Table of Contents

** **

 

** **

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 

**(MarkOne)**

 
| **x** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.** |
|-------|---------------------------------------------------------------------------------------------------------|

 

**FOR THE QUARTERLY PERIOD ENDED June 30,2009**

 

**OR**

 
| **o** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR 15  (d) OF THE SECURITIES EXCHANGE ACT** |
|-------|--------------------------------------------------------------------------------------------------|

 

**FORTHE TRANSITION PERIOD FROM            TO            **

 

**COMMISSION FILE NUMBER 000-30469**

 

**deCODEgenetics, Inc.**

(Exact Name ofRegistrant as Specified in Its Charter)

 

| **Delaware**                     | ** ** | **04-3326704**                        |
|----------------------------------|------------|---------------------------------------|
| (State or Other  Jurisdiction of |       | (I.R.S. Employer  Identification No.) |
| Incorporation or  Organization)  |       |                                  |

 

**STURLUGATA 8, IS-101 REYKJAVIK,ICELAND**

(Address ofPrincipal Executive Offices)

 

**+354-570-1900**

(Registrant’sTelephone Number, Including Area Code)

 

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

 

Indicate by check markwhether the registrant has submitted electronically and posted on its corporateWeb site, if any, every Interactive Data File required to be submitted andposted pursuant to Rule 405 of Regulation S-T (§232.05 of this chapter)during the preceding 12 months (or for such shorter period that the registrantwas required to submit and post such files).  o Yes  o No

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer or a smaller reporting company. See definitions of “largeaccelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act. (Check one):

 

| Large  accelerated filer o                     |   | Accelerated  filer x         |
|------------------------------------------------|--------|------------------------------|
|                                           |   |                         |
| Non-accelerated  filer o                       |   | Smaller  reporting company o |
| (Do not check if  a smaller reporting company) |   |                         |

 

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

 

The aggregatenumber of shares of the registrant’s common stock outstanding on July 31,2009 was 61,760,805 shares of common stock $.001 par value.

 

 

 

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**deCODEgenetics, Inc.**

 

**INDEX**

** **
| PART I.      | FINANCIAL  INFORMATION                                                                                                 |
|-------------------|------------------------------------------------------------------------------------------------------------------------|
|              |                                                                                                                   |
| Item 1.           | Financial  Statements (Unaudited)                                                                                      |
|              |                                                                                                                   |
|              | Condensed Consolidated Balance Sheets as of  June 30, 2009 and December 31, 2008                             |
|              |                                                                                                                   |
|              | Condensed Consolidated Statements of Operations for  the three and six-month periods ended June 30, 2009 and 2008 |
|              |                                                                                                                   |
|              | Condensed Consolidated Statements of Cash Flows for  the six-month periods ended June 30, 2009 and 2008           |
|              |                                                                                                                   |
|              | Notes to Condensed Consolidated Financial Statements                                                                   |
|              |                                                                                                                   |
| Item 2.           | Management’s Discussion and Analysis  of Financial Condition and Results of Operations                            |
|              |                                                                                                                   |
| Item 3.           | Quantitative  and Qualitative Disclosures about Market Risk                                                            |
|              |                                                                                                                   |
| Item 4.           | Controls and  Procedures                                                                                               |
|              |                                                                                                                   |
| PART II.     | OTHER INFORMATION                                                                                                      |
|              |                                                                                                                   |
| Item 1.           | Legal proceedings                                                                                                      |
|              |                                                                                                                   |
| Item 1A.          | Risk factors                                                                                                           |
|              |                                                                                                                   |
| Item 6.           | Exhibits                                                                                                               |
|              |                                                                                                                   |
|              | (a) Exhibits                                                                                                      |
|              |                                                                                                                   |
| Signatures        |                                                                                                                   |
|              |                                                                                                                   |
| Index to Exhibits |

 

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**PART I. FINANCIAL INFORMATION**

 

**ITEM1. FINANCIAL STATEMENTS**

 

**deCODEgenetics, Inc.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

(Unaudited)

 
| ** **                                                                                                                                                                                                                       | ** ** | **June 30,  2009**                          | ** **   | **December 31,  2008** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------|--------------|-----------------------------|------------|
| ** **                                                                                                                                                                                                                       | ** ** | **(In  thousands, except********share amounts)** | ** **   |
| ASSETS                                                                                                                                                                                                                           |       |                                             |         |                        |       |
| Current assets:                                                                                                                                                                                                                  |       |                                             |         |                        |       |
| Cash and cash equivalents                                                                                                                                                                                                        |       | $                                                |  3,765  |                        | $          |  3,701 |   |
| Receivables                                                                                                                                                                                                                      |       | 5,879                                            |         | 6,077                       |       |
| Other current assets                                                                                                                                                                                                             |       | 1,918                                            |         | 4,029                       |       |
| Current assets of discontinued operations (Note 12)                                                                                                                                                                              |       | 3,540                                            |         | 3,928                       |       |
| Total current assets                                                                                                                                                                                                             |       | 15,102                                           |         | 17,735                      |       |
| Investments (pledged at June 30, 2009, see Note  9)                                                                                                                                                                         |       | 13,517                                           |         | 12,721                      |       |
| Property and equipment, net                                                                                                                                                                                                      |       | 1,873                                            |         | 3,325                       |       |
| Goodwill                                                                                                                                                                                                                         |       | 10,055                                           |         | 10,055                      |       |
| Intangible assets, net                                                                                                                                                                                                           |       | 3,369                                            |         | 3,516                       |       |
| Other long-term assets                                                                                                                                                                                                           |       | 3,039                                            |         | 3,826                       |       |
| Long-term assets of discontinued operations (Note  12)                                                                                                                                                                           |       | 22,898                                           |         | 23,959                      |       |
| Total assets                                                                                                                                                                                                                     |       | $                                                |  69,853 |                        | $          |  75,137 |   |
| LIABILITIES AND STOCKHOLDERS’ DEFICIT                                                                                                                                                                                       |       |                                             |         |                        |       |
| Current liabilities:                                                                                                                                                                                                             |       |                                             |         |                        |       |
| Accounts payable                                                                                                                                                                                                                 |       | $                                                |  7,034  |                        | $          |  7,293 |   |
| Accrued expenses and other current liabilities                                                                                                                                                                                   |       | 5,105                                            |         | 5,667                       |       |
| Deferred revenue                                                                                                                                                                                                                 |       | 5,089                                            |         | 4,881                       |       |
| Secured debt collateralized by auction rate  securities (Note 9)                                                                                                                                                                 |       | 11,664                                           |         | —                      |       |
| Current portion of capital lease obligations                                                                                                                                                                                     |       | 748                                              |         | 2,202                       |       |
| Current liabilities of discontinued operations (Note  12)                                                                                                                                                                        |       | 5,381                                            |         | 8,577                       |       |
| Total current liabilities                                                                                                                                                                                                        |       | 35,021                                           |         | 28,620                      |       |
| Deferred revenue                                                                                                                                                                                                                 |       | 16,219                                           |         | 6,219                       |       |
| Deferred gain on sale-leaseback                                                                                                                                                                                                  |       | 20,871                                           |         | 21,840                      |       |
| Long-term debt, net of current portion                                                                                                                                                                                           |       | 218,672                                          |         | 215,962                     |       |
| Long-term liabilities of discontinued operations  (Note 12)                                                                                                                                                                      |       | 23,144                                           |         | 23,572                      |       |
| Commitments and contingencies                                                                                                                                                                                                    |       |                                             |         |                        |       |
| Stockholders’ deficit:                                                                                                                                                                                                      |       |                                             |         |                        |       |
| Preferred stock, $0.001 par value; Authorized:  6,716,666 shares; Issued and outstanding: none                                                                                                                                   |       | —                                           |         | —                      |       |
| Common stock, $0.001 par value; Authorized:  150,000,000 shares; Issued and outstanding: 61,882,584 and 61,760,805,  respectively, at June 30, 2009 and 61,882,584 and 61,762,805,  respectively, at December 31, 2008 |       | 62                                               |         | 62                          |       |
| Additional paid-in capital                                                                                                                                                                                                       |       | 494,753                                          |         | 493,381                     |       |
| Notes receivable                                                                                                                                                                                                                 |       | (1,886                                           | )            | (1,900                      | )          |
| Accumulated deficit                                                                                                                                                                                                              |       | (737,994                                         | )            | (712,161                    | )          |
| Accumulated other comprehensive income                                                                                                                                                                                           |       | 1,566                                            |         | 103                         |       |
| Treasury stock, 121,779 and 119,779 shares stated at  cost at June 30, 2009 and December 31, 2008, respectively                                                                                                        |       | (575                                             | )            | (561                        | )          |
| Total stockholders’ deficit                                                                                                                                                                                                 |       | (244,074                                         | )            | (221,076                    | )          |
| Total liabilities and stockholders’ deficit                                                                                                                                                                                 |       | $                                                |  69,853 |                        | $          |  75,137 |   |

 

The accompanying notes are an integral part of thesecondensed consolidated financial statements.

 

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**deCODEgenetics, Inc.**

**CONDENSED CONSOLIDATED STATEMENTS OFOPERATIONS**

(Unaudited)

 
| ** **                                                         | ** ** | **Three Months Ended  June 30,**        | ** ** | **Six Months Ended********June 30,** | ** ** |
|--------------------------------------------------------------------|------------|----------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                         | ** ** | **2009**                                     | ** ** | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                                         | ** ** | **(In thousands, except per share amounts)** | ** ** |
|                                                               |       |                                         |       |                                      |       |   |   |   |   |
| Revenue                                                            |       | $                                            | 3,501      |                                      | $          | 8,956 |   | $ | 7,613 |   | $ | 18,129 |   |
| Operating expenses:                                                |       |                                         |       |                                      |       |   |   |   |   |
| Cost of revenue                                                    |       | 4,436                                        |       | 8,199                                     |       | 8,555 |   | 18,343 |   |
| Research and development                                           |       | 2,841                                        |       | 7,964                                     |       | 6,872 |   | 20,578 |   |
| Selling, general and administrative                                |       | 4,318                                        |       | 5,929                                     |       | 8,582 |   | 11,678 |   |
| Total operating expenses                                           |       | 11,595                                       |       | 22,092                                    |       | 24,009 |   | 50,599 |   |
| Operating income (loss) from continuing operations                 |       | (8,094                                       | )          | (13,136                                   | )          | (16,396 | ) | (32,470 | ) |
| Interest income                                                    |       | 18                                           |       | 452                                       |       | 175 |   | 1,489 |   |
| Interest expense                                                   |       | (4,380                                       | )          | (3,716                                    | )          | (8,611 | ) | (7,336 | ) |
| Other non-operating income and (expense), net                      |       | 330                                          |       | (1,170                                    | )          | 565 |   | (5,247 | ) |
| Loss from continuing operations                                    |       | (12,126                                      | )          | (17,570                                   | )          | (24,267 | ) | (43,564 | ) |
| Loss from discontinued operations (Note 12)                        |       | (1,070                                       | )          | (784                                      | )          | (1,566 | ) | (1,455 | ) |
| Net loss                                                           |       | $                                            | (13,196    | )                                         | $          | (18,354 | ) | $ | (25,833 | ) | $ | (45,019 | ) |
| Basic and diluted net loss per share from  continuing operations   |       | $                                            | (0.20      | )                                         | $          | (0.29 | ) | $ | (0.39 | ) | $ | (0.71 | ) |
| Basic and diluted net loss per share from  discontinued operations |       | (0.01                                        | )          | (0.01                                     | )          | (0.03 | ) | (0.02 | ) |
| Basic and diluted net loss per share                               |       | $                                            | (0.21      | )                                         | $          | (0.30 | ) | $ | (0.42 | ) | $ | (0.73 | ) |
| Shares used in computing basic and diluted net  loss per share     |       | 61,489                                       |       | 61,371                                    |       | 61,481 |   | 61,318 |   |

 

The accompanying notes are an integral part of thesecondensed consolidated financial statements.

 

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**deCODEgenetics, Inc.**

**CONDENSED CONSOLIDATED STATEMENTS OFCASH FLOWS**

(Unaudited)

 
| ** **                                                                                            | ** ** | **6 Months  Ended June 30,** | ** ** |
|-------------------------------------------------------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                                                                            | ** ** | **2009**                          | ** ** | **2008** | ** ** |
| ** **                                                                                            | ** ** | **(in thousands)**                | ** ** |
| CASH FLOWS FROM OPERATING  ACTIVITIES:                                                                |       |                              |       |   |   |
| Net loss                                                                                              |       | $                                 | (25,833    | ) | $ | (45,019 | ) |
| Subtract loss from discontinued operations (Note 12)                                                  |       | (1,566                            | )          | (1,448 | ) |
| Net loss from continuing operations                                                                   |       | (24,267                           | )          | (43,571 | ) |
| Adjustments to reconcile net loss to net cash used  in operating activities of continuing operations: |       |                              |       |   |   |
| Depreciation and amortization                                                                         |       | 1,622                             |       | 2,225 |   |
| Amortization of deferred gain on sale-leaseback of  real estate                                       |       | (969                              | )          | (969 | ) |
| Stock-based compensation                                                                              |       | 1,215                             |       | 1,819 |   |
| Loss on investments                                                                                   |       | 664                               |       | 5,107 |   |
| Foreign currency transaction                                                                          |       | (639                              | )          | 59 |   |
| Amortization of debt discount                                                                         |       | 2,710                             |       | 2,416 |   |
| Amortization of deferred financing costs                                                              |       | 787                               |       | 815 |   |
| Interest related to secured borrowing                                                                 |       | 992                               |       | — |   |
| Changes in operating assets and liabilities:                                                          |       |                              |       |   |   |
| Receivables and other assets                                                                          |       | 2,309                             |       | (1,279 | ) |
| Accounts payable, accrued expenses and other current  liabilities                                     |       | (821                              | )          | (2,161 | ) |
| Deferred revenue                                                                                      |       | 10,208                            |       | (342 | ) |
| Net cash used in operating activities of continuing  operations                                       |       | (6,189                            | )          | (35,881 | ) |
| Net cash used in operating activities of  discontinued operations (Note 12)                           |       | (3,252                            | )          | (2,101 | ) |
| Net cash used in operating activities                                                                 |       | (9,441                            | )          | (37,982 | ) |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                                                 |       |                              |       |   |   |
| Purchase of investments                                                                               |       | —                            |       | (5,500 | ) |
| Sale of investments                                                                                   |       | —                            |       | 10,000 |   |
| Purchase of property and equipment                                                                    |       | (24                               | )          | (568 | ) |
| Change in restricted cash and cash equivalents                                                        |       | 270                               |       | — |   |
| Net cash provided by investing activities of  continuing operations                                   |       | 246                               |       | 3,932 |   |
| Net cash used in investing activities of  discontinued operations (Note 12)                           |       | (172                              | )          | (202 | ) |
| Net cash provided by investing activities                                                             |       | 74                                |       | 3,730 |   |
| CASH FLOWS FROM FINANCING ACTIVITIES:                                                                 |       |                              |       |   |   |
| Proceeds from issuance of common stock                                                                |       | —                            |       | 172 |   |
| Repayment of notes receivable for common stock                                                        |       | —                            |       | 75 |   |
| Proceeds from secured borrowing                                                                       |       | 11,314                            |       | — |   |
| Repayments of debt, capital lease and finance  obligations                                            |       | (1,454                            | )          | (1,549 | ) |
| Net cash provided by (used in) financing activities  of continuing operations                         |       | 9,860                             |       | (1,302 | ) |
| Net cash used in financing activities of  discontinued operations (Note 12)                           |       | (429                              | )          | (380 | ) |
| Net cash provided by (used in) financing activities                                                   |       | 9,431                             |       | (1,682 | ) |
| Net increase (decrease) in cash and cash equivalents                                                  |       | 64                                |       | (35,934 | ) |
| Cash and cash equivalents at beginning of period                                                      |       | 3,701                             |       | 54,172 |   |
| Cash and cash equivalents at end of period                                                            |       | $                                 | 3,765      |   | $ | 18,238 |   |
| Supplemental cash flow information:                                                                   |       |                              |       |   |   |
| Cash paid for interest                                                                                |       | $                                 | 4,782      |   | $ | 4,929 |   |

 

The accompanying notes are an integral part of thesecondensed consolidated financial statements.

 

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**deCODEgenetics, Inc.**

**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS (UNAUDITED)**

(tabular amountsin thousands, except share and per share amounts)

 

**1.      Organization and Business**

 

References in thesefinancial statements to deCODE refer to deCODE genetics, Inc., a Delawarecompany, and its wholly owned subsidiaries, Islensk erfdagreining ehf., anIcelandic company registered in Reykjavik, and its subsidiaries and MediChemLife Sciences, Inc., a Delaware corporation, and its subsidiaries.

 

With its headquarters inReykjavik, Iceland, deCODE is a biotechnology company developing and marketingproducts to improve the treatment, diagnosis and prevention of common diseases.deCODE applies its discoveries in human genetics to bring to market DNA-basedreference laboratory tests and consumer genome analysis services to assessindividual risk of common diseases. deCODE’s customers include majorpharmaceutical companies, biotechnology firms, pharmacogenomics companies,government institutions, universities and other research institutions. deCODE’sbusiness is global, with its principal markets in the United States and inEurope.

 

deCODE’s advantage inDNA-based disease risk assessment tests and personal genomics is derived fromits population approach to human genetics and the ability to apply itsdiscoveries directly to the development of DNA-based reference laboratory testsfor common diseases and to its retail genome scans. deCODE has in Icelandcomprehensive population resources and one of the largest genotyping facilitiesin the world, enabling its scientists to effectively identify key variations inthe sequence of the human genome associated with a major impact on individualrisk of common diseases. Well-validated genetic variations conferring risk ofdisease are the basis for DNA-based reference laboratory tests and personalgenome scans that can more accurately assess individual risk of disease. Asvirtually all common diseases have both genetic and environmental risk factors,measuring genetic risk is in deCODE’s view a critical component for therealization of personalized medicine. By providing a more completeunderstanding of individual risk, such tests can empower better prevention inthose conditions in which known lifestyle and environmental risk can bemodified, as well as targeted screening and early intervention in diseases suchas cancer.

 

*GoingConcern*: Thefinancial statements have been prepared on a going-concern basis, whichcontemplates the recoverability of assets and the satisfaction of liabilitiesin the normal course of business. deCODE has recorded substantial operating andnet losses. Its negative cash flows from operations have been $9,335,000 and$37,982,000 during the six-months ended June 30, 2009 and 2008,respectively, and $54,779,000 during the year ended December 31, 2008. Inaddition, deCODE has significant amounts of long-term debt which requiresinterest payments of approximately $8,050,000 per annum. At June 30, 2009,deCODE had liquid funds available for operating activities of $3,765,000 (cashand cash equivalents) as compared to $3,701,000 at December 31, 2008.

 

AtJune 30, 2009, deCODE had cash and cash equivalents of $3,765,000, compared to $3,701,000 atDecember 31, 2008. In early 2009 deCODE sold its ARS for approximately$11,314,000 in cash, and in April deCODE signed licensing agreements withCelera Corporation (“Celera”) under which it received an upfront payment of$10.0 million and will receive royalties on sales of Celera testing productsand services incorporating deCODE genetic risk markers. deCODE believes it hassufficient resources to fund operations only into the latter half of the thirdquarter. It is simultaneously pursuing several options to ensure sufficientfunding to take it to the execution of strategic options that can support thenear- and longer-term viability of its core business. deCODE’s planned operations requireimmediate additional liquidity substantially in excess of the amounts notedabove, raising substantial doubt about deCODE’s ability to continue as a goingconcern.

 

In deCODE’s ongoingstrategic review, deCODE has been evaluating and pursuing various alternativesaimed at focusing its business and underpinning ongoing product development andcommercialization in its core business. One component of this effort is thesale of deCODE’s US medicinal chemistry and structural biology units. Althoughthese units continue to operate and contribute to deCODE, in view of their prospective salethe company has accounted for these businesses as “discontinued operations”(see Note 12). With the exception of combined net loss figures, the operatingresults are thus all for deCODE’s continuing operations in its core business ofemploying the Company’s capabilities in gene discovery to advance DNA-baseddiagnostics, personal genome analysis, intellectual property licensingopportunities, and contract genotyping.

 

*Management’s Plans:*To address deCODE’simmediate need for funds, management and the Board of Directors are exploringthe possibilities of (i) selling some or all of deCODE’s U.S. medicinalchemistry and structural biology units (as noted above), (ii) grantingfurther licenses to specific diagnostic products, (iii) entering into acollaboration for gene sequencing, (iv) selling or licensing some or allof deCODE’s clinical and pre-clinical drug discovery programs, (v) restructuringdeCODE’s outstanding convertible notes and (vi) obtaining new equityfinancing. Achieving (v) could result in either a cash settlement ofdeCODE’s convertible note obligation for substantially less than the carryingamount or in a conversion of the convertible notes into equity of deCODE.Receipt of additonal equity financing to support operations in the longer termdepends in large part on the outcomes of actions in (i), (ii), (iii) and(v). Management and the board are having ongoing dialogues and negotiationswith third parties in each of these areas. If deCODE’s Board of Directors concludesthat any of these options can be better implemented in a bankruptcy proceeding,deCODE will commence a proceeding under Chapter 11 of the U.S. Bankruptcy Code.

 

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Whether in a bankruptcyproceeding or otherwise, the consummation of any of these approaches isdependent on successful negotiations with third parties and in many cases theavailability of financing to such third parties. There can be no asssurancethat any potential transactions will be consummated or will result insufficient funding to sustain operations. If deCODE is unable to raise additional capital through one ormore of these options, it may be forced to liquidate its remaining assets anddiscontinue as a business.

 

**2.      Basis of Presentation**

 

In the opinion of deCODE’smanagement, the accompanying unaudited condensed consolidated financialstatements contain all adjustments (consisting of items of a normal andrecurring nature) necessary to present fairly the financial position as of June 30,2009 and the results of operations for the three and six-month periods ended June 30,2009 and 2008 and cash flows for the six-month periods ended June 30, 2009and 2008. deCODE considers events or transactions that occur after thebalance sheet date but before the financial statements are issued to provideadditional evidence relative to certain estimates or to identify matters thatrequire additional disclosure. Subsequent events have been evaluated through August 10,2009. The results of operations for the three and six-month periods ended June 30,2009 are not necessarily indicative of the results to be expected for the fullyear. These financial statements should be read in conjunction with deCODE’sAnnual Report on Form 10-K for the year ended December 31, 2008,which includes consolidated financial statements and notes thereto for theyears ended December 31, 2008, 2007 and 2006.

 

As discussed more fullyin Note 1, deCODE does not have adequate cash flows from operations or,currently, access to sufficient available capital to meet its requirements forits 2009 operations. These factors raise significant uncertainty about deCODE’sability to continue as a going concern. The Consolidated Financial Statementsdo not include any adjustments relating to the recoverability or classificationof recorded asset amounts or the amounts or classification of liabilitiesshould deCODE be unable to continue as a going concern.

 

**3.      Revenue**

 

Significant elements of deCODE’s revenue aresummarized as follows:

 
| ** **                                       | ** ** | **Three Months Ended  June 30,** | ** **  | **Six Months Ended********June 30,** | ** ** |
|--------------------------------------------------|------------|---------------------------------------|-------------|-------------------------------------------|------------|
| ** **                                       | ** ** | **2009**                              | ** **  | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                       | ** ** | **(In thousands)**                    | ** **  |
| Genomic  services                                |       | $                                     |  1,418 |                                      | $          |  5,120 |   | $ |  3,320 |   | $ |  9,996 |   |
| Research  funding and other service fees         |       | 18                                    |        | 236                                       |       | 62 |   | 464 |   |
| Government  research contracts and grant funding |       | 2,065                                 |        | 3,600                                     |       | 4,231 |   | 7,669 |   |
| Total  revenue                                   |       | $                                     |  3,501 |                                      | $          |  8,956 |   | $ |  7,613 |   | $ |  18,129 |   |

 

*Celeralicense*.  In April 2009, deCODE signed a non-exclusiveworldwide license with Celera for deCODE’s genetic markers for increased riskof major cardiovascular and metabolic diseases, including heart attack, stroke,atrial fibrillation (AF) and type 2 diabetes (T2D). Under the terms of theagreements, deCODE received an upfront payment ($10,000,000) and will receivemilestones and royalties on future sales of Celera testing products andservices incorporating deCODE genetic markers. deCODE has determined that therevenue recognition criteria have not been met and has deferred the recognitionof the $10,000,000 upfront payment to a future period. As such, the $10,000,000upfront payment is included in long-term deferred revenue on the balance sheetat June 30, 2009.

 

deCODEs largest customers as a percentage ofconsolidated revenue are as follows:

 
| ** **                                         | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended********June 30,** | ** ** |
|----------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------------|------------|
| ** **                                         | ** ** | **2009**                              | ** ** | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| United  States National Institutes of Health (NIH) |       | 30                                    | %          | 26                                        | %          | 28 | % | 28 | % |
| European  Community (EC)                           |       | 26                                    | %          | 14                                        | %          | 26 | % | 14 | % |

 

During the three andsix-month periods ended June 30, 2008, deCODE performed services totaling$34,000 and $129,000 for employers of members of deCODE’s Board of Directors.

 

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**4.      Cost of Revenue**

 

deCODE’s cost of revenueconsists of the costs of services provided to customers and collaborators andthe costs of programs under research contracts and grants, including: (i) theentirety of the costs incurred in connection with programs that have beenpartnered and on which deCODE receives research funding; (ii) costsassociated with other service fee revenues; and (iii) the total amount ofthose costs incurred in connection with discovery and development workperformed under research contracts and grants.

 

Significant elements of deCODE’s revenue and cost ofrevenue are summarized as follows:

 
| ** **                                             | ** ** | **Three Months Ended  June 30,** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                             | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                             | ** ** | **Revenue**                           | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** | **Revenue** | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** |
|                                                   |       | **(In thousands)**                    |       |
| Genomic services, research funding and other  services |       | $                                     | 1,436      |   | $ | 1,302 |   | $ | 134 |   | $ | 5,356 |   | $ | 3,557 |   | $ | 1,799 |   |
| Government research contracts and grant funding        |       | 2,065                                 |       | 3,134 |   | (1,069 | ) | 3,600 |   | 4,642 |   | (1,042 | ) |
| Total                                                  |       | $                                     | 3,501      |   | $ | 4,436 |   | $ | (935 | ) | $ | 8,956 |   | $ | 8,199 |   | $ | 757 |   |

 
| ** **                                             | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                             | ** ** | **2009**                           | ** ** | **2008** | ** ** |
| ** **                                             | ** ** | **Revenue**                        | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** | **Revenue** | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** |
| ** **                                             | ** ** | **(In thousands)**                 | ** ** |
| Genomic services, research funding and other  services |       | $                                  | 3,382      |   | $ | 2,835 |   | $ | 545 |   | $ | 10,460 |   | $ | 7,868 |   | $ | 2,592 |   |
| Government research contracts and grant funding        |       | 4,231                              |       | 5,720 |   | (1,489 | ) | 7,669 |   | 10,475 |   | (2,806 | ) |
| Total                                                  |       | $                                  | 7,613      |   | $ | 8,555 |   | $ | (944 | ) | $ | 18,129 |   | $ | 18,343 |   | $ | (214 | ) |

 

**5.      Research and Development**

 

deCODE’s research anddevelopment expense consists of the costs of its own proprietary programs,comprised of the following:

 
| ** **                                       | ** ** | **Three Months Ended  June 30,** | ** **  | **Six Months Ended********June 30,** | ** ** |
|--------------------------------------------------|------------|---------------------------------------|-------------|-------------------------------------------|------------|
| ** **                                       | ** ** | **2009**                              | ** **  | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                       | ** ** | **(In thousands)**                    | ** **  |
| Salaries  and other personnel costs              |       | $                                     |  1,280 |                                      | $          |  3,941 |   | $ |  3,103 |   | $ |  8,724 |   |
| Materials  and supplies                          |       | 456                                   |        | 1,142                                     |       | 1,091 |   | 4,022 |   |
| Contractor  services and other third party costs |       | 77                                    |        | 1,084                                     |       | 513 |   | 3,407 |   |
| Overhead  expenses                               |       | 400                                   |        | 956                                       |       | 862 |   | 2,343 |   |
| Depreciation  and amortization                   |       | 442                                   |        | 489                                       |       | 906 |   | 1,400 |   |
| Stock-based  compensation                        |       | 186                                   |        | 352                                       |       | 397 |   | 682 |   |
| Total                                            |       | $                                     |  2,841 |                                      | $          |  7,964 |   | $ |  6,872 |   | $ |  20,578 |   |

 

**6.      Stock-Based Compensation**

 

Stock-based compensationincluded in deCODE’s results of operations as follows:

 
| ** **                           | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended********June 30,** | ** ** |
|--------------------------------------|------------|---------------------------------------|------------|-------------------------------------------|------------|
| ** **                           | ** ** | **2009**                              | ** ** | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                           | ** ** | **(In thousands)**                    | ** ** |
| Operating  Expenses:                 |       |                                  |       |                                      |       |   |   |   |   |
| Cost  of revenue                     |       | $                                     | 68         |                                      | $          | 52 |   | $ | 119 |   | $ | 100 |   |
| Research  and development            |       | 186                                   |       | 352                                       |       | 397 |   | 682 |   |
| Selling,  general and administrative |       | 300                                   |       | 491                                       |       | 699 |   | 1,037 |   |
| Total                                |       | $                                     | 554        |                                      | $          | 895 |   | $ | 1,215 |   | $ | 1,819 |   |

 

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As of June 30, 2009there was approximately $4,098,000 of total unrecognized compensation expenserelated to nonvested stock options. This expense is expected to berecognized over a weighted-average period of approximately 1.8 years. Therewere no option grants during the six-months ended June 30, 2009.

 

The following tablesummarizes stock option activity for the six-months ended June 30, 2009:

 
| ** **                                         | ** ** | **Number  of Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Weighted  Average  Remaining  Contractual  Term** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|----------------------------------------------------|------------|-----------------------|------------|----------------------------------------|------------|-----------------------------------------------------|------------|--------------------------------|------------|
| ** **                                         | ** ** | ** **            | ** ** | ** **                             | ** ** | **(In years)**                                      | ** ** | **(In thousands)**             | ** ** |
| Outstanding  at January 1, 2009               |       | 8,453,355             |       | $                                      |  5.76 |                                                |       |                           |       |   |
| Forfeited/cancelled                                |       | (834,585              | )          | 5.15                                   |       |                                                |       |                           |       |
| Outstanding  at June 30, 2009                 |       | 7,618,770             |       | $                                      |  5.83 |                                                | 6.16       |                           | $          |  0 |   |
| Vested  and expected to vest at June 30, 2009 |       | 7,440,112             |       | $                                      |  5.89 |                                                | 6.20       |                           | $          |  0 |   |
| Exercisable  at June 30, 2009                 |       | 5,844,481             |       | $                                      |  6.51 |                                                | 5.64       |                           | $          |  0 |   |

 

deCODE’s Equity IncentivePlans allow for the issuance of restricted stock awards that may not be sold orotherwise transferred until certain restrictions have lapsed. The unearnedstock-based compensation related to these awards is amortized to compensationexpense over the period the restrictions lapse. The stock-based compensationexpense for these awards is determined based on the market price of our stockat the date of the grant applied to the total numbers of shares that areanticipated to fully vest and then amortized over the vesting period. At June 30,2009, deCODE had no unvested restricted shares.

 

**7.      Net Loss Per Share**

 

Basic net loss per share is computed using net lossavailable to common stockholders and the weighted-average number of commonshares outstanding. The weighted-average number of common shares outstandingduring the period is the number of shares determined by relating the portion oftime within a reporting period that common shares have been outstanding to thetotal time in that period.

 

Diluted net loss pershare is computed using the weighted-average number of common sharesoutstanding during the period, plus the dilutive effect of potential commonshares. Diluted net loss per share does not differ from basic net loss pershare in all periods presented as potential common shares are antidilutive forall such periods and are, therefore, excluded from the calculation. Potentialcommon shares excluded from the calculation of diluted net loss per share were:

 
| ** **                                                                                            | ** ** | **June 30,  2009  (Shares)** | ** ** | **June 30,  2008  (Shares)** | ** ** |
|-------------------------------------------------------------------------------------------------------|------------|-----------------------------------|------------|-----------------------------------|------------|
| Warrants  to purchase shares of common stock                                                          |       | 55,556                            |       | 455,965                           |       |
| Options  to purchase shares of common stock                                                           |       | 7,618,770                         |       | 8,682,009                         |       |
| Restricted  shares subject to vesting or with an associated outstanding non-recourse  promissory note |       | 271,500                           |       | 471,092                           |       |
| Shares  of common stock issuable upon conversion of 3.5% senior convertible notes                     |       | 16,428,572                        |       | 16,428,572                        |       |
|                                                                                                  |       | 24,374,398                        |       | 26,037,638                        |       |

 

**8.      Comprehensive Loss**

 

Comprehensive income(loss) generally represents all changes in stockholders’ equity (deficit)except those resulting from investments or contributions by stockholders.Amounts reported in other comprehensive income (loss) include foreign currencytranslation adjustments and unrealized gains and losses associated withinvestments. The following table presents the calculation of comprehensiveincome (loss):

 
| ** **                                                    | ** ** | **Three Months Ended  June 30,** | ** **    | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------------------------------|------------|---------------------------------------|---------------|-------------------------------------|------------|
| ** **                                                    | ** ** | **2009**                              | ** **    | **2008**                            | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                                    | ** ** | **(In thousands)**                    | ** **    |
| Net  loss                                                     |       | $                                     | (13,196       | )                                   | $          | (18,354 | ) | $ | (25,833 | ) | $ | (45,019 | ) |
| Other  comprehensive income (loss):                           |       |                                  |          |                                |       |   |   |   |   |
| Foreign  currency translation                                 |       | 3                                     |          | 9                                   |       | 4 |   | 59 |   |
| Unrealized  gain (loss) associated with marketable securities |       | 1,036                                 |          | 4                                   |       | 1,459 |   | 916 |   |
| Total  comprehensive loss                                     |       | $                                     |  (12,157 | )                                   | $          |  (18,341 | ) | $ | (24,370 | ) | $ |  (44,044 | ) |

 

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**9.      Secured Borrowing**

 

In January 2009,deCODE entered into an agreement with NBI hf., an Icelandic financialinstitution, pursuant to which NBI has purchased all auction rate securities (“ARS”)owned by deCODE for an aggregate price of ISK 1,375,000,000 (the “PurchasePrice”), which represented $11,314,000 at the then current currency exchangerates. NBI has the put option to require deCODE to repurchase the ARS upon theearlier of (a) the sale of all or a majority of the stock of deCODEgenetics ehf, deCODE’s Icelandic subsidiary, (“IE”) or a specified part of theoperations of IE or (b) December 16, 2009, and deCODE has the calloption to require NBI to sell the ARS to it at any time until January 1,2010. The repurchase price on exercise of the put or call option (the “RepurchasePrice”) will be equal to the Purchase Price plus interest from January 16,2009 at a rate of five percent (5%) above the Reykjavik Interbank Offered Rate(REIBOR) at the date of the agreement, through the date payment is made lessthe aggregate amount of interest and principal received by NBI on the ARS. Inaddition, if the aggregate amount of interest and principal received by NBIwith respect to the ARS is higher than the Repurchase Price, upon deCODE’srepurchase of the ARS pursuant to the exercise of the put or call option, NBIwill be required to deliver to deCODE, in addition to the ARS, an amount equalto (A) the aggregate amount of principal and interest that it receivedless (B) the sum of (i) the Repurchase Price and (ii) ISK375,000,000 (approximately $2,919,000 at June 30, 2009).

 

Due to the put and calloptions, the transfer of the ARS to NBI was accounted for as a securedborrowing and as such, the ARS remain on deCODE’s Consolidated Balance Sheet,although they are held by NBI, and continue to be carried at fair value. At June 30,2009, deCODE’s Obligation Under the Auction Rate Securities Repurchase Agreementwas $11,664,000  (1,498,505,000 ISK) onthe Consolidated Balance Sheet, which represents deCODE’s liability at June 30,2009 if the put or call right had been exercised to repurchase the ARS. deCODErecognized interest expense related to the put rights of $556,000 and $992,000during the three and six-months ended June 30, 2009.

 

The pledged investmentsat June 30, 2009 consist of marketable securities, and are as follows:

 
| ** **                                                 | ** ** | **Cost**           | ** **   | **Carrying  Value** | ** ** | **Unrealized  Gains (Losses)  In OCI** | ** ** |
|------------------------------------------------------------|------------|--------------------|--------------|---------------------|------------|---------------------------------------------|------------|
| ** **                                                 | ** ** | **(In thousands)** | ** **   |
|                                                       |       |               |         |                |       |                                        |       |
| June 30, 2009: Auction rate securities  (non-current) |       | $                  |  33,500 |                | $          |  13,517                                |       | $ |  1,459 |   |
|                                                            |            |                    |              |                     |            |                                             |            |  |  |  |

 

Gross unrealized holdinggains and gross unrealized holding losses at June 30, 2009 were $1,459,000and $0, respectively. There were no unrealized holdings gains or losses at December 31,2008. The contractual maturity of investments was as follows:

 
| ** **                   | ** ** | **March 31,********2009** | ** ** |
|------------------------------|------------|--------------------------------|------------|
| ** **                   | ** ** | **(In thousand)**              | ** ** |
|                         |       |                           |       |
| Maturing after 10 years      |       | $                              | 10,637     |   |
| No maturity date (perpetual) |       | 2,880                          |       |
|                         |       | $                              | 13,517     |   |

 

The ARS consist ofprivate placement securities with long-term nominal maturities for which theinterest rates are reset through a Dutch auction process at pre-determinedcalendar intervals, generally each month. This mechanism generally allowsexisting investors to rollover their holdings and continue to own theirrespective securities or liquidate their holdings by selling their securitiesat par value. deCODE generally invested in these securities for short periodsof time as part of its cash management program. However, uncertainties in thecredit markets beginning in 2007 have prevented deCODE and other investors fromliquidating holdings of its ARS in recent auctions because the amount ofsecurities submitted for sale has exceeded the amount of purchase ordersresulting in multiple failed auctions.

 

The estimated market value of deCODE’s investments in ARS at June 30,2009 was $13,517,000, which reflects a $19,983,000 adjustment to the originalprincipal value of $33,500,000. Based on valuation models and an analysis ofother-than-temporary impairment factors, deCODE has recorded an impairmentcharge of $120,000 and $663,000 for the three and six-months ended June 30,2009, respectively, and $1,072,000 and $5,107,000 for the three and six-monthsended June 30, 2008, respectively, in Other non-operating income(expense), net in the Statements of Operations, reflecting the portion of ARSholdings that deCODE has concluded have an other-than-temporary decline invalue. deCODE recognized an unrealized gain of $1,036,000 and $1,459,000 in OtherComprehensive Income during the three and six-months ended June 30, 2009,respectively. During the six-months ended June 30, 

 

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2008, the$5,107,000 charge included $914,000 related to ARS which deCODE had previouslybelieved to be temporary and accounted for as an unrealized loss at December 31,2007.

 

The credit and capitalmarkets have continued to be volatile into 2009. If uncertainties in thesecredit and capital markets continue, these markets deteriorate further ordeCODE experiences additional downgrades on its investments, deCODE may incuradditional impairments to its pledged investment portfolio, which couldnegatively affect our financial condition, cash flows and reported earnings.

 

**10.    Litigation**

 

Other than claims and legal proceedings that arise from time to time inthe ordinary course of business which are not material, and matters describedbelow, there has been no change in the matters reported in deCODE’s AnnualReport on Form 10-K for the year ended December 31, 2008.

 

On or about April 20, 2002, an amended class action complaint,captioned *In re deCODE genetics, Inc. Initial PublicOffering Securities Litigation*(01 Civ. 11219(SAS)), allegingviolations of federal securities laws in connection with deCODE’s initialpublic offering was filed in the United States District Court for the SouthernDistrict of New York (the “District Court”) on behalf of certain purchasers ofdeCODE common stock. The complaint names deCODE, two individuals who wereexecutive officers of deCODE at the time of its initial public offering (the “IndividualDefendants”), and the two lead underwriters (the “Underwriter Defendants”) forour initial public offering in July 2000 (the “IPO”) as defendants. deCODEis aware that similar allegations have been made in hundreds of other lawsuitsfiled (many by some of the same plaintiff law firms) against numerousunderwriter defendants and issuer companies (and certain of their current andformer officers) in connection with various public offerings conducted inrecent years. All of the lawsuits that have been filed in the Southern Districtof New York have been consolidated for pretrial purposes before United StatesDistrict Judge Shira Scheindlin. Pursuant to the underwriting agreementexecuted in connection with our IPO, deCODE has demanded indemnification fromthe Underwriter Defendants. The Underwriter Defendants have asserted that ourrequest for indemnification is premature.

 

Pursuant to an agreement the Individual Defendants have been dismissedfrom the case without prejudice.

 

On July 31, 2003, our Board of Directors (other than our Chairmanand Chief Executive Officer, who recused himself because he was an IndividualDefendant) approved a proposed partial settlement with the plaintiffs in thismatter, subject to a number of conditions, including the participation of asubstantial number of other issuer defendants in the proposed settlement, theconsent of deCODE’s insurers to the settlement, and the completion ofacceptable final settlement documentation. A settlement fairness hearing washeld on April 24, 2006. On June 25, 2007, the United States DistrictCourt for the Southern District of New York entered an order formally denyingthe motion for final approval of the settlement agreement because thesettlement class could not be certified. On August 14, 2007, theplaintiffs filed their second consolidated amended class action complaintsagainst the “focus cases” and on September 27, 2007, again moved for classcertification. The focus cases are a small group of cases that were selected astest cases due to the large number of nearly identical actions which wereconsolidated in the Initial Public Offering litigation. The court has indicatedthat the focus cases are intended to provide strong guidance for the othercases. The case involving deCODE is not a focus case. On November 12,2007, certain of the defendants in the focus case moved to dismiss the secondconsolidated amended class action complaints. On March 26, 2008, theDistrict Court denied the motions to dismiss except as to Section 11claims raised by those plaintiffs who sold their securities for a price inexcess of the initial offering price and those who purchased outside thepreviously certified class period. Briefing on the class certification motionwas completed in May 2008. That motion was withdrawn without prejudice on October 10,2008. On April 2, 2009, a stipulation and agreement of settlement amongthe plaintiffs, issuer defendants and underwriter defendants was submitted tothe Court for preliminary approval. The Court granted the plaintiffs’ motionfor preliminary approval and preliminarily certified the settlement classes on June 10,2009. The settlement fairness hearing has been scheduled for September 10,2009. Following the hearing, if the Court determines that the settlement isfair to the class members, the settlement will be approved and the case againstdeCODE and the Individual Defendants will be dismissed with prejudice. Therecan be no assurance that this proposed settlement will be approved andimplemented in its current form, or at all. Due to the inherent uncertaintiesof litigation and because the settlement approval process is at a preliminarystage, the ultimate outcome of the matter is uncertain.

 

While deCODE’s expenses in this matter to date have been paid primarilyby its insurers, if deCODE were required to pay significant monetary damages asa result of an adverse determination in this matter (or any other lawsuitsalleging similar claims filed against deCODE and deCODE’s directors andofficers in the future), deCODE’s business could be significantly harmed. Evenif such litigation concludes in deCODE’s favor, deCODE may be required toexpend significant funds to defend against the allegations. deCODE is unable toestimate the range of possible loss from this litigation and no amounts havebeen provided for it in deCODE’s financial statements.

 

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**11.    Fair Value Measurement**

 

deCODE has used a valuation hierarchy for disclosure of the inputs tovaluation used to measure fair value. This hierarchy prioritizes the inputsinto three broad levels as follows. Level 1 inputs are quoted prices(unadjusted) in active markets for identical assets or liabilities. Level 2inputs are quoted prices for similar assets and liabilities in active marketsor inputs that are observable for the asset or liability, either directly orindirectly through market corroboration, for substantially the full term of thefinancial instrument. Level 3 inputs are unobservable inputs based onassumptions used to measure assets and liabilities at fair value. A financialasset or liability’s classification within the hierarchy is determined based onthe lowest level input that is significant to the fair value measurement.

 

The following table provides the assets and liabilities carried at fairvalue measured on a recurring basis as of June 30, 2009:

 
| ** **                                                                                           | ** ** | ** **                                         | ** ** | **Fair Value  Measurements********at June 30, 3009 Using:** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------|------------|------------------------------------------------------------------|------------|
| ** **                                                                                           | ** ** | **Total  Carrying  Value at  June 30,  2009** | ** ** | **Quoted  prices in  active  markets********(Level 1)**          | ** ** | **Significant  other  observable  inputs********(Level 2)** | ** ** | **Significant  unobservable  inputs********(Level 3)** | ** ** |
| ** **                                                                                           | ** ** | **(In thousands)**                                 | ** ** |
|                                                                                                 |       |                                               |       |                                                             |       |   |   |   |   |
| Cash and cash equivalents – money market securities                                             |       | $                                                  |  8    |                                                             | $          |  8 |   | $ |  — |   | $ |  — |   |
| Restricted cash and cash equivalents – U.S. Treasury  Bills (assets of discontinued operations) |       | 5,230                                              |       | 5,230                                                            |       | — |   | — |   |
| Auction rate securities (investments non-current)                                                    |       | 13,517                                             |       | —                                                           |       | — |   | 13,517 |   |
|                                                                                                      |            |                                                    |            |                                                                  |            |  |  |  |  |  |  |  |  |

 

The following table presents deCODE’s changes in assets measured atfair value on a recurring basis using significant unobservable inputs (Level 3)at June 30, 2009:

 
| ** **                              | ** ** | **Auction  Rate Securities********(Pledged Investments)** | ** ** |
|-----------------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                              | ** ** | **Three  Months  Ended********June 30, 2009**        | ** ** | **Six Months  Ended********June 30, 2009** | ** ** |
| ** **                              | ** ** | **(In thousands)**                                        | ** ** |
| Balance at beginning of period          |       | $                                                         | 12,601     |   | $ | 12,721 |   |
| Transfers  to Level 3                   |       | —                                                    |       | — |   |
| Total  gains (losses):                  |       |                                                      |       |   |   |
| Included  in earnings                   |       | (120                                                      | )          | (663 | ) |
| Included  in other comprehensive income |       | 1,036                                                     |       | 1,459 |   |
| Balance  at June 30, 2009          |       | $                                                         | 13,517     |   | $ | 13,517 |   |

 

**ValuationTechniques.**deCODE’s investments in auction rate securities at June 30,2009 did not have quoted market prices and are classified within Level 3 of thevaluation hierarchy. The valuation models used to value the ARS include thosethat are based on expected cash flow streams and collateral values, includingassessments of counterparty credit quality, default risk underlying thesecurity, discount rates and overall capital market liquidity. The valuation ofdeCODE’s investments in ARS is subject to uncertainties that are difficult topredict. Factors that may impact the valuation include changes in creditratings of the securities or their guarantors, underlying collateral value,discounts rates, counterparty risk and ongoing strength and quality of marketcredit and liquidity.

 

The fair value of deCODE’s3.5% convertible notes at June 30, 2009 and December 31, 2008 wasapproximately $15,250,000 and $25,744,000, respectively. The fair value of theconvertible notes was based on the most recent quoted market prices at June 30,2009 and December 31, 2008. The fair values of equipment notes at June 30,2009 and December 31, 2008 were approximately $206,000 and $334,000,respectively, as estimated based on quoted market rates for instruments withsimilar terms and remaining maturities.

 

The fair value ofshort-term financial instruments, including cash and cash equivalents,investments, receivables, certain other current assets, trade accounts payable,certain accrued liabilities, and other current liabilities approximates theircarrying amount in the financial statements due mainly to the short maturity ofsuch instruments. Based on borrowing rates currently available to deCODE forcapital lease obligations with similar terms, the carrying value of such of itsdebt obligations approximates fair value.

 

**12.    Discontinued Operations**

 

As part of deCODE’songoing strategic review, management and the Board of Directors have beenevaluating and pursuing various alternatives aimed at focusing the company’slong-term business and securing financial resources to fund ongoing productdevelopment and commercialization. The Company plans to sell deCODE’s U.S.subsidiaries.

 

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deCODE has accounted for it’s U.S. operations as discontinued operations,and, accordingly, has presented the results of operations and related cashflows as discontinued operations for all periods presented. The assets andliabilities of deCode’s U.S.operations to be sold have been been presented separately, and are reflectedwithin these assets and liabilities from discontinued operations in theaccompanying condensed consolidated balance sheets as of June 30, 2009 andDecember 31, 2008.

 

The summary of theoperating results of the discontinued operations are as follows:

 
| ** **                                   | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                   | ** ** | **2009**                              | ** ** | **2008**                            | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                   | ** ** | **(In thousands)**                    | ** ** |
| Revenue                                      |       | $                                     | 4,180      |                                | $          | 6,070 |   | $ | 8,985 |   | $ | 11,875 |   |
| Costs  and expenses                          |       | (4,828                                | )          | (6,450                              | )          | (9,734 | ) | (12,521 | ) |
| Operating  loss from discontinued operations |       | (648                                  | )          | (380                                | )          | (749 | ) | (646 | ) |
| Interest  expense                            |       | (422                                  | )          | (404                                | )          | (817 | ) | (809 | ) |
| Loss  from discontinued operations           |       | $                                     | (1,070     | )                                   | $          | (784 | ) | $ | (1,566 | ) | $ | (1,455 | ) |

 

Assets andliabilities classified as discontinued operations on deCODE’s condensedconsolidated balance sheets are as follows:

 
| ** **                                        | ** ** | **June 30,********2009** | ** ** | **December 31,  2008** | ** ** |
|---------------------------------------------------|------------|-------------------------------|------------|-----------------------------|------------|
| ** **                                        | ** ** | **(In thousands)**            | ** ** |
| Receivables                                       |       | $                             | 2,759      |                        | $          | 3,082 |   |
| Other  current assets                             |       | 781                           |       | 846                         |       |
| Current  assets of discontinued operations        |       | 3,540                         |       | 3,928                       |       |
| Property  and equipment, net                      |       | 16,643                        |       | 17,304                      |       |
| Intangible  assets, net                           |       | 103                           |       | 129                         |       |
| Restricted  cash and cash equivalents             |       | 5,230                         |       | 5,500                       |       |
| Other  long-term assets                           |       | 922                           |       | 1,026                       |       |
| Long-term  assets of discontinued operations      |       | 22,898                        |       | 23,959                      |       |
| Total  assets of discontinued operations          |       | $                             | 26,438     |                        | $          | 27,887 |   |
|                                              |       |                          |       |                        |       |
| Accounts  payable                                 |       | $                             | 2,740      |                        | $          | 4,909 |   |
| Accrued  expenses and other current liabilities   |       | 1,360                         |       | 1,897                       |       |
| Current  portion of long-term debt                |       | 203                           |       | 249                         |       |
| Current  portion of finance obligation            |       | 693                           |       | 648                         |       |
| Deferred  revenue                                 |       | 385                           |       | 874                         |       |
| Current  liabilities of discontinued operations   |       | 5,381                         |       | 8,577                       |       |
| Finance  obligation                               |       | 23,144                        |       | 23,497                      |       |
| Long  term debt, net of current portion           |       | —                        |       | 75                          |       |
| Long-term  liabilities of discontinued operations |       | 23,144                        |       | 23,572                      |       |
| Total  liabilities of discontinued operations     |       | $                             | 28,525     |                        | $          | 32,149 |   |

 

**13.    Subsequent Events**

 

On July 30, 2009, deCODE’sstockholders approved the increase in deCODE’s number of authorized shares ofcommon stock from 150,000 to 1,150,000 and also approved the amendment of itsAmended and Restated Certificate of Incorporation to allow for a reverse stocksplit at the discretion of deCODE’s Board of Directors.

 

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**ITEM 2.****    ****MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

This Management’s Discussionand Analysis of Financial Condition and Results of Operations as of June 30,2009 and for the three and six-month periods ended June 30, 2009 and 2008should be read in conjunction with the unaudited condensed consolidatedfinancial statements and notes thereto set forth in Item 1 of this report.

 

This quarterly report on Form 10-Qcontains forward-looking statements, including our expectations of futureindustry conditions, strategic plans and forecasts of operational results.Various risks may cause our actual results to differ materially. A list anddescription of some of the risks and uncertainties is contained below and inthe summary of risk factors that follow in Part II, Item 1A.

 

**Overview**

 

Headquartered inReykjavik, Iceland, deCODE is a biotechnology company developing and marketingproducts to improve the treatment, diagnosis and prevention of common diseases.deCODE employs its discoveries in human genetics to bring to market DNA-basedreference laboratory tests and consumer genome analysis services to assessindividual risk of common diseases, and applies its capabilities to thedevelopment of drugs in major therapeutic areas. As these diseases are commonand there is significant unmet need for both for tools to empower betterprevention as well as for more effective therapies, we believe that ourstrategy represents a significant opportunity to create better models fordiagnosis and prevention, leading to improved outcomes with major potential —both near- and longer-term — in the global marketplace.

 

We believe that ouradvantage in DNA-based disease risk assessment tests and personal genomicsderives from our population approach to human genetics and the ability to applyour discoveries directly to product development. We have comprehensive populationresources in Iceland and one of the largest genotyping facilities in the world,enabling our scientists to effectively identify key variations in the sequenceof the human genome associated with a major impact on individual risk of commondiseases. Well-validated genetic variations conferring risk of disease are therequisite basis for DNA-based reference laboratory tests and personal genomescans that can aid in assessing individual risk of disease, and deCODE is aglobal leader in the discovery of these genetic risk factors. As virtually allcommon diseases have both genetic and environmental risk factors, measuringgenetic risk is in our view a critical component for the realization ofpersonalized medicine. By providing a more complete understanding of individualrisk, such tests can empower better prevention in those conditions in whichknown lifestyle and environmental risk can be modified, as well as targetedscreening and early intervention in major fields such as cardiovascular diseaseand cancer. Because we have discovered many major genetic risk factors beforeothers, and file for intellectual property on our discoveries, we believe thatwe are well positioned not only to launch pioneering products but also tocreate additional value from our discoveries through partnerships and licensingagreements.

 

In the context of limitedfinancial resources the company’s principal focus continues to be on maximizingnear-term value creation. We are pursuing the commercial opportunities comingout of our gene discovery work, applying these discoveries in our diagnosticsand deCODEmeTM businesses, and for out-licensing agreements such as that wesigned in April 2009 with Celera, Inc., under which we grantednon-exclusive licenses for our genetic markers for increased risk of severalmajor cardiovascular and metabolic diseases for use in Celera’s risk assessmentproducts and services. At the same time we are seeking to realize revenues fromour existing therapeutics programs through partnerships, out-licensing orsales, and are employing our drug discovery capabilities to generate contractservice revenue.

 

AtJune 30, 2009, we had cash and cash equivalents of $3.8 million, compared to $3.7 million at December 31,2008. In early 2009 deCODE sold its ARS for approximately $11.3 million incash, and in April we signed licensing agreements with Celera Corporation(“Celera”) under which we received an upfront payment and will receiveroyalties on sales of Celera testing products and services incorporating deCODEgenetic risk markers. deCODE believes it has sufficient resourcesto fund operations only into the latter half of the third quarter. We aresimultaneously pursuing several options to ensure sufficient funding to take itto the execution of strategic options that can support the near- andlonger-term viability of our core business. Regardless, deCODE’s planned operations requireimmediate additional liquidity substantially in excess of the amounts notedabove, raising substantial doubt about deCODE’s ability to continue as a goingconcern.

 

In deCODE’s ongoingstrategic review, deCODE has been evaluating and pursuing various alternativesaimed at focusing its business and underpinning ongoing product development andcommercialization in its core business. One likely component of this effort isthe sale of some or all of deCODE’s US medicinal chemistry and structuralbiology units. Although these units continue to operate and contribute to deCODE, in view oftheir prospective sale the company has accounted for these businesses as “discontinuedoperations”. With the exception of combined net loss figures, the operatingresults are thus all for deCODE’s continuing operations in its core business ofemploying the Company’s capabilities in gene discovery to advance DNA-baseddiagnostics, personal genome analysis, intellectual property licensingopportunities, and contract genotyping.

 

*Diagnostics.* We are applying our discoveries andunique expertise in human genetics and genotyping to the development of 

 

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reference laboratoryDNA-based tests for assessing individual risk of a growing range of commondiseases. Since April 2007 we have launched six reference laboratoryDNA-based diagnostic tests to detect single-letter variations in the humangenome (called SNPs) that we have linked to increased risk of several commondiseases:

 

·             *deCODE T2*TM- which detects SNPs we discovered to be associated with increased risk of type2 diabetes.

·             *deCODE AFTM*- which detects SNPSs we discovered to be associated with increased risk ofatrial fibrillation and stroke

·             *deCODE MITM*- which detects SNPs we discovered to be associated with early-onset heartattack, (myocardial infarction, or MI)

·             *deCODE ProstateCancerTM* - which detects SNPs we have linked to increased riskof prostate cancer

·             *deCODE GlaucomaTM* -**which detects SNPs we have linked toincreased risk of exfoliation glaucoma

·             *deCODE BreastCancerTM*-**which detectsSNPs we and others have linked to risk of the most common forms of breastcancer

 

Beginning in 2008, deCODE initiated billing tocommercial insurance companies on behalf of physicians ordering these tests andhas received reimbursement from many health insurance companies. All of ourdiagnostic tests are offered by deCODE via direct sales efforts to physiciansin the United States; through marketing collaborations with other organizationsin the U.S. and other countries; as well as through our dedicated diagnosticswebsite, www.decodediagnostics.com. deCODE also has an alliance with Illumina, Inc.under which the company’s can develop DNA-based diagnostic kits utilizingdeCODE’s gene discoveries in certain diseases and Illumina’s platform for SNPgenotyping.

 

In April 2009, we entered into a non-exclusiveoutlicensing agreement with Celera.  Thisagreement gives Celera the right , on a non-exclusive worldwide basis, to usemarkers deCODE has associated with risk of heart attack, atrialfibrillation/stroke, and type 2 diabetes in Celera’s risk assessment productsand services. deCODE is exploring similar opportunities as a pathway tomonetizing the value of its gene discoveries as it continues to extend themarketing of its own diagnostic products.

 

*deCODEmeTM.* In November 2007, we launched the first consumergenetic analysis service: deCODEmeTM. This service takes advantage of deCODE’sleadership in human genetics and the capabilities of its high-throughputgenotyping laboratory, which is CLIA registered for analytical and clinicalvalidation. Through deCODEmeTM, subscribers can put themselves in the context ofthe latest discoveries in genetics, learning what their own DNA says abouttheir ancestry and certain physical traits, as well as whether they havegenetic variants that have been associated with higher or lower than averagerisk of a range of common diseases. This information is continually updated asnew discoveries are made, and is presented in subscribers’ secure individualweb pages. Recently, we launched two focused disease scans, deCODEme CardioTMfor cardiovascular-related diseases and deCODEme CancerTM for several commontypes of cancer. These scans offer subscribers an opportunity to understandtheir risk of groups of diseases that may be of particular interest at a moremodest price than the full genome scan. deCODEmeTM products are offered througha dedicated website, www.decodeme.com.

 

*DrugDiscovery and Development*. Given our focus on furthering our diagnostic business, we areactively exploring drug development partnerships and out-licensing and saleopportunities in order to realize revenues from our therapeutics programs. Ourlead drug development programs include:

 

·             *DG041 for the prevention ofarterial thrombosis.*DG041 is our novel, first-in-class antagonist of the EP3 receptor forprostaglandins E2. DG041 was developed as a next-generation oral anti-platelettherapy aimed at preventing arterial thrombosis without increasing bleedingrisk, and have taken it through successful Phase II clinical studies.

 

·             *DG051 and DG031 for theprevention of heart attack.*We have completed Phase I and Phase IIa clinicalstudies for DG051, our leukotriene A4 hydrolase (LTA4H) inhibitor beingdeveloped for the prevention of heart attack.

 

·             *DG071 for Alzheimer’s and other cognitivedisorders*. In October 2008we filed an investigational new drug (IND) application for DG071, a novelsmall-molecule modulator of phosphodiesterase 4 (PDE4), being developed forAlzheimer’s and other cognitive disorders.

 

**Ourproduct portfolio and development pipeline**

 

Over the course of more than a decade we have alsoactively studied the genetics and pathology of over 50 different commondiseases using our population genetics approach. We have led the world in thediscovery of variations in the sequence of the human genome conferring risk ofcommon diseases, and our pioneering DNA-based reference laboratory diagnostictests and personal genome scans are based upon these discoveries. Over the pastseveral years we have discovered and brought into clinical testing severalnovel small molecule compounds in major disease areas, compounds we believehave major therapeutic and commercial potential and which we are now seeking tobring forward in clinical development through corporate partnerships or to out-licenseor sell.

 

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***DNA-basedrisk-predictive diagnostic tests and consumer genome analysis***

 

Diagnostics represent an important avenue for rapidlypursuing the medical and commercial value of our genetic discoveries, and sincethe beginning of 2007 we have brought to market six DNA-based referencelaboratory tests for measuring individual inherited risk of several commondiseases. We also offer a personal genome analysis service, deCODEmeTM. Becausegenetic variants linked to disease are by definition markers of diseasesusceptibility, we can apply the same findings we employ in our drug discoveryefforts to the development of DNA-based diagnostic tests. We believe that suchtests may be useful as a means for identifying patients who are at aparticularly high risk of a given disease, and those who are likely to respondwell to drugs that target the same disease pathway.

 

The key to developing such tests and scans is theability to identify common SNPs that confer significant risk of commondiseases. deCODE is a world leader in gene discovery, based upon a unique setof capabilities and resources the company has assembled in Iceland. Theseinclude a genealogy database linking together the entire current-day populationof Iceland; detailed genetic and medical information from most of the adultpopulation of Iceland, who are taking part in one or more of our research programs;genetic and medical data from hundreds of thousands of participants from theU.S., Europe and around the world; one of the world’s largest high-throughputgenotyping facilities, enabling us to conduct genome-wide association studiesutilizing hundreds of thousands of markers across the genomes of many thousandsof patients and control subjects in each study; and proprietary bioinformaticsand statistical tools to correlate information on disease with specific geneticvariations.

 

By mining thesedatasets our scientists can effectively trace the genetic components ofvirtually any common disease, pinpointing key SNPs and genes that conferincreased risk. The company’s discoveries are also validated in multiplepopulations before they are integrated into our tests and scans. Once we havereplicated our discoveries in several populations we publish them, a processwhich enables independent groups to analyze the role of our disease markers inyet more populations around the world and provides additional information wecan then use to fold back into and expand the utility of our products.

 

Key new geneticrisk factors for bladder cancer, skin cancer and thyroid cancer, and for lungcancer and nicotine dependence, are elements in the deCODEme CancerTM scan. Newgenetic markers for risk of abdominal aortic and intracranial aneurysm andheart attack have been added to the company’s well-established heart attack andatrial fibrillation/stroke markers in the deCODE MITM test and the deCODEmeCardioTM scan. All of these discoveries, along with others in bone mineraldensity and osteoporosis, obesity, schizophrenia, essential tremor, and asthma,have provided an unrivalled series of replicated and validated updates forsubscribers of deCODEmeTM.

 

We believe thatDNA-based diagnostic tests are an important new means for improving diseaseprevention, and that they will be used in tandem with existing approaches toincrease the success of prevention efforts. Common diseases occur at theinterface of genetics and the environment, as both inherited as well aslifestyle and environmental risk factors play important roles in the diseaseprocess. Carrying a genetic risk variant for a common disease does not meanthat one will necessarily develop the disease; and not having a certain riskvariant does not eliminate all risk of developing the disease. Rather, in thecommon diseases, genetic risk variants impact the likelihood that one maydevelop a given condition. Understanding this inherited risk is empoweringinformation with potentially important clinical utility, as it is possible totake preventive action — through lifestyle modification or by taking certainmedications — to minimize the likelihood of an inherited predisposition everdeveloping into a disease. This is similar to the approach that is taken toaddress other risk factors for common diseases, such as high cholesterol, whichis commonly treated using statin drugs to lower the risk of heart disease ifdietary change is not enough.

 

We are activelymarketing and working to secure reimbursement for these tests, even as wecontinue to bring new diagnostic products to market. These products are listedin the table below.

 
| **Indication**                                                           | ** ** | **Product**                 | ** ** | **Launch date**    | ** ** | **Utility / Highlights**                                                                                                                                                                                                                                                                          |
|--------------------------------------------------------------------------|------------|-----------------------------|------------|--------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| Type 2 diabetes                                                          |       | deCODE T2TM             |       | April 2007    |       | ·    High-risk pre-diabetics can receive earlier lifestyle  and pharmacologic intervention

·    Validated in more than 60 populations                                                                                                                    |
| Atrial fibrillation/stroke                                               |       | deCODE AFTM             |       | July 2007     |       | ·    Post-stroke/TIA patients at risk of AF to obtain additional  cardiac monitoring

·    Patients with intermittent AF, family history and CHF  to obtain additional cardiac monitoring

·    Validated in more than 10 populations |
| Early-onset heart attack/abdominal aortic aneurysm/intracranial aneurysm |       | deCODE MITM             |       | October 2007  |       | ·    Risk of early-onset MI to seek CVD assessment or  prevention management

·    Validated in more than 25 populations                                                                                                                                  |
| Personal genome scan                                                     |       | deCODEmeTM              |       | November 2007 |       | ·    Launched with variants in 18 conditions; currently 42  conditions                                                                                                                                                                                                        |
| Prostate cancer                                                          |       | deCODE ProstateCancerTM |       | February 2008 |       | ·    Validated common risk variants that are linked to more  than 50% of all prostrate cancer cases                                                                                                                                                                           |

 

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|                 |   |                      |   |               |   | ·    Some variants included identify risk of aggressive  forms of prostrate cancer

·    Validated in more than 15 populations                                                                                 |
|----------------------|--------|---------------------------|--------|--------------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| Exfoliation glaucoma |   | deCODE GlaucomaTM     |   | February 2008 |   | ·    Risk of exfoliation glaucoma

·    Validated in more than 10 populations                                                                                                                                  |
| Breast cancer        |   | deCODE BreastCancerTM |   | October 2008  |   | ·    Tests 7 genetic risk variants

·    Assesses risk of the most common forms of breast  cancer, which represents 95% of all breast cancers.

·    Validated in more than 10 populations |

 

Other DNA-based risk diagnostic tests currently indevelopment include: melanoma, basal cell cancer, bladder cancer and lungcancer.

 

***Drug Development Programs***

 

deCODE hasdiscovered and brought into clinical development several novel compounds inmajor disease areas and we are working to realize revenues from these compoundsthrough corporate partnerships and out-licensing sales. Our most advancedprograms are listed in the following table. Squares indicate the phases inwhich at least one clinical trial has been completed.

 
| **Therapeutic area**                                 | ** ** | **Compound** | ** ** | **IND** | ** ** | **Phase I** | ** ** | **Phase II**                                                | ** ** | **Phase III**           |
|------------------------------------------------------|------------|--------------|------------|---------|------------|-------------|------------|-------------------------------------------------------------|------------|-------------------------|
| *Cardiovascular*                                     |       |         |       |    |       |        |       |                                                        |       |                    |
| Heart attack                                         |       | DG051        |       | n       |       | n           |       | Completed Phase Iia                                         |       |                    |
| Arterial thrombosis (heart attack, vascular disease) |       | DG041        |       | n       |       | n           |       | nAdditional clinical pharmacology studies completed in 2008 |       |                    |
| Heart attack                                         |       | DG031        |       | n       |       | n           |       | n                                                           |       | Reformulation completed |
| *Cognitive  Disorders*                               |       |         |       |    |       |        |       |                                                        |       |                    |
| Alzheimer’s and other cognitive disorders       |       | DG071        |       | n       |       |        |       |                                                        |       |                    |

 

*DG041*. DG041 is being developed as an anti-plateletcompound for the prevention of arterial thrombosis. DG041 is a first-in-classsmall molecule inhibitor of the EP3 receptor for prostaglandin E2, a G-proteincoupled receptor (GPCR). It has been demonstrated by in vitro studies that PGE2may have additive stimulatory effects on platelet aggregation beyond those ofother potent agonists such as ADP or thromboxane A2, targeted by clopidogreland aspirin, respectively.

 

Structure-baseddrug design has also been crucial in our DG041 program. The current mainstaysof anti-thrombotic therapy are compounds that broadly inhibit plateletactivation, with the result that they also cause increased bleeding risk andare therefore problematic for chronic use. In the discovery of DG041, deCODEbegan with a target — the EP3 receptor for prostaglandins E2 — that the company’sgenetics and biology work had identified as a key modulator of arterialthrombosis. And the use of ligand-based drug design and crystallographicmodeling of the PGE2 bound to EP3 enabled the discovery of DG041 as a veryhighly selective inhibitor of EP3.

 

Based on theresults of our clinical studies thus far, DG041 appears to be well-tolerated,showing little difference in bleeding events between dosing arms and placebo,and to potentially offer focused means of preventing the formation of thrombiby specifically inhibiting platelet aggregation mediated by EP3. In the firsthalf of 2008, we completed a second clinical pharmacology study examining theimpact of DG041 on top of aspirin and PlavixTM,the results of which show that DG041 blocks platelet aggregation and does notincrease bleeding time when given alone, with PlavixTM,or with PlavixTM and aspirin.

 

*DG051 andDG031.*We havetwo compounds in development for the prevention of heart attack, DG051 andDG031. These programs come out of our discovery of major risk variants in twogenes encoding proteins in the leukotriene pathway. These variants – in thegenes that code for leukotriene A4 Hydrolase (LTA4H) and 5-lipoxygenaseactivating protein (FLAP) – appear to confer risk in the same way: by causingan up regulation in the production of leukotriene B4, a potent pro-inflammatorymolecule that is the end product of one branch of the pathway. The therapeuticgoal of both compounds is to inhibit the activity of the pathway, lowering theproduction of LTB4 and thereby decreasing the inflammatory activity inatherosclerotic plaques and reducing the risk of heart attack. In addition toreducing the risk of heart attack, these drugs may provide benefit in otherinflammatory diseases.

 

DG051, discovered internally by deCODE’s chemistryunit, is a small-molecule inhibitor of LTA4H, which is directly involved in thesynthesis of LTB4. In 2007, we completed our Phase I program, the results ofwhich demonstrated that DG051 was safe and well 

 

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tolerated at all doses tested, has a pharmacokineticprofile suited for potential once-a-day dosing, and significantly reduces LTB4levels in a concentration-dependent manner. We also concluded a Phase IIa studyin late 2007, which demonstrated safety and tolerability and a significantreduction in LTB4, even at lower doses than were originally considered. deCODEalso in-licensed a FLAP inhibitor from Bayer AG, now known as DG031. Our PhaseII clinical studies demonstrated that DG031 was well-tolerated and reducedproduction of LTB4 in a dose-dependent manner. This effect was seen on top ofthe effects of the current standard of care, which included statin therapy fora majority of patients in our trials.

 

*DG071*. DG071 is a novel, potent and selective PDE4Dmodulator discovered by deCODE’s chemistry group. First and second generationPDE4 inhibitors such as rolipram, cilomilast, and roflumilast causedsignificant side effects, including nausea and vomiting, at therapeutic dosesin human clinical trials. Such side effects severely limit the utility of theseearlier compounds. Data generated at deCODE suggest that the observed sideeffects were closely correlated with the binding of these molecules in the PDE4enzymatic active site competitively with cAMP. As cAMP is of criticalimportance to neuronal signaling, the goal of deCODE’s program has been todiscover compounds that would modulate PDE4 activity via an allostericmechanism to improve safety and tolerability. Towards this goal, the deCODEbiostructures team solved multiple novel co-crystal structures of PDE4D andPDE4B containing regulatory domains with bound ligands. Those structuresallowed the deCODE chemistry team to identify a novel binding site forallosteric modulators in the PDE4 regulatory domain. Binding of an allostericmodulator at that site is non-competitive with cAMP. DG071 has been shown inanimal models to improve cognitive function with benefit similar to that ofcholinesterase inhibitors such as donepezil that currently are a mainstay oftherapy for memory loss in early Alzheimer’s disease, yet also benefiting longterm memory function in animal tests where the cholinesterase inhibitors areineffective.

 

The DG071compound is being developed as a new andpotentially safer means of targeting PDE4 to combat memory loss and cognitivedeficits associated with Alzheimer’s disease and other disorders in whichneural signaling is reduced or impaired. In animal models, DG071 has been shownto significantly improve learning and long- and short-term memory at doses thatoffer a wide margin for safety and tolerability. The compound has the potentialto eliminate the nausea that limits the utility of previous PDE4 inhibitors. InOctober 2008 we filed an IND application for DG071.

 

For our most significant research and development programs we havecumulatively invested $47.7 million, $24.7 million and $16.0 million in ourheart attack (myocardial infarction, or MI), arterial thrombosis and strokeprograms, respectively, from the beginning of 2003 to date (June 30,2009). Inception to-date costs are not available as these costs were nothistorically tracked by program.

 

***Contract genotyping services***

 

At our research facility in Reykjavik, we have one ofthe largest and most advanced genotyping laboratory in the world. We haveextensive expertise in microsatellite genotyping and also conduct genome-widesingle nucleotide polymorphisms (SNP) association analyses. We utilize thesecapabilities both for in-house gene discovery work and contract genotypingservices to fee paying customers. We have in place efficient, automated systemsfor all stages of the genotyping process, from DNA isolation and amplificationto plate preparation and the generation, storage and analysis of volumes ofgenotypic data. Our customers for genotyping services include pharmaceuticalcompanies, research consortia and academic institutions. Our referencelaboratory is Clinical Laboratory Improvement Act of 1998 as amended (CLIA)registered.

 

**Results of Operations for the Three and Six-MonthPeriods Ended June 30, 2009 and 2008**

 

Our results of operationshave fluctuated from period to period and may continue to fluctuate in thefuture based upon, among other things, the pace and progress of our proprietaryresearch and clinical development efforts, the timing and composition offunding under our various collaborative agreements, and the progress of our ownresearch and development efforts. Results of operations for any period may beunrelated to results of operations for any other period. In addition,historical results should not be viewed as indicative of future operatingresults. We are subject to risks common to companies in our industry and at ourstage of development, including risks inherent in our research and developmentefforts, reliance upon collaborative partners, development by us or ourcompetitors of new technological innovations, ability to market products orservices, dependence on key personnel, dependence on key suppliers, protectionof proprietary technology, ability to obtain additional financing, ability tonegotiate collaborative arrangements, and compliance with governmental and otherregulations. In order for a drug to be commercialized based on our research, weand our collaborators must conduct pre-clinical tests and clinical trials,demonstrate the efficacy and safety of our product candidates, obtainregulatory approvals or clearances and enter into manufacturing, distributionand marketing arrangements, as well as obtain market acceptance. We do notexpect to receive significant revenues or royalties based on therapeutic ordiagnostic products for a period of years, if at all.

 

IndeCODE’s ongoing strategic review, deCODE has been evaluating and pursuingvarious alternatives aimed at focusing its business and underpinning ongoingproduct development and commercialization in its core business. One componentof this effort is the sale of deCODE’s US medicinal chemistry and structuralbiology subsidiaries. Although these subsidiaries continue to operate andcontribute to the results and cash flows of deCODE, in view of theirprospective sale and in accordance with SFAS No. 144, *Accountingfor the Impairment or Disposal of Long-lived Assets*, deCODE has accounted forthese businesses as discontinued operations. The operating results presentedhere are thus for deCODE’s core business of employing the Company’scapabilities in gene discovery 

 

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to advance DNA-baseddiagnostics, personal genome analysis, intellectual property licensingopportunities, and contract genotyping. The assets andliabilities of deCODE’s U.S. operations to be sold have been been presentedseparately, and are reflected within these assets and liabilities fromdiscontinued operations in the accompanying condensed consolidated balancesheets as of June 30, 2009 and December 31, 2008. deCODE also continues to be engaged innegotiations on several other strategic opportunities including the sale oftherapeutic programs; licensing agreements for certain of our diagnosticstests; entering large-scale genome sequencing collaborations; restructuring itsdebt; and obtaining new equity financing.

 

Financial highlights asof and for the three and six-month periods ended June 30, 2009 include:

 

·             We incurred a loss of $13.2 million and$25.8 million during the three and six-months ended June 20, 2009 and usedcash in operating activities of $9.4 million and $38.0 million during thesix-months ended June 30, 2009 and 2008, respectively. We incurred a lossof $80.9 million and used cash of $54.8 million in operating activities in theyear ended December 31, 2008. At June 30, 2009, wehad cash and cash equivalents of $3.8 million, compared to $3.7 million at December 31, 2008.In early 2009 deCODE sold its ARS for approximately $11.3 million in cash, andin April we signed licensing agreements with Celera under which wereceived an upfront payment of $10.0 million and will receive royalties onsales of Celera testing products and services incorporating deCODE genetic riskmarkers. We believe we have sufficient resources to fund operations only into thelatter half of the third quarter. We are simultaneously pursuing severaloptions to ensure sufficient funding to take us to the execution of strategic optionsthat can support the near- and longer-term viability of our core business. Our planned operations require immediateadditional liquidity substantially in excess of the amounts noted above,raising substantial doubt about our ability to continue as a going concern.

 

·             Our revenue was $3.5 million and $7.6million for the three and six-months ended June 30, 2009 as compared to $9.0million and $18.1 million during the three and six-month periods ended June 30,2008. As of June 30, 2009, we had $21.3 million in deferred revenue thatwill be recognized over future reporting periods. The period-on-period decreasein revenue for the three and six months ended June 30, 2009 as compared tothe same periods in 2008 is primarily due to decreased genomic services andgovernment research contracts and grant funding.

 

·             Our research and development expense was$2.8 million and $6.9 million for the three and six-month periods ended June 30,2009 as compared to $8.0 million and $20.6 million for the three and six-monthperiods ended June 30, 2008. These figures reflect our currentfocus on controlling costs in core genetics activities creating intellectualproperty and novel content for our diagnostic tests, deCODEme scans, andoutlicensing opportunities.

 

·             Our selling, general and administrative expense was$4.3 million and $8.6 million during the three and six-month periods ended June 30,2009 as compared to $5.9 million and $11.7 million during the three andsix-month periods ended June 30, 2008. The changes in selling, general andadministrative expense period-on-period are primarily due to lower overallheadcount in 2009 versus 2008 as well as decreased contractor and legalexpenses.

 

·             In January 2009 we entered into anagreement with an Icelandic financial institution (NBI hf) pursuant to whichNBI has purchased all auction rate securities (“ARS”) owned by deCODE for anaggregate price of $11.3 million at exchange rates at the date of thetransaction. The agreement includes both call and put rights under certaininstances and which expire at the end of 2009. The transaction was accountedfor as a secured borrowing with the ARS remaining on our balance sheet and as aresult we recognized a liability for the borrowing ($11.7 million at June 30,2009) which represents the amount we would be required to pay should weexercise our call right to repurchase the ARS or should we be required torepurchase the ARS in the event of a sale of Icelandic assets or if exercisedby NBI hf on December 16, 2009.

 

***Revenue***

 
| ** ** | ** ** | **Three Months**             | ** ** | **Six Months**          | ** ** | **2009 as Compared to 2008** | ** ** |
|------------|------------|------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** ** | ** ** | **Ended June 30,**      | ** ** | **Ended June 30,** | ** ** | **Three Months**             | ** ** | **Six Months** | ** ** |
| ** ** | ** ** | **2009**                     | ** ** | **2008**                | ** ** | **2009**                     | ** ** | **2008** | ** ** | **$ Change** | ** ** | **% Change** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** ** | ** ** | **(In thousands, except %)** | ** ** |
| Revenue    |       | $                            | 3,501      |                    | $          | 8,956                        |       | $ | 7,613 |   | $ | 18,129 |   | $ | (5,445 | ) | (61 | )% | $ | (10,516 | ) | (58 | )% |
|            |            |                              |            |                         |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

In 2008 and into 2009 our business strategy hasfocused on emphasizing our core capabilities in human genetics and leveragingthose strengths to build on opportunities to generate near-term revenue fromproducts that we already have available; namely our genomic services comprisingdiagnostics, our consumer genetics service deCODEme and genotyping services. Atthe same time, we seek to realize revenue from our early and late stage drugprograms through corporate partnerships, out-licensing and sales and willgenerate revenue from contract and other service fees. Further, we willcontinue to leverage our capabilities to continue with and 

 

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pursue funding in the form of research grants. In the majority of ourprograms we are pursuing diagnostic and early-stage drug development on ourown. Depending on the nature of each prospective business opportunity, the keycomponents of the commercial terms of the types of collaborations we seektypically include one or more of the following: research funding; up-front, exclusivity,technology access, and technology development fees; fees for particularservices; milestone payments; license or commercialization fees; and royaltiesor profit sharing from the commercialization of products.

 

Significant elements ofour revenue are summarized as follows:

 
| ** **                                       | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended********June 30,** | ** ** |
|--------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------------|------------|
| ** **                                       | ** ** | **2009**                              | ** ** | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                       | ** ** | **(In thousands)**                    | ** ** |
| Genomic  services                                |       | $                                     | 1,418      |                                      | $          | 5,120 |   | $ | 3,320 |   | $ | 9,996 |   |
| Research  funding and other service fees         |       | 18                                    |       | 236                                       |       | 62 |   | 464 |   |
| Government  research contracts and grant funding |       | 2,065                                 |       | 3,600                                     |       | 4,231 |   | 7,669 |   |
| Total  revenue                                   |       | $                                     | 3,501      |                                      | $          | 8,956 |   | $ | 7,613 |   | $ | 18,129 |   |

 

The period-on-perioddecrease in revenue for the three and six-months ended June 30, 2009 ascompared to the same periods in 2008 is primarily due to decreased genomicservices and government research contracts and grant funding.

 

At June 30, 2009 we had $21.3 million in deferredrevenue, compared to $11.1 million at December 31, 2008. Of thisdeferred revenue, $6.2 million relates to our agreement with Merck and $10.0million relates to our agreement with Celera. Our agreement with Merk is toconduct information-rich clinical trials in Iceland and, to date, Merck has notselected any compounds for development under the agreement. Under the terms ofthe agreement with Celera we received an upfront payment ($10.0 million) andwill receive milestones and royalties on future sales of Celera testingproducts and services incorporating deCODE genetic markers. The Company hasdetermined that the revenue recognition criteria have not been met and hasdeferred the recognition of the $10.0 million upfront payment to a futureperiod. We expect that our revenues will fluctuate from period to period andthat such fluctuations may be substantial especially because progress in ourscientific work, including milestone payments that are related to progress, canfluctuate between periods.

 

*Government Research Contracts andGrant Funding.*Wehave received various research grants from divisions of the United StatesNational Institutes of Health (NIH), the Commission of the European Communities(EC) and other government agencies and private foundations. Research grants formultiple years are based on approved budgets with budgeted amounts subject toapproval on an annual basis. NIH grants generally provide for 100%reimbursement of allowable expenditures while grants under the EC generallyprovides for fifty percent reimbursement of allowable research and development related expenditures. Our mostsignificant research contract is with the National Institutes of Allergy andInfectious Diseases (NIAID) dating to September 2004, where we wereawarded a five-year $23.9 million contract by the NIAID. Under the contract, weare applying our population approach and resources to discover genetic factorsassociated with susceptibility to certain infectious diseases and withresponsiveness to vaccines targeting such diseases. We may receive $3.9 millionin additional research funding over the remaining term of the agreement.

 

 

***Cost of Revenue***

 
| ** **       | ** ** | **Three Months**             | ** ** | **Six Months**          | ** ** | **2009 as Compared to 2008** | ** ** |
|------------------|------------|------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** **       | ** ** | **Ended June 30,**      | ** ** | **Ended June 30,** | ** ** | **Three Months**             | ** ** | **Six Months** | ** ** |
| ** **       | ** ** | **2009**                     | ** ** | **2008**                | ** ** | **2009**                     | ** ** | **2008** | ** ** | **$ Change** | ** ** | **% Change** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **       | ** ** | **(In thousands, except %)** | ** ** |
| Cost  of revenue |       | $                            | 4,436      |                    | $          | 8,199                        |       | $ | 8,555 |   | $ | 18,343 |   | $ | (3,763 | ) | (46 | )% | $ | (9,788 | ) | (53 | )% |
|                  |            |                              |            |                         |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Our cost of revenueconsists of the costs of services provided to customers and collaborators andthe costs of programs under research contracts and grants, including: (i) theentirety of the costs incurred in connection with programs that have beenpartnered and on which we receive research funding; (ii) costs associatedwith other service fee revenues; and (iii) the total amount of those costsincurred in connection with discovery and development work performed underresearch contracts and grants. At times, we invest in addition to costs coveredby research funding received in such collaborative programs and in addition tomonies received under research contracts and grants.

 

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Significant elements of deCODE’s revenue and cost ofrevenue are summarized as follows:

 
| ** **                                             | ** ** | **Three Months Ended  June 30,** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                             | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                             | ** ** | **Revenue**                           | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** | **Revenue** | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** |
| ** **                                             | ** ** | **(In thousands)**                    | ** ** |
| Genomic services, research funding and other  services |       | $                                     | 1,436      |   | $ | 1,302 |   | $ | 134 |   | $ | 5,356 |   | $ | 3,557 |   | $ | 1,799 |   |
| Government research contracts and grant funding        |       | 2,065                                 |       | 3,134 |   | (1,069 | ) | 3,600 |   | 4,642 |   | (1,042 | ) |
| Total                                                  |       | $                                     | 3,501      |   | $ | 4,436 |   | $ | (935 | ) | $ | 8,956 |   | $ | 8,199 |   | $ | 757 |   |

 
| ** **                                             | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------------------------------|------------|------------------------------------|------------|
| ** **                                             | ** ** | **2009**                           | ** ** | **2008** | ** ** |
| ** **                                             | ** ** | **Revenue**                        | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** | **Revenue** | ** ** | **Cost of  Revenue** | ** ** | **Net** | ** ** |
| ** **                                             | ** ** | **(In thousands)**                 | ** ** |
| Genomic services, research funding and other  services |       | $                                  | 3,382      |   | $ | 2,835 |   | $ | 545 |   | $ | 10,460 |   | $ | 7,868 |   | $ | 2,592 |   |
| Government research contracts and grant funding        |       | 4,231                              |       | 5,720 |   | (1,489 | ) | 7,669 |   | 10,475 |   | (2,806 | ) |
| Total                                                  |       | $                                  | 7,613      |   | $ | 8,555 |   | $ | (944 | ) | $ | 18,129 |   | $ | 18,343 |   | $ | (214 | ) |

 

Decreases in our cost ofrevenue for the three and six-months ended June 30, 2009 as compared tothe same periods in 2008 are largely on account of overall decreased revenue,specifically (i) the decrease of our genomics business, principally thedecrease of contract genotyping services and (ii) a decreased amount ofdiscovery and development work performed under ongoing contracts and grantswith the NIH and EC. Our cost of revenue in the three and six-month periodsended June 30, 2009 as compared to the same periods in 2008 decreasedchiefly with regard to our usage of chemicals and consumables ($2.0 million and$4.9 million, respectively) and also decreased salaries ($1.1 million and $2.7million, respectively) due to lower headcount and decreased contractor servicesand other overhead ($0.8 million and $2.0 million, respectively).

 

***Research and Development***

 
| ** **                | ** ** | **Three Months**             | ** ** | **Six Months**          | ** ** | **2009 as Compared to 2008** | ** ** |
|---------------------------|------------|------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** **                | ** ** | **Ended June 30,**      | ** ** | **Ended June 30,** | ** ** | **Three Months**             | ** ** | **Six Months** | ** ** |
| ** **                | ** ** | **2009**                     | ** ** | **2008**                | ** ** | **2009**                     | ** ** | **2008** | ** ** | **$ Change** | ** ** | **% Change** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                | ** ** | **(In thousands, except %)** | ** ** |
| Research  and development |       | $                            | 2,841      |                    | $          | 7,964                        |       | $ | 6,872 |   | $ | 20,578 |   | $ | (5,123 | ) | (64 | )% | $ | (13,706 | ) | (67 | )% |
|                           |            |                              |            |                         |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Our research and development expense consist of thefollowing:

 
| ** **                                       | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended********June 30,** | ** ** |
|--------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------------|------------|
| ** **                                       | ** ** | **2009**                              | ** ** | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                       | ** ** | **(In thousands)**                    | ** ** |
| Salaries  and other personnel costs              |       | $                                     | 1,280      |                                      | $          | 3,941 |   | $ | 3,103 |   | $ | 8,724 |   |
| Materials  and supplies                          |       | 456                                   |       | 1,142                                     |       | 1,091 |   | 4,022 |   |
| Contractor  services and other third party costs |       | 77                                    |       | 1,084                                     |       | 513 |   | 3,407 |   |
| Overhead  expenses                               |       | 400                                   |       | 956                                       |       | 862 |   | 2,343 |   |
| Depreciation  and amortization                   |       | 442                                   |       | 489                                       |       | 906 |   | 1,400 |   |
| Stock-based  compensation                        |       | 186                                   |       | 352                                       |       | 397 |   | 682 |   |
| Total                                            |       | $                                     | 2,841      |                                      | $          | 7,964 |   | $ | 6,872 |   | $ | 20,578 |   |

 

Our research anddevelopment expense for 2009 and 2008 reflects the advancement of our drug anddiagnostic programs, including costs related to the development and launch ofour latest DNA-based diagnostic tests for gauging individual risk of a growingnumber of common disease and  ongoinggene discovery work that is feeding our diagnostic pipeline and our deCODEmeservice offerings. We also continued to pursue our PDE4 modulator programacross several indications and filed an IND for DG071 in October 2008.With near-term value creation in mind, our core focus in 2008 and into 2009 hasbeen towards building our diagnostics and deCODEme businesses and our genomicservices broadly. With that focus in mind and continued decreased clinicaltrial work in 2009, we experienced decreased overall expense in 2009.

 

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***Selling, General and Administrative Expense***

 
| ** **                           | ** ** | **Three Months**             | ** ** | **Six Months**          | ** ** | **2009 as Compared to 2008** | ** ** |
|--------------------------------------|------------|------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** **                           | ** ** | **Ended June 30,**      | ** ** | **Ended June 30,** | ** ** | **Three Months**             | ** ** | **Six Months** | ** ** |
| ** **                           | ** ** | **2009**                     | ** ** | **2008**                | ** ** | **2009**                     | ** ** | **2008** | ** ** | **$ Change** | ** ** | **% Change** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                           | ** ** | **(In thousands, except %)** | ** ** |
| Selling,  general and administrative |       | $                            | 4,318      |                    | $          | 5,929                        |       | $ | 8,582 |   | $ | 11,678 |   | $ | (1,611 | ) | (27 | )% | $ | (3,096 | ) | (27 | )% |
|                                      |            |                              |            |                         |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

The decrease inour selling, general and administrative expense for the three and six-monthperiods ended June 30, 2009 compared to the same periods in 2008 isprincipally attributable to decreased salary and stock-based compensation ($1.0million and $2.0 million respectively) due to lower head-count and lower travelcosts ($0.4 million and $0.7 million, respectively).

 

***Interest Expense***

 
| ** **        | ** ** | **Three Months**             | ** ** | **Six Months**          | ** ** | **2009 as Compared to 2008** | ** ** |
|-------------------|------------|------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** **        | ** ** | **Ended June 30,**      | ** ** | **Ended June 30,** | ** ** | **Three Months**             | ** ** | **Six Months** | ** ** |
| ** **        | ** ** | **2009**                     | ** ** | **2008**                | ** ** | **2009**                     | ** ** | **2008** | ** ** | **$ Change** | ** ** | **% Change** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **        | ** ** | **(In thousands, except %)** | ** ** |
| Interest  expense |       | $                            | 4,380      |                    | $          | 3,716                        |       | $ | 8,611 |   | $ | 7,336 |   | $ | 664 |   | 18 | % | $ | 1,275 |   | 17 | % |
|                   |            |                              |            |                         |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Our interestexpense is primarily attributable to interest on our 3.5% Senior ConvertibleNotes due in 2011 for which our cash interest payments are approximately $8.1million on an annual basis.

 

In January 2009 we transferred our auction ratesecurities to an Icelandic financial institution which was accounted for as asecured borrowing due to the put and call rights. During the three andsix-months ended June 30, 2009, we recognized $0.6 million and $1.0million of interest expense related to this secured borrowing.

 

**Other non-operating income and(expense), net**

 
| ** **                                     | ** ** | **Three Months**             | ** ** | **Six Months**          | ** ** | **2009 as Compared to 2008** | ** ** |
|------------------------------------------------|------------|------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** **                                     | ** ** | **Ended June 30,**      | ** ** | **Ended June 30,** | ** ** | **Three Months**             | ** ** | **Six Months** | ** ** |
| ** **                                     | ** ** | **2009**                     | ** ** | **2008**                | ** ** | **2009**                     | ** ** | **2008** | ** ** | **$ Change** | ** ** | **% Change** | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
| ** **                                     | ** ** | **(In thousands, except %)** | ** ** |
| Other  non-operating income and (expense), net |       | $                            | 330        |                    | $          | (1,170                       | )          | $ | 565 |   | $ | (5,247 | ) | $ | 1,500 |   | 128 | % | $ | 5,812 |   | 111 | % |
|                                                |            |                              |            |                         |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

We recognized another-than-temporary loss on investments in auction rate securities (“ARS”)classified as non-current investments on our balance sheet at June 30,2009 and 2008 of $0.1 million and $0.7 million during the three and six-monthsended June 30, 2009, respectively, and $1.1 million and $5.1 million forthe three and six-months ended June 30, 2008, respectively. For the threeand six-months ended June 30, 2009, this impairment related to the ARS wasoffset by $0.5 million and $0.6 million, respectively, related to foreigncurrency translation gains due primarily to the change in valuation of theIcelandic krona versus the U.S. dollar. For the three and six-months ended June 30,2008, the ARS impairment charge included $0.9 million of impairment determinedto be temporary at December 31, 2007. If uncertainties in these credit andcapital markets continue, these markets deteriorate further or we experienceadditional downgrades on our investments, we may incur additional impairmentsto our investment portfolio, which could negatively affect our financialcondition, cash flows and reported earnings.

 

**Liquidityand Capital Resources**

 

*FinancialCondition*.  Our planned operations require immediateadditional liquidity which may not be available, raising substantial doubtabout our ability to continue as a going concern. Our cash used in operationshave been $9.4 million and $38.0 million for the six-months ended June 30,2009 and 2008, respectively and $54.8 million for the year ended December 31,2008. In addition, the Company has significant amounts of long-term debt whichrequires interest payments of approximately $8.1 million per annum. At June 30,2009, we had liquid funds available (cash and cash equivalents) of $3.8 millionas compared to $3.7 million at December 31, 2008. In January 2009 wetransferred our ARS to an Icelandic financial institution for an aggregateprice of approximately $11.3 million. In April 2009, we signed anon-exclusive worldwide license with Celera Corporation (“Celera”) for ourgenetic markers for increased risk of major cardiovascular and metabolicdiseases, including heart attack, stroke, atrial fibrillation (AF) and type 2diabetes (T2D). Under the terms of the agreement we received an upfront paymentof $10.0 million, which was received in April 2009.

 

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To address deCODE’s immediate need for funds, management and the Board ofDirectors are exploring the possibilities of (i) selling some or all ofdeCODE’s U.S. subsidiaries, (ii) granting further licenses to specificdiagnostic products, (iii) entering into a collaboration for genesequencing, (iv) selling or out-licensing some or all of deCODE’s clinicaland pre-clinical drug discovery programs, (v) restructuring deCODE’soutstanding convertible notes and (vi) obtaining new equityfinancing.  Achieving (v) couldresult in a settlement of deCODE’s convertible note obligation forsubstantially less than the carrying amount or in either a cash conversion ofthe convertible notes into equity of deCODE. Receipt of additional equityfinancing to support operations in the longer term depends in large part on theoutcomes of actions in (i), (ii), (iii) and (v). Management and the boardare having ongoing dialogues and negotiations with third parties in each ofthese areas.If deCODE’s Board ofDirectors concludes that any of these options can be better implemented in abankruptcy proceeding, deCODE will commence a proceeding under Chapter 11 ofthe U.S. Bankruptcy Code. Whether in a bankruptcy proceeding or otherwise, theconsummation of any of these approaches are dependent on successfulnegotiations with third parties and in many cases the availability of financingto such third parties. There can be no asssurance that any potentialtransactions will be consummated or will result in sufficient funding tosustain operations. deCODE believes it has sufficient resources to fundoperations only into the latter half of the third quarter. It is simultaneouslypursuing several options to ensure sufficient funding to take it to theexecution of strategic options that can support the near- and longer-termviability of its core business.

 

In deCODE’s ongoingstrategic review, deCODE has been evaluating and pursuing various alternativesaimed at focusing its business and underpinning ongoing product development andcommercialization in its core business. One likely component of this effort isthe sale of some or all of deCODE’s US medicinal chemistry and structuralbiology units. Although these units continue to operate and contribute to deCODE, in view oftheir prospective sale the company has accounted for these businesses as “discontinuedoperations” (see Note 12). With the exception of combined net loss figures, theoperating results are thus all for deCODE’s continuing operations in its coreactivities in gene discovery and its related businesses, including DNA-basedrisk assessment tests, personal genome scans, intellectual property licensing,and contract genotyping.

 

We have financed ouroperations primarily through funding from research and developmentcollaborative agreements, and the issuance of equity securities and long-termfinancing instruments ($1,088 million from the beginning of 1999 to June 30,2009). At June 30, 2009, future funding under terms of our existingagreements is approximately $36.8 million (excluding milestone payments,royalties and other payments that we may earn under such collaborations, andexcluding our discontinued operations and including $19.0 million fromdiscontinued operations), for which significant expense will need to beincurred in order to earn this revenue. Of the $36.8 million, approximately$23.8 million (which includes $15.8 million from discontinued operations) isexpected to be received during the year ending December 31, 2009, with theremaining amount due through 2012.

 

*IcelandicEconomic Situation.*deCODE has significant operations in Iceland and pays a large proportion of itsfixed costs in Icelandic Krona (ISK), while its sales are generally denominatedin U.S. dollars and its reporting currency is the U.S. dollar. Beginning in thethird quarter of 2008 and particularly in the first weeks of the fourthquarter, the effects of the global credit and financial crisis hit theIcelandic economy particularly hard. In mid-October 2008, the Icelandicparliament passed emergency legislation to minimize the impact of the financialcrisis, resulting in the government takeover of the three largest Icelandicbanks. By the end of October, with significant foreign exchange controls inplace, the official exchange rate was 120.6 ISK to the U.S. dollar. The ISKfell from 62 ISK to the U.S. dollar on January 1, 2008 to 123 ISK to theU.S. dollar on December 31, 2008 and was 120 ISK to the U.S. dollar on June 30,2009. The turmoil in the Icelandic financial sector and economy as a whole hasnot had a significant impact on deCODE and has had no material adverse impacton our day to day operations, except to decrease the dollar value of ourISK-denominated costs. At June 30, 2009, deCODE has ISK denominatedoperating lease obligations of $37.6 million, ISK denominated put rightsrelated to our ARS of $11.7 million and cash and cash equivalents denominatedin ISK of $0.1 million. Our most significant operating expenses denominated inISK include salaries and rental payments on our leased facilities and capitalequipment leases and we expect that in as far as the ISK decreases in valueversus the U.S. dollar our ISK-denominated operating expenses will generallydecrease.

 

*FairValue.*As of June 30,2009, we have certain assets recorded at fair value. In accordance withStatement of Financial Accounting Standards No. 157, *Fair ValueMeasurement*, or SFAS No. 157, we have classified our financialassets as Level 1, 2 or 3 within the fair value hierarchy. Fair valuesdetermined by Level 1 inputs utilize quoted prices (unadjusted) in activemarkets for identical assets or liabilities. Fair values determined by Level 2inputs utilize quoted prices for similar assets and liabilities in activemarkets or inputs that are observable for the asset or liability, eitherdirectly or indirectly through market corroboration, for substantially the fullterm of the financial instrument. Fair values determined by Level 3 inputsutilize unobservable inputs based on assumptions used to measure assets andliabilities at fair value. A financial asset or liability’s classificationwithin the hierarchy is determined based on the lowest level input that issignificant to the fair value measurement.

 

As noted in Note 9 to ourconsolidated financial statements, a majority of our financial assets consistof auction rate securities (ARS) and have been classified as Level 3 in thefair value hierarchy. These assets are pledged to an Icelandic financialinstitution as of June 30, 2009 related to our secured borrowing. Thepledged ARS consist of private placement securities with long-term nominalmaturities for which the interest rates are reset through a Dutch auctionprocess at pre-determined calendar intervals, generally each month. Thismechanism generally allowed existing investors to rollover their holdings andcontinue to own their respective securities or liquidate their holdings byselling their securities at par value. We generally invested in thesesecurities for short periods of time as part of our cash management program.However, the ongoing uncertainties in the credit markets prevented us and otherinvestors from liquidating holdings of our remaining ARS in recent auctions forthese securities because the amount of securities submitted for sale 

 

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has exceeded the amountof purchase orders and this has resulted in multiple failed auctions. Thepledged ARS at June 30, 2009, represent interests in debt obligations,namely life insurance wrapped issues, of companies offering credit derivatives,and of entities on which monoline insurers retain capital put rights. Theremaining ARS investments were generally collateralized by pools of commercialpaper, investment-grade corporate debt, asset and mortgage-backed securities,government and money-market issues and other ARS.

 

Our Level 3 investmentsin ARS have a present lack of observable market quotes. The valuation modelsused to value the securities include those that are based on expected cash flowstreams and collateral values, including assessments of counterparty creditquality, default risk underlying the security, discount rates and overallcapital market liquidity. The valuation of our investments in ARS is subject touncertainties that are difficult to predict. Factors that may impact thevaluation include changes in credit ratings of the securities or theirguarantors, underlying collateral value, discounts rates, counterparty risk andongoing strength and quality of market credit and liquidity. We validate theprices provided by our third party pricing service by understanding the modelsused and challenging pricing data in certain instances.

 

As previously noted, in January 2009 we entered into an agreementwith an Icelandic financial institution (NBI hf) pursuant to which NBI haspurchased all auction rate securities (“ARS”) owned by deCODE for an aggregateprice of approximately $11.3 million. The agreement includes both call and putrights under certain instances and which expire at the end of 2009. Theestimated market value of our pledged non current investments in ARS at June 30,2009 was $13.5 million. Based on valuation models and an analysis ofother-than-temporary impairment factors, deCODE has recorded an impairmentcharge of $0.7 million and $5.1 million for the six-months ended June 30,2009 and 2008, respectively, in Other non-operating income (expense), net inthe Statements of Operations, reflecting the portion of ARS holdings thatdeCODE has concluded have an other-than-temporary decline in value. deCODErecognized an unrealized gain of $1.5 million in Other Comprehensive Incomeduring the six-months ended June 30, 2009. During the six-months ended June 30,2008, the $5.1 million charge included $0.9 million related to ARS which deCODEhad previously believed to be temporary and accounted for as an unrealized lossat December 31, 2007.

 

Our cash was provided by and used as follows:

 
| ** **                                  | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------------|------------|-------------------------------------|------------|
| ** **                                  | ** ** | **2009**                            | ** ** | **2008** | ** ** |
| ** **                                  | ** ** | **(In thousands)**                  | ** ** |
| **Cash provided by (used in):**             | ** ** | ** **                          | ** ** | ** ** | ** ** |
| Operating activities                        |       | $                                   | (9,441     | ) | $ | (37,982 | ) |
| Investing activities                        |       | 74                                  |       | 3,730 |   |
| Financing activities                        |       | 9,431                               |       | (1,682 | ) |
| Cash and cash equivalents, at end of period |       | 3,765                               |       | 18,238 |   |
|                                             |            |                                     |            |  |  |  |  |

 

*Cashand Cash Equivalents.*  At June 30, 2009 we had $3.8 million in cash and cashequivalents compared to $3.7 million at December 31, 2008. Utilization ofour cash resources in 2009 is principally owing to cash used in productdevelopment, research and general operations as reflected in the $9.4 millioncash we used in operations.

 

*OperatingActivities.* Netcash used in operating activities decreased to $9.4 million in 2009 as comparedto $38.0 million in 2008. Cash used in our operations is principally owingto cash used in diagnostic and therapeutic product development, research andgeneral operations as reflected in the $9.4 million cash we used in operations,as more fully described above; most importantly attributable to our focus onapplying our established capabilities in human genetics to drive ourdiagnostics and deCODEme businesses.

 

*InvestingActivities.*Ourinvesting activities have consisted of short-term investments in marketablesecurities and capital expenditures. Capital expenditures have been principallyreplacement capital expenditures during 2009 and we anticipate making onlynecessary replacement capital expenditures in the near term.

 

*FinancingActivities.* Netcash of $9.4 million was provided by financing activities in 2009 as comparedto $1.7 million used in financing activities in 2008. As previously noted, in January 2009we entered into an agreement with an Icelandic financial institution (NBI hf)pursuant to which NBI has purchased all auction rate securities (“ARS”) ownedby us for an aggregate price of approximately $11.3 million. The agreementincludes both call and put rights under certain instances and which expire atthe end of 2009. Financing activities for 2008 consisted primarily of ongoingrepayment of and installment payments on debt, capital lease and financeobligations ($1.5 million).

 

*ContractualCommitments and Off-Balance Sheet Arrangements.*  The followingsummarizes our contractual obligations at June 30, 2009, and the effectssuch obligations are expected to have on our liquidity and cash flows in futureperiods:

 

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| ** **                                         | ** ** | ** **         | ** ** | **Payments Due by Period** | ** ** |
|----------------------------------------------------|------------|--------------------|------------|----------------------------|------------|
| ** **                                         | ** ** | **Total**          | ** ** | **Less Than  1 Year**      | ** ** | **1 – 2 Years** | ** ** | **2 – 3 Years** | ** ** | **3 – 4 Years** | ** ** | **4 – 5 Years** | ** ** | **More Than  5 Years** | ** ** |
| ** **                                         | ** ** | **(In thousands)** | ** ** |
| 3.5%  Senior convertible notes, including interest |       | $                  | 246,100    |                       | $          | 8,050 |   | $ | 238,050 |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
| Long-term  debt, including interest (3)            |       | 213                |       | 213                        |       | — |   | — |   | — |   | — |   | — |   |
| Capital  lease obligations, including interest     |       | 748                |       | 748                        |       | — |   | — |   | — |   | — |   | — |   |
| Finance  obligation, including interest (3)        |       | 36,732             |       | 2,059                      |       | 2,111 |   | 2,164 |   | 2,218 |   | 2,273 |   | 25,907 |   |
| Operating  leases (1) (4)                     |       | 38,366             |       | 3,777                      |       | 3,696 |   | 3,678 |   | 3,582 |   | 3,487 |   | 20,146 |   |
| Secured  debt collateralized by ARS (2)            |       | 11,664             |       | 11,664                     |       | — |   | — |   | — |   | — |   | — |   |
| Total                                              |       | $                  | 333,823    |                       | $          | 26,511 |   | $ | 243,857 |   | $ | 5,842 |   | $ | 5,800 |   | $ | 5,760 |   | $ | 46,053 |   |

 

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(1)          Balance includes $37.6 million of Icelandic krona(ISK) denominated lease obligations which are variable based on the exchangerate of the ISK versus the U.S. dollar and also this amount is subject toperiodic adjustments based on the Icelandic Consumer Price Index (ICPI). Ahypothetical 10% increase or decrease in the ISK and U.S. dollar exchange ratewould result in an increase or decrease of our annual lease payments of $0.3million. A hypothetical 100 basis point increase of the ICPI would result in anincrease or decrease of our annual lease payments of $0.1 million.

(2)          Balance represents the put and call rights related toa secured borrowing and is denominated in ISK which is variable based on theexchange rate of the ISK versus the U.S. dollar and also this amount willincrease each period through the end of 2009 due to fixed interest related tothese put and call rights. A hypothetical 10% increase or decrease in the ISKand U.S. dollar exchange rate would result in an increase or decrease of thevalue of this balance by $1.7 million.

(3)          Balance represents commitments related to our U.S.operations which are classified as discontinued operations at June 30,2009.

(4)          Balance includes $0.7 million of commitments relatedto our U.S. operations which are classified as discontinued operations at June 30,2009.

 

In January 2009,deCODE entered into an agreement with NBI hf., an Icelandic financialinstitution, pursuant to which NBI has purchased all auction rate securities (“ARS”)owned by deCODE for an aggregate price of ISK 1,375,000,000, which represented$11.3 million at the then current currency exchange rates. NBI has the putoption to require deCODE to repurchase the ARS upon the earlier of (a) thesale of all or a majority of the stock of deCODE genetics ehf, deCODE’sIcelandic subsidiary, (“IE”) or a specified part of the operations of IE or (b) December 16,2009, and deCODE has the call option to require NBI to sell the ARS to it atany time until January 1, 2010. The repurchase price on exercise of theput or call option (the “Repurchase Price”) will be equal to the Purchase Priceplus interest from January 16, 2009 at a rate of five percent (5%) abovethe Reykjavik Interbank Offered Rate (REIBOR) in effect on the date payment ismade less the aggregate amount of interest and principal received by NBI on theARS. Due to the put and call options, the sale of the ARS to NBI was accountedfor as a secured borrowing and as such, the ARS remain on deCODE’s ConsolidatedBalance Sheet, although they are held by NBI, and continue to be marked to fairvalue unless the put option as described above is not exercised prior to December 16,2009. At June 30, 2009, deCODE’s Obligation Under the Auction Rate SecuritiesRepurchase Agreement was $11.7 million on the Consolidated Balance Sheet, whichrepresents deCODE’s liability at June 30, 2009 if the put or call righthad been exercised to repurchase the ARS. deCODE recognized interest expenserelated to the put rights of $1.0 million during the six-months ended June 30,2009.

 

Under the terms of certain technology licensing agreements, deCODE isobligated to make payments upon the achievement of established milestonesleading to the discovery of defined products. These payments could total $5.0million, with the timing of payments not determinable at the current time.These potential payments are not included in the above table.

 

In November 2007, deCODE adopted a Change In Control Benefits Planthat provides for, among other things, upon a change in control, alloutstanding stock options, restricted stock and stock appreciation rights, andany similar awards under any equity compensation plan of deCODE, shall vest,become immediately exercisable or payable and have all restrictions lifted. Inthe event of a change in control, the Plan also requires deCODE to make a lumpsum payment to the CEO and reporting officers based on their most recent salaryand bonus history. Also, the Plan requires other benefits to be paid, toinclude life, disability, accident and health insurance for these employees fora period of 24 to 36 months depending on employment. deCODE believes that it isunlikely that these circumstances will transpire, as such no charge has beenrecognized in its Statements of Operations. Further, these potential paymentsare not included in the above table. As of June 30, 2009, the potentialminimum lump sum payment (salary and bonus amounts only) under these change incontrol provisions would have totaled approximately $6.1 million.

 

All material intercompany balances and transactions have beeneliminated. We do not have any other significant relationships withunconsolidated entities or financial partnerships, such as entities oftenreferred to as structured finance or special purpose entities, which would havebeen established for the purpose of facilitating off-balance sheet arrangementsor other contractually narrow or limited purposes. As such, we are not exposedto any financing, liquidity, market or credit risk that could arise if we hadengaged in such relationships. Additionally, holders of our 3.5% seniorconvertible notes may elect to convert their notes into shares of our commonstock at any time at a price of $14.00 per share.

 

**CriticalAccounting Policies**

 

The preparation offinancial statements in conformity with generally accepted accountingprinciples requires us to make certain

 

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estimates and assumptionsthat affect the reported amounts of assets and liabilities, the disclosure ofcontingent assets and liabilities at the date of the financial statements, andthe reported amounts of revenues and expenses during the reported period. On anongoing basis we evaluate our estimates, which include, among others, thoserelated to collaborative arrangements, long-lived assets, and litigation andother commitments and contingencies. We base our estimates on historicalexperience and on various other assumptions that we believe to be reasonableunder the circumstances, the results of which form our basis for makingjudgments about carrying values of assets and liabilities that are not readilyapparent from other sources. The impact and any associated risks related tothese and our other accounting policies on our business or operations isdiscussed throughout Management’s Discussion and Analysis of FinancialCondition and Results of Operations where such policies affect our reported andexpected financial results. For a detailed discussion on the application ofthese and other accounting policies, please refer to our notes to the CondensedConsolidated Financial Statements in this quarterly report on Form 10-Qand the Consolidated Financial Statements in the Annual Report on Form 10-K.There can be no assurance that actual results may not differ from the estimatesreferred to above.

 

**FORWARD-LOOKING STATEMENTS ANDCAUTIONARY FACTORS**

**THAT MAY AFFECT FUTURE RESULTS**

 

This Quarterly Report on Form 10-Qcontains forward-looking statements within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934. These statements relate to future events or our futurefinancial performance. In some cases, forward-looking statements can beidentified by terminology such as “may,” “should,” “could,” “expect,” “plan,” “anticipate,”“believe,” “estimate,” “predict,” “intend,” “potential” or “continue” or thenegative of such terms or other comparable terminology. These statements areonly expectations. We cannot assure you that our expectations and assumptionswill prove to be correct. We do not intend to update or revise anyforward-looking statements, whether as a result of future events, newinformation or otherwise, except to the extent that the reports we are requiredto file under the Securities Exchange Act of 1934, as amended, (the “ExchangeAct”) contain such updates or revisions. Actual events or results may differmaterially from the forward- looking statements due to a number of factors,including. but not limited to, those set forth in Item 1A of our AnnualReport on Form 10-K for the year ended December 31, 2008 as updatedby Item 1A of Part II of this Quarterly Report on Form 10-Q andelsewhere in this Quarterly Report on Form 10-Q and in the reports we fileunder the Exchange Act.

 

**ITEM3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

The primary objectives ofour investment activities are to preserve principal, maintain a high degree ofliquidity to meet operating needs, and obtain competitive returns subject toprevailing market conditions. At June 30, 2009, our cash and cashequivalents are in savings accounts and money market funds and our non-currentinvestments are in auction rate securities and which are pledged at June 30,2009. At June 30, 2009, our cash and cash equivalents are largely investedin U.S. dollar denominated checking accounts, money market and also inIcelandic krona denominated accounts. Our obligation under the secured debtcollateralized by auction rate securities is denominated in Icelandic krona.Our investments are subject to risk of default, changes in credit rating andchanges in market value. These investments are also subject to interest raterisk and will decrease in value if market interest rates increase. Ahypothetical 100 basis point increase in interest rates would result in animmaterial decrease in the fair value of our investments as of June 30,2009. Changes in interest rates do not affect interest expense incurred ondeCODE’s Convertible Notes, because they bear interest at a fixed rate. Usingthe price in the latest trades in June 2009, the market value of theConvertible Notes was approximately $15.3 million on June 30, 2009.

 

As a consequence of thenature our business and operations our reported financial results and cashflows are exposed to the risks associated with fluctuations in the exchangerates of the U.S. dollar, the Icelandic krona and other world currencies. Wecontinue to monitor our exposure to currency risk. A hypothetical 10% decreasein value of the U.S. dollar against the Icelandic krona would result in animmaterial gain on our Icelandic krona denominated assets and liabilities.

 

**ITEM4. CONTROLS AND PROCEDURES**

 

a)*Evaluation of disclosure controls and procedures.*Our Chief Executive Officer and our Chief Financial Officer evaluated theeffectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) underthe Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of theend of the fiscal quarter covered by this Quarterly Report on Form 10-Q.Based upon that evaluation, the Chief Executive Officer and the Chief FinancialOfficer have concluded that as of the end of such fiscal quarter deCODE’sdisclosure controls and procedures are adequate and effective to ensure thatinformation required to be disclosed in the reports deCODE files under theExchange Act is recorded, processed, summarized and reported within the timeperiods specified in the Securities and Exchange Commission’s rules andforms. Disclosure controls and procedures include without limitation, controlsand procedures designed to ensure that information required to be disclosed byan issuer in the reports that it files or submits under the Act is accumulatedand communicated to the issuer’s management including its principal executiveand principal financial officers or persons performing similar functions asappropriate to allow timely decisions regarding required disclosures.

 

In designing andevaluating our disclosure controls and procedures, our management recognizesthat any controls and procedures, no matter how well designed and operated, canprovide only reasonable assurance that the desired objectives of the controlsystem will be 

 

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met. In addition, thedesign of any control system is based in part upon certain assumptions aboutthe likelihood of future events and the application of judgment in evaluatingthe cost-benefit relationship of possible controls and procedures. Because ofthese and other inherent limitations of control systems, there is onlyreasonable assurance that our controls will succeed in achieving their goalsunder all potential future conditions.

 

b) *Changes in Internal Controls.* There was nochange in our internal control over financial reporting (as defined in Rule 13a-15(f) underthe Exchange Act) during the fiscal quarter covered by this Quarterly Report onForm 10-Q that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.

 

**PART IIOTHER INFORMATION**

 

**ITEM1. LEGAL PROCEEDINGS**

 

Other than claims and legal proceedings that arise from time to time inthe ordinary course of business which are not material, and matters describedbelow, there has been no change in the matters reported in our Annual Report onForm 10-K for the year ended December 31, 2008.

 

On or about April 20, 2002, an amended class action complaint,captioned *In re deCODE genetics, Inc. Initial PublicOffering Securities Litigation*(01 Civ. 11219(SAS)), allegingviolations of federal securities laws in connection with deCODE’s initialpublic offering was filed in the United States District Court for the SouthernDistrict of New York (the “District Court”) on behalf of certain purchasers ofdeCODE common stock. The complaint names deCODE, two individuals who wereexecutive officers of deCODE at the time of its initial public offering (the “IndividualDefendants”), and the two lead underwriters (the “Underwriter Defendants”) forour initial public offering in July 2000 (the “IPO”) as defendants. deCODEis aware that similar allegations have been made in hundreds of other lawsuitsfiled (many by some of the same plaintiff law firms) against numerousunderwriter defendants and issuer companies (and certain of their current andformer officers) in connection with various public offerings conducted inrecent years. All of the lawsuits that have been filed in the Southern Districtof New York have been consolidated for pretrial purposes before United StatesDistrict Judge Shira Scheindlin. Pursuant to the underwriting agreementexecuted in connection with our IPO, deCODE has demanded indemnification fromthe Underwriter Defendants. The Underwriter Defendants have asserted that ourrequest for indemnification is premature.

 

Pursuant to an agreement the Individual Defendants have been dismissedfrom the case without prejudice.

 

On July 31, 2003, our Board of Directors (other than our Chairmanand Chief Executive Officer, who recused himself because he was an IndividualDefendant) approved a proposed partial settlement with the plaintiffs in thismatter, subject to a number of conditions, including the participation of asubstantial number of other issuer defendants in the proposed settlement, theconsent of deCODE’s insurers to the settlement, and the completion of acceptablefinal settlement documentation. A settlement fairness hearing was held on April 24,2006. On June 25, 2007, the United States District Court for the SouthernDistrict of New York entered an order formally denying the motion for finalapproval of the settlement agreement because the settlement class could not becertified. On August 14, 2007, the plaintiffs filed their secondconsolidated amended class action complaints against the “focus cases” and on September 27,2007, again moved for class certification. The focus cases are a small group ofcases that were selected as test cases due to the large number of nearlyidentical actions which were consolidated in the Initial Public Offeringlitigation. The court has indicated that the focus cases are intended toprovide strong guidance for the other cases. The case involving deCODE is not afocus case. On November 12, 2007, certain of the defendants in the focuscase moved to dismiss the second consolidated amended class action complaints.On March 26, 2008, the District Court denied the motions to dismiss exceptas to Section 11 claims raised by those plaintiffs who sold theirsecurities for a price in excess of the initial offering price and those whopurchased outside the previously certified class period. Briefing on the classcertification motion was completed in May 2008. That motion was withdrawnwithout prejudice on October 10, 2008. On April 2, 2009, astipulation and agreement of settlement among the plaintiffs, issuer defendantsand underwriter defendants was submitted to the Court for preliminary approval.The Court granted the plaintiffs’ motion for preliminary approval andpreliminarily certified the settlement classes on June 10, 2009. Thesettlement fairness hearing has been scheduled for September 10, 2009.Following the hearing, if the Court determines that the settlement is fair tothe class members, the settlement will be approved and the case against deCODEand the Individual Defendants will be dismissed with prejudice. There can be noassurance that this proposed settlement will be approved and implemented in itscurrent form, or at all. Due to the inherent uncertainties of litigation andbecause the settlement approval process is at a preliminary stage, the ultimateoutcome of the matter is uncertain.

 

WhiledeCODE’s expenses in this matter to date have been paid primarily by itsinsurers, if deCODE were required to pay significant monetary damages as aresult of an adverse determination in this matter (or any other lawsuitsalleging similar claims filed against deCODE and deCODE’s directors andofficers in the future), deCODE’s business could be significantly harmed. Evenif such litigation concludes in deCODE’s favor, deCODE may be required toexpend significant funds to defend against the allegations. deCODE is unable toestimate the range of possible loss from this litigation and no amounts havebeen provided for it in deCODE’s financial statements.

 

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**ITEM1A. RISK FACTORS**

 

Other than with respectto the risk factors set forth below, there have been no material changes fromthe risk factors disclosed in Item 1A of our Annual Report on Form 10-K forthe year ended December 31, 2008. The risk factors set forth below havebeen updated to provide data for and as of the quarter ended June 30,2009.

 

*****We areconfronted by serious liquidity concerns which threaten our operations.*****

 

As of the date hereof, wehave very limited financial resources. Our operations to date have consumedsubstantial amounts of cash and will continue to require substantial amounts ofcash in the future. We are evaluating our alternatives for addressingthis situation, which include primarily the sale of business units andprograms, the sale or licensing of products and intellectual property, theentry into corporate partnerships and the restructuring of our debt togetherwith new financing. Givenour current liquid assets we have resources to continue operations only throughthe latter half of the third quarter and must obtain further financialresources in order to continue operations beyond this time. While negotiationsregarding various alternatives are ongoing, we cannot provide any assurancethat such negotiations will be completed within the time, or in a manner, thatwill enable us to continue operations.

 

Our liquidity situationhas resulted in risks and uncertainties affecting our operations and theexecution of our business plan, including the following:

 

·                  we may not be able to obtain and maintain normal termswith vendors and service providers;

 

·                  vendors and service providers may require securitydeposits or prepayment before delivering goods and services, which will resultin additional demands on our cash;

 

·                  we may incur costs associated with responding to theconcerns of customers, vendors and service providers, actual or threatenedlitigation from vendors and service providers, and acceleration of contractpayments as a result of late payment;

 

·                  we may not be able to maintain contracts, includingcontracts with fee-paying customers, that are critical to our operations;

 

·                  our ability to retain management and other keyindividuals may be negatively affected; and

 

·                  actions and decisions of our creditors and other thirdparties with interests in our financial status may be inconsistent with ourplans.

 

We have identified and disclosed in Note 1 to ourconsolidated financial statements a number of factors that raise substantialdoubt about our ability to continue as a going concern. If we become unable tocontinue as a going concern, we would have to liquidate our assets, and wemight realize significantly less than the values at which they are carried onour financial statements. The funds resulting from the liquidation of ourassets would be used first to pay off the debt owed to creditors before anyfunds would be available to pay our stockholders, and any shortfall in theproceeds would directly reduce the amounts available for distribution, if any,to our creditors and to our stockholders. In the event we were required toliquidate, it is unlikely that stockholders would receive any value for theirshares.

 

The report of our independent registered publicaccounting firm on our financial statements included in our annual report on Form 10-Kcontains an explanatory paragraph regarding going-concern uncertainty. Theaccompanying financial statements do not include any adjustments or chargesthat might be necessary should we be unable to continue as a going concern,such as charges related to impairment of our assets, the recoverability andclassification of assets or the amounts and classification of liabilities orother similar adjustments. If we are not able to continue as a going concern,it is likely that investors will lose all or a part of their investment.

 

***If we are able to continue operations in the near term, wewill continue to require sufficient additional funding to meet our capitalrequirements; if we are not able to obtain such financing, we may beforced to reduce or terminate our research and product development programs andabandon portions of our intellectual property.***

 

We have spent substantialamounts of cash to fund our research and development activities and expect tocontinue to spend substantial amounts for these activities over the nextseveral years. Many factors, including which, if any, assets we sell in order toobtain funds to continue operations in the near future and which of ourbusiness units and properties we retain, will influence our future capitalneeds, including:

 

·                  the number, breadth and progress of our discovery andresearch programs;

 

·                  our ability to attract customers;

 

·                  our ability to commercialize our discoveries and theresources we devote to commercialization;

 

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·                  the amount we spend to obtain and enforcepatent claims and other intellectual property rights; and

 

·                  the costs and timing of regulatoryapprovals.

 

We have relied on, and may continue to rely on,revenues generated by our corporate alliances and fee-paying customers forsignificant funding of our research efforts. Historically, a substantialportion of our revenue has been derived from contracts with a limited number ofsignificant customers as follows:

 
| ** **                                         | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended********June 30,** | ** ** |
|----------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------------|------------|
| ** **                                         | ** ** | **2009**                              | ** ** | **2008**                                  | ** ** | **2009** | ** ** | **2008** | ** ** |
| United  States National Institutes of Health (NIH) |       | 30                                    | %          | 26                                        | %          | 28 | % | 28 | % |
| European  Community (EC)                           |       | 26                                    | %          | 14                                        | %          | 26 | % | 14 | % |

 

The loss of any significant customer may significantlylower deCODE’s revenues which could affect the resources available to supportour product discovery and development programs.

 

In addition, wemay seek additional funding through public or private equity offerings anddebt financings. We may not be able to obtain additional financing when weneed it or the financing may not be on terms favorable to us or ourstockholders. Stockholders’ ownership will be diluted if we raise additionalcapital by issuing equity securities. The going concern qualification from ourindependent registered public accounting firm may make it more difficult for usto raise funds.

 

If we raiseadditional funds through collaborations and licensing arrangements, wemay have to relinquish rights to some of our technologies or productcandidates, or grant licenses on unfavorable terms. If adequate funds are notavailable, we would have to scale back or terminate our discovery and researchprograms and product development.

 

***If we are able to continue operations in the near term butcontinue to incur operating losses longer than anticipated, or in amountsgreater than anticipated, we may be unable to continue our operations.***

 

We incurred a netloss of $13.2 million and $25.8 million during the three and six-months ended June 30,2009 and $18.4 million and $45.0 million during the three and six-months ended June 30,2008, respectively, and $80.9 million during the year ended December 31,2008, and had an accumulated deficit of $738.0 million at June 30, 2009.We have never generated a profit and we have not generated significant revenuesexcept for payments received in connection with our research and developmentcollaborations with Roche, Merck and others, from contract services, and undergrants and more recently in April 2009 our licensing agreement withCelera. Our research and development expenditures and general andadministrative costs have exceeded our revenue to date, and we expect to spendsignificant additional amounts to develop our diagnostics and deCODEmeTM products andservices, fund research and development in order to enhance our coretechnologies and undertake product development (including drug development andrelated clinical trials). We do not expect to receive royalties or otherrevenues from commercial sales of products developed using our technology inthe near term. It may be several years before product revenuesmaterialize, if they do at all. As a result, we expect to incur net losses forseveral years. If the time required to generate product revenues and achieveprofitability is longer than we currently anticipate or the level of losses isgreater than we currently anticipate, we may not be able to continue ouroperations.

 

***We may be adversely impacted by economicfactors beyond our control and may incur additional impairment charges to ourinvestment portfolio.***

 

In January, 2009, we transferred $33.5 million principal amount ofauction rate securities (“ARS”) to an Icelandic financial institutionfor an aggregate price of approximately $11.3 million. We have the calloption to require the financial institution to sell the securities back tous at any time prior to December 31, 2009, and the financialinstitution has the put option to require us to repurchase the securities uponthe earlier of (a) the sale of all or a majority of the stock of deCODEgenetics ehf,  our Icelandic subsidiary,(“IE”) or a specified part of the operations of IE or (b) December 16,2009, in each case for a specified price. For accounting purposes thistransaction was accounted for as a secured borrowing and, as such, these ARSinvestments remain on our balance sheet and are collateral pledged to and heldby the Icelandic institution. As of June 30, 2009, we had $33.5 million ofprincipal invested in auction rate securities (“ARS”), all of which areclassified as non-current investments on our balance sheet and are pledged to and held bythe purchaser. These investments represent interests in debtobligations, namely life insurance wrapped issues, of companies offering creditderivatives, and of entities on which monoline insurers retain capital putrights. The remaining ARS investments are generally collateralized by pools ofcommercial paper, investment-grade corporate debt, asset and mortgage-backedsecurities, government and money-market issues and other ARS. Consistent withour investment policy guidelines, all of the ARS investments were rated asinvestment grade (at least A or better) at the time of purchase. The estimatedmarket value of the non-current ARS holdings at June 30, 2009 was $13.5million, which reflects a $20.0 million adjustment to the principal value of$33.5 million. Based on valuation models and an analysis ofother-than-temporary impairment factors, deCODE has recorded an impairmentcharge of $0.1 million and $0.7 million for the three and six-months ended June 30,2009, respectively, and $1.1 million and $5.1 million for the three and six-

 

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months ended June 30,2008, respectively, in Other non-operating income (expense), net in theStatements of Operations, reflecting the portion of ARS holdings that deCODEhas concluded have an other-than-temporary decline in value. deCODE recognizedan unrealized gain of $1.0 million and $1.5 million in Other ComprehensiveIncome during the three and six-months ended June 30, 2009, respectively.During the six-months ended June 30, 2008, the $5.1 million chargeincluded $0.9 million related to ARS which deCODE had previously believed to betemporary and accounted for as an unrealized loss at December 31, 2007.

 

The credit and capital markets continue to bevolatile. If uncertainties in credit and capital markets continue, thesemarkets deteriorate further or the estimated value of these ARS continue todecline, we may incur additional impairments, realized or unrealized, to ourinvestment portfolio, which could negatively affect our financial condition,cash flows and reported earnings. In addition, these uncertainties may make itdifficult, if not impossible, for us to obtain funding.

 

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**ITEM6. EXHIBITS**

 

The following is a listof exhibits filed as part of this Quarterly Report on Form 10-Q.

 
| **EXHIBIT  NUMBER** | ** ** | **DESCRIPTION  OF EXHIBIT**                                                                                                                                                                                                                                                                  |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.1                 |       | Amended and Restated  Certificate of Incorporation, as further amended (Incorporated by reference  to Exhibit 3.1 and Exhibit 3.3 to the Company’s Registration  Statement on Form S-1 (Registration No. 333-31984) which became  effective on July 17, 2000). |
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.2                 |       | Certificate of  Amendment to Amended and Restated Certificate of Incorporation dated  August 30, 2002 (Incorporated by reference to Exhibit 3.2 to the  Company’s Quarterly Report on Form 10-Q filed on November 14,  2002).                                       |
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.3                 |       | Certificate of  Amendment to Amended and Restated Certificate of Incorporation dated  May 11, 2007 (Incorporated by reference to Exhibit 3.3 to the  Company’s Quarterly Report on Form 10-Q filed August 9, 2007).                                                 |
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.4                 |       | Bylaws, as amended  (Incorporated by reference to Exhibit 3.2 to the Company’s Registration  Statement on Form S-1 (Registration No. 333-31984) which became  effective on July 17, 2000).                                                                          |
|                |       |                                                                                                                                                                                                                                                                                         |
| 10.1+               |       | License Agreement  relating to cardiovascular and vascular diseases among deCODE  genetics, Inc., deCODE genetics, ehf, and Celera Corporation.                                                                                                                                         |
|                |       |                                                                                                                                                                                                                                                                                         |
| 10.2+               |       | License Agreement  relating to diabetes and metabolic syndrome among deCODE genetics, Inc.,  deCODE genetics, ehf, and Celera Corporation.                                                                                                                                              |
|                |       |                                                                                                                                                                                                                                                                                         |
| 31.1                |       | Certification pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                               |
|                |       |                                                                                                                                                                                                                                                                                         |
| 31.2                |       | Certification pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                               |
|                |       |                                                                                                                                                                                                                                                                                         |
| 32.1                |       | Certification pursuant  to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                               |

 

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+                 Confidential treatment has been requestedfor certain portions of this exhibit. The omitted portions have been separatelyfiled with the Securities and Exchange Commission.

 

Note: Unless otherwisenoted, the SEC File number of each of the above referenced documents is000-30469.

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

Dated:  August 10,2009

 
|   | deCODE genetics, Inc.             |
|--------|----------------------------------------|
|   |                                   |
|   |                                   |
|   | /s/ Kari Stefansson                    |   |
|   | Kari Stefansson                        |   |
|   | Chairman,  President,                  |   |
|   | and Chief  Executive Officer           |   |
|   |                                   |   |
|   |                                   |   |
|   | /s/ Lance Thibault                     |   |
|   | Lance Thibault                         |   |
|   | Chief Financial  Officer and Treasurer |   |
|        |                                        |  |  |

 

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| **EXHIBIT  NUMBER** | ** ** | **DESCRIPTION  OF EXHIBIT**                                                                                                                                                                                                                                                                  |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.1                 |       | Amended and Restated  Certificate of Incorporation, as further amended (Incorporated by reference  to Exhibit 3.1 and Exhibit 3.3 to the Company’s Registration  Statement on Form S-1 (Registration No. 333-31984) which became  effective on July 17, 2000). |
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.2                 |       | Certificate of  Amendment to Amended and Restated Certificate of Incorporation dated  August 30, 2002 (Incorporated by reference to Exhibit 3.2 to the  Company’s Quarterly Report on Form 10-Q filed on November 14,  2002).                                       |
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.3                 |       | Certificate of  Amendment to Amended and Restated Certificate of Incorporation dated  May 11, 2007 (Incorporated by reference to Exhibit 3.3 to the  Company’s Quarterly Report on Form 10-Q filed August 9, 2007).                                                 |
|                |       |                                                                                                                                                                                                                                                                                         |
| 3.4                 |       | Bylaws, as amended  (Incorporated by reference to Exhibit 3.2 to the Company’s Registration  Statement on Form S-1 (Registration No. 333-31984) which became  effective on July 17, 2000).                                                                          |
|                |       |                                                                                                                                                                                                                                                                                         |
| 10.1+               |       | License Agreement  relating to cardiovascular and vascular diseases among deCODE  genetics, Inc., deCODE genetics, ehf, and Celera Corporation.                                                                                                                                         |
|                |       |                                                                                                                                                                                                                                                                                         |
| 10.2+               |       | License Agreement  relating to diabetes and metabolic syndrome among deCODE genetics, Inc.,  deCODE genetics, ehf, and Celera Corporation.                                                                                                                                              |
|                |       |                                                                                                                                                                                                                                                                                         |
| 31.1                |       | Certification pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                               |
|                |       |                                                                                                                                                                                                                                                                                         |
| 31.2                |       | Certification pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                               |
|                |       |                                                                                                                                                                                                                                                                                         |
| 32.1                |       | Certification pursuant  to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                               |

 

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+                 Confidential treatment has been requestedfor certain portions of this exhibit. The omitted portions have been separatelyfiled with the Securities and Exchange Commission.

 

Note: Unless otherwisenoted, the SEC File number of each of the above referenced documents is000-30469.

 

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