<PAGE>

                                                                   EXHIBIT 10.12

                           VANDA PHARMACEUTICALS INC.
                              EMPLOYMENT AGREEMENT

            This Employment Agreement (this "Agreement") is entered into as of
February 10, 2005 by and between Mihael H. Polymeropoulos (the "Employee") and
Vanda Pharmaceuticals Inc., a Delaware corporation (the "Company").

            1. DUTIES AND SCOPE OF EMPLOYMENT.

                  (a) POSITION. For the term of his employment under this
Agreement ("Employment"), the Company agrees to employ the Employee in the
position of Chief Executive Officer. The Employee shall be subject to the
supervision of, and shall have such authority as is delegated to him by, the
board of directors of the Company (the "Board"), consistent with his position as
Chief Executive Officer. The Employee hereby accepts such employment and agrees
to undertake the duties and responsibilities normally inherent in such position
and such other duties and responsibilities as the Board shall from time to time
reasonably assign to him consistent with his position as Chief Executive
Officer.

                  (b) OBLIGATIONS TO THE COMPANY. During the term of his
Employment, the Employee shall devote his full business efforts and time to the
Company, During the term of his Employment, without the prior written approval
of the Board, the Employee shall not render services in any capacity to any
other person or entity and shall not act as a sole proprietor or partner of any
other person or entity or as a shareholder owning more than five percent of the
stock of any other corporation. The Employee shall comply with the Company's
policies and rules, as they may be in effect from time to time during the term
of his Employment.

                  (c) NO CONFLICTING OBLIGATIONS. The Employee represents and
warrants to the Company that he is under no obligations or commitments, whether
contractual or otherwise, that are inconsistent with his obligations under this
Agreement. The Employee represents and warrants that he will not use or
disclose, in connection with his employment by the Company, any trade secrets or
other proprietary information or intellectual property in which the Employee or
any other person has any right, title or interest and that his employment by the
Company as contemplated by this Agreement will not infringe or violate the
rights of any other person or entity. The Employee represents and warrants to
the Company that he has returned all property and confidential information
belonging to any prior employers.

            2. CASH AND INCENTIVE COMPENSATION.

                  (a) SALARY. The Company shall pay the Employee as compensation
for his services a base salary at a gross annual rate of not less than $362,250.
Such salary shall be payable in accordance with the Company's standard payroll
procedures. (The annual compensation specified in this Subsection (a), together
with any increases in such compensation that the Company may grant from time to
time, is referred to in this Agreement as "Base Compensation.")

                  (b) INCENTIVE BONUSES. The Employee shall be eligible to be
considered for an annual incentive bonus with a target amount equal to 40% of
his Base

<PAGE>

Compensation (the "Annual Target Bonus"). Such bonus (if any) shall be awarded
based on objective or subjective criteria established in advance by the Board.
The determinations of the Board with respect to such bonus shall be final and
binding.

                  (c) STOCK OPTIONS. Subject to the approval of the Board, the
Company shall grant the Employee an incentive stock option covering 918,400
shares of the Company's Common Stock. Such option shall be granted as soon as
reasonably practicable after the date of this Agreement The per-share exercise
price of such option shall be equal to the fair market value of one share of the
Company's Common Stock on the date of grant The term of such option shall be 10
years, subject to earlier expiration in the event of the termination of the
Employee's Employment. The Employee shall vest in 25% of the option shares after
the first 12 months of continuous service and shall vest in the remaining option
shares in equal monthly installments over the next three years of continuous
service. The option shall accelerate and become vested with respect to 100% of
the option shares if, after a Change in Control, (i) the Employee's Employment
is terminated by the Company for reasons other than Cause or (ii) the Employee's
Employment is terminated by the Employee for Good Reason. The grant of such
option shall be subject to the other terms and conditions set forth in the
Company's stock plan governing the option, and the Company's standard form of
stock option agreement.

                  For purposes of the foregoing:

                  "Change in Control" shall mean (i) the consummation of a
merger or consolidation of the Company with or into another entity, if persons
who were not stockholders of the Company immediately prior to such merger or
consolidation own immediately after such merger or consolidation 50% or more of
the voting power of the outstanding securities of each of (A) the continuing or
surviving entity and (B) any direct or indirect parent corporation of such
continuing or surviving entity; or (ii) the sale, transfer or other disposition
of all or substantially all of the Company's assets. A transaction shall not
constitute a Change in Control if its sole purpose is to change the state of the
Company's incorporation or to create a holding company that will be owned in
substantially the same proportions by the persons who held the Company's
securities immediately before such transaction.

                  "Cause" shall mean (i) an unauthorized use or disclosure of
the Company's confidential information or trade secrets, which use or disclosure
causes material harm to me Company; (ii) a material breach of any agreement
between Employee and the Company; (iii) a material failure to comply with the
Company's written policies or rules; (iv) conviction of, or plea of "guilty" or
"no contest" to, a felony under the laws of the United States or any state
thereof; (v) gross negligence or willful misconduct which causes material harm
to the Company; or (vi) a continued failure to perform assigned duties after
receiving written notification of such failure from the Board.

                  "Good Reason" shall mean any of the following events, if such
event occurs without the Employee's consent: (i) the Employee's receipt of
notice that his principal workplace will be relocated more than 30 miles; (ii) a
reduction in the Employee's base salary by more than 10%, unless pursuant to a
Company-wide reduction affecting all employees proportionately; or (iii) a
change in Employee's position with the Company that materially reduces his level
of authority or responsibility (including without limitation failure to nominate
him as a director of the Company).

                                       2
<PAGE>

            3. VACATION AND EMPLOYEE BENEFITS. During the term of his
Employment, the Employee shall be eligible for 25 paid vacation days each year
in accordance with the Company's standard policy for similarly situated
employees, as it may be amended from time to time. During the term of his
Employment, the Employee shall be eligible to participate in any employee
benefit plans maintained by the Company for similarly situated employees,
subject in each case to the generally applicable terms and conditions of the
plan in question and to the determinations of any person or committee
administering such plan.

            4. BUSINESS EXPENSES. During the term of his Employment, the
Employee shall be authorized to incur necessary and reasonable travel,
entertainment and other business expenses in connection with bis duties
hereunder. The Company shall reimburse the Employee for such expenses upon
presentation of an itemized account and appropriate supporting documentation,
all in accordance with the Company's generally applicable policies.

            5. TERM OF EMPLOYMENT

                  (a) BASIC RULE. The Company agrees to continue the Employee's
Employment, and the Employee agrees to remain in Employment with the Company,
from the date of this Agreement until the date when the Employee's Employment
terminates pursuant to Subsection (b) or (c) below. The Employee's Employment
with the Company shall be "at will," meaning that either the Employee or the
Company may terminate the Employee's Employment at any time, with or without
cause. Any contrary representations which may have been made to the Employee
shall be superseded by this Agreement This Agreement shall constitute the full
and complete agreement between the Employee and the Company on the "at will"
nature of the Employee's Employment, which may only be changed in an express
written agreement signed by the Employee and a duly authorized officer of the
Company.

                  (b) TERMINATION. The Company may terminate the Employee's
Employment at any time and for any reason (or no reason), and with or without
cause, by giving the Employee notice in writing. The Employee may terminate his
Employment by giving the Company 14 days' advance notice in writing. The
Employee's Employment shall terminate automatically in the event of his death.

                  (c) PERMANENT DISABILITY. The Company may terminate the
Employee's Employment due to Permanent Disability by giving the Employee 30
days' advance notice in writing. For all purposes under this Agreement,
"Permanent Disability" shall mean that the Employee, at the time notice is
given, has failed to perform his duties under this Agreement for a period of not
less than 90 consecutive days as the result of his incapacity due to physical or
mental injury, disability or illness. In the event that the Employee
satisfactorily resumes the performance of substantially all of Ms duties
hereunder before the termination of bis Employment under this Subsection (c)
becomes effective, the notice of termination shall automatically be deemed to
have been revoked.

                  (d) RIGHTS UPON TERMINATION. Except as expressly provided in
Section 6, upon the termination of the Employee's Employment pursuant to this
Section 5, the Employee shall only be entitled to the compensation, benefits and
reimbursements described in Sections 2, 3 and 4 for the period preceding the
effective date of the termination. The payments under this Agreement shall fully
discharge all responsibilities of the Company to the Employee.

                                       3
<PAGE>

                  (e) TERMINATION OF AGREEMENT. This Agreement shall terminate
when all obligations of the parties hereunder have been satisfied. The
termination of this Agreement shall not limit or otherwise affect any of the
Employee's obligations under Section 7.

            6. TERMINATION BENEFITS.

                  (a) GENERAL RELEASE. Any other provision of this Agreement
 notwithstanding, Subsections (b) and (c) below shall not apply unless the
 Employee (i) has executed a general release (in a form prescribed by the
 Company) of all known and unknown claims that he may then have against the
 Company or persons affiliated with the Company and (ii) has agreed not to
 prosecute any legal action or other proceeding based upon any of such claims,

                  (b) SEVERANCE PAY. If, during the term of this Agreement, the
Company terminates the Employee's Employment for any reason other than Cause or
Permanent Disability, or the Employee terminates his Employment for Good Reason,
then the Company shall pay the Employee;

                        (i) BASE COMPENSATION. His Base Compensation for a
period of 12 months following the termination of his Employment (the
"Continuation Period"). Such Base Compensation shall be paid at the rate in
effect at the time of the termination of Employment and in accordance with the
Company's standard payroll procedures.

                        (ii) BONUS COMPENSATION. A bonus (the "Severance Bonus")
in an amount determined as follows:

                              (A) If the Employee's Employment is terminated
prior to the first anniversary of the date of this Agreement, the Severance
Bonus shall be equal to a pro-rata portion of the anticipated first-year Annual
Target Bonus as determined by the Board in good faith.

                              (B) If the Employee's Employment is terminated on
or following the first anniversary of the date of this Agreement and prior to
the third anniversary of the date of this Agreement, the Severance Bonus shall
be equal to the greater of (I) the most recent Annual Target Bonus and (II) the
average of Annual Target Bonuses awarded for the prior years.

                              (C) If the Employee's Employment is terminated on
or following the third anniversary of the date of this Agreement, the Severance
Bonus shall be equal to the greater of (I) the most recent Annual Target Bonus)
and (II) the average of Annual Target Bonuses awarded for the prior three years.

Such Severance Bonus shall be payable in accordance with the Company's standard
payroll procedures.

                  (c) HEALTH INSURANCE. If Subsection (b) above applies, and if
the Employee elects to continue his health insurance coverage under the
Consolidated Omnibus Budget Reconciliation Act ("COBRA") following the
termination of his Employment, then the Company shall pay the Employee's monthly
premium under COBRA until the earliest of (i) the

                                       4
<PAGE>

close of the Continuation Period, (ii) the expiration of the Employee's
continuation coverage under COBRA and (iii) the date when the Employee is
offered substantially equivalent health insurance coverage in connection with
new employment or self-employment.

            7. NON-SOLICITATION, NON-DISCLOSURE AND NON-COMPETITION, The
Employee has entered into a Proprietary Information and Inventions Agreement
with the Company, which agreement is incorporated herein by reference.

            8. SUCCESSORS.

                  (a) COMPANY'S SUCCESSORS. This Agreement shall be binding upon
any successor (whether direct or indirect and whether by purchase, lease,
merger, consolidation, liquidation or otherwise) to all or substantially all of
the Company's business and/or assets. For all purposes under this Agreement, the
term "Company" shall include any successor to the Company's business and/or
assets which becomes bound by this Agreement.

                  (b) EMPLOYEE'S SUCCESSORS. This Agreement and all rights of
the Employee hereunder shall inure to the benefit of, and be enforceable by, the
Employee's personal or legal representatives, executors, administrators,
successors, heirs, distributees, devisees and legatees.

            9. MISCELLANEOUS PROVISIONS.

                  (a) NOTICE. Notices and all other communications contemplated
by this Agreement shall be in writing and shall be deemed to have been duty
given when personally delivered or when mailed by overnight courier, U.S.
registered or certified mail, return receipt requested and postage prepaid. In
the case of the Employee, mailed notices shall be addressed to him at the home
address which he most recently communicated to the Company in writing. In the
case of the Company, mailed notices shall be addressed to its corporate
headquarters, and all notices shall be directed to the attention of its
Secretary.

                  (b) MODIFICATIONS AND WAIVERS. No provision of this Agreement
shall be modified, waived or discharged unless the modification, waiver or
discharge is agreed to in writing and signed by the Employee and by an
authorized officer of the Company (other than the Employee). No waiver by either
party of any breach of, or of compliance with, any condition or provision of
this Agreement by the other party shall be considered a waiver of any other
condition or provision or of the same condition or provision at another time.

                  (c) WHOLE AGREEMENT. No other agreements, representations or
understandings (whether oral or written and whether express or implied) which
are not expressly set forth in this Agreement have been made or entered into by
either party with respect to the subject matter hereof. This Agreement and the
Proprietary Information and Inventions Agreement contain the entire
understanding of the parties with respect to the subject matter hereof.

                  (d) WITHHOLDING TAXES. All payments made under this Agreement
shall be subject to reduction to reflect taxes or other charges required to be
withheld by law.

                                       5
<PAGE>

                  (e) CHOICE OF LAW. The validity, interpretation, construction
and performance of this Agreement shall be governed by the laws of the State of
Maryland (except their provisions governing the choice of law).

                  (f) SEVERABILITY. The invalidity or unenforceability of any
provision or provisions of this Agreement shall not affect the validity or
enforceability of any other provision hereof, which shall remain in full force
and effect.

                  (g) ARBITRATION. Any controversy or claim arising out of or
relating to this Agreement or the breach thereof, or the Employee's Employment
or the termination thereof, shall be settled in the State of Maryland, by
arbitration in accordance with the National Rules for the Resolution of
Employment Disputes of the American Arbitration Association. The decision of the
arbitrator shall be final and binding on the parties, and judgment on the award
rendered by the arbitrator may be entered in any court having jurisdiction
thereof. The parties hereby agree that the arbitrator shall be empowered to
enter an equitable decree mandating specific enforcement of the terms of this
Agreement The Company and the Employee shall share equally all fees and expenses
of the arbitrator. The Employee hereby consents to personal jurisdiction of the
state and federal courts located in the State of Maryland for any action or
proceeding arising from or relating to this Agreement or relating to any
arbitration in which the parties are participants.

                  (h) NO ASSIGNMENT. This Agreement and all rights and
obligations of the Employee hereunder are personal to the Employee and may not
be transferred or assigned by the Employee at any time. The Company may assign
its rights under this Agreement to any entity that assumes the Company's
obligations hereunder in connection with any sale or transfer of all or a
substantial portion of the Company's assets to such entity.

                  (i) COUNTERPARTS. This Agreement may be executed in two or
more counterparts, each of which shall be deemed an original, but all of which
together shall constitute one and the same instrument.

                  [REMAINDER OF PAGE LEFT BLANK INTENTIONALLY]

                                       6
<PAGE>

            IN WITNESS WHEREOF, each of the parties has executed this Agreement,
in the case of the Company by its duly authorized officer, as of the date first
written above.

                                   /s/ Mihael H. Polymeropoulos
                                   ---------------------------------------------
                                   Mihael H. Polymeropoulos

                                   VANDA PHARMACEUTICALS INC.

                                   By: /s/ A. Karabelas
                                   ------------------------------------------
                                   Title: Chairman

                                       7