |       |
| Total  liabilities and stockholders’ equity                                                                                               |       | $                     | 154,307    |               | $          | 139,202 |   |

 

*Seeaccompanying notes.*

 

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**PRAECIS PHARMACEUTICALS INCORPORATEDCondensed ConsolidatedStatements of Operations(In thousands, except per share data)(Unaudited)**

 
| ** **                                                              | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                              | ** ** | **March 31,**     | ** ** |
| ** **                                                              | ** ** | **2004**               | ** ** | **2005** | ** ** |
|                                                                    |       |                   |       |   |   |
| **Revenues:**                                                           |       |                   |       |   |   |
| Product sales                                                           |       | $                      | 411        |   | $ | 804 |   |
| Licensing  and other revenues                                           |       | 50                     |       | 77 |   |
| Total  revenues                                                         |       | 461                    |       | 881 |   |
|                                                                    |       |                   |       |   |   |
| **Costs  and expenses:**                                                |       |                   |       |   |   |
| Cost of  goods sold                                                     |       | 1,134                  |       | 181 |   |
| Research and  development                                               |       | 7,871                  |       | 7,283 |   |
| Sales and  marketing                                                    |       | 4,080                  |       | 3,657 |   |
| General and  administrative                                             |       | 2,984                  |       | 1,978 |   |
| Total costs  and expenses                                               |       | 16,069                 |       | 13,099 |   |
|                                                                    |       |                   |       |   |   |
| Operating  loss                                                         |       | (15,608                | )          | (12,218 | ) |
|                                                                    |       |                   |       |   |   |
| Interest  income (expense), net                                         |       | 228                    |       | (127 | ) |
|                                                                    |       |                   |       |   |   |
| Net loss                                                                |       | $                      | (15,380    | ) | $ | (12,345 | ) |
|                                                                    |       |                   |       |   |   |
| Basic and  diluted net loss per common share                            |       | $                      | (0.29      | ) | $ | (0.24 | ) |
|                                                                    |       |                   |       |   |   |
| Weighted  average number of basic and diluted common shares outstanding |       | 52,147                 |       | 52,423 |   |

 

*See accompanying notes.*

 

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**PRAECIS PHARMACEUTICALSINCORPORATEDCondensed ConsolidatedStatements of Cash Flows(In thousands)(Unaudited)**

 
| ** **                                                               | ** ** | **Three Months Ended** | ** ** |
|--------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                               | ** ** | **March 31,**     | ** ** |
| ** **                                                               | ** ** | **2004**               | ** ** | **2005** | ** ** |
| **Operating  activities:**                                               | ** ** | ** **             | ** ** | ** ** | ** ** |
| Net loss                                                                 |       | $                      | (15,380    | ) | $ | (12,345 | ) |
| Adjustments  to reconcile net loss to cash used in operating activities: |       |                   |       |   |   |
| Depreciation                                                             |       | 1,174                  |       | 962 |   |
| Stock  compensation                                                      |       | 15                     |       | — |   |
| Changes in  operating assets and liabilities:                            |       |                   |       |   |   |
| Accounts  receivable                                                     |       | (395                   | )          | 98 |   |
| Inventory                                                                |       | (1,172                 | )          | (791 | ) |
| Prepaid  expenses and other assets                                       |       | (566                   | )          | 217 |   |
| Due from  officer                                                        |       | 25                     |       | — |   |
| Accounts  payable                                                        |       | (578                   | )          | (1,647 | ) |
| Accrued  expenses                                                        |       | (330                   | )          | (1,008 | ) |
| Deferred  revenue                                                        |       | —                 |       | (41 | ) |
|                                                                     |       |                   |       |   |   |
| Net cash  used in operating activities                                   |       | (17,207                | )          | (14,555 | ) |
|                                                                     |       |                   |       |   |   |
| **Investing  activities:**                                               | ** ** | ** **             | ** ** | ** ** | ** ** |
| Purchase of  available-for-sale securities                               |       | (31,614                | )          | (13,094 | ) |
| Sales or  maturities of available-for-sale securities                    |       | 45,135                 |       | 60,251 |   |
| Purchase of  property and equipment                                      |       | (195                   | )          | (160 | ) |
|                                                                     |       |                   |       |   |   |
| Net cash  provided by investing activities                               |       | 13,326                 |       | 46,997 |   |
|                                                                     |       |                   |       |   |   |
| **Financing  activities:**                                               | ** ** | ** **             | ** ** | ** ** | ** ** |
| Repayments  of debt                                                      |       | (187                   | )          | (146 | ) |
| Proceeds  from the issuance of Common Stock                              |       | 187                    |       | 73 |   |
|                                                                     |       |                   |       |   |   |
| Net cash  used in financing activities                                   |       | —                 |       | (73 | ) |
|                                                                     |       |                   |       |   |   |
| (Decrease)  increase in cash and cash equivalents                        |       | (3,881                 | )          | 32,369 |   |
| Cash and  cash equivalents, beginning of period                          |       | 15,687                 |       | 11,178 |   |
|                                                                     |       |                   |       |   |   |
| Cash and  cash equivalents, end of period                                |       | $                      | 11,806     |   | $ | 43,547 |   |

 

*See accompanying notes.*

 

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**PRAECIS PHARMACEUTICALS INCORPORATEDNotes to CondensedConsolidated Financial Statements**

(Unaudited)

 

# **1.**                                      Basis of Presentation

 

Theaccompanying condensed consolidated financial statements have been prepared byPRAECIS PHARMACEUTICALS INCORPORATED (the “Company”) in accordance withaccounting principles generally accepted in the United States and pursuant tothe rules and regulations of the Securities and Exchange Commission (the “SEC”).Certain information and footnote disclosures normally included in financialstatements prepared in accordance with accounting principles generally acceptedin the United States have been condensed or omitted pursuant to such rules andregulations. It is suggested that the financial statements be read inconjunction with the audited financial statements and the accompanying notesincluded in the Company’s Annual Report on Form 10-K for the year ended December 31,2004.

 

Theinformation furnished reflects all adjustments which, in the opinion ofmanagement, are considered necessary for a fair presentation of results for theinterim periods. Such adjustments consist only of normal recurring items. Itshould also be noted that results for the interim periods are not necessarilyindicative of the results expected for the full year or any future period.

 

Thepreparation of these financial statements requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities anddisclosures of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period. Actual results could differ from those estimates.

 

# **2.**                                      Summary of Significant Accounting Principles

# ** **

***Principles of Consolidation***

 

The accompanying condensed consolidatedfinancial statements include the Company’s accounts and the accounts of itswholly owned subsidiaries, 830 Winter Street LLC and PRAECIS Europe Limited.All significant intercompany account balances and transactions between thecompanies have been eliminated.

 

***Inventory***

 

Inventory is stated at the lower of cost or market with cost determinedunder the first-in/first-out (“FIFO”) method. The Company will write down anyobsolete, excess or otherwise unmarketable inventory to its estimated netrealizable value, as necessary. If the net realizable value is determined to beless than that estimated by the Company, additional inventory write-downs maybe required in future periods.

 

The components ofinventory are as follows:

 
| ** **            | ** ** | **December 31,  2004** | ** ** | **March 31,  2005** | ** ** |
|-----------------------|------------|-----------------------------|------------|--------------------------|------------|
| ** **            | ** ** | **(in thousands)**          | ** ** |
| ** **            | ** ** | ** **                  | ** ** |
| Raw  materials        |       | $                           | 1,644      |                     | $          | 1,844 |   |
| Work-in-process       |       | 2,442                       |       | 3,048                    |       |
| Finished  goods       |       | 143                         |       | 128                      |       |
| Total  inventory      |       | 4,229                       |       | 5,020                    |       |
| Less current  portion |       | (93                         | )          | (115                     | )          |
| Long-term  inventory  |       | $                           | 4,136      |                     | $          | 4,905 |   |

 

Rawmaterials, work-in-process and finished goods inventories consist of materials,labor and manufacturing overhead. The Company classifies any inventory that isestimated to be sold in the next twelve months as current inventory, with theremaining amount classified as long-term inventory. The current portion ofinventory at March 31, 2005 was approximately $115,000. Muchof the raw material used to produce Plenaxis® (including the activepharmaceutical ingredient) was expensed as research

 

6

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and development costs prior to the FDA granting approval for thecommercial sale of Plenaxis® in the United States.

 

***Impairment or Disposal of Long-Lived Assets*.**

 

Statement of Financial Accounting Standards (“SFAS”)No. 144, *Accounting for the Impairment or Disposal ofLong-Lived Assets*(“SFAS No. 144”), requires that if the sum ofthe undiscounted future cash flows expected to result from a company’s asset,net of interest charges, is less than the reported value of the asset, an assetimpairment may be recognized in the financial statements if the reported valueof the asset exceeds the fair value determined by either a quoted market price,if any, or a value determined by utilizing a discounted cash flow technique.  The Company evaluates its property, plant andequipment for impairment whenever indicators of impairment exist. The amount ofthe impairment to be recognized is calculated by subtracting the fair value ofthe asset from the reported value of the asset. Through March 31, 2005, norevision to the estimated useful life or recorded amount of property andequipment was required.

 

***Stock-BasedCompensation***

 

The Company has elected to follow AccountingPrinciples Board Opinion No. 25, *Accountingfor Stock Issued to Employees* (“APB No. 25”) and relatedinterpretations, in accounting for its stock-based employee compensation plansusing the intrinsic value method, rather than the alternative fair valueaccounting method provided for under SFAS No. 123, *Accounting for Stock-Based Compensation* (“SFASNo. 123”), as SFAS No. 123 requires the use of option valuationmodels that were not developed for use in valuing employee stock options. UnderAPB No. 25, when the exercise price of options granted to employees underthese plans equals the market price of the underlying stock on the date ofgrant, no compensation expense is required. The Company also follows theprovisions of SFAS No. 148, *Accounting for Stock-BasedCompensation-Transition and Disclosure, an amendment of FASB Statement No. 123*.

 

Had compensation expense for the Company’sstock option plans been determined based on the fair value at the grant datefor awards under these plans, consistent with the methodology prescribed underSFAS No. 123, the Company’s net loss and net loss per share would haveapproximated the pro forma amounts indicated below (in thousands, except pershare data):

 
| ** **                                                                                                                                                                           | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                                                                                                                                           | ** ** | **2004**                               | ** ** | **2005** | ** ** |
| Net loss, as  reported                                                                                                                                                               |       | $                                      | (15,380    | ) | $ | (12,345 | ) |
| Add: Stock  based compensation cost as computed under APB No. 25, included in the  determination of net loss as reported                                                        |       | 15                                     |       | — |   |
| Deduct:  Stock-based employee compensation cost that would have been included in the  determination of net loss as reported if the fair value method had been  applied to all awards |       | (2,973                                 | )          | (2,810 | ) |
| Pro forma  net loss                                                                                                                                                                  |       | $                                      | (18,338    | ) | $ | (15,155 | ) |
| Basic and  diluted net loss per common share, as reported                                                                                                                            |       | $                                      | (0.29      | ) | $ | (0.24 | ) |
| Basic and  diluted net loss per common share, pro forma                                                                                                                              |       | $                                      | (0.35      | ) | $ | (0.29 | ) |

 

The fair value of the stock options at thedate of grant was estimated using the Black-Scholes option pricing model withthe following weighted average assumptions: 

 
| ** **               | ** ** | **2004** | ** ** | **2005** | ** ** |
|--------------------------|------------|----------|------------|----------|------------|
| Risk-free  interest rate |       | 4.00     | %          | 4.24     | %          |
| Expected  life (years)   |       | 6.0      |       | 6.1      |       |
| Volatility               |       | 84.0     | %          | 80.8     | %          |

 

The Company has never declared nor paid anycash dividends on any of its capital stock and does not expect to do so in theforeseeable future.

 

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In December 2004, the FASB issued SFAS No. 123R,*Share-Based Payment – An Amendment of FASBStatements No. 123 and 95* (“SFAS No. 123R”), whichrequires all companies to measure compensation cost for all share-basedpayments, including employee stock options, at fair value. SFAS No. 123Rwas originally effective for public companies for interim or annual periodsbeginning after June 15, 2005. In April 2005, the SEC amended thecompliance dates for SFAS No. 123R to allow companies to implement SFAS No. 123Rat the beginning of their next fiscal year, January 2006 for the Company. Generally,the approach in SFAS No. 123R is similar to the approach described in SFASNo. 123. However, SFAS No. 123R requires all share-based payments toemployees, including grants of employee stock options, to be recognized in theincome statement based on their fair values. Pro forma disclosure is no longer analternative. The adoption of SFAS No. 123R will have a significant impacton the Company’s results of operations, although it will have no impact on theCompany’s overall financial position. In March 2005, the SEC issued StaffAccounting Bulletin (“SAB”) No. 107 (“SAB No. 107”), which expressedthe views of the SEC regarding the interaction between SFAS No. 123Rand certain SEC rules and regulations. SAB No. 107 providesguidance related to the valuation of share-based payment arrangements forpublic companies, including assumptions such as expected volatility andexpected term. The Company is evaluating SFAS No. 123R and SAB No. 107 andhas not yet determined the amount of stock option expense which will beincurred in future periods.

 

***Revenue Recognition***

 

The Company follows the provisions of the SEC’sSAB No. 104,*Revenue Recognition*. Revenuesfrom product sales are recognized in the period when the product is delivered,provided there is persuasive evidence that an arrangement exists, the price isfixed or determinable and collection of the related receivable is reasonablyassured. Revenues are recorded net of applicable allowances as provision ismade for estimated sales returns, rebates, distributor fees and otherapplicable discounts and allowances. Shipping and other distribution costs arecharged to cost of product sales.

 

The Company prepares its provisions for salesreturns and allowances, rebates and discounts based primarily on estimates. Contractualallowances and rebates result primarily from sales under contracts withhealthcare providers, Medicaid programs and other government agencies. TheCompany’s policy for sales returns allows authorized distributors to return theproduct three months prior to, and six months after, product expiration. Productshipped during 2004 had an initial approved shelf-life of 24 months withexpiration dates of February 2005 and June 2006. Product shippedduring the first quarter of 2005 also had a 24-month shelf-life with anexpiration date of June 2006. At the end of 2004, the FDA approved anextension of the shelf life of Plenaxis® to 36 months which will beapplied to all future commercial lots. The reserve for sales returns isdetermined by reviewing the history of returns for products with similarcharacteristics to Plenaxis®. The Company also utilizes dailyreports itemizing sales to physicians and hospital pharmacies, obtaineddirectly from its authorized distributors, in order to analyze specific accountordering trends. This data is reviewed to monitor product movement through thesupply chain to identify remaining inventory that may result in chargebacks orsales returns. The Company estimates that there was approximately $0.3 millionof product at distributors at March 31, 2005. The reserves are reviewed ateach reporting period and adjusted to reflect data available at that time. TheCompany had accrued approximately $0.3 million in sales return reserves and$0.2 million in other revenue reserves as of March 31, 2005. To the extentthe Company’s estimates of contractual allowances, rebates and sales returnsare different from actuals, the Company adjusts the reserve which impacts theamount of product sales revenue recognized in the period of the adjustment.

 

The Company currently provides substantiallyall of its distributors with payment terms of up to 120 days on purchases ofPlenaxis®. Through March 31, 2005, payments have generally beenmade in a timely manner.

 

In April 2004, the Company entered intoa license, supply and distribution agreement with Schering AG (“Schering AG”),of Berlin, Germany (the “Schering AG Agreement”). The Schering AG Agreementprovides for a combination of upfront, regulatory approval andperformance-based milestone payments, as well as a share of revenue throughtransfer price payments for drug product which will be supplied by the Company.The Company analyzes such multiple element arrangements to determine whetherthe elements can be separated and accounted for individually as separate unitsof accounting in accordance with EITF No. 00-21, *Revenue Arrangements with Multiple Deliverables.*Nonrefundable upfront licensing fees and certain guaranteed, time-basedpayments that require

 

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continuing involvement in the form of development, manufacturing orother commercialization efforts by the Company are recognized as licensingrevenue ratably over the period under which the Company is obligated to performthose services.  Milestone payments are recognized as licensing revenue orproduct sales when the performance obligations, as defined in the contract, areachieved, so long as the milestone is deemed to be substantive. Performancemilestones typically consist of milestones in the development and/orcommercialization of a product, such as obtaining approval from regulatoryagencies and the achievement of targeted sales levels. Reimbursements ofdevelopment costs are recognized as licensing revenue as the related costs areincurred.

 

When the period over which a fee or paymentwill be recognized as revenue cannot be specifically identified from thecontract, management estimates the deferral period based upon other criticalfactors contained within the contract, including but not limited to patent lifeor contract term. The Company continually reviews these estimates which couldresult in a change in the deferral period and might impact the timing and theamount of revenue recognized.

 

***Net Loss Per Share***

 

Basic net loss per common share is based onthe weighted average number of shares of common stock, par value $.01 per share(“Common Stock”) outstanding. For all periods presented, diluted net loss percommon share is the same as basic net loss per common share as the inclusion ofCommon Stock equivalents, including the effect of stock options, would beantidilutive due to the Company’s net loss position for all periods presented. Dilutednet loss per common share excluded 8,273,049 and 7,808,482 Common Stock optionsfor the periods ended March 31, 2004 and 2005, respectively.

 

***Comprehensive Loss***

 

SFAS No. 130, *ReportingComprehensive Income*, establishes standards for the reporting anddisplay of comprehensive income (loss) and its components in the condensedconsolidated financial statements. The Company’s accumulated othercomprehensive loss is comprised of net unrealized gains or losses onavailable-for-sale securities. For the three months ended March 31, 2004and 2005, comprehensive loss was as follows:

 
| ** **                                            | ** ** | **Three Months Ended  March 31,** | ** ** |
|-------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                            | ** ** | **2004**                               | ** ** | **2005** | ** ** |
| ** **                                            | ** ** | **(in thousands)**                     | ** ** |
| Net loss                                              |       | $                                      | (15,380    | ) | $ | (12,345 | ) |
| Changes in  comprehensive loss:                       |       |                                   |       |   |   |
| Net  unrealized holding (losses)/gains on investments |       | (62                                    | )          | 9 |   |
| Total  comprehensive loss                             |       | $                                      | (15,442    | ) | $ | (12,336 | ) |

 

***Recent Accounting Pronouncements***

 

In December 2004, the FASB issuedSFAS No. 151, *Inventory Costs*(“SFAS No. 151”). SFAS No. 151 requires abnormal amounts ofinventory costs related to idle facility, freight handling and wasted materialexpenses to be recognized as current period charges. Additionally, SFAS No. 151requires that allocation of fixed production overheads to the costs ofconversion be based on the normal capacity of the production facilities. Thestandard is effective for fiscal years beginning after June 15, 2005. TheCompany does not believe that the adoption of SFAS No. 151 will havea material impact on its condensed consolidated financial statements.

 

**3.**                                      **Schering AG Agreement**

 

In April 2004, the Company entered intothe Schering AG Agreement, under which the Company granted exclusive rights toSchering AG to commercialize Plenaxis® in the field of prostatecancer in Europe, Russia, the Middle East, South Africa, Australia and NewZealand (the “Licensed

 

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Territory”). The Schering AG Agreement provides for a combination ofupfront, regulatory approval and performance-based milestone payments, as wellas a share of revenue through transfer price payments for drug product whichwill be supplied by the Company. The transfer price will vary based upon netsales of Plenaxis®, as well as pricing and reimbursement levels, inthe Licensed Territory.  The Companyreceived a $2.0 million signing payment from Schering AG during the secondquarter of 2004, which the Company is recognizing into revenues through 2016,which represents the remaining patent life of Plenaxis® in Europe. Asof March 31, 2005, the Company has recognized approximately $153,000 inrevenues under the Schering AG Agreement.

 

**4.****                                      MortgageFinancing**

 

In June 2004,the Company amended its acquisition and construction loan agreement (the “AmendedLoan Agreement”) to extend the maturity date of the loan and modify certainother terms of the original agreement. Under the Amended Loan Agreement, on July 30,2009 the principal amount then outstanding is due and payable in full, subjectto two one-year extension options which are exercisable at the Company’selection provided the Company is in compliance with certain financialcovenants.****The outstanding principal bearsinterest at a fixed rate of 5.95% through April 2009 and at a floatingrate for the remainder of the term. Principal and interest are payable througha fixed monthly payment of approximately $207,000, with the principal portionbeing calculated using a 25-year amortization schedule. Interest paid under theAmended Loan Agreement approximated interest expense during both the threemonths ended March 31, 2004 and 2005. The Amended Loan Agreement alsoprovides for certain additional financial operating covenants, one of which waseffective immediately and the remainder of which will become effective as of December 31,2006. The covenant which was immediately effective is tested on a quarterlybasis and requires that the Company maintain $25.0 million in unrestrictedcash, cash equivalents and marketable securities.

 

**5.****                                     ****Litigation**

 

In December 2004and January 2005, the Company, Chairman and (now former) Chief ExecutiveOfficer Malcolm Gefter, President and (now former) Chief Operating OfficerKevin F. McLaughlin, Chief Financial Officer and Treasurer Edward C. English,and former President and Chief Operating Officer William K. Heiden, were namedas defendants in three purported class action securities lawsuits filed in theUnited States District Court for the District of Massachusetts. The complaintsgenerally allege securities fraud during the period from November 25, 2003through December 6, 2004. Each of the complaints purports to assert claimsunder Sections 10(b) and 20(a) of the Securities and Exchange Act of1934 and Rule 10b-5 promulgated thereunder, and alleges that the Companyand the individually named defendants made materially false and misleadingpublic statements concerning the Company’s business and financial results,particularly relating to statements regarding the commercialization of Plenaxis®.

 

On February 7,2005, a motion was filed to consolidate the three actions and to appoint leadplaintiffs and lead counsel. On February 18, 2005, the Company and theindividual defendants filed a brief response to that motion, reserving theirrights to challenge the adequacy and typicality, among other things, of theproposed lead plaintiffs in connection with class certification proceedings, ifany. On April 13, 2005, the Court entered an Order granting the plaintiffs’motion to consolidate the three actions (as well as each case that relates tothe same subject matter that may be subsequently filed in or transferred to theUnited States District Court for the District of Massachusetts), appoint leadplaintiffs and approve such plaintiffs’ selection of co-lead counsel. At thistime, plaintiffs have not specified the amount of damages they are seeking inthe actions.

 

TheCompany has not recorded an estimated liability associated with the legalproceedings described above. Due to the uncertainties related to both thelikelihood and the amount of any potential loss, the Company is unable to makea reasonable estimate of the liability that could result from an unfavorableoutcome. Management believes that the allegations against the Company arewithout merit, and the Company intends to vigorously defend against theplaintiffs’ claims. However, if theCompany is not successful in defending these actions, its business andfinancial condition could be adversely affected.

 

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**ITEM 2.****                  MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS****.**

 

*Thefollowing discussion of our financial condition and results of operationsshould be read together with the condensed consolidated financial statementsand accompanying notes to those statements included elsewhere in this Form 10-Q.This Form 10-Q contains forward-looking statements within the meaning of Section 21Eof the Securities Exchange Act of 1934, as amended, that involve risks anduncertainties. All statements other than statements of historical informationset forth herein are forward-looking and may contain information aboutfinancial results, events, economic conditions, trends and known uncertainties.Actual results and events could differ materially from those discussed in theseforward-looking statements as a result of a number of factors, which includethose discussed in this section and elsewhere in this report, and therisks discussed in our other filings with the Securities and Exchange Commission.Readers are cautioned not to place undue reliance on these forward-lookingstatements, which reflect management’s analysis, judgment, belief orexpectation only as of the date hereof. PRAECIS undertakes no obligation topublicly reissue or modify these forward-looking statements to reflect eventsor circumstances that arise after the date hereof.*

 

**Overview**

 

We are a biopharmaceutical company focused onthe discovery, development and commercialization of innovative therapies thateither address unmet medical needs or offer improvements over existingtherapies. Key elements of our strategy to achieve our business objective are:

 

•                  Significantlyincrease sales of Plenaxis® utilizing our own sales force in theUnited States;

•                  Gain approval ofand successfully commercialize Plenaxis® in the European Union andother major markets in collaboration with Schering AG in Europe and its otherlicensed territories, and with one or more partners outside Schering AG’slicensed territories;

•                  Partner our Apanand PPI-2458 clinical programs; and

•                  Enter intoresearch collaborations and other partnerships relating to our Direct Selecttechnology platform while retaining rights to use the technology for futureinternal development.

 

We launched our first product, Plenaxis®(abarelix for injectable suspension), in the United States in early 2004 usingour own dedicated marketing and sales team. Sales of Plenaxis®during 2004 were significantly lower than expected. We continue to believe thatPlenaxis® is an important therapy for patients in the indicatedpopulation who have limited treatment options available. We began our clinicalprogram to develop Plenaxis® for the treatment of prostate cancerduring 1996. In November 2003, the FDA approved Plenaxis® forthe palliative treatment of men with advanced symptomatic prostate cancer, inwhom LHRH agonist therapy is not appropriate and who refuse surgicalcastration, and have one or more of the following: (1) risk ofneurological compromise due to metastases, (2) ureteral or bladder outletobstruction due to local encroachment or metastatic disease, or (3) severebone pain from skeletal metastases persisting on narcotic analgesia. For safetyreasons, Plenaxis® was approved with marketing restrictions whichinclude a risk management program - the Plenaxis® User Safety (PLUS)Program. Only physicians enrolled in the PLUS Program may prescribe Plenaxis®.Plenaxis® is available to authorized physicians and pharmaciesthrough a network of specialty distributors with whom we have contracted.

 

In April 2004, we signed an agreementwith Schering AG of Berlin, Germany, for the commercialization of Plenaxis®across Europe, Russia, the Middle East, South Africa, Australia and NewZealand. The Schering AG agreement provides for a combination of upfront,regulatory approval and performance-based milestone payments, as well as ashare of revenue through transfer price payments for drug product which will besupplied by us. The transfer price will vary based upon net sales of Plenaxis®,as well as pricing and reimbursement levels, in the licensed territory. Themilestone payments to us may total over time up to approximately $90.0 million,depending upon Euro/U.S. Dollar conversion rates, and the attainment ofspecified annual sales levels which the majority of the milestone payments areconditioned upon. The overall financial terms were intended, depending uponperformance levels, to approximate an equal sharing of the net present value ofthe product. We received a $2.0 million signing payment from Schering AG duringthe second quarter of 2004, which we are recognizing into revenues through2016, which represents the remaining patent life of Plenaxis® inEurope. As of March 31, 2005,

 

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we had recognized approximately $153,000 of revenues under thisagreement. Schering AG has the right to terminate the agreement in the eventthat the product is not approved in Germany within a specified timeframe or ifthe terms of such approval do not meetcertain criteria in the agreement defining a commercially acceptable label.

 

We also arecontinuing to evaluate potential licensing opportunities for the developmentand commercialization of Plenaxis® in Japan and other ex-U.S. territories notcovered by the Schering AG agreement. We expect to actively pursue suchopportunities following approval of a commercially acceptable label in Germany.We cannot assure investors that we will be able to enter into additionalcollaboration agreements on favorable terms, or at all.

 

In June 2003, we initiated theregulatory submission process in the European Union, submitting a marketingauthorization application, or MAA, in Germany seeking approval to marketPlenaxis® for the hormonal management of prostate cancer whereandrogen suppression is appropriate. We recently submitted a response to acommunication and requests received from theGerman Federal Institute for Drugs and Medical Devices, or BfArM, regarding theMAA. As previously reported, we discussed with our partner, Schering AG,possible responses to the BfArM, and their potential impact on the scope of thelabel for Plenaxis®should it be approved in Germany. ScheringAG identified specific issues for us to address in order to obtain a label thatin Schering AG’s view, would meet the criteria for commercialization under ouragreement with Schering AG. We believe that our response adequately addressesthe issues identified by Schering AG, and we intend to continue our ongoinginteractions with the BfArM with the goal of achieving a commerciallyacceptable label under the Schering AG agreement. Assuming favorableaction by the German regulatory authorities granting marketing approval with acommercially acceptable label, we plan to seek, in collaboration with ScheringAG, additional European Union member state approvals through the MutualRecognition Procedure. However, we cannot assure investors whether or when suchregulatory action on our MAA will occur, or that any such action will be viewedas a viable commercial opportunity by Schering AG or will otherwise result inthe successful commercialization of Plenaxis® in Germany or in anyother country in the European Union.

 

Our research and development programs includeclinical programs in Alzheimer’s disease, non-Hodgkin’s lymphoma andandrogen-independent prostate cancer, as well as early stage discovery projectsand our Direct Select technology platform.

 

We began our clinical program for Apan, ourinvestigational compound for Alzheimer’s disease, in 2000. We have completed anormal volunteer, phase 1a dose escalation study of Apan and have identified amaximum tolerated dose, or MTD, in healthy volunteers. We are currentlyenrolling patients in a phase 1/2a, multiple dose study of Apan. An ongoingphase 1b study initiated during the second quarter of 2003, which is designedto determine the MTD of Apan in Alzheimer’s patients, continues to take longerthan originally anticipated due to the enrollment of cohorts at dose levelsthat are beyond the predicted MTD, which was based upon the phase 1a study, aswell as slower than expected patient accrual. In light of the significantanticipated development costs estimated for phase 2 and phase 3 studies, wewill seek to partner the Apan clinical program with respect to further developmentactivities beyond the current studies.

 

During the fourth quarter of 2003, weinitiated our first clinical trial for PPI-2458 evaluating an oral formulationin non-Hodgkin’s lymphoma patients who were no longer benefiting from othertherapies. In March 2004, the FDA placed this trial on clinical hold. In June 2004,we received clearance from the FDA, following its review of additionalnon-clinical data and our revised clinical plan, to resume clinical trials. Inlate 2004, we opened a new phase 1 clinical trial of PPI-2458 in non-Hodgkin’slymphoma patients. We have begun patient accrual in this trial and we expect toexpand the enrollment criteria of this study during the second quarter of 2005to include patients with solid tumors.  In addition, we intend to continue evaluatingthe potential utility of PPI-2458 for treating certain inflammatory andautoimmune disorders, including rheumatoid arthritis. In light of thesignificant anticipated development costs associated with the PPI-2458 clinicalprogram, we anticipate seeking a partner for this program as clinicaldevelopment advances.

 

As part of the ongoing evolution andenhancement of our discovery technologies, we have been focusing our researchefforts on developing a novel technology platform which we call Direct Select. Wehave made significant progress on the development of Direct Select,including solving many of the technicalchallenges associated with creating and screening ultra-large advancedcombinatorial chemistry libraries. We believe that Direct Selecttechnology, through the creation of these vast libraries

 

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of drug-like molecules, will allow us to more rapidly and directlyidentify lead compounds with a higher affinity and specificity than hasroutinely been possible using traditional drug discovery methods. The enhancedcapabilities of these libraries lie in their sheer size, up to 10,000 times thesize of compound libraries typically used in the pharmaceutical industry. We intend to seek partneringopportunities with respect to our Direct Select discovery platform during 2005,and may also use this technology in identifying new compounds for internaldevelopment.

 

Most of our expenditures to date have beenfor drug development, commercialization activities and for general andadministrative expenses.

 

Due primarily to the costs associated withthe commercialization of Plenaxis® in the United States and itscontinued development, as well as other research and development and general andadministrative expenses, we had a net operating loss for the three months endedMarch 31, 2005. Our accumulated deficit as of March 31, 2005 wasapproximately $256.2 million. We expect to continue to have net operatinglosses through at least 2006.

 

We do not expect to generate operating incomeunless sales of Plenaxis®****in the UnitedStates increase significantly and we successfully carry out the followingadditional key elements of our operating plan: gain a commercially acceptableapproval of Plenaxis® in the European Union; reduce, throughcollaboration arrangements or otherwise, our net expenses related to our Apanand PPI-2458 clinical programs; and receive significant revenues throughresearch collaborations involving our Direct Select technology platform. Atthis time we are not providing estimates of future Plenaxis® salesand we do not anticipate providing guidance on future results. Moreover, wecannot assure investors that sales of Plenaxis® in the United Stateswill increase significantly, that we will be able to gain a commerciallyacceptable approval of Plenaxis® outside of the United States, orthat we will be able to enter into appropriate collaborative arrangementsrelating to our clinical programs and technology platform in a timely mannerand on favorable terms, if at all.****If we are ableto successfully carry out the key elements of our operating plan, we believethat our existing cash and investments will be sufficient to meet our workingcapital and capital expenditure needs through approximately the second quarterof 2006. If we are able to successfully carry out the key elements of ouroperating plan, we may be able, without obtaining additional funding, tocontinue to meet our working capital and capital expenditure needs beyond thattime, although we cannot provide any assurances as to if or for how long wewould be able to do so. If we are unable to successfully carry out the keyelements of our operating plan, we will have to obtain additional sources offunding or significantly modify our plan, including by curtailing certainelements of our operations. We have no committed sources of capital and do notknow whether additional financing will be available when needed, or, ifavailable, that the terms will be favorable to us. If we are required to raisemoney in the future and we experience difficulties or are unable to do so, itcould become necessary for us to cease operations or seek protection understate or federal insolvency or bankruptcy laws.

 

At March 31, 2005, we had 176 full-timeemployees compared to 190 full-time employees at March 31, 2004.

 

**Critical Accounting Policies**

 

While our significant accounting policies aremore fully described in Note 2 to our condensed consolidated financialstatements appearing elsewhere in this report, we believe the followingaccounting policies to be critical:

 

*Use of Estimates.*We prepare our financial statements in accordance with accounting principlesgenerally accepted in the United States. These principles require that we makeestimates and use assumptions that affect the reporting of our assets and ourliabilities as well as the disclosures that we make regarding assets andliabilities and revenues and expenses that are contingent upon uncertainfactors as of the reporting date. Actual payments, and thus our actual results,could differ from our estimates.

 

*Revenue Recognition.*Wefollow the provisions of the Securities and Exchange Commission’s StaffAccounting Bulletin No. 104, *Revenue Recognition*.We recognize revenues from product sales in the period when the product isdelivered, provided there is persuasive evidence that an arrangement exists,the price is fixed or determinable and collection of the related receivable isreasonably assured. Revenues are recorded net of applicable allowances asprovision is made for estimated sales returns, rebates, distributor fees andother applicable discounts and allowances. Shipping and other distributioncosts are charged to cost of product sales.

 

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We prepare our provisions for sales returnsand allowances, rebates and discounts based primarily on estimates. Contractualallowances and rebates result primarily from sales under contracts withhealthcare providers, Medicaid programs and other government agencies. Ourpolicy for sales returns allows authorized distributors to return the productthree months prior to, and six months after, product expiration. Productshipped during 2004 had an initial approved shelf-life of 24 months withexpiration dates of February 2005 and June 2006. Product shippedduring the first quarter of 2005 also had a 24-month shelf-life with anexpiration date of June 2006. At the end of 2004, the FDA approved anextension of the shelf life of Plenaxis® to 36 months which will beapplied to all future commercial lots. The reserve for sales returns isdetermined by reviewing the history of returns for products with similarcharacteristics to Plenaxis®. We also utilize daily reportsitemizing sales to physicians and hospital pharmacies, obtained directly fromour authorized distributors, in order to analyze specific account orderingtrends. This data is reviewed to monitor product movement through the supplychain to identify remaining inventory that may result in chargebacks or salesreturns. We estimate that there was approximately $0.3 million of product atdistributors at March 31, 2005. The reserves are reviewed at eachreporting period and adjusted to reflect data available at that time. We hadaccrued approximately $0.3 million in sales return reserves and $0.2 million inother revenue reserves as of March 31, 2005. To the extent our estimatesof contractual allowances, rebates and sales returns are different fromactuals, we adjust the reserve which impacts the amount of product salesrevenue recognized in the period of the adjustment.

 

We currently provide substantially all of ourdistributors with payment terms of up to 120 days on purchases of Plenaxis®.Through March 31, 2005, payments have generally been made in a timelymanner.

 

We analyze our multiple element arrangementsto determine whether the elements can be separated and accounted forindividually as separate units of accounting in accordance with EITF No. 00-21,*Revenue Arrangements with MultipleDeliverables.* Nonrefundable upfront licensing fees and certainguaranteed, time-based payments that require continuing involvement in the formof development, manufacturing or other commercialization efforts by us arerecognized as licensing revenue ratably over the period under which we areobligated to perform those services.  Milestone payments are recognized aslicensing revenue or product sales when the performance obligations, as definedin the contract, are achieved. Performance milestones typically consist ofsignificant milestones in the development and/or commercialization of a productsuch as obtaining approval from regulatory agencies and the achievement oftargeted sales levels. Reimbursements of development costs are recognized aslicensing revenue as the related costs are incurred.

 

When the period over which a fee or paymentwill be recognized as revenue cannot be specifically identified from the contract,management estimates the deferral period based upon other critical factorscontained within the contract, including but not limited to patent life orcontract term.  We continually reviewthese estimates which could result in a change in the deferral period and mightimpact the timing and the amount of revenue recognized.

 

*Inventory.* Wevalue inventory at the lower of cost or market value. We determine cost usingthe first-in, first-out method. We analyze our inventory levels quarterly andwrite down inventory that has become obsolete, inventory that has a cost basisin excess of its expected net realizable value and inventory in excess ofexpected requirements, to cost of goods sold. Expired inventory is disposed ofand the related costs are written off. Ifactual market conditions are less favorable than that estimated by us,additional write-downs of existing inventory may be required in futureperiods. We classify any inventory thatwe estimate to be sold in the next twelve months as current with the remainingamount classified as long-term inventory.

 

*Impairment or Disposal of Long-Lived Assets*.Statement of Financial Accounting Standards No. 144, *Accountingfor the Impairment or Disposal of Long-Lived Assets,*or SFAS No. 144,requires that if the sum of the undiscounted future cash flows expected toresult from a company’s asset, net of interest charges, is less than thereported value of the asset, an asset impairment may be recognized in thefinancial statements if the reported value of the asset exceeds the fair valuedetermined by either a quoted market price, if any, or a value determined byutilizing a discounted cash flow technique. We evaluate our property, plant andequipment for impairment whenever indicators of impairment exist. The amount ofthe impairment to be recognized is calculated by subtracting the fair value ofthe asset from the reported value of the asset.

 

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We believe that the application of SFAS No. 144and the method used to determine the impairment of our property, plant andequipment involve critical accounting estimates because they are highlysusceptible to change from period to period and because they require managementto make assumptions about future cash flows, including residual values. Inaddition, we believe that had alternative assumptions been used, the impact ofrecognizing an impairment, if any, on the assets reported on our balance sheet,as well as our net loss, may have been material.

 

We reviewed our building for impairment as ofDecember 31, 2004. We have determined that the undiscounted sum of theexpected future cash flows from the building exceeded the recorded value of thebuilding. As a result, no impairment allowance was required in accordance withSFAS No. 144.

 

Management has discussed thedevelopment, selection and disclosure of these critical accounting policieswith the audit committee of our board of directors.

 

**Results of Operations**

 

**Three Months Ended March 31, 2005 Compared To Three Months Ended March 31, 2004**

 

Revenues for the three months ended March 31,2005 were approximately $0.9 million compared to approximately $0.5 million forthe corresponding period in 2004. Of these amounts, approximately $0.8 millionand $0.4 million, respectively, were related to sales of Plenaxis®. Theincrease in revenue was primarily due to the inclusion of only a partialquarter of Plenaxis® product sales in revenues for the three monthsended March 31, 2004, since the product was launched in late January. Forthe three months ended March 31, 2005, the remaining increase in revenueswas comprised of revenue amortization relating to a payment received fromSchering AG during the second quarter of 2004. Since the initial launch ofPlenaxis®, we have facedmany challenges that have had an adverse impact on the uptake of the product inthe market. These challenges have included the need to hirerepresentatives for open territories, repositionour marketing campaign to educatephysicians about the product’s indication and differentiate the appropriatepatient population, and overcomephysician uncertainty and concerns over reimbursement. Our actualrevenues from sales of Plenaxis® in the United States willsubstantially depend upon our ability to successfully overcome thesechallenges. Other sources of revenues during 2005 and thereafter may be frompotential payments under our agreement with Schering AG, and potential paymentsunder other future corporate collaborations relating to Plenaxis®,our clinical programs and our technology platform, if consummated. The amountand timing of these other potential sources of revenues will depend on thetiming and scope of regulatory approvals in the European Union, as well as thesuccess of our clinical programs and technology platform and our ability toenter into partnerships with respect to these programs. We cannot assureinvestors as to if or when we will receive any such revenues.

 

Cost of goods sold for the three months endedMarch 31, 2005 was approximately $0.2 million compared to approximately$1.1 million for the corresponding period in 2004. In January 2004, webegan selling Plenaxis® and accordingly, began recognizing costsrelated to those sales. The majority of our cost of goods sold during the firstquarter of 2004 was related to a $1.0 million milestone payment which becamedue and payable upon the first commercial sale of Plenaxis® underour license agreement with Indiana University Advanced Research and TechnologyInstitute, Inc. Much of the raw material used to produce Plenaxis®(including the active pharmaceutical ingredient) was purchased prior to the FDAgranting approval for the commercial sale of Plenaxis® in the UnitedStates. Accordingly, these purchases were treated as research and developmentcosts and expensed as incurred. We anticipate that cost of goods sold willincrease as sales volume increases, but may decline as a percentage of revenueas fixed costs would be spread over a larger volume of sales. Cost of goodssold will increase as a percentage of revenue as previously expensed materialsare exhausted. We cannot predict when such previously expensed materials willbe exhausted, as this will be dependent upon the commercial success of Plenaxis®in both the United States and abroad.

 

We currently have several ongoing researchand development programs. Using industry estimates, typical drug developmentprograms may last for ten or more years and may cost hundreds of millions ofdollars to complete. As our programs progress, we assess the possibility ofentering into corporate collaborations to offset a portion or all of ourresearch and development costs. The ultimate success of our research anddevelopment programs and the impact of these programs on our operations andfinancial results cannot be accurately predicted and will depend, in largepart, upon the outcome and timing of many variables outside of our control.

 

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Members of our research and development teamtypically work on a number of projects concurrently. In addition, a substantialamount of our fixed costs such as facility depreciation, utilities and maintenanceare shared by our various programs. Accordingly, we have not and do not plan tospecifically identify all costs related to each of our research and developmentprograms. We estimate that during the three months ended March 31, 2005and during 2004, the majority of our research and development expensesconsisted of salaries, benefits, clinical trial costs, manufacturing costs andlab supplies related to our prostate cancer, Alzheimer’s disease andnon-Hodgkin’s lymphoma programs. The remaining research and development costsconsisted primarily of salaries, benefits and lab supplies for our otherresearch programs.

 

Research and development expenses for thethree months ended March 31, 2005 decreased 7% to approximately $7.3million, from approximately $7.9 million for the corresponding period in 2004. Thedecrease reflects reduced spending in our clinical and preclinical programs. Spendingon the Plenaxis® program increased approximately $0.7 million dueprimarily to higher development-related costs. Spending on our Apan programduring the three months ended March 31, 2005 decreased compared to thecorresponding period in the prior year due to lower preclinical expenses ofapproximately $0.5 million offset by an increase of approximately $0.1 millionof clinical expenses. Spending related to our PPI-2458 program during the threemonths ended March 31, 2005 decreased by approximately $0.7 million dueprimarily to reduced spending on preclinical studies. The remaining decreasewas due to lower personnel-related expenses of approximately $0.2 millionduring the three months ended March 31, 2005. Although we are unable topredict the precise level of spending on individual clinical programs due tothe uncertain nature of clinical development, we expect our research anddevelopment expenses in 2005 and thereafter to remain generally consistent with2004 levels, as we provide support for certain investigator-sponsored andFDA-mandated clinical studies of Plenaxis®, and continue ourclinical trials of PPI-2458 and Apan.

 

Sales and marketing expenses for the threemonths ended March 31, 2005 decreased 10% to approximately $3.7 million,from approximately $4.1 million for the corresponding period in 2004. Thedecrease resulted primarily from reduced marketing expenses of approximately$0.9 million due to various start-up costs such as the establishment of ourcommercial infrastructure, market research, advisory meetings, pricing andreimbursement consulting and other promotional expenses that occurred in thefirst quarter of 2004 in conjunction with the launch of Plenaxis® inthe United States. Offsetting this decrease, sales expenses increasedapproximately $0.5 million in the first quarter of 2005 compared to thecorresponding period of 2004 due to higher personnel-related costs. We promotePlenaxis® in the United States through our own marketing and salesteam. We expect our sales and marketing expenses in 2005 and thereafter willremain generally consistent with 2004 levels.

 

General and administrative expenses for thethree months ended March 31, 2005 decreased 34% to approximately $2.0million from approximately $3.0 million for the corresponding period in 2004. Thedecrease resulted primarily from lower personnel and business developmentexpenses during the three months ended March 31, 2005. We expect thatgeneral and administrative expenses will increase slightly for the remainder of2005 and thereafter. As described indetail in this report under Part II, Item 2. “Legal Proceedings,” in December 2004and January 2005, the Company and certain of its current and formerexecutive officers were named as defendants in three purported class actionsecurities lawsuits filed in the United States District Court for the Districtof Massachusetts. Management believes that the allegations against the Companyare without merit, and the Company intends to vigorously defend against theplaintiffs’ claims. As this litigation is in an initial stage, management isunable to predict its outcome or its ultimate effect, if any, on our financialcondition. However, we expect that the costs and expenses related to thislitigation may be significant. Our current director and officer liabilityinsurance policies (which, subject to the terms and conditions thereof, alsoprovide “entity coverage” for the Company for this litigation) provide that theCompany is responsible for the first $2.5 million of such costs and expenses. Ifwe are not successful in defending these actions, our business and financialcondition could be adversely affected.

 

Net interest income (expense) for the threemonths ended March 31, 2005 decreased $0.3 million to net interest expenseof approximately $0.1 million, from net interest income of approximately $0.2million for the corresponding period in 2004. The decrease in net interestincome (expense) was due primarily to the refinancing of the mortgage on ourfacility from a lower variable rate to a higher fixed rate and lower averagecash balances.

 

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At December 31, 2004, we had federal netoperating loss carryforwards of approximately $226.0 million and researchtax credits of approximately $7.3 million, that will expire in varying amountsthrough 2024, if not utilized. Utilization of net operating loss and tax creditcarryforwards will be subject to substantial annual limitations under theInternal Revenue Code of 1986, as amended. The annual limitations may result inthe expiration of the net operating loss and tax credit carryforwards beforefull utilization.

 

**Liquidity and Capital Resources**

 

To date, our operations and capitalrequirements have been financed primarily with the proceeds of public andprivate sales of common stock and preferred stock, payments received underresearch and development partnerships and collaborative agreements, investmentincome and revenues from product sales. We have no committed sources of capitaland do not know whether additional financing will be available when needed, or,if available, that the terms will be favorable to us.

 

At March 31, 2005, we had cash, cashequivalents and marketable securities of approximately $68.6 million andworking capital of approximately $64.0 million, compared to approximately $83.3million and $76.4 million, respectively, at December 31, 2004.

 

We expect to continue to have net operatinglosses through at least 2006. We do not expect to generate operating incomeunless sales of Plenaxis®****in the UnitedStates increase significantly and we successfully carry out the followingadditional key elements of our operating plan: gain a commercially acceptableapproval of Plenaxis® in the European Union; reduce, throughcollaboration arrangements or otherwise, our net expenses related to our Apanand PPI-2458 clinical programs; and receive significant revenues throughresearch collaborations involving our Direct Select technology platform. Atthis time we are not providing estimates of future Plenaxis® salesand we do not anticipate providing guidance on future results. Moreover, wecannot assure investors that sales of Plenaxis® in the United Stateswill increase significantly, that we will be able to gain a commerciallyacceptable approval of Plenaxis® outside of the United States, orthat we will be able to enter into appropriate collaborative arrangements relatingto our clinical programs and technology platform in a timely manner and onfavorable terms, if at all.****If we are ableto successfully carry out the key elements of our operating plan, we believethat our existing cash and investments will be sufficient to meet our workingcapital and capital expenditure needs through approximately the second quarterof 2006. If we are able to successfully carry out the key elements of ouroperating plan, we may be able, without obtaining additional funding, tocontinue to meet our working capital and capital expenditure needs beyond thattime, although we cannot provide any assurances as to if or for how long wewould be able to do so. If we are unable to carry out the key elements of ouroperating plan, we will have to obtain additional sources of funding orsignificantly modify our plan, including by curtailing certain elements of ouroperations. We have no committed sources of capital and do not know whetheradditional financing will be available when needed, or, if available, that theterms will be favorable to us. If we are required to raise money in the futureand we experience difficulties or are unable to do so, it could becomenecessary for us to cease operations or seek protection under state or federalinsolvency or bankruptcy laws.

 

For the three months ended March 31,2005, net cash of approximately $14.6 million was used in operating activities,compared to approximately $17.2 million used in operating activities during thethree months ended March 31, 2004. During the three months ended March 31,2005, our use of cash in operations was due principally to our net loss ofapproximately $12.3 million, inventory build of approximately $0.8 million andthe reduction in accounts payable and accrued expenses of approximately $2.7million, partially offset by depreciation of approximately $1.0 million, withthe remaining changes due to other working capital changes of approximately$0.2 million. Cash utilization will continue for 2005 and thereafter as wecontinue commercial activities for Plenaxis®, clinical trials forApan and PPI-2458, and our other research and development initiatives. Also,cash used for inventory purchases and accounts receivable build would beexpected to increase through the end of 2006 to support commercial sales ofPlenaxis® and purchase commitments under our manufacturing andsupply agreements. The actual amount of overall expenditures will depend onnumerous factors, including the timing of expenses and the timing and progressof our research, development and commercialization efforts.

 

Net cash provided by investing activities ofapproximately $47.0 million for the three months ended March 31, 2005consisted primarily of net sales or maturities of marketable securities of

 

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approximately $47.2 million.  This compares to net cash providedby investing activities of approximately $13.3 million for the correspondingperiod in 2004, which was also related primarily to net sales or maturities ofmarketable securities of approximately $13.5 million.

 

In July 2000, in connection with thepurchase, through our wholly owned real estate subsidiary, of our corporateheadquarters and research facility in Waltham, Massachusetts, the subsidiaryentered into an acquisition and construction loan agreement providing for up to$33.0 million in financing for the acquisition of, and improvements to, thefacility. As of March 31, 2005, approximately $31.8 million wasoutstanding under the loan agreement, as amended as described below. The loanis secured by the facility, together with all fixtures, equipment, improvementsand other related items, and by all rents, income or profits received by ourreal estate subsidiary, and is unconditionally guaranteed by us.

 

In June 2004, the acquisition andconstruction loan agreement was amended to extend the maturity date of the loanand modify certain other terms of the original agreement. Under the amendedloan agreement, on July 30, 2009 the principal amount then outstanding isdue and payable in full, subject to two one-year extension options which areexercisable at our election provided we are in compliance with certainfinancial covenants. The outstanding principal bears interest at a fixed rateof 5.95% through April 2009 and at a floating rate for the remainder ofthe term. Principal and interest are payable through a fixed monthly payment ofapproximately $207,000, with the principal portion being calculated using a 25-yearamortization schedule. The amended loan agreement also provides for certainadditional financial operating covenants, one of which was effectiveimmediately and the remainder of which will become effective as of December 31,2006. The covenant which was immediately effective is tested on a quarterly basisand requires that we maintain $25.0 million in unrestricted cash, cashequivalents and marketable securities. In the event that we are unable tosuccessfully carry out the key elements of our operating plan, we cannot assureinvestors that we will not default on our financial covenants under the loanagreement.

 

At December 31, 2004 we had provided avaluation allowance of approximately $110.7 million for our deferred taxassets. The valuation allowance represents the value of the deferred taxassets. Due to anticipated future operating losses, we believe that it is morelikely than not that we will not realize the net deferred tax assets in thefuture and we have provided an appropriate valuation allowance.

 

**Recent Accounting Pronouncements**

 

In December 2004, the FinancialAccounting Standards Board issued Statement of Financial Accounting Standards No. 123R,*Share-Based Payment – An Amendment of FASBStatements No. 123 and 95*, or SFAS No. 123R, whichrequires all companies to measure compensation cost for all share-basedpayments, including employee stock options, at fair value, and was originallyeffective for public companies for interim or annual periods beginning after June 15,2005.  In April 2005, the Securities and Exchange Commission amendedthe compliance dates for SFAS No. 123R to allow companies to implementSFAS No. 123R at the beginning of their next fiscal year, January 2006 forus. Generally, the approach in SFAS No. 123R is similar to the approachdescribed in Statement of Financial Accounting Standards No. 123, *Accounting for Stock-Based Compensation*. However, SFAS No. 123R requires all share-based payments to employees,including grants of employee stock options, to be recognized in the incomestatement based on their fair values.  Pro forma disclosure is no longeran alternative.  The adoption of SFAS No. 123R will have asignificant impact on our results of operations, although it will have noimpact on our overall financial position. In March 2005, the Securities andExchange Commission issued Staff Accounting Bulletin No. 107, or SABNo. 107, which expressed the views of the Commission regarding the interactionbetween SFAS No. 123R and certain rules and regulations of theCommission.  SAB No. 107provides guidance related to the valuation of share-based payment arrangementsfor public companies, including assumptions such as expected volatility andexpected term. We are evaluating SFAS No. 123R and SAB No. 107 and havenot yet determined the amount of stock option expense which will be incurred infuture periods.

 

In December 2004, the FinancialAccounting Standards Board issued Statement of Financial Accounting Standards No. 151,*Inventory Costs*, or SFAS No. 151.SFAS No. 151 requires abnormal amounts of inventory costs related toidle facility, freight handling and wasted material expenses to be recognizedas current period charges. Additionally, SFAS No. 151 requires thatallocation of fixed production overheads to the costs of conversion be based onthe normal capacity of the production facilities. The standard is effective forfiscal years beginning after June 15, 2005. We do not believe that theadoption of SFAS No. 151 will have a material impact on ourconsolidated financial statements.

 

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**Risk Factors that May AffectFuture Results**

 

*The risks and uncertainties described beloware not the only ones we face. Additional risks and uncertainties not presentlyknown to us or that are currently deemed immaterial may also impair our business,financial condition and results of operations. If any of these risks actuallyoccur, our business, financial condition and results of operations could bematerially adversely affected.*

 

**We have a history of losses and we may not beprofitable in the future.**

 

We cannotassure investors that we will be profitable in the future or, if we attainprofitability, that it will be sustainable. In November 2003, we receivedFDA approval to market Plenaxis® for the palliative treatment of menwith advanced symptomatic prostate cancer for whom other hormonal therapies arenot appropriate, who have refused surgical castration and who are experiencingone or more of a specific set of symptoms. All of our other product candidates are in the research or developmentstage. Sales of Plenaxis® began in January 2004 and have been significantly lower thanexpected. Prior to the launch ofPlenaxis®, we hadnever marketed or sold any products. Our marketing and selling efforts withregard to Plenaxis®may not be commercially successful, and we may be unable to successfullydevelop or market any other products in the future. To date, we have derivedsubstantially all of our revenues from payments under corporate collaborationand license agreements, and only recently generated revenues from productsales. Our current operating plan includes significant ongoing expenditures tosupport commercial sales of Plenaxis® in the United States, the ongoing pursuit of regulatory approval forPlenaxis® in theEuropean Union, the continuation of our clinical studies and the enhancement ofour core technologies, and for general and administrative purposes. As of March 31,2005, we had an accumulated deficit of approximately $256.2 million. We expect that we will continue to incursignificant operating losses at least through 2006, and cannot assure investorsthat such losses will not continue beyond 2006.

 

We do not expect to generate operating incomeunless sales of Plenaxis®****in the UnitedStates increase significantly and we successfully carry out the followingadditional key elements of our operating plan: gain a commercially acceptableapproval of Plenaxis® in the European Union; reduce, throughcollaboration arrangements or otherwise, our net expenses related to our Apanand PPI-2458 clinical programs; and receive significant revenues throughresearch collaborations involving our Direct Select technology platform. Atthis time we are not providing estimates of future Plenaxis® salesand we do not anticipate providing guidance on future results. Moreover, wecannot assure investors that sales of Plenaxis®****inthe United States will increase significantly, that we will be able to gain acommercially acceptable approval of Plenaxis® outside of the UnitedStates, or that we will be able to enter into appropriate collaborativearrangements relating to our clinical programs and technology platform in atimely manner and on favorable terms, if at all.****Wealso cannot assure investors that we will be successful in carrying out any ofthe elements of our operating plan or that we will ever become profitable.

 

**If we are unable to successfully carry outthe key elements of our operating plan, we would have to obtain additionalsources of funding or significantly modify our operating plan and could defaulton our financial covenants under our acquisition and construction loanagreement and be required to cease operations or seek protection under state orfederal insolvency or bankruptcy laws.**

 

If we are unable to successfully carry outthe key elements of our operating plan described in the immediately precedingrisk factor, we believe that our existing cash and investments will besufficient to meet our working capital and capital expenditure needs throughapproximately the second quarter of 2006. If we are able to successfully carryout the key elements of our operating plan described above, we may be able,without obtaining additional funding, to continue to meet our working capitaland capital expenditure needs beyond that time, although we cannot provide anyassurances as to if or for how long we would be able to do so. If we are unableto successfully carry out the key elements of our operating plan, we will haveto obtain additional sources of funding or significantly modify our operatingplan, including by curtailing certain elements of our operations. We have nocommitted sources of capital and do not know whether additional financing willbe available when needed, or, if available, that the terms will be favorable tous.

 

To date, our operations and capitalrequirements have been financed primarily with the proceeds of public andprivate sales of common stock and preferred stock, payments under research anddevelopment partnerships and collaborative agreements, investment income andrevenues from

 

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product sales. There can be no assurance that we will be able to sellany such securities, enter into additional partnerships and collaborativeagreements or borrow funds in the future at favorable terms, or at all. If weraise additional funds by issuing equity securities, further dilution toexisting stockholders will result. In addition, as a condition to givingadditional funds to us, future investors may demand, and may be granted, rightssuperior to those of existing stockholders. We may also be required to takeother actions, which may lessen the value of our common stock or dilute ourcommon stockholders, including borrowing money on terms that are not favorableto us. If we are required to raise money in the future and we experiencedifficulties or are unable to do so, it could become necessary for us to ceaseoperations or seek protection under state or federal insolvency or bankruptcylaws.

 

In addition, we recently amended theacquisition and construction loan agreement relating to our corporateheadquarters. As of March 31, 2005, approximately $31.8 million wasoutstanding under the amended loan agreement. The amended loan agreementprovides for certain additional financial operating covenants, one of which waseffective immediately and the remainder of which will become effective as of December 31,2006. The covenant which was immediately effective is tested on a quarterlybasis and requires that we maintain $25.0 million in unrestricted cash, cashequivalents and marketable securities. In the event that we are unable tosuccessfully carry out the key elements of our operating plan, we cannot assureinvestors that we will not default on our financial covenants under the loanagreement. To the extent that we are not able to comply with the financialcovenants of our loan agreement, we may be unable to borrow additional amountsand outstanding amounts may become due on an accelerated basis, which wouldadversely affect our liquidity and could result in us seeking protection understate or federal insolvency or bankruptcy laws.

 

**Our current business is substantiallydependent on the commercial success of Plenaxis**®**in both the United States and abroad. If Plenaxis**®**fails to achieve market acceptance, it may never becommercially successful and we would have insufficient funds to continue ouroperations as currently planned.**

 

The successof our current business is substantially dependent on the successfulcommercialization of Plenaxis® in the United States and abroad, including significantly increasingsales of Plenaxis® inthe United States. Plenaxis® is relatively new to the market in the United States and, we believe,continues to be somewhat unfamiliar to members of the medical community and topatients. In addition, the FDA’s approval of Plenaxis® is limited to use in a subset of advancedsymptomatic prostate cancer patients, and distribution of Plenaxis® will only be made in accordance with ourrisk management program, which includes physician enrollment in a prescribingprogram and a signed patient consent form regarding the risks and benefits ofthe therapy. Due to the potential risk of immediate-onset systemic allergicreactions, physicians must also monitor patients for 30 minutes following eachinjection of Plenaxis®.Prescribing physicians and patients may view these requirements as burdensomeor may recommend or choose alternative treatments that are more acceptable tothe doctor and/or the patient. Moreover, market acceptance will depend largelyon our ability to demonstrate, to the urology and oncology communities inparticular, the efficacy and safety of Plenaxis® as an alternative to current therapies orsurgical options. We must also continue to effectively differentiate, andeducate physicians on, the indicated patient population in order to ensure thatthe appropriate patients are identified for therapy and maximize the use andthe duration of use of Plenaxis® in those patients. We cannot be certain that Plenaxis® will provide benefits considered adequate byproviders of urology or oncology services or that enough providers will use theproduct to ensure its commercial success.

 

To date,sales of Plenaxis® since its initial launch in the United Statesin January 2004 have been significantly lower than expected. Many factorsmay continue to affect its market acceptance and commercial success in both theUnited States, and assuming approval, abroad, including:

 

•                                          the limited scope of the patient populationand the indication for which Plenaxis® was approved in the United States, and if approval is obtained outsideof the United States, the scope of the patient population and the indicationfor which Plenaxis®is so approved;

 

•                                          our ability to effectively differentiate, andeducate physicians on, the indicated patient population in order to ensure thatthe appropriate patients are identified for therapy and maximize the use andthe duration of use of Plenaxis® in those patients;

 

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•                                          our ability to continue to hire, train andretain qualified sales personnel to promote Plenaxis® in the United States;

 

•                                          the terms of the risk management programrequired by the FDA in connection with the approval of Plenaxis®, as well as any marketing restrictions thatmay be imposed by foreign regulatory authorities in connection with theapproval of Plenaxis®outside of the United States;

 

•                                          the product labeling and product insertrequired by the FDA, and, if approval is obtained outside of the United States,by foreign regulatory authorities;

 

•                                          the effectiveness of Plenaxis® and the potential side effects, including therisk of immediate-onset systemic allergic reactions, as compared to alternativetreatment methods;

 

•                                          the price of Plenaxis® and the availability of insurance or otherthird-party reimbursement, in particular Medicare in the United States, forpatients, and the rate of such reimbursement;

 

•                                          the extent and success of our marketing andsales efforts in the United States, and if approval is obtained outside of theUnited States, the extent and success of the marketing and sales efforts of ourcorporate collaborator(s);

 

•                                          the competitive features of Plenaxis® as compared to other products or treatmentoptions, including the frequency of administration of Plenaxis® as compared to other products, and doctorand patient acceptance of these features; and

 

•                                          unfavorable publicity concerning Plenaxis® or any similar products.

 

In addition,we must continually submit any labeling, advertising and promotional material forPlenaxis® tothe FDA for review and pre-approval. There is risk that the FDA will prohibituse of marketing materials in the form we desire. In addition, thepre-clearance process is time consuming and can delay the availability ofmarketing materials for use by our sales representatives promoting Plenaxis®.

 

Any or allof the factors identified above may continue to limit sales of Plenaxis® or cause sales of Plenaxis® to decline. If we are unable to achieve asignificant increase in Plenaxis® sales in the United States, we will have insufficient funds to continueour operations as contemplated by our current operating plan. In thosecircumstances, or if we are unsuccessful in carrying out the other key elementsof our operating plan, we would have to obtain additional sources of funding orscale back or cease operations. If we require additional funding and wereunable to obtain it, it could become necessary for us to seek protection understate or federal insolvency or bankruptcy laws.

 

**We may be unable to alter long-term physicianprescribing habits, which may impair our ability to capture or maintain marketshare for Plenaxis**®**.**

 

Alternativeproducts and medical treatments exist or are under development to treatadvanced symptomatic prostate cancer. For example, the FDA has approved severaldrugs for the treatment of hormonally responsive prostate cancer, and there areother treatment alternatives available, including radiation therapy andsurgery. Plenaxis® is indicated for the palliative treatment of men with advancedsymptomatic prostate cancer for whom other hormonal therapies are notappropriate, who have refused surgical castration and who are experiencing oneor more of a specific set of symptoms. Currentlyavailable hormonal therapies known as LHRH agonists may cause an initial surgeof testosterone, which in turn may result in an exacerbation of symptoms, orclinical flare, in some patients, particularly those that fall within thelabeled indication for Plenaxis®. In an attempt to mitigate the flare,physicians may prescribe additional drugs known as anti-androgens. Thisadditional therapy may be only partially effective in reducing some of theundesirable effects of the flare. LHRH agonists have precautionary labelingabout the hormone-induced flare and resulting worsening of clinical symptoms insome patients. However, agonist and anti-androgen therapies have been on themarket for many years and doctors may still prescribe them alone or incombination to advanced symptomatic prostate cancer patients, despite theseprecautions. Physicians may notprescribe Plenaxis®if we fail to educate them

 

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regarding the appropriate patients forPlenaxis®and/or are unable to change long-term prescribing habits. If, due to thesefactors, Plenaxis®does not achieve an appropriate level of market acceptance in its indicatedpatient population, it will never achieve commercial success and, as notedabove, we would not have sufficient funds to continue our operations ascurrently planned.

 

**We may be unable to either establish andmaintain marketing and sales capabilities or enter into corporatecollaborations necessary to successfully commercialize Plenaxis**®**or our other potential products.**

 

We havelimited experience in marketing or selling pharmaceutical products and havelimited marketing and sales resources. To achieve commercial success forPlenaxis®, orany other approved product, we must either rely upon our limited marketing andsales force and related infrastructure, or enter into arrangements with othersto market and sell our products. We are promoting Plenaxis® in the United States through our owndedicated marketing and sales team. Recruiting, training and retainingqualified sales personnel is therefore critical to our success. To date, wehave experienced significant turnover in both our sales management and fieldsales personnel. We believe that this turnover has had, and that the fieldsales personnel turnover will continue to have, an adverse impact on ourability to commercialize Plenaxis®. Competition for experienced and skilled marketing and sales personnelis intense, and we cannot assure investors that we will be able to continue toattract and retain a sufficient number of qualified individuals to successfullypromote Plenaxis®. Accordingly,we may be unable to establish and maintain marketing, sales and distributioncapabilities necessary to gain market acceptance for, and achieve significantlyincreased sales of, Plenaxis® in the United States.

 

In addition,establishing the expertise necessary to successfully market and sell Plenaxis®, or any other product, requires asubstantial capital investment. Our ability to make that investment and alsoexecute our current operating plan is dependent on numerous factors, including,as described above, gaining a commercially acceptable approval ofPlenaxis® in the European Union, reducing, through collaborationarrangements or otherwise, our net expenses related to our Apan and PPI-2458clinical programs, and receiving significant revenues through researchcollaborations involving our Direct Select technology platform. Accordingly, we cannot assure investors thatwe will have the funds to successfully commercialize Plenaxis® or any other potential product in the UnitedStates or elsewhere.

 

Moreover,Plenaxis®competes, and our product candidates in development are likely to compete, withproducts of other companies that currently have extensive and well-fundedmarketing and sales operations. Because these companies are capable of devotingsignificantly greater resources to their marketing and sales efforts, ourmarketing and sales efforts may not compete successfully against the efforts ofthese other companies.

 

We have alsoannounced our intention to market and sell Plenaxis® outside of the United States through one ormore marketing partners upon receipt of approval abroad. During 2004, weentered into an agreement with Schering AG, of Berlin, Germany, for thecommercialization of Plenaxis® in the field of prostate cancer across Europe, Russia, the Middle East,South Africa, Australia and New Zealand. We have limited influence over thedecisions made by Schering AG or the resources they devote to the marketing anddistribution of Plenaxis® products in their licensed territory, and we cannot assure investorsthat they will meet their obligations in this regard. Moreover, underthe terms of our agreement, Schering AG has the right to terminate in the eventthat the product is not approved in Germany within a specific timeframe or ifthe terms of such approval do not meetcertain criteria in the agreement defining a commercially acceptable label. Schering AG may also market certain productsthat compete with our products, which could limit potential revenues from productsales. Our marketing and distribution arrangement with Schering AG may not besuccessful, and we may not receive any revenues from it. Also, we cannot assureinvestors that we will be able to enter into marketing and sales agreements onacceptable terms, if at all, for Plenaxis® in territories not covered by the ScheringAG agreement, or for any of our other product candidates.

 

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**If our corporate collaborator reduces, delaysor terminates its support, we may be unable to successfully commercializePlenaxis**®**outside of the United States.**

 

We will depend upon our corporatecollaborator, Schering AG, to commercialize Plenaxis® in Schering AG’slicensed territory. Despite our collaborative relationship, we have limitedinfluence over the amount and timing of resources that Schering AG will devoteto Plenaxis®.   Even ifmarketing approval for Plenaxis® is obtained in Germany, we cannotassure investors that Schering AG will find that the label included as part ofsuch approval is commercially acceptable for purposes of our collaborationagreement or that it will proceed to commercialize Plenaxis® inGermany or elsewhere in its licensed territory.   In addition, Schering AG may terminate ourcollaboration agreement in various circumstances.   For example, Schering AG has the right toterminate in the event that the product is not approved in Germany within aspecified timeframe or if the terms of such approval do not meet certain criteria in the agreementdefining a commercially acceptable label. We cannot assure investorsthat Schering AG will not terminate our agreement.  Moreover, we cannot assure investors thatSchering AG or future collaborators will meet their obligations to us under ourcollaboration agreements with them.  IfSchering AG or another collaborator terminates its agreement with us or failsto perform, or delays performance of, its obligations, it could delay orotherwise adversely affect or prevent, the commercialization of Plenaxis®in certain regions outside of the United States.  As a result, we could be forced to devoteunforeseen additional resources to Plenaxis® commercializationoutside of the United States. We cannot assure investors that we would be ableto raise the necessary funds or negotiate additional corporate collaborationson acceptable terms, if at all, and in that event we could have to curtailplanned operations for the commercialization of Plenaxis® outside ofthe United States and would not be able to successfully carry out our currentoperating plan.  As described in thesecond risk factor in this section and elsewhere in this report, if we areunable to successfully carry out the key elements of our operating plan wewould need to raise additional capital and, if we were unable to do so, itcould become necessary for us to significantly curtail or cease operations orseek protection under state or federal insolvency or bankruptcy laws.

 

**Our potential revenues will diminish if wefail to obtain adequate reimbursement coverage from third-party payors forPlenaxis**®**.**

 

Thecontinuing efforts of government and third-party payors to contain or reducethe costs of health care may limit our commercial opportunity.  In some foreign markets, pricing andprofitability of prescription pharmaceuticals are subject to governmentcontrol.  In the United States, we expectthat there will continue to be federal and state proposals for similarcontrols.  In addition, managed careinitiatives in the United States will continue to put pressure on the pricingof pharmaceutical products. If government and other third-party payors do notprovide appropriate coverage and adequate reimbursement for Plenaxis®, physicians may not prescribe them and/orpatients may be unwilling to have them administered.

 

Our abilityto earn revenues from Plenaxis®, alone or with collaborators, may depend in part on the availability andlevels of reimbursement from:

 

**•**                                          government and health administrationauthorities, including Medicare and Medicaid;

 

**•**                                          private health insurers; and

 

**•**                                          other third-party payors.

 

In March 2005,we announced that the Centers for Medicare and Medicaid Services, or CMS, hadissued a final National Coverage Determination memorandum, or NCD, for Plenaxis®.  NCDs are issued by the Secretary of Health and Human Services for aparticular item or service if the Secretary determines that Medicare coveragefor the item or service should be defined on a nationwide basis.  CMS has approved Medicare coverage forPlenaxis® under thefollowing conditions:  the product mustbe administered to a patient meeting all of the criteria of the labeledindication; and the prescribing physician must be enrolled in the PLUS Program.  When used in accordance with the product’slabel, there would be no limitation on coverage regardless of the duration ofPlenaxis® therapy under theNCD.  However, local Medicare carriercoverage determinations were issued or proposed prior to the issuance of theNCD, which could potentially limit Plenaxis® reimbursement.  We are working with CMS to address theselocal coverage determinations, which we believe are inconsistent with the NCD,in an effort to ensure consistent nationwide reimbursement.  We cannot predict the availability ofcoverage or reimbursement

 

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for Plenaxis® by the local Medicare carriers until theselocal carrier determinations have been resolved.  In addition, we cannot predict theavailability of coverage or reimbursement for Plenaxis® by any other payor.  Third-party payors, including Medicare, areincreasingly challenging the prices charged for medical products and services.Government and other third-party payors increasingly are limiting both coverageand the level of reimbursement for drugs and, in some cases, refusing toprovide coverage for a patient’s use of an approved drug for purposes notapproved by the FDA.  Accordingly,third-party coverage may not be available to patients for Plenaxis®.

 

**We may experience pressure to lower the priceof Plenaxis**®**to remain competitive in light of new and/or proposed federallegislation.**

 

Due to theaverage patient age at the time of diagnosis and treatment, a substantialmajority of Plenaxis® patients are likely to be Medicare beneficiaries.  Federal legislation, enacted in December 2003,has altered the way in which physician-administered drugs covered by Medicareare reimbursed, generally leading to lower reimbursement levels.  Medicare reimbursement for Plenaxis®, as well as for other hormonal therapies forprostate cancer, was reduced by cuts implemented January 1, 2005.  Effective January 1, 2005, Medicarebegan to reimburse physicians for Plenaxis® administrations at 106% of the average salesprice, or ASP, for Plenaxis®.  Because physicians will receivea lower rate of reimbursement for Plenaxis® than that which they had become accustomedto during 2004, it is possible that some physicians may alter practice patternsand/or refer Medicare patients to hospital outpatient settings rather thancontinue to treat patients in-office and it is unclear at this time how such ashift in the marketplace dynamic might affect sales of Plenaxis®.  Itis also possible that payors other than Medicare may adopt an average salesprice reimbursement over time, and the effect of this on Plenaxis® sales is also unclear.

 

The newlegislation also creates opportunities for private entities to become involvedin the administration of the Medicare Part B drug benefit.  Among other things, the new legislation addeda competitive acquisition program, or CAP, for Part B-covered drugs,effective January 2006, to be administered primarily through privateentities.  This program will provide anoption for physicians to shift the financial risks and benefits of providing Part Bdrugs to third party “CAP vendors.” Increased privatization of the Medicare Part B drug benefit underthe new legislation may increase the number and leverage of private CAP vendorsattempting to negotiate price concessions from pharmaceuticalmanufacturers.  The effect that thisincreased privatization of Medicare and shift in financial relationships mayhave on Plenaxis® sales is unclear.

 

It ispossible that Plenaxis® may not be available under the CAP program as part of the program’sinitial 2006 implementation.  Under draftregulations proposed by CMS, as an alternative to covering allphysician-administered Part-B drugs initially, CMS may choose to phase in theCAP program with a subset of oncology products which may or may not includePlenaxis®.  Regardless, Plenaxis® should continue to be available tophysicians under the ASP reimbursement system described above.  It is unclear what the impact will be onPlenaxis® sales andrevenues in the event that Plenaxis® is not available through CAP vendors in the initial program roll-out.

 

While thenew law does not require manufacturers to offer discounts to CAP vendors, it ispossible that future legislation may make tools such as formularies availableto such CAP vendors to enhance their negotiating positions with manufacturers,the Part B drug benefit may be rolled into the Part D drug benefit,or the government may be given the authority to mandate discounts to Medicare Part B(much like it does with Medicaid).  Thenew law contains triggers for Congressional consideration of cost containmentmeasures for Medicare in the event Medicare cost increases exceed a certainlevel.  These cost containment measurescould include some sorts of limitations on prescription drug prices.

 

Additionally,the new law provides for expanded Medicare coverage for prescription drugs notcovered previously by Medicare beginning in 2006.  This change may impact physiciandecision-making with respect to self-administered drugs that were not coveredpreviously and may compete directly or indirectly with Plenaxis®.

 

Any or allof these issues may create pressure to lower the price of Plenaxis® in order to be or remain competitive in thechanging marketplace.  It is unclear towhat extent, if any, Plenaxis® sales would increase or decrease in response to price changes.

 

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**As Plenaxis**®**is used commercially, unanticipated side effects oradverse reactions could occur that could result in additional regulatorycontrols and reduced sales.**

 

Duringresearch and development, the use of pharmaceutical products, such as Plenaxis®, is limited principally to clinical trialpatients under controlled conditions and under the care of expert physicians.The widespread commercial use of Plenaxis® could produce unanticipated or undesirableside effects that have not been evident in our clinical trials.  In addition, in patients who take multiplemedications, drug interactions could occur that can be difficult topredict.  These events, among others,could result in the imposition of additional regulatory controls that couldlimit the circumstances under which Plenaxis® is prescribed or even lead to the withdrawalof the product from the market.  Due tothe occurrence of immediate-onset systemic allergic reactions in patientstreated with Plenaxis®during clinical trials, Plenaxis® has been approved under regulations concerning drugs with certain safetyprofiles, under which the FDA has established special restrictions to ensuresafe use.  Post-marketing phase 4 studiesare also required to evaluate the incidence of and further characterize suchallergic reactions to the extent they occur. Any violation of these special restrictions or unfavorable findings inthe phase 4 studies or from the overall commercial experience with the drugcould lead to the imposition of further restrictions or withdrawal of Plenaxis® from the market.

 

**If we fail to develop and maintain ourrelationships with third-party manufacturers, or if these manufacturers fail toperform adequately, we may be unable to continue to market and sell Plenaxis**®**or to develop and commercialize any of our productcandidates.**

 

Our abilityto conduct, or continue to conduct, clinical trials and commercialize Plenaxis® or other product candidates, will depend inpart on our ability to manufacture, or arrange for third-party manufacture of,our products on a large scale, at a competitive cost and in accordance withregulatory requirements. We must establish and maintain a commercial scaleformulation and manufacturing process for each of our potential products forwhich we seek marketing approval. We or third-party manufacturers may encounterdifficulties with these processes at any time that could result in delays inclinical trials, regulatory submissions or in the commercialization ofpotential products.

 

We have noexperience in large-scale product manufacturing, nor do we have the resourcesor facilities to manufacture all products for use in humans. We will continueto rely on contract manufacturers to produce Plenaxis® and other compounds for later-stagepreclinical, clinical and commercial purposes for a significant period of time.Third-party manufacturers may not be able to meet our needs as to timing, quantityor quality of materials. If we are unable to contract for a sufficient supplyof needed materials on acceptable terms, or if we encounter delays ordifficulties in our relationships with manufacturers, our clinical trials maybe delayed, thereby preventing or delaying the submission of product candidatesfor, or the granting of, regulatory approval and the commercialization of ourpotential products. Any such delays may lower our revenues and delay or preventour attaining or maintaining profitability.

 

If thethird-party manufacturers upon which we rely fail to meet our needs forclinical or commercial supply, we may be required to supplement ourmanufacturing capacity by building our own manufacturing facilities. This wouldrequire substantial expenditures.  Also,we would need to hire and train significant numbers of employees to staff a newfacility. If we are required to build our own facility, we may not be able todevelop sufficient manufacturing capacity to produce drug materials forclinical trials or commercial use in a timely manner, if at all.

 

In addition,we and the third-party manufacturers that we use must continually adhere tocurrent good manufacturing practice requirements enforced by the FDA throughits facilities inspection program. Foreign regulatory authorities may also inspect our third-partymanufacturers as a condition of approval. In complying with these regulations and foreign regulatory requirements,we and any of our third-party manufacturers will be obligated to expend time,money and effort in production, record-keeping and quality control to assurethat our potential products meet applicable specifications and otherrequirements.  If we or any of ourthird-party manufacturers fail to comply with these requirements, we may besubject to regulatory sanctions, manufacturing delays, or the facilities couldbe shut down.

 

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Any of thesefactors could prevent, or cause delays in, obtaining regulatory approvals forour potential products, and the manufacturing, marketing or selling of Plenaxis®, and could also result in significantlyhigher operating expenses.

 

**The loss or failure of any of our third-partymanufacturers could substantially delay or impair our sale or continued sale ofPlenaxis**®**.**

 

For eachstage of Plenaxis® production we have relied, and expect in the near term to continue torely, on a single source third-party manufacturer.  Accordingly, the loss of one or more of thesethird-party suppliers for any reason, including as a result of fire, terrorism,acts of God or insolvency or bankruptcy, could delay or impair substantiallyour sale or continued sale of Plenaxis® or result insubstantial delays in, or substantially impair our ability to complete, foreignregulatory submissions or reviews. Such delays or impairment, and theassociated costs and expenses, may lower our potential revenues and delay orprevent our attaining profitability. While we continue to evaluate, as part ofour strategic planning process, the possibility of a second source of supply atcertain stages of Plenaxis® production, the number of qualified alternative suppliers is limited,and we cannot assure investors that we will be able to locate alternativesuppliers or negotiate second supply agreements on reasonable terms.Furthermore, the process of engineering a new supplier’s facility for theproduction of Plenaxis® and obtaining the necessary FDA and foreign regulatory approval of thefacility would require substantial lead-time and could be extremely costly. Wecannot assure investors that we will not lose one or more of our suppliers, orthat in such event we would be readily able to continue the commercializationof Plenaxis® withoutsubstantial and costly delays.

 

**We are subject to extensive governmentregulation that increases our costs and could prevent us from selling Plenaxis**®**or our other potential products.**

 

Thedevelopment and sale of Plenaxis®, and our product candidates, is subject toextensive regulation by governmental authorities. Obtaining regulatory approvaltypically is costly and takes many years; maintaining regulatory approval alsorequires substantial resources.  Regulatory authorities, most importantly, the FDA, have substantial discretionto place on clinical hold or terminate clinical trials, delay, withhold orwithdraw registration and marketing approval in the United States, andeffectively mandate product recalls. Failure to comply with regulatoryrequirements may result in criminal prosecution, civil penalties, recall orseizure of products, total or partial suspension of production or injunction,as well as other actions as to Plenaxis®, our other potential products or against us.Outside the United States, we can market a product only if we receive marketingauthorization from the appropriate regulatory authorities. This foreignregulatory approval process includes all of the risks associated with the FDAapproval process, and may include additional risks.

 

To gainregulatory approval from the FDA and foreign regulatory authorities for thecommercial sale of any product, we must demonstrate in clinical trials, andsatisfy the FDA and foreign regulatory authorities as to, the safety andefficacy of the product.  If we develop aproduct to treat a long-lasting disease, such as cancer or Alzheimer’s disease,we must gather data over an extended period of time. There are many risksassociated with our clinical trials. For example, we may be unable to achievethe same level of success in later trials as we did in earlier ones.Additionally, data we obtain from preclinical and clinical activities aresusceptible to varying interpretations that could impede regulatory approval.Further, some patients in our prostate cancer, Alzheimer’s disease andnon-Hodgkin’s lymphoma programs have a high risk of death, age-related diseaseor other adverse medical events that may not be related to our products.  These events may affect the statisticalanalysis of the safety and efficacy of our products. If we obtain regulatoryapproval for a product, the approval will be limited to those diseases forwhich our clinical trials demonstrate the product is safe and effective.

 

In addition,many factors could delay or result in termination of our ongoing or futureclinical trials. For example, results from ongoing preclinical studies oranalyses could raise concerns over the safety or efficacy of a productcandidate.  In March 2004, the FDAplaced our phase 1 clinical trial of PPI-2458 on clinical hold.  Although we subsequently received clearance fromthe FDA to resume clinical testing of PPI-2458, we cannot assure investors thatthe FDA will not place this or other clinical trials on hold in thefuture.  A clinical trial may alsoexperience slow patient enrollment.  Forexample, our phase 1b trial of Apan in Alzheimer’s disease patients hasexperienced slow patient enrollment, which

 

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has delayed the progress of that trial.  A study could also be delayed due to lack ofsufficient drug supply.  Patients mayexperience adverse medical events or side effects, and there may be a real orperceived lack of effectiveness of, or of safety issues associated with, thedrug we are testing. Future governmental action or existing or changes in FDApolicies or precedents, may also result in delays or rejection of anapplication for marketing approval.  TheFDA has considerable discretion in determining whether to grant marketingapproval for a drug, and may delay or deny approval even in circumstances wherethe applicant’s clinical trials have proceeded in compliance with FDAprocedures and regulations and have met the established end-points of thetrials. Challenges to FDA determinations are generally time-consuming andcostly, and rarely, if ever, succeed. Although we received FDA approval to market Plenaxis® in the United States in November 2003, we can give no assurance thatwe will obtain marketing approval for any of our other product candidates.

 

Anyregulatory approval may be conditioned upon significant labeling requirementsand, as in the case of the FDA approval of Plenaxis®, marketing restrictions and post-marketingstudy commitments.  Such labeling andmarketing restrictions could materially adversely affect the marketability orvalue of a product, including Plenaxis®, resulting in decreased sales.  In such a case, we would not have sufficientfunds to continue operations as currently planned.

 

In addition,even after regulatory approval is obtained, our Company, product(s) and themanufacturing facilities for our product(s) will be subject to continual reviewand periodic inspection. Later discovery of previously unknown problems with aproduct, manufacturer or facility may result in restrictions on the product,the manufacturer or us, including withdrawal of the product from the market.The FDA stringently applies regulatory standards. Our manufacturing facilitieswill also be subject to FDA inspections for adherence to good manufacturingpractices prior to marketing clearance and periodically during the manufacturingprocess. Failure to comply can, among other things, result in fines, denial orwithdrawal of regulatory approvals, product recalls or seizures, operatingrestrictions, injunctions and criminal prosecution.  If there are any modifications to a product,further regulatory approval will be required.

 

For safetyreasons, Plenaxis® was approved by the FDA with a comprehensive risk managementprogram.  This program includeseducational outreach to patients and physicians regarding the risks and benefitsof Plenaxis®,restricted distribution of the product only to physicians enrolled in aprescribing registry, a system for collecting and reporting adverse events tothe FDA and auditing requirements to evaluate the effectiveness of the program.  We are also required to conduct several phase4 studies to evaluate the risk management program and the appropriate use ofthe drug in the indicated population. Under the regulations under which Plenaxis® was approved, the FDA has the authority topre-approve all promotional materials and has available to it an expeditedmarket withdrawal procedure if issues arise regarding the safe use of Plenaxis®.

 

The FDAcould determine that the risk management program is not effective and/or thatenhancements should be made.  Additionalrequirements imposed by the FDA could be unduly burdensome for the Company toimplement and could jeopardize our ability to support the further promotion ofPlenaxis®.  If approval for Plenaxis® is withdrawn, or if we otherwise determinethat we are not able to continue selling Plenaxis®, we would not have sufficient funds tocontinue operations as currently planned.

 

Our manufacturing, sales, promotion, andother activities following product approval are subject to regulation bynumerous regulatory authorities in addition to the FDA, including potentiallythe Federal Trade Commission, the Department of Justice and individual U.S.Attorney offices within the Department of Justice, CMS, other divisions of theDepartment of Health and Human Services, and state and local governments.  Any distribution of pharmaceutical samples tophysicians must comply with applicable rules, including the Prescription DrugMarketing Act.  Our sales, marketing andscientific/educational programs must comply with the anti-kickback provisionsof the Social Security Act, the False Claims Act, and similar state laws.  Our pricing and rebate programs must complywith pricing and reimbursement rules, including the Medicaid rebate requirementsof the Omnibus Budget Reconciliation Act of 1990 and the Veteran’s Health CareAct.  If products are made available toauthorized users of the Federal Supply Schedule of the General ServicesAdministration, additional laws and requirements apply.  All of our activities are potentially subjectto federal and state consumer protection and unfair competition laws.

 

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Depending on the circumstances, failure tomeet these applicable legal and regulatory requirements can result in criminalprosecution, fines or other penalties, injunctions, recall or seizure ofproducts, total or partial suspension of production, denial or withdrawal ofpre-marketing product approvals, private “qui tam” actions brought byindividual whistleblowers in the name of the government, or refusal to allow usto enter into supply contracts, including government contracts.

 

If we areunable to maintain FDA approval, obtain any foreign regulatory approval forPlenaxis®, orto obtain or successfully carry out the other elements of our operating plan,we would need to raise additional capital and, if we were unable to do so, itcould become necessary for us to cease operations or seek protection understate or federal bankruptcy laws.

 

**If we fail to meet the Nasdaq National Market’sminimum bid price continued listing standard our common stock may be delistedfrom the Nasdaq National Market.**

 

The marketprice of our common stock has declined substantially.  Since April 26, 2005, the closing bid price per share of our common stock on the NASDAQNational Market has been below $1.00. As of May 5, 2005, the closing bid price was $0.89.  If the closing bid price per share of ourcommon stock remains below $1.00 for 30 consecutive business days and does notequal or exceed $1.00 for 10 consecutive business days during the subsequent180 calendar day period, the Nasdaq Stock Market could take action seeking todelist our common stock from the Nasdaq National Market.  If at the end of the 180 calendar day period,we met the initial listing requirements of the Nasdaq SmallCap Market, otherthan its minimum bid price requirement, we would be permitted to list on theNasdaq SmallCap Market and would be afforded an additional 180 calendar dayperiod to meet the $1.00 per share minimum bid price requirement for continuedlisting on the Nasdaq SmallCap Market. Delisting of our common stock from the Nasdaq National Market, even ifit were listed and traded on the Nasdaq SmallCap Market, would likely result inreduced liquidity, thereby increasing the volatility of the trading price, ofour common stock, a loss of current or future coverage by certain analysts anda diminution of institutional investor interest.  It could also potentially cause a loss ofconfidence of corporate collaborators, contract manufacturers and ouremployees, which could adversely affect our business.

 

**We may have substantial exposure to productliability claims and may not have adequate insurance to cover those claims.**

 

Theadministration of drugs to humans, whether in clinical trials or commercially,can result in product liability claims whether or not the drugs are actually atfault for causing an injury.  As Plenaxis® is used more widely, the likelihood of anadverse drug reaction (both expected or unexpected) or unintended side effectwill increase.  Furthermore, Plenaxis® or our product candidates may cause, or mayappear to have caused, adverse side effects (including death) or potentiallydangerous drug interactions that we may not learn about or understand fully untilthe drug has been administered to patients for some time.

 

Productliability claims can be expensive to defend and may result in large judgmentsor settlements against us, which could have a negative effect on our financialperformance. The costs of product liability insurance have increaseddramatically in recent years, and the availability of coverage hasdecreased.  Although we carry insurancethat we regard as reasonably adequate to protect us from potential claims,there can be no assurance that we will be able to maintain our current productliability insurance at a reasonable cost, or at all.  Our former collaboration agreements included,and the agreements regarding the termination of those collaborations alsoinclude, an indemnification for liabilities associated with the development andcommercialization of Plenaxis®.  Our agreement with Schering AGcontains similar indemnification provisions. If a third party, including aformer collaborator, successfully sues us for any injury, or for indemnificationfor losses, there is no guarantee that the amount of the claim would not exceedthe limit of our insurance coverage. Further, a successful claim could result in the recall of Plenaxis®, or could reduce revenues from sales ofPlenaxis®.  Even if a product liability claim is notsuccessful, the adverse publicity and time and expense of defending such aclaim may interfere with our business.

 

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**We rely upon a limited number of specialtypharmaceutical distributors and specialty pharmacies for the distribution ofPlenaxis**®**in the United States.  The loss of one ofthem, or changes in their purchasing patterns, could impact sales of Plenaxis**®**, and potentially adversely affect our operatingresults.**

 

In theUnited States, we sell to a limited number of specialty distributors andpharmacies that we rely upon for the delivery of Plenaxis® to physicians and hospital pharmacies.  There are a relatively small number ofspecialty distributors and wholesalers who provide such services.  For the three months ended March 31,2005, sales to Oncology Therapeutics Network Joint Venture, L.P., PriorityHealthcare Corporation, ASD Specialty Healthcare, Inc., Cardinal Health108, Inc., and McKesson Specialty Distribution Services representedapproximately 32%, 24%, 19%, 14% and 11%, respectively, of our aggregate netproduct sales.  Consolidation or financial difficulties among our specialtypharmaceutical distributors and pharmacies could result in situations whichcould temporarily increase returns of Plenaxis® from such entities and /or cause theseentities to reduce their respective inventory levels by delaying purchases ofPlenaxis®.  In addition, these specialty distributors andpharmacies may increase or decrease purchase levels in anticipation of futureprice changes which may also cause an unexpected change in the level of tradeinventories that they would normally maintain. Although we have developed a plan to manage trade inventory levels ofPlenaxis®, this planmay not be effective.  If trade inventorylevels of Plenaxis®become too high, or if prescription growth of Plenaxis® is lower than expected by the trade,specialty distributors and pharmacies could reduce their orders for Plenaxis®, which could adversely affect our operatingresults.

 

Thesespecialty distributors and pharmacies must also distribute Plenaxis® only to physicians and hospital pharmacistsenrolled in our risk management program. There can be no assurance that these specialty distributors andpharmacies will adequately provide their services to either the end users or tous or that we could find additional outlets to distribute Plenaxis®.

 

**Because we depend on third parties to conductlaboratory testing and human clinical studies and assist us with regulatorycompliance, we may encounter delays in product development andcommercialization.**

 

We havecontracts with a limited number of research organizations to design and conductour laboratory testing and human clinical studies. If we cannot contract fortesting activities on acceptable terms, or at all, we may not complete ourproduct development efforts in a timely manner. To the extent we rely on thirdparties for laboratory testing and human clinical studies, we may lose somecontrol over these activities. For example, third parties may not completetesting activities on schedule or when we request them to do so. Inaddition, these third parties may conduct our clinical trials in a mannerinconsistent with regulatory requirements or otherwise in a manner that yieldsmisleading or unreliable data. This, or other failures of these third partiesto carry out their duties, could result in significant additional costs andexpenses and could delay or prevent the development and commercialization of ourproduct candidates.

 

**Many of our competitors have substantiallygreater resources than we do and may be able to develop and commercializeproducts that make our potential products and technologies obsolete ornon-competitive.**

 

Abiopharmaceutical company such as ours must keep pace with rapid technologicalchange and faces intense competition. We compete with biotechnology andpharmaceutical companies for funding, access to new technology, research andsales and marketing personnel, and in product research and development. Many ofthese companies have greater financial resources and more experience than we doin developing drugs, obtaining regulatory approvals, manufacturing, marketingand sales. We also face competition from academic and research institutions andgovernment agencies pursuing alternatives to our products and technologies. Weexpect that Plenaxis®, and all of our products under development, will face intensecompetition from existing or future drugs and other medical treatments. Inaddition, for each of our product candidates, we may face increasingcompetition from generic formulations or existing drugs whose active componentsare no longer covered by patents.

 

Ourcompetitors may:

 

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•                                          develop products that are more effective,have fewer side effects or cost less than our products;

 

•                                          successfully identify drug candidates ordevelop products earlier than we do;

 

•                                          obtain approvals from the FDA or foreignregulatory bodies more rapidly than we do; or

 

•                                          successfully market and sell products thatcompete with our products.

 

The success of our competitors in any ofthese efforts would adversely affect our ability to promote Plenaxis® and to develop and commercialize our productcandidates, and to ultimately attain and maintain profitability.

 

**If we are unable to obtain and enforce validpatents, we could lose any competitive advantage we may have.**

 

Our successwill depend in part on our ability to obtain patents and maintain adequateprotection of our technologies and potential products. If we do not adequatelyprotect our intellectual property, competitors may be able to use ourtechnologies and erode any competitive advantage we may have. For example, ifwe lose our patent protection for Plenaxis®, another party could produce and market thecompound in direct competition with us. Some foreign countries lack rules andmethods for defending intellectual property rights and do not protectproprietary rights to the same extent as the United States. Many companies havehad difficulty protecting their proprietary rights in foreign countries.

 

Patentpositions are sometimes uncertain and usually involve complex legal and factualquestions. We can protect our proprietary rights from unauthorized use by thirdparties only to the extent that our proprietary technologies are covered byvalid and enforceable patents or are effectively maintained as trade secrets.We currently own or have exclusively licensed 29 issued United States patents.We have applied, and will continue to apply, for patents covering both ourtechnologies and products as we deem appropriate. Others may challenge ourpatent applications or our patent applications may not result in issuedpatents. Moreover, any issued patents on our own inventions, or those licensedfrom third parties, may not provide us with adequate protection, or others maychallenge the validity of, or seek to narrow or circumvent, these patents.Third-party patents may impair or block our ability to conduct our business. Additionally,third parties may independently develop products similar to our products,duplicate our unpatented products, or design around any patented products wedevelop.

 

**If we are unable to protect our trade secretsand proprietary information, we could lose any competitive advantage we mayhave.**

 

In additionto patents, we rely on a combination of trade secrets, confidentiality,nondisclosure and other contractual provisions, and security measures toprotect our confidential and proprietary information. These measures may notadequately protect our trade secrets or other proprietary information. If thesemeasures do not adequately protect our rights, third parties could use ourtechnology, and we could lose any competitive advantage we may have. In addition,others may independently develop similar proprietary information or techniques,which could impair any competitive advantage we may have.

 

**If our technologies, processes or productsconflict with the patents or other intellectual property rights of competitors,universities or others, we could have to engage in costly litigation and beunable to commercialize those products.**

 

Ourtechnologies, processes, product or product candidates may give rise to claimsthat they infringe patents or other intellectual property rights of thirdparties.  A third party could force us topay damages, stop our use of these technologies or processes, or stop ourmanufacturing or marketing of the affected products by bringing a legal actionagainst us for infringement. In addition, we could be required to obtain alicense to continue to use the technologies or processes or to manufacture ormarket the affected products, and we may not be able to do so on acceptableterms or at all. We believe that significant litigation will continue in ourindustry regarding patent and other intellectual property rights. If

 

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we become involved in litigation, it couldconsume a substantial portion of our resources. Even if legal actions weremeritless, defending a lawsuit could take significant time, be expensive anddivert management’s attention from other business concerns.

 

**If third parties terminate our licenses, wecould experience delays or be unable to complete the development and commercializationof our potential products.**

 

We licensesome of our technology from third parties. Termination of our licenses couldforce us to delay or discontinue some of our development and commercializationprograms. For example, if Advanced Research and Technology Institute, Inc.,the assignee of Indiana University Foundation, terminated our license with themdue to a breach by us of the terms of that license, we could have todiscontinue the commercialization of Plenaxis®. We cannot assure investors that we would beable to license substitute technology in the future. Our inability to do socould impair our ability to conduct our business because we may lack thetechnology, or the necessary rights to technology, required to develop andcommercialize our potential products.

 

**We are a defendant in purported class actionsecurities lawsuits regarding the adequacy of our public disclosure which couldhave a material adverse affect on our financial condition.**

 

As describedin detail in this report under Part II, Item 1. “Legal Proceedings,” in December 2004and January 2005, the Company, Chairman and (now former) Chief ExecutiveOfficer Malcolm Gefter, President and (now former) Chief Operating OfficerKevin F. McLaughlin, Chief Financial Officer and Treasurer Edward C. English,and former President and Chief Operating Officer William K. Heiden, were namedas defendants in three purported class action securities lawsuits filed in theUnited States District Court for the District of Massachusetts.  The complaints generally allege securitiesfraud during the period from November 25, 2003 through December 6,2004.  Each of the complaints purports toassert claims under Sections 10(b) and 20(a) of the Securities andExchange Act of 1934 and Rule 10b-5 promulgated thereunder, and allegesthat the Company and the individually named defendants made materially falseand misleading public statements concerning the Company’s business andfinancial results, particularly statements regarding the commercialization ofPlenaxis®.  The complaints were consolidated into oneaction in April 2005.

 

Managementbelieves that the allegations against the Company are without merit, and theCompany intends to vigorously defend against the plaintiffs’ claims.  As this litigation is in an initial stage,management is unable to predict its outcome or its ultimate effect, if any, onthe Company’s financial condition. However, we expect that the costs and expenses related to thislitigation may be significant.  Ourcurrent director and officer liability insurance policies (which, subject tothe terms and conditions thereof, also provide “entity coverage” for theCompany for this litigation) provide that the Company is responsible for thefirst $2.5 million of such costs and expenses. Also, a judgment in or settlement of these actions could exceed ourinsurance coverage. If we are not successful in defending these actions, ourbusiness and financial condition could be adversely affected.  In addition, whether or not we aresuccessful, the defense of these actions may divert the attention of ourmanagement and other resources that would otherwise be engaged in running ourbusiness.

 

**Pharmaceutical companies have been the targetof lawsuits and investigations and there is no assurance that if we were to beinvolved in any such lawsuits or investigation, that our defense would besuccessful.**

 

Pharmaceuticalcompanies have been the target of lawsuits and investigations including, inparticular, claims asserting violations of the Federal False Claim Act,Anti-Kickback Act, the Prescription Drug Marketing Act or other violations inconnection with Medicare and/or Medicaid reimbursement, and claims under statelaws, including state anti-kickback and fraud laws. Public companies may alsobe the subject of certain other types of claims, including those related toenvironmental matters. There is no assurance that if we were to be involved inany such lawsuits or investigation, that we would be successful in defendingourselves or in asserting our rights.  Governmentinvestigations of these sorts of

 

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issues are typically expensive, disruptiveand burdensome, and generate negative publicity.  If our promotional activities were found tobe in violation of the law, we would likely face significant fines andpenalties, and would likely be required to change substantially our sales,promotion, grant and educational activities. In addition, we and our senior officers could be civilly or criminallyprosecuted, potentially resulting in our exclusion from participation ingovernment healthcare programs such as Medicare and Medicaid.

 

**If we lose our key personnel or are unable toattract and retain additional skilled personnel, we may be unable to pursue ourproduct development and commercialization efforts.**

 

We dependsubstantially on the principal members of our management and scientific staff,including Kevin F. McLaughlin, our President and Chief Executive Officer, MarcB. Garnick, M.D., our Executive Vice President and Chief Medical and RegulatoryOfficer, Richard W. Wagner, Ph.D., our Executive Vice President, DiscoveryResearch, and Michael J. Keavany, our Senior Vice President, Sales andMarketing. We do not have employment agreements with any of our executive officers.Any officer or employee can terminate his or her relationship with us at anytime and work for one of our competitors. The loss of these key individualscould result in competitive harm because we could experience delays in ourproduct research, development and commercialization efforts without theirexpertise.  For example, one of ourformer officers, who was primarily responsible for commercial operations,resigned as our President and Chief Operating Officer during the third quarterof 2004.  As a result, we were requiredto appoint a new head of commercialization in an expedited fashion.

 

Recruitingand retaining qualified scientific personnel to perform future research anddevelopment work also will be critical to our success. Competition for skilledpersonnel is intense and the turnover rate can be high. We compete withnumerous companies and academic and other research institutions for experiencedscientists. This competition may limit our ability to recruit and retainqualified personnel on acceptable terms. Failure to attract and retainqualified personnel would prevent us from continuing to develop our potentialproducts, enhancing our technologies and launching our products commercially.Our planned activities will require the addition of new personnel, includingmanagement and marketing and sales personnel, and the development of additionalexpertise by existing management personnel, in particular in the area ofproduct marketing and sales. The inability to attract and retain these people orto develop this expertise could prevent, or result in delays in, the marketingand sale of Plenaxis® or the research, development and commercialization of our productcandidates.

 

**We use hazardous chemicals and radioactiveand biological materials in our business and any claims relating to thehandling, storage or disposal of these materials could be time consuming andcostly.**

 

Our researchand development processes involve the controlled use of hazardous materials,including chemicals and radioactive and biological materials, which may posehealth risks. For example, the health risks associated with accidental exposureto Plenaxis®include temporary impotence or infertility and harmful effects on pregnantwomen. Our operations also produce hazardous waste products. We cannotcompletely eliminate the risk of accidental contamination or discharge fromhazardous materials and any resultant injury. Federal, state and local laws andregulations govern the use, manufacture, storage, handling and disposal of hazardousmaterials. Compliance with health and safety and environmental laws andregulations is necessary and expensive. Current or future health and safety andenvironmental regulations may impair our research, development or productionefforts. We may be required to pay fines, penalties or damages in the event ofnoncompliance or the exposure of individuals to hazardous materials.

 

From time totime, third-parties have also worked with hazardous materials in connectionwith our agreements with them. We have agreed to indemnify our present andformer collaborators in some circumstances against damages and otherliabilities arising out of development activities or products produced inconnection with these collaborations.

 

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**Changes in the securities laws andregulations have increased, and are likely to continue to increase, our costs.**

 

TheSarbanes-Oxley Act of 2002, which became law in July 2002, has requiredchanges in some of our corporate governance, securities disclosure andcompliance practices. In response to the requirements of that Act, the SEC andthe Nasdaq have promulgated new rules and listing standards covering avariety of subjects. Compliance with these new rules and listing standardshas increased our legal costs, and significantly increased our financial andaccounting costs, and we expect these increased costs to continue. Thesedevelopments may make it more difficult and more expensive for us to obtaindirector and officer liability insurance. Likewise, these developments may makeit more difficult for us to attract and retain qualified members of our boardof directors, particularly independent directors, or qualified executiveofficers.

 

**If we or our independent registered publicaccounting firm are unable to affirm the effectiveness of our internal controlover financial reporting in future years, the market value of our common stockcould be adversely affected.**

 

As directedby Section 404 of the Sarbanes-Oxley Act of 2002, the SEC adopted rules requiringpublic companies to include a report of management on the Company’s internalcontrol over financial reporting in their annual reports on Form 10-K thatcontains an assessment by management of the effectiveness of the company’sinternal control over financial reporting. In addition, the independentregistered public accounting firm auditing the Company’s financial statementsmust attest to and report on management’s assessment and on the effectivenessof the Company’s internal control over financial reporting.  Our independent registered public accountingfirm provided us with an unqualified report as to our assessment and theeffectiveness of our internal control over financial reporting as of December 31,2004, which report was included in our Annual Report on Form 10-K for theyear ended December 31, 2004. However, we cannot assure investors that management or our independentregistered public accounting firm will be able to provide such an assessment orunqualified report as of future year-ends as required by Section 404 ofthe Sarbanes-Oxley Act of 2002.  In thisevent, investors could lose confidence in the reliability of our financialstatements, which could result in a decrease in the market value of our commonstock.

 

**The market price of our common stock mayexperience extreme price and volume fluctuations.**

 

The marketprice of our common stock may fluctuate substantially due to a variety offactors, including, but not limited to:

 

•                                          our ability to successfully market and sellPlenaxis® in theUnited States;

 

•                                          the availability of reimbursement coveragefor Plenaxis® andchanges in the reimbursement policies of third-party insurance companies orgovernment agencies;

 

•                                          announcement of foreign regulatory approvalor disapproval of Plenaxis® and/or associated labeling requirements;

 

•                                          the willingness of our corporatecollaborator, Schering AG, to commercialize Plenaxis® in territories outside of the United Statesand the timing and success of that commercialization;

 

•                                          the loss of our corporate collaborator,Schering AG, failure or delay by our corporate collaborator in performing itsobligations or disputes with our corporate collaborator;

 

•                                          announcements regarding the possible delisting of ourcommon stock from the NASDAQ National Market;

 

•                                          failure or delay by third-party manufacturersin performing their supply obligations or disputes or litigation regardingthose obligations;

 

•                                          public concerns as to the safety of Plenaxis® or our competitors’ products;

 

•                                          our ability to enter into additional foreigncorporate collaborations for Plenaxis®, or United States or foreign corporate collaborations for our productcandidates, Apan and PPI-2458, and our Direct Select technology platform, andthe timing and terms of such collaborations;

 

•                                          the success rate of our discovery efforts,particularly utilizing our Direct Select technology platform, and our clinicaltrials;

 

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•                                          the announcement of additional elements ofthe Plenaxis® PLUSProgram required by the FDA;

 

•                                          announcement of FDA or foreign regulatoryapproval or disapproval of any of our other product candidates and/orassociated labeling requirements;

 

•                                          announcements of technological innovations ornew products by us or our competitors;

 

•                                          adverse outcomes with respect to ongoingshareholder class actions against us;

 

•                                          developments or disputes concerning patentsor proprietary rights, including claims of infringement, interference orlitigation against us or our licensors;

 

•                                          announcements concerning our competitors, orthe biotechnology or pharmaceutical industry in general;

 

•                                          changes in government regulation of thepharmaceutical or medical industry;

 

•                                          actual or anticipated fluctuations in ouroperating results;

 

•                                          changes in financial estimates orrecommendations by securities analysts;

 

•                                          sales of large blocks of our common stock;

 

•                                          changes in accounting principles; and

 

•                                          the loss of any of our key scientific ormanagement personnel.

 

In addition,the stock market has experienced extreme price and volume fluctuations. Themarket prices of the securities of biotechnology companies, particularlycompanies like ours with limited product revenues and without earnings, havebeen highly volatile, and may continue to be highly volatile in the future.This volatility has often been unrelated to the operating performance ofparticular companies. In the past, securities class action litigation has oftenbeen brought against companies that experience volatility in the market priceof their securities. Whether or not meritorious, litigation brought against uscould result in substantial costs and a diversion of management’s attention andresources.

 

**We expect that our quarterly results ofoperations will fluctuate, and this fluctuation could cause our stock price todecline.**

 

Ourquarterly operating results have fluctuated in the past and are likely to do soin the future. These fluctuations could cause our stock price to decline. Someof the factors that could cause our operating results to fluctuate include:

 

•                                          expected or unexpected fluctuations inPlenaxis® revenues inthe United States;

 

•                                          the timing and level of expenses related tothe commercialization of Plenaxis® in the United States;

 

•                                          the timing and scope of approvals to marketPlenaxis® outside ofthe United States;

 

•                                          the timing and success of thecommercialization of Plenaxis® outside of the United States;

 

•                                          the timing and level of expenses related toour other research and clinical development programs; and

 

•                                          the timing of corporate collaborationsrelating to our other products and technologies resulting in revenues.

 

Due to thepossibility of fluctuations in our revenues and expenses, we believe thatquarter-to-quarter comparisons of our operating results are not a goodindication of our future performance.

 

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**If we engage in an acquisition, we will incura variety of costs and may never realize the anticipated benefits of theacquisition.**

 

Ifappropriate opportunities become available, we may attempt to acquirebusinesses, or acquire or in-license products or technologies, that we believeare a strategic fit with our business. We currently

 

have no commitments or agreements for anyacquisitions.  If we do undertake anytransaction of this sort, the process of integrating an acquired business, oran acquired or in-licensed product or technology, may result in unforeseenoperating difficulties and expenditures and may absorb significant managementattention that would otherwise be available for the ongoing development of ourbusiness. Moreover, we may fail to realize the anticipated benefits of anytransaction of this sort. To the extent we issue stock in a transaction, theownership interest of our stockholders will be diluted. Transactions of thiskind could also cause us to incur debt, expose us to future liabilities andresult in expenses related to goodwill and other intangible assets.

 

**Anti-takeover provisions in our charter andby-laws, our rights agreement and certain provisions of Delaware law may makean acquisition of us more difficult, even if an acquisition would be beneficialto our stockholders.**

 

Provisionsin our certificate of incorporation and by-laws may delay or prevent anacquisition of us or a change in our management. Also, because we areincorporated in Delaware, we are governed by the provisions of Section 203of the Delaware General Corporation Law, which may prohibit or delay largestockholders, in particular those owning 15% or more of our outstanding votingstock, from merging or combining with us. In addition, the rights issued underour rights agreement may be a substantial deterrent to a person acquiring 10%or more of our common stock without the approval of our board of directors.These provisions in our charter and by-laws, rights agreement and underDelaware law could reduce the price that investors might be willing to pay forshares of our common stock in the future and result in the market price beinglower than it would be without these provisions.

 

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**ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK****.**

 

The primary objective of our investmentactivities is to preserve principal while at the same time maximizing theincome we receive from our investments without significantly increasingrisk.  We have not entered into anyinstruments for trading purposes.  Someof the securities that we invest in may have market risk. This means that anincrease in prevailing interest rates may cause the principal amount of theinvestment to decrease. To minimize this risk in the future, we maintain ourportfolio of cash equivalents and short-term investments in a variety ofsecurities, including commercial paper, money market funds and government andnon-government debt securities. An immediate hypothetical 100 basis pointincrease in interest rates would have resulted in an approximate $0.1 milliondecrease in the fair value of our investments as of March 31, 2005.  The same hypothetical increase in interestrates as of December 31, 2004 would have resulted in an approximate $0.2million decrease in the fair value of our investments.  Due to the conservative nature and relativelyshort duration of our investments, interest rate risk is mitigated. As of March 31,2005, approximately 95% of our total investments will mature or reset in oneyear or less, with the remainder maturing in less than two years.

 

In connection with the purchase of our newfacility in July 2000, our wholly owned real estate subsidiary executed anacquisition and construction loan agreement that provided for up to$33.0 million in borrowings at a floating interest rate indexed to 30-dayLIBOR.  In July 2003, we exercisedthe first of two one-year extension options extending the maturity date of theloan until July 30, 2004.  Inconnection with this extension, the subsidiary entered into an interest ratecap agreement which limited exposure to interest rate increases above a certainthreshold through July 30, 2004.

 

In June 2004, the acquisition andconstruction loan agreement was amended to extend the maturity date of the loanand modify certain other terms of the original agreement.  Under the amended loan agreement, on July 30,2009 the principal amount then outstanding is due and payable in full, subjectto two one-year extension options which are exercisable at our electionprovided we are in compliance with certain financial covenants.  The outstanding principal bears interest at afixed rate of 5.95% through April 2009 and at a floating rate for theremainder of the term.  Principal andinterest are payable through a fixed monthly payment of approximately $207,000,with the principal portion being calculated using a 25-year amortizationschedule.  The amended loan agreementalso provides for certain additional financial operating covenants, one ofwhich was effective immediately and the remainder of which will becomeeffective as of December 31, 2006. The covenant which was immediately effective is tested on a quarterlybasis and requires that we maintain $25.0 million in unrestricted cash, cashequivalents and marketable securities. Because of this amendment to the loan agreement, we do not believe thatthere is material interest rate risk exposure with respect to the loanfacility.

 

**ITEM 4.  CONTROLS AND PROCEDURES****.**

 

*(a)*                               *DisclosureControls and Procedures*.

 

The Company’s management, with theparticipation of our chief executive officer and chief financial officer, hasevaluated the effectiveness of the Company’s disclosure controls and procedures(as defined in Rules 13a-15(e) or 15d-15(e) under the SecuritiesExchange Act of 1934, as amended (the “Exchange Act”)) as of March 31,2005.  Based on such evaluation, ourchief executive officer and chief financial officer have concluded that, as of March 31,2005, the Company’s disclosure controls and procedures were effective inensuring that information required to be disclosed by the Company in thereports that it files or submits under the Exchange Act is recorded, processed,summarized and reported, on a timely basis, and is accumulated and communicatedto the Company’s management, including the Company’s chief executive officerand chief financial officer, as appropriate to allow timely decisions regardingrequired disclosure.

 

*(b)**                               Changesin Internal Control Over Financial Reporting*.

 

There have not been any changes in theCompany’s internal control over financial reporting (as such term is defined inRules 13a-15(f) and 15d-15(f) under the Exchange Act) during thethree months ended March 31, 2005 that have materially affected, or arereasonably likely to materially affect, the Company’s internal control overfinancial reporting.

 

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**PART II. OTHER INFORMATION**

 

**ITEM 1.  LEGAL PROCEEDINGS**.

** **

In December 2004 and January 2005,the Company, Chairman and (now former) Chief Executive Officer Malcolm Gefter,President and (now former) Chief Operating Officer Kevin F. McLaughlin, ChiefFinancial Officer and Treasurer Edward C. English, and former President andChief Operating Officer William K. Heiden, were named as defendants in threepurported class action securities lawsuits filed in the United States DistrictCourt for the District of Massachusetts. Those purported class actions are captioned Katz v. PraecisPharmaceuticals Inc., Malcolm Gefter, Kevin McLaughlin, Edward English andWilliam K. Heiden, Civil Action No. 04-12581-GAO (filed December 9,2004), Schwartz v. Praecis Pharmaceuticals Inc., Malcolm Gefter, KevinMcLaughlin, Edward English and William K. Heiden, Civil Action No. 04-12704-REK(filed December 27, 2004) and Bassin v. Praecis Pharmaceuticals Inc.,Malcolm L. Gefter, Ph.D., Kevin F. McLaughlin, Edward C. English and William K.Heiden, Civil Action No. 05-10134-GAO (filed January 21, 2005).  The complaints generally allege securitiesfraud during the period from November 25, 2003 through December 6,2004.  Each of the complaints purports toassert claims under Sections 10(b) and 20(a) of the Securities andExchange Act of 1934 and Rule 10b-5 promulgated thereunder, and allegesthat the Company and the individually named defendants made materially falseand misleading public statements concerning the Company’s business andfinancial results, particularly relating to statements regarding the commercializationof Plenaxis®.

 

On February 7, 2005, a motion was filedto consolidate the Katz, Schwartz and Bassin actions andto appoint lead plaintiffs and lead counsel. On February 18, 2005, the Company and the individual defendantsfiled a brief response to that motion, reserving their rights to challenge theadequacy and typicality, among other things, of the proposed lead plaintiffs inconnection with class certification proceedings, if any.  On April 13, 2005, the Court entered anOrder granting the plaintiffs’ motion to consolidate the three actions (as wellas each case that relates to the same subject matter that may be subsequentlyfiled in or transferred to the United States District Court for the District ofMassachusetts), appoint lead plaintiffs and approve such plaintiffs’ selectionof co-lead counsel.  The consolidatedactions are captioned IN RE PRAECIS PHARMACEUTICALS, INC. SECURITIESLITIGATION, Civil Action No. 04-12581-GAO.  At this time, plaintiffs have not specifiedthe amount of damages they are seeking in the actions.

 

Management believes that the allegationsagainst the Company are without merit, and the Company intends to vigorouslydefend against the plaintiffs’ claims. As this litigation is in an initialstage, management is unable to predict its outcome or its ultimate effect, ifany, on the Company’s financial condition. However, we expect that thecosts and expenses related to this litigation may be significant.  Our current director and officer liabilityinsurance policies (which, subject to the terms and conditions thereof, alsoprovide “entity coverage” for the Company for this litigation) provide that theCompany is responsible for the first $2.5 million of such costs andexpenses.  Also, a judgment in orsettlement of these actions could exceed our insurance coverage. If we are notsuccessful in defending these actions, our business and financial conditioncould be adversely affected.  Inaddition, whether or not we are successful, the defense of these actions maydivert the attention of our management and other resources that would otherwisebe engaged in running our business.

 

**ITEM 6. EXHIBITS**.

** **
| **Exhibit  Number** | ** ** | **Exhibit**                                                                                                        |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------|
| 3.1                 |       | Amended and Restated Certificate of  Incorporation (2)                                                             |
| 3.2                 |       | Third Amended and Restated By-Laws (5)                                                                             |
| 4.1                 |       | Specimen certificate representing shares of  common stock (1)                                                      |
| 4.2                 |       | Specimen certificate representing shares of  common stock (including Rights Agreement Legend) (3)             |
| 4.3                 |       | Rights Agreement between the Registrant and  American Stock Transfer & Trust Company, as Rights Agent (4) |
| 4.4                 |       | Form of Certificate of Designations of  Series A Junior Participating Preferred Stock                    |

 

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| **Exhibit  Number** | ** ** | **Exhibit**                                                                                                                                                   |
|---------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       | (attached as Exhibit A to the Rights  Agreement filed as Exhibit 4.3 hereto) (4)                                                                    |
| 4.5                 |       | Form of Rights Certificate (attached  as Exhibit B to the Rights Agreement filed as Exhibit 4.3 hereto)  (4)                                   |
| 31.1                |       | Certification of Chief Executive Officer                                                                                                                      |
| 31.2                |       | Certification of Chief Financial Officer                                                                                                                      |
| 32.1                |       | Certification of Chief Executive Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906  of the Sarbanes-Oxley Act of 2002 |
| 32.2                |       | Certification of Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906  of the Sarbanes-Oxley Act of 2002 |

 

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(1)                                  Incorporatedby reference to Registration Statement on Form S-1 (Registration No. 333-96351)initially filed with the Securities and Exchange Commission on February 8,2000 and declared effective on April 26, 2000.

 

(2)                                  Incorporatedby reference to Quarterly Report on Form 10-Q for the quarter ended March 31,2000 filed with the Securities and Exchange Commission on June 7, 2000.

 

(3)                                  Incorporatedby reference to Registration Statement on Form S-1 (Registration No. 333-54342)initially filed with the Securities and Exchange Commission on January 26,2001 and declared effective on February 14, 2001.

 

(4)                                  Incorporatedby reference to Registration Statement on Form 8-A filed with theSecurities and Exchange Commission on January 26, 2001.

 

(5)                                  Incorporatedby reference to Annual Report on Form 10-K for the year ended December 31,2002 filed with the Securities and Exchange Commission on March 19, 2003.

 

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**SIGNATURE**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, as amended, theRegistrant has duly caused this report to be signed on its behalf by theundersigned hereunto duly authorized.

 
|                    |   | PRAECIS  PHARMACEUTICALS INCORPORATED |
|-------------------------|--------|---------------------------------------|
|                    |   |                                  |
|                    |   |                                  |
| Date:  May 6, 2005 |   | By                                    | /s/ Edward C. English |   |
|                    |   |                                  | Edward  C. English |
|                    |   |                                  | Chief  Financial Officer, Vice President, |
|                    |   |                                  | Treasurer  and Assistant Secretary |
|                    |   |                                  | *(Duly  Authorized Officer and Principal Financial  and Accounting Officer)* |

 

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# **EXHIBIT INDEX**

 
| **Exhibit  Number** | ** ** | **Exhibit**                                                                                                                                                                                |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |       | Amended and Restated Certificate of  Incorporation (2)                                                                                                                                     |
| 3.2                 |       | Third Amended and Restated By-Laws (5)                                                                                                                                                     |
| 4.1                 |       | Specimen certificate representing shares of  common stock (1)                                                                                                                              |
| 4.2                 |       | Specimen certificate representing shares of  common stock (including Rights Agreement Legend) (3)                                                                                          |
| 4.3                 |       | Rights Agreement between the Registrant and  American Stock Transfer & Trust Company, as Rights Agent (4)                                                                         |
| 4.4                 |       | Form of Certificate of Designations of  Series A Junior Participating Preferred Stock (attached as Exhibit A  to the Rights Agreement filed as Exhibit 4.3 hereto) (4) |
| 4.5                 |       | Form of Rights Certificate (attached  as Exhibit B to the Rights Agreement filed as Exhibit 4.3 hereto)  (4)                                                                |
| 31.1                |       | Certification of Chief Executive Officer                                                                                                                                                   |
| 31.2                |       | Certification of Chief Financial Officer                                                                                                                                                   |
| 32.1                |       | Certification of Chief Executive Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906  of the Sarbanes-Oxley Act of 2002                              |
| 32.2                |       | Certification of Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906  of the Sarbanes-Oxley Act of 2002                              |

 

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(1)          Incorporated byreference to Registration Statement on Form S-1 (Registration No. 333-96351)initially filed with the Securities and Exchange Commission on February 8,2000 and declared effective on April 26, 2000.

 

(2)          Incorporated byreference to Quarterly Report on Form 10-Q for the quarter ended March 31,2000 filed with the Securities and Exchange Commission on June 7, 2000.

 

(3)          Incorporated by referenceto Registration Statement on Form S-1 (Registration No. 333-54342)initially filed with the Securities and Exchange Commission on January 26,2001 and declared effective on February 14, 2001.

 

(4)          Incorporated byreference to Registration Statement on Form 8-A filed with the Securitiesand Exchange Commission on January 26, 2001.

 

(5)          Incorporated byreference to Annual Report on Form 10-K for the year ended December 31,2002 filed with the Securities and Exchange Commission on March 19, 2003.

 

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