U.S.
SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-Q




[mark
one]




x
            QUARTERLY
      REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934




For
      the quarterly period ended:  June 30,
  2009




o
            TRANSITION
      REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934




For
      the transition period from ______________ to
  ______________




Commission
File Number 333-119366








NOVELOS
THERAPEUTICS, INC.


(Exact name of registrant as
specified in its charter)




DELAWARE
            04-3321804(State or other jurisdiction of
      incorporation or organization)
            (IRS EmployerIdentification
      No.)





One
Gateway Center, Suite 504, Newton, Massachusetts 02458


(Address of principal executive
offices)





(617)
244-1616


(Issuer’s telephone number, including
area code)





(Former name, former address, if
changed since last report)





Check
whether the issuer (1) filed all reports required to be filed by Section 13 or
15(d) of the Exchange Act during the past 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.  Yes x  No o





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).  Yes o  No x





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T  during
the preceding 12 months (or for such shorter period that the registrant was
required to submit and post such files). Yes o  No o





Number of
shares outstanding of the issuer’s common stock as of the latest practicable
date: 47,197,837 shares of
common stock, $.00001 par value per share, as ofAugust 5, 2009.




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer,” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.




(Check
one):




Large
      accelerated filer
              o
              
              Accelerated
      fileroNon-accelerated
      filer
              o
              
              Smaller
      reporting companyx(Do
      not check if a smaller reporting company)








NOVELOS THERAPEUTICS,
INC.




FORM10-Q INDEX




PART I.  FINANCIAL
      INFORMATIONItem 1.
            Financial
      Statements
            3Item 2.
            Management’s Discussion and
      Analysis of Financial Condition and Results of
      Operations
            14Item 4.
            Controls and
      Procedures
            18PART II. OTHER
      INFORMATIONItem 1.
            Legal
      Proceedings
            19Item 1A.
            Risk
Factors
            19Item 2.
            Unregistered Sales of Equity
      Securities and Use of Proceeds
            20Item 3.
            Defaults Upon Senior
      Securities
            20Item 4.
            Submission of Matters to a Vote of
      Security Holders
            20Item 5.
            Other
      Information
            20Item 6.
            Exhibits
            20





2





PART I.  FINANCIAL
INFORMATION




Item 1.Financial Statements




NOVELOS
THERAPEUTICS, INC.


BALANCE
SHEETS




June
      30,
                
                
                December
      31,2009
                
                
                2008(unaudited)ASSETSCURRENT
      ASSETS:Cash
      and equivalents
                
                $
                4,493,124
                
                
                $
                1,262,452Prepaid
      expenses and other current assets
                
                
                85,668
                
                
                
                129,785Total
      current assets
                
                
                4,578,792
                
                
                
                1,392,237FIXED
      ASSETS, NET
                
                
                60,936
                
                
                
                58,451DEPOSITS
                
                
                15,350
                
                
                
                15,350TOTAL
      ASSETS
                
                $
                4,655,078
                
                
                $
                1,466,038LIABILITIES,
      REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS’ DEFICIENCYCURRENT
      LIABILITIES:Accounts
      payable and accrued liabilities
                
                $
                2,696,475
                
                
                $
                4,653,912Accrued
      compensation
                
                
                125,369
                
                
                
                240,639Accrued
      dividends
                
                
                1,669,884
                
                
                
                1,689,322Derivative
      liability
                
                
                3,374,257
                
                
                
                —Deferred
      revenue – current
                
                
                33,333
                
                
                
                33,333Total
      current liabilities
                
                
                7,899,318
                
                
                
                6,617,206DEFERRED
      REVENUE – NONCURRENT
                
                
                416,667
                
                
                
                433,333COMMITMENTS
      AND CONTINGENCIESREDEEMABLE
      PREFERRED STOCK:Series
      D convertible preferred stock, $0.00001 par value; 420 shares designated;
      413.5 shares issued and outstanding at December 31, 2008
                
                
                —
                
                
                
                13,904,100Series
      E convertible preferred stock, $0.00001 par value; 735
      shares   designated; 645.442875 shares issued and
      outstanding at June 30, 2009 (Note 5) (liquidation preference $33,401,669
      at June 30, 2009)
                
                
                21,672,675
                
                
                
                —21,672,675
                
                
                
                13,904,100STOCKHOLDERS’
      DEFICIENCY:Preferred
      stock, $0.00001 par value; 7,000 shares authorized:
                  Series
      C cumulative convertible preferred stock; 237 shares issued and
      outstanding at June 30, 2009 and 272 shares issued and outstanding at
      December 31, 2008 (liquidation preference $3,384,360 at June 30,
      2009)
                
                
                —
                
                
                
                —Common
      stock, $0.00001 par value; 150,000,000 shares authorized; 44,743,611
      shares issued and outstanding at June 30, 2009 and 43,975,656 shares
      issued and outstanding at December 31, 2008
                
                
                448
                
                
                
                440Additional
      paid-in capital
                
                
                35,134,549
                
                
                
                40,204,112Accumulated
      deficit
                
                
                (60,468,579
                )
                
                
                (59,693,153
                )Total
      stockholders’ deficiency
                
                
                (25,333,582
                )
                
                
                (19,488,601
                )TOTAL
      LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS’
      DEFICIENCY
                
                $
                4,655,078
                
                
                $
                1,466,038




See
notes to financial statements.




3




NOVELOS
THERAPEUTICS, INC.


STATEMENTS
OF OPERATIONS


(Unaudited)





Three
      Months Ended June 30,
                
                
                Six
      Months Ended June 30,2009
                
                
                2008
                
                
                2009
                
                
                2008REVENUE
                
                $
                32,313
                
                
                $
                45,676
                
                
                $
                63,281
                
                
                $
                54,009COSTS
      AND EXPENSES:Research
      and development
                
                
                1,588,458
                
                
                
                4,045,757
                
                
                
                3,372,290
                
                
                
                10,957,683General
      and administrative
                
                
                506,747
                
                
                
                716,698
                
                
                
                982,943
                
                
                
                979,772Total
      costs and expenses
                
                
                2,095,205
                
                
                
                4,762,455
                
                
                
                4,355,233
                
                
                
                11,937,455LOSS
      FROM OPERATIONS
                
                
                (2,062,892
                )
                
                
                (4,716,779
                )
                
                
                (4,291,952
                )
                
                
                (11,883,446
                )OTHER
      INCOME (EXPENSE):Interest
      income
                
                
                —
                
                
                
                37,891
                
                
                
                1,013
                
                
                
                101,212Loss
      on derivatives
                
                
                (2,795,710
                )
                
                
                —
                
                
                
                (2,383,590
                )
                
                
                —Miscellaneous
                
                
                2,250
                
                
                
                2,250
                
                
                
                4,732
                
                
                
                4,500Total
      other income (expense)
                
                
                (2,793,460
                )
                
                
                40,141
                
                
                
                (2,377,845
                )
                
                
                105,712NET
      LOSS
                
                
                (4,856,352
                )
                
                
                (4,676,638
                )
                
                
                (6,669,797
                )
                
                
                (11,777,734
                )PREFERRED
      STOCK DIVIDENDS
                
                
                (884,723
                )
                
                
                (530,468
                )
                
                
                (1,652,906
                )
                
                
                (933,248
                )PREFERRED
      STOCK DEEMED DIVIDENDS
                
                
                —
                
                
                
                (4,417,315
                )
                
                
                (714,031
                )
                
                
                (4,417,315
                )NET
      LOSS ATTRIBUTABLE TO COMMONSTOCKHOLDERS
                
                $
                (5,741,075
                )
                
                $
                (9,624,421
                )
                
                $
                (9,036,734
                )
                
                $
                (17,128,297
                )BASIC
      AND DILUTED NET LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS PER COMMON
      SHARE
                
                $
                (0.13
                )
                
                $
                (0.24
                )
                
                $
                (0.21
                )
                
                $
                (0.44
                )SHARES
      USED IN COMPUTING BASIC ANDDILUTED
      NET LOSS ATTRIBUTABLE TOCOMMON
      STOCKHOLDERS PER COMMON SHARE
                
                
                44,142,669
                
                
                
                39,360,272
                
                
                
                44,059,624
                
                
                
                39,351,432




See
notes to financial statements.




4




NOVELOS
THERAPEUTICS, INC.


STATEMENTS
OF CASH FLOWS


(Unaudited)





Six
      Months Ended June 30,2009
            
            
            2008CASH
      FLOWS FROM OPERATING ACTIVITIES:Net
      loss
            
            $
            (6,669,797
            )
            
            $
            (11,777,734
            )Adjustments
      to reconcile net loss to cash used in operating
activities:Depreciation
      and amortization
            
            
            15,515
            
            
            
            7,748Loss
      on disposal of fixed assets
            
            
            —
            
            
            
            6,472Stock-based
      compensation
            
            
            360,089
            
            
            
            257,035Loss
      on derivatives
            
            
            2,383,590
            
            
            
            —Changes
      in:Prepaid
      expenses and other current assets
            
            
            44,117
            
            
            
            (42,247
            )Accounts
      payable and accrued liabilities
            
            
            (1,957,437
            )
            
            
            1,132,560Accrued
      compensation
            
            
            (115,270
            )
            
            
            (179,914
            )Deferred
      revenue
            
            
            (16,666
            )
            
            
            483,833Cash
      used in operating activities
            
            
            (5,955,859
            )
            
            
            (10,112,247
            )CASH
      FLOWS FROM INVESTING ACTIVITIES:Purchases
      of fixed assets
            
            
            (18,000
            )
            
            
            (20,251
            )Change
      in restricted cash
            
            
            —
            
            
            
            1,184,702Cash
      provided by (used in) investing activities
            
            
            (18,000
            )
            
            
            1,164,451CASH
      FLOWS FROM FINANCING ACTIVITIES:Proceeds
      from the sale of preferred stock and warrants, net
            
            
            9,204,531
            
            
            
            5,469,672Dividends
      paid to preferred stockholders
            
            
            —
            
            
            
            (740,280
            )Proceeds
      from exercise of stock option
            
            
            —
            
            
            
            1,000Cash
      provided by financing activities
            
            
            9,204,531
            
            
            
            4,730,392INCREASE
      (DECREASE) IN CASH AND EQUIVALENTS
            
            
            3,230,672
            
            
            
            (4,217,404
            )CASH
      AND EQUIVALENTS AT BEGINNING OF YEAR
            
            
            1,262,452
            
            
            
            9,741,518CASH
      AND EQUIVALENTS AT END OF PERIOD
            
            $
            4,493,124
            
            
            $
            5,524,114SUPPLEMENTAL
      DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIESDeemed
      dividends on preferred stock
            
            $
            714,031
            
            
            $
            4,417,315Dividends
      accrued but not paid to preferred stockholders
            
            $
            1,451,325
            
            
            $
            530,468Dividends
      paid to preferred stockholders in shares of Series E preferred
      stock
            
            $
            1,597,144
            
            
            $
            —Preferred
      stock dividends converted into shares of common stock
            
            $
            75,200
            
            
            $
            —Relative
      fair value of warrants issued to preferred stockholders
            
            $
            2,907,208
            
            
            $
            1,302,592Exchange
      of Series B preferred stock for Series D preferred stock
            
            $
            —
            
            
            $
            9,918,666Exchange
      of Series D preferred stock for Series E preferred stock
            
            $
            13,904,100
            
            
            $
            —




See
notes to financial statements.




5




Novelos
Therapeutics, Inc.


Notes
to Financial Statements





1.
NATURE OF BUSINESS, BASIS OF PRESENTATION





Novelos
Therapeutics, Inc. (‘‘Novelos’’ or the ‘‘Company’’) is a drug development
company focused on the development of therapeutics for the treatment of cancer
and hepatitis.  Novelos owns exclusive worldwide intellectual property
rights (excluding Russia and other states of the former Soviet Union) related to
certain clinical compounds and other pre-clinical compounds based on oxidized
glutathione.





The
Company is subject to a number of risks similar to those of other companies in
an early stage of development. Principal among these risks are dependence on key
individuals, competition from substitute products and larger companies, the
successful development and marketing of its products in a highly regulated
environment and the need to obtain additional financing necessary to fund future
operations.





The
Company is devoting substantially all of its efforts toward the research and
development of its products and has incurred operating losses since
inception.  The process of developing products will continue to
require significant research and development, non-clinical testing, clinical
trials and regulatory approval.  The Company expects that these
activities, together with general and administrative costs, will result in
continuing operating losses for the foreseeable future. The Company believes
that funds at June 30, 2009 will allow it to continue operations into late 2009.
The primary endpoint ofthe Company’sPhase 3 clinical trial in non-small cell lung cancer isincreased median overall
survival, to be measured
following the occurrence of 725 events (deaths).The Company anticipates that the
results from its Phase 3 trial will be available in early 2010. The Company’s
ability to execute its operating plan beyond late 2009 is dependent on its
ability to obtain additional capital (including through the sale of equity and
debt securities at any time and by entering into collaborative arrangements for
licensing rights in North America, which is not likely to occur before 2010) to
fund its development activities.  The Company plans to actively pursue
these alternatives during 2009 and 2010, but there can be no assurance that it
will obtain the additional capital necessary to fund its business beyond late
2009.  The timing and content of the Phase 3 clinical trial results
may impact the Company’s projected cash requirements and its ability to obtain
capital.  Furthermore, continuing difficult conditions in the capital
markets globally may adversely affect the ability of the Company to obtain
funding in a timely manner.  The Company is continually evaluating
measures to further reduce costs to preserve existing capital.  If the
Company is unable to obtain sufficient additional funding, it will be required,
beginning in late 2009, to scale back its administrative activities and clinical
development programs, including the Phase 3 clinical development of its lead
drug candidate, NOV-002, or it may be required to cease operations
entirely.





The accompanying unaudited financial
statements of the Company have been prepared in accordance with accounting
principles generally accepted in the United States (“GAAP”) for interim
financial information and with the instructions to Form
10-Q.  Accordingly, they do not include all of the information and
footnotes required by GAAP for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals) considered
necessary for the fair presentation of these financial statements have been
included. The preparation of financial statements in conformity with GAAP requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Interim results are not necessarily
indicative of results to be expected forother quarterly periods or forthe entire year ending
December 31, 2009. These unaudited financial statements
should be read in conjunction with the audited financial statements and related
notes thereto included in the Company’s latest annual report for the year ended
December 31, 2008on Form 10-K,which was filed with the Securities and
Exchange Commission (“SEC”) onMarch 30, 2009.





Comprehensive Income
(Loss)–The Company had no components of
comprehensive income (loss) other than the net loss in all periods
presented.





Derivative Instruments - The
Company generally does not use derivative instruments to hedge exposures to cash
flow or market risks; however, certain warrants to purchase common stock that do
not meet the requirements for classification as equity in accordance with
Emerging Issues Task Force Issue No. 00-19 (“EITF 00-19”),Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company’s Own
Stock  and EITF No. 07-5, Determining Whether an Instrument
(or Embedded Feature) is Indexed to an Entity’s Own Stock(“EITF
07-5”), are
classified as liabilities.  In such instances, net-cash settlement is
assumed for financial reporting purposes, even when the terms of the underlying
contracts do not provide for a net-cash settlement. These warrants are
considered derivative instruments since the agreements contain “down-round”
provisions whereby the number of shares for which the options are exercisable
and/or the exercise price of the warrants is subject to change in the event of
certain issuances of stock at prices below the then-effective exercise price of
the warrants.  The number of such warrants was 14,003,319 at January
1, 2009 and 15,094,857 at June 30, 2009.  The primary underlying risk
exposure pertaining to the warrants is the change in fair value of the
underlying common stock.  Such financial instruments are initially
recorded at fair value, or relative fair value when issued with other
instruments, with subsequent changes in fair value charged (credited) to
operations as a gain or loss on derivatives in each reporting period. If these
instruments subsequently meet the requirements for equity classification under
EITF 00-19 and EITF 07-5, the Company reclassifies the fair value to
equity.  At June 30, 2009, these warrants represent the only
outstanding derivative instruments issued or held by the Company.





6





2.
CHANGE IN ACCOUNTING PRINCIPLE




Effective
January 1, 2009, the Company adopted EITF 07-5, which establishes a framework
for determining whether certain freestanding and embedded instruments are
indexed to a company’s own stock for purposes of evaluation of the accounting
for such instruments under existing accounting literature.  As a
result of the adoption of EITF 07-5, certain warrants that were previously
determined to be indexed to the Company’s common stock upon issuance were
determined not to be indexed to the Company’s common stock because they include
‘down-round’ anti-dilution provisions.  The fair value of the warrants
at the dates of issuance totaling $6,893,000 was initially recorded as a
component of additional paid-in capital. Upon adoption of EITF 07-5, in the
first quarter of 2009, the Company recorded a decrease to the opening balance of
additional-paid-in capital of $6,893,000 and recorded a decrease to accumulated
deficit totaling $5,894,000, representing the decrease in the fair value of the
warrants from the date of issuance to December 31, 2008.  The increase
in fair value of the warrants of $2,796,000 during the three months ended June
30, 2009 and $2,384,000 during the six months ended June 30, 2009 has been
included as a component of other income in the accompanying statement of
operations for the respective period.  The fair value of the warrants
at June 30, 2009 of $3,374,000 is included as a current liability in the
accompanying balance sheet as of that date.





3.FAIR VALUES OF
ASSETS AND LIABILITIES





In
accordance with SFAS No. 157, the Company groups its financial assets and
financial liabilities generally measured at fair value in three levels, based on
the markets in which the assets and liabilities are traded and the reliability
of the assumptions used to determine fair value.





·
            Level
      1: Input prices quoted in an active market for identical financial assets
      or liabilities.


·
            Level
      2: Inputs other than prices quoted in Level 1, such as prices quoted for
      similar financial assets and liabilities in active markets, prices for
      identical assets and liabilities in markets that are not active or other
      inputs that are observable or can be corroborated by observable market
      data.


·
            Level
      3: Input prices quoted that are significant to the fair value of the
      financial assets or liabilities which are not observable nor supported by
      an active market.





Assets
and liabilities measured at fair value on a recurring basis are summarized
below:




June
      30, 2009Level
      1
              
              
              Level
      2
              
              
              Level
      3
              
              
              Fair
      ValueLiabilities:Warrants
              
              $
              -
              
              
              $
              3,374,257
              
              
              $
              -
              
              
              $
              3,374,257




The fair
value of warrants has been estimated based on the closing price of the common
stock at the valuation date using the Black-Scholes option pricing model with
assumed volatility of 80%, terms ranging from nine to twenty months and discount
rates ranging from 0.56% to 0.84%.




4.
COLLABORATION AGREEMENTS





2009
Collaboration Agreement with Mundipharma





On
February 11, 2009, Novelos entered into a collaboration agreement (the
“Collaboration Agreement”) with Mundipharma International Corporation Limited
(“Mundipharma”) to develop, manufacture and commercialize Licensed Products (as
defined in the Collaboration Agreement), which includes the Company’s lead
compound, NOV-002, in Europe and Asia/Pacific (excluding China) (the
“Territory”).  Mundipharma is an independent associated company of
Purdue Pharma L.P. (“Purdue”).




7




Under the
Collaboration Agreement, Mundipharma received an exclusive license to develop,
manufacture, market, sell or otherwise distribute the Licensed Products and
improvements thereon in the Territory.  Novelos is responsible for the
cost and execution of development, regulatory submissions and commercialization
of NOV-002 outside the Territory, and Mundipharma is responsible for the cost
and execution of certain development activities, all regulatory submissions and
all commercialization within the Territory.  In the unlikely event
that Mundipharma is required to conduct an additional Phase 3 clinical trial in
first-line advanced-stage non-small cell lung cancer in order to gain regulatory
approval in Europe, Mundipharma will be entitled to recover the full cost of
such trial by reducing milestone, fixed sales-based payments and royalty
payments to Novelos by up to 50% of the payments owed until Mundipharma recovers
the full costs of such trial.  In order for Mundipharma or Novelos to
access the other party’s data or intellectual property related to Independent
Trials (as defined in the Collaboration Agreement), the accessing party must pay
the sponsoring party 50% of the cost of such trial.





The
launch of Licensed Products, including initiation of regulatory and pricing
approvals, and subsequent commercial efforts to market and sell Licensed
Products in each country in the Territory, will be determined by Mundipharma
based on its assessment of the commercial viability of the Licensed Products,
the regulatory environment and other factors. Novelos has no assurance that it
will receive any amount of the launch payments, fixed sales-based payments or
royalties described below.





Mundipharma
will pay Novelos $2.5 million upon the launch of NOV-002 in each country, up to
a maximum of $25 million. In addition, Mundipharma will make fixed sales-based
payments up to an aggregate of $60 million upon the achievement of certain
annual sales levels payable once the annual net sales exceed the specified
thresholds.  Mundipharma will also pay as royalties to Novelos, during
the term of the Collaboration Agreement, a double-digit percentage on net sales
of Licensed Products, based upon a four-tier royalty schedule, in countries
within the Territory where Novelos held patents on the licensed technology as of
the effective date of the agreement.  Royalties in countries in the
Territory where Novelos does not hold patents as of the effective date will be
paid at 50% of the royalty rates in countries where patents are held. The
royalties will be calculated based on the incremental net sales in the
respective royalty tiers and shall be due on net sales in each country in the
Territory where patents are held until the last patent expires in the respective
country.  In countries in the Territory where Novelos does not hold
patents as of the effective date of the Collaboration Agreement, royalties will
be due until the earlier of 15 years from the date of the Collaboration
Agreement or the introduction of a generic in the respective country resulting
in a 20% drop in Mundipharma’s market share in such country.





For
countries in which patents are held, the Collaboration Agreement expires on a
country-by-country basis within the Territory on the earlier of (1) expiration
of the last applicable Novelos patent within the country or (2) the
determination that any patents within the country are invalid, obvious or
otherwise unenforceable.  For countries in which no patents are held,
the Collaboration Agreement expires the earlier of 15 years from its effective
date or upon generic product competition in the country resulting in a 20% drop
in Mundipharma’s market share. Novelos may terminate the Collaboration Agreement
upon breach or default by Mundipharma.  Mundipharma may terminate the
Collaboration Agreement upon breach or default, filing of voluntary or
involuntary bankruptcy by Novelos, the termination of certain agreements with
companies associated with the originators of the licensed technology, or 30-day
notice for no reason.  If any regulatory approval within the Territory
is suspended as a result of issues related to the safety of the Licensed
Products, then Mundipharma’s obligations under the Collaboration Agreement will
be suspended until the regulatory approval is reinstated.  If that
reinstatement does not occur within 12 months of the suspension, then
Mundipharma may terminate the Collaboration Agreement.





Concurrent
with the execution of the Collaboration Agreement, Novelos completed a private
placement of preferred stock and warrants to Purdue Pharma L.P. (“Purdue”), an
independent associated company of Mundipharma. See ‘Series E Preferred Stock
Private Placement’ below.





2007
Collaboration Agreement with Lee’s Pharmaceutical (HK) Ltd.




In
December 2007 the Company entered into a Collaboration Agreement with Lee’s
Pharmaceutical (HK) Ltd. (“Lee’s Pharm”).  Pursuant to this agreement,
Lee’s Pharm obtained an exclusive license to develop, manufacture and
commercialize NOV-002 and NOV-205 in Hong Kong, Macau, China and Taiwan (the
“Lee’s Pharm Territory”).  Under the terms of the agreement the
Company received a license fee of $500,000 in March 2008 and is entitled to
receive up to $1,700,000 in future milestone payments upon the completion of
development and marketing milestones by Lee’s Pharm.  This initial
$500,000 payment received is being amortized over the estimated term of this
agreement, 15 years.  Accordingly, $8,333 and $16,666 of license
revenue was recognized in each of the three and six month periods, respectively,
ended June 30, 2009 and 2008.




8




The
Company will receive royalty payments of 20-25% of net sales of NOV-002 in the
Lee’s Pharm Territory and will receive royalty payments of 12-15% of net sales
of NOV-205 in the Lee’s Pharm Territory. Lee’s Pharm will also reimburse the
Company for the manufacturing cost of pharmaceutical products provided to Lee’s
Pharm in connection with the agreement.  Lee’s Pharm has committed to
spend a minimum amount on development in the first four years of the agreement.
The agreement expires upon the expiration of the last patent covering any of the
licensed products, or twelve years from the date of the first commercial sale in
China, whichever occurs later.




5.
STOCKHOLDERS’ DEFICIENCY





Series
E Preferred Stock Private Placement





Sale
of Series E Preferred Stock to Purdue Pharma





Concurrently
with the execution of the Collaboration Agreement, Novelos sold to Purdue 200
shares of a newly created series of the Company’s preferred stock, designated
“Series E Convertible Preferred Stock”, par value $0.00001 per share (the
“Series E Preferred Stock”), and a warrant (the “Series E Warrant”) to purchase
9,230,769 shares of Novelos common stock for an aggregate purchase price of
$10,000,000 (the “Series E Financing”).  Pursuant to the related
securities purchase agreement with Purdue (the “Purchase Agreement”), Purdue has
the right to designate one observer to attend all meetings of the Company’s
Board of Directors, committees thereof and access to all information made
available to members of the Board.  This right shall last until such
time as Purdue no longerholds at least one-half of
the Series E Preferred Stock issued to them at closing. Purdue has the right to
participate in future equity financings that each result in proceeds to the
Company of at least $20 million.





The
Series E Warrant is exercisable for an aggregate of 9,230,769 shares of Novelos
common stock at an exercise price of $0.65 per share. The warrant expires on
December 31, 2015.  The warrant exercise price and/or the common stock
issuable pursuant to such warrant are subject to adjustment for stock dividends,
stock splits or similar capital reorganizations so that the rights of the
warrant holders after such event will be equivalent to the rights of warrant
holders prior to such event.





Exchange
of Series D Preferred Stock for Series E Preferred Stock





The
Company also entered into an exchange agreement with the holders (the “Series D
Investors”) of the Company’s Series D Convertible Preferred Stock (the “Series D
Preferred Stock”) under which all 413.5 outstanding shares of Series D Preferred
Stock and accumulated but unpaid dividends thereon were exchanged for 445.442875
shares of Series E Preferred Stock.  The rights and preferences of the
Series E Preferred Stock are substantially the same as the Series D Preferred
Stock. In addition, the holders of Series D Preferred Stock waived liquidated
damages through the date of the exchange as a result of the Company’s failure to
file a registration statement covering the shares of common stock underlying the
Series D Preferred Stock and warrants not otherwise registered.  In
connection with the execution of this exchange agreement, warrants held by the
Series D Investors to purchase a total of 11,865,381 shares of the Company’s
common stock were amended to extend the expiration of the warrants to December
31, 2015 (from April 11, 2013) and to remove the forced exercise provision.
Also, the registration rights agreement dated May 2, 2007 with the Series D
Investors was amended to revise the definition of registrable securities under
the agreement to refer to Series E Preferred Stock.





Terms
of Series E Preferred Stock





The
shares of Series E Preferred Stock have a stated value of $50,000 per share and
are convertible into shares of common stock any time after issuance at the
option of the holder at $0.65 per share of common stock for an aggregate of
49,649,446 shares of common stock.  If there is an effective
registration statement covering the shares of common stock underlying the Series
E Preferred Stock and the VWAP, as defined in the Series E Certificate of
Designations, of Novelos common stock exceeds $2.00 for 20 consecutive trading
days, then the outstanding Series E Preferred Stock will automatically convert
into common stock at the conversion price then in effect.  The
conversion price will be subject to adjustment for stock dividends, stock splits
or similar capital reorganizations.




9




The
Series E Preferred Stock has an annual dividend rate of 9%, payable
semi-annually on June 30 and December 31.  Such dividends may be paid
in cash, in shares of Series E Preferred Stock or in registered shares of
Novelos common stock at the Company’s option, subject to certain
conditions.




For as
long as any shares of Series E Preferred Stock remain outstanding, Novelos is
prohibited from (i) paying dividends to its common stockholders, (ii) amending
its certificate of incorporation or by-laws, (iii) issuing any equity security
or any security convertible into or exercisable for any equity security at a
price of $0.65 or less or with rights senior to the Series E Preferred Stock
(except for certain exempted issuances), (iv) increasing the number of shares of
Series E Preferred Stock or issuing any additional shares of Series E Preferred
Stock, (v) selling or otherwise disposing of all or substantially all of its
assets (or in the case of licensing, any material intellectual property) or
entering into a merger or consolidation with another company unless Novelos is
the surviving corporation, the Series E Preferred Stock remains outstanding and
there are no changes to the rights and preferences of the Series E Preferred
Stock, (vi) redeeming or repurchasing any capital stock other than the Series E
Preferred Stock, (vii) incurring any new debt for borrowed money in excess of
$500,000 and (viii) changing the number of the Company’s directors.




Registration
Rights Agreement





Simultaneous
with the execution of the Purchase Agreement, the Company entered into a
registration rights agreement (the “Registration Rights Agreement”) with Purdue
and the Series D Investors.  The Registration Rights Agreement
requires Novelos to file with the Securities and Exchange Commission no later
than 5 business days following the six-month anniversary of the execution of the
Purchase Agreement, a registration statement covering the resale of (i) a number
of shares of common stock equal to 100% of the shares issuable upon conversion
of the Series E Preferred Stock (excluding 12,000,000 shares of common stock
issuable upon conversion of the Series E Preferred Stock issued in exchange for
shares of outstanding Series D Preferred Stock as described below that are
included on a prior registration statement), (ii) 9,230,769 shares of common
stock issuable upon exercise of the warrants issued to Purdue and (iii)
11,865,381 shares of common stock issuable upon exercise of warrants held by the
Series D Investors. Novelos will be required to use its best efforts to have the
registration statement declared effective and to keep the registration statement
continuously effective under the Securities Act until the earlier of the date
when all the registrable securities covered by the registration statement have
been sold or the second anniversary of the closing.  In the event
Novelos fails to file the registration statement within the timeframe specified
by the Registration Rights Agreement, it will be required to pay to Purdue and
the Series D Investors liquidated damages equal to 1.5% per month (pro-rated on
a daily basis for any period of less than a full month) of the aggregate
purchase price of the Series E Preferred Stock and warrants until the delinquent
registration statement is filed.  Novelos will be allowed to suspend
the use of the registration statement for not more than 15 consecutive days or
for a total of not more than 30 days in any 12 month period.  The
Registration Rights Agreement replaces a prior agreement dated April 11, 2008
between Novelos and the Series D Investors.





The Company has an
obligation to maintain an effective registration statement covering 12,000,000
shares of common stock issuable upon Series E Preferred Stock, pursuant to a
registration rights agreement dated May 3, 2007, as
amended.The agreement, as amended, requires the Company to
use its best efforts to keep a registration statement covering 12,000,000 shares
of common stock continuously effective under the Securities Act until the
earlier of the date when all securities covered by this registration statement
have been sold or May 3, 2010.   In the event the Company does
not fulfill the requirements of the registration rights agreement, the Company
is required to pay to the investors liquidated damages equal to 1.5% per month
of the aggregate purchase price of the preferred stock and warrants until the
requirements have been met.  The second post-effective amendment was
declared effective on April 27, 2009. As of June 30, 2009, and
through the date of this filing, the Company has not concluded that it is
probable that damages will become due; therefore, no accrual for damages has
been recorded.





Advisor
Fees




Ferghana
Partners, Inc. (“Ferghana”), a New York consulting firm, received a cash fee for
their services in connection with the negotiation and execution of the
Collaboration Agreement equal to $700,000 (or seven percent (7%) of the gross
proceeds to the Company resulting from the sale of Series E Preferred Stock and
Common Stock Purchase Warrants to Purdue in connection with the Collaboration
Agreement).  Ferghana will also receive cash fees equal to six percent
(6%) of all payments to Novelos by Mundipharma under the Collaboration Agreement
other than royalties on net sales.





Accounting
Treatment of Series E Financing





The terms
of the Series E Preferred Stock contain provisions that may require redemption
in circumstances that are beyond the Company’s control. Therefore, the shares
have been recorded as redeemable preferred stock outside of permanent equity in
the balance sheet as of June 30, 2009.  The gross proceeds of
$10,000,000 received in conjunction with the Series E Financing were allocated
on a relative fair value basis between the Series E Preferred Stock and the
warrants.  The relative fair value of the warrants issued to investors
of $2,907,000 was recorded as additional paid-in capital while the relative fair
value of the Series E Preferred Stock of $7,093,000 was recorded as temporary
equity.  The carrying value of the Series E Preferred Stock was
immediately adjusted to its fair value of $7,385,000 based on the fair value of
the as-converted common stock.  The difference of $292,000 represents
a beneficial conversion feature and was recorded as a deemed dividend to
preferred stockholders. Issuance costs related to the Series E Financing of
$795,000 were netted against temporary equity.  The Series E Preferred
Stock that was issued in payment of dividends was initially recorded in
temporary equity at the value of the dividends that had accrued totaling
$1,597,000. This amount was then adjusted to the fair value of $1,179,000 based
on the fair value of the as-converted common stock.  The difference of
$418,000 was recorded as an offset to the deemed dividends
recorded.  The Series E Preferred Stock that was issued in exchange
for outstanding shares of Series D Preferred Stock was recorded at $13,904,000,
the carrying value of the shares of Series D Preferred Stock as of the date of
the exchange.




10




As a
result of the modification to the warrants to extend their expiration by
approximately 32 months that occurred in connection with the exchange of all
outstanding shares of Series D Preferred Stock for shares of Series E Preferred
Stock, in the six months ended June 30, 2009, a deemed dividend of $840,000 was
recorded.  This amount represents the incremental fair value of the
warrants immediately before and after modification using the Black-Scholes
option pricing model, volatility of 80%, discount rates of 1.54% and 2.17% and
the remaining terms.





Since the
Company has concluded it is not probable that an event will occur which would
allow the holders of Series E Preferred Stock to elect to receive a liquidation
payment, the carrying value will not be adjusted until the time that such event
becomes probable. The liquidation preference (redemption value) is $33,401,669
at June 30, 2009.





Conversions of
Preferred Stock –During the three month period ended June 30, 2009, 35
shares of the Company’s Series C preferred stock, having an aggregate stated
value of $420,000, and accumulated dividends thereon were converted into 761,843
shares of the Company’s common stock.





Common
Stock Warrants—The
following table summarizes information with regard to outstanding warrants
issued in connection with equity and debt financings as of June 30,
2009.





Offering
            
            Outstanding
              (as adjusted)
            
            
            Exercise
              Price
              (as adjusted)
            
            Expiration Date2005
      Bridge Loans
            
            
            720,000
            
            
            $
            0.625
            
            April
      1, 20102005
      PIPE - Placement agents and finders
            
            
            1,025,313
            
            
            $
            0.65
            
            August
      9, 2010Series
      A Preferred:Investors
      – September 30, 2005 closing
            
            
            909,090
            
            
            $
            0.65
            
            September
      30, 2010Investors
      – October 3, 2005 closing
            
            
            60,606
            
            
            $
            0.65
            
            October
      3, 20102006
      PIPE – Investors and placement agents
            
            
            12,379,848
            
            
            $
            1.82
            
            March
      7, 2011Series
      B Preferred:Investors
            
            
            7,500,000
            
            
            $
            0.65
            
            December
      31, 2015Placement
      agents
            
            
            900,000
            
            
            $
            1.25
            
            May
      2, 2012Series
      C Exchange
            
            
            1,333,333
            
            
            $
            1.25
            
            May
      2, 2012Series
      D Preferred
            
            
            4,365,381
            
            
            $
            0.65
            
            December
      31, 2015Series
      E Preferred
            
            
            9,230,769
            
            
            $
            0.65
            
            December
      31, 2015Total
            
            
            38,424,340





During
the three month period ended June 30, 2009, the Company issued 6,112 shares
of  common stock in connection with the cashless exercise of warrants
to purchase 20,830 shares of the Company’s common stock. The warrants
had an expiration date of August 9, 2010 and an exercise price of $0.65 per
share.





Other
than those described above, there have been no warrant exercises through June
30, 2009.  See Note 9 for a description of warrant exercises which
occurred subsequent to June 30, 2009.




11




6.
STOCK-BASED COMPENSATION




The following table summarizes amounts
charged to expense for stock-based compensation related to employee and director
stock option grants and stock-based compensation recorded in connection with
stockoptionsgranted to non-employee consultants:





Three months ended June
      30,
            
            
            Six months ended June
      30,2009
            
            
            2008
            
            
            2009
            
            
            2008Employee and director stock option
      grants:Research
      and development
            
            $
            35,286
            
            
            $
            85,954
            
            
            $
            71,546
            
            
            $
            114,284General
      and administrative
            
            
            75,304
            
            
            
            57,665
            
            
            
            157,319
            
            
            
            116,552110,590
            
            
            
            143,619
            
            
            
            228,865
            
            
            
            230,836Non-employee consultants stock
      option grants andrestricted stock
      awards:Research
      and development
            
            
            75,504
            
            
            
            9,245
            
            
            
            78,833
            
            
            
            9,315General
      and administrative
            
            
            47,408
            
            
            
            16,482
            
            
            
            52,391
            
            
            
            16,884122,912
            
            
            
            25,727
            
            
            
            131,224
            
            
            
            26,199Total stock-based
      compensation
            
            $
            233,502
            
            
            $
            169,346
            
            
            $
            360,089
            
            
            $
            257,035




Determining Fair
Value





The following table summarizes
weighted-average values and assumptions used for
options granted to employees, directors and consultants in the periods
indicated:




Three Months
      Ended
              June 30,
    2008
            
            
            Six Months
      Ended
              June 30,
    2008Volatility
            
            
            80
            %
            
            
            80
            %Weighted-average
      volatility
            
            
            80
            %
            
            
            80
            %Risk-free interest
      rate
            
            
            2.65
            %
            
            
            3.14
            %Expected life
      (years)
            
            
            5
            
            
            
            5Dividend
            
            
            0
            %
            
            
            0
            %Weighted-average exercise
      price
            
            
            $ 0.58
            
            
            
            $ 0.60Weighted-average grant-date fair
      value
            
            
            $ 0.38
            
            
            
            $ 0.39





There were no stock option grants during
the six months ended June 30, 2009.





A summary of stock option activity is as
follows:





Options
              Outstanding
            
            
            Weighted
              Average
              Exercise
    Price
            
            
            Weighted
      Average
              Remaining
              Contracted Term
      in
              Years
            
            
            Aggregate
              Intrinsic
              ValueOutstanding at December 31,
      2008
            
            
            7,279,825
            
            
            $
            0.60
            
            
            
            7.9
            
            
            $
            989,718Options
      granted
            
            
            —Outstanding at June 30,
      2009
            
            
            7,279,825
            
            
            $
            0.60
            
            
            
            7.3
            
            
            $
            3,333,459Exercisable at June 30,
      2009
            
            
            4,566,482
            
            
            $
            0.68
            
            
            
            6.2
            
            
            $
            2,161,115




12




The aggregate intrinsic value of options
outstanding is calculated based on the positive difference between the closing
market price of the Company’s common stock at the end of the respective period
and the exercise price of the underlying options.





As of June 30, 2009there was approximately $690,000of total unrecognized compensation cost
related to unvested stock-based compensation arrangements.Of this total
amount,33%,44% and23% areexpected to be recognized during
2009, 2010and 2011, respectively.  The Company
expects2,713,343 inunvestedoptions to vest in the
future.The
weighted-average grant-date fair value of vested and unvested options
outstanding at June 30, 2009 was $0.41 and $0.30,
respectively.





In
January 2009, the Company modified the terms of options to purchase 40,000
shares of common stock held by two employees to vest all unvested options and to
extend the expiration dates of the options. The modification was made in
connection with the termination of the two employees to reduce costs. During the
six months ended June 30, 2009, incremental stock-based compensation expense of
$8,000 was recorded in connection with the modification of the option
terms.





7.
NET LOSS PER SHARE





Basic net
loss per share is computed by dividing net loss attributable to common
stockholders by the weighted average number of shares of common stock
outstanding during the period. Diluted net loss per share is computed by
dividing net loss attributable to common stockholders by the weighted average
number of shares of common stock and the dilutive potential common stock
equivalents then outstanding. Potential common stock equivalents consist of
stock options, warrants and convertible preferred stock and accumulated
dividends.  Since the Company has a net loss for all periods
presented, the inclusion of common stock equivalents in the computation would be
antidilutive. Accordingly, basic and diluted net loss per share are the
same.




The following potentially dilutive
securities have been excludedfrom the computation of diluted net
loss per share since their inclusion would be antidilutive:




Three Months Ended June
      30,
            
            
            Six Months Ended June
      30,2009
            
            
            2008
            
            
            2009
            
            
            2008Stock
    options
            
            
            7,279,825
            
            
            
            5,182,651
            
            
            
            7,279,825
            
            
            
            5,182,651Warrants
            
            
            38,424,340
            
            
            
            34,713,048
            
            
            
            38,424,340
            
            
            
            34,713,048Conversion of preferred
      stock
            
            
            56,593,880
            
            
            
            36,829,192
            
            
            
            56,593,880
            
            
            
            36,829,192





8.
INCOME TAXES





The Company accounts for income taxes in
accordance withStatement
of Financial Accounting
Standards (“SFAS”)No. 109,Accounting for
Income Taxes(SFAS 109).
Under SFAS 109, deferred tax assets or liabilities are computed based on the
difference between the financial-statement and income-tax basis of assets and
liabilities, andnet
operating loss carryforwards, using the enacted tax rates. Deferred income tax
expense or benefit is based on changes in the asset or liability from period to
period. The Company did not record a provisionor benefitfor federal, state or foreign income taxes for thethreeand sixmonths endedJune 30, 2009because the Company has experienced
losses since inception. The Company has not recorded deferred tax assets as
their realizationis uncertain.





9. SUBSEQUENT EVENTS





In July
2009, 8.75 shares of the Company’s Series E Preferred Stock, having an aggregate
stated value of $437,500, and accumulated dividends thereon were converted into
696,465 shares of the Company’s common stock.





In July
2009, the Company issued 72,916 shares of its common stock in connection with
the cashless exercise of warrants to purchase an aggregate of 262,503 shares of
the Company’s common stock. The warrants had an expiration date of
August 2, 2010 and an exercise price of $0.65 per share.





In August
2009, 21 shares of the Company’s Series E Preferred Stock, having an aggregate
stated value of $1,050,000 and accumulated dividends thereon were converted into
1,684,845 shares of the Company’s common stock.




13




Item 2.Management’s Discussion and Analysis of Financial Condition and
Resultsof Operations




Forward-Looking
Statements




This
quarterly report on Form 10-Q includes forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended, which
we refer to as the Exchange Act. For this purpose, any statements contained
herein regarding our strategy, future operations, financial position, future
revenues, projected costs, prospects, plans and objectives of management, other
than statements of historical facts, are forward-looking statements. The words
“anticipates,” “believes,” “estimates,” “expects,” “intends,” “may,” “plans,”
“projects,” “will,” “would” and similar expressions are intended to identify
forward-looking statements, although not all forward-looking statements contain
these identifying words. We cannot guarantee that we actually will achieve the
plans, intentions or expectations disclosed in our forward-looking statements.
There are a number of important factors that could cause actual results or
events to differ materially from those disclosed in the forward-looking
statements we make. These important factors include our significant accounting
estimates, such as those for unbilled contract service fees and amounts due to
clinical research organizations, clinical investigators and contract
manufacturers, the risk factors set forth below under the caption “Risk Factors”
and the risk factors set forth in Item 1A of our annual report for the year
ended December 31, 2008 on Form 10-K, which was filed with the Securities and
Exchange Commission (“SEC”) on March 30, 2009. Although we may elect to update
forward-looking statements in the future, we specifically disclaim any
obligation to do so, even if our estimates change, and readers should not rely
on those forward-looking statements as representing our views as of any date
subsequent to the date of this quarterly report.




Overview




We are a
biopharmaceutical company, established in 1996, commercializing oxidized
glutathione-based compounds for the treatment of cancer and
hepatitis.




NOV-002,
our lead compound, is currently in Phase 3 development for non-small cell lung
cancer.  NOV-002 is intended for use in combination with chemotherapy
to act as a chemopotentiator  and chemoprotectant.  Three
separate Phase 2 trials demonstrated clinical activity and safety of NOV-002 in
combination with chemotherapy in non-small cell lung cancer.  In May
2006, we finalized a Special Protocol Assessment (SPA) with the FDA for a single
pivotal Phase 3 trial in advanced non-small cell lung cancer in combination with
first-line chemotherapy, and received Fast Track designation in August 2006.
Patient enrollment commenced in November 2006 and targeted enrollment was
reached in March 2008.  The primary endpoint of thePhase
3 trial is increased median
overall survival, to be
measured following the occurrence of 725 events (deaths).  We
anticipate that results for this trial will be available in early
2010.




NOV-002
is also being developed to treat early-stage breast cancer. In June 2007 we
commenced enrollment in a U.S. Phase 2 neoadjuvant breast trial, which is
ongoing at The University of Miami and The Medical University of South
Carolina  to evaluate the ability of NOV-002 to enhance the
effectiveness of chemotherapy.  As presented at the San Antonio Breast
Cancer Symposium (December 2008) six pathologic complete responses occurred in
the first 15 women (40%) who have completed chemotherapy and undergone surgery,
which is much greater than the historical control of less than 20% in HER-2
negative patients.  Furthermore, patients experienced decreased
hematologic toxicities.




NOV-002
is also being developed to treat chemotherapy-resistant ovarian
cancer.  In a U.S. Phase 2 chemotherapy-resistant ovarian cancer trial
at Massachusetts General Hospital and Dana-Farber Cancer Institute from July
2006 through May 2008, NOV-002 (plus carboplatin) slowed progression of the
disease in 60% of evaluable patients (nine out of 15 women). The median
progression-free survival was 15.4 weeks, almost double the historical control
of eight weeks. These results were presented at the American Society of Clinical
Oncology in May 2008.




Based on
results to-date, in 2009 and 2010 we intend to initiate several Phase 2 trials
with NOV-002 in cancers.  Our ability to initiate these trials, and
the timing of such trials, will depend on available funding, principally from
collaborative arrangements or the issuance of debt or equity
securities.




NOV-205,
our second compound, is intended for use as a hepatoprotective agent with
immunomodulating and anti-inflammatory properties.  A U.S. Phase 1b
clinical trial in patients who previously failed treatment with pegylated
interferon plus ribavirin was completed in December 2007.  Based on
favorable safety results of that trial, we plan to initiate a longer duration,
proof-of-concept trial in the event we obtain the additional funding necessary
for that purpose.  However, there can be no assurance that such
funding will be available.




14




Both
compounds have completed clinical trials in humans and have been approved for
use in Russia, where they were originally developed.  We own all
intellectual property rights worldwide (excluding Russia and other states of the
former Soviet Union) related to compounds based on oxidized glutathione,
including NOV-002 and NOV-205. Our patent portfolio includes six U.S. issued
patents, two European issued patents and one Japanese issued
patent.




We have a
partnership with Mundipharma International Corporation Limited (“Mundipharma”)
to develop and commercialize NOV-002 in Europe and Japan.  We have a
partnership with Lee’s Pharmaceutical (HK) Ltd. (“Lee’s Pharm”) to develop and
commercialize NOV-002 and NOV-205 in China.




Results
of Operations





Revenue.Revenue
consists of amortization of license fees received in connection with partner
agreements and income received from a grant from the U.S. Department of Health
and Human Services.





Research
anddevelopment
expense.Research and development expense
consists of costs incurred in identifying, developing and testing product
candidates, which primarily
consist of salaries and related expenses for personnel, fees paid to
professional service providers for independent monitoring and analysis of our
clinical trials, costs of contract research and manufacturing and costs to
secureintellectual property.  Wearecurrentlydevelopingtwoproprietarycompounds, NOV-002 and
NOV-205.To date, most of our research and
development costs have been associated with our NOV-002
compound.





General
and administrative expense.General and administrative
expense consists primarily of salaries and other related costs for personnel in
executive, finance and administrative functions. Other costs include facility
costs, insurance, costs for public and investor relations, directors’ fees and
professional fees for legal and accounting services.





Three Months EndedJune 30, 2009 and
2008





Revenue.During
the three months ended June 30, 2009 and 2008 we recognized $8,000 in license
fees in connection with our collaboration with Lee’s Pharm, which commenced in
December 2007.  Under the terms of our agreement with Lee’s Pharm, the
Company received a license fee of $500,000 in March 2008 and is entitled to
receive up to $1,700,000 in future milestone payments upon the completion of
development and marketing milestones by Lee’s Pharm.  The $500,000
initial payment received is being amortized over the estimated term of the
agreement, 15 years.  During the three months ended June 30, 2009, we
also recognized $24,000 in grant revenue related to a grant received from the
U.S. Department of Health and Human Services. The related costs are included as
a component of research and development expense.




Research and
Development.Research and
development expense for thethree monthsendedJune 30, 2009was $1,588,000,compared to $4,046,000for thesame period in 2008. The $2,458,000,or61%, decrease in research a
 nd development expense wasdue toa combination of factors.  In
March 2008, we reached the enrollment target for our Phase 3 clinical trial of
NOV-002, and an increasing number of patients completed their treatment regimen
throughout 2008.   As a result, certain clinical costs have
leveled off or declined. Contract research services such as those related to
clinical research organizations, consultants and central laboratory services
decreased by $979,000.  Clinical investigator expenses, which are
affected by the number of patients that remain on treatment, decreased by
$1,394,000.  Salaries and overhead costs decreased by
$100,000.  These increases were offset by a $15,000 increase in stock
compensation expense.





General and
Administrative.General
andadministrative expense
for the three months ended June 30, 2009 was $507,000, comparedto $717,000for thesame period in 2008. The $210,000, or 29%,decrease was due to a $143,000 decrease
in professional fees and a $116,000 decrease in salaries and overhead. These
decreases were a result of actions taken to reduce discretionary spending in
order to conserve cash. Stock-based compensation increased by
$49,000.





Interest
Income.Interest income
for thethree months ended
June 30, 2009was
$0compared to$38,000 forthesame period in 2008.  During
the three months ended June 30, 2009, our cash was on deposit in a non-interest
bearing account that is fully insured by the FDIC.




Losson
derivatives–Effective January 1, 2009, we adopted EITF 07-5. As a result of the
adoption of EITF 07-5, we recorded a loss on derivatives of $2,796,000 during
the three months ended June 30, 2009. This amount represents the increase in
fair value, during the three months ended June 30, 2009, of outstanding warrants
which contain “down-round” anti-dilution provisions, whereby the number of
shares for which the options are exercisable and/or the exercise price of the
warrants is subject to change in the event of certain issuances of stock at
prices below the then-effective exercise prices of the warrants.




15




Preferred Stock
Dividends.During thequarter endedJune 30, 2009, we accrued $885,000 individendswith respect to our SeriesCand E preferred
stock.  During the three months ended June 30, 2009, preferred stock
dividends accrued on shares of Series C preferred stock totaling $75,200 were
converted into shares of common stock.  At June 30, 2009, accrued
dividends totaling $1,670,000 remain unpaid.




During thethree monthsendedJune 30, 2008we accrued $530,000 of dividends with
respect to our Series C and Series D preferred stock.  During the
three months ended June 30, 2008 we also recorded deemed dividendsto preferred stockholderstotaling$4,417,000.  This amount represents the
value attributed to thereduction in exercise and conversion
prices of the warrants and Series B preferred stock issued in May 2007 in
connection with the financing that occurred in April 2008.




The deemed dividends,cash dividendsand accrued dividendshave been included in the calculation ofnet loss attributable to common stockholders of $5,741,000, or $0.13 per
share, for the three months ended June 30, 2009 and $9,624,000 or $0.24 per
share, for the three months ended June 30, 2008.  The deemed dividends
and cash dividends are excluded from our net loss (from operating activities) of
$4,856,000 or $0.11 per share, for the three months ended June 30, 2009 and
$4,677,000 or $0.12 per share, for the three months ended June 30,
2008.




SixMonths EndedJune 30, 2009 and
2008





Revenue.During
the six months ended June 30, 2009 and 2008 we recognized $17,000 in license
fees in connection with our collaboration with Lee’s Pharm, which commenced in
December 2007.  Under the terms of our agreement with Lee’s Pharm, the
Company received a license fee of $500,000 in March 2008 and is entitled to
receive up to $1,700,000 in future milestone payments upon the completion of
development and marketing milestones by Lee’s Pharm.  The $500,000
initial payment received is being amortized over the estimated term of the
agreement, 15 years.  During the six months ended June 30, 2009 and
2008, we also recognized $47,000 and $37,000, respectively, in grant revenue
related to a grant received from the U.S. Department of Health and Human
Services. The related costs are included as a component of research and
development expense.




Research and
Development.Research and
development expense for thesix monthsendedJune 30, 2009was $3,372,000,compared to $10,958,000for thesame period in 2008. The $7,586,000,or69%, decrease in research an
 d development expense wasdue toa combination of factors.  In
March 2008, we reached the enrollment target for our Phase 3 clinical trial of
NOV-002, and an increasing number of patients completed their treatment regimen
throughout 2008.   As a result, certain clinical costs have
leveled out or declined. Contract research services such as those related to
clinical research organizations, consultants and central laboratory services
decreased by $2,509,000.  Clinical investigator expenses, which are
affected by the number of patients that remain on treatment, decreased by
$2,769,000.  The cost of chemotherapy drug to be provided to patients
in Europe decreased by $1,754,000 and drug manufacturingand distributioncosts(including storing and shipping
chemotherapy drug) decreased by $434,000. Salaries and overhead costs decreased
by $147,000.  These decreases were offset by a $27,000 increase in
stock compensation expense.





General and
Administrative.General
andadministrative expense
for the six months ended June 30, 2009 was $983,000. We recorded general and
administrative expense of$980,000for thesame period in 2008.However, during the six months ended
June 30, 2008 we recorded a $404,000 credit to account for a waiver of potential
liquidated damages associated with registration rights agreements.  We
had previously accrued an estimate for such damages in 2007. Without this
$404,000 credit, general and administrative expense during the six months ended
June 30, 2008 would have been $1,384,000, representing a decrease of $401,000,
or 29% during the six months ended June 30, 2009 compared to the same period in
the prior year.  This decrease is due principally to a $264,000
decrease in professional fees and a $213,000 decrease in salaries and overhead
costs which were a result of actions taken to reduce discretionary spending in
order to conserve cash. The decrease was partially offset by an increase in
stock-based compensation of $76,000.





Interest
Income.Interest income for
thesix months ended June
30, 2009was $1,000compared to$101,000 forthesame period in
2008.  Beginning in March 2009, our cash was on deposit in a
non-interest bearing account that is fully insured by the
FDIC.




16




Losson
derivatives–Effective January 1, 2009, we adopted EITF 07-5. As a result of the
adoption of EITF 07-5, we recorded a loss on derivatives of $2,384,000 during
the six months ended June 30, 2009. This amount represents the decrease in fair
value, during the six months ended June 30, 2009, of outstanding warrants which
contain “down-round” anti-dilution provisions, whereby the number of shares for
which the options are exercisable and/or the exercise price of the warrants is
subject to change in the event of certain issuances of stock at prices below the
then-effective exercise prices of the warrants.





Preferred Stock
Dividends.During thesix months endedJune 30, 2009, we accrued $1,653,000 individendswith respect to our SeriesC, D and Epreferred stockholders. On February 11, 2009, all shares of
Series D preferred stock and accrued dividends thereon totaling $1,597,000
(including $202,000 that accrued during the six months ended June 30, 2009) were
exchanged for Series E preferred stock.The remaining accrued dividends
have not been paid. During the six
months ended June 30, 2009, we also recorded deemed dividendsto preferred stockholderstotaling$714,000.  This amountwas recorded in connection with the
financing that occurred in February 2009 andrepresents the value attributed to themodification of certain
warrants less the net adjustment required to record the newly issued shares of
Series E preferred stock at fair value, as described in Note 5 to the financial
statements.




During thesix monthsendedJune 30, 2008,we paidcashdividends toSeries B and Series Cpreferred stockholders of $740,000 and accrued $530,000 of
dividends due to our Series C and D preferred stockholders.  During
the six months ended June 30, 2008 we also recorded deemed dividendsto preferred stockholderstotaling$4,417,000.  This amount represents the
value attributed to thereduction in exercise and conversion
prices of the warrants and preferred stock issued in May 2007 in connection with
the financing that occurred in April 2008.




The deemed dividends,cash dividendsand accrued dividendshave been included in the calculation ofnet loss attributable to common stockholders of $9,037,000, or $0.21 per
share, for the six months ended June 30, 2009 and $17,128,000, or $0.44 per
share, for the six months ended June 30, 2008.  The deemed dividends
and cash dividends are excluded from our net loss (from operating activities) of
$6,670,000 or $0.15 per share, for the six months ended June 30, 2009 and
$11,778,000, or $0.30 per share, for the six months ended June 30,
2008.




Liquidity
and Capital Resources





We have financed our operations since
inception through the sale of securities and the issuance of debt(which was subsequently paid off or
converted into equity). As
ofJune30, 2009,we had $4,493,000in cash and equivalents.




During thesix months endedJune 30, 2009, approximately $5,956,000 in cash was used in operations, primarily due to a
net loss of $6,670,000anda net decrease of $2,073,000 in accounts payable and accrued
liabilities.Other changes in working capital
provided cash of $27,000.The cash impact of thenetloss wasreduced by a $2,384,000
non-cashloss on derivatives,non-cash stock-based compensation expense of
$360,000and depreciation andamortizationof fixed assets totaling$16,000.




During
the six months ended June 30, 2009, we purchased $18,000 in fixed assets and
received net proceeds of
$9,205,000from the sale of our SeriesEpreferred stock.





We
believe that our funds atJune 30, 2009will allow usto continue operations at budgeted
levelsinto late2009.The primary endpoint of our Phase 3clinicaltrialin non-small cell lung canceris increased median overall
survival, to be measured
following the occurrence of 725 events (deaths). Weanticipate that the results from this
trial will be available in early 2010.Our ability to execute our operating
plan beyondlate2009 is dependent on our
ability to obtain additionalcapital (includingthrough the sale of equity and debt
securitiesat any timeand by entering into
collaborative arrangementsfor licensing rights in North
America, which is not
likely to occur before2010) to fund our development
activities. We plan topursuethese alternativesduring 2009and 2010, but there can be no assurance that we
will obtain the additional capital necessary to fund our business beyondlate2009. The timing and content of the Phase 3clinicaltrialresults may impact our projected
cash requirements and our
ability to obtain capital. Furthermore, continuing adverseconditions in the capital markets
globallymay affectour ability to obtain
funding in a timely manner. We arecontinuouslyevaluating measures tofurtherreduceourcoststopreserve existing capital.  If we are unable to obtain
sufficient additional funding, we will be required,beginninginlate 2009,to scale back our administrative
activities and clinical development programs, including the Phase 3 clinical
developmentof our lead
drug candidate, NOV-002, or
we may be required to cease operations entirely.




17


Item 4.Controls and
Procedures





Evaluation of Disclosure
Controls and Procedures





Our
management, with the participation of our Chief Executive Officer and our Chief
Financial Officer, evaluated the effectiveness of our disclosure controls and
procedures as of June 30, 2009.  Disclosure controls and procedures,
as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934, are controls and procedures that are designed to ensure that information
required to be disclosed in our reports filed or submitted under the Exchange
Act is recorded, processed, summarized and reported within the time periods
specified in the Securities and Exchange Commission’s rules and forms and that
such information is accumulated and communicated to our management, including
our principal executive and financial officers, to allow timely decisions
regarding required disclosures.





Based on
the evaluation of our disclosure controls and procedures as of June 30, 2009,
our Chief Executive Officer and our Chief Financial Officer concluded that, as
of such date, our disclosure controls and procedures were operating
effectively.





Change in Internal Control
over Financial Reporting





The
Company’s management, in connection with its evaluation of internal controls
(with the participation of the Company’s principal executive officer and
principal financial officer), did not identify any change in internal control
over the financial reporting process that occurred during the Company’s second
quarter of 2009 that would have materially affected, or would have been
reasonably likely to materially affect, the Company’s internal control over
financial reporting.





Limitations on Effectiveness
of Controls





In
designing and evaluating our disclosure controls and procedures, our management
recognizes that any system of controls, however well designed and operated, can
provide only reasonable, and not absolute, assurance that the objectives of the
system are met. In addition, the design of any control system is based in part
on certain assumptions about the likelihood of future events. Because of these
and other inherent limitations of control systems, there can be no assurance
that any design will succeed in achieving its stated goals under all potential
future conditions, regardless of how remote.





18




PART II. OTHER
INFORMATION




Item 1.Legal Proceedings




None.




Item
1A. Risk Factors





The
report from our independent registered public accounting firm included in our
annual report on Form 10-K indicates that there is substantial doubt about
whether we will be able to continue as a going concern.





The
report from our independent registered public accounting firm included with our
annual report on Form 10-K indicates that factors exist that raise substantial
doubt about our ability to continue as a going concern. We believe that our
funds atJune30, 2009will allow usto continue operations at budgeted
levelsinto late2009.The primary endpoint of our Phase 3 clinical trial in
non-small cell lung cancer is increased median overall survival, to be measured
following the occurrence of 725 events (deaths).  Weanticipate that the results from this
trial will be available in early 2010.Our ability to execute our operating plan beyondlate2009 is dependent on our ability to
obtain additional capital (includingthrough the sale of equity and debt
securitiesat any timeand by entering into
collaborative arrangementsfor licensing rights in NorthAmerica, which is not likely to occur before
2010) to fund our
development activities. We
plan topursuethese alternativesduring 2009, but there can be no assurance that we
will obtaintheadditional
capitalnecessary to fund our business beyondlate2009.The timing and content ofthe Phase 3clinicaltrialresults may affect our projected cash
requirements and our ability to obtain capital. Furthermore, continuing
adverseconditions in the
capital markets globallymay impairour ability to obtain funding in a timely manner. We arecontinuouslyevaluating measures tofurtherreduceourcosts topreserve existing capital.  If we are unable to obtain
sufficient additional funding, we will be required,beginninginlate 2009,to scale back our
administrative activities
and clinical development programs, including the Phase 3 clinical development of
our lead drug candidate,
NOV-002, or we may have to cease our operations entirely.





We
are prohibited from taking certain actions and entering into certain
transactions without the consent of holders of our Series E preferred
stock.





For as
long as any shares of Series E Preferred Stock remain outstanding we are
prohibited from taking certain actions or entering into certain transactions
without the prior consent of specific holders of outstanding shares of Series E
preferred stock (currently consisting of Xmark Opportunity Partners, OrbiMed
Advisors LLC and Purdue Pharma L.P.).  We are prohibited from paying
dividends to common stockholders, amending our certificate of incorporation,
issuing any equity security or any security convertible into or exercisable for
any equity security at a price of $0.65 or less or with rights senior to the
Series E Preferred Stock (except for certain exempted issuances), increasing the
number of shares of Series E Preferred Stock or issuing any additional shares of
Series E Preferred Stock other than the 735 shares designated in the Series E
Certificate of Designations, or changing the number of our
directors.  We are also prohibited from entering into certain
transactions such as:




·
            selling
      or otherwise disposing of all or substantially all of our assets (and in
      the case of licensing, any material intellectual property) or entering
      into a merger or consolidation with another company unless we are the
      surviving corporation, the Series E Preferred Stock remains outstanding
      and there are no changes to the rights and preferences of the Series E
      Preferred Stock;


·
              redeeming
      or repurchasing any capital stock other than Series E Preferred Stock;
      or


·
              incurring
      any new debt for borrowed money in excess of
  $500,000.





Even
though our board of directors may determine that any of these actions are in the
best interest of the Company or our shareholders, we may be unable to complete
them if we do not get the approval of specific holders of the outstanding shares
of Series E Preferred Stock.  The interests of the holders of Series E
preferred stock may differ from those of stockholders
generally.  Moreover, the relationship of Purdue Pharma with
Mundipharma (our collaborator on most non-U.S. development, manufacturing and
commercialization of NOV-002) has the potential of creating situations where the
interests of the Company and those of Purdue Pharma may conflict.  If
we are unable to obtain consent from each of the holders identified above, we
may be unable to complete actions or transactions that our board of directors
determines are in the best interest of the Company and its
shareholders.




19




We
have not paid dividends to preferred stockholders totaling $1,670,000 as of June
30, 2009 and we may be unable to pay dividends to preferred stockholders when
due in future periods.





Our
ability to pay cash dividends on stated future dividend payment dates will be
dependent on a number of factors including the timing of future financings and
the amount of net losses in future periods. We anticipate that future dividends
on Series E preferred stock will be paid by issuing shares of common stock or
additional shares of Series E preferred stock, which will result in additional
dilution to existing shareholders. We anticipate that the accrued unpaid
dividend on our Series C preferred stock ($540,000 at June 30, 2009) will
continue to accumulate.





Item 2.Unregistered Sales of Equity Securities
and Use of Proceeds





None.





Item 3.Defaults Upon Senior
Securities





None.




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




None.




Item 5.Other Information




None.




Item 6.Exhibits





Incorporated by
      ReferenceExhibit No.
              
              Description
              
              Filed with this Form
      10-Q
              
              Form
              
              Filing Date
              
              Exhibit
  No.2.1
              
              Agreement and plan of merger among
      Common Horizons, Inc., Nove Acquisition, Inc. and Novelos Therapeutics,
      Inc. dated May 26, 2005
              
              
              
              8-K
              
              June 2,
2005
              
              99.22.2
              
              Agreement and plan of merger
      between Common Horizons and Novelos Therapeutics, Inc. dated June 7,
      2005
              
              
              
              10-QSB
              
              August 15,
    2005
              
              2.23.1
              
              Amended and RestatedCertificate of
      Incorporation filed
      as Exhibit A to the Certificate of Merger merging Nove Acquisition, Inc.
      with and into Novelos Therapeutics, Inc. dated May 26,
      2005
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.13.2
              
              Certificate of Merger merging
      Common Horizons, Inc. with and into Novelos Therapeutics, Inc. dated June
      13, 2005
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.23.3
              
              Certificate of Correction dated
      March 3, 2006
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.33.4
              
              Certificate of Amendment to
      Amended and Restated Certificate of Incorporation dated July 16,
      2007
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.43.5
              
              Certificate of Designations of Series
      Ccumulativeconvertible preferred
      stock
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.63.6
              
              Certificate of Designations of
      SeriesEconvertible preferred
      stock
              
              
              
              8-K
              
              February 18,
      2009
              
              4.13.7
              
              By-Laws
              
              
              
              8-K
              
              June 17,
    2005
              
              231.1
              
              Certification of the chief
      executive officerpursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
              
              X31.2
              
              Certification of the chief
      financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
              
              X32.1
              
              Certification Pursuant to 18
      U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002
              
              X





20




SIGNATURES




In accordance with the requirements of
the Exchange Act, the registrant caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.




NOVELOS THERAPEUTICS,
      INC.Date:  August 6,
      2009
            By:
            /s/ Harry S.
      PalminHarry S.
    PalminPresident and Chief Executive
      Officer




21




EXHIBIT INDEX




Incorporated by
      ReferenceExhibit No.
              
              Description
              
              Filed with this Form
      10-Q
              
              Form
              
              Filing Date
              
              Exhibit
  No.2.1
              
              Agreement and plan of merger among
      Common Horizons, Inc., Nove Acquisition, Inc. and Novelos Therapeutics,
      Inc. dated May 26, 2005
              
              
              
              8-K
              
              June 2,
2005
              
              99.22.2
              
              Agreement and plan of merger
      between Common Horizons and Novelos Therapeutics, Inc. dated June 7,
      2005
              
              
              
              10-QSB
              
              August 15,
    2005
              
              2.23.1
              
              Amended and RestatedCertificate of
      Incorporation filed
      as Exhibit A to the Certificate of Merger merging Nove Acquisition, Inc.
      with and into Novelos Therapeutics, Inc. dated May 26,
      2005
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.13.2
              
              Certificate of Merger merging
      Common Horizons, Inc. with and into Novelos Therapeutics, Inc. dated June
      13, 2005
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.23.3
              
              Certificate of Correction dated
      March 3, 2006
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.33.4
              
              Certificate of Amendment to
      Amended and Restated Certificate of Incorporation dated July 16,
      2007
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.43.5
              
              Certificate of Designations of Series
      Ccumulativeconvertible preferred
      stock
              
              
              
              10-QSB
              
              August 10, 2007
              
              3.63.6
              
              Certificate of Designations of
      SeriesEconvertible preferred
      stock
              
              
              
              8-K
              
              February 18,
      2009
              
              4.13.7
              
              By-Laws
              
              
              
              8-K
              
              June 17,
    2005
              
              231.1
              
              Certification of the chief
      executive officerpursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
              
              X31.2
              
              Certification of the chief
      financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
              
              X32.1
              
              Certification Pursuant to 18
      U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002
              
              X





22