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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549



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FORM 10-Q



Mark One

|  |  |                                                                                         
|- |  | ----------------------------------------------------------------------------------------
|x |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES ACT OF 1934          
|  | 
|  |  | FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2004                                           
|  | 
|  |  | Or                                                                                      
|  | 
| ̈ |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
|  | 
|  |  | FOR THE TRANSITION PERIOD FROM                      TO                                  



Commission File
Number: 000-31255



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ISTA PHARMACEUTICALS, INC.

(Exact
name of registrant as specified in its charter)



|                                                               |  |                                  
|-------------------------------------------------------------- |  | ---------------------------------
|DELAWARE                                                       |  | 33-0511729                       
|(State or other jurisdiction of incorporation or organization) |  | (IRS Employer Identification No.)



15279 ALTON PARKWAY
#100, IRVINE, CA 92618

(Address of principal executive offices)



(949) 788-6000

(Registrants telephone number, including area code)



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



Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2) ̈Yes  x  No



The number of shares of the registrants common stock, $.001 par
value, outstanding as of May 6, 2004 was 17,456,678.



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Table of Contents



TABLE OF CONTENTS



|        |  |                                                                                                                                                                                              |  |        
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------
|        |  |                                                                                                                                                                                              |  | Page No
|PART I  |  | FINANCIAL INFORMATION                                                                                                                                                                        |  | 3      
|        |  |                                                                                                                                                                                             
|Item 1  |  | Condensed Consolidated Financial Statements                                                                                                                                                  |  | 3      
|        |  |                                                                                                                                                                                             
|        |  | Condensed Consolidated Balance Sheets  March 31, 2004 (unaudited) and December 31, 2003                                                                                                     |  | 3      
|        |  |                                                                                                                                                                                             
|        |  | Condensed Consolidated Statements of Operations (unaudited)  Three Month Periods Ended March 31, 2004 and 2003 and for the Period from February 13, 1992 (inception) through March 31, 2004 |  | 4      
|        |  |                                                                                                                                                                                             
|        |  | Condensed Consolidated Statements of Cash Flows (unaudited)  Three Month Periods Ended March 31, 2004 and 2003 and for the Period from February 13, 1992 (inception) through March 31, 2004 |  | 5      
|        |  |                                                                                                                                                                                             
|        |  | Notes to Unaudited Condensed Consolidated Financial Statements                                                                                                                               |  | 6      
|        |  |                                                                                                                                                                                             
|Item 2  |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                                                                                                        |  | 9      
|        |  |                                                                                                                                                                                             
|Item 3  |  | Quantitative and Qualitative Disclosure about Market Risk                                                                                                                                    |  | 21     
|        |  |                                                                                                                                                                                             
|Item 4  |  | Controls and Procedures                                                                                                                                                                      |  | 22     
|        |  |                                                                                                                                                                                             
|PART II |  | OTHER INFORMATION                                                                                                                                                                            |  | 22     
|        |  |                                                                                                                                                                                             
|Item 1  |  | Legal Proceedings                                                                                                                                                                            |  | 22     
|        |  |                                                                                                                                                                                             
|Item 4  |  | Submission of Matters to a Vote of Security Holders                                                                                                                                          |  | 22     
|        |  |                                                                                                                                                                                             
|Item 6  |  | Exhibits and Reports on Form 8-K                                                                                                                                                             |  | 22     
|        |  |                                                                                                                                                                                             
|        |  | Signatures                                                                                                                                                                                   |  | 23     
|        |  |                                                                                                                                                                                             
|        |  | Index to Exhibits                                                                                                                                                                            |  | 24     



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##### Table of Contents

PART I FINANCIAL INFORMATION



Item 1 Condensed Consolidated Financial Statements



ISTA Pharmaceuticals, Inc.

Condensed Consolidated Balance Sheets

(in thousands, except share data)



|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------- | -------- | - | ----------------- | - | -------- | -
|                                                                                                                                                                                                                    |  | March 31, 2004 |          |   | December 31, 2003 |  
|                                                                                                                                                                                                                    |  | (Unaudited)    |          |   |                   |  
|ASSETS                                                                                                                                                                                                              |  |                |          |   |                   |   |          |  
|Current assets:                                                                                                                                                                                                     |  |                |          |   |                   |   |          |  
|Cash and cash equivalents                                                                                                                                                                                           |  | $              | 17,368   |   |                   | $ | 16,988   |  
|Short-term investments                                                                                                                                                                                              |  |                | 25,135   |   |                   |   | 31,475   |  
|Other current assets                                                                                                                                                                                                |  |                | 794      |   |                   |   | 1,035    |  
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|Total current assets                                                                                                                                                                                                |  |                | 43,297   |   |                   |   | 49,498   |  
|Property and equipment, net                                                                                                                                                                                         |  |                | 746      |   |                   |   | 649      |  
|Deposits and other assets                                                                                                                                                                                           |  |                | 43       |   |                   |   | 35       |  
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|Total Assets                                                                                                                                                                                                        |  | $              | 44,086   |   |                   | $ | 50,182   |  
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                                                                                |  |                |          |   |                   |   |          |  
|Current liabilities:                                                                                                                                                                                                |  |                |          |   |                   |   |          |  
|Accounts payable                                                                                                                                                                                                    |  | $              | 2,044    |   |                   | $ | 2,072    |  
|Accrued compensation and related expenses                                                                                                                                                                           |  |                | 434      |   |                   |   | 699      |  
|Accrued expenses  clinical trials                                                                                                                                                                                  |  |                | 342      |   |                   |   | 476      |  
|Other accrued expenses                                                                                                                                                                                              |  |                | 1,500    |   |                   |   | 2,058    |  
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|Total current liabilities                                                                                                                                                                                           |  |                | 4,320    |   |                   |   | 5,305    |  
|Deferred rent                                                                                                                                                                                                       |  |                | 7        |   |                   |   | 9        |  
|Deferred revenue                                                                                                                                                                                                    |  |                | 4,375    |   |                   |   | 4,444    |  
|Stockholders equity:                                                                                                                                                                                               |  |                |          |   |                   |   |          |  
|Common stock, $.001 par value; 100,000,000 shares authorized at March 31, 2004 and December 31, 2003; 17,456,678 and 17,375,439 shares issued
and outstanding at March 31, 2004 and December 31, 2003, respectively |  |                | 17       |   |                   |   | 17       |  
|Additional paid in capital                                                                                                                                                                                          |  |                | 188,661  |   |                   |   | 188,621  |  
|Deferred compensation                                                                                                                                                                                               |  |                | (402     | ) |                   |   | (547     | )
|Accumulated other comprehensive income                                                                                                                                                                              |  |                | (13      | ) |                   |   | (28      | )
|Deficit accumulated during the development stage                                                                                                                                                                    |  |                | (152,879 | ) |                   |   | (147,639 | )
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|Total stockholders equity                                                                                                                                                                                          |  |                | 35,384   |   |                   |   | 40,424   |  
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  
|Total Liabilities and Stockholders Equity                                                                                                                                                                          |  | $              | 44,086   |   |                   | $ | 50,182   |  
|                                                                                                                                                                                                                    |  |                |          |   |                   |   |          |  



Note: The balance sheet at December
31, 2003 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.





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ISTA Pharmaceuticals, Inc.

Condensed Consolidated Statements of Operations

(in thousands, except per share amounts)

(Unaudited)



|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|--------------------------------------------------------------------- |  | ---------------------------- | ------ | - | ------------------------------------------------------------------- | - | ------ | ---- |  | - | -------- | -
|                                                                      |  | Three Months Ended March 31, |        |   | For the Period From February 13, 1992 (Inception) Through March 31, |  
|                                                                      |  | 2004                         |        |   | 2003                                                                |   |        | 2004 | 
|Revenue                                                               |  | $                            | 69     |   |                                                                     | $ | 69     |      |  | $ | 625      |  
|Operating expenses:                                                   |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Research and development                                              |  |                              | 3,027  |   |                                                                     |   | 3,426  |      |  |   | 93,740   |  
|Selling, general and administrative                                   |  |                              | 2,429  |   |                                                                     |   | 2,064  |      |  |   | 42,817   |  
|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Total operating expenses                                              |  |                              | 5,456  |   |                                                                     |   | 5,490  |      |  |   | 136,557  |  
|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Loss from operations                                                  |  |                              | (5,387 | ) |                                                                     |   | (5,421 | )    |  |   | (135,932 | )
|Interest income                                                       |  |                              | 149    |   |                                                                     |   | 115    |      |  |   | 3,148    |  
|Interest expense                                                      |  |                              | (2     | ) |                                                                     |   | (5     | )    |  |   | (805     | )
|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Net loss                                                              |  |                              | (5,240 | ) |                                                                     |   | (5,311 | )    |  |   | (133,589 | )
|Deemed dividend for preferred stockholders                            |  |                              |       |   |                                                                     |   |       |      |  |   | (19,245  | )
|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Net loss attributable to common stockholders                          |  | $                            | (5,240 | ) |                                                                     | $ | (5,311 | )    |  | $ | (152,834 | )
|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Net loss per common share, basic and diluted                          |  | $                            | (0.30  | ) |                                                                     | $ | (0.40  | )    |  |   |          |  
|                                                                      |  |                              |        |   |                                                                     |   |        |      |  |   |          |  
|Shares used in computing net loss per common share, basic and diluted |  |                              | 17,448 |   |                                                                     |   | 13,290 |      |  |   |          |  





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ISTA Pharmaceuticals, Inc.

Condensed Consolidated Statements of Cash Flows

(in thousands, unaudited)



|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|--------------------------------------------------------------------------- |  | --------------------------- | ------ | - | -------------------------------------------------------------- | - | ------ | ---- |  | - | -------- | -
|                                                                            |  | Three Months EndedMarch 31, |        |   | For the PeriodFromFebruary 13,1992 (Inception)ThroughMarch 31, |  
|                                                                            |  | 2004                        |        |   | 2003                                                           |   |        | 2004 | 
|Operating Activities                                                        |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Net loss                                                                    |  | $                           | (5,240 | ) |                                                                | $ | (5,311 | )    |  | $ | (133,589 | )
|Adjustments to reconcile net loss to net cash used in operating activities: |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Amortization of deferred compensation                                       |  |                             | 145    |   |                                                                |   | 306    |      |  |   | 9,672    |  
|Amortization of fair value of warrant discount and related accrued interest |  |                             |       |   |                                                                |   | (16    | )    |  |   | 467      |  
|Common stock issued for services                                            |  |                             |       |   |                                                                |   |       |      |  |   | 310      |  
|Forgiveness of note receivable                                              |  |                             |       |   |                                                                |   |       |      |  |   | 162      |  
|Depreciation and amortization                                               |  |                             | 75     |   |                                                                |   | 88     |      |  |   | 2,084    |  
|Deferred rent                                                               |  |                             | (2     | ) |                                                                |   |       |      |  |   | 7        |  
|Deferred income                                                             |  |                             | (69    | ) |                                                                |   | (69    | )    |  |   | 4,375    |  
|Changes in operating assets and liabilities:                                |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Advanced payments  clinical trials and other current assets                |  |                             | 241    |   |                                                                |   | (97    | )    |  |   | (794     | )
|Note receivable from officer                                                |  |                             |       |   |                                                                |   |       |      |  |   | (162     | )
|Accounts payable                                                            |  |                             | (28    | ) |                                                                |   | 323    |      |  |   | 2,045    |  
|Accrued compensation and related expenses                                   |  |                             | (265   | ) |                                                                |   | (542   | )    |  |   | 434      |  
|Accrued expenses  clinical trials and other accrued expenses               |  |                             | (692   | ) |                                                                |   | (192   | )    |  |   | 1,966    |  
|License fee received from Visionex                                          |  |                             |       |   |                                                                |   |       |      |  |   | 5,000    |  
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Net cash used in operating activities                                       |  |                             | (5,835 | ) |                                                                |   | (5,510 | )    |  |   | (108,023 | )
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Investing Activities                                                        |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Purchase of short-term investment securities                                |  |                             | (3,435 | ) |                                                                |   | (1,523 | )    |  |   | (87,142  | )
|Sale of short-term investment securities                                    |  |                             | 9,790  |   |                                                                |   | 11     |      |  |   | 61,989   |  
|Purchase of equipment                                                       |  |                             | (172   | ) |                                                                |   | (39    | )    |  |   | (2,827   | )
|Deposits and other assets                                                   |  |                             | (8     | ) |                                                                |   |       |      |  |   | (61      | )
|Proceeds from refinancing under capital leases                              |  |                             |       |   |                                                                |   |       |      |  |   | 827      |  
|Cash acquired from Visionex transaction                                     |  |                             |       |   |                                                                |   |       |      |  |   | 4,403    |  
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Net cash provided by (used in) investing activities                         |  |                             | 6,175  |   |                                                                |   | (1,551 | )    |  |   | (22,811  | )
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Financing Activities                                                        |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Payments on obligation under capital lease                                  |  |                             |       |   |                                                                |   |       |      |  |   | (827     | )
|Proceeds from exercise of stock options                                     |  |                             | 17     |   |                                                                |   |       |      |  |   | 999      |  
|Proceeds from exercise of warrants                                          |  |                             |       |   |                                                                |   |       |      |  |   | 41       |  
|Proceeds from bridge loans with related parties                             |  |                             |       |   |                                                                |   |       |      |  |   | 5,047    |  
|Payments on bridge loans with related parties                               |  |                             |       |   |                                                                |   |       |      |  |   | (3,755   | )
|Proceeds from issuance of preferred stock                                   |  |                             |       |   |                                                                |   |       |      |  |   | 34,215   |  
|Repurchase of preferred stock                                               |  |                             |       |   |                                                                |   |       |      |  |   | (56      | )
|Proceeds from issuance of common stock                                      |  |                             | 23     |   |                                                                |   | 8      |      |  |   | 112,562  |  
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Net cash provided by financing activities                                   |  |                             | 40     |   |                                                                |   | 8      |      |  |   | 148,226  |  
|Effect of exchange rate changes on cash                                     |  |                             |       |   |                                                                |   | 1      |      |  |   | (24      | )
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Increase (Decrease) in Cash and Cash Equivalents                            |  |                             | 380    |   |                                                                |   | (7,052 | )    |  |   | 17,368   |  
|Cash and cash equivalents at beginning of period                            |  |                             | 16,988 |   |                                                                |   | 32,257 |      |  |   |         |  
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  
|Cash and Cash Equivalents At End of Period                                  |  | $                           | 17,368 |   |                                                                | $ | 25,205 |      |  | $ | 17,368   |  
|                                                                            |  |                             |        |   |                                                                |   |        |      |  |   |          |  



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ISTA Pharmaceuticals, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

March 31, 2004



1. The Company



ISTA Pharmaceuticals, Inc. (ISTA or the Company) was incorporated in the state of California on
February 13, 1992 to discover, develop and market new remedies for diseases and conditions of the eye. The Company reincorporated in Delaware on August 4, 2000.



ISTA is a specialty pharmaceutical company focused on the development and commercialization of unique and uniquely improved products for serious
diseases and conditions of the eye. Since the Companys inception, it has devoted its resources primarily to fund research and development programs and late-stage product acquisitions. In December 2001, ISTA announced its strategic plan to
transition from a development-stage organization to a specialty pharmaceutical company with a primary focus on ophthalmology.



In May 2004, ISTA received approval from the U.S. Food and Drug Administration (FDA) of ISTAs New Drug Application (NDA) for
Vitrase® (hyaluronidase for injection; lyophilized,
ovine) for use as a spreading agent to facilitate the dispersion and absorption of other drugs. Even though ISTA has received FDA approval of the Vitrase® NDA for use as a spreading agent, the launch of the product may require FDA approval of a supplemental NDA for a smaller vial size at a dose
concentration (150 unit/mL), securing favorable reimbursement for the product and, in certain circumstances, the approval of Allergan, Inc. ISTA also expects to receive approval from the FDA during the first half of 2004 of ISTAs NDA for
Istalol (timolol) for the treatment of glaucoma.
However, there can be no assurance that Istalol
will receive FDA approval in the expected time frame, or at all. Nevertheless, ISTA is currently undertaking significant preparations for expansion of its marketing and manufacturing capabilities in anticipation of its launch of Vitrase® and Istalol. In March 2004, ISTA announced the initial results of its Phase III studies of
Xibrom (bromfenac) for the treatment of ocular
inflammation. ISTA anticipates submitting to the FDA an NDA for Xibrom during the second quarter of 2004. ISTA also has an NDA pending with the FDA for Vitrase® for the treatment of vitreous hemorrhage. In April 2003, the FDA issued an approvable letter citing issues primarily related to the sufficiency of the
efficacy data submitted with the NDA for Vitrase®
for the treatment of vitreous hemorrhage. The FDA requested additional analysis of the existing data and an additional confirmatory clinical study based upon that analysis. ISTA has submitted information to the FDA in response to its non-clinical
comments contained in the approvable letter, and has submitted further analysis of the clinical data. In addition, ISTA is continuing to assess and discuss with the agency the clinical issues raised in the approvable letter. Based upon these
discussions, ISTA will determine the next appropriate steps in the approval process of Vitrase® for the treatment of vitreous hemorrhage.



As of March 31, 2004, the Company had approximately $42.5 million in cash and cash equivalents and short-term investments. The Company incurred a net loss
of $5.2 million for the three months ended March 31, 2004 and had an accumulated deficit of $152.9 million at March 31, 2004. The ability of the Company to continue as a going concern is dependent upon its ability to obtain additional capital and
achieve profitable operations. The Companys ability to transition from the development stage and ultimately, to attain profitable operations, is dependent upon obtaining sufficient working capital to complete the successful development of its
products, approval by the FDA of its products, achieving market acceptance of such products and achievement of sufficient levels of revenue to support the Companys cost structure.



ISTA believes that its current cash and cash equivalents on hand will be sufficient to finance its anticipated capital and
operating requirements for at least the next twelve months. If ISTA engages in acquisitions of companies, products, or technology in order to execute its business strategy, ISTA may need to raise additional capital. ISTA may be required to raise
additional capital in the future through collaborative agreements, private investment in public equity (PIPE) financings, and various other equity or debt financings. If ISTA is required to raise additional capital in the future, there
can be no assurance that the additional financing will be available on favorable terms, or at all.



In April 2004, ISTA filed a universal shelf registration statement on Form S-3 with the Securities and Exchange Commission (SEC) providing for
the offering from time to time of up to $75,000,000 of its securities, which may consist of common stock, preferred stock, warrants, or debt securities. This registration statement also includes up to 3,600,000 shares of ISTA common stock to be
offered by certain selling stockholders.



The condensed
consolidated financial statements contained in this Form 10-Q do not include any adjustments to the specific amounts and classifications of assets and liabilities that might be necessary should the Company be unable to continue as a going concern.



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2. Basis of Presentation



General



The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the
SEC. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and
regulations. In managements opinion, the accompanying financial statements have been prepared on a basis consistent with the audited financial statements and contain adjustments, consisting of only normal, recurring accruals, necessary to
present fairly the Companys financial position and results of operations. Interim financial results are not necessarily indicative of results anticipated for the full year.



The preparation of financial statements in conformity with accounting principles generally accepted in the United States
requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.



In November 2002, the Companys stockholders approved a 1-for-10 reverse
stock split. The reverse stock split reduced the outstanding number of shares but not the par value of the Companys common stock. The stated capital on the Companys balance sheet attributable to the outstanding shares of common stock
(which is determined by multiplying the par value by the number of shares outstanding) was reduced proportionately based on the reverse stock split ratio of 1-for-10. However, the additional paid-in capital account on the Companys balance
sheet was increased by the amount by which the stated capital was reduced, so that the aggregate amount of the Companys stockholders equity was unchanged by the reverse stock split. The per share net loss and the per share net book value
of the Companys common stock is also increased because there are fewer shares of common stock outstanding. All historical common stock shares and per share data have been adjusted for the reverse stock split throughout these financial
statements for all periods presented.



For further information,
refer to the consolidated financial statements and footnotes thereto included in the Companys annual report on Form 10-K, for the year ended December 31, 2003.



3. Revenue Recognition



The Company recognizes revenue consistent with the provisions of SEC Staff Accounting Bulletin No. 101 , Revenue Recognition, which sets forth
guidelines in the timing of revenue recognition based upon factors such as passage of title, installation, payments and customer acceptance. Amounts received for upfront product and technology license fees under multiple-element arrangements are
deferred and recognized ratably over the period of such services or performance if such arrangements require on-going services or performance. Non-refundable amounts received for milestone payments are recognized upon (i) the achievement of
specified milestones when the Company has earned the milestone payment or, (ii) the milestone payment is substantive in nature and the achievement of the milestone was not reasonably assured at the inception of the agreement. The Company defers
payments for milestone events, which are reasonably assured and recognizes them ratably over the minimum remaining period of the Companys performance obligations. Payments for milestones, which are not reasonably assured are treated as the
culmination of a separate earnings process and are recognized as revenue when the milestones are achieved. Royalty revenue will be recognized upon sale of the related products, provided the royalty amounts are fixed and determinable and collection
of the related receivable is probable. Any amounts received prior to satisfying our revenue recognition criteria will be recorded as deferred revenue in the accompanying balance sheets.



In December 2001, the Company began a collaboration with Otsuka Pharmaceutical Co., Ltd. under which Otsuka will be
responsible for all clinical development, regulatory approvals, sales and marketing activities for Vitrase®, for ophthalmic uses in the posterior segment of the eye, in Japan. The Companys principal sources of revenue from this collaboration and the commercialization of Vitrase® will be the license fee received in December 2001,
which is being amortized over the Companys continuing involvement with Otsuka, milestone payments and product sales received from Otsuka. To date, the Company has not earned this milestone payment from Otsuka and it cannot guarantee that it
will receive this milestone payment in the future. Under the terms of the collaboration, the Company is responsible for the manufacture of Vitrase® and supplying all of Otsukas requirements for Vitrase®.



4. Comprehensive Income (Loss)



Statement of Financial Accounting Standard (SFAS) No. 130, Reporting Comprehensive Income, requires reporting and displaying comprehensive income (loss) and its components, which, for ISTA, includes net loss and
unrealized gains and losses on investments and foreign currency translation gains and losses. Total comprehensive loss for the three-month period ended March 31, 2004 and 2003 was $5,225,000 and $5,310,000, respectively. In accordance with SFAS No.
130, the accumulated balance of



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unrealized gains (losses) on investments and the accumulated balance of foreign currency translation adjustments are
disclosed as separate components of stockholders equity.



5.
Stock-Based Compensation



As permitted by SFAS No. 123,
Accounting for Stock-Based Compensation, the Company has elected to follow Accounting Principals Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for
stock-based employee compensation. Under APB 25, if the exercise price of the Companys employee and director stock options equals or exceeds the estimated fair value of the underlying stock on the date of grant, no compensation expense is
recognized.



When the exercise price of the employee or
director stock options is less then the estimated fair value of the underlying stock on the grant date, the Company records deferred compensation for the difference and amortizes this amount to expense in accordance with FASB Interpretation No. 28,
Accounting for Stock Appreciation Rights and Other Variable Stock Options or Award Plans, over the vesting period of the options.



Options or stock awards issued to non-employees are recorded at their fair value as determined in accordance with SFAS No. 123 and Emerging Issues Task
Force (EITF) No. 96-18, Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring or in Conjunction With Selling Goods or Services, and recognized over the related service period. Deferred
charges for options granted to non-employees are periodically re-measured as the options vest.



As required under SFAS No. 123, Accounting for Stock-Based Compensation, and SFAS No. 148, Accounting for Stock-Based Compensation Transition and Disclosure, the pro forma effects of
stock-based compensation on net loss have been estimated at the date of grant using the Black-Scholes option-pricing model. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no
vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Companys employee stock options have
characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in managements opinion, the existing models do not necessarily provide
a reliable single measure of the fair value of its employee stock options.



In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based CompensationTransition and Disclosure. SFAS No. 148 is an amendment to SFAS No. 123 providing alternative methods of
transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation and also provides additional disclosures about the method of accounting for stock-based employee compensation. Amendments are
effective for financial statements for the Company beginning January 1, 2003. The Company has currently chosen to not adopt the voluntary change to the fair value based method of accounting for stock-based employee compensation. If the Company
should choose to adopt such a method, its implementation pursuant to SFAS No. 148 could have a material effect on the Companys consolidated financial position and results of operations.



The fair value of these options was estimated at the date of grant using the
minimum value pricing model for grants prior to the initial public offering and the Black Scholes method for grants after the initial public offering with the following weighted average assumptions: risk-free interest rate of 3.0%, zero dividend
yield, volatility of 73%; and a weighted-average life of the option of four years.



For purposes of adjusted pro forma disclosures, the estimated fair value of the options is amortized to expense over the options vesting period. The effect of applying SFAS No. 123 for purposes of providing pro
forma disclosures is not likely to be representative of the effects on the Companys operating results for future years because changes in the subjective input assumptions can materially affect future value estimates. Pro forma information is
as follows:



|                                                                                                                |  |                    |        |   |                |   |        |  
|--------------------------------------------------------------------------------------------------------------- |  | ------------------ | ------ | - | -------------- | - | ------ | -
|                                                                                                                |  | Three Months Ended |       
|                                                                                                                |  | March 31, 2004     |        |   | March 31, 2003 |  
|Net loss attributable to common stockholders, as reported                                                       |  | $                  | (5,240 | ) |                | $ | (5,311 | )
|Add: Stock-based employee compensation expense included in net loss attributable to common shareholders         |  |                    | 145    |   |                |   | 306    |  
|Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards |  |                    | (506   | ) |                |   | (1,653 | )
|                                                                                                                |  |                    |        |   |                |   |        |  
|Pro forma net loss                                                                                              |  | $                  | (5,601 | ) |                | $ | (6,658 | )
|                                                                                                                |  |                    |        |   |                |   |        |  
|Net loss per share, basic and diluted, as reported                                                              |  | $                  | (0.30  | ) |                | $ | (0.40  | )
|                                                                                                                |  |                    |        |   |                |   |        |  
|Pro forma net loss per share, basic and diluted                                                                 |  | $                  | (0.32  | ) |                | $ | (0.50  | )
|                                                                                                                |  |                    |        |   |                |   |        |  



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6. Net Loss Per Share



In accordance with SFAS No. 128, Earnings Per Share, and SEC Staff Accounting Bulletin (SAB) No. 98, basic net loss per common
share is computed by dividing the net loss for the period by the weighted average number of common shares outstanding during the period. Under SFAS No. 128, diluted net income (loss) per share is computed by dividing the net income (loss) for the
period by the weighted average number of common and common equivalent shares, such as stock options, outstanding during the period. Such common equivalent shares have not been included in the Companys computation of net loss per share as their
effect would be anti-dilutive.



Under the provisions of SAB No.
98, common shares issued for nominal consideration, if any, would be included in the per share calculations as if they were outstanding for all periods presented. No common shares have been issued for nominal consideration.



7. Commitments and Contingencies



The Company is subject to routine claims and litigation incidental to its
business. In the opinion of management, the resolution of such claims is not expected to have a material adverse effect on the operating results or financial position of the Company.



Visionex



Visionex was established in 1997, under the laws of Singapore, to engage in clinical, regulatory and marketing activities. During 1997, Visionex obtained
from the Company the exclusive rights to register, import, market, sell and distribute Vitrase® and a product called Keraform® in East Asian markets, excluding Japan and Korea, for which Visionex paid the Company $5.0 million. Prior to the Companys acquisition of Visionex (discussed below), investors who
owned 66% of ISTA shares controlled 100% of Visionex shares.



On March 8, 2000, the Company acquired Visionex by entering into an agreement with Visionex shareholders whereby the Company issued 3,319,363 shares of its Series C preferred stock, convertible into 245,879 shares of its common stock, to
acquire all of the outstanding capital stock of Visionex. The Company assigned a fair value of $11.70 per share to the 3,319,363 shares of Series C preferred stock issued to effect the acquisition, at which time the Company recorded a deemed
dividend of $19.2 million to recognize the excess of the value of the shares issued over the net assets acquired.



Under Singapore tax law, Visionex was subject to a 15% withholding tax on a $5.0 million license that it paid to the Company in connection with a license
to market, sell and distribute Vitrase® and its
other corneaplasty products in certain countries in Southeast Asia. This withholding tax was waived by the Economic Development Board, or EDB, of Singapore subject to various conditions, including a commitment that Visionex would implement a
proposed project to expand its business activities in Singapore to the benefit of the local economy. The Company substantially wound down Visionex operations in July 2002, and the proposed project was never implemented. Based upon a letter the
Company received from the EDB and the Companys assessment of its obligations with the EDB, management does not believe that the Company will be required to pay any withholding tax or related obligations in connection with the license fee.
However, if the Company is required to pay this withholding tax, the Company does not believe such payment would have a material adverse effect on the Companys business.



9. Recent Accounting Pronouncements



In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation  Transition and Disclosure. SFAS No. 148 is an
amendment to SFAS No. 123 providing alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation and also provides additional disclosures about the method of accounting
for stock-based employee compensation. Amendments are effective for financial statements for the Company beginning January 1, 2003. The Company has currently chosen to not adopt the voluntary change to the fair value based method of accounting for
stock-based employee compensation. If the Company should choose to adopt such a method, its implementation pursuant to SFAS No. 148 could have a material effect on the Companys consolidated financial position and results of operations.



Item 2 Managements Discussion and Analysis of Financial Condition and Results of Operations



This Interim Report on Form 10-Q contains forward-looking statements that have been made pursuant to the provisions of the Securities Litigation Act of
1995 and concern matters that involve risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. Discussions containing forward-looking statements may be found



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in the material set forth under Managements Discussion and Analysis of Financial Condition and Results of
Operations and in other sections of this Form 10-Q. Words such as may, will, should, could, expect, plan, anticipate, believe,
estimate, predict, potential or continue or similar words are intended to identify forward-looking statements, although not all forward-looking statements contain these words. Although we believe that
our opinions and expectations reflected in the forward-looking statements are reasonable as of the date of this Report, we cannot guarantee future results, levels of activity, performance or achievements, and our actual results may differ
substantially from the views and expectations set forth in this Report. We expressly disclaim any intent or obligation to update any forward-looking statements after the date hereof to conform such statements to actual results or to changes in our
opinions or expectations.



Readers are urged to carefully
review and consider the various disclosures made by us which attempt to advise interested parties of the factors which affect our business, including without limitation Factors That May Affect Results of Operations and Financial
Condition set forth in this Form 10-Q, and the audited financial statements and the notes thereto and disclosures made under the captions, Management Discussion and Analysis of Financial Condition and Results of Operations,
Risk Factors, Consolidated Financial Statements and Notes to Consolidated Financial Statements, included in the Companys annual report on Form 10-K for the year ended December 31, 2003.



Overview



We are a specialty pharmaceutical company focused on the development and commercialization of unique and uniquely improved
products for serious diseases and conditions of the eye. Since our inception, we have devoted our resources primarily to fund research and development programs and late-stage product acquisitions. In December 2001, we announced our strategic plan to
transition from a development-stage organization to a specialty pharmaceutical company with a primary focus on ophthalmology.



In May 2004, the FDA approved our NDA for Vitrase® (hyaluronidase for injection; lyophilized, ovine) to facilitate the dispersion and absorption of other drugs. We are also seeking FDA approval for
Vitrase® for the treatment of vitreous hemorrhage
and are pursuing development of Vitrase® for the
treatment of diabetic retinopathy. In addition, we are pursuing market approval in the United States of Istalol (timolol) to treat glaucoma. In December 2003, we completed enrollment of our Phase III clinical studies in the United States for Xibrom (bromfenac), a topical non-steroidal anti-inflammatory compound for the treatment of
ocular inflammation and announced the initial results of our clinical studies in March 2004. Finally, we are currently conducting feasibility studies for the reformulation and commercialization of Caprogel® (aminocaproic acid), a topical formulation aminocaproic acid for the treatment of
hyphema. We believe that if Vitrase®, Istalol, and our other ophthalmic product candidates obtain
regulatory approval and are commercially successful, we will advance our strategic plan to build a specialty pharmaceutical company focused on serious diseases and conditions of the eye.



There can be no assurances that the other applications of Vitrase® or Istalol will receive final FDA approval. Even though we received FDA approval of the Vitrase® NDA for use as a spreading agent, the launch of the product may require FDA
approval of supplemental filings related to product packaging and labeling, securing favorable reimbursement for the product and, in certain circumstances, the approval of Allergan, Inc. Nevertheless, we are currently undertaking significant
preparations for expansion of our manufacturing and marketing capabilities in the event such approvals are obtained. If approved by the FDA, Vitrase® and Istalol will be manufactured for us through our contract manufacturers. In the United States the marketing of Istalol will be done by us. Allergan is responsible for commercializing Vitrase® for uses in posterior region of the eye.



We currently have no products available for sale and have not generated any
revenues from sales of our products. We have incurred losses since inception and had an accumulated deficit of $152.9 million through March 31, 2004. Our losses have resulted primarily from research and development activities, including clinical
trials, related general and administrative expenses and a deemed dividend to our preferred shareholders. We expect to continue to incur operating losses for the foreseeable future as we continue to conduct research, development and clinical testing
activities, and to seek regulatory approval for our product candidates and to develop our marketing, sales, distribution and other commercial and management capacities in anticipation of the approval of one or more of our product candidates.



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On April 23, 2004 we filed a universal shelf registration statement on Form S-3 with the SEC providing
for the offering from time to time of up to $75,000,000 of its securities, which may consist of common stock, preferred stock, warrants, or debt securities. The shelf registration statement also includes up to 3,600,000 shares of ISTA common stock
to be offered by certain selling stockholders.



Our Product Pipeline



We are pursuing the development of several late-stage
products, including:



Vitrase® (hyaluronidase for injection; lyophilized, ovine)



We are developing Vitrase®, a highly purified, proprietary formulation of ovine hyaluronidase, for the treatment
of vitreous hemorrhage, for use as a spreading agent to facilitate the absorption and dispersion of other injected drugs, and for the treatment of diabetic retinopathy.



In October 2002, we submitted to the FDA a NDA for Vitrase® for the treatment of vitreous hemorrhage by injection into the posterior region of the
eye. On April 3, 2003, the FDA issued an approvable letter citing issues primarily related to the sufficiency of the efficacy data submitted with the NDA for Vitrase® for the treatment of vitreous hemorrhage. The FDA requested additional analysis of the existing data and an additional
confirmatory clinical study based upon that analysis. We have submitted information to the FDA in response to its non-clinical comments contained in the approvable letter and have submitted further analysis of the clinical data. In addition, we are
continuing to assess and discuss with the agency the clinical issues raised in the approvable letter. Based upon these discussions, we will determine the next appropriate steps in the approval process of Vitrase® for the treatment of vitreous hemorrhage.



In May 2004, the FDA approved the NDA for Vitrase® for use as a spreading agent. We are pursuing the development of additional
package configurations for different doses of the product to facilitate product utilization, improve profit margins and aid in third-party reimbursement. To this end, we plan to file a supplemental NDA for a smaller vial size at a dose concentration
(150 unit/mL) that we believe is optimal for use as a spreading agent. We anticipate that, pending timely submission of our NDA supplement and FDA review, this supplemental NDA could be approved by FDA during the second half of 2004.



Based on data compiled by Business Genetics, Inc., we believe that
approximately 450,000 cases of vitreous hemorrhage occur each year in the United States, a total of 400,000 cases occur each year in the five largest European markets and 190,000 cases occur each year in Japan. In addition, based on published
reports from the American Academy of Ophthalmology, we believe the potential annual market opportunity for Vitrase® as a spreading agent is over 750,000 cases. We have a collaboration with Allergan, under which we have an obligation to use commercially reasonable
efforts to obtain regulatory approval for Vitrase®
in the U.S. and Europe, and under which Allergan is responsible for commercializing Vitrase® for uses in the posterior region of the eye. Based on the development and commercialization of Vitrase® our agreement with Allergan provides us with milestone payments, a 50/50 profit sharing arrangement in the United
States, and royalty arrangements in certain international markets.



Istalol (timolol)



Istalol is our once-daily, topical solution of timolol, a beta-blocking agent for the
treatment of glaucoma, a chronic disease that gradually reduces eyesight. Beta-blockers are a large group of approved medications that block specific receptors in the central nervous system and are used in the treatment of a number of diseases
including glaucoma. In clinical trials, Istalol,
given once-a-day, has shown efficacy and safety comparable to timolol maleate, given twice-a-day. Timolol maleate, which is currently available from several manufacturers, is the leading beta-blocker to treat glaucoma in the United States.
Istalol benefits from once-daily administration,
while other commercially available formulations of timolol are commonly prescribed as twice-daily solutions or once-daily gel formulations, which have been known to cause blurring of patients vision.



The NDA for Istalol was submitted to the FDA in September 2002 and was accepted for review in November
2002. In July 2003, the FDA issued an approvable letter with respect to the Istalol NDA citing issues related to manufacturing methods and controls. No additional clinical studies were requested. We believe the issues cited by the FDA are addressable, and we are currently seeking
qualification of an additional manufacturing site. In December 2003, we submitted documents to the FDA seeking to qualify Bausch & Lomb as a manufacturer of Istalol. We expect FDA approval of Istalol in the first half of 2004.



According to data compiled by NDC Health, we estimate the U.S. glaucoma market is approximately $1.1 billion annually, of which the ophthalmic
beta-blocker segment represents approximately $170 million per year, with over 4.4 million prescriptions written annually. We plan to build a targeted sales force to market Istalol.



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Xibrom (bromfenac)



Xibrom is a topical non-steroidal anti-inflammatory compound for the treatment of ocular inflammation. Xibrom was launched in Japan in 2000 by Senju Pharmaceuticals Co. Ltd. We acquired U.S. marketing rights for Xibrom in May 2002. In December 2003, we completed enrollment
of our Phase III clinical studies in the United States and announced initial results of our clinical studies in March 2004. Based on the initial results of our Phase III studies, we anticipate submitting a NDA for Xibrom in the second quarter of 2004.



According to prescription data compiled by IMS Health, we estimate that the
current global ophthalmic anti-inflammatory and allergies markets to be approximately $500 million and $630 million per year, respectively. Based on data compiled by NDC Health, we estimate that there are over 5.4 million prescriptions written
annually for topical ophthalmic anti-inflammatory agents in the United States. We anticipate marketing Xibrom through our targeted sales force, which will be expanded to focus not only on prescribers of glaucoma medications (e.g., Istalol), but also on cataract surgeons who we expect will be the principal prescribers of
Xibrom and the primary users of spreading agents.



Caprogel® (aminocaproic acid)



Caprogel® is a new topical gel formulation of aminocaproic acid for treating hyphema. Hyphema is a term used to describe bleeding in the anterior chamber, the
space between the cornea and the iris, of the eye and usually results from trauma to the eye. In May 2002, we acquired worldwide marketing rights for Caprogel®, and we are currently conducting feasibility studies for its reformulation and commercialization. Once completed, and
if these studies yield promising results, we intend to pursue further clinical development consistent with such studies results.



Based on data compiled for us by Milliman U.S.A., we believe that hyphema affects an estimated 50,000 patients per year in the United States and currently
there is no available pharmaceutical agent approved for its treatment. Caprogel® has received an orphan drug designation for the treatment of hyphema from the FDA, which may result in a seven year market exclusivity privilege with respect to Caprogel®, if approved.



Results of Operations



The following discussion of our results of operations generally reflects our continuing transition from a development-stage company to a specialty
pharmaceuticals company with a primary focus on ophthalmology.



Three Months
Ended March 31, 2004 and 2003



Revenue.Revenue of
$69,000 for the three months ended March 31, 2004 and $69,000 for the three months ended March 31, 2003 reflects the amortization for the period of deferred revenue recorded in December 2001 for the license fee payment made by Otsuka Pharmaceuticals
for commercialization rights to Vitrase® in Japan
for ophthalmic uses in the posterior regions of the eye.



Research and development expenses.Research and development expenses for the three months ended March 31, 2004 were $3.0 million compared to $3.4 million for the three months ended March 31, 2003. The decrease of approximately
$400,000 is principally due to the change in product mix from the three months ended March 31, 2003 to the three months ended March 31, 2004. During the three months ended March 31, 2003, research and development costs were principally associated
with Vitrase® clinical and manufacturing spending.
During the three months ended March 31, 2004, research and development costs were principally associated with clinical and manufacturing spending related to Istalol and Xibrom.



Selling, general and administrative expenses.Selling, general and administrative expenses were $2.4 million for the three months ended March
31, 2004 compared to $2.1 million for the three months ended March 31, 2003. The increase in selling, general and administrative expenses is primarily due to increased consultant costs and marketing activities associated with increased activity in
the Companys product pipeline and preparation for commercial product launch.



Interest income.Interest income was $149,000 for the three months ended March 31, 2004 compared to $115,000 for the three months ended March 31, 2003. The increase in interest income was primarily attributable
to higher cash balances for the three months ended March 31, 2004 compared to the three months ended March 31, 2003 due to the financing that was completed during the fourth quarter of 2003.



Interest expense. Interest expense was $2,000 for the three months
ended March 31, 2004 compared to $5,000 for the three months ended March 31, 2003. Interest expense for both periods was attributable to the interest paid on the financing of our directors and officers insurance premiums.



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Liquidity and Capital Resources



As of March 31, 2004, we had approximately $42.5 million in cash and equivalents and short-term investments and working
capital of $39.0 million.



We have financed our operations
since inception primarily through private equity sales and the sale of our common stock in our initial and follow-on public offerings. We received net proceeds of $10.0 million from the private sale of preferred stock in March 2000, $31.7 million
from our initial public offering in August 2000, $4.0 million from the private sale of common stock in December 2001, $5.0 million from a license fee payment in December 2001, $4.0 million from the issuance of promissory notes in September 2002,
$37.3 million from our PIPE transaction in November 2002 and $35.7 million from our follow-on public offering in November 2003. The PIPE transaction in November 2002 consisted of a private placement of 10,526,306 shares of our common stock for the
aggregate purchase price of approximately $40.0 million, or $3.80 per share, and warrants to purchase up to 1,578,946 shares of our common stock for an exercise price of $3.80 per share. The follow-on public offering in November 2003 consisted of
the sale of 4,000,000 shares of our common stock for the aggregate purchase price of $38.0 million, or $9.50 per share. On April 23, 2004 we filed a universal shelf registration statement on Form S-3 with the SEC providing for the offering from time
to time of up to $75,000,000 of our securities, which may consist of common stock, preferred stock, warrants, or debt securities. The shelf registration statement also includes up to 3,600,000 shares of our common stock to be offered by certain
selling stockholders.



For the three months ended March 31,
2004, we used $5.8 million of cash for operations principally as a result of the net loss of $5.2 million partially offset by non-cash compensation expense of $145,000. We used approximately $5.5 million of cash for operations in the three months
ended March 31, 2003.



For the three months ended March 31,
2004, we received $6.2 million of cash from investing activities, primarily due to the maturities of our short-term investment securities. For the three months ended March 31, 2003, we used $1.6 million of cash for investing activities, primarily to
purchase short-term investment securities.



For the three
months ended March 31, 2004, we received $40,000 from financing activities, primarily from the exercise of stock options and the issuance of common stock under our Employee Stock Purchase Plan. For the three months ended March 31, 2003, we received
$8,000 from financing activities, primarily from the issuance of common stock under our Employee Stock Purchase Plan.



We may be required to raise additional capital in the future through collaborative agreements, PIPE related financings, and various other public or
private equity or debt financings. If we are required to raise additional capital in the future, there can be no assurance that the additional financing will be available on favorable terms, or at all.



We continually evaluate new opportunities for late-stage or currently
marketed complementary product candidates and, if and when appropriate, intend to pursue such opportunities through the acquisitions of companies, products, or technology and our own research and development activities. Our ability to execute on
such opportunities in some circumstances will be dependent, in part, upon our ability to raise additional capital on commercially reasonable terms. There can be no assurance that funds from these sources will be available when needed or, if
available, will be on terms favorable to us or to our stockholders. If additional funds are raised by issuing equity securities, the percentage ownership of our stockholders will be reduced, stockholders may experience additional dilution or such
equity securities may provide for rights, preferences or privileges senior to those of the holders of our common stock.



Our actual future capital requirements will depend on many factors, including the following:



| |  | receiving payments from Allergan and Otsuka with respect to our collaboration for the commercialization of Vitrase® for uses in the posterior region of the eye, including milestone payments, profit
sharing and royalties;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the rate of progress of our research and development programs;
| | - | --------------------------------------------------------------



| |  | the results of our clinical trials and requirements to conduct additional clinical trials;
| | - | ------------------------------------------------------------------------------------------



| |  | the time and expense necessary to obtain regulatory approvals;
| | - | --------------------------------------------------------------



| |  | activities and payments in connection with obtaining licenses for or acquisition of products;
| | - | ---------------------------------------------------------------------------------------------



| |  | our ability to establish and maintain collaborative relationships;
| | - | ------------------------------------------------------------------



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| |  | sales and marketing activities related to our product candidates;
| | - | -----------------------------------------------------------------



| |  | competitive, technological, market and other developments; and
| | - | --------------------------------------------------------------



| |  | the success of the commercialization of our products.
| | - | -----------------------------------------------------



Factors that May Affect Results of Operations and Financial Condition.



Risks Related to Our Business



If we do not receive and maintain regulatory approvals for our product candidates, we, or our marketing partners, will not be able to commercialize our products, which
would substantially impair our ability to generate revenues and materially harm our business and financial condition.



Only one of our product candidates has received regulatory approval from the FDA. In May 2004, the FDA approved our NDA for Vitrase® for use as a spreading agent. Approval from the FDA is
necessary to manufacture and market pharmaceutical products in the United States. Many other countries including major European countries and Japan have similar requirements.



The NDA process is extensive, time-consuming and costly, and there is no guarantee that the FDA will approve additional NDAs
of our product candidates, or that the timing of any such approval will be appropriate for our product launch schedule and other business priorities, which are subject to change. We have submitted two NDAs which are currently pending before the FDA,
one for Vitrase®, for the treatment of vitreous
hemorrhage, and one for Istalol. Moreover, we
depend on the assistance of Senju for obtaining regulatory approval for Istalol.



Although we have received an
approvable letter from the FDA with respect to our NDA for Vitrase® for the treatment of vitreous hemorrhage, the FDA has requested additional analysis of the existing data and an additional confirmatory clinical study based upon that analysis. There can be no assurances that the FDA
will approve this NDA for Vitrase®, even if we
decide to and are successfully able to undertake the further analysis and clinical testing requested by the FDA.



The FDA has also issued an approvable letter with respect to the Istalol NDA, citing issues related to manufacturing methods and controls. While we believe these issues are addressable, there
can be no assurance that the FDA will approve the NDA for Istalol, or that the timing of any such approval would be appropriate in view of our changing business objectives and priorities.



While we have received FDA approval of Vitrase® for use as a spreading agent, the timing of, or conditions imposed by the FDA on any such approval might not be appropriate for our marketing, product
development and business priorities or those of Allergan, our marketing partner for uses in the posterior region of the eye. In addition, we plan to file a supplemental NDA for a smaller vial size at a dose concentration (150 unit/mL) that we
believe is optimal for use as a spreading agent. We anticipate that, pending timely submission of our NDA supplement and FDA review, this supplemental NDA could be approved by FDA during the second half of 2004. There can be no assurances, however,
that the FDA will approve this supplemental NDA.



Clinical
testing of pharmaceutical products is also a long, expensive and uncertain process. Even if initial results of preclinical studies or clinical trial results are positive, we may obtain different results in later stages of drug development, including
failure to show desired safety and efficacy. We completed our Phase III studies of Xibrom, a topical non-steroidal anti-inflammatory compound for the treatment of ocular inflammation, and announced initial results of our clinical studies in March 2004. Based on the initial results of our Phase III
studies, we anticipate submitting a NDA for Xibrom in the second quarter of 2004.



The clinical trials of any of our product candidates could be unsuccessful, which would prevent us from obtaining regulatory approval and commercializing the product.



FDA approval can be delayed, limited or not granted for many reasons, including, among others:



| |  | FDA officials may not find a product candidate safe or effective to merit an approval;
| | - | --------------------------------------------------------------------------------------



| |  | FDA officials may not find that the data from preclinical testing and clinical trials justifies approval, or they may require additional studies that would make it commercially
unattractive to continue pursuit of approval;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the FDA might not approve our manufacturing processes or facilities, or the processes or facilities of our contract manufacturers or raw material suppliers;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the FDA may change its approval policies or adopt new regulations; and
| | - | ----------------------------------------------------------------------



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| |  | the FDA may approve a product candidate for indications that are narrow or under conditions that place our product at a competitive disadvantage, which may limit our sales and
marketing activities or otherwise adversely impact the commercial potential of a product;
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



If the FDA does not approve our product candidates in a timely fashion on commercially viable terms or we terminate development of any of our product
candidates due to difficulties or delays encountered in the regulatory approval process, it will have a material adverse impact on our business and we will be dependent on the development of our other product candidates and/or our ability to
successfully acquire other products and technologies.



In
addition, we intend to market certain of our products, and perhaps have certain of our products manufactured, in foreign countries. The process of obtaining approvals in foreign countries is subject to delay and failure for similar reasons.



Even though we obtained FDA approval of the Vitrase® NDA for use as a spreading agent, our ability to
commercialize Vitrase® for such use is dependent
upon the terms of our collaboration with Allergan.



We
have entered into a collaboration with Allergan, Inc. relating to Vitrase® for ophthalmic uses for the posterior region of the eye. If we obtain regulatory approval for Vitrase® for any such uses in the United States and Europe, we will be dependent on Allergan for the commercialization of Vitrase® for such uses in these markets. We are currently in discussions with Allergan
regarding marketing and other strategies for Vitrase®. Allergan has informed us of its position that we need its authorization pursuant to our collaboration to market Vitrase® on our own as a spreading agent, which Allergan asserts has not been provided. In addition, Allergan may be unwilling to pursue the marketing
and commercialization of Vitrase® with any final
approved labeling that does not meet its satisfaction. Any dispute regarding our rights or Allergans rights under our collaboration or otherwise would be costly, time-consuming and potentially delay or possibly prevent the launch of any
approved Vitrase® product.



If our product candidates are approved by the FDA but do not gain market acceptance, our
business will suffer because we might not be able to fund future operations.



A number of factors may affect the market acceptance of Vitrase®, Istalol, Xibrom,
Caprogel® or any other products we develop or
acquire in the future, including, among others:



| |  | the price of our products relative to other therapies for the same or similar treatments;
| | - | -----------------------------------------------------------------------------------------



| |  | the perception by patients, physicians and other members of the health care community of the effectiveness and safety of our products for their prescribed treatments;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | our ability to fund our sales and marketing efforts; and
| | - | --------------------------------------------------------



| |  | the effectiveness of our sales and marketing efforts.
| | - | -----------------------------------------------------



In addition, our ability to market and promote our products will be restricted to the labels approved by the FDA. If the approved labels are restrictive,
our sales and marketing efforts and market acceptance and the commercial potential of our products may be negatively affected. For example, should the market not widely accept Vitrase® for usage based on the label of the approved NDA, we may have to await approval of
additional indications in order to reach the full market potential for this drug.



If our products do not gain market acceptance we may not be able to fund future operations, including the development or acquisition of new product candidates and/or our sales and marketing efforts for our approved
products, which would cause our business to suffer.



If we are unable to
sufficiently develop our sales, marketing and distribution capabilities and/or enter into agreements with third parties to perform these functions, we will not be able to commercialize products.



We currently are in the process of developing our sales, marketing and
distribution capabilities. However, our current capabilities in these areas are limited. In order to commercialize any products successfully, we must internally develop substantial sales, marketing and distribution capabilities, and/or establish
collaborations or other arrangements with third parties to perform these services. We do not have extensive experience in these areas, and we may not be able to establish adequate in-house sales, marketing and distribution capabilities or engage and
effectively manage relationships with third parties to perform any or all of such services. For example, although we intend to develop our own sales and marketing capabilities (either in-house and/or through contractual arrangements with third
parties) with respect to our other product candidates, we intend to rely on the sales and marketing capabilities of Allergan in the United States and Europe and Otsuka Pharmaceuticals, Co. Ltd. in Japan, respectively, to market Vitrase® for ophthalmic uses for the posterior region of the
eye. To the extent that we enter into co-promotion, licensing or other third party



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arrangements, our product revenues and returns are likely to be lower than if we directly marketed and sold our products,
and any revenues we receive will depend upon the efforts of third parties, whose efforts may not be successful.



We have not generated any revenue from product sales to date, we have a history of net losses and negative cash flow, and we may never achieve or maintain
profitability.



We have not generated any revenue from
product sales to date, and we may never generate revenues from product sales in the future. Even if we do achieve significant revenues from product sales, we expect to incur significant operating losses over the next several years. We have never
been profitable, and we might never become profitable. As of March 31, 2004, our accumulated deficit was $152.9 million, including a net loss of approximately $25.2 million for the year ended December 31, 2003 and a net loss of $5.2 million for the
three months ended March 31, 2004. As of March 31, 2004, we had approximately $42.5 million in cash and cash equivalents and short-term investments and working capital of $39.0 million. We believe our current cash and cash equivalents on hand will
be sufficient to finance anticipated capital and operating requirements for at least the next twelve months. If we engage in acquisitions of companies, products, or technology in order to execute our business strategy, we may need to raise
additional capital. We may be required to raise additional capital in the future through collaborative agreements, private investment in public equity financings, and various other public or private equity or debt financings. If we are required to
raise additional capital in the future there can be no assurance that the additional financing will be available on favorable terms, or at all.



We may be unable to execute our strategic plan to transition to a specialty pharmaceutical company, which could have a material adverse impact on our business and
financial condition.



Our strategy to transition to a
specialty pharmaceutical company will be dependent upon our ability to gain regulatory approval and market acceptance for our existing late-stage ophthalmic product candidates, build a commercial infrastructure to support multiple ophthalmic product
launches, conduct business development efforts to further expand our late-stage product pipeline, and pursue opportunistic acquisitions of marketed products.



We have limited sales, marketing and distribution capabilities to support the marketing of any products, and we do not have experience in managing
third-party manufacturers of any products in commercial quantities. In addition, if we acquire or obtain licenses for late-stage development products, our ability to successfully commercialize such products will also be dependent on our ability to
successfully complete development of such products, including obtaining the necessary regulatory approvals. For example, we have obtained licenses for U.S. marketing rights to Istalol and Xibrom from Senju, and we have obtained a license for worldwide rights to Caprogel® from the Eastern Virginia Medical School. Senju is responsible for the development of
Istalol, including obtaining the necessary
regulatory approvals in the United States. We are responsible for the development of Xibrom and Caprogel®.



We may not be able to identify
any product acquisition opportunities or be successful in negotiating favorable terms for any such product acquisitions. Should we be successful in acquiring or licensing any products, we will need to establish and enhance our sales, marketing,
distribution and manufacturing capabilities, each of which will require substantial financial and management resources. Our failure to establish effective sales, marketing, distribution and manufacturing capabilities on a timely basis would
adversely affect our ability to commercialize our products, including any acquired products. If we are unable to execute our strategic plan to transition to a specialty pharmaceutical company on a timely basis, our ability to generate revenues would
be substantially impaired which would materially harm our business and financial condition.



If we have problems with our contract manufacturers, our product development and commercialization efforts could be delayed or stopped.



We have entered into a master services agreement with R.P. Scherer West, Inc. (which has been subsequently acquired by
Cardinal Health, Inc.), for the manufacture of commercial quantities, if approved, of Vitrase®. We also intend to use a contract manufacturer to assist us in the development and manufacture of the new package configurations of Vitrase®, if approved. We have also entered into a manufacturing services agreement with Bausch
& Lomb Incorporated for the manufacture of commercial quantities, if approved, of Istalol and Xibrom. To date, we have needed these products only in amounts sufficient for clinical trials. Before any contract manufacturer can produce commercial quantities of a product, we must demonstrate to the FDAs
satisfaction that the product source for commercial quantities is substantially equivalent to the supply of the product used in our clinical trials. Such demonstration may include the requirement to conduct additional clinical trials. In December
2003, we submitted documents to the FDA seeking to qualify Bausch & Lomb as a manufacturer of Istalol. In addition, the manufacturing facilities of all of our contract manufacturers must comply with current Good Manufacturing Practice (cGMP) regulations, which the FDA
strictly enforces. Moreover, the facilities of the contract manufacturer must undergo and pass pre-approval inspections by the FDA before any of our products can be approved for commercial manufacture. We cannot assure you that Cardinal Health,
Bausch & Lomb, or any other manufacturer we may contract with in the future will be able, as applicable, to develop processes necessary to produce substantially equivalent product or that regulatory authorities will approve them as a
manufacturer. Failure to develop necessary production processes or receive regulatory approval of our manufacturers could delay or stop our efforts to develop and commercialize our product candidates.



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Our marketing partners may terminate, or fail to perform their duties under, our agreements, in which case our ability
to commercialize our products may be significantly impaired.



We have entered into collaborations with Allergan and Otsuka Pharmaceuticals relating to Vitrase® for ophthalmic uses for the posterior region of the eye, and with Senju relating to Istalol and Xibrom. If we obtain regulatory approval for Vitrase® for any such uses in the United States and Europe, we will be dependent on Allergan for the commercialization of Vitrase® for any such uses in these markets. We depend on Otsuka for obtaining
regulatory approval of Vitrase® for any such uses
in Japan, and if such approval is obtained, we will be dependent upon Otsuka for the commercialization of Vitrase® for such approved uses in Japan. We will also be dependent on Senju for obtaining regulatory approval for Istalol in the United States. The amount and timing of resources that Allergan, Otsuka, and Senju dedicate to our
collaborations is not within our control. Accordingly, any breach or termination of our agreements by, or disagreements with, these collaborators could delay or stop the development and/or commercialization of our product candidates, or adversely
impact our receipt of milestone payments, profit splits, royalties, and other consideration from these collaborations. Our collaborative partners may change their strategic focus, terminate our agreements on relatively short notice, or pursue
alternative technologies. Although our agreements with Allergan, Otsuka and Senju contain reciprocal terms providing that neither we nor they may develop products that directly compete in the same form with the products involved in the
collaboration, there can be no assurances that our collaborators will not develop competing products in different forms or products that compete indirectly with our products. Accordingly, unfavorable developments relating to our strategic partners
could have a significant adverse effect on us and our financial condition.



If we have problems with our sole source suppliers, our product development and commercialization efforts for our product candidates could be delayed or stopped.



Some materials used in our products are currently obtained from a single source. Biozyme Laboratories, Ltd. is currently our
only source for highly purified ovine hyaluronidase, which is the active ingredient in Vitrase®. We are currently renegotiating our agreement with Biozyme. If we are unable to renegotiate our agreement on terms acceptable to us, we may be required to obtain ovine hyaluronidase from
a third party supplier, if available. Commercial quantities of Vitrase® will be supplied by Cardinal Health as the sole source. Istalol and Xibrom, if approved, will be supplied by a single source, Bausch & Lomb.



We have not established and may not be able to establish arrangements with additional suppliers for these ingredients or products. Difficulties in our
relationship with our suppliers or delays or interruptions in such suppliers supply of our requirements could limit or stop our ability to provide sufficient quantities of our products, on a timely basis, for clinical trials and, if our
products are approved, could limit or stop commercial sales, which would have a material adverse effect on our business and financial condition. While we are currently pursuing additional sources for these products and materials, our success in
establishing such additional supply arrangements cannot be assured.



We
depend on our Chief Executive Officer, Vicente Anido, Jr., Ph.D., and other key personnel, to execute our strategic plan to transition to a specialty pharmaceutical company.



Our success largely depends on the skills, experience and efforts of our key personnel, including Chief Executive Officer,
Vicente Anido, Jr., Ph.D. We have entered into a written employment agreement with Dr. Anido that can be terminated at any time by us or by Dr. Anido. In the event Dr. Anidos employment is terminated, other than for cause or voluntarily by Dr.
Anido, Dr. Anido will receive nine months of salary as severance compensation. In the event Dr. Anidos employment is terminated after a change of control (such as a merger where we are bought by another entity, or a sale of substantially all
of our assets), other than for cause or voluntarily by Dr. Anido, then Dr. Anidos stock options will immediately vest and become exercisable in full, and Dr. Anido will receive twenty-four months of salary as severance compensation. We do not
maintain key person life insurance policies covering Dr. Anido. The loss of Dr. Anido, or our failure to retain other key personnel, would jeopardize our ability to execute our strategic plan and materially harm our business.



Risks Related to Our Industry



Compliance with the extensive government regulations to which we are subject is expensive
and time consuming, and may result in the delay or cancellation of product sales, introductions or modifications.



Extensive industry regulation has had, and will continue to have, a significant impact on our business. All pharmaceutical companies, including us, are
subject to extensive, complex, costly and evolving regulation by the federal government, principally the FDA and to a lesser extent by the U.S. Drug Enforcement Administration (DEA), and foreign and state government agencies. The Federal
Food, Drug and Cosmetic Act, the Controlled Substances Act and other domestic and foreign statutes and regulations govern or influence the testing, manufacturing, packing, labeling, storing, record keeping, safety, approval, advertising, promotion,
sale and distribution of our products. Under certain of these regulations, we and our contract suppliers and manufacturers are subject to periodic inspection of our or their respective facilities, procedures and operations and/or the testing of our
products by the FDA, the DEA and other authorities, which conduct periodic inspections to confirm that we and our contract suppliers and manufacturers are in compliance with all applicable regulations. The FDA also conducts pre-approval and
post-approval reviews and plant inspections to



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determine whether our systems, or our contract suppliers and manufacturers processes, are in compliance with
cGMP and other FDA regulations.



In addition, the FDA imposes a
number of complex regulatory requirements on entities that advertise and promote pharmaceuticals, including, but not limited to, standards and regulations for direct-to-consumer advertising, off-label promotion, industry sponsored scientific and
educational activities, and promotional activities involving the Internet.



We are dependent on receiving FDA and other governmental approvals prior to manufacturing, marketing and shipping our products. Consequently, there is always a risk that the FDA or other applicable governmental
authorities will not approve our products, or will take post-approval action limiting or revoking our ability to sell our products, or that the rate, timing and cost of such approvals will adversely affect our product introduction plans or results
of operations.



Our suppliers and manufacturers are subject to regulation by
the FDA and other agencies, and if they do not meet their commitments, we would have to find substitute suppliers or manufacturers, which could delay the supply of our products to market.



Regulatory requirements applicable to pharmaceutical products make the
substitution of suppliers and manufacturers costly and time consuming. We have no internal manufacturing capabilities and are, and expect to be in the future, entirely dependent on contract manufacturers and suppliers for the manufacture of our
products and for their active and other ingredients. The disqualification of these suppliers through their failure to comply with regulatory requirements could negatively impact our business because the delays and costs in obtaining and qualifying
alternate suppliers (if such alternative suppliers are available, which we cannot assure) could delay clinical trials or otherwise inhibit our ability to bring approved products to market, which would have a material adverse affect on our business
and financial condition.



We may be required to initiate or defend against
legal proceedings related to intellectual property rights, which may result in substantial expense, delay and/or cessation of our development and commercialization of our products.



We rely on patents to protect our intellectual property rights. The strength of this protection, however, is uncertain. For
example, it is not certain that:



| |  | our patents and pending patent applications cover products and/or technology that we invented first;
| | - | ----------------------------------------------------------------------------------------------------



| |  | we were the first to file patent applications for these inventions;
| | - | -------------------------------------------------------------------



| |  | others will not independently develop similar or alternative technologies or duplicate our technologies;
| | - | --------------------------------------------------------------------------------------------------------



| |  | any of our pending patent applications will result in issued patents; and
| | - | -------------------------------------------------------------------------



| |  | any of our issued patents, or patent pending applications that result in issued patents, will be held valid and infringed in the event the patents are asserted against others.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



We currently own or license 25 U.S. and foreign
patents and 49 U.S. and foreign pending patent applications. There can be no assurance that our existing patents, or any patents issued to us as a result of such applications, will provide a basis for commercially viable products, will provide us
with any competitive advantages, or will not face third-party challenges or be the subject of further proceedings limiting their scope or enforceability. We may become involved in interference proceedings in the U.S. Patent and Trademark Office to
determine the priority of our inventions. In addition, costly litigation could be necessary to protect our patent position. We license patents held by the Eastern Virginia Medical School (for Caprogel®) and Senju (for Istalol and Xibrom). Some of these license agreements do not permit us to control the prosecution, maintenance, protection and defense of
such patents. If the licensor chooses not to protect its own patent rights, we may not be able to take actions to secure our related product marketing rights. In addition, if such patent licenses are terminated before the expiration of the licensed
patents, we may no longer be able to continue to manufacture and sell such products as may be covered by the patents.



We also rely on trademarks to protect the names of our products. These trademarks may be challenged by others. If we enforce our trademarks against third
parties, such enforcement proceedings may be expensive. We have exclusively licensed the trademark Vitrase® to Allergan under our collaboration agreement. Some of our other trademarks, including Caprogel and Xibrom, are owned by or assignable to our licensors Eastern Virginia Medical School and Senju, and upon expiration or termination of the license agreements,
we may no longer be able to use these trademarks.



We also rely
on trade secrets, unpatented proprietary know-how and continuing technological innovation that we seek to protect with confidentiality agreements with employees, consultants and others with whom we discuss our business. Disputes may arise



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concerning the ownership of intellectual property or the applicability or enforceability of these agreements, and we
might not be able to resolve these disputes in our favor.



In
addition to protecting our own intellectual property rights, third parties may assert patent, trademark or copyright infringement or other intellectual property claims against us based on what they believe are their own intellectual property rights.
We may be required to pay substantial damages, including but not limited to treble damages, for past infringement if it is ultimately determined that our products infringe a third partys intellectual property rights. Even if infringement
claims against us are without merit, defending a lawsuit takes significant time, may be expensive and may divert managements attention from other business concerns. Further, we may be stopped from developing, manufacturing or selling our
products until we obtain a license from the owner of the relevant technology or other intellectual property rights. If such a license is available at all, it may require us to pay substantial royalties or other fees.



If third-party reimbursement is not available, our products may not be accepted in the
market.



Our ability to earn sufficient returns on our
products will depend in part on the extent to which reimbursement for our products and related treatments will be available from government health administration authorities, private health insurers, managed care organizations and other healthcare
providers.



Third-party payers are increasingly attempting to
limit both the coverage and the level of reimbursement of new drug products to contain costs. Consequently, significant uncertainty exists as to the reimbursement status of newly approved healthcare products. If we succeed in bringing one or more of
our product candidates to market, third-party payers may not establish adequate levels of reimbursement for our products, which could limit their market acceptance and result in a material adverse effect on our financial condition.



The rising cost of healthcare and related pharmaceutical product pricing has lead to
cost-containment pressures that could cause us to sell our products at lower prices, resulting in less revenue to us.



Any products for which we receive FDA approval may be purchased or reimbursed by state and federal government authorities, private health insurers and
other organizations, such as health maintenance organizations (HMOs) and managed care organizations (MCOs). Third party payors increasingly challenge pharmaceutical product pricing. The trend toward managed healthcare in the
United States, the growth of organizations such as HMOs and MCOs, and various legislative proposals and enactments to reform healthcare and government insurance programs, including the Medicare Prescription Drug Modernization Act of 2003, could
significantly influence the manner in which pharmaceutical products are prescribed and purchased, resulting in lower prices and/or a reduction in demand. Such cost containment measures and healthcare reforms could adversely affect our ability to
sell our products. Furthermore, individual states have become increasingly aggressive in passing legislation and implementing regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints,
discounts, restrictions on certain product access, importation from other countries and bulk purchasing. Legally mandated price controls on payment amounts by third party payors or other restrictions could negatively and materially impact our
revenues and financial condition. We anticipate that we will encounter similar regulatory and legislative issues in most other countries outside the United States.



We face intense competition and rapid technological change that could result in the development of products by others that are superior
to the products we are developing.



We have numerous
competitors in the United States and abroad, including, among others, major pharmaceutical and specialized biotechnology firms, universities and other research institutions that may be developing competing products. Such competitors may include
Allergan, Alcon Laboratories, Inc., Bausch & Lomb, Novartis Ophthalmics (a unit of Novartis AG), Pfizer and Eli Lilly and Company. These competitors may develop technologies and products that are more effective or less costly than our current or
future product candidates or that could render our technologies and product candidates obsolete or noncompetitive. Many of these competitors have substantially more resources and product development, manufacturing and marketing experience and
capabilities than we do. Many of our competitors also have more resources committed to and expertise in effectively commercializing, marketing, and promoting products approved by the FDA, including communicating the effectiveness, safety and value
of the products to actual and prospective customers and medical professionals. In addition, many of our competitors have significantly greater experience than we do in undertaking preclinical testing and clinical trials of pharmaceutical product
candidates and obtaining FDA and other regulatory approvals of products and therapies for use in healthcare.



We are exposed to product liability claims, and insurance against these claims may not be available to us on reasonable terms or at all.



The design, development, manufacture and sale of our products involve an inherent risk of product liability claims by
consumers and other third parties. As we begin to commercialize, market, and promote our approved products, like Vitrase®for use as a spreading agent, we may be subject to various product liability claims. In addition, we may in the future recall or issue field corrections related to our products due to manufacturing
deficiencies, labeling errors or other safety or regulatory reasons. We cannot assure you that we



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will not experience material losses due to product liability claims, product recalls or corrections. These events, among
others, could result in additional regulatory controls, such as the performance of costly post-approval clinical studies or revisions to our approved labeling that could limit the indications or patient population for our products or could even lead
to the withdrawal of a product from the market. Furthermore, any adverse publicity associated with such an event could cause consumers to seek alternatives to our products, which may cause our sales to decline, even if our products are ultimately
determined not to have been the primary cause of the event.



We
currently maintain sold products and clinical trial liability insurance with per occurrence and aggregate coverage limits of $5 million. The coverage limits of our insurance policies may be inadequate to protect us from any liabilities we might
incur in connection with clinical trials or the sale of our products. Product liability insurance is expensive and in the future may not be available on commercially acceptable terms, or at all. A successful claim or claims brought against us in
excess of our insurance coverage could materially harm our business and financial condition.



Risks Relating to Our Stock



Our
stock price is subject to significant volatility.



Since
2001 until the present, the daily closing price per share of our common stock has ranged from a high of $133.75 per share to a low of $2.60 per share (as adjusted for the 1-for-10 reverse stock split effected November 2002). Our stock price has been
and may continue to be subject to significant volatility. The following factors, in addition to other risks and uncertainties described in this section and elsewhere in this prospectus, may cause the market price of our common stock to fall:



| |  | the scope, outcome and timeliness of any governmental, court or other regulatory action that may involve us (including, without limitation, the scope, outcome or timeliness of any
inspection or other action of the FDA);
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the availability to us, on commercially reasonable terms or at all, of third-party sourced products and materials;
| | - | ------------------------------------------------------------------------------------------------------------------



| |  | developments concerning proprietary rights, including the ability of third parties to assert patents or other intellectual property rights against us which, among other things,
could cause a delay or disruption in the development, manufacture, marketing or sale of our products;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | competitors publicity regarding actual or potential products under development or new commercial products;
| | - | -----------------------------------------------------------------------------------------------------------



| |  | period-to-period fluctuations in our financial results;
| | - | -------------------------------------------------------



| |  | public concern as to the safety of new technologies;
| | - | ----------------------------------------------------



| |  | future sales of debt or equity securities by us;
| | - | ------------------------------------------------



| |  | sales of our common stock by our directors, officers or significant shareholders;
| | - | ---------------------------------------------------------------------------------



| |  | comments made by securities analysts; or
| | - | ----------------------------------------



| |  | economic and other external factors, including disasters and other crises.
| | - | --------------------------------------------------------------------------



We participate in a highly dynamic industry, which often results in significant volatility in the market price of our common stock irrespective of company
performance. Fluctuations in the price of our common stock may be exacerbated by conditions in the healthcare and technology industry segments or conditions in the financial markets generally.



Trading in our stock over the last 12 months has been limited, so investors may not be
able to sell as much stock as they want at prevailing prices.



The average daily trading volume in our common stock for the twelve-month period ending March 31, 2004 was approximately 41,639 shares, and the average daily number of transactions was approximately 84 for the same period. If limited
trading in our stock continues, it may be difficult for investors to sell their shares in the public market at any given time at prevailing prices.



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Future sales of shares of our common stock may negatively affect our stock price.



As a result of our bridge financing in September 2002, our PIPE financing
transaction in November 2002, and our follow-on public offering in November 2003, we issued approximately 15.6 million shares of our common stock. The shares of common stock issued in connection with these transactions represents approximately 89%
of our common stock as of April 21, 2004. In connection with our bridge financing and our PIPE financing transaction, we also issued warrants exercisable for the purchase of up to an aggregate of 1,842,104 shares of our common stock based upon a
purchase price of $3.80 per share. We filed a registration statement on Form S-3 (Registration No. 333-103820), which was declared effective on June 6, 2003, to cover sales of the shares issued to the PIPE investors and issuable to the PIPE and
bridge investors upon conversion of the warrants. The exercise of these warrants could result in significant dilution to our shareholders at the time of exercise. We also filed a registration statement on Form S-2 (Registration No. 333-109576) in
connection with our follow-on public offering, which was declared effective on November 12, 2003, to cover sales of the shares issued the investors. On April 23, 2004 we filed a universal shelf registration statement on Form S-3 (Registration No.
333-114815) with the SEC providing for the offering from time to time of up to $75,000,000 of our securities, which may consist of common stock, preferred stock, warrants, or debt securities. This registration statement also includes up to 3,600,000
shares of our common stock to be offered by certain selling stockholders.



In the future, we may issue additional shares of common stock or other equity securities, including but not limited to options, warrants or other derivative securities convertible into our common stock, which could
result in significant dilution to our shareholders.



Concentration of
ownership could delay or prevent a change in control or otherwise influence or control most matters submitted to our stockholders.



Our directors, officers, and principal stockholders together control approximately 64.5% of our voting securities, a concentration of ownership that could
delay or prevent a change in control. Our executive officers and directors beneficially own approximately 4.4% of our voting securities and our 5% or greater stockholders beneficially own approximately 60.1% of our voting securities. These
stockholders, if acting together, would be able to influence and possibly control most matters submitted for approval by our stockholders, including the election of directors, delaying or preventing a change of control, and the consideration of
transactions in which stockholders might otherwise receive a premium for their shares over then-current market prices.



Our shareholder rights plan, provisions in our charter documents, and Delaware law may inhibit a takeover of us, which could limit the price investors might be willing
to pay in the future for our common stock, and could entrench management.



We have a shareholder rights plan that may have the effect of discouraging unsolicited takeover proposals, thereby entrenching current management and possibly depressing the market price of our common stock. The
rights issued under the shareholder rights plan would cause substantial dilution to a person or group that attempts to acquire us on terms not approved in advance by our board of directors. In addition, our charter and bylaws contain provisions that
may discourage unsolicited takeover proposals that stockholders may consider to be in their best interests. These provisions include:



| |  | a classified board of directors;
| | - | --------------------------------



| |  | the ability of the board of directors to designate the terms of and issue new series of preferred stock;
| | - | --------------------------------------------------------------------------------------------------------



| |  | advance notice requirements for nominations for election to the board of directors; and
| | - | ---------------------------------------------------------------------------------------



| |  | special voting requirements for the amendment of our charter and bylaws.
| | - | ------------------------------------------------------------------------



We are also subject to anti-takeover provisions under Delaware law, each of which could delay or prevent a change of control. Together these provisions
and the shareholder rights plan may make more difficult the removal of management and may discourage transactions that otherwise could involve payment of a premium over prevailing market prices for common stock.



Item 3 Quantitative and Qualitative Disclosures about Market Risk



The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive from our investments
without significantly increasing risk. Some of the securities that we invest in may have market risk. This means that a change in prevailing interest rates may cause the principal amount of the investment to fluctuate. For example, if we hold a
security that was issued with a fixed interest rate at the then-prevailing rate and the prevailing interest rate later rises, the principal amount of our investment will probably decline. To minimize this risk in the future, we intend to maintain
our portfolio of cash equivalents and short-term investments in a variety of securities, including commercial paper, money market funds, government and non-government debt securities. The average duration of all of our investments in 2003 and for
the three months of 2004 was less than one year. Due to the short-term nature of these investments, we believe we have no material exposure to interest rate risk arising from



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our investments. A hypothetical 100 basis point adverse move in interest rates along the entire interest rate yield curve
would not materially affect the fair market value of our interest sensitive financial investments. Declines in interest rates over time will, however, reduce our investment income, while increases in interest rates over time will increase our
interest expense. Historically, and as of March 31, 2004, we have not used derivative instruments or engaged in hedging activities.



We have operated primarily in the United States and have had no sales to date. Accordingly, we have not had any significant exposure to foreign currency
rate fluctuations. Visionexs functional currency is the Singapore dollar and a portion of Visionexs business was conducted in currencies other than the Singapore dollar prior to the wind down of operations in July 2002. As a result,
currency fluctuations between the Singapore dollar and the currencies in which Visionex had done business will cause foreign currency translation gains and losses. We do not expect our foreign currency translation gains or losses to be material. We
do not currently engage in foreign exchange hedging transactions to manage our foreign currency exposure.



Item 4 Disclosure Controls and Procedures



An evaluation as of the end of the period covered by this report was carried out, under the supervision and participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design
and operation of our disclosure controls and procedures. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in timely alerting them to material
information required to be included in our periodic SEC filings.



PART II OTHER INFORMATION



Item 1 Legal Proceedings



From
time to time, we may be involved in litigation relating to claims arising out of our operations in the normal course of business. We currently are not a party to any legal proceedings, the adverse outcome of which, in managements opinion,
individually or in the aggregate, would have a material adverse effect on our results of operations or financial position.



Item 4 Submission of Matters to a Vote of Security Holders



No matters were voted upon during the first quarter of 2004.



Item 6 Exhibits and Reports on Form 8-K



|(a) | Exhibits
|--- | --------



See Exhibit Index



|(b) | Reports on Form 8-K
|--- | -------------------



On February 26, 2004, we filed a Form 8-K attaching a press release relating to the Registrants financial results for the quarter and year ended
December 31, 2003.



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Signatures



Pursuant to the
requirements of the Securities Exchange Act of 1934, ISTA Pharmaceuticals, Inc. has duly caused this 10-Q report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Irvine, County of Orange, State of California,
on this 10th day of May 2004.



ISTA PHARMACEUTICALS, INC.(Registrant)/s/ Vicente Anido, Jr., Ph.D.Vicente Anido, Jr., Ph.D. President and Chief Executive Officer/s/ Lauren P. SilvernailLauren P. Silvernail Chief Financial Officer, Chief Accounting Officer and Vice President, Corporate Development




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##### Table of Contents

INDEX TO EXHIBITS



|              |  |                                                                                                                                                                          
|------------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description                                                                                                                                                              
|              | 
|31.1          |  | President and Chief Executive Officers Certification, as required by Section 302 of the Sarbanes-Oxley Act of 2002                                                      
|              | 
|31.2          |  | Chief Financial Officer, Chief Accounting Officer and Vice President, Corporate Developments Certification, as required by Section 302 of the Sarbanes-Oxley Act of 2002
|              | 
|32.1          |  | President and Chief Executive Officers Certification, as required by Section 906 of the Sarbanes-Oxley Act of 2002                                                      
|              | 
|32.2          |  | Chief Financial Officer, Chief Accounting Officer and Vice President, Corporate Developments Certification, as required by Section 906 of the Sarbanes-Oxley Act of 2002



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