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UNITED STATES SECURITIES AND EXCHANGE
COMMISSION

Washington, D.C. 20549




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Form 10-K

|   |  |                                                                                             
|-- |  | --------------------------------------------------------------------------------------------
|þ  |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR
    15(d) OF THE SECURITIES EXCHANGE ACT OF 1934    
|  
|   |  | For the Fiscal Year ended December 31,
    2002                                             
|or
|  
|o  |  | TRANSITION REPORT PURSUANT TO SECTION 13
    OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 0-20772

Questcor Pharmaceuticals, Inc.

(Exact name of registrant as specified in its
charter)


|                                                                                         |  |                                         
|---------------------------------------------------------------------------------------- |  | ----------------------------------------
|California                                                                               |  | 33-0476164                              
|(State or other jurisdiction
    of incorporation or organization)                       |  | (I.R.S. Employer
    Identification No.)
|3260 Whipple Road
    Union City, California(Address of principal executive
    offices) |  | 94587(Zip Code)                         

Registrants telephone number, including
area code: (510) 400-0700

Securities registered pursuant to
Section 12(b) of the Act:

None


Securities registered pursuant to
Section 12(g) of the Act:

Common Stock, no par value


(Title of class)


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

Indicate
by check mark whether Registrant is an accelerated filer (as
defined in Rule 12B-2 of the
Act).    Yes o         No þ

The
aggregate market value of the voting stock held by
non-affiliates of the Registrant was approximately $40,457,260
as of June 30, 2002, based upon the last sales price of the
Registrants Common Stock reported on the American Stock
Exchange. The determination of affiliate status for the purposes
of this calculation is not necessarily a conclusive
determination for other purposes. The calculation excludes
approximately 12,956,032 shares held by directors, officers and
stockholders whose ownership exceeds five percent of the
Registrants outstanding Common Stock as of June 30,
2002. Exclusion of these shares should not be construed to
indicate that such person controls, is controlled by or is under
common control with the Registrant.

As
of March 17, 2003 the Registrant had 38,676,592 shares
of Common Stock, no par value, outstanding.

Indicate
by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein,
and will not be contained, to the best of the Registrants
knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this
Form 10-K or any amendment to this
Form 10-K. þ

DOCUMENTS INCORPORATED BY REFERENCE

Portions
of the Registrants Definitive Proxy Statement filed with the
Commission pursuant to Regulation 14A in connection with
the 2002 Annual Meeting are incorporated by reference into
Part III of this
Report.



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TABLE OF CONTENTS



|                                                                              |                                                                                               |  |  |  |  |  |  | 
|----------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I                                                                       
|                                                                              | Item 1. Business of Questcor                                                                 
|RISK FACTORS                                                                 
|                                                                              | Item 2. Properties                                                                           
|                                                                              | Item 3. Legal Proceedings                                                                    
|                                                                              | Item 4. Submission of Matters to a Vote of Security Holders                                  
|PART II                                                                      
|                                                                              | Item 5. Market for Registrants Common Equity and Related Shareholder Matters                
|                                                                              | Item 6. Selected Consolidated Financial Data                                                 
|                                                                              | Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations
|                                                                              | Item 7A. Quantitative and Qualitative Disclosures about Market Risk                          
|                                                                              | Item 8. Financial Statements and Supplementary Data                                          
|                                                                              | Item 9. Changes In and Disagreements With Accountants on Accounting and Financial Disclosure 
|PART III.                                                                    
|                                                                              | Item 10. Directors and Executive Officers of the Registrant                                  
|                                                                              | Item 11. Executive Compensation                                                              
|                                                                              | Item 12. Security Ownership of Certain Beneficial Owners and Management                      
|                                                                              | Item 13. Certain Relationships and Related Transactions                                      
|                                                                              | Item 14. Controls and Procedures                                                             
|                                                                              | Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K                     
|SIGNATURES                                                                   
|CERTIFICATIONS                                                               
|CONSOLIDATED BALANCE SHEETS                                                  
|CONSOLIDATED STATEMENTS OF OPERATIONS                                        
|CONSOLIDATED STATEMENTS OF PREFERRED STOCK AND STOCKHOLDERS EQUITY (DEFICIT)
|CONSOLIDATED STATEMENTS OF CASH FLOWS                                        
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                                   
|Exhibit 10.20                                                                
|Exhibit 10.23                                                                
|Exhibit 10.24                                                                
|Exhibit 10.25                                                                
|Exhibit 10.26                                                                
|Exhibit 10.27                                                                
|Exhibit 23.1                                                                 
|Exhibit 99.1                                                                 



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PART I






|        |                     
|------- | --------------------
|Item 1. | Business of Questcor

Except for the historical information contained
herein, the following discussion contains forward-looking
statements that involve risks and uncertainties. Questcors
actual results could differ materially from those discussed
here. Factors that could cause or contribute to such differences
include, but are not limited to, those discussed in this
Item 1 Business of Questcor, including without
limitation Risk Factors, and Item 7
Managements Discussion and Analysis of Financial
Condition and Results of Operations, as well as those
discussed in any documents incorporated by reference herein or
therein. When used in this annual report, the terms
Questcor, Company, we,
our, ours and us refer to
Questcor Pharmaceuticals, Inc. and its consolidated subsidiaries.

Overview

Questcor is the surviving corporation of a merger
between Cypros Pharmaceutical Corporation and RiboGene, Inc.
(RiboGene). The merger was completed on
November 17, 1999. Our principal office is located at 3260
Whipple Road, Union City, California 94587 and our
telephone number is (510) 400-0700. Our corporate Internet
address is www.questcor.com. We do not intend for the
information contained on our website to be a part of this Annual
Report.

We are a specialty pharmaceutical company that
markets and sells brand name prescription drugs and ethically
promoted healthcare products. We focus on products for the
treatment of acute and critical care conditions, including
central nervous system diseases and gastroenterological
disorders. Our strategy is to acquire pharmaceutical products
from companies who do not actively market such products that we
believe have sales growth potential, are promotion sensitive and
complement our existing products. In addition, through corporate
collaborations we intend to develop new patented intranasal
formulations of previously FDA approved drugs. We may also
acquire companies with complementary products. For the year
ended December 31, 2002, our total net revenues were
$14.7 million.

Large multinational companies dominate the
U.S. prescription pharmaceutical market. These companies
often divest products which, as a result of consolidation or
lack of strategic fit, do not meet the threshold level of sales
required for continued marketing and promotion, as these
companies tend to focus on drugs with annual sales in excess of
$1 billion. Since inception, we have acquired and licensed
products from Aventis Pharmaceuticals, Inc.
(Aventis), Schwartz Pharma AG and other
pharmaceutical companies. Smaller drug development or biotech
companies that do not have the capabilities to effectively
market and sell approved products will also be sources of
products.

Since 1995, we have introduced 5 products. We
promote our products through our nationwide sales and marketing
force of approximately 30 professionals, targeting
high-prescribing acute care and specialty physicians such as
pediatric neurologists and gastroenterologists. Third parties
manufacture all of our products.

Our key products include HP Acthar® Gel
(Acthar), an injectable drug that helps patients
with infantile spasm, or West Syndrome, and the periodic flares
that are experienced by patients with multiple sclerosis;
Ethamolin®, an injectable drug used to treat esophageal
varices that have recently bled; and Glofil®-125 and Inulin
in Sodium Chloride, which are both injectable agents that assess
kidney function by measuring glomerular filtration rate. In an
agreement effective January 2002, we acquired the
U.S. promotion rights to VSL#3TM, a patented
probiotic marketed as a dietary supplement to promote normal
gastrointestinal function. In July 2002, we signed a license
agreement with Fabre Kramer Pharmaceuticals, Inc. (Fabre
Kramer), whereby Fabre Kramer will manage and provide
funding for the clinical development programs for
HypnostatTM (intranasal triazolam for insomnia) and
PanistatTM (intranasal alprazolam for panic
disorders).

We have rights to the following registered
trademarks: HP Acthar® Gel, Ethamolin® and
Glofil®-125. We also have the following unregistered
trademarks, MigrastatTM, EmitasolTM,
HypnostatTM, and PanistatTM.

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VSL#3TM is owned by
VSL Pharmaceuticals, Inc. Pramidin® is owned by sirton
pharmaceuticals S.p.A. Each other trademark, trade name or
service mark appearing in this document belongs to its
respective holder.


Strategy

We believe that our ability to market and acquire
brand name products and our ability to increase our sales and
improve our marketing infrastructure uniquely positions us to
continue to grow.

The key elements of our strategy include:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Increase sales of products through targeted
    promotion. We seek to increase sales by promoting our products
    to high-prescribing acute care and specialty physicians through
    our nationwide sales and marketing force that includes
    approximately 30 professionals. For example, according to
    NDCHealths Pharmaceutical Audit Suite service,
    prescriptions for Acthar during the fourth quarter of 2002 was
    68% higher than prescriptions during the same period in 2001. We
    also use continuing education programs to promote our products.                                                                                                                                                                                                                                                     
|
| |  | Identify and license or acquire brand name
    prescription products. We seek to acquire the rights to brand
    name pharmaceutical products that we believe will
    (i) benefit from increased marketing efforts directed at
    high-prescribing acute care and specialty physicians,
    (ii) leverage our existing sales infrastructure, and
    (iii) complement our existing products. Since inception, we
    have acquired or licensed five products. Products to be
    considered for acquisition would have to be complementary to our
    existing products, synergistic with promotional efforts
    currently being undertaken by our sales force, and contribute to
    our gross margin. There is no assurance we will be able to
    acquire such products or, if acquired, that they will be
    profitable.
|
| |  | Acquire companies that sell products that
    complement our current products and sales strategy. We regularly
    review opportunities to acquire companies that sell products
    that complement the current products that we sell and target the
    physicians to whom we promote our products.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            

Marketed Pharmaceutical and Related Healthcare
Products

Our marketed products as of December 31,
2002 include: Acthar, which was acquired in July 2001,
Ethamolin, which was acquired in November 1996, Glofil-125 and
Inulin, which were acquired in August 1995, and VSL#3, which we
acquired the rights to market and sell pursuant to a Promotion
Agreement effective in January 2002.

Acthar.H.P Acthar
Gel® (Acthar) is a nonsynthetic, highly purified
preparation of the adrenal corticotropin hormone (ACTH). Acthar
is specially formulated to provide prolonged release after
intramuscular or subcutaneous injection. It works by stimulating
the adrenal cortex to secrete the natural endogenous
corticosteroids, including cortisol, corticosterone,
aldosterone, and a number of weakly androgenic substances.

In July 2001, we signed an agreement with Aventis
to acquire the worldwide rights to Acthar. Due to limited
distribution of Acthar prior to our acquisition of the product
from Aventis, the drug wholesalers did not have access to
Acthar. Following the acquisition of Acthar in July 2001, we
began shipping the product to drug wholesalers at the end of the
third quarter of 2001. As part of our agreement with Aventis,
Aventis agreed to manufacture and supply Acthar through July
2002 at a fixed price per vial. Aventis produced their final
batch of Acthar for us in July 2002. That batch has a January
2004 expiration date. We have made plans to produce our first
batch of finished Acthar vials at our new contract manufacturer
during 2003 and we expect to be able to place that new batch
into commercial supply in 2003. Although the FDA has reviewed
our site transfer plans, this new final-fill manufacturer will
be subject to approval under the appropriate FDA guidelines.
While we believe that the transfer will be approved in time to
ensure an adequate supply of Acthar, there can be no assurance
that the transfer to the final fill manufacturer will be
approved and if approved, that it will be approved on a timely
basis. We are also in the process of securing a new manufacturer
for the production of the active pharmaceutical ingredient
(the API) in Acthar. We have formal proposals
from several potential third party contract manufacturers for
the API and we expect to select our new contract manufacturer
for the API during the first half of 2003. Under the agreement
with Aventis, we are committed

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to purchase the API and other inventory residing
at Aventis. We believe that the existing inventory of the API,
previously manufactured by Aventis, should be adequate to supply
the annual Acthar demand through 2005, based on our internal
sales forecasts. However, there can be no assurance that the
existing inventory of the API will be sufficient to meet our
demand through 2005 or beyond, or that we will be able to enter
into agreements with third party manufacturers to supply Acthar,
or if these agreements are entered into that the third party
manufacturers will be able to supply Acthar. Additionally, under
our prior arrangement, Aventis supplied Acthar at a fixed price
per vial through July 2002. There can be no assurance, even if
we are able to secure an adequate supply of the new API and
enter into an agreement for the production of the finished
product, that the cost of the API and the finished product will
not increase. Acthar gross margins were 82% for the year ended
December 31, 2002.


Acthar is useful in a wide variety of conditions.
Most frequently it is used to treat infantile spasms
(IS), periodic flare associated with multiple
sclerosis (MS), and various forms of arthritis,
collectively called joint pain (JP). However, the
disease with the most compelling need for Acthar treatment is
IS, an epileptic syndrome characterized by the triad of
infantile spasm (generalized seizures), hypsarrhythmia and
arrest of psychomotor development at seizure onset. We estimate
that as many as 3,000 children annually experience bouts of this
devastating syndrome in the U.S. In 90 percent of
children with IS, the spasms occur during the first year of
life, typically between 3-6 months of age. The age of first
onset rarely occurs after the age of two. Patients left
untreated or treated inadequately have a poor prognosis for
intellectual and functional development. About two-thirds of
patients are neurologically impaired prior to the onset of IS,
while one-third are otherwise normal. Rapid and aggressive
therapy to control the abnormal seizure activity appears to
improve the chances that these children will develop to their
fullest potential.

The market for IS therapies has not changed much
over the last several years. Since Acthars availability in
the several years before our acquisition from Aventis was very
restricted, many physicians had begun to use other synthetic
steroids and had even sought to obtain vigabatrin (Sabril,
Aventis) from Canada, an unapproved product in the US. A recent
symposium on IS, sponsored by the Child Neurology Society,
discussed the fact that there has been no clinical evidence to
show that any therapy is better than Acthar for the treatment of
infantile spasms. The proceedings of that symposium are now
available to all pediatric neurologists as a continuing medical
education monograph.

Acthar is also indicated for use in acute
exacerbations of MS and is prescribed currently for patients
that have MS and experience painful, episodic flares. We expect
to begin to more fully develop the market for Acthar use in
treating MS during 2003. Sales promotion of Acthar for JP is not
anticipated at this point.

Ethamolin.End stage
liver disease, also known as hepatic cirrhosis, results in
approximately 26,000 deaths annually. Hepatic cirrhosis promotes
the formation of esophageal varices through development of
portal hypertension. When portal venous blood pressure rises,
the varicosities that develop may cause life threatening upper
gastrointestinal hemorrhage and are associated with a high
mortality rate. At least 33,000 patients in the U.S. have
either actively bleeding esophageal varices or esophageal
varices that are at imminent risk of bleeding.

Early and effective treatment of esophageal
varices to achieve hemostasis is essential to a favorable
outcome in a bleeding patient. The most common pharmaceutical
treatment protocol involves the injection of a sclerosing agent
into the varix, achieving clot formation and obliteration of the
varix. This form of hemostasis is called sclerotherapy and
usually requires multiple treatment sessions. Ethamolin is the
only sclerotherapy agent approved by the Food and Drug
Administration (FDA) for the treatment of esophageal
varices that have recently bled. There is strong competition
from band ligation, a form of surgery, but we believe that
Ethamolin is the only sclerosant that is actively promoted for
this indication, at this time. We estimate Ethamolin to have
approximately one-fifth (on a volume basis), of the total
sclerosant market share (for all indications), at this time.

Glofil-125 and Inulin.Kidney disease afflicts more than
8.3 million persons in the U.S. and is increasing primarily
due to an increase in diabetes mellitus, hypertension and
glomerulonephritis cases. Kidney disease results in over
$15 billion annually in healthcare costs in the U.S. The
market includes an estimated 700,000 persons with severe kidney
diseases, 13,500 persons receiving kidney transplants annually,
and an additional

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50,000 persons awaiting kidney transplants. The
measurement of kidney function, glomerular filtration rate
(GFR) is critical to the understanding of the
disease state and its appropriate therapeutic intervention. GFR
has historically been estimated by the measurement of endogenous
serum creatinine and by creatinine clearance. These diagnostic
assays may overestimate kidney function by as much as 100% in
some patients. We believe that the use of renal filtration
markers, such as Glofil-125 or Inulin, offer a more accurate and
direct means of determining GFR, and thereby result in better
clinical decision making.


Glofil-125 and Inulin are FDA-approved products
for the measurement of GFR. Nephrology, transplant, oncology and
nuclear medicine departments at major medical centers are the
primary users of these products. Glofil-125 is an injectable
radioisotope diagnostic agent, which provides rapid information
on GFR with great accuracy. Inulin is a non-radioisotope
injectable diagnostic agent, which provides a measure
of GFR.

We believe that there is an opportunity for
increased utilization of Glofil-125. Present diagnostic
procedures for measuring kidney function include serum
creatinine and creatinine clearance tests. These two tests are
the most commonly performed methods of measuring kidney function
because of their low cost, however, both methods may
significantly overestimate kidney function in the estimated
700,000 patients with severe renal disease. The utility of
Glofil-125 has been established in published clinical studies as
being a more direct, accurate measure of kidney function,
yielding much more reliable results than serum creatinine or
creatinine clearance tests. This improved accuracy can be
essential in monitoring disease progression and implementing
appropriate interventions and assessing the degree of success of
kidney grafts, post transplant. We believe that as new
interventional therapies emerge, such as the use of
angiotensin-converting enzyme (ACE) inhibitors to
slow down disease progression and the Modification of Diet in
Renal Disease (MDRD), for the treatment of early
stage renal disease, the use of Glofil-125 will take on much
greater importance, however, at this point, most early stage
patients are not felt to require this degree of accuracy in the
determination of renal function.

Glofil-125 has also been used in clinical trials
administered by the National Institutes of Health
(NIH). Use of Glofil-125 in clinical trials can
provide the trial administrators with an accurate measure of
kidney function and show the effects of the drug being studied
on normal kidney function. Glofil-125 has been included in
several recent clinical trials administered by the NIH. One of
these trials ended in the third quarter of 2001. In December
2002, we received notice that Glofil had been accepted as the
GFR marker for an upcoming NIH trial entitled the Chronic Renal
Insufficiency Cohort (CRIC) trial. This study, which
is scheduled to commence by mid-year 2003, will enroll
3,000 people who are at risk for developing compromised
renal function and follow them over a five year period. We
believe that the incorporation of Glofil into the CRIC study is
confirmation that patients who are at risk for impaired kidney
function should have their GFR measured accurately, and that
Glofil is the preferred marker for that assessment. We plan to
continue to promote the use of Glofil-125 to the NIH and to
large pharmaceutical companies for use in clinical trials as a
means of detecting kidney toxicity and measuring overall kidney
function. Although we believe that Glofil-125 may be used in
clinical trials in the future, there can be no assurance that
Glofil-125 will be included in any clinical protocol or, if it
is included, that we will receive significant revenues from the
future sales of Glofil-125.

The biggest impediment to the growth in the sales
of Glofil-125 is the lack of availability of the test to
practicing clinicians. Routine testing with Glofil-125 requires
dedicated laboratory facilities and trained technicians. Our
efforts are focused on establishing testing sites in major
market areas in the U.S. We are not aware of any new
diagnostic agents that would pose a competitive threat to
Glofil-125 at this time.

Inulin, which is also sold by us, is an
alternative agent for GFR measurement. However, the preparation
and use of Inulin is time consuming and it does not provide the
practical advantages of Glofil-125. The use of and demand for
Inulin is relatively limited. We do not expect revenues from the
sale of Inulin to increase in the future. Due to manufacturing
issues with Inulin that emerged in mid-2002, and that remain
unresolved at this time, we do not expect any revenues from
Inulin during the first half of 2003. If we are unable to
resolve the outstanding issues related to the ongoing
manufacturing of Inulin, we may experience a product shortage
for an extended period of time.

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VSL#3.We acquired
the U.S. promotion rights for VSL#3 under an agreement
effective January 2002. VSL#3 is a patented probiotic
preparation of eight live freeze-dried lactic acid bacterial
species. Probiotics are living organisms in foods and dietary
supplements, which, upon ingestion in certain numbers, improve
the health of the host beyond their inherent basic nutrition. We
formally launched VSL#3 to the market as a dietary supplement to
promote normal gastrointestinal (GI) function at the
annual Digestive Disease Week meeting in May 2002.

We believe the emerging role for probiotics in
the management of patients with Inflammatory Bowel Diseases
(IBDs) offers an attractive market opportunity for
VSL#3 while at the same time effectively complements the current
promotion of Ethamolin to this same group of
gastroenterologists. IBD is one of the most common chronic
gastrointestinal illnesses and consists mainly of two
conditions  ulcerative colitis and Crohns
disease. It is estimated that almost one million Americans have
IBD, with roughly 50% due to ulcerative colitis and 50% due to
Crohns disease. About 25-40% of ulcerative colitis
patients eventually must have their colon removed because of
massive bleeding, severe illness, rupture of the colon, or risk
of cancer. A number of surgeries may be performed for ulcerative
colitis. One such procedure, which is becoming increasingly
common for ulcerative colitis, is ileal pouch anal anastomosis
(IPAA) surgery. This operation allows the patient to
have relatively normal bowel movements because it preserves part
of the rectum. The major long-term complication that occurs as a
result of this surgery is pouchitis. Pouchitis is the
non-specific inflammation of the ileal reservoir that appears to
be associated with bacterial overgrowth and dysbiosis. Published
clinical trials reported that VSL#3 is effective in preventing
flare-ups of chronic pouchitis.

In one particular study regarding chronic
pouchitis, conducted by Dr. Paolo Gionchetti, et al.,
and discussed in the U.S. peer-reviewed clinical Journal of
Gastroenterology and Hepatology, 15:489-493 (2000), VSL#3 has
been effective in preventing chronic pouchitis. In this study,
the efficacy of VSL#3 was compared with a placebo in 40 patients
who had undergone the IPAA surgical procedure and had achieved
clinical and endoscopic remission from chronic pouchitis after
antibiotic treatment. Of the 20 patients who received the
placebo, all had a relapse of pouchitis during the nine-month
study period. Of the 20 patients that received VSL#3, 85% were
still in remission at nine months post-treatment. No side
effects were observed from the treatment with VSL#3.

VSL#3 has received Orphan Drug designation from
the Office of Orphan Products Development at the FDA for two
indications: (1) the treatment of active chronic pouchitis,
and (2) the prevention of disease relapse in patients with
chronic pouchitis. Orphan Drug designation applies to diseases
and disease states with a prevalence of less than 200,000
patients in the U.S. Orphan Drug designation confers
certain protection such as market exclusivity for seven years
once the product has been approved. For VSL Pharmaceuticals and
us to take advantage of this designation, VSL#3 would have to be
approved as a new biological product by the FDA. We do not
control the clinical development strategy for VSL#3. There can
be no assurance that VSL#3 will ever be approved as a new
biological product by the FDA or that it will ever enjoy the
benefits of this Orphan Drug designation.

Drug Development

Our development stage products include the
intranasal drugs Emitasol, Hypnostat, Panistat and the Glial
Excitotoxin Release Inhibitors.



| |                 
| | ----------------
| | Intranasal Drugs



| |         
| | --------
| | Emitasol

Through our merger with RiboGene, Inc., we
acquired Emitasol, an intranasal form of metoclopramide.
Metoclopramide is an approved antiemetic and is available in
both oral and intravenous forms to treat diabetic gastroparesis
and to prevent acute chemotherapy-induced emesis. We, through
future strategic partners, may also choose to investigate
Emitasol for the treatment of diabetic gastroparesis and delayed
onset emesis (nausea and vomiting) associated with cancer
chemotherapy.

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Emitasol is currently being developed and
marketed in certain countries throughout the world through
corporate partners. It is on the market in Italy as Pramidin,
and during 2002 was distributed by sirton pharmaceuticals S.p.A.
(sirton) under our existing license agreement in
Italy for the treatment of a variety of gastrointestinal
disorders and emesis. For the year ended December 31, 2002,
sirton distributed approximately 15,592 units of Pramidin
in Italy. This agreement expired in accordance with terms in
June 2002 and is currently being renegotiated for the purpose of
continuing the relationship. We entered into a marketing
agreement in December 2000 with Ahn-Gook Pharmaceuticals
(Ahn-Gook), for intranasal metoclopramide, to be
marketed under the trade name Emitasol, in Korea. Ahn-Gook also
signed an agreement with sirton to obtain the intranasal
metoclopramide finished product. Emitasol has been filed and
approved in Korea, and will be distributed by Ahn-Gook in Korea
for the treatment of gastrointestinal disorders and emesis. In
the U.S., Emitasol is proposed as a method to control diabetic
gastroparesis and to prevent delayed onset emesis associated
with cancer chemotherapy. Currently, there are no drugs
specifically approved to treat delayed onset emesis. However, on
March 6, 2003, FDAs Gastrointestinal Drugs Advisory
Committee recommended that the FDA approve Mercks Emend
(aprepitant) with 5-HT3 antagonist for various indications,
including delayed onset emesis. We believe that Emitasol, when
given intranasally, may be effective in preventing delayed onset
emesis. Advantages may include ease of administration, an
increased level of efficacy as compared to alternatives, and
cost effectiveness.

Diabetic gastroparesis.We, together with our former North
American collaborative partner Shire Pharmaceuticals
Group plc (Shire), (also see Strategic
Alliances and Collaborations), concluded a
U.S. Phase II clinical trial using patients with
diabetic gastroparesis in the fourth quarter of 2000. For some
diabetics, proper digestion may be difficult. Variable blood
glucose levels may lead to a condition known as gastroparesis or
stomach paralysis. Gastroparesis can result in general loss of
appetite, nausea and vomiting, and in some cases severe
dehydration. Many prescription medications are used to treat
gastroparesis, including bethanchol and erythromycin. Each of
these prescription drugs has limited effectiveness and potential
and significant side effects. Metoclopramide is approved for
treating gastroparesis. We believe that the intranasal form of
metoclopramide may provide diabetics who have gastroparesis with
an easier route of administration, resulting in better patient
compliance. In October 2000, we announced the results of the
Phase II study of Emitasol (metoclopramide nasal spray) in
patients with diabetic gastroparesis. The study showed that both
Emitasol (metoclopramide nasal spray) and oral metoclopramide
were bioavailable when administered to diabetic gastroparesis
patients. The trial also suggested that Emitasol (metoclopramide
nasal spray) treatment may enhance the clinical response versus
oral metoclopramide. In July 2001, Shires exclusive option
to develop and market Emitasol in North America expired and all
rights were returned to us. We currently are seeking a corporate
partner for the development of Emitasol in the U.S. and in other
countries around the world.

Delayed onset emesis.According to the American Cancer
Society, about 1.3 million new patients are diagnosed with
cancer in the U.S. each year, many of whom are treated with
chemotherapy. Nausea and vomiting (emesis) are common side
effects of cancer chemotherapy. Chemotherapy-induced emesis is
considered to occur in two phases: acute (within 24 hours
of the initiation of chemotherapy) and delayed (on the second
and subsequent days). Several drugs have been approved by the
FDA for preventing nausea and vomiting associated with
emetogenic chemotherapy, including injectable forms of
ondansetron, granisetron and metoclopramide. Ondansetron and
granisetron are representatives of a newer class of drugs called
serotonin antagonists or setrons, and are considered highly
effective in controlling acute chemotherapy-induced emesis.
There are conflicting reports, however, about the efficacy of
serotonin antagonists in controlling delayed onset emesis. There
are, in fact, no FDA-approved treatments specifically for
delayed onset emesis. Increasing numbers of these patients are
being treated as outpatients and experience delayed onset emesis
when they are no longer under the immediate care of a medical
professional. Any medication for such emetic episodes should
therefore be suitable for self-administration by the patient.
Injectable medications are unlikely to be suitable in this
context. It appears that current practice is to provide patients
initially with oral antiemetics in tablet form. Tablets are not,
however, particularly suitable for patients who are nauseated
and may vomit.

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Prior clinical trials for Emitasol have
demonstrated that metoclopramide is absorbed and effective when
given intranasally. Phase I trials indicated that the
overall amount of metoclopramide which reaches the plasma is
very similar whether the drug is given intranasally,
intravenously or orally. Given the similarity in uptake of the
three dosage forms, similarity might also be expected in their
clinical performance. For acute emesis, the expected similarity
in performance has been demonstrated for the intranasal and
intravenous dosage forms. In a prior Phase III study,
Emitasol provided protection against acute emesis comparable to
that previously reported for intravenous metoclopramide. We
therefore anticipate that intranasal metoclopramide may be
effective for controlling delayed onset emesis, an activity
suggested for oral metoclopramide in the clinical literature.

Regardless of which indication is selected for
Emitasol, substantial additional development, clinical testing
(potentially including one or more Phase III trials) and
investment will be required prior to seeking regulatory approval
for commercialization of this product in the U.S. There can be
no assurance that a Phase III clinical trial of Emitasol
will demonstrate the safety and efficacy of the product to the
extent necessary to obtain regulatory approvals for the
indications being studied, or at all. The failure to demonstrate
adequately the safety and efficacy of Emitasol could delay or
prevent regulatory approval of the product.



| |          
| | ---------
| | Hypnostat

Through our merger with RiboGene, we acquired
Hypnostat, an intranasal form of triazolam. Oral triazolam is
approved for short-term treatment of insomnia. In June 2001, we
signed a Letter of Understanding with Fabre Kramer of
Houston, TX, to jointly pursue the worldwide development
and commercialization of Hypnostat (intranasal triazolam) for
insomnia and Panistat (intranasal alprazolam) for panic
disorders, two of our intranasal product candidates. Under this
agreement, we were reimbursed $32,000 in 2001 for consultants,
employees, materials and supplies expenses related to this
project. In 2002, we were reimbursed $13,000 for patent expenses
under the agreement. This original agreement was replaced with a
new Letter of Understanding, in January 2002, and in June 2002,
we entered into a License Agreement with Fabre Kramer for the
development of Hypnostat and Panistat to be funded by Fabre
Kramer. Fabre Kramer is developing Hypnostat for the short-term
treatment of insomnia. We believe that Hypnostat, when given
intranasally, may be effective in treating insomnia. Advantages
may include ease of administration, an increased level of
efficacy as compared to alternatives, cost effectiveness, and
possibly reduced side effects.

The potential advantages of Hypnostat are
significant in light of the fact that thirty to forty million
Americans suffer from serious sleep disorders which are often
untreated or inadequately treated. Continued sleep impairment
may cause severe health effects. Oral triazolam (Halcion®)
has been one of the most successful and most prescribed
sleep-inducing agents in the world, with over 11 billion
prescriptions filled. Oral triazolam is considered safer in
terms of overdose, drug interactions, and addictive potential as
compared to barbiturates. In addition, oral triazolam produces
less morning grogginess, as compared to other benzodiazepines,.
Oral triazolam and other benzodiazepines are recommended for
short-term use in conservative doses. Zolpidem (Ambien®)
and zaleplon (Sonata®) are newer hypnosedative agents that
are chemically unrelated to benzodiazepines. However, both
zolpidem and zaleplon have similar pharmacokinetic and
pharmacodynamic effects and do not differ with respect to
efficacy, tolerability, residual effects, memory impairment,
rebound insomnia, or abuse potential compared to oral triazolam.
Over the counter medications containing diphenhydramine (such as
Benadryl® and Sominex®) have been shown to increase
the risk of symptoms of delirium including disorganized speech,
poor attention level, and altered consciousness in the elderly.
Other over the counter medications such as valerian and
melatonin may be useful in alleviating mild short-term insomnia,
but further clinical trials are required to fully evaluate
efficacy and safety.

Prior clinical trials for Hypnostat support that
triazolam is absorbed and effective when given intranasally.
Phase I trials indicated that the overall amount of
triazolam which reaches the plasma is very similar whether the
drug is given intranasally or orally. Given the similarity in
uptake of the two dosage forms, similarity might also be
expected in their clinical performance. The expected similarity
in performance is supported for the intranasal dosage form. In a
prior Phase II pilot study, Hypnostat at 0.125 mg was
superior to oral triazolam at 0.250 mg for time to sleep onset
(p=0.008), effective sleep time (p=0.008), and stage two sleep
time (p<0.05) and was equivalent to oral triazolam at 0.250
mg for quality of sleep. We therefore anticipate that

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intranasal triazolam may be effective for
treating insomnia. The drug is currently in the Phase II
stage of development.




| |         
| | --------
| | Panistat

Also, through our merger with RiboGene, we
acquired Panistat, an intranasal form of alprazolam. Oral
alprazolam is approved for the management of panic disorder or
the short-term relief of anxiety symptoms. Fabre Kramer intends
to develop Panistat for the management of panic disorder or the
short-term relief of anxiety symptoms. We believe that Panistat,
when given intranasally, may be effective in treating panic
disorders. Advantages may include ease of administration, an
increased level of efficacy as compared to alternatives, and
cost effectiveness.

The potential advantages of Panistat are
significant in light of the fact that anxiety disorders are the
most common mental disorder in the U.S., affecting approximately
19 million people. According to the National Institute of
Mental Health, approximately 25% of those affected seek
treatment. Generalized anxiety disorder is characterized by
constant uncontrollable worry. Panic disorder is characterized
by acute, spontaneous, and repeated anxiety attacks which
involve an intense, terrifying, and unfocused fear in the
absence of any external threat. Panic attacks typically last for
approximately 20 to 30 minutes and may cause racing
heartbeat, chest pains, difficulty breathing, choking
sensations, dizziness, and numbness. Panic attacks can occur as
often as several times per week or several times per day.
Approximately 2.4 million people in the U.S. suffer
from panic disorder, which often progresses into chronic anxiety
and agoraphobia.

Early treatment can help keep a panic disorder
from progressing. Benzodiazepines, including oral alprazolam
(Xanax®), have proven to be safe and effective for treating
panic disorder for over 20 years. Benzodiazepines block
panic attacks during the first or second day of treatment.
Surprisingly low rates of abuse of this and other medicines are
reported in persons with panic disorder. Many antidepressants,
including doxepin (Sinequan®), sertraline (Zoloft®),
fluoxetine (Prozac®), imipramine (Tofranil®), and
paroxetine hydrochloride (Paxil®), are useful in treating
panic attacks without causing physical dependence. However,
successful treatment requires full strength dosage and usually
takes four to eight weeks for therapeutic effects to be
observed. In addition, antidepressants cause panic attacks to
initially increase in approximately half of panic disorder
sufferers. As a rule, the less expensive antidepressants have
more side effects than the newer, more expensive ones.
Phenelzine sulfate (Nardil®) is effective for panic
disorder, but is complicated to use. Although phenelzine sulfate
is safe when used by an experienced physician, it is typically
reserved for cases where simpler medications have failed or
cannot be used. Unsafe elevations of blood pressure for several
hours can occur if one does not adhere to diet and medication
restrictions. Cognitive-behavioral therapy (CBT)
teaches the patient to anticipate and prepare for situations and
bodily sensations that may trigger panic attacks. CBT generally
requires at least eight to twelve weeks for the patient to learn
the skills and put them into practice. CBT requires a
motivated patient and a specially trained therapist. Clinical
experience suggests that for many patients with panic disorder,
a combination of CBT and medication may be the best treatment.
Other treatment options include relaxation, breathing
techniques, hypnotherapy, and psychotherapy. To date, no
clinical work has been performed on Panistat.



| |                                                   
| | --------------------------------------------------
| | Glial Excitotoxin Release Inhibitors
    (GERIs)

The GERIs series are neuroprotective compounds
that may prevent ischemic brain damage originating from
astrocytes (astroglial cells). Astrocytes serve important
metabolic functions and are thought to be responsible for the
bulk of brain swelling following stroke or injury. The swelling
constricts blood vessels and worsens the injury 
resulting in ischemia and subsequent cell death. In addition,
upon onset of ischemia, astrocytes release excitotoxins such as
glutamate and aspartate over an extended period of
time  not rapidly, as in the case of
neurons  that result in significant and persistent
damage to neurons. Because astrocyte swelling and excitotoxin
releases are late-stage events in the development of ischemia
following brain injury or stroke, they may be more appropriate
targets for drug intervention than neuron-related events.

In animal models and cell culture experiments,
the GERI compounds exert a powerful neuroprotective effect by
blocking chloride-ion channels, to reduce swelling, and by
inhibiting excitotoxin release, to limit or

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prevent damage to neurons. In vitro, excitotoxin
release from cultured astrocytoma cells is fully inhibited at
very low concentrations by many compounds of the GERI series. A
greater than 30-fold decrease in drug concentration required to
inhibit excitotoxin release has been achieved by designing novel
derivatives in the GERI compound family. In animal models of
global and focal brain ischemia, a number of the GERI compounds
demonstrated reduction of the infarct volume by as much as 50%
in comparison to untreated controls. In addition, the toxicity
profile of existing development candidates appears excellent.


The GERI compounds are currently being funded by
a Small Business Innovation Research (SBIR) grant
from the NIH. It is anticipated that reimbursement under this
grant will be completed in April 2003. Although we have had some
preliminary discussions with potential corporate partners
regarding the GERI compounds, there can be no assurance that we
will enter into a collaboration to fund future research on these
compounds. Pending completion of the reimbursement under the
existing SBIR grant, we do not intend to expend any additional
resources on these compounds.

At this time, we continue to define the chemical,
toxicological and pharmacological effect of a number of GERI
compounds in animal models having utilized $619,000 through
December 31, 2002 of the $749,000 in funding from an NIH
SBIR grant. Funding for this project expires in April 2003.
There can be no assurance that we will be successful in
licensing the GERI program or that we will realize license fees
or revenues from such programs.

Strategic Alliances and
Collaborations

Drug Discovery

Subsequent to our merger with RiboGene, we
implemented a strategy to focus on the sales and marketing of
approved pharmaceutical products and late stage drug development
candidates. As a result, we planned to out-license our early
stage drug targets and technology. Thus, we discontinued our
drug discovery programs in the first quarter of 2000 and
anticipate that future in-house drug discovery research expenses
associated with drug discovery will be limited to legal fees,
patent costs and other costs to license such programs.



| |                        
| | -----------------------
| | The Dainippon Agreement

We have an exclusive, worldwide license agreement
with Dainippon to use our antibacterial peptide deformylase and
ppGpp degradase technology for the research, development and
commercialization of pharmaceutical products. We have retained
the right to co-promote, in Europe and the U.S., certain
products resulting from the arrangement. We will be entitled to
receive potential milestone payments upon the achievement of
clinical and regulatory milestones in the amount of
$5.0 million in Japan and $5.0 million in one other
major market. We will receive a potential royalty on net sales
that will range from 5% to 10%, depending on sales volume and
territory.

Dainippon has been conducting research on two
specific bacterial targets, peptide deformylase and ppGpp
degradase. To date, Dainippon has focused most of their efforts
on the deformylase project. Several compounds have been
synthesized and tested in vivo against drug resistant bacteria.
Although the compounds have shown good in vivo activity,
Dainippon has not selected any compounds for clinical studies in
animals. There can be no assurance that Dainippon will ever
select any compounds for preclinical studies or if selected that
these compounds will eventually be approved as drugs. There can
also be no assurance that we will ever receive any milestone
payments or royalties under our agreement with Dainippon.



| |                                        
| | ---------------------------------------
| | The Rigel Pharmaceuticals
    Agreement

We have an exclusive agreement with Rigel
Pharmaceuticals, Inc. (Rigel), to use our antiviral
technology. Under the agreement, we have assigned to Rigel
certain antiviral technology, including our Hepatitis C
virus internal ribosome entry site and NS5A drug discovery
technology, for the research, development and commercialization
of pharmaceutical products. We will be entitled to potential
future milestone payments upon the achievement of certain
clinical and regulatory milestones and royalty payments

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on sales. The status of this project is on-going
at Rigel. There can also be no assurance that we will ever
receive any milestone payments or royalties under our agreement
with Rigel.




| |                      
| | ---------------------
| | The Tularik Agreement

In February 2001, we announced that we had
exclusively licensed certain antifungal drug research technology
to Tularik, Inc. In addition, we have transferred to Tularik
certain biological and chemical reagents to be used in the
discovery and development of novel antifungal agents. In
exchange, we received a cash payment, payment for reimbursement
of patent expenses, and will be entitled to future potential
milestone payments upon the achievement of certain clinical and
regulatory milestones as well as royalty payments on sales.
Tularik has screened numerous compounds through the antifungal
capping assay that it acquired as part of this agreement.
Several of these compounds have been identified as having
activity against C. albicans capping enzymes.
Tularik has transferred intellectual and physical assets to
Cumbre Inc., a subsidiary of Tularik. There can also be no
assurance that we will ever receive any milestone payments or
royalties under our agreement with Tularik.

Drug Development



| |                                                  
| | -------------------------------------------------
| | The Shire Pharmaceuticals Group plc
    Agreement

In July 2001, the option held by Shire
Pharmaceuticals Group to acquire exclusive rights to Emitasol in
North America expired and all rights reverted to us.



| |                                                       
| | ------------------------------------------------------
| | The Fabre Kramer Pharmaceuticals License
    Agreement

In June 2002, we signed an exclusive worldwide
License Agreement with Fabre Kramer of Houston, TX, to
commercialize two of our product candidates, Hypnostat
(intranasal triazolam) for insomnia and Panistat (intranasal
alprazolam) for panic disorders. Immediately after the agreement
was signed we received a cash payment of $250,000 for the
transfer of all technology related to the products. We are
entitled to future payments from Fabre Kramer when specific
developmental milestones are met. In addition, we are entitled
to receive royalty payments from worldwide product-related
revenues, based on a percentage of total revenues. This License
Agreement is the final result of the Letter of Understanding
originally signed in June 2001 and modified in January 2002.
Under the License Agreement, Fabre Kramer will immediately
assume the primary responsibility for the development of
Hypnostat and Panistat.

Licenses and Distribution Agreements

CSC Pharmaceuticals Handels GmbH
(CSC).In April 1997,
RiboGene entered into an agreement with CSC. The agreement
grants CSC an exclusive license to market and sell Emitasol in
Austria, Poland, the Czech Republic, Bulgaria, Russia, Hungary,
the Slovak Republic, Romania, and the remaining Community of
Independent States and eight other eastern European countries.
CSC has agreed to pay us a royalty based on net sales
within the countries listed above. The agreement will expire on
a country-by-country basis 10 years after the first
commercial sale in that country. Although we can terminate the
license if CSC did not obtain approval in any country contained
in the agreement by April 16, 1999, we have not done so,
since CSC has filed for regulatory approval in Austria, Russia,
Hungary and the Slovak Republic. In 2001, CSC received approval
to market Emitasol in Poland and the Czech Republic. CSC has
also filed for approval in several other countries. As of the
end of 2002, CSC has not begun marketing Emitasol in Poland and
the Czech Republic. It is difficult to predict when, if ever,
CSC will begin to market this product in their approved
territories.

Laboratorios Silesia SA.In December 1999, we signed a license
agreement with Laboratorios Silesia SA for marketing
intranasal metoclopramide, to be marketed under the trade name
Emitasol, in Chile. Laboratories Silesia SA also signed an
agreement with sirton to obtain the intranasal metoclopramide,
finished product under the trade name Pramidin. This product is
marketed as Pramidin in Italy. We received a small up-front
payment and will receive royalties on the net sales of Emitasol
in the territory.

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Ahn-Gook Pharmaceutical Co.,
Ltd.We entered into a license
agreement in December 2000 and amended in December 2002 with
Ahn-Gook for marketing intranasal metoclopramide, to be marketed
under the trade name Emitasol, in Korea. Ahn-Gook expects to
begin sales of Emitasol in the Republic of Korea in the first
half of 2003. Ahn-Gook intends to manufacture Emitasol
themselves in Korea. Ahn-Gook received government approval to
market Emitasol in 2002. We received an up-front cash payment of
$50,000 in 2000 and a milestone payment of $150,000 in 2002 upon
transfer of technology and will earn future royalties based on
actual sales in Korea. In December 2002, we expanded the License
Agreement to include twelve additional countries in Asia and
since we have no future obligations, we recognized $200,000 in
revenues related to the up-front cash payment and milestone
payment under the agreement. We will receive an upfront payment
and additional royalties upon commercialization of Emitasol in
each of these new countries.

Manufacturing

We do not currently manufacture any of our
acquired products or our products in development. Our commercial
products, Acthar, Ethamolin, VSL#3, Glofil-125, and Inulin are
manufactured for us by approved contract manufacturers.

As part of our agreement with Aventis to acquire
Acthar, Aventis agreed to manufacture the finished goods from
existing inventory of the active pharmaceutical ingredient
(the API) through July 2002. Aventis has
provided finished product under the terms of the acquisition
that will meet our forecasted demand through late 2003. The
production of Acthar requires the production of the API and the
production of the finished product. The API is an extraction
from porcine pituitary glands. Although the extraction process
is well known by individuals within Aventis, the extraction may
be difficult to reproduce at a new vendor. Under our agreement
we are committed to purchase the API and other inventory
residing at Aventis. We believe this API will meet our
forecasted demand through 2005. We are required to transfer the
manufacturing process to a new third party manufacturer to
produce the API and for the production of the finished goods. We
have identified potential third party manufacturers that could
produce the API but we have not yet entered into an agreement
with any of these manufacturers. We have identified the third
party manufacturer for the finished product and are in final
contract negotiations. The manufacturing transfer of the
finished product is well underway. We expect to convert Aventis
API to finished product at the new site during 2003. The
production of the API and the finished product are subject to
inspection and ultimate approval by the FDA. While we have
reviewed our plans and progress to date with the FDA, and
received a positive response, additional approvals will be
required through the transfer process. On November 4, 2002,
we met with the FDA to discuss our manufacturing transfer plan
for Acthar. In connection with that meeting, the FDA approved
our Supplemental New Drug Application filed on
September 27, 2002 to extend the labeled shelf life of
Acthar from twelve months to eighteen months from the date of
manufacture. We released a lot of Acthar with 18 month dating in
2003.

The Acthar site transfer process has numerous
risks that could have a materially adverse impact on our
financial results in future years. Such risks include the
ability to enter into agreements with new independent third
party contractors for the production of the API and the
production of finished goods, or, if we are successful in
identifying and entering into such agreements that the API and
finished goods could be produced in sufficient quantities on a
timely basis and at an acceptable cost, that the production
facilities and the processes will be approved by the FDA and
that the API and finished product will be similar in potency and
efficacy as the API currently held by Aventis. Although we
believe we have adequate time and resources to ensure that the
site transfer of Acthar will occur timely and correctly with
minimal impact on future revenues, there can be no assurance
that the site transfer will occur timely and correctly and that
the transfer will not have a materially adverse impact on the
company in the future.

During 2002, we successfully transferred
manufacturing of Ethamolin from Schering Plough to Ben Venue
Laboratories (Ben Venue). Full FDA approval for
the transfer to Ben Venue was obtained on September 20,
2002. Ben Venue manufacturers Ethamolin for us on a purchase
order basis. Currently we have sufficient product on hand to
cover demand through 2003.

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In the case of VSL#3, we obtain the product from
VSL under our agreement. However, we have no experience with
manufacturing VSL#3, and we are relying completely on VSL to
supply us with the product. Due to our lack of experience with
VSL#3 and our reliance on VSL, we can provide no assurances as
to the timely manufacture of this product.

Our manufacturer of Glofil-125 was subject to an
inspection by the FDA. As a result of this inspection, our
manufacturer received notification that numerous items required
attention in order to comply with FDA regulations. The open
items from the inspection have subsequently been addressed.
Based on the information available, we believe that the
manufacture of Glofil-125 will not be affected.

In the case of Inulin, we are responsible for
obtaining the bulk drug from a third party and delivering it to
the finished goods manufacturer. Due to manufacturing issues
with Inulin that emerged in mid-2002, and that remain unresolved
at this time, we had a backorder situation which resulted in
lost revenue for the year ending December 31, 2002. As a
result we do not expect any revenues from Inulin during the
first half of 2003. If we are unable to resolve the outstanding
issues related to the ongoing manufacturing of Inulin, we may
experience a product shortage for an extended period of time.

There can be no assurance that any of our bulk or
finished goods contract manufacturers will continue to meet our
requirements for quality, quantity and timeliness or the
FDAs current good manufacturing practice
(cGMP) requirements. Also, there can be no assurance
that we will be able to complete qualification of new vendors
for Acthar or a substitute finished goods manufacturer for
Acthar, nor that our contract manufacturers will be able to meet
all cGMP requirements, nor that lots will not have to be
recalled with the attendant financial consequences to us.

Our dependence upon others for the manufacture of
bulk or finished forms of our products may adversely affect the
future profit margin on the sale of those products and our
ability to develop and deliver products on a timely and
competitive basis. We do not have substitute suppliers for any
of our products although we strive to plan appropriately and
maintain safety stocks of product to cover unforeseen events at
manufacturing sites. In the event we are unable to manufacture
our products, either directly or indirectly through others or on
commercially acceptable terms, if at all, we may not be able to
commercialize our products as planned.

Sales and Marketing

As of December 31, 2002, we have hired,
trained and deployed a total of 30 product specialists and
marketing personnel to support the commercial sales of Acthar,
Ethamolin, VSL#3, Glofil-125 and Inulin. Our promotion of Acthar
is focused on pediatric neurologists and on a small group of
general neurologists who have a special interest in multiple
sclerosis. VSL#3 and Ethamolin are promoted to a group of
gastroenterologists who treat patients with liver disease and
inflammatory bowel disease. VSL#3 is marketed as a dietary
supplement while Ethamolin is an FDA approved product for the
specific indication of esophageal varices that have recently
bled. The promotion of Glofil-125 targets organ transplant
centers and those patients who are at greatest risk of kidney
failure.

International Distribution
Agreements



| |                 
| | ----------------
| | Orphan Australia

In August 2002 we signed an agreement with Orphan
Australia of Melbourne, Australia for the exclusive marketing
and distribution of Acthar and Ethamolin in Australia and New
Zealand.



| |                             
| | ----------------------------
| | Beacon Pharmaceuticals, Ltd.

In October 2002 we signed an agreement with
Beacon Pharmaceuticals, Ltd. of Tunbridge Wells, Kent, UK, for
the exclusive marketing and distribution of Acthar in the United
Kingdom.

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Competition

The pharmaceutical and biotechnology industries
are intensely competitive and subject to rapid and significant
technological change. A number of companies are pursuing the
development of pharmaceuticals and products which target the
same diseases and conditions that we will target. For example,
there are products and treatments on the market that compete
with Acthar, Ethamolin, Glofil-125, Inulin, and VSL#3. Moreover,
technology controlled by third parties that may be advantageous
to our business may be acquired or licensed by competitors of
ours, preventing us from obtaining this technology on favorable
terms, or at all.

Our ability to compete will depend on our ability
to acquire and commercialize pharmaceutical products that
address critical medical needs, as well as our ability to
attract and retain qualified personnel, and secure sufficient
capital resources for the acquisition of products. Acthar is
currently used in patients suffering from arthritis, multiple
sclerosis, and infantile spasm. Acthar may be challenged by
newer agents, such as synthetic corticosteriods, immune system
suppressants known as immunosuppressants, and anti-seizure
medications (in the case of infantile spasms) and other types of
anti-inflammatory products for various autoimmune conditions
that have inflammation as a clinical aspect of the disease.
Several companies may offer sclerotherapy agents (chemicals
injected into varicose veins that damage and scar the inside
lining of the vein, causing it to close) that compete with
Ethamolin. Other competitive agents include
ScleromateTM (an injectable agent used to treat
varicose veins and spider veins), Rubber Band Ligation methods
(procedures in which bleeding esophageal varices are tied off at
their base with rubber bands, cutting off the blood flow) such
as the Multi-band Superview manufactured by Boston-Scientific,
the Multi-band Six Shooter manufactured by Wilson-Cook, and the
Multi-band Ligator manufactured by Bard. Other products may
reduce the number of bleeding esophageal varices by lowering
portal hypertension, such as Sandostatin® manufactured by
Novartis. The competition to market FDA-approved active bleeding
esophageal varices therapies is intense.

There are numerous products that may be viewed as
competitors to Glofil-125. These include intrinsic tests, such
as serum creatinine tests and creatinine clearance tests, both
of which are used to measure how quickly the kidneys are able to
clear creatinine, an endogenously produced chemical from the
blood. Extrinsic tests use such products as Tc-DTPA,
manufactured by Mallinckrodt, Inc., Omnipaque® (an
injectable contrast media agent), manufactured by Sanofi, a
division of Sanofi-Synthelabo, and Conray®-iothalamate
meglumine (another injectable contrast medium), manufactured by
Mallinckrodt, Inc. There is intense competition among both FDA
and non-FDA approved products to measure kidney function.

Virtually any number of manufacturers of
probiotics may be considered competitors to VSL#3. Among the
most notable are Culturelle TM by ConAgra and
Probiotica, by Johnson and Johnson.

Most of our competitors are larger than us and
have substantially greater financial, marketing and technical
resources than we have. In addition, many of these competitors
have substantially greater experience than we do in acquiring,
developing, testing and obtaining FDA and other approvals of
pharmaceuticals. Furthermore, if we commence commercial sales of
products that are currently in the development stage, we will
also be competing with respect to manufacturing efficiency and
marketing capabilities, areas in which we have limited
experience. If any of the competitors develop new products that
are superior to our products, our ability to expand into the
pharmaceutical markets may be materially and adversely affected.

Competition among products will be based, among
other things, on product efficacy, safety, reliability,
availability, price and patent position. An important factor
will be the timing of market introduction of our or our
competitors products. Accordingly, the relative speed with
which we can acquire products and supply commercial quantities
of the products to the market is expected to be an important
competitive factor. Our competitive position will also depend
upon our ability to attract and retain qualified personnel and
to secure sufficient capital resources for product acquisition
and commercialization of products.

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Government Regulation



| |                                     
| | ------------------------------------
| | Marketed Pharmaceutical
    Products

All pharmaceutical firms, including manufacturers
from whom we purchase products, are subject to regulation by the
FDA. Any restrictions or prohibitions applicable to sales of
products we market could materially and adversely affect our
business.

We market prescription drug products that have
been approved by the FDA. The FDA has the authority to revoke
existing approvals if new information reveals that they are not
safe or effective. The FDA also regulates the promotion,
including advertisement, of prescription drugs.

Drug products must be manufactured, packaged, and
labeled in accordance with their approvals and in conformity
with cGMP standards and other requirements. Drug manufacturing
facilities must be registered with and approved by the FDA and
must list with the FDA the drug products they intend to
manufacture or distribute. The manufacturer is subject to
inspections by the FDA and periodic inspections by other
regulatory agencies. The FDA has extensive enforcement powers
over the activities of pharmaceutical manufacturers, including
authority to seize and prohibit the sale of unapproved or
non-complying products, and to halt manufacturing operations
that are not in compliance with current cGMPs. The FDA may
impose criminal penalties arising from non-compliance with
applicable regulations.



| |                     
| | --------------------
| | Drugs in Development

Our products in development through our partners
are subject to extensive regulation by the U.S. principally
under the Federal Food, Drug and Cosmetic Act (FDCA)
and the Public Health Service Act, and foreign governmental
authorities prior to commercialization. In particular, drugs and
biological products are subject to rigorous preclinical and
clinical testing and other approval requirements by the FDA,
state and local authorities and comparable foreign regulatory
authorities. The process for obtaining the required regulatory
approvals from the FDA and other regulatory authorities takes
many years and is very expensive. There can be no assurance that
any product developed by us or our development partners will
prove to meet all of the applicable standards to receive
marketing approval in the U.S. or abroad. There can be no
assurance that these approvals will be granted on a timely
basis, if at all. Delays and costs in obtaining these approvals
and the subsequent compliance with applicable federal, state and
local statutes and regulations could materially adversely affect
our ability to commercialize our products and our ability to
earn sales revenues.



| |      
| | -----
| | VSL#3

We are marketing VSL#3 as a dietary supplement.
If approval of VSL#3 as a biological product is pursued by VSL
at a later date, the regulatory hurdles discussed above will
apply.

The manufacturing, distribution, and sale of
dietary supplements and medical foods are subject to regulation
by one or more federal agencies, principally the FDA and the
Federal Trade Commission (the FTC). Our
activities are also regulated by various governmental agencies
for the states and localities in which VSL#3 is distributed and
sold. Among other matters, the FDA and FTC are concerned with
product safety and claims that refer to a products ability
to provide dietary support for health-related conditions.

The regulation of dietary supplements is
principally governed by the Dietary Supplement Health and
Education Act (DSHEA), which were enacted in 1994,
amending the FDCA. We believe DSHEA is generally favorable to
the dietary supplement industry. DSHEA establishes a statutory
class of dietary supplements, which includes
vitamins, minerals, herbs, amino acids and other dietary
ingredients for human use to supplement the diet. Dietary
ingredients that were not on the market as of October 15,
1994 require the submission by the manufacturer or distributor
to the FDA of evidence of a history of use or other evidence of
safety establishing that the ingredient will reasonably be
expected to be safe. Among other things, DSHEA prevents the
further regulation of dietary ingredients as food
additives and allows the use of statements of nutritional
support on product labels. The FDA has issued proposed and final
regulations in this area and indicates that further guidance and
regulations are forthcoming.

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The FDA has announced its intent to issue cGMP
regulations for the dietary supplement industry. The FDA has
published an advance notice of proposed rulemaking, and on
March 13, 2003 published proposed regulations.

In November 1998, the FTC Bureau of Consumer
Protection announced its new advertising guidelines for the
dietary supplement industry, which it labeled Dietary
Supplements: An Advertising Guide for Industry. These
guidelines reiterate many of the policies the FTC has announced
over the years, including requirements for substantiation of
claims made in advertising about dietary supplements.

Patents and Proprietary Rights

Our success may depend in part upon our ability
to maintain confidentiality, operate without infringing upon the
proprietary rights of third parties, and obtain patent
protection for our products. We have obtained patent coverage,
either directly or through licenses from third parties, for some
of our products in development or marketed overseas. We
currently own or have licensed a total of eighteen issued U.S.
and foreign patents covering Hypnostat, five issued U.S. and
foreign patents covering Emitasol, one issued U.S. patent
covering GERI, and eleven issued U.S. and foreign patents
covering our other technology.

We acquired intellectual property associated with
our intranasal program, including: Emitasol for diabetic
gastroparesis and delayed onset emesis associated with
chemotherapy, Migrastat (intranasal propranolol) for migraine
treatment, and intranasal benzodiazepines such as Hypnostat and
Panistat for various conditions such as anxiety, seizures, panic
attacks and sleep disorders. We have licensed rights to
intranasal metoclopramide in, Italy, Chile, South Korea,
Austria, the Russian Federation, Asia (excluding Japan) and
certain former Eastern European countries. The former Italian
licensee, sirton, received approval to market intranasal
metoclopramide (Pramidin) in Italy. The agreement with sirton
expired according to terms in June 2002 and is currently being
renegotiated for the purpose of continuing the relationship. We
are currently earning small royalties on our sales of Pramidin.
There can be no assurance that the foreign licensees will obtain
the necessary regulatory approvals to market Emitasol, or that,
in the event such approvals are obtained, Emitasol will achieve
market acceptance in such countries, or that we will ever
realize royalties on sales of Emitasol in such countries. We
have also filed several other patent applications in the U.S.
and abroad on our various products and expect to file additional
applications in the future.

Employees

At December 31, 2002, we had
52 full-time employees (as compared to 38 full-time
employees at December 31, 2001).

Our success will depend in large part on our
ability to attract and retain key employees. At
December 31, 2002, we had 30 employees engaged directly in
the marketing and selling of our on-market products. We believe
that our relationship with our employees are good. None of our
employees are represented by a collective bargaining agreement,
nor have we experienced work stoppages.

Website Address

Our website address is www.questcor.com. We make
available free of charge through our website our annual report
on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K, and all amendments to these reports as
soon as reasonably practicable after filing, by providing a
hyperlink to the SECs website directly to our reports.

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RISK FACTORS

We have a history of operating losses and may
never generate sufficient revenue to achieve
profitability.

We have a history of recurring operating losses.
Our operating losses from inception through December 31,
2002 were $77 million, of which $2.8 million
represented the loss for the year ended December 31, 2002
and $8.7 million represented the loss for the year ended
December 31, 2001. Further substantial operating losses are
expected to continue at least through the end of 2003. To date,
our revenues have been generated principally from sales of
Acthar, Ethamolin, Glofil-125, Inulin and VSL#3. We do not
expect Hypnostat, Panistat, or the GERI compounds to be
commercially available for a number of years, if at all.
Further, revenues from the sale of Emitasol, if any, will also
be dependent on FDA approval and the development of Emitasol in
conjunction with a new strategic partner, which has not yet been
obtained. Our ability to achieve a consistent, profitable level
of operations will be dependent in large part upon our ability
to:



| |   |                                                                                                                                                                                                                   
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | finance and acquire additional marketed products,                                                                                                                                                                 
|
| |  | increase sales of current products,                                                                                                                                                                               
|
| |  | finance the future growth of our sales/marketing
    and customer service organization,                                                                                                                           
|
| |  | finance operations with external capital until
    positive cash flows are achieved,                                                                                                                              
|
| |  | enter into agreements with corporate partners for
    the development of Emitasol,                                                                                                                                
|
| |  | properly and timely perform the transfer of the
    manufacturing of Acthar to new contract manufacturers including
    receiving the appropriate approvals from the FDA and other
    regulatory authorities, and
|
| |  | continue to receive products from our sole-source
    contract manufacturers on a timely basis and at acceptable costs.                                                                                           

If we are unable to generate sufficient revenues
from the sale of our products, or if we are unable to contain
costs and expenses, we may not achieve profitability and may
ultimately be unable to fund our operations.

If our revenues from sales of Acthar decline,
we may not have sufficient revenues to fund our
operations.

We rely heavily on sales of Acthar. Acthar
revenues comprised 65% and 41% of our total product revenues for
the years ended December 31, 2002 and December 31,
2001, respectively. We review external data sources to estimate
customer demand for our products. In the event that demand for
our products is less than our sales to wholesalers, excess
inventory may result at the wholesaler level, which may impact
future product sales. If the supply of Acthar available at the
wholesalers exceeds the future demand, our future revenues from
the sales of Acthar may be affected adversely. In December 2002,
we noted that certain customers were not complying with our
Exchange Policy. These customers were deducting from amounts
owed to us for the full price of expired Acthar they planned to
return to us. We reached an agreement with these customers to
reverse the short-remittances and to accept replacement product.
Certain customers received a one time replacement rebate from
us. In addition, we will provide replacement vials at no cost
for the remaining on-hand inventories of Acthar that expired in
November 2002 and will do so again for the Acthar that expires
in May 2003. In the first quarter of 2003, due to the relatively
short dating of Acthar in our inventories and at the wholesale
level, we limited Acthar shipments to critical care and
emergency situations. A lot of Acthar, with the new
18 month dating was released in the first quarter of 2003.
With the release of this lot normal shipments of Acthar resumed.
We believe that the replacement of expired Acthar at no cost and
the decision to briefly limit shipment of Acthar will have a
negative impact on our first quarter 2003 product sales of
Acthar and although we expect total annual sales of Acthar to
increase as compared to 2002, the increase year to year may be
lower than we expected depending on the amount of additional
replacements of expired product. We are reviewing the amount of
Acthar at the wholesale level to help assess the demand for
Acthar in 2003. We expect that Acthar will continue to
constitute a significant portion of our revenues for 2003.
Although our goal is to actively promote Acthar, and we have no
reason to believe Acthar will not be successful, we cannot
predict whether the strong demand for Acthar will continue in
the future or that we will continue to generate significant
revenues from sales of Acthar. If the demand for Acthar
declines, or if we are

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forced to reduce the price, or if exchange of
product is higher than anticipated, or if we are forced to
re-negotiate contracts or terms, or if our customers do not
comply with our existing policies, our revenues from the sale of
Acthar would decline. If the cost to produce Acthar increases,
and we are unable to raise the price correspondingly, our gross
margins on the sale of Acthar would decline. Any delays or
problems associated with the site transfer of the manufacturers
of Acthar will reduce the amount of the product that will be
available for sale. If our revenues from the sale of Acthar
decline, our total revenues, gross margins and operating results
would be harmed and we may not have sufficient revenues to fund
our operations. In 2002 and 2001, the Acthar vials we sold had a
one year shelf life. Due to the short-dating, significant
quantities could expire at the wholesaler or pharmacy level,
which would then be returned for replacement product, under our
exchange policy. The shipment of replacement product displaces
future sales.


Our inability to secure additional funding
could lead to a loss of your investment.

In order to conduct our operating activities, we
may require substantial additional capital resources in order to
acquire new products, increase sales of existing products, and
maintain our operations. In addition, if further capital
investments do not materialize, or if such investments cannot be
completed at attractive terms to us, or if we are unable to
receive any additional capital investments at all, this may
further limit our ability to fund operations. Our future capital
requirements will depend on many factors, including the
following:



| |   |                                                                                                                                          
| | - | -----------------------------------------------------------------------------------------------------------------------------------------
| |  | existing product sales performance,                                                                                                      
|
| |  | cost maintenance and potential future expansion
    of our sales force,                                                                  
|
| |  | achieving better operating efficiencies,                                                                                                 
|
| |  | obtaining product from our sole-source contract
    manufacturers and completing the site transfer to new contract
    manufacturers, and
|
| |  | acquiring additional products.                                                                                                           

We anticipate obtaining additional financing
through public or private debt or equity financings. However,
additional financing may not be available to us on acceptable
terms, if at all. Further, additional equity financings will be
dilutive to our shareholders. If sufficient capital is not
available, then we may be required to delay, reduce the scope
of, eliminate or divest one or more of our products, product
acquisition or manufacturing efforts.

If we are unable to contract with third party
manufacturers, we may be unable to meet the demand for our
products and lose potential revenues.

We will rely on third party contract
manufacturers to produce our marketed products, Acthar,
Ethamolin, Glofil, Inulin and VSL#3, and other products that we
may develop, commercialize or acquire in the future. Third party
manufacturers may not be able to meet our needs with respect to
timing, cost, quantity or quality. All of our manufacturers are
sole-source manufacturers and no currently qualified alternative
suppliers exist.

Under our agreement with Aventis Pharmaceuticals,
Inc. (Aventis), Aventis manufactured and supplied
Acthar through July 2002. Aventis filled one final lot of Acthar
that is included in Inventories at December 31, 2002. It is
anticipated that the inventory of Acthar on hand at year end,
will be sufficient to meet expected demand through late 2003. We
have identified a new contract manufacturer of Acthar finished
product and have begun to transfer the final fill and labeling
process from Aventis to this new manufacturer. Under our
agreement with Aventis, we are committed to purchase the API and
other inventory residing at Aventis. We believe this API will be
sufficient to meet our forecasted demand through 2005. This bulk
product originally manufactured by Aventis will be transferred
to the new final fill manufacturer. It is anticipated that this
new contract manufacturer will complete the transfer and begin
supplying to us finished product using the API manufactured by
Aventis during 2003. We have identified a potential new
manufacturer for the API. The process of manufacturing Acthar is
complex and problems associated with the site transfer may be
encountered. Once the site transfer to the new final fill
manufacturer and the new API

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manufacturer has been completed and they begin
supplying Acthar to us, the cost of the product is expected to
increase.


Ethamolin is currently being manufactured by Ben
Venue Laboratories (Ben Venue). We do not have a
formal Ethamolin manufacturing contract in place with Ben Venue,
rather we have an agreement on terms and conditions and purchase
product on a purchase order basis under these agreed upon terms
and conditions. We intend to order inventory on a purchase order
basis until a contract is in place. Glofil is manufactured by
ISO-Tex Diagnostics, Inc. on a purchase order basis. The
API for Inulin is manufactured by Pfanstiehl Laboratories, Inc.
under a contract we have with them, and the final fill product
for Inulin is manufactured by Ben Venue on a purchase order
basis. In 2002, a pH decrease was observed during stability
studies for Inulin in Sodium Chloride (drug product). The actual
pH was below the pH level set by the existing United States
Pharmacopeia (the USP) standards. As a result, we
were unable to ship Inulin to our customers. This issue has been
addressed by obtaining FDA and USP approval to lower the USP
specification for Inulin in Sodium Chloride to 4.0. The response
from both agencies indicates that all safety and efficacy issues
have been satisfactorily addressed. Currently, we are working
with our contract manufacturers to provide this drug product in
2003. We have been unable to procure additional supply of Inulin
from our contract manufacturer. Until a new supply of Inulin is
obtained, we will not be able to sell Inulin. VSL#3 is supplied
by VSL Pharmaceuticals, Inc. under a promotion agreement we have
with them. VSL has the sole responsibility for manufacturing or
acquiring the VSL#3 product.

If we are unable to contract for a sufficient
supply of our required products and substances on acceptable
terms, or if we should encounter delays or difficulties in our
relationships with our manufacturers, or if the site transfers
and the corresponding approval by the FDA and other regulatory
authorities does not occur on a timely basis at the appropriate
costs to us, we will lose sales. Moreover, contract
manufacturers that we may use must continually adhere to current
good manufacturing practices regulations enforced by the FDA. If
the facilities of these manufacturers cannot pass an inspection,
we may lose the FDA approval of our products. During December of
2001, we experienced a short supply situation with Ethamolin and
Acthar due to manufacturing constraints at two of our third
party contract manufacturers. The short supply situation has
been resolved. As of December 31, 2002 we were unable to
supply Inulin due to the failure of the product to meet certain
specifications. We cannot guarantee that we will not have supply
interruptions in the future for Ethamolin and Acthar or any of
our current or future products. Failure to obtain products for
sale for any reason may result in an inability to meet product
demand and a loss of potential revenues.

If we lose the services of certain key
personnel or are unable to hire skilled personnel in the future,
our business will be harmed.

We are highly dependent on the services of
Charles J. Casamento, Chairman, President, and Chief
Executive Officer, Timothy E. Morris, Vice President of
Finance and Administration and Chief Financial Officer, and
Kenneth R. Greathouse, Vice President of Commercial
Operations. If we were to lose either Mr. Casamento,
Mr. Morris or Mr. Greathouse as employees, our
business could be harmed. Moreover, we do not carry key person
life insurance for our senior management or other personnel.
Additionally, the future potential growth and expansion of our
business is expected to place increased demands on our
management skills and resources. Although only minor increases
in staffing levels are expected during 2003, recruiting and
retaining management and operational personnel to perform sales
and marketing, business development, regulatory affairs, medical
affairs and contract manufacturing in the future will also be
critical to our success. We do not know if we will be able to
attract and retain skilled and experienced management and
operational personnel in the future on acceptable terms given
the intense competition among numerous pharmaceutical and
biotechnology companies, universities and other research
institutions for such personnel. If we are unable to hire
necessary skilled personnel in the future, our business could be
harmed.

Our products in the development stage may not
be accepted by the market, which may result in lower future
revenues as well as a decline in our competitive
positioning.

Emitasol, an intranasal medication used to treat
nausea and vomiting, is in the development stage. Emitasol could
be developed for two indications: a decreased movement of the
stomach region in diabetics

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causing fullness, bloating and nausea, known as
diabetic gastroparesis, and delayed onset emesis, the vomiting
associated with cancer chemotherapy patients occurring the day
after and beyond the chemotherapy treatment. The diabetic
gastroparesis drug candidate was being developed in
collaboration with a subsidiary of Shire Pharmaceutical Group
plc in the U.S. and had completed a Phase II clinical trial
in patients with diabetic gastroparesis. With the expiration in
July 2001 of the exclusive option to develop Emitasol held by
Shire, development of Emitasol under this collaboration stopped.
Further development of Emitasol is on hold pending our entering
into an agreement with a future partner to fund the development
of Emitasol. We also have intranasal drug candidates, Panistat
for the management of panic disorders, and Hypnostat for the
treatment of insomnia, which have now been licensed to Fabre
Kramer. There is no guarantee that any of these drugs will
successfully complete the additional clinical testing needed to
obtain FDA approval. Clinical trial results are frequently
susceptible to varying interpretations by scientists, medical
personnel, regulatory personnel, statisticians and others, which
may delay, limit or prevent further clinical development or
regulatory approvals of a product candidate. Also, the length of
time that it takes for our partners to complete clinical trials
and obtain regulatory approval for product marketing can vary by
product and by the indicated use of a product. If one or more of
these drugs fail to successfully pass Phase III testing, we
would be unable to market or sell the product, which could
result in lower future revenues as well as a decline in our
competitive positioning.


Additionally, our commercial products and any
products that we successfully develop, if approved for
marketing, may never achieve market acceptance. These products,
if successfully developed, will compete with drugs and therapies
manufactured and marketed by major pharmaceutical and other
biotechnology companies. Physicians, patients or the medical
community in general may not accept and utilize the products
that we may develop or that our corporate partners may develop.

The degree of market acceptance of any products
that we develop will depend on a number of factors, including:



| |   |                                                                                                       
| | - | ------------------------------------------------------------------------------------------------------
| |  | the establishment and demonstration of the
    clinical efficacy and safety of the product candidates,
|
| |  | their potential advantage over alternative
    treatment methods and competing products,              
|
| |  | reimbursement policies of government and
    third-party payors, and                                  
|
| |  | our ability to market and promote the products
    effectively.                                       

The failure of our products to achieve market
acceptance may result in lower future revenues as well as a
decline in our competitive positioning.

A large percentage of our common stock is
beneficially owned by one shareholder and its affiliates, who in
the future could attempt to take over control of our management
and operations or exercise voting power to advance their own
best interests and not necessarily those of other
shareholders.

Sigma-Tau Finanziaria S.p.A. and its affiliates
(Sigma-Tau) beneficially own, directly or
indirectly, approximately 31% of the voting power of our
outstanding voting capital stock, and they beneficially own,
including shares of our common stock issuable upon conversion of
a convertible debenture and exercise of warrants, approximately
39% of our outstanding common stock, as of March 17, 2003.
Accordingly, these shareholders may control the outcome of
certain shareholder votes, including votes concerning the
election of directors, the adoption or amendment of provisions
in our Articles of Incorporation, and the approval of mergers
and other significant corporate transactions. This level of
concentrated ownership may, at a minimum, have the effect of
delaying or preventing a change in the management or voting
control of us by a third party. It may also place us in the
position of having our large shareholder take control of us and
having new management inserted and new objectives adopted.

On January 17, 2003, Sigma-Tau requested
that we increase the size of our Board of Directors by two, with
such directors to be nominated by Sigma-Tau and elected by our
Board of Directors as soon as possible. Sigma-Tau subsequently
rescinded this request. On March 11, 2003, Sigma-Tau
indicated that they have determined to sell all or a portion of
the shares of our common stock that they currently own. They
further

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indicated that such sales, if they occur, will be
through open market transactions or privately negotiated, and
will depend on prevailing market conditions at time of sale.
Such sales, if they occur, could have a depressing effect on the
market price of our common stock.


If competitors develop and market products
that are more effective than ours, our commercial opportunity
will be reduced or eliminated.

The pharmaceutical and biotechnology industries
are intensely competitive and subject to rapid and significant
technological change. A number of companies are pursuing the
development of pharmaceuticals and products which target the
same diseases and conditions that we will target. For example,
there are products on the market that compete with Acthar,
Ethamolin, Glofil-125, Inulin, and VSL#3. Moreover, technology
controlled by third parties that may be advantageous to our
business may be acquired or licensed by competitors of ours,
preventing us from obtaining this technology on favorable terms,
or at all.

Our ability to compete will depend on our ability
to create and maintain scientifically advanced technology, and
to develop, acquire and commercialize pharmaceutical products
based on this technology, as well as our ability to attract and
retain qualified personnel, obtain patent protection, or
otherwise develop proprietary technology or processes, and
secure sufficient capital resources for the expected substantial
time period between technological conception and commercial
sales of products based upon our technology.

Acthar is currently used in patients suffering
from arthritis, multiple sclerosis, and infantile spasm. Acthar
may be challenged by newer agents, such as synthetic
corticosteriods, immune system suppressants known as
immunosuppressants, and anti-seizure medications (in the case of
infantile spasms) and other types of anti-inflammatory products
for various autoimmune conditions that have inflammation as a
clinical aspect of the disease Several companies may offer
sclerotherapy agents (chemicals injected into varicose veins
that damage and scar the inside lining of the vein, causing it
to close) that compete with Ethamolin. Other competitive agents
include ScleromateTM (an injectable agent used to
treat varicose veins and spider veins), Rubber Band Ligation
methods (procedures in which bleeding esophageal varices are
tied off at their base with rubber bands, cutting off the blood
flow) such as the Multi-band Superview manufactured by
Boston-Scientific, the Multi-band Six Shooter manufactured by
Wilson-Cook, and the Multi-band Ligator manufactured by Bard.
Other products may reduce the number of bleeding esophageal
varices by lowering portal hypertension, such as
Sandostatin® manufactured by Novartis. The competition to
market FDA-approved active bleeding esophageal varices therapies
is intense.

There are numerous products that may be viewed as
competitors to Glofil-125. These include intrinsic tests, such
as serum creatinine tests and creatinine clearance tests, both
used to measure how quickly the kidneys are able to clear
creatinine, an endogenously produced natural chemical, from the
blood. Extrinsic tests use such products as Tc-DTPA,
manufactured by Mallinckrodt, Inc., Omnipaque® (an
injectable contrast media agent), manufactured by Sanofi, a
division of Sanofi-Synthelabo, and Conray®-iothalamate
meglumine (another injectable contrast medium), manufactured by
Mallinckrodt, Inc. There is intense competition among both FDA
and non-FDA approved products to measure kidney function.

Virtually any number of manufacturers of
probiotics may be considered competitors to VSL#3. Among the
most notable are CulturelleTM by ConAgra and
Probiotica by Johnson and Johnson.

Several large companies products will
compete with Emitasol in the delayed onset emesis market,
including Zofran® (a medication used to prevent and treat
chemotherapy induced nausea and vomiting) by Glaxo-Wellcome,
Kytril® (a medication used to prevent and treat
chemotherapy induced nausea and vomiting) by SmithKline Beecham
and Reglan® (a medication used to prevent and treat
chemotherapy induced nausea and vomiting) by A.H. Robins.
These competitive products, however, are currently available in
oral and intravenous delivery forms only. Additionally, on
March 6, 2003, FDAs Gastrointestinal Drugs Advisory
Committee recommended that the FDA approve Mercks Emend
(aprepitant) with 5-HT3 antagonist for various indications
including delayed onset emesis. The competition to develop
FDA-approved drugs for delayed onset emesis and diabetic
gastroparesis is intense.

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Many of the companies developing competing
technologies and products have significantly greater financial
resources and expertise in development, manufacturing, obtaining
regulatory approvals, and marketing than we do. Other smaller
companies may also prove to be significant competitors,
particularly through collaborative arrangements with large and
established companies. Academic institutions, government
agencies and other public and private research organizations may
also seek patent protection and establish collaborative
arrangements for clinical development, manufacturing, and
marketing of products similar to ours. These companies and
institutions will compete with us in recruiting and retaining
qualified sales and marketing and management personnel, as well
as in acquiring technologies complementary to our programs. We
will face competition with respect to:



| |   |                                                                                
| | - | -------------------------------------------------------------------------------
| |  | product efficacy and safety,                                                   
|
| |  | the timing and scope of regulatory approvals,                                  
|
| |  | availability of resources,                                                     
|
| |  | price, and                                                                     
|
| |  | patent position, including potentially dominant
    patent positions of others.

If our competitors succeed in developing
technologies and drugs that are more effective or less costly
than any that we are developing, our technology and future drugs
may be rendered obsolete and noncompetitive. In addition, our
competitors may succeed in obtaining the approval of the FDA or
other regulatory approvals for drug candidates more rapidly than
we will. Companies that complete clinical trials, obtain
required regulatory agency approvals and commence commercial
sale of their drugs before their competitors may achieve a
significant competitive advantage, including patent and FDA
marketing exclusivity rights that would delay our ability to
market specific products. We do not know if drugs resulting from
the joint efforts of our existing or future collaborative
partner will be able to compete successfully with our
competitors existing products or products under
development or whether we will obtain regulatory approval in the
U.S. or elsewhere.

We face possible delisting from the American
Stock Exchange that would result in a limited public market for
our common stock.

We have fallen below certain of the American
Stock Exchanges (AMEX) continued listing
standards and have therefore become subject to possible
delisting. Specifically, on August 9, 2002, we received
notification from AMEX that we have fallen below the standards
set forth in the AMEX Guide Section 1003(a)(i) by having
(1) stockholders equity of less than $2,000,000 and
losses from continuing operations in the last two fiscal years
and (2) stockholders equity of less than $4,000,000
and losses from continuing operations in the last three fiscal
years. The notification provided that we could submit a plan to
AMEX by September 10, 2002 advising it of the measures we
intended to take in order to bring us into compliance with
AMEXs continuing listing standards. We submitted such a
plan of compliance to the AMEX on September 10, 2002. On
October 15, 2002, the AMEX notified us that it had
completed its review of our plan of compliance and determined
that, in accordance with Section 1009 of the AMEX Company
Guide, the plan made a reasonable demonstration of our ability
to regain compliance with the continued listing standards within
eighteen months. We will be subject to periodic review by the
AMEX staff during the eighteen month extension period during
which period we are required to make progress consistent with
our plan and to ultimately comply with the continued listing
standards. If we are delisted from AMEX, the public market for
our common stock would be limited. In January 2003 we completed
a $10 million private placement of Series B
convertible preferred stock. We believe that this placement may
increase our net equity and increase our chances of regaining
compliance with the AMEX listing requirements.

If we fail to maintain or enter into new
contracts related to collaborations and in-licensed or acquired
technology and products, our product development and
commercialization could be delayed.

Our business model has been dependent on our
ability to enter into licensing and acquisition arrangements
with commercial or academic entities to obtain technology for
commercialization or marketed products. If we are unable to
enter into any new agreements in the future, our development and
commercialization

21



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efforts will be delayed. Disputes may arise
regarding the inventorship and corresponding rights in
inventions and know-how resulting from the joint creation or use
of intellectual property by us and our licensors or scientific
collaborators. We may not be able to negotiate additional
license and acquisition agreements in the future on acceptable
terms, if at all. In addition, current license and acquisition
agreements may be terminated, and we may not be able to maintain
the exclusivity of our exclusive licenses.


If collaborators do not commit sufficient
development resources, technology, regulatory expertise,
manufacturing, marketing and other resources towards developing,
promoting and commercializing products incorporating our
discoveries, the development of our licensed products progress
will be stalled. Further, competitive conflicts may arise among
these third parties that could prevent them from working
cooperatively with us. The amount and timing of resources
devoted to these activities by the parties could depend on the
achievement of milestones by us and otherwise generally may be
controlled by other parties. In addition, we expect that our
agreements with future collaborators will likely permit the
collaborators to terminate their agreements upon written notice
to us. This type of termination would substantially reduce the
likelihood that the applicable research program or any lead
candidate or candidates would be developed into a drug
candidate, would obtain regulatory approvals and would be
manufactured and successfully commercialized.

If none of our collaborations are successful in
developing and commercializing products, or if we do not receive
milestone payments or generate revenues from royalties
sufficient to offset our significant investment in product
development and other costs, then our business could be harmed.
Disagreements with our collaborators could lead to delays or
interruptions in, or termination of, development and
commercialization of certain potential products or could require
or result in litigation or arbitration, which could be
time-consuming and expensive and may result in lost revenues and
substantial legal costs which could negatively impact our
results from operations. In addition, if we are unable to
acquire new marketed products on a timely basis at appropriate
purchase price and terms, we may not reach profitability and may
not generate sufficient cash to fund operations.

If we are unable to settle the dispute
surrounding our collaboration agreement with Shire
Pharmaceuticals Group plc, we may incur increased legal
and/or litigation expenses and lost revenues from delays in the
commercialization of Emitasol.

Under a collaboration agreement between Shire
(after its acquisition of Roberts Pharmaceuticals) and us, Shire
had the option to acquire exclusive North American rights to
Emitasol. This option expired in July 2001. Under that
collaboration agreement, we were obligated to fund one-half of
the clinical development expenses for Emitasol up to an
aggregate of $7 million. Through December 31, 2002, we
have made development payments for Emitasol, under the terms of
the agreement with Shire, totaling $4.6 million, which
consists of $4.1 million paid to Shire and approximately
$500,000 paid to other parties for allowable expenses, including
patent and trademark costs.

Shire asserts we owe $348,000 in development
expenses incurred by it under the collaboration agreement prior
to the expiration of the option. We have requested that Shire
return certain items to us, including the manufacturing and
clinical data it obtained over the course of the agreement, the
transfer of the INDs relating to Emitasol (which is
substantially complete) and the assignment of the intellectual
property relating to Emitasol generated in the course of the
development program. While Shire has returned some of these
items, we are still in discussion with them as to the resolution
of other open items. The failure to quickly resolve any open
items on favorable terms relating to this collaboration could
result in difficulties finding a new partner to continue the
development of Emitasol. Additionally, Shire beneficially owns
all 2,155,715 shares of our Series A preferred stock
outstanding, representing approximately 4.30% of the voting
power of our outstanding voting capital stock as of
March 17, 2003. If we are unable to settle our
disagreements with Shire quickly, we may end up in a protracted
contract dispute with this major shareholder, which may result
in increased legal fees, delayed commercialization of Emitasol
and lost revenues from the sale of Emitasol.

22



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If we are unable to protect our proprietary
rights, we may lose our competitive position and future
revenues.

Our success will depend in part on our ability to:



| |   |                                                                          
| | - | -------------------------------------------------------------------------
| |  | obtain patents for our products and technologies,                        
|
| |  | protect trade secrets,                                                   
|
| |  | operate without infringing upon the proprietary
    rights of others, and
|
| |  | prevent others from infringing on our proprietary
    rights.            

We will only be able to protect our proprietary
rights from unauthorized use by third parties to the extent that
these rights are covered by valid and enforceable patents or are
effectively maintained as trade secrets and are otherwise
protectable under applicable law. We will attempt to protect our
proprietary position by filing U.S. and foreign patent
applications related to our proprietary products, technology,
inventions and improvements that are important to the
development of our business.

The patent positions of biotechnology and
biopharmaceutical companies involve complex legal and factual
questions and, therefore, enforceability cannot be predicted
with certainty. Patents, if issued, may be challenged,
invalidated or circumvented. Thus, any patents that we own or
license from third parties may not provide any protection
against competitors. Pending patent applications we may file in
the future, or those we may license from third parties, may not
result in patents being issued. Also, patent rights may not
provide us with proprietary protection or competitive advantages
against competitors with similar technology. Furthermore, others
may independently develop similar technologies or duplicate any
technology that we have developed or we will develop. The laws
of some foreign countries may not protect our intellectual
property rights to the same extent as do the laws of
the U.S.

In addition to patents, we rely on trade secrets
and proprietary know-how. We currently seek protection, in part,
through confidentiality and proprietary information agreements.
These agreements may not provide meaningful protection or
adequate remedies for proprietary technology in the event of
unauthorized use or disclosure of confidential and proprietary
information. The parties may not comply or may breach these
agreements. Furthermore, our trade secrets may otherwise become
known to, or be independently developed by competitors.

Our success will further depend, in part, on our
ability to operate without infringing the proprietary rights of
others. If our activities infringe on patents owned by others,
we could incur substantial costs in defending ourselves in suits
brought against a licensor or us. Should our products or
technologies be found to infringe on patents issued to third
parties, the manufacture, use and sale of our products could be
enjoined, and we could be required to pay substantial damages.
In addition, we, in connection with the development and use of
our products and technologies, may be required to obtain
licenses to patents or other proprietary rights of third
parties, which may not be made available on terms acceptable to
us, if at all.

Since we must obtain regulatory approval to
market our products in the United States and in foreign
jurisdictions, we cannot predict whether or when we will be
permitted to commercialize our products.

Any products that we develop are subject to
regulation by federal, state and local governmental authorities
in the U.S., including the FDA, and by similar agencies in other
countries. Any product that we develop must receive all relevant
regulatory approvals or clearances before it may be marketed in
a particular country. The regulatory process, which includes
extensive pre-clinical studies and clinical trials of each
product to establish its safety and efficacy, is uncertain, can
take many years and requires the expenditure of substantial
resources. Data obtained from pre-clinical and clinical
activities are susceptible to varying interpretations which
could delay, limit or prevent regulatory approval or clearance.
In addition, delays or rejections may be encountered based upon
changes in regulatory policy during the period of product

23



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development and the period of review of any
application for regulatory approval or clearance for a product.
Delays in obtaining regulatory approvals or clearances could:




| |   |                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------
| |  | stall the marketing, selling and distribution of
    any products that our corporate partners or we develop,
|
| |  | impose significant additional costs on our
    corporate partners and us,                                   
|
| |  | diminish any competitive advantages that we or
    our corporate partners may attain, and                   
|
| |  | decrease our ability to receive royalties and
    generate revenues and profits.                            

Regulatory approval, if granted, may entail
limitations on the indicated uses for which a new product may be
marketed that could limit the potential market for the product.
Product approvals, once granted, may be withdrawn if problems
occur after initial marketing. Furthermore, manufacturers of
approved products are subject to pervasive review, including
compliance with detailed regulations governing FDA good
manufacturing practices. The FDA has recently revised the good
manufacturing practices regulations. Failure to comply with
applicable regulatory requirements can result in warning
letters, fines, injunctions, civil penalties, recall or seizure
of products, total or partial suspension of production, refusal
of the government to grant marketing applications and criminal
prosecution.

In addition, we cannot predict the extent of
government regulations or the impact of new governmental
regulations that may result in the delay in the development,
production and marketing of our products. As such, we may be
required to incur significant costs to comply with current or
future laws or regulations. For example, successful late stage
Phase III clinical trials for such potentially important
treatments such as diabetic gastroparesis and delayed onset
emesis may require the enrollment of many patients. Together,
the costs of these trials, if funded solely by us, could exceed
our current financial resources.

Our ability to generate revenues is affected
by the availability of reimbursement on our products, and our
ability to generate revenues will be diminished if we fail to
obtain an adequate level of reimbursement for our products from
third party payors.

In both domestic and foreign markets, sales of
our products will depend in part on the availability of
reimbursement from third-party payors such as state and federal
governments (for example, under Medicare and Medicaid programs
in the U.S.) and private insurance plans. Because of
VSL#3s non-prescription status, it is not widely covered
by third party payors. In certain foreign markets, the pricing
and profitability of our products generally are subject to
government controls. In the U.S., there have been, and we expect
there will continue to be, a number of state and federal
proposals that limit the amount that state or federal
governments will pay to reimburse the cost of drugs. In
addition, we believe the increasing emphasis on managed care in
the U.S. has and will continue to put pressure on the price and
usage of our products, which may impact product sales. Further,
when a new therapeutic is approved, the reimbursement status and
rate of such a product is uncertain. In addition, current
reimbursement policies for existing products may change at any
time. Changes in reimbursement or our failure to obtain
reimbursement for our products may reduce the demand for, or the
price of, our products, which could result in lower product
sales or revenues, thereby weakening our competitive position
and negatively impacting our results of operations.

In the U.S., proposals have called for
substantial changes in the Medicare and Medicaid programs. If
such changes are enacted, they may require significant
reductions from currently projected government expenditures for
these programs. Driven by budget concerns, Medicaid managed care
systems have been implemented in several states and local
metropolitan areas. If the Medicare and Medicaid programs
implement changes that restrict the access of a significant
population of patients to its innovative medicines, the market
acceptance of these products may be reduced.

To facilitate the availability of our products
for Medicaid patients, we have contracted with the Center for
Medicare and Medicaid Services. As a result, we pay quarterly
rebates consistent with the utilization of our products by
individual states. We also must give discounts under contract on
purchases or reimbursements of pharmaceutical products by
certain other federal and state agencies and programs. If these
discounts and

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rebates become burdensome to us and we are not
able to sell our products through these channels, our net sales
could decline.


Our stock price has a history of volatility,
and an investment in our stock could decline in value.

The price of our stock, like that of other
specialty pharmaceutical companies, is subject to significant
volatility. Our stock price has ranged in value from $5.25 to
$0.43 over the last three years. Any number of events, both
internal and external to us, may continue to affect our stock
price. These include, without limitation, the quarterly and
yearly revenues and earnings/losses, our ability to acquire and
market appropriate pharmaceuticals, results of clinical trials
conducted by us, our partners or by our competitors;
announcement by us or our competitors regarding product
development efforts, including the status of regulatory approval
applications; the outcome of legal proceedings, including claims
filed by us against third parties to enforce our patents and
claims filed by third parties against us relating to patents
held by the third parties; the launch of competing products; the
resolution of (or failure to resolve) disputes with
collaboration partners and corporate restructuring by us.

If product liability lawsuits are successfully
brought against us or we become subject to other forms of
litigation, we may incur substantial liabilities and costs and
may be required to limit commercialization of our
products.

Our business will expose us to potential
liability risks that are inherent in the testing, manufacturing
and marketing of pharmaceutical products. The use of any drug
candidates ultimately developed by us or our collaborators in
clinical trials may expose us to product liability claims and
possible adverse publicity. These risks will expand for any of
our drug candidates that receive regulatory approval for
commercial sale and for those products we currently market.
Product liability insurance for the pharmaceutical industry is
generally expensive, if available at all. We currently have
product liability insurance for claims up to $10,000,000.
However, if we are unable to maintain insurance coverage at
acceptable costs, in a sufficient amount, or at all, or if we
become subject to a product liability claim, our reputation,
stock price and ability to devote the necessary resources to the
commercialization of our products could be negatively impacted.






|        |           
|------- | ----------
|Item 2. | Properties

At December 31, 2002, we leased four
buildings. Our headquarters, which includes the Executive,
Finance and Administration, Sales and Marketing, Medical and
Regulatory Affairs departments, are located in Union City,
California. Our headquarters building has 23,000 square
feet of office space, under a 10-year lease agreement. We are
subleasing 100% of a building in Hayward, California under a
sublease agreement that expires in 2006. The Hayward premises
has 30,000 square feet of laboratory and office space,
under a master lease that expires in November 2012. While we
anticipate that the sublessee will fulfill the term of the
sublease agreement, if they were to default, it would have a
negative impact on us as we would still be obligated to make
rent payments on the Hayward facility. We classify both the
rental income and expense related to this facility as rental
income, net.

We lease a building in Carlsbad, California. Our
distribution, contract manufacturing, quality control and
quality assurance functions are located in this facility of
8,203 square feet of space located at 2714 Loker
Avenue West. This lease commenced in November 2000 and has a
term of 63 months. In April 1997, we subleased our other
building in Carlsbad located at 2732 Loker Avenue West to
another pharmaceutical company. The lease on the 2732 Loker
Avenue West property commenced in December 1993 and had a term
of 81 months. Both leases have clauses providing for rent
increases at various points in time during the terms of the
leases. The subtenants lease covered the remainder of our
original lease term plus a 36-month option, and the
subtenants rental payments to us exceeded our rental
payments to the landlord. In addition, the sublease provide for
annual rent increases. Effective February 1, 2001, the
sub-lease at 2732 Loker Avenue was assigned to the landlord
and the master lease was terminated.

In May 2001, we closed our Neoflo manufacturing
facility located in Lees Summit, Missouri. The lease
period ends in December 2004. We closed this facility in May
2001 and are currently seeking a sublessee for

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##### Table of Contents



this facility. See further discussion under
Item 7, Managements Discussion and Analysis of
Financial Condition and Results of Operations.







|        |                  
|------- | -----------------
|Item 3. | Legal Proceedings

None.






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

No matters were submitted to a vote of security
holders for the quarter ended December 31, 2002.




PART II






|        |                                                                          
|------- | -------------------------------------------------------------------------
|Item 5. | Market for Registrants Common Equity
    and Related Shareholder Matters

We are listed on the American Stock Exchange,
Inc. From January 1998 to November 1999 we were traded under the
symbol CYP. On November 17, 1999, we changed
our name to Questcor Pharmaceuticals, Inc. and began trading
under the symbol QSC.

The following table sets forth, for the periods
presented, the high and low closing price per share of our
common stock.

|                   |  |               |      |     |  |   |      | 
|------------------ |  | ------------- | ---- | --- |  | - | ---- | 
|                   |  |              
|                   |  | Common Stock 
|                   |  | Closing Price
|                   |  |              
|Quarter Ended      |  | High          |      | Low
|                   |  |               |      |    
|December 31, 2002  |  | $             | 1.16 |     |  | $ | 0.90 | 
|September 30, 2002 |  |               | 1.35 |     |  |   | 0.89 | 
|June 30, 2002      |  |               | 2.01 |     |  |   | 1.28 | 
|March 31, 2002     |  |               | 2.18 |     |  |   | 1.29 | 
|                  
|December 31, 2001  |  | $             | 2.16 |     |  | $ | 0.85 | 
|September 30, 2001 |  |               | 1.53 |     |  |   | 0.55 | 
|June 30, 2001      |  |               | 1.00 |     |  |   | 0.43 | 
|March 31, 2001     |  |               | 1.00 |     |  |   | 0.58 | 

The last sale price of our common stock on
March 17, 2003 was $0.78. As of March 17, 2003 there
were approximately 270 holders of record of our common
stock.

We have never paid a cash dividend on our common
stock. Our dividend policy is to retain our earnings, if we
achieve positive earnings and to support the expansion of our
operations. Our Board of Directors does not intend to pay cash
dividends on our common stock in the foreseeable future. Any
future cash dividends will depend on future earnings, capital
requirements, our financial condition and other factors deemed
relevant by our Board of Directors.

26



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##### Table of Contents








|        |                                         
|------- | ----------------------------------------
|Item 6. | Selected Consolidated Financial
    Data

The following table sets forth certain financial
data with respect to our business. The selected consolidated
financial data should be read in conjunction with our
Consolidated Financial Statements (including the Notes thereto)
and Managements Discussion and Analysis of Financial
Condition and Results of Operations appearing elsewhere in
this Form 10-K.

|                                           |                                                                            |                                       |   |             |   |                      |   |         |   |      |   |         |   |  |   |         |   |  |   |        |   |  |   |        |  
|------------------------------------------ | -------------------------------------------------------------------------- | ------------------------------------- | - | ----------- | - | -------------------- | - | ------- | - | ---- | - | ------- | - |  | - | ------- | - |  | - | ------ | - |  | - | ------ | -
|                                           |                                                                            |                                       |   | Five Months |   |                     
|                                           |                                                                            | Years Ended December 31,              |   | Ended       |   | Years Ended July 31,
|                                           |                                                                            |                                       |   | December 31 |   |                     
|                                           |                                                                            | 2002(2)                               |   | 2001        |   | 2000                 |   | 1999(1) |   | 1999 |   | 1998   
|                                           |                                                                            |                                       |   |             |   |                      |   |         |   |      |   |        
|                                           |                                                                            |                                      
|                                           |                                                                            | (In thousands, except per share data)
|Consolidated Statement of Operations Data: |                                                                            |                                       |   |             |   |                      |   |         |   |      |   |         |   |  |   |         |   |  |   |        |   |  |   |       
|                                           | Net product sales                                                          |                                       | $ | 13,819      |   |                      | $ | 5,196   |   |      | $ | 2,134   |   |  | $ | 624     |   |  | $ | 2,518  |   |  | $ | 3,446  |  
|                                           | Total revenues                                                             |                                       |   | 14,677      |   |                      |   | 5,667   |   |      |   | 3,594   |   |  |   | 956     |   |  |   | 2,569  |   |  |   | 3,616  |  
|                                           | Total operating cost and expenses                                          |                                       |   | 17,080      |   |                      |   | 15,050  |   |      |   | 17,752  |   |  |   | 23,257  |   |  |   | 10,026 |   |  |   | 9,910  |  
|                                           | Loss from operations                                                       |                                       |   | (2,403      | ) |                      |   | (9,383  | ) |      |   | (14,158 | ) |  |   | (22,301 | ) |  |   | (7,457 | ) |  |   | (6,294 | )
|                                           | Net loss                                                                   |                                       |   | (2,785      | ) |                      |   | (8,697  | ) |      |   | (13,762 | ) |  |   | (22,210 | ) |  |   | (6,784 | ) |  |   | (5,573 | )
|                                           | Net loss per common share  basic and
    diluted                          |                                       |   | (0.07       | ) |                      |   | (0.28   | ) |      |   | (0.56   | ) |  |   | (1.22   | ) |  |   | (0.43  | ) |  |   | (0.37  | )
|                                           | Shares used in computing net loss per common
    share  basic and diluted |                                       |   | 38,407      |   |                      |   | 31,425  |   |      |   | 24,722  |   |  |   | 18,240  |   |  |   | 15,712 |   |  |   | 15,187 |  

|                                 |                                                                                                                                          |                |   |          |   |      |   |         |   |      |   |         |   |  |   |         |   |  |   |         |   |  |   |         |  
|-------------------------------- | ---------------------------------------------------------------------------------------------------------------------------------------- | -------------- | - | -------- | - | ---- | - | ------- | - | ---- | - | ------- | - |  | - | ------- | - |  | - | ------- | - |  | - | ------- | -
|                                 |                                                                                                                                          |                |   |         
|                                 |                                                                                                                                          | December 31,   |   | July 31,
|                                 |                                                                                                                                          |                |   |         
|                                 |                                                                                                                                          | 2002           |   | 2001     |   | 2000 |   | 1999    |   | 1999 |   | 1998   
|                                 |                                                                                                                                          |                |   |          |   |      |   |         |   |      |   |        
|                                 |                                                                                                                                          |               
|                                 |                                                                                                                                          | (In thousands)
|Consolidated Balance Sheet Data: |                                                                                                                                          |                |   |          |   |      |   |         |   |      |   |         |   |  |   |         |   |  |   |         |   |  |   |        
|                                 | Cash, cash equivalents and short-term investments
    (includes $5 million compensating balance at
    December 31, 2001, 2000 and 1999) |                | $ | 7,506    |   |      | $ | 10,571  |   |      | $ | 8,151   |   |  | $ | 21,699  |   |  | $ | 7,263   |   |  | $ | 13,445  |  
|                                 | Working capital                                                                                                                          |                |   | 7,018    |   |      |   | 2,659   |   |      |   | 1,261   |   |  |   | 16,943  |   |  |   | 5,261   |   |  |   | 13,379  |  
|                                 | Total assets                                                                                                                             |                |   | 12,766   |   |      |   | 14,946  |   |      |   | 14,848  |   |  |   | 32,221  |   |  |   | 13,140  |   |  |   | 19,736  |  
|                                 | Long-term obligations                                                                                                                    |                |   | 2,908    |   |      |   | 122     |   |      |   | 548     |   |  |   | 6,078   |   |  |   | 147     |   |  |   | 217     |  
|                                 | Preferred stock                                                                                                                          |                |   | 5,081    |   |      |   | 5,081   |   |      |   | 5,081   |   |  |   | 5,081   |   |  |   |        |   |  |   |        |  
|                                 | Common stock                                                                                                                             |                |   | 77,528   |   |      |   | 74,018  |   |      |   | 66,152  |   |  |   | 65,423  |   |  |   | 41,497  |   |  |   | 41,328  |  
|                                 | Accumulated deficit                                                                                                                      |                |   | (76,968  | ) |      |   | (74,183 | ) |      |   | (65,486 | ) |  |   | (51,724 | ) |  |   | (29,514 | ) |  |   | (22,730 | )
|                                 | Total stockholders equity (deficit)                                                                                                     |                |   | 496      |   |      |   | (300    | ) |      |   | 927     |   |  |   | 13,626  |   |  |   | 11,914  |   |  |   | 18,511  |  



---



|    |                                                                                                                                                                                                                                                                                 
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Includes the results of operations of RiboGene,
    Inc. from November 17, 1999 through December 31, 1999,
    including a one-time charge for restructuring costs of
    $1.5 million and a charge of $15.2 million for
    acquired in process research and development costs.
|   
|(2) | Effective January 1, 2002, we adopted
    Statement of Financial Accounting Standards, or SFAS 141
    Business Combinations and SFAS 142
    Goodwill and Other Intangible Assets. See
    Note 1 to the Consolidated Financial Statements.                                

27



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##### Table of Contents



QUARTERLY FINANCIAL INFORMATION
(UNAUDITED)

|                      |  |                                       |       |          |  |          |       |          |  |   |        |   |  |   |       |  
|--------------------- |  | ------------------------------------- | ----- | -------- |  | -------- | ----- | -------- |  | - | ------ | - |  | - | ----- | -
|                      |  |                                      
|                      |  | Quarter Ended                        
|                      |  |                                      
|                      |  | 12/31/02                              |       | 09/30/02 |  | 06/30/02 |       | 03/31/02
|                      |  |                                       |       |          |  |          |       |         
|                      |  |                                      
|                      |  | (In thousands, except per share data)
|Net product sales     |  | $                                     | 2,934 |          |  | $        | 3,772 |          |  | $ | 3,307  |   |  | $ | 3,806 |  
|Total Revenues        |  |                                       | 3,234 |          |  |          | 3,848 |          |  |   | 3,741  |   |  |   | 3,854 |  
|Cost of product sales |  |                                       | 689   |          |  |          | 881   |          |  |   | 728    |   |  |   | 634   |  
|Net loss              |  |                                       | (355  | )        |  |          | (995  | )        |  |   | (1,103 | ) |  |   | (332  | )
|Net loss per share    |  |                                       | (0.01 | )        |  |          | (0.03 | )        |  |   | (0.03  | ) |  |   | (0.01 | )

|                      |  |                                       |        |          |  |          |        |          |  |   |        |   |  |   |        |  
|--------------------- |  | ------------------------------------- | ------ | -------- |  | -------- | ------ | -------- |  | - | ------ | - |  | - | ------ | -
|                      |  |                                      
|                      |  | Quarter Ended                        
|                      |  |                                      
|                      |  | 12/31/01                              |        | 09/30/01 |  | 06/30/01 |        | 03/31/01
|                      |  |                                       |        |          |  |          |        |         
|                      |  |                                      
|                      |  | (In thousands, except per share data)
|Net product sales     |  | $                                     | 2,266  |          |  | $        | 1,258  |          |  | $ | 971    |   |  | $ | 701    |  
|Total Revenues        |  |                                       | 2,297  |          |  |          | 1,321  |          |  |   | 1,033  |   |  |   | 1,016  |  
|Cost of product sales |  |                                       | 594    |          |  |          | 432    |          |  |   | 448    |   |  |   | 504    |  
|Net loss              |  |                                       | (2,566 | )        |  |          | (2,262 | )        |  |   | (1,997 | ) |  |   | (1,872 | )
|Net loss per share    |  |                                       | (0.07  | )        |  |          | (0.07  | )        |  |   | (0.07  | ) |  |   | (0.07  | )

Certain amounts have been reclassified to conform
with current year presentation of annual financial statements.
The amounts reclassified from research and development to cost
of product sales totaled, in the aggregate, $443,000 for the
quarters ended March 31, 2002, June 30, 2002 and
September 30, 2002 and $495,000 for the year ended
December 31, 2001.






|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|Item 7. | Managements Discussion and Analysis
    of Financial Condition and Results of Operations

Except for the historical information contained
herein, the following discussion contains forward-looking
statements that involve risks and uncertainties, including
statements regarding the period of time during which our
existing capital resources and income from various sources will
be adequate to satisfy its capital requirements. Our actual
results could differ materially from those discussed herein.
Factors that could cause or contribute to such differences
include, but are not limited to, those discussed in this
section, as well as Item 1 Business of
Questcor, including without limitation Risk
Factors, as well as those discussed in any documents
incorporated by reference herein or therein.

We are a specialty pharmaceutical company that
markets and sells brand name prescription drugs and ethically
promoted healthcare products. We focus on the treatment of acute
and critical care conditions, including central nervous system
diseases and gastroenterological disorders. Our strategy is to
acquire pharmaceutical products that other companies do not
actively market that we believe have sales growth potential, are
promotion sensitive and complement our existing products. In
addition, through corporate collaborations, we intend to develop
new patented intranasal formulations of previously FDA approved
drugs. We currently market five products in the U.S.: HP
Acthar® Gel (Acthar), an injectable drug
that is commonly used in treating patients with infantile spasm,
and is approved for the treatment of certain CNS disorders with
an inflammatory component including the treatment of flares
associated with multiple sclerosis.; Ethamolin®, an
injectable drug used to treat enlarged weakened blood vessels at
the entrance to the stomach that have recently bled, known as
esophageal varices; Glofil®-125 and Inulin in Sodium
Chloride, which are both injectable agents that assess how well
the kidney is working by measuring glomerular filtration rate,
or kidney function; and VSL#3TM, a patented probiotic
marketed as a dietary supplement, to promote normal
gastrointestinal (GI) function. Probiotics are living
organisms in food and dietary supplements, which, upon ingestion
in certain numbers, improve the health of the host beyond their
inherent basic nutrition.

Consistent with our efforts to focus on sales and
marketing, our spending on research and development activities
is minimal. Expenses incurred for the manufacturing site
transfer, medical and regulatory affairs are included on the
statement of operations as research and development expenses.
Accordingly, we have entered

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into several agreements with pharmaceutical and
biotechnology companies to further the development of certain
technology acquired from RiboGene. In June 2002, we signed a
definitive License Agreement with Fabre Kramer Pharmaceuticals,
Inc for the exclusive worldwide development and
commercialization of HypnostatTM (intranasal
triazolam for insomnia) and PanistatTM (intranasal
alprazolam for panic disorders). Under the License Agreement,
Fabre Kramer assumed the primary responsibility for the
development of Hypnostat and Panistat. The antifungal drug
discovery program has been partnered with Tularik, Inc., of
South San Francisco, CA., the antiviral drug discovery
program has been partnered with Rigel Pharmaceuticals, Inc. of
South San Francisco, CA. and the antibacterial program
has been partnered with Dainippon Pharmaceuticals Co., Ltd.
of Osaka, Japan.


We have sustained an accumulated deficit of
$77 million from inception through December 31, 2002.
At December 31, 2002, we had $7.5 million in cash and
short-term investments. Results of operations may vary
significantly from quarter to quarter depending on, among other
factors, the results of our sales efforts, timing of expiration
of our products and the resulting shipment of replacement
product under our exchange policy, the availability of finished
goods from our sole-source manufacturers, the timing of certain
expenses, the acquisition of marketed products, the
establishment of strategic alliances and corporate partnering
and the receipt of milestone payments.

Critical Accounting Policies

Our management discussion and analysis of our
financial condition and results of operations is based upon our
consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements
requires us to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses,
and related disclosures. On an on-going basis, we evaluate our
estimates, including those related to product returns, sales
allowances, bad debts, inventories, investments and intangible
assets. We base our estimates on historical experience and on
various other assumptions that we believe are reasonable under
the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different
assumptions or conditions.

We believe the following critical accounting
policies affect our more significant judgments and estimates
used in the preparation of our consolidated financial statements.



| |                                                     
| | ----------------------------------------------------
| | Sales Allowances and Product Returns and
    Rebates

We have estimated allowances for product returns,
chargebacks, rebates and cash discounts for prompt payment. We
estimate our allowances by utilizing historical information for
existing products. For new products, we estimate our allowances
for product returns and rebates on specific terms for product
returns and rebates and our experience with similar products.
Effective August 12, 2002, we changed our return goods
policy such that we no longer issue credit memorandums for
returns, rather all returns are exchanged for replacement
product. The estimated costs for such exchanges, which include
actual product costs and related shipping charges are included
in cost of product sales. In estimating returns, we analyze
(i) historical returns and sales patterns,
(ii) current inventory on hand at wholesalers and in the
distribution channel and the remaining shelf life of that
inventory (ranging from 45 days to 3 years), and
(iii) changes in demand. We continually assess the
historical experience and adjust our allowances as appropriate.
In estimating rebates, we match the actual rebates to the actual
sale on a product-by-product basis, to arrive at an actual
rebate percentage. This actual percentage is applied to current
period sales to arrive at the rebate expense for the period. In
particular, we consider allowable prices by Medicare and
Medicaid. If actual product returns, chargebacks, rebates and
cash discounts are greater than our estimates, additional
allowances may be required.



| |            
| | -----------
| | Inventories

We maintain inventory reserves primarily for
obsolescence (due to the expiration of shelf life). In
estimating inventory obsolescence reserves, we analyze on a
product-by-product basis (i) the shelf life and the

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expiration date, and (ii) sales forecasts.
Judgment is required in determining whether the forecasted sales
information is sufficiently reliable to enable us to estimate
inventory obsolescence.




| |                  
| | -----------------
| | Intangible Assets

We have intangible assets related to goodwill and
other acquired intangibles. The determination of related
estimated useful lives and whether or not these assets are
impaired involves significant judgment. Changes in strategy
and/or market conditions could significantly impact these
judgments and require adjustments to recorded asset balances. We
review intangible assets, as well as other long-lived assets,
for impairment whenever events or circumstances indicate that
the carrying amount may not be fully recoverable.

Results of Operations



| |                                                                              
| | -----------------------------------------------------------------------------
| | Year Ended December 31, 2002 Compared
    to the Year Ended December 31, 2001

For the year ended December 31, 2002, we
incurred a net loss of $2,785,000 or $0.07 per share, as
compared to a net loss of $8,697,000 or $0.28 per share for
the year ended December 31, 2001, a decrease of $5,912,000
or 68%.

For the year ended December 31, 2002, net
product sales increased by $8,623,000 or 166% to $13,819,000
from $5,196,000 for the year ended December 31, 2001. The
increase in product revenues was due primarily to increased
units sales of Ethamolin and a full year of sales of Acthar,
which was introduced in the third quarter of 2001. The increase
of unit sales over the prior year was partially due to a
shipment of backorders of Acthar and Ethamolin in early 2002 and
strategic buying by wholesalers in anticipation of our price
increase in June 2002. During the year ended December 31,
2002 we shipped backorders outstanding at December 31, 2001
amounting to $334,000 for Acthar and $408,000 for Ethamolin.
Without these backorders, product revenues would have been
$13,077,000, an increase of $7,881,000 or 152% over the year
ended December 31, 2001. Effective June 24, 2002, we
increased our list price for Ethamolin and Acthar. From the date
of the notification of the price increase through June 30,
2002, we received $3,231,000 of Acthar and Ethamolin orders of
which $777,000 had shipped prior to June 30, 2002. The
remaining orders of $2,454,000 were fulfilled in July 2002.
Effective August 12, 2002 we changed our return goods
policy such that we no longer issue credit memorandums for
returns, rather all returns are exchanged for replacement
product, and estimated costs for such exchanges, which include
actual product material costs and related shipping charges, are
included in Cost of product sales. In November 2002, a lot of
Acthar expired. The next batch of Acthar will expire in May
2003. In December 2002, we noted that certain customers were not
complying with our exchange policy. These customers were
deducting from amounts owed to us the full price of expired
Acthar they planned to return to us. We reached an agreement
with these customers to reverse these short-remittances and to
accept replacement product. Certain customers received a one
time replacement rebate from us. In addition, during 2003 we
will replace vials at no cost for the remaining on-hand
inventories of Acthar batches that expired in November 2002 and
will do so again for the Acthar that expires in May 2003. In the
first quarter of 2003, due to the relatively short dating of
Acthar in our inventories and at the wholesale level, we limited
Acthar shipments to critical care and emergency situations. A
lot of Acthar with the new 18 month dating was released in
the first quarter of 2003. With the release of this lot normal
shipments resumed. We believe that the replacement of expired
Acthar at no cost and the decision to briefly limit shipments of
Acthar will have a negative impact on our first quarter of 2003
product sales of Acthar and although we expect total annual
sales of Acthar to increase as compared to 2002, the increase
year to year may be lower than we expected depending on the
amount of additional replacements of expired product. We are
reviewing the amount of inventory at the wholesale level in
order to help assess the demand for Acthar in 2003. In addition,
due to the large purchase of Ethamolin by wholesalers in
anticipation of the price increase in July 2002, we expect
Ethamolin sales in the first quarter of 2003 to be lower than
expected. In 2002 and 2001, our Acthar vials sold had a one year
shelf life. Due to the short-dating, significant quantities
could expire at the wholesaler or pharmacy level, which would
then be returned for replacement product, under our exchange
policy. The shipment of replacement product displaces future
sales. Quarterly revenues will fluctuate based on buying
patterns of the wholesalers, expiration dates of product sold
and timing of shipment of replacement product under our exchange
policy.

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Contract research and grant revenue decreased by
$175,000 or 48% to $192,000 for the year ended December 31,
2002 from $367,000 for the year ended December 31, 2001.
This decrease was primarily the result of us receiving less
reimbursement under our SBIR grant due to a decrease in activity
with our GERI compound research project during the year ended
December 31, 2002. This grant is scheduled to end in April
2003 and we do not believe we will receive any more than the
remaining $130,000 in reimbursement under this grant in 2003.

For the year ended December 31, 2002, we
recognized $450,000 in technology revenue related to our License
Agreements with Fabre Kramer and Ahn-Gook. For the year ended
December 31, 2001, we recognized $90,000 in technology
revenue related to a payment under our license agreement with
Tularik, Inc. for the sale of our antifungal drug discovery
program. Royalty revenue for the year ended December 31,
2002 was $16,000, a slight increase as compared to $14,000 for
the year ended December 31, 2001. Royalty revenue
represents sales of Pramidin® in Italy, under our license
agreement with sirton. This license agreement expired in
accordance with its terms in June of 2002 and is currently being
renegotiated for the purpose of continuing the relationship.
Royalty revenues for the year ended December 31, 2002 also
reflect royalties earned in connection with our license
agreement with Ahn-Gook. Services revenue from a related party
was $200,000 for the year ended December 31, 2002. This
amount represents the recognition of revenue resulting from the
$200,000 payment made by VSL for certain promotional activities
we undertook to support the launch of VSL#3.

Total revenues for the year ended
December 31, 2002 increased $9,010,000 or 159% to
$14,677,000 from total revenues of $5,667,000 for the year ended
December 31, 2001.

Cost of product sales increased to $2,932,000 or
48% for the year ended December 31, 2002 from $1,978,000
for the year ended December 31, 2001. This increase was a
result of greater material costs due to higher product sales for
the current period. However, cost of product sales as a
percentage of net product sales decreased to 21% for the year
ended December 31, 2002 from 38% for the year ended
December 31, 2001, primarily due to a change in product
mix. As a result of two new manufacturers for Acthar, we may
have lower gross margins in the future.

Gross margins for marketed products for the year
ended December 31, 2002 were 82% for Acthar, 81% for
Ethamolin, 61% for VSL#3, 49% for Glofil-125 and (3)% for
Inulin, compared to 73%, 71%, 0%, 49% and 48%, respectively, for
the year ended December 31, 2001. Gross margins for the
products other than VSL#3 and Inulin improved as a result of
increased sales volume, and product price increases in 2002.
Inulins gross margin decreased as a result of low sales
volume coupled with increased cost of product. VSL#3 was
formally launched in May 2002.

Sales and marketing expenses for the year ended
December 31, 2002 were $5,900,000, which represents an
increase of $2,771,000 or 89% as compared to $3,129,000 for the
year ended December 31, 2001. However, as a percentage of
revenue, sales and marketing expenses decreased to 40% for the
year ended December 31, 2002 from 55% for the year ended
December 31, 2001. The increase in dollars is primarily due
to salary and other costs associated with the expansion of our
sales and marketing departments, and increased marketing costs
to support our newer products, Acthar and VSL#3. We had a
headcount of 30 individuals to support the commercial sales of
our five products as of December 31, 2002, compared to a
headcount of 20 individuals to support four products as of
December 31, 2001.

General and administrative expenses for the year
ended December 31, 2002 were $4,815,000, which represents
an increase of $108,000 or 2%, compared to $4,707,000 for the
year ended December 31, 2001. The increase year to year is
primarily for expenses relating to legal and financing which
were offset by savings in other areas of general and
administrative.

Research and development expenses which are
limited to manufacturing development, regulatory and medical
affairs activities, for the year ended December 31, 2002
were $2,295,000, which represents a decrease of $57,000 or 2%,
as compared to $2,352,000 for the year ended December 31,
2001. The decrease was due to lower salary and related expenses
related to our research and development activities, offset by
increased manufacturing development costs related to the Acthar
site transfer. The manufacturing development costs

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incurred for the year ended December 31,
2002, relate primarily to site transfer and validation costs for
Acthar. In 2003, we anticipate incurring additional site
transfer costs, relating to the Acthar site transfer.


In 2002, our spending on research and development
programs was limited and will continue to be minimal in the
future. As such, we are seeking to out-license the development
of the following: Emitasol for delayed onset emesis and diabetic
gastroparesis and the GERI compounds as cytoprotective agents.
The development of Hypnostat for sleep disorders and Panistat
for panic disorders will be controlled by Fabre Kramer. The
future development of Emitasol, and the GERI compounds, will be
dependent in part on our ability to enter into partnership
arrangements. As we rely on current and future strategic
partners to develop and fund our remaining projects, we are
unable to project estimated completion dates. We have limited
control, if any, over these programs due to our reliance on
partners for their development. Accordingly our ability to
disclose historical and future costs associated with these
projects is limited.

Depreciation and amortization expense decreased
by 48% to $1,138,000 for the year ended December 31, 2002
from $2,207,000 for the year ended December 31, 2001 due to
minimal new capital purchases made in the period, as well as
assets becoming fully depreciated in the period and a portion of
purchased technology becoming fully amortized in the period. The
purchased technology will be fully amortized in 2003.

Non-cash amortization of deemed discount on
convertible debentures for the year ended December 31, 2002
was $415,000 pertaining to amortization of the deemed discount
related to the convertible debentures. There was no similar
expense in the year ended December 31, 2001.

Interest income (expense), net, decreased by
$63,000 to a net expense of $8,000 for the year ended
December 31, 2002 from net interest income of $55,000 for
the year ended December 31, 2001, primarily due to a lower
interest income caused by a lower return on invested cash and
higher interest expense in the current year relating to the
8% convertible debentures issued in March 2002.

Other income (expense), net, increased by
$260,000 to a net expense of $241,000 for the year ended
December 31, 2002 from net other income of $19,000 for the
year ended December 31, 2001, due to a $367,000
other-than-temporary loss taken on our Rigel equity securities
investment offset by the receipt of profits arising from short
swing stock trades executed by one of our 10% shareholders
and gains on sales of fixed assets.

Rental income, net, decreased to $282,000 for the
year ended December 31, 2002, from $612,000 in the
comparable year ended December 31, 2001, due to the receipt
in 2001 of a sublease termination fee of $130,000 by the former
sublessor of our Carlsbad facility and a $250,000 payment
receipt for vacating our Hayward facility in May 2001. Although
the current rental income from the sublessee exceeds the current
rental expense on the Hayward facility, there can be no
assurance our sublessee will not default on the sublease
agreement, and if they were to do so, we would still be
obligated to pay rent expense on this property.

Year Ended December 31, 2001 Compared
to the Year Ended December 31, 2000

For the year ended December 31, 2001, we
incurred a net loss of $8,697,000 (or $0.28 per share),
compared to a net loss of $13,762,000 (or $0.56 per share)
for the year ended December 31, 2000.

Product revenues increased 143% for the year
ended December 31, 2001 to $5,196,000 from $2,134,000 for
the year ended December 31, 2000. This increase was
primarily due to increased product sales and the introduction of
Acthar. We began shipping the Acthar product in the third
quarter of 2001 and recognized sales of $2,141,000 for the year
ended December 31, 2001. In addition, excluding revenues
from the discontinued Neoflo product line, we experienced an
overall increase of 97% in revenues from existing products when
compared to 2000 sales. Revenues of Ethamolin increased 174% to
$1,695,000, Glofil-125 increased 42% to $982,000, Inulin
increased 53% to $317,000, as compared to $618,000, $691,000 and
$207,000, respectively, for the year ended December 31,
2000. The total increase in product revenues from these core
products was $1,478,000 of which 25% of this increase is related
to unit growth in 2001 as compared to 2000, with the remainder
of this increase related to a price increase in 2001 as compared
to 2000. We estimate the use of Ethamolin for the year ended
December 31, 2001 increased 7% from the year ended
December 31, 2000. We were at times unable to stock a
sufficient supply of Acthar and Ethamolin to meet the

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demand for these products. Ethamolin was placed
on backorder at the end of October 2001 and Acthar was placed on
backorder to customers at the end of November 2001. At
December 31, 2001 we had backorders amounting to $334,000
for Acthar and $408,000 for Ethamolin. All backorders for Acthar
and Ethamolin as of December 31, 2001 were shipped in
January 2002.


In May 2000, our sole customer for our Neoflo
product, NutraMax Products, Inc., filed a voluntary petition
under Chapter 11 of the U.S. Bankruptcy Code. On
April 2, 2001, the U.S. Bankruptcy Court granted
NutraMax a motion to terminate our supply agreement effective
that date. In May 2001, we closed our Lees Summit
manufacturing facility where the NutraMax product was being
produced. Net sales to NutraMax totaled $61,000 and $618,000 for
the years ended December 31, 2001 and 2000 respectively,
representing 1% and 17%, of total revenues, respectively.

Contract research and grant revenue increased 77%
to $367,000 for the year ended December 31, 2001 compared
to $207,000 for the year ended December 31, 2000 due to a
full year of revenue recognized for government reimbursement
under the SBIR grant previously awarded to fund the GERI
project. Technology revenue for the year ended December 31,
2001 decreased to $90,000 from $1,250,000 for the year ended
December 31, 2000, due to the recognition of $1,250,000 in
technology revenue from the sale of our proprietary antiviral
drug research technology to Rigel Pharmaceuticals, Inc. in 2000.
Royalty revenue increased 367% to $14,000 due to increased sales
of Pramidin in Italy by Crinos (now sirton).

Total revenue for the year ended
December 31, 2001 increased 58% to $5,667,000 as compared
to $3,594,000 for the year ended December 31, 2000.

Cost of product sales decreased by $70,000 or 3%
to $1,978,000 for the year ended December 31, 2001 from
$2,048,000 for the year ended December 31, 2000. These
costs decreased primarily as a result of our discontinuance of
the Neoflo product line in 2001. The Neoflo product had the
highest overhead and material costs relative to our other
products. Excluding the cost of product sales associated with
Neoflo, cost of product sales increased by 92% to $1,746,000
from $908,000 for the years ended December 31, 2001 and
2000, respectively. This increase is related to the increased
volume of product sales in 2001 as compared to 2000.

Gross margins for marketed products for the year
ended December 31, 2001 were 73% for Acthar, 71% for
Ethamolin, 49% for Glofil-125 and 48% for Inulin, compared to
0%, 54%, 31% and 30%, respectively, for the year ended
December 31, 2000. Gross margins for the products other
than Acthar improved as a result of increased sales volume, and
product price increases in 2001. Acthar was introduced in
September 2001.

Sales and marketing expense increased by 23% to
$3,129,000 for the year ended December 31, 2001, from
$2,539,000 for the year ended December 31, 2000. This
increase is primarily due to increased headcount associated with
the expansion of our sales force, which began in late 2000.
However, as a percentage of total revenues, sales and marketing
expenses decreased to 55% for the year ended December 31,
2001 from 71% for the year ended December 31, 2000.

General and administrative expenses decreased by
$788,000 or 14% to $4,707,000 for the year ended
December 31, 2001 from $5,495,000 for the year ended
December 31, 2000. This decrease was related to our cost
reduction program that resulted in a decrease in personnel and
related expenses, lower facility costs, legal fees, bad debt
expense and professional services costs, offset by an increase
in non-cash equity related compensation expense.

Research and development expense decreased 54% to
$2,352,000 for the year ended December 31, 2001, from
$5,111,000 for the year ended December 31, 2000. Since the
completion of our merger with RiboGene in 1999, we reduced our
focus on research and development of non-marketed products. The
decrease was related to lower development expenses for
EmitasolTM and an overall reduction of expenses
related to our research and development activities

Since we no longer market or sell the Neoflo
product we recorded a loss related to the discontinued Neoflo
product line in the amount of $677,000 as of December 31,
2001. This loss represents a writedown of the assets directly
related to the Neoflo product line and the estimated remaining
lease payments for the Lees Summit manufacturing facility.

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Depreciation and amortization expense for the
period decreased by 14% to $2,207,000 for the year ended
December 31, 2001 from $2,559,000 for the year ended
December 31, 2000 due to an additional charge of $303,000
in 2000 to depreciation expense in order to reflect the change
in the estimated useful life of certain laboratory and
manufacturing equipment.

Net interest and other income decreased by 45% to
$74,000 for the year ended December 31, 2001 from $135,000
for the year ended December 31, 2000 principally due to a
lower return on invested cash, as well as a lower average cash
balance, partially offset by reduced interest expense due to
lower rates.

Net rental income increased by 134% to $612,000
for the year ended December 31, 2001 from $261,000 for the
year ended December 31, 2000 due to the receipt of a
one-time payment of $250,000 for vacating our Hayward facility
in May 2001. When we moved to our new headquarters in Union
City, CA., we subleased 100% of our Hayward facility. All
sublease income, and the related costs for the Hayward premises
are classified as rental income, net.

Liquidity and Capital Resources

We have principally funded our activities to date
through various issuances of equity securities, which through
March 17, 2003, we have raised total net proceeds of
$55.5 million.

At December 31, 2002, we had cash, cash
equivalents and short-term investments of $7,506,000 compared to
$10,571,000 at December 31, 2001, including a compensating
balance of $5,000,000. At December 31, 2002, our working
capital was $7,018,000 compared to $2,659,000 at
December 31, 2001. The increase in working capital was
principally due to the proceeds from the issuance of
$4 million convertible debentures and approximately
$560,000 relating to issuances of common stock. Based on our
internal forecasts and projections, we believe that our cash on
hand at December 31, 2002, together with the
$10.0 million of cash raised in January 2003 through our
private placement of Series B convertible preferred stock,
and the net cash flows generated from operations, will be
sufficient to fund operations for at least two years, unless a
substantial portion of our cash is used for product acquisition.

As a result of the merger with RiboGene, we
assumed $5 million of long-term debt financing with a bank.
The note required us to make monthly interest payments, at prime
plus 1% (5.75% at December 31, 2001), with the
principal payment due at the end of the three-year term
(December 2001). In November 2000, the $5 million note
payable was converted into a $5 million cash secured
facility, the financial covenants were removed and the blanket
lien on all assets were released. The interest expense on the
$5 million note was fixed at a rate of 2% greater than
the Certificate of Deposit interest rate earned on the
underlying $5 million cash investment which served as a
compensating bank balance with its use restricted. The
notes term was extended to March 2002. We paid the note in
full on January 18, 2002.

On January 2, 2002, we entered into a
revolving accounts receivable line of credit with Pacific
Business Funding, a division of Greater Bay Bancorp, the parent
company of Cupertino National Bank. Cupertino National Bank
previously held the $5 million note. Under the agreement,
we can borrow up to the lesser of 80% of our eligible accounts
receivable balance or $3,000,000. Interest accrues on
outstanding advances at an annual rate equal to prime rate plus
four and one-half percent. The term of the agreement is one year
and the note automatically renews annually, unless we terminate
the agreement. There were no borrowings under this line of
credit as of December 31, 2002 . The line of credit is
secured by a blanket lien on all of our assets including
intellectual property. As of December 31, 2002, $1,200,000
was available for borrowing under the line of credit.

We lease four buildings with lease terms expiring
in 2004 to 2012. Annual rent payments for all of our facilities
in 2003 are estimated to be $1,497,000. We use the Union City
facility as our headquarters and the Carlsbad facility as our
warehousing and distribution center. Annual rent payments for
2003 for these facilities are $686,000. We have subleased
laboratory space and laboratory equipment in Hayward, California
for a term of six years and anticipate that we will receive
$997,000 in 2003 as sublease income to be used to pay the annual
rental expense of $673,000 in 2003. The Lees Summit
facility was closed in May 2001 and this facility

34



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is available for sublease. Lease payments under
the facility in Lees Summit, Missouri are $138,000 for
2003. Additionally, we have other contractual obligations as
shown in the table below:


|                                   |  |                        |        |                |  |              |       |         |  |       |       |  |  |   |       |  |  |   |       | 
|---------------------------------- |  | ---------------------- | ------ | -------------- |  | ------------ | ----- | ------- |  | ----- | ----- |  |  | - | ----- |  |  | - | ----- | 
|                                   |  |                       
|                                   |  | Payments Due by Period
|                                   |  |                       
|                                   |  |                        |        | Greater Than   |  | 4 to 5       |       | After 5
|Contractual Obligations            |  | Total                  |        | 1 Year or Less |  | 1 to 3 Years |       | Years   |  | Years
|                                   |  |                        |        |                |  |              |       |         |  |      
|                                   |  |                       
|                                   |  | (In thousands)        
|Long Term Debt                     |  | $                      | 218    |                |  | $            | 218   |         |  | $     |      |  |  | $ |      |  |  | $ |      | 
|Convertible Debentures             |  |                        | 4,000  |                |  |              |      |         |  |       | 4,000 |  |  |   |      |  |  |   |      | 
|Operating Leases                   |  |                        | 13,370 |                |  |              | 1,497 |         |  |       | 3,015 |  |  |   | 2,616 |  |  |   | 6,242 | 
|                                   |  |                        |        |                |  |              |       |         |  |       |       |  |  |   |       |  |  |   |       | 
|Total Contractual Cash Obligations |  | $                      | 17,588 |                |  | $            | 1,715 |         |  | $     | 7,015 |  |  | $ | 2,616 |  |  | $ | 6,242 | 
|                                   |  |                        |        |                |  |              |       |         |  |       |       |  |  |   |       |  |  |   |       | 

We also hold 83,333 shares of Rigel
Pharmaceuticals Inc. (NASD: RIGL) common stock that we
received in conjunction with the agreement to sell Rigel
exclusive rights to certain of our proprietary antiviral drug
research technology. As of December 31, 2002, these shares
had a market value of $91,000.

In April 2001, we entered into a Stock and
Warrant Purchase Agreement with Sigma-Tau Finance
Holding S.A. (Sigma-Tau) pursuant to which
Sigma-Tau purchased (i) an aggregate of
2,873,563 shares of common stock at a purchase price of
$0.52 per share, for an aggregate purchase price of
$1,500,000, and (ii) a warrant to purchase an additional
2,873,563 shares of common stock at a purchase price of
$0.52 per share. In May 2001, as required under the rules
of AMEX, we sought and received shareholder approval to allow
for full exercise of the warrant. In July 2001, Sigma-Tau
assigned the warrant to Paolo Cavazza and Claudio Cavazza, the
principal shareholders of Sigma-Tau, who exercised the warrant
in full, purchasing 2,873,563 shares of common stock at a
purchase price of $0.52 per share, resulting in aggregate
proceeds to us of $1,500,000 (including the $100,000 originally
paid by Sigma-Tau to acquire the warrant).

In April 2001, we closed a financing with various
accredited investors which totaled $442,000. This investment
came from a group of individual investors. We issued an
aggregate of 816,800 shares of common stock and sold
warrants to purchase an additional 408,400 shares of common
stock with an exercise price equal to $0.64 per share. The
warrants are exercisable from the date of issuance until the
close of business on April 30, 2006.

In July 2001, concurrent with our agreement to
acquire Acthar from Aventis, we entered into a Stock Purchase
Agreement with Sigma-Tau pursuant to which Sigma-Tau purchased
5,279,034 shares of common stock at a purchase price of
$0.66 per share, for an aggregate purchase price of
$3,500,000.

In December 2001, we entered into a Promotion
Agreement effective in January 2002 with
VSL Pharmaceuticals, Inc., a private company owned in part
by the principal shareholders of Sigma-Tau, to promote, sell and
distribute the product VSL#3 in the U.S. In connection with
this Promotion Agreement, we entered into two Stock and Warrant
Purchase Agreements, one with Paolo Cavazza and one with Claudio
Cavazza, to purchase (i) an aggregate of
640,000 shares of common stock for a purchase price of
$1.50 per share (representing a twenty percent premium to
our market price for the five days prior to execution of the
Purchase Agreements), for an aggregate purchase price of
$960,000, and (ii) warrants, at an aggregate purchase price
of $300,000, to purchase an additional 1,800,000 shares of
common stock at a purchase price of $1.75 per share before
December 1, 2003. We issued the common stock related to
this transaction in February 2002. Additionally, in connection
with this transaction, we entered into a standstill agreement
with Sigma-Tau whereby Sigma-Tau and its affiliates agreed to
limit purchases of common stock on the open market to no more
that 2,000,000 shares through July 2003.

In March 2002, in two separate transactions, we
issued $4.0 million of 8% convertible debentures to an
institutional investor and Sigma-Tau. We pay interest on the
debentures at a rate of 8% per annum on a quarterly basis.
The debentures are convertible into shares of our common stock
at a fixed conversion price of $1.58 per share (subject to
adjustment for stock splits and reclassifications). At the end
of the term of the debenture, under certain circumstances, we
have the option to repay the principal in stock and, under
certain circumstances, we can also redeem the debenture for cash
prior to maturity. The debentures mature on March 15, 2005.
In conjunction with this transaction, we issued warrants to both
the institutional investor and

35



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Sigma-Tau to acquire an aggregate of
1,518,987 shares of common stock at an exercise price of
$1.70 per share. Both warrants expire on March 15,
2006. In connection with the issuance of the debentures and
warrants, we recorded a deferred expense related to a beneficial
conversion feature of $1,484,000. This amount is amortized to
interest expense over the term of the debentures. Assuming the
conversion and exercise of the above-mentioned debenture and
warrant by Sigma-Tau and assuming the exercise of all other
outstanding warrants held by Sigma-Tau, Sigma-Tau would own
approximately 31% of our outstanding voting capital stock as of
March 17, 2003.


In January 2003, we completed a private placement
of Series B Convertible Preferred Stock and warrants to
purchase common stock to various healthcare investors. Our gross
proceeds from the private placement were $10 million. The
Series B Preferred Stock has an aggregate stated value of
$10 million and is entitled to a quarterly dividend at an
initial rate of 8% per annum, which rate will increase to
10% per annum on and after January 1, 2006, and to 12%
on and after January 1, 2008. In addition, on the
occurrence of designated events the dividend rate will increase
by an additional 6% per annum. The Series B Preferred
Stock is entitled to a liquidation preference over our common
stock and Series A Preferred Stock upon a liquidation,
dissolution or winding up of Questcor. The Series B
Preferred Stock is convertible at the option of the holder into
our common stock at a conversion price of $0.9412 per
share, subject to certain anti-dilution adjustments. We have the
right commencing on January 1, 2006 (assuming specified
conditions are met) to redeem the Series B Preferred Stock
at a price of 110% of stated value, together with all accrued
and unpaid dividends and arrearage interest. In addition, upon
the occurrence of designated Optional Redemption Events, the
holders have the right to require us to redeem the Series B
Preferred Stock at 100% of stated value, together with all
accrued and unpaid dividends and arrearage interest. The terms
of the Series B Preferred Stock contain a variety of
affirmative and restrictive covenants, including limitations on
indebtedness and liens. Each share of Series B Preferred
Stock is generally entitled to a number of votes equal to
0.875 times the number of shares of common stock issuable
upon conversion of such share of Series B Preferred Stock.
The purchasers of the Series B Preferred Stock also
received for no additional consideration warrants exercisable
for an aggregate of 3,399,911 shares of our common stock at
an exercise price of $1.0824 per share, subject to certain
anti-dilution adjustments. The warrants expire in January 2007.

Our future funding requirements will depend on
many factors, including; the timing and extent of product sales,
returns of expired product, any expansion or acceleration of our
development programs; the acquisition and licensing of products,
technologies or compounds, if any; our ability to manage growth;
competing technological and market developments; costs involved
in filing, prosecuting, defending and enforcing patent and
intellectual property claims; the receipt of licensing or
milestone fees from current or future collaborative and license
agreements, if established; the timing of regulatory approvals;
payment of dividends and compliance to prevent additional
dividend events or optional redemption events, and other factors.

We are funding a portion of our operating
expenses through our cash flow from operations, but may seek
additional funds through public or private equity financing or
from other sources. There can be no assurance that additional
funds can be obtained on desirable terms or at all. We may seek
to raise additional capital whenever conditions in the financial
markets are favorable, even if we do not have an immediate need
for additional cash at that time.

Recently Issued Accounting Standards

In November 2002, the Financial Accounting
Standards Board (FASB) issued Interpretation
No. 45 (FIN 45), Guarantors
Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of
Others  an Interpretation of FASB
Statements No. 5, 57, and 107 and Rescission of FASB
Interpretation No. 34. FIN 45 elaborates on the
existing disclosure requirements for most guarantees, including
residual value guarantees issued in conjunction with operating
lease agreements. It also clarifies that at the time a company
issues a guarantee, the company must recognize an initial
liability for the fair value of the obligation it assumes under
that guarantee and must disclose that information in its interim
and annual financial statements. The initial recognition and
measurement provisions apply on a prospective basis to
guarantees issued or modified after December 31, 2002. The
adoption of the recognition and

36



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##### Table of Contents



measurement provision of this interpretation are
not currently expected to have any impact on our results of
operations and financial position.


In December 2002, the FASB issued
SFAS No. 148, Accounting for Stock-Based
Compensation  Transition and Disclosure.
SFAS 148 amends SFAS 123, Accounting for
Stock-Based Compensation, to provide alternative methods
of transition to the SFAS 123 fair value method of
accounting for stock-based employee compensation. In addition,
SFAS 148 requires disclosure of the effects of an
entitys accounting policy with respect to stock-based
employee compensation on reported net income and earnings per
share in annual and interim financial statements. SFAS 148
is effective for fiscal years ending after December 15,
2002. The interim statements disclosure requirements are
effective for the first interim statement that includes
financial information after December 15, 2002. We do not
believe there will be a material financial effect from the
adoption of this new standard unless we were to make a change in
our accounting policy and account for stock option grants as
compensation expense under the provisions of SFAS 123.

In January 2003, the FASB issued Interpretation
No. 46, Consolidation of Variable Interest Entities
(FIN 46). The objective of FIN 46 is to
improve financial reporting by companies involved with variable
interest entities by requiring the variable interest entity to
be consolidated by a company if that company is subject to a
majority of the risk of loss from the variable interest
entitys activities or entitled to receive a majority of
the entitys residual returns or both. Variable interests
held in the same entity by a related party will be treated as
the companys own interest in the determination of when
consolidation is required. The consolidation requirements of
FIN 46 apply immediately to variable interest entities
created after January 31, 2003. The consolidation
requirements apply to older entities in the first fiscal year or
interim period beginning after June 15, 2003. We are
currently evaluating the provisions of FIN 46 and will
adopt this Interpretation in 2003.

Income Taxes

As of December 31, 2002, we had federal and
state net operating loss carryforwards of approximately
$94 million and $21 million, respectively. We also had
federal and California research and development tax credits of
approximately $1 million and $600,000. The federal and
state net operating loss and credit carryforwards expire at
various dates beginning in the years 2004 through 2022, if not
utilized.






|         |                                                               
|-------- | --------------------------------------------------------------
|Item 7A. | Quantitative and Qualitative Disclosures
    about Market Risk

Market Rate Risk

Our exposure to market rate risk for changes in
interest rates relates primarily to our investment portfolio. We
do not use derivative financial instruments in our investment
portfolio. We place our investments with high quality issuers
and follow internally developed guidelines to limit the amount
of credit exposure to any one issuer. Additionally, in an
attempt to limit interest rate risk, we follow guidelines to
limit the average and longest single maturity dates. We are
adverse to principal loss and ensure the safety and preservation
of our invested funds by limiting default, market and
reinvestment risk. Our investments include money market
accounts, commercial paper and corporate bonds. The table below
presents the amounts and related interest rates of our
investment portfolio as of December 31, 2002.

|                           |  |                        |       |       |  |            |       |  |  |   |       | 
|-------------------------- |  | ---------------------- | ----- | ----- |  | ---------- | ----- |  |  | - | ----- | 
|                           |  |                        |       |       |  | Fair Value
|                           |  | 2002                   |       | Total |  | 12/31/02  
|                           |  |                        |       |       |  |           
|                           |  |                        |       |      
|                           |  | (In thousands,         |       |      
|                           |  | except interest rates) |       |      
|ASSETS                    
|Cash and cash equivalents  |  | $                      | 7,506 |       |  | $          | 7,506 |  |  | $ | 7,506 | 
|Average interest rate      |  |                        | 1.63  | %     |  |            |      |  |  |   |      | 
|LIABILITIES               
|Notes payable  Short term |  | $                      | 218   |       |  | $          | 218   |  |  | $ | 218   | 
|Average interest rate      |  |                        | 10.31 | %     |  |            |      |  |  |   |      | 
|Convertible Debentures     |  | $                      | 4,000 |       |  | $          | 4,000 |  |  | $ | 4,000 | 
|Average interest rate      |  |                        | 8     | %     |  |            |      |  |  |   |      | 

37



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|        |                                                
|------- | -----------------------------------------------
|Item 8. | Financial Statements and Supplementary
    Data

QUESTCOR PHARMACEUTICALS, INC.

CONTENTS

|                                                      |                                                                                  |      |   
|----------------------------------------------------- | -------------------------------------------------------------------------------- | ---- | --
|                                                      |                                                                                  | Page
|                                                      |                                                                                  |     
|Report of Ernst & Young LLP, Independent
    Auditors |                                                                                  | 45  
|Audited Financial Statements                          |                                                                                  |     
|                                                      | Consolidated Balance Sheets                                                      |      | 46
|                                                      | Consolidated Statements of Operations                                            |      | 47
|                                                      | Consolidated Statement of Preferred Stock and
    Stockholders Equity (Deficit) |      | 48
|                                                      | Consolidated Statements of Cash Flows                                            |      | 49
|Notes to Consolidated Financial Statements            |                                                                                  | 50  
|Financial Statement Schedule                          |                                                                                  | 70  






|        |                                                                                         
|------- | ----------------------------------------------------------------------------------------
|Item 9. | Changes In and Disagreements With
    Accountants on Accounting and Financial Disclosure

Not Applicable.




PART III.






|         |                                                       
|-------- | ------------------------------------------------------
|Item 10. | Directors and Executive Officers of the
    Registrant

The information required is hereby incorporated
by reference from the information contained in our definitive
Proxy Statement with respect to our 2003 Annual Meeting of
Shareholders, filed with the Commission pursuant to
Regulation 14A (the Proxy Statement) under the
headings Nominees and Company Management.






|         |                       
|-------- | ----------------------
|Item 11. | Executive Compensation

The information required by this item is hereby
incorporated by reference from information contained in the
Proxy Statement under the heading Compensation of
Directors and Executive Officers.






|         |                                                                   
|-------- | ------------------------------------------------------------------
|Item 12. | Security Ownership of Certain Beneficial
    Owners and Management

The information required by this item is hereby
incorporated by reference from information contained in the
Proxy Statement under the heading of Security Ownership of
Certain Beneficial Owners and Management.






|         |                                                   
|-------- | --------------------------------------------------
|Item 13. | Certain Relationships and Related
    Transactions

The information required by this item is hereby
incorporated by reference from information contained in the
Proxy Statement under the heading Certain Relationships
and Related Transactions and Executive
Compensation.

38



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##### Table of Contents








|         |                        
|-------- | -----------------------
|Item 14. | Controls and Procedures

Within the 90 days prior to the date of this
report, we carried out an evaluation, under the supervision of
our management, including our Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures pursuant to
Exchange Act Rule 13a-14. Based upon that evaluation, the
Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures are effective in
timely alerting them to material information required to be
included in our periodic SEC filings. There were no significant
changes in our internal controls or in other factors that could
significantly affect our internal controls subsequent to the
date we carried out our evaluation.






|         |                                                                    
|-------- | -------------------------------------------------------------------
|Item 15. | Exhibits, Financial Statement Schedules and
    Reports on Form 8-K

(a) The following documents are filed as
part of this Report:



| |                                                                                                                                                                                        
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 1. Financial Statements. Our
    financial statements and the Report of Ernst & Young
    LLP, Independent Auditors, are included in Part IV of this
    Report on the pages indicated:

|                                                      |  |      |    | 
|----------------------------------------------------- |  | ---- | -- | 
|                                                      |  | Page
|                                                      |  |     
|Report of Ernst & Young LLP, Independent
    Auditors |  |      | 45 | 
|Consolidated Balance Sheets                           |  |      | 46 | 
|Consolidated Statements of Operations                 |  |      | 47 | 
|Consolidated Statement of Stockholders
    Equity    |  |      | 48 | 
|Consolidated Statements of Cash Flows                 |  |      | 49 | 
|Notes to Financial Statements                         |  |      | 50 | 



| |                                                                                                                                                   
| | --------------------------------------------------------------------------------------------------------------------------------------------------
| | 2. Financial Statement Schedules.The
    following financial statement schedule is included in
    Item 15(a)(2) Valuation and Qualifying Accounts
|
| | 3. Exhibits                                                                                                                                       

|        |          |  |  |             |  |                                                                                                                                                                                                                                                                                               
|------- | -------- |  |  | ----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |          |  |  |            
|Number  |          |  |  | Description
|        |          |  |  |            
|        | 2.1(1)   |  |  |             |  | Merger agreement entered into August 4,
    1999, by and among Cypros Pharmaceutical Corporation, a
    California corporation (Parent), Cypros Acquisition
    Corporation, a Delaware corporation and a wholly owned
    subsidiary of Parent, and RiboGene, Inc., a Delaware corporation.
|        | 3.1(2)   |  |  |             |  | Amended and Restated Articles of Incorporation of
    the Company.                                                                                                                                                                                                                            
|        | 3.2(3)   |  |  |             |  | Certificate of Determination of Series B
    Convertible Preferred Stock of the Company.                                                                                                                                                                                                      
|        | 3.3(4)   |  |  |             |  | Certificate of Determination of Series C
    Junior Participating Preferred Stock of the Company.                                                                                                                                                                                             
|        | 3.4(5)   |  |  |             |  | Bylaws of the Company.                                                                                                                                                                                                                                                                        
|        | 4.1(6)   |  |  |             |  | Convertible Debenture between the Company and SF
    Capital Partners Ltd. dated March 15, 2002.                                                                                                                                                                                              
|        | 4.2(6)   |  |  |             |  | Convertible Debenture between the Company and
    Defiante Farmaceutica Unipessoal L.D.A. dated March 15,
    2002.                                                                                                                                                                           
|        | 10.1(7)  |  |  |             |  | Forms of Incentive Stock Option and Non-statutory
    Stock Option.                                                                                                                                                                                                                           
|        | 10.2(8)  |  |  |             |  | 1992 Employee Stock Option Plan, as amended.                                                                                                                                                                                                                                                  
|        | 10.3(9)  |  |  |             |  | 1993 Non-employee Directors Equity Incentive
    Plan, as amended, and related form of Nonstatutory Stock Option.                                                                                                                                                                             
|        | 10.4(9)  |  |  |             |  | Employment Agreement dated as of August 4,
    1999 between the Company and Charles J. Casamento.                                                                                                                                                                                             
|        | 10.5(10) |  |  |             |  | 2000 Employee Stock Purchase Plan.                                                                                                                                                                                                                                                            
|        | 10.6(11) |  |  |             |  | Asset Purchase Agreement dated July 27, 2001
    between the Company and Aventis Pharmaceuticals Products,
    Inc.                                                                                                                                                                          

39



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##### Table of Contents



|        |           |  |  |             |  |                                                                                                                                                                                               
|------- | --------- |  |  | ----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |           |  |  |            
|Number  |           |  |  | Description
|        |           |  |  |            
|        | 10.7(11)  |  |  |             |  | First Amendment to Asset Purchase Agreement dated
    January 29, 2002, between the Company and Aventis
    Pharmaceuticals Products, Inc.                                                   
|        | 10.8(11)  |  |  |             |  | Promotion Agreement dated December 1, 2001
    between the Company and VSL Pharmaceuticals, Inc.                                                                                             
|        | 10.9(11)  |  |  |             |  | First Amendment to Promotion Agreement dated
    June 27, 2002 between the Company and VSL Pharmaceuticals,
    Inc.                                                                         
|        | 10.10(12) |  |  |             |  | Stock Purchase Agreement dated July 31, 2001
    between Registrant and Sigma-Tau Finance Holding S.A.                                                                                        
|        | 10.11(13) |  |  |             |  | Warrant dated December 1, 2001 between the
    Company and Paolo Cavazza.                                                                                                                     
|        | 10.12(13) |  |  |             |  | Warrant dated December 1, 2001 between the
    Company and Claudio Cavazza.                                                                                                                   
|        | 10.13(6)  |  |  |             |  | Securities Purchase Agreement between the Company
    and SF Capital Partners Ltd. dated March 15, 2002.                                                                                      
|        | 10.14(6)  |  |  |             |  | Registration Rights Agreement between the Company
    and SF Capital Partners Ltd. dated March 15, 2002.                                                                                      
|        | 10.15(6)  |  |  |             |  | Warrant between the Company and SF Capital
    Partners Ltd. dated March 15, 2002.                                                                                                            
|        | 10.16(6)  |  |  |             |  | Securities Purchase Agreement between the Company
    and Defiante Farmaceutica Unipessoal L.D.A. dated March 15,
    2002.                                                                   
|        | 10.17(6)  |  |  |             |  | Registration Rights Agreement between the Company
    and Defiante Farmaceutica Unipessoal L.D.A. dated March 15,
    2002.                                                                   
|        | 10.18(6)  |  |  |             |  | Warrant between the Company and Defiante
    Farmaceutica Unipessoal L.D.A. dated March 15, 2002.                                                                                             
|        | 10.19(3)  |  |  |             |  | Form of Common Stock Purchase Warrant dated
    January 15, 2003 issued by the Company to purchasers of
    Series B Convertible Preferred Stock.                                             
|        | 10.20*    |  |  |             |  | Amendment to Employment Agreement between the
    Company and Charles J. Casamento dated March 21, 2003.                                                                                      
|        | 10.21(4)  |  |  |             |  | Rights Agreement, dated as of February 11,
    2003, between the Company and Computershare Trust Company, Inc.                                                                                
|        | 10.22(3)  |  |  |             |  | Form of Subscription Agreement dated as of
    December 29, 2002 by and between the Company and purchasers
    of Series B Convertible Preferred Stock and Common Stock
    Purchase Warrants.
|        | 10.23*    |  |  |             |  | Letter Agreement dated May 2, 2000 between
    the Company and Kenneth R. Greathouse.                                                                                                         
|        | 10.24*    |  |  |             |  | Amendment to Letter Agreement dated
    March 21, 2003 between the Company and Kenneth R.
    Greathouse.                                                                                     
|        | 10.25*    |  |  |             |  | Letter Agreement dated August 24, 2001
    between the Company and Timothy E. Morris.                                                                                                         
|        | 10.26*    |  |  |             |  | Amendment to Letter Agreement dated
    November 7, 2001 between the Company and Timothy E. Morris.                                                                                           
|        | 10.27*    |  |  |             |  | Amendment to Letter Agreement dated
    March 21, 2003 between the Company and Timothy E. Morris.                                                                                             
|        | 23.1*     |  |  |             |  | Consent of Ernst & Young LLP,
    Independent Auditors.                                                                                                                                       
|        | 99.1*     |  |  |             |  | Certification pursuant to Section 906 of the
    Public Company Accounting Reform and Investor Act of 2002.                                                                                   



---



| |   |                
| | - | ---------------
| | * | Filed herewith.



|    |                                                                                                                                                                                             
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Filed as an exhibit to the Companys Annual
    Report on Form 10-K for the fiscal year ended
    December 31, 1999, and incorporated herein by reference.                                  
|   
|(2) | Filed as an exhibit to the Companys
    Registration Statement on Form S-8, Registration Statement
    No. 333-30558, filed on February 16, 2000, and
    incorporated herein by reference.
|   
|(3) | Filed as an exhibit to the Companys Current
    Report on Form 8-K filed on January 16, 2003, and
    incorporated herein by reference.                                                    

40



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|    |                                                                                                                                                                                           
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(4) | Filed as an exhibit to the Companys Current
    Report on Form 8-K filed on February 14, 2003, and
    incorporated herein by reference.                                                 
|   
|(5) | Filed as an exhibit to the Companys
    Quarterly Report on Form 10-Q for the quarter ended
    September 30, 2002, and incorporated herein by reference.                                
|   
|(6) | Filed as an exhibit to the Companys
    Registration Statement on Form S-3, Registration
    No. 333-85160, filed on March 28, 2002, and
    incorporated herein by reference.           
|   
|(7) | Filed as an exhibit to the Companys
    Registration Statement on Form S-1, Registration
    No. 33-51682, and incorporated herein by reference.                                         
|   
|(8) | Filed as an exhibit to the Companys Proxy
    Statement for the 2002 Annual Meeting of Shareholders, filed on
    March 28, 2002, and incorporated herein by reference.                  
|   
|(9) | Filed as an exhibit to the Companys
    Registration Statement Form S-4, Registration Statement
    No. 333-87611, filed on September 23, 1999, and
    incorporated herein by reference.



|     |                                                                                                                                                                                              
|---- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(10) | Filed as an exhibit to the Companys
    Registration Statement on Form S-8, Registration Statement
    No. 333-46990, filed on September 29, 2000, and
    incorporated herein by reference.
|    
|(11) | Filed as an exhibit to the Companys
    Quarterly Report on Form 10-Q for the quarter ended
    June 30, 2002, and incorporated herein by reference.                                        
|    
|(12) | Filed as an exhibit to the Companys
    Quarterly Report on Form 10-Q for the quarter ended
    June 30, 2001, and incorporated herein by reference.                                        
|    
|(13) | Filed as an exhibit to the Companys Annual
    Report on Form 10-K for the fiscal year ended
    December 31, 2001, and incorporated herein by reference.                                   



| |   |                                                                                               
| | - | ----------------------------------------------------------------------------------------------
| |  | The Company has requested confidential treatment
    with respect to portions of this exhibit.

41



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##### Table of Contents






SIGNATURES

Pursuant to the requirements of Section 13
or 15(d) of the Securities Exchange Act of 1934, the Registrant
has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.



| |                               
| | ------------------------------
| | QUESTCOR PHARMACEUTICALS, INC.



| |    |                         
| | -- | ------------------------
| | By | /s/ CHARLES J. CASAMENTO

| |                        
| | -----------------------
| |                        
| | Charles J. Casamento   
| | Chairman, President and
| | Chief Executive Officer

POWER OF ATTORNEY

KNOW ALL MEN BY THESE PRESENTS, that each person
whose signature appears below constitutes and appoints Charles
J. Casamento and Timothy E. Morris, and each of them, his
attorney-in-fact, each with the power of substitution, for him
in any and all capacities, to sign any amendments to this
report, and to file the same, with exhibits thereto and other
documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming all that
each of said attorneys-in-fact, or his substitute or
substitutes, may do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities
Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the Registrant and in the
capacities and on the dates indicated.

|                                             |  |                                                                                                                           |  |                |  | 
|-------------------------------------------- |  | ------------------------------------------------------------------------------------------------------------------------- |  | -------------- |  | 
|                                             |  |                                                                                                                           |  |               
|Signature                                    |  | Title                                                                                                                     |  | Date          
|                                             |  |                                                                                                                           |  |               
|                                            
|/s/ CHARLES J. CASAMENTOCharles J. Casamento |  | Chairman, President and Chief Executive Officer
    and Director (Principal Executive Officer)                            |  | March 26, 2003
|                                            
|/s/ TIMOTHY E. MORRISTimothy E. Morris       |  | Vice President, Finance & Administration
    and Chief Financial Officer (Principal Financial and Accounting
    Officer) |  | March 26, 2003
|                                            
|/s/ ROBERT F. ALLNUTTRobert F. Allnutt       |  | Director                                                                                                                  |  | March 26, 2003
|                                            
|/s/ FRANK J. SASINOWSKIFrank J. Sasinowski   |  | Director                                                                                                                  |  | March 26, 2003
|                                            
|/s/ JON S. SAXEJon S. Saxe                   |  | Director                                                                                                                  |  | March 26, 2003
|                                            
|/s/ JOHN T. SPITZNAGELJohn T. Spitznagel     |  | Director                                                                                                                  |  | March 26, 2003
|                                            
|/s/ ROGER G. STOLL, PH.DRoger G. Stoll       |  | Director                                                                                                                  |  | March 26, 2003
|                                            
|/s/ VIRGIL D. THOMPSONVirgil D. Thompson     |  | Director                                                                                                                  |  | March 26, 2003

42



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##### Table of Contents






CERTIFICATIONS

Certification requirements set forth in
Section 302(a) of the Sarbanes-Oxley Act.

I, Charles J. Casamento, certify that:

1. I have reviewed this annual report on
Form 10-K of Questcor Pharmaceuticals, Inc.;

2. Based on my knowledge, this annual report
does not contain any untrue statement of a material fact or omit
to state a material fact necessary to make the statements made,
in light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this
annual report;

3. Based on my knowledge, the financial
statements, and other financial information included in this
annual report, fairly present in all material respects the
financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual
report;

4. The registrants other certifying
officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:



| |                                                                                                                                                                                                                                                                                                                 
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) designed such disclosure controls and
    procedures to ensure that material information relating to the
    registrant, including its consolidated subsidiaries, is made
    known to us by others within those entities, particularly during
    the period in which this annual report is being prepared;
|
| | (b) evaluated the effectiveness of the
    registrants disclosure controls and procedures as of a
    date within 90 days prior to the filing date of this annual
    report (the Evaluation Date); and                                                                                                      
|
| | (c) presented in this annual report our
    conclusions about the effectiveness of the disclosure controls
    and procedures based on our evaluation as of the Evaluation Date;                                                                                                                                

5. The registrants other certifying
officer and I have disclosed, based on our most recent
evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons
performing the equivalent functions):



| |                                                                                                                                                                                                                                                                                                                     
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) all significant deficiencies in the
    design or operation of internal controls which could adversely
    affect the registrants ability to record, process,
    summarize and report financial data and have identified for the
    registrants auditors any material weakness in internal
    controls; and
|
| | (b) any fraud, whether or not material, that
    involves management or other employees who have a significant
    role in the registrants internal controls; and                                                                                                                                                  

6. The registrants other certifying
officer and I have indicated in this annual report whether
or not there were significant changes in internal controls or in
other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies
and material weaknesses.



| |                           
| | --------------------------
| | /s/ CHARLES J. CASAMENTO  
| |                           
| | Name: Charles J. Casamento

| |        |                        
| | ------ | -----------------------
| | Title: | Chairman, President and

| |                        
| | -----------------------
| | Chief Executive Officer

Date: March 26, 2003

43



---



##### Table of Contents



I, Timothy E. Morris, certify that:

1. I have reviewed this annual report on
Form 10-K of Questcor Pharmaceuticals, Inc.;

2. Based on my knowledge, this annual report
does not contain any untrue statement of a material fact or omit
to state a material fact necessary to make the statements made,
in light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this
annual report;

3. Based on my knowledge, the financial
statements, and other financial information included in this
quarterly report, fairly present in all material respects the
financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual
report;

4. The registrants other certifying
officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:



| |                                                                                                                                                                                                                                                                                                                 
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) designed such disclosure controls and
    procedures to ensure that material information relating to the
    registrant, including its consolidated subsidiaries, is made
    known to us by others within those entities, particularly during
    the period in which this annual report is being prepared;
|
| | (b) evaluated the effectiveness of the
    registrants disclosure controls and procedures as of a
    date within 90 days prior to the filing date of this annual
    report (the Evaluation Date);and                                                                                                       
|
| | (c) presented in this annual report our
    conclusions about the effectiveness of the disclosure controls
    and procedures based on our evaluation as of the Evaluation Date;                                                                                                                                

5. The registrants other certifying
officer and I have disclosed, based on our most recent
evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons
performing the equivalent functions):



| |                                                                                                                                                                                                                                                                                                                     
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (a) all significant deficiencies in the
    design or operation of internal controls which could adversely
    affect the registrants ability to record, process,
    summarize and report financial data and have identified for the
    registrants auditors any material weakness in internal
    controls; and
|
| | (b) any fraud, whether or not material, that
    involves management or other employees who have a significant
    role in the registrants internal controls; and                                                                                                                                                  

6. The registrants other certifying
officer and I have indicated in this annual report whether
or not there were significant changes in internal controls or in
other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies
and material weaknesses.



| |                        
| | -----------------------
| | /s/ TIMOTHY E. MORRIS  
| |                        
| | Name: Timothy E. Morris

| |        |                        
| | ------ | -----------------------
| | Title: | Chief Financial Officer

Date: March 26, 2003

44



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##### Table of Contents



REPORT OF ERNST & YOUNG LLP,
INDEPENDENT AUDITORS

The Board of Directors and Stockholders

Questcor Pharmaceuticals, Inc.


We have audited the accompanying consolidated
balance sheets of Questcor Pharmaceuticals, Inc. as of
December 31, 2002 and 2001, and the related consolidated
statements of operations, preferred stock and stockholders
equity (deficit) and cash flows for each of the three years in
the period ended December 31, 2002. Our audits also
included the financial statement schedule listed in the Index at
Item 15(a). These financial statements and schedule are the
responsibility of Questcor Pharmaceuticals, Inc.s
management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.

We conducted our audits in accordance with
auditing standards generally accepted in the United States.
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.

In our opinion, the financial statements referred
to above present fairly, in all material respects, the
consolidated financial position of Questcor Pharmaceuticals,
Inc. at December 31, 2002 and 2001, and the consolidated
results of its operations and its cash flows for each of the
three years in the period ended December 31, 2002, in
conformity with accounting principles generally accepted in the
United States. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic
financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.

As discussed in Note 1 to the consolidated
financial statements, in 2002 the Company changed its method of
accounting for goodwill and other intangible assets.



| |                      
| | ---------------------
| | /s/ ERNST & YOUNG LLP
| |                      

Palo Alto, California

February 11, 2003


45



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.






CONSOLIDATED BALANCE SHEETS


|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |        |         |        |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------ | -------------------------------------------------------- | ------ | ------- | ------ | ----- | ------ | ------- | ------ | -
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                     
|                                                                                                                                                                                                                            |                                                                                                                                                                           | December 31,                        
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                     
|                                                                                                                                                                                                                            |                                                                                                                                                                           | 2002                                 |                                                          | 2001  
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                     
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                     
|                                                                                                                                                                                                                            |                                                                                                                                                                           | (In thousands, except               
|                                                                                                                                                                                                                            |                                                                                                                                                                           | share amounts)                      
|ASSETS                                                                                                                                                                                                                     
|Current assets:                                                                                                                                                                                                             |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            | Cash and cash equivalents (includes a
    compensating balance of $5,000 at December 31, 2001 see
    Note 9)                                                             |                                      | $                                                        | 6,156  |         |        | $     | 10,183 |        
|                                                                                                                                                                                                                            | Short-term investments                                                                                                                                                    |                                      |                                                          | 1,350  |         |        |       | 388    |        
|                                                                                                                                                                                                                            | Accounts receivable, net of allowance for
    doubtful accounts of $20 and $78 at December 31, 2002 and
    2001, respectively                                            |                                      |                                                          | 1,590  |         |        |       | 658    |        
|                                                                                                                                                                                                                            | Inventories                                                                                                                                                               |                                      |                                                          | 391    |         |        |       | 96     |        
|                                                                                                                                                                                                                            | Prepaid expenses and other current assets                                                                                                                                 |                                      |                                                          | 979    |         |        |       | 445    |        
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      | Total current assets                                     |        |         | 10,466 |       |        |         | 11,770 |  
|Property and equipment, net                                                                                                                                                                                                 |                                                                                                                                                                           |                                      | 585                                                      |        |         |        | 602   |       
|Purchased technology, net                                                                                                                                                                                                   |                                                                                                                                                                           |                                      | 382                                                      |        |         |        | 1,159 |       
|Goodwill and other indefinite lived intangible
    assets                                                                                                                                                                   |                                                                                                                                                                           |                                      | 479                                                      |        |         |        | 479   |       
|Deposits and other assets                                                                                                                                                                                                   |                                                                                                                                                                           |                                      | 854                                                      |        |         |        | 936   |       
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      | Total assets                                             |        | $       | 12,766 |       |        | $       | 14,946 |  
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                           
|LIABILITIES AND STOCKHOLDERS EQUITY
    (DEFICIT)                                                                                                                                                                         
|Current liabilities:                                                                                                                                                                                                        |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            | Accounts payable                                                                                                                                                          |                                      | $                                                        | 1,230  |         |        | $     | 1,095  |        
|                                                                                                                                                                                                                            | Accrued compensation                                                                                                                                                      |                                      |                                                          | 794    |         |        |       | 575    |        
|                                                                                                                                                                                                                            | Unissued common stock                                                                                                                                                     |                                      |                                                          |       |         |        |       | 960    |        
|                                                                                                                                                                                                                            | Other accrued liabilities                                                                                                                                                 |                                      |                                                          | 1,205  |         |        |       | 1,056  |        
|                                                                                                                                                                                                                            | Short-term debt and current portion of long-term
    debt                                                                                                                 |                                      |                                                          | 218    |         |        |       | 5,368  |        
|                                                                                                                                                                                                                            | Current portion of capital lease obligations                                                                                                                              |                                      |                                                          | 1      |         |        |       | 57     |        
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      | Total current liabilities                                |        |         | 3,448  |       |        |         | 9,111  |  
|Convertible debentures, (face amount of $4,000),
    net of deemed discount of $1,092                                                                                                                                       |                                                                                                                                                                           |                                      | 2,908                                                    |        |         |        |      |       
|Long-term debt                                                                                                                                                                                                              |                                                                                                                                                                           |                                      |                                                         |        |         |        | 121   |       
|Capital lease obligations                                                                                                                                                                                                   |                                                                                                                                                                           |                                      |                                                         |        |         |        | 1     |       
|Other non-current liabilities                                                                                                                                                                                               |                                                                                                                                                                           |                                      | 833                                                      |        |         |        | 932   |       
|Commitments                                                                                                                                                                                                                 |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|Preferred stock, no par value,
    7,500,000 shares authorized; 2,155,715 Series A shares
    issued and outstanding at December 31, 2002 and 2001
    (aggregate liquidation of $10,000 at December 31, 2002 and
    2001) |                                                                                                                                                                           |                                      | 5,081                                                    |        |         |        | 5,081 |       
|Stockholders equity (deficit):                                                                                                                                                                                             |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            | Common stock, no par value,
    75,000,000 shares authorized; 38,676,592 and
    37,389,603 shares issued and outstanding at
    December 31, 2002 and 2001, respectively |                                      |                                                          | 77,528 |         |        |       | 74,018 |        
|                                                                                                                                                                                                                            |                                                                                                                                                                           | Deferred compensation                |                                                          |        | (22     | )      |       |        | (20     | )     
|                                                                                                                                                                                                                            |                                                                                                                                                                           | Accumulated deficit                  |                                                          |        | (76,968 | )      |       |        | (74,183 | )     
|                                                                                                                                                                                                                            |                                                                                                                                                                           | Accumulated other comprehensive loss |                                                          |        | (42     | )      |       |        | (115    | )     
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      | Total stockholders equity (deficit)                     |        |         | 496    |       |        |         | (300   | )
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      | Total liabilities and stockholders equity
    (deficit) |        | $       | 12,766 |       |        | $       | 14,946 |  
|                                                                                                                                                                                                                            |                                                                                                                                                                           |                                      |                                                          |        |         |        |       |       

See accompanying notes.

46



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.




CONSOLIDATED STATEMENTS OF
OPERATIONS

|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |        |       |        | 
|---------------------------------------------------------------------- | ------------------------------------------------------- | ------------------------------- | ---------------------------------- | ------ | ------ | ------ | ------ | ------ | ----- | ------ | ------- | ------ | ----- | ------ | 
|                                                                       |                                                         |                                
|                                                                       |                                                         | Years Ended December 31,       
|                                                                       |                                                         |                                
|                                                                       |                                                         | 2002                            |                                    | 2001   |        | 2000  
|                                                                       |                                                         |                                 |                                    |        |        |       
|                                                                       |                                                         |                                
|                                                                       |                                                         | (In thousands, except per share
|                                                                       |                                                         | amounts)                       
|Revenue:                                                               |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|                                                                       | Net product sales                                       |                                 | $                                  | 13,819 |        |        | $      | 5,196  |       |        | $       | 2,134  |      
|                                                                       | Contract research and grant revenue                     |                                 |                                    | 192    |        |        |        | 367    |       |        |         | 207    |      
|                                                                       | Technology revenue                                      |                                 |                                    | 450    |        |        |        | 90     |       |        |         | 1,250  |      
|                                                                       | Royalty revenue                                         |                                 |                                    | 16     |        |        |        | 14     |       |        |         | 3      |      
|                                                                       | Services revenue from a related party (see
    Note 2)  |                                 |                                    | 200    |        |        |        |       |       |        |         |       |      
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|                                                                       |                                                         | Total revenues                  |                                    |        | 14,677 |        |        |        | 5,667 |        |         |        | 3,594 |       
|Operating costs and expenses:                                          |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|                                                                       | Cost of product sales                                   |                                 |                                    | 2,932  |        |        |        | 1,978  |       |        |         | 2,048  |      
|                                                                       | Sales and marketing                                     |                                 |                                    | 5,900  |        |        |        | 3,129  |       |        |         | 2,539  |      
|                                                                       | General and administrative                              |                                 |                                    | 4,815  |        |        |        | 4,707  |       |        |         | 5,495  |      
|                                                                       | Research and development                                |                                 |                                    | 2,295  |        |        |        | 2,352  |       |        |         | 5,111  |      
|                                                                       | Depreciation and amortization                           |                                 |                                    | 1,138  |        |        |        | 2,207  |       |        |         | 2,559  |      
|                                                                       | Loss on discontinued product line                       |                                 |                                    |       |        |        |        | 677    |       |        |         |       |      
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|                                                                       |                                                         |                                 | Total operating costs and expenses |        |        | 17,080 |        |        |       | 15,050 |         |        |       | 17,752 | 
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|Loss from operations                                                   |                                                         |                                 | (2,403                             | )      |        |        | (9,383 | )      |       |        | (14,158 | )     
|Non-cash amortization of deemed discount on
    convertible debentures |                                                         |                                 | (415                               | )      |        |        |       |        |       |        |        |       
|Interest income (expense), net                                         |                                                         |                                 | (8                                 | )      |        |        | 55     |        |       |        | 164     |       
|Other income (expense), net                                            |                                                         |                                 | (241                               | )      |        |        | 19     |        |       |        | (29     | )     
|Rental income, net                                                     |                                                         |                                 | 282                                |        |        |        | 612    |        |       |        | 261     |       
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|Net loss                                                               |                                                         | $                               | (2,785                             | )      |        | $      | (8,697 | )      |       | $      | (13,762 | )     
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|Net loss per common share:                                             |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|                                                                       | Basic and diluted                                       |                                 | $                                  | (0.07  | )      |        | $      | (0.28  | )     |        | $       | (0.56  | )    
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       
|                                                                       | Weighted average shares of common stock
    outstanding |                                 |                                    | 38,407 |        |        |        | 31,425 |       |        |         | 24,722 |      
|                                                                       |                                                         |                                 |                                    |        |        |        |        |        |       |        |         |       

See accompanying notes.

47



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.




CONSOLIDATED STATEMENTS OF PREFERRED
STOCK

AND STOCKHOLDERS EQUITY
(DEFICIT)


|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |         |         |  
|---------------------------------------------------------------------------------- | ----------------------------------------------------------- | ----------------------------- | --------- | ------------ | - | -------- | ----- | ----------- | - | ------------- | ---------- | ------------- | - | ----------- | ------ | ---------------- | - | - | --- | --- | - | - | ------- | ------- | - | - | ---- | ---- | - | - | ------ | ------- | ------- | -
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   | Accumulated   |            |              
|                                                                                   |                                                             | Preferred Stock               |           | Common Stock |   |          |       |             |   | Other         |            | Total        
|                                                                                   |                                                             |                               |           |              |   | Deferred |       | Accumulated |   | Comprehensive |            | Stockholders
|                                                                                   |                                                             | Shares                        |           | Amount       |   | Shares   |       | Amount      |   | Compensation  |            | Deficit       |   | Gain/(Loss) |        | Equity/(Deficit)
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                 
|                                                                                   |                                                             |                              
|                                                                                   |                                                             | (In thousands, except shares)
|Balances at December 31, 1999                                                      |                                                             |                               | 2,155,715 |              |   | $        | 5,081 |             |   |               | 24,470,068 |               |   | $           | 65,423 |                  |   | $ | (53 | )   |   | $ | (51,724 | )       |   | $ | (20  | )    |   | $ | 13,626 |        
|Stock compensation for options and warrant
    granted to consultants              |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 15     |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 15     |        
|                                                                                   | Deferred compensation                                       |                               |           |             |   |          |       |            |   |               |            |              |   |             |        | 46               |   |   |     | (46 | ) |   |         |        |   |   |      |     |   |   |        |        |        
|                                                                                   | Amortization of deferred compensation                       |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     | 28  |   |   |         |        |   |   |      |     |   |   |        | 28      |        
|                                                                                   | Issuance of common stock upon exercise of stock
    options |                               |           |             |   |          |       |            |   |               |            | 298,665       |   |             |        | 602              |   |   |     |    |   |   |         |        |   |   |      |     |   |   |        | 602     |        
|                                                                                   | Issuance of common stock to board members                   |                               |           |             |   |          |       |            |   |               |            | 60,000        |   |             |        | 16               |   |   |     |    |   |   |         |        |   |   |      |     |   |   |        | 16      |        
|Issuance of shares pursuant to employee stock
    purchase plan                    |                                                             |                               |          |              |   |          |      |             |   |               | 93,666     |               |   |             | 50     |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 50     |        
|Other issuance of common stock                                                     |                                                             |                               |          |              |   |          |      |             |   |               | 380,692    |               |   |             |       |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   |       |        
|Comprehensive income (loss):                                                       |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|                                                                                   | Net unrealized gain on investments                          |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         |        |   |   |      | 352  |   |   |        | 352     |        
|                                                                                   | Net loss                                                    |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         | (13,762 | ) |   |      |     |   |   |        | (13,762 | )      
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|                                                                                   |                                                             | Total comprehensive loss      |           |              |  |          |       |             |  |               |            |               |  |             |        |                  |  |   |     |     |  |   |         |         |  |   |      |      |  |   |        |         | (13,410 | )
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|Balances at December 31, 2000                                                      |                                                             |                               | 2,155,715 |              |   |          | 5,081 |             |   |               | 25,303,091 |               |   |             | 66,152 |                  |   |   | (71 | )   |   |   | (65,486 | )       |   |   | 332  |      |   |   | 927    |        
|Deferred compensation offset by cancellation of
    unvested options to a director |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | (26    | )                |   |   | 26  |     |   |   |        |         |   |   |     |      |   |   |       |        
|Stock compensation for options and warrants
    granted to consultants             |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 601    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 601    |        
|Amortization of deferred compensation                                              |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             |       |                  |   |   | 25  |     |   |   |        |         |   |   |     |      |   |   | 25     |        
|Issuance of shares pursuant to employee stock
    purchase plan                    |                                                             |                               |          |              |   |          |      |             |   |               | 193,214    |               |   |             | 112    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 112    |        
|Issuance of common stock to investors, net of
    issuance costs                   |                                                             |                               |          |              |   |          |      |             |   |               | 8,969,397  |               |   |             | 5,270  |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 5,270  |        
|Issuance of common stock upon exercise of warrant                                  |                                                             |                               |          |              |   |          |      |             |   |               | 2,873,563  |               |   |             | 1,500  |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 1,500  |        
|Issuance of common stock upon exercise of stock
    options                        |                                                             |                               |          |              |   |          |      |             |   |               | 50,338     |               |   |             | 58     |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 58     |        
|Warrant issuances for cash                                                         |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 351    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 351    |        
|Comprehensive income (loss)                                                        |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|                                                                                   | Net unrealized loss on investments                          |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         |        |   |   |      | (447 | ) |   |        | (447    | )      
|                                                                                   | Net loss                                                    |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         | (8,697  | ) |   |      |     |   |   |        | (8,697  | )      
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|                                                                                   |                                                             | Total comprehensive loss:     |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |         | (9,144  | )
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|Balances at December 31, 2001                                                      |                                                             |                               | 2,155,715 |              |   |          | 5,081 |             |   |               | 37,389,603 |               |   |             | 74,018 |                  |   |   | (20 | )   |   |   | (74,183 | )       |   |   | (115 | )    |   |   | (300   | )      
|Deemed discount on convertible debentures                                          |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 1,484  |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 1,484  |        
|Stock compensation for options and warrants
    granted to consultants             |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 405    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 405    |        
|Deferred compensation                                                              |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 19     |                  |   |   | (19 | )   |   |   |        |         |   |   |     |      |   |   |       |        
|Amortization of deferred compensation                                              |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             |       |                  |   |   | 17  |     |   |   |        |         |   |   |     |      |   |   | 17     |        
|Issuance of shares pursuant to employee stock
    purchase plan                    |                                                             |                               |          |              |   |          |      |             |   |               | 313,114    |               |   |             | 146    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 146    |        
|Issuance of common stock to investors                                              |                                                             |                               |          |              |   |          |      |             |   |               | 640,000    |               |   |             | 960    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 960    |        
|Issuance of common stock upon exercise of stock
    options                        |                                                             |                               |          |              |   |          |      |             |   |               | 355,432    |               |   |             | 414    |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 414    |        
|Cancellation of shares                                                             |                                                             |                               |          |              |   |          |      |             |   |               | (21,557    | )             |   |             |       |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   |        |        
|Warrant issuances associated with convertible
    debentures                       |                                                             |                               |          |              |   |          |      |             |   |               |           |               |   |             | 82     |                  |   |   |    |     |   |   |        |         |   |   |     |      |   |   | 82     |        
|Comprehensive income (loss)                                                        |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|                                                                                   | Other-than-temporary loss on investments                    |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         |        |   |   |      | 367  |   |   |        | 367     |        
|                                                                                   | Net unrealized loss on investments                          |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         |        |   |   |      | (294 | ) |   |        | (294    | )      
|                                                                                   | Net loss                                                    |                               |           |             |   |          |       |            |   |               |            |              |   |             |        |                 |   |   |     |    |   |   |         | (2,785  | ) |   |      |     |   |   |        | (2,785  | )      
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|                                                                                   |                                                             | Total comprehensive loss:     |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |         | (2,712  | )
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        
|Balances at December 31, 2002                                                      |                                                             |                               | 2,155,715 |              |   | $        | 5,081 |             |   |               | 38,676,592 |               |   | $           | 77,528 |                  |   | $ | (22 | )   |   | $ | (76,968 | )       |   | $ | (42  | )    |   | $ | 496    |        
|                                                                                   |                                                             |                               |           |              |   |          |       |             |   |               |            |               |   |             |        |                  |   |   |     |     |   |   |         |         |   |   |      |      |   |   |        |        

See accompanying notes.

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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.




CONSOLIDATED STATEMENTS OF CASH
FLOWS

|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |        |  
|------------------------------------------------------------------------------- | ------------------------------------------------------------- | ------------------------ | ------ | ----- | - | ---- | ------ | ----- | - | - | ------- | ------ | -
|                                                                                |                                                               |                         
|                                                                                |                                                               | Years Ended December 31,
|                                                                                |                                                               |                         
|                                                                                |                                                               | 2002                     |        | 2001  |   | 2000
|                                                                                |                                                               |                          |        |       |   |     
|                                                                                |                                                               |                         
|                                                                                |                                                               | (In thousands)          
|Operating Activities                                                            |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Net loss                                                                        |                                                               | $                        | (2,785 | )     |   | $    | (8,697 | )     |   | $ | (13,762 | )     
|Adjustments to reconcile net loss to net cash
    used in operating activities: |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|                                                                                | Stock based compensation expense                              |                          |        | 381   |   |      |        | 601   |   |   |         | 15     |  
|                                                                                | Amortization of deemed discount on convertible
    debentures |                          |        | 415   |   |      |        |      |   |   |         |       |  
|                                                                                | Amortization of deferred compensation                         |                          |        | 17    |   |      |        | 25    |   |   |         | 28     |  
|                                                                                | Depreciation and amortization                                 |                          |        | 1,138 |   |      |        | 2,207 |   |   |         | 2,559  |  
|                                                                                | Other-than-temporary loss on investment                       |                          |        | 367   |   |      |        |      |   |   |         |       |  
|                                                                                | Issuance of common stock to board members                     |                          |        |      |   |      |        |      |   |   |         | 16     |  
|                                                                                | Loss (gain) on the sale of equipment                          |                          |        | (37   | ) |      |        | 43    |   |   |         | 21     |  
|                                                                                | Loss on discontinued product line                             |                          |        |      |   |      |        | 677   |   |   |         |       |  
|                                                                                | Write down of licenses and patents                            |                          |        |      |   |      |        | 81    |   |   |         |       |  
|Changes in operating assets and liabilities:                                    |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|                                                                                | Accounts receivable                                           |                          |        | (932  | ) |      |        | (487  | ) |   |         | 1,717  |  
|                                                                                | Inventories                                                   |                          |        | (295  | ) |      |        | (40   | ) |   |         | 120    |  
|                                                                                | Prepaid expenses and other current assets                     |                          |        | (509  | ) |      |        | 112   |   |   |         | (146   | )
|                                                                                | Accounts payable                                              |                          |        | 135   |   |      |        | 619   |   |   |         | (1,968 | )
|                                                                                | Accrued compensation                                          |                          |        | 219   |   |      |        | 183   |   |   |         | (1,290 | )
|                                                                                | Deferred revenue                                              |                          |        |      |   |      |        |      |   |   |         | (167   | )
|                                                                                | Accrued development costs                                     |                          |        |      |   |      |        | (541  | ) |   |         | (1,038 | )
|                                                                                | Other accrued liabilities                                     |                          |        | 149   |   |      |        | 136   |   |   |         | 25     |  
|                                                                                | Other non-current liabilities                                 |                          |        | (99   | ) |      |        | 115   |   |   |         | 411    |  
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Net cash used in operating activities                                           |                                                               |                          | (1,836 | )     |   |      | (4,966 | )     |   |   | (13,459 | )     
|Investing Activities                                                            |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Purchase of short-term investments                                              |                                                               |                          | (1,261 | )     |   |      |       |       |   |   |        |       
|Proceeds from the sale of short-term investments                                |                                                               |                          |       |       |   |      | 499    |       |   |   | 9,806   |       
|Purchase of property, equipment and leasehold
    improvements                  |                                                               |                          | (355   | )     |   |      | (183   | )     |   |   | (85     | )     
|Proceeds from the sale of equipment                                             |                                                               |                          | 51     |       |   |      | 44     |       |   |   | 10      |       
|Increase (decrease) in deposits and other assets                                |                                                               |                          | 142    |       |   |      | 191    |       |   |   | (370    | )     
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Net cash (used in) provided by investing
    activities                         |                                                               |                          | (1,423 | )     |   |      | 551    |       |   |   | 9,361   |       
|Financing Activities                                                            |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Issuance of common stock and warrants, net                                      |                                                               |                          | 560    |       |   |      | 7,290  |       |   |   | 652     |       
|Net proceeds from common stock to be issued                                     |                                                               |                          |       |       |   |      | 960    |       |   |   |        |       
|Issuance of convertible debentures                                              |                                                               |                          | 4,000  |       |   |      |       |       |   |   |        |       
|Short-term borrowings                                                           |                                                               |                          | 1,251  |       |   |      |       |       |   |   |        |       
|Repayment of note payable to bank                                               |                                                               |                          | (5,000 | )     |   |      |       |       |   |   |        |       
|Repayment of short-term and long-term debt                                      |                                                               |                          | (1,522 | )     |   |      | (382   | )     |   |   | (370    | )     
|Repayments of capital lease obligations                                         |                                                               |                          | (57    | )     |   |      | (88    | )     |   |   | (278    | )     
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Net cash (used in) provided by financing
    activities                         |                                                               |                          | (768   | )     |   |      | 7,780  |       |   |   | 4       |       
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Increase (decrease) in cash and cash equivalents                                |                                                               |                          | (4,027 | )     |   |      | 3,365  |       |   |   | (4,094  | )     
|Cash and cash equivalents at beginning of period                                |                                                               |                          | 10,183 |       |   |      | 6,818  |       |   |   | 10,912  |       
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Cash and cash equivalents at end of period                                      |                                                               | $                        | 6,156  |       |   | $    | 10,183 |       |   | $ | 6,818   |       
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Supplemental Disclosures of Cash Flow
    Information:                          |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Cash paid for interest                                                          |                                                               | $                        | 238    |       |   | $    | 466    |       |   | $ | 667     |       
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Noncash Investing and Financing
    Activities:                                 |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Equipment subleased under direct finance lease                                  |                                                               | $                        |       |       |   | $    |       |       |   | $ | 591     |       
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       
|Warrant issued in connection with convertible
    debentures                    |                                                               | $                        | 82     |       |   | $    |       |       |   | $ |        |       
|                                                                                |                                                               |                          |        |       |   |      |        |       |   |   |         |       

See accompanying notes.

49



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.




NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS



|   |                                                                
|-- | ---------------------------------------------------------------
|1. | Organization and Summary of Significant
    Accounting Policies



| |                                       
| | --------------------------------------
| | Organization and Business
    Activity

Questcor Pharmaceuticals, Inc. (the
Company) is the surviving corporation of a merger
between Cypros Pharmaceutical Corporation and RiboGene, Inc. The
merger was completed on November 17, 1999.

The Company is a specialty pharmaceutical company
that markets and sells brand name prescription drugs and
ethically promoted healthcare products. The Company focuses on
the treatment of acute and critical care conditions, including
central nervous system diseases and gastroenterological
disorders. The Companys strategy is to acquire
pharmaceutical products from companies who have stopped actively
marketing such products that they believe have sales growth
potential, are promotion sensitive and complement the
Companys existing products. In addition, through corporate
collaborations, the Company intends to develop new patented
intranasal formulations of previously FDA approved drugs. The
Company currently markets five products in the U.S.: HP
Acthar® Gel (Acthar), an injectable drug
that is commonly used in treating patients with infantile spasm,
and is approved for the treatment of certain CNS disorders with
an inflammatory component including the treatment of flares
associated with MS; Ethamolin®, an injectable drug
used to treat enlarged weakened blood vessels at the entrance to
the stomach that have recently bled, known as esophageal
varices; GlofilTM-125 and Inulin in Sodium Chloride,
which are both injectable agents that assess how well the kidney
is working by measuring glomerular filtration rate, or kidney
function; and VSL#3TM, a patented probiotic marketed
as a dietary supplement, to promote normal gastrointestinal
function. Probiotics are living organisms in food and dietary
supplements, which, upon ingestion in certain numbers, improve
the health of the host beyond their inherent basic nutrition.
The consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries. All significant
intercompany accounts and transactions have been eliminated.



| |                 
| | ----------------
| | Use of Estimates

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



| |                                                
| | -----------------------------------------------
| | Cash Equivalents and Short-Term
    Investments

The Company considers highly liquid investments
with maturities from the date of purchase of three months or
less to be cash equivalents. The Company determines the
appropriate classification of investment securities at the time
of purchase and reaffirms such designation as of each balance
sheet date. Available-for-sale securities are carried at fair
value, with the unrealized gains and losses, if any, reported in
a separate component of stockholders equity. The cost of
securities sold is based on the specific identification method.
Realized gains and losses, if any, are included in the Statement
of Operations, in Interest income/expense, net.



| |                      
| | ---------------------
| | Concentration of Risk

Financial instruments which subject the Company
to potential credit risk consist of cash, cash equivalents,
short-term investments and accounts receivable. The Company
invests its cash in high credit quality government and corporate
debt instruments and believes the financial risks associated
with these instruments are minimal. The Company extends credit
to its customers, primarily large drug wholesalers and
distributors and certain hospitals and treatment centers, in
connection with its product sales. The Company has not
experienced significant credit losses on its customer accounts,
with the exception of the product sales to NutraMax on which the
Company wrote off $29,000 in 2001. Three customers accounted for
30%, 34% and

50



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

20% of product sales for the year ended
December 31, 2002. Three customers accounted for 27%, 22%
and 21% of product sales for year ended December 31, 2001.
The percentages above represent different customers for each
year. NutraMax individually accounted for 29% of product sales
for the year ended December 31, 2000. Three customers
accounted for 36%, 30% and 23% of the accounts receivable
balance as of December 31, 2002.

The Company relies on third party sole-source
manufacturers to produce its finished goods and raw materials.
Third party manufacturers may not be able to meet the
Companys needs with respect to timing, quantity or
quality. All of the Companys manufacturers are sole-source
manufacturers and no alternative suppliers exist.



| |            
| | -----------
| | Inventories

Inventories are stated at the lower of cost
(first-in, first-out method) or market value. Inventory reserves
are provided for when inventory levels exceed forecasted sales
volume, within product shelf life.



| |                       
| | ----------------------
| | Property and Equipment

Property and equipment are stated at cost and
depreciated over the estimated useful lives of the assets
(generally three to five years) using the straight-line method.
Leasehold improvements are amortized over the lesser of the
estimated useful lives (five years) or the remaining term of the
lease.



| |                                           
| | ------------------------------------------
| | Intangible and Other Long-Lived
    Assets

Intangible assets consist of goodwill, assembled
workforce and purchased technology. The goodwill and other
indefinite lived intangible assets was generated from the merger
with RiboGene.

Purchased technology associated with the
acquisitions of Glofil®-125, Inulin, and Ethamolin is
stated at cost and amortized over the estimated sales life of
the product (seven years). The Company periodically reviews the
useful lives of its intangible and long-lived assets, which may
result in future adjustments to the amortization periods.

In July 2001, the Financial Accounting Standards
Board issued SFAS No. 141, Business
Combinations, and SFAS No. 142, Goodwill
and Other Intangible Assets. SFAS 141 specifies the
criteria that intangible assets acquired in a purchase business
combination must meet to be recognized and reported apart from
goodwill, noting that any purchase price allocable to an
assembled workforce may not be accounted for separately.
SFAS No. 142 requires, among other things, that the
assembled workforce be reclassified to goodwill and that
goodwill (including the assembled workforce) and intangible
assets with indefinite useful lives no longer be amortized, but
instead be tested for impairment at least annually in accordance
with SFAS No. 142. The Company adopted the provisions
of SFAS 141 immediately and SFAS 142 effective
January 1, 2002.



| |                                    
| | -----------------------------------
| | Impairment of Long-Lives
    Assets

Long-lived assets are reviewed for impairment
whenever events or changes in circumstances indicate that their
carrying amounts may not be recoverable. Recoverability of
assets is measured by comparison of the carrying amount of the
asset to the net undiscounted future cash flows expected to be
generated from the asset. If the future undiscounted cash flows
are not sufficient to recover the carrying value of the assets,
the assets carrying value is adjusted to fair value.

In October 2001, the Financial Accounting
Standards Board issued Statement of Financial Accounting
Standards (SFAS) No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assetswhich supercedes SFAS
No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

be Disposed Of.SFAS
No. 144 retains the requirements of SFAS No. 121 to
(a) recognize an impairment loss only if the carrying
amount of a long-lived asset is not recoverable from its
undiscounted cash flows and (b) measure an impairment loss
as the difference between the carrying amount and the fair value
of the asset. SFAS No. 144 excludes goodwill from its scope.

The Company regularly evaluates its long-lived
assets for indicators of possible impairment. To date, except
for the discontinued product line (see Note 12), no
impairment has been recorded.



| |                    
| | -------------------
| | Revenue Recognition

Revenues from product sales of Acthar®,
Ethamolin®, GlofilTM-125, Inulin and
VSL#3TM are recognized based upon shipping terms, net
of estimated reserves for sales returns, government chargebacks,
Medicaid rebates, and discounts. Revenue is recognized upon
shipment of product, provided the title to the products has been
transferred at the point of shipment. If title of product
transfers at point of receipt by the customer, revenue is
recognized upon customer receipt of the shipment. Revenues from
GlofilTM-125 unit dose sales are recognized when
the product is sold to end-users in accordance with the
distribution agreement with the third-party distributor. The
Company records estimated sales allowances against product
revenues for expected returns, chargebacks, Medicaid rebates and
discounts based on historical sales returns, chargebacks, and
Medicaid rebates, analysis of return merchandise authorization
and other known factors such as shelf life of products, as
required. The Company continually assesses the historical
returns and other experience and adjusts its allowances as
appropriate. The Companys return policy allows customers
to return expired product for exchange within six months beyond
the expiration date. Effective August 12, 2002 the Company
changed its return goods policy such that it no longer issues
credit memorandums for returns. Rather, all returns are
exchanged for replacement product, and estimated costs for such
exchanges, which include actual product material costs and
related shipping charges, are included in Cost of product sales.
Returns are subject to quality assurance reviews prior to
acceptance. The Company sells product to wholesalers, who in
turn sell its products to pharmacies and hospitals. In the case
of VSL#3TM the Company sells directly to consumers.
The Company does not require collateral from its customers.

Revenue earned under collaborative research
agreements is recognized as the research services are performed.
Amounts received in advance of services to be performed are
recorded as deferred revenue until the services are performed.

The Company has received government grants which
support the Companys research effort in specific research
projects. These grants provide for reimbursement of approved
costs incurred as defined in the various awards.

The Company has received payments in exchange for
proprietary licenses related to technology and patents. The
Company classifies these payments as Technology
Revenue. These payments are recognized as revenues upon
receipt of cash and the transfer of intellectual property, data
and other rights licensed, assuming no continuing material
obligations exist.

Shipping and handling costs are included in Cost
of product sales.



| |                         
| | ------------------------
| | Research and Development

Research and development expenditures, including
direct and allocated expenses, are charged to expense as
incurred.



| |                   
| | ------------------
| | Net Loss Per Share

Basic and diluted net loss per share is based on
net loss for the relevant period, divided by the weighted
average number of common shares outstanding during the period.
Diluted earnings per share gives effect to all

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

potential dilutive common shares outstanding
during the period such as options, warrants, convertible
preferred stock, and contingently issuable shares. Diluted net
loss per share has not been presented separately as, due to the
Companys net loss position, it is anti-dilutive. Had the
Company been in a net income position at December 31, 2002,
shares used in calculating diluted earnings per share would have
included the dilutive effect of an additional 8,942,262 stock
options, 2,155,715 convertible preferred shares,
2,531,646 shares issuable upon conversion of debentures (if
dilutive), placement unit options for 986,898 shares and
4,851,201 warrants. For the year ended December 31, 2001,
shares used in calculating diluted earnings per share would have
included the dilutive effect of an additional 6,878,466 stock
options, 2,155,715 convertible preferred shares, placement unit
options for 986,898 shares and 3,185,185 warrants. For the
year ended December 31, 2000 shares used in
calculating diluted earnings per share would have included the
dilutive effect of an additional 5,580,068 stock options,
2,155,715 convertible preferred shares, placement unit options
for 986,898 shares and 989,664 warrants.



| |                         
| | ------------------------
| | Stock-Based Compensation

The Company generally grants stock options to its
employees for a fixed number of shares with an exercise price
equal to the fair value of the shares on the date of grant. As
allowed under the Statement of Financial Accounting Standards
No. 123, Accounting for Stock-Based
Compensation (SFAS 123), the Company has
elected to follow Accounting Principles Board Opinion
No. 25, Accounting for Stock Issued to
Employees (APB 25) and related
interpretations in accounting for stock awards to employees.
Accordingly, no compensation expense is recognized in the
Companys financial statements in connection with stock
options granted to employees with exercise prices not less than
fair value. Deferred compensation for options granted to
employees is determined as the difference between the deemed
fair market value of the Companys common stock on the date
options were granted and the exercise price. For purposes of
disclosures pursuant to SFAS 123, as amended by
SFAS 148, the estimated fair value of options is amortized
to expense over the options vesting periods.

Compensation expense for options granted to
non-employees has been determined in accordance with
SFAS 123 as the fair value of the consideration received or
the fair value of the equity instruments issued, whichever is
more reliably measured. Compensation expense for options granted
to non-employees is periodically re-measured as the underlying
options vest.

The following table illustrates the effect on net
loss per share if we had applied the fair value recognition
provisions of SFAS 123 to stock-based employee compensation
(in thousands, except per share amounts):

|                                      |                                                                                                               |                          |        |        |   |      |        |        |   |   |         |         |  
|------------------------------------- | ------------------------------------------------------------------------------------------------------------- | ------------------------ | ------ | ------ | - | ---- | ------ | ------ | - | - | ------- | ------- | -
|                                      |                                                                                                               |                         
|                                      |                                                                                                               | Years Ended December 31,
|                                      |                                                                                                               |                         
|                                      |                                                                                                               | 2002                     |        | 2001   |   | 2000
|                                      |                                                                                                               |                          |        |        |   |     
|Net loss as reported                  |                                                                                                               | $                        | (2,785 | )      |   | $    | (8,697 | )      |   | $ | (13,762 | )      
|                                      | Add: Stock-based employee compensation expense
    included in reported net loss                              |                          |        |       |   |      |        |       |   |   |         |        |  
|                                      | Deduct: Total stock-based employee compensation
    expense determined under fair value method for all awards |                          |        | (1,508 | ) |      |        | (1,283 | ) |   |         | (1,574  | )
|                                      |                                                                                                               |                          |        |        |   |      |        |        |   |   |         |        
|                                      | Pro forma net loss                                                                                            |                          | $      | (4,293 | ) |      | $      | (9,980 | ) |   | $       | (15,336 | )
|                                      |                                                                                                               |                          |        |        |   |      |        |        |   |   |         |        
|Basic and diluted net loss per share: |                                                                                                               |                          |        |        |   |      |        |        |   |   |         |        
|                                      | As reported                                                                                                   |                          | $      | (0.07  | ) |      | $      | (0.28  | ) |   | $       | (0.56   | )
|                                      |                                                                                                               |                          |        |        |   |      |        |        |   |   |         |        
|                                      | Pro forma                                                                                                     |                          | $      | (0.11  | ) |      | $      | (0.32  | ) |   | $       | (0.62   | )
|                                      |                                                                                                               |                          |        |        |   |      |        |        |   |   |         |        

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)



| |                     
| | --------------------
| | Comprehensive Income

SFAS No. 130, Reporting
Comprehensive Income established standards for the
reporting and display of comprehensive income and its components
(revenues, expenses, gains and losses) in a full set of
general-purpose financial statements. The Company provides the
required disclosure in the Consolidated Statements of Preferred
Stock and Stockholders Equity (Deficit).



| |                    
| | -------------------
| | Segment Information

SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information
redefines segments and requires companies to report financial
and descriptive information about their operating segments. The
Company has determined that it operates in one business segment
and therefore SFAS 131 does not affect the Companys
financial statements.

Net product sales revenue consists of the
following (in thousands):

|               |  |                          |        |      |  |      |       |  |  |   |       | 
|-------------- |  | ------------------------ | ------ | ---- |  | ---- | ----- |  |  | - | ----- | 
|               |  |                         
|               |  | Years Ended December 31,
|               |  |                         
|               |  | 2002                     |        | 2001 |  | 2000
|               |  |                          |        |      |  |     
|HP Acthar® Gel |  | $                        | 9,009  |      |  | $    | 2,141 |  |  | $ |      | 
|Ethamolin®     |  |                          | 3,527  |      |  |      | 1,695 |  |  |   | 618   | 
|VSL#3TM        |  |                          | 523    |      |  |      |      |  |  |   |      | 
|GlofilTM-125   |  |                          | 732    |      |  |      | 982   |  |  |   | 691   | 
|Inulin         |  |                          | 28     |      |  |      | 317   |  |  |   | 207   | 
|NeofloTM       |  |                          |       |      |  |      | 61    |  |  |   | 618   | 
|               |  |                          |        |      |  |      |       |  |  |   |       | 
|               |  | $                        | 13,819 |      |  | $    | 5,196 |  |  | $ | 2,134 | 
|               |  |                          |        |      |  |      |       |  |  |   |       | 



| |                                         
| | ----------------------------------------
| | Recently Issued Accounting
    Standards

In November 2002, the Financial Accounting
Standards Board (FASB) issued Interpretation
No. 45 (FIN 45), Guarantors
Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of
Others an Interpretation of FASB Statements
No. 5, 57, and 107 and Rescission of FASB Interpretation
No. 34. FIN 45 elaborates on the existing disclosure
requirements for most guarantees, including residual value
guarantees issued in conjunction with operating lease
agreements. It also clarifies that at the time a company issues
a guarantee, the company must recognize an initial liability for
the fair value of the obligation it assumes under that guarantee
and must disclose that information in its interim and annual
financial statements. The initial recognition and measurement
provisions apply on a prospective basis to guarantees issued or
modified after December 31, 2002. The adoption of the
recognition and measurement provisions of this interpretation
are not currently expected to have any impact on the
Companys results of operations and financial position.

In December 2002, the FASB issued
SFAS No. 148, Accounting for Stock-Based
Compensation  Transition and Disclosure.
SFAS 148 amends SFAS 123, Accounting for
Stock-Based Compensation, to provide alternative methods
of transition to the SFAS 123 fair value method of
accounting for stock-based employee compensation. In addition,
SFAS 148 requires disclosure of the effects of an
entitys accounting policy with respect to stock-based
employee compensation on reported net income and earnings per
share in annual and interim financial statements. SFAS 148
is effective for fiscal years ending after December 15,
2002. The interim statements disclosure requirements are
effective for the first interim statement that includes
financial information after December 15, 2002. The Company
does not believe there will be a material financial effect from
the adoption of this new standard unless the Company was to make
a change in their

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

accounting policy and account for stock option
grants as compensation expense under the provisions of
SFAS 123.

In January 2003, the FASB issued Interpretation
No. 46, Consolidation of Variable Interest Entities
(FIN 46). The objective of FIN 46 is to
improve financial reporting by companies involved with variable
interest entities by requiring the variable interest entity to
be consolidated by a company if that company is subject to a
majority of the risk of loss from the variable interest
entitys activities or entitled to receive a majority of
the entitys residual returns or both. Variable interests
held in the same entity by a related party will be treated as
the companys own interest in the determination of when
consolidation is required. The consolidation requirements of
FIN 46 apply immediately to variable interest entities
created after January 31, 2003. The consolidation
requirements apply to older entities in the first fiscal year or
interim period beginning after June 15, 2003. The Company
is currently evaluating the provisions of FIN 46 and will
adopt this Interpretation in 2003.



| |                  
| | -----------------
| | Reclassifications

Certain amounts in the prior years
financial statements have been reclassified to conform with the
current year presentation. The amounts reclassified from
research and development to cost of product sales totaled
$495,000 and $110,000 for the years ended December 31, 2001
and 2000, respectively.



|   |                                             
|-- | --------------------------------------------
|2. | Development and Collaboration
    Agreements

In June 2002, the Company signed a definitive
License Agreement with Fabre Kramer Pharmaceuticals, Inc
(Fabre Kramer) of Houston, TX, for the exclusive
worldwide development and commercialization of
HypnostatTM (intranasal triazolam) for insomnia and
PanistatTM (intranasal alprazolam) for panic
disorders. Immediately after the agreement was signed, the
Company received a cash payment of $250,000 for the transfer of
all technology related to the products. The Company has no
continuing obligations related to the transfer of the
technology. The Company is entitled to future payments from
Fabre Kramer when specific developmental milestones are met. In
addition, the Company is entitled to receive royalty payments
from worldwide product-related revenues, based on a percentage
of total revenues. This License Agreement is the final result of
the Letter of Understanding originally signed in June 2001 and
modified in January 2002. Under the License Agreement, Fabre
Kramer will immediately assume the primary responsibility for
the development of HypnostatTM and
PanistatTM.

In December 2001, the Company entered into a
promotion agreement (effective January 2002) with VSL
Pharmaceuticals (VSL), a private company owned in
part by the major shareholders of Sigma Tau. As Sigma Tau
beneficially owned approximately 39% of the Companys
outstanding stock as of December 31, 2002, VSL
Pharmaceuticals is deemed to be a related party of the Company.
On June 27, 2002, the Company signed an amendment to the
promotion agreement. Under these agreements, the Company has
agreed to purchase VSL#3 from VSL at a stated price, and has
also agreed to promote, sell, warehouse and distribute the VSL#3
product direct to customers at its cost and expense. Revenues
from sales of VSL#3 are recognized when product is shipped to
the customer. The Company does not accept returns of VSL#3.
VSL#3 revenue for the year ended December 31, 2002 was
$523,000 and is included in Net product sales. An access fee is
paid quarterly to VSL, which varies based upon sales and costs
incurred by the Company. For the year ended December 31,
2002 the amount of costs incurred by the Company was greater
than the amount owing to VSL. This net reimbursement to the
Company for 2002 of $107,000 is included as a deduction in Sales
and marketing expense in the Consolidated Statement of
Operations, as VSL has reimbursed the Company for these costs.
Additionally, under these agreements, VSL has paid the Company
$200,000 in exchange for services provided by the Company to
launch the VSL#3 product which was recognized in full as of
December 31, 2002 and is included in Services revenue
from a related party on the Statements of Operations. The
term of the agreement is three years, however, VSL is entitled
to unilaterally terminate the

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

agreement by providing written notice to the
Company after the one-year anniversary of the effective date.
The VSL#3 product was formally launched on May 23, 2002. As
of December 31, 2002 the Company owes VSL $254,000 included
in accounts payable in the accompanying balance sheet.

The Company entered into a License Agreement in
December 2000 with Ahn-Gook Pharmaceutical Co., Ltd
(Ahn-Gook) for marketing intranasal metoclopramide,
to be marketed under the trade name Emitasol, in Korea. Ahn-Gook
expects to begin sales of Emitasol in the Republic of Korea in
the first half of 2003. Ahn-Gook intends to manufacture Emitasol
themselves in Korea. This product is sold as Pramidin in Italy.
Ahn-Gook received government approval to market Emitasol in
2002. We received an up-front cash payment of $50,000 in
December 2000, which was recognized as revenue in 2002 upon
completion of the agreement obligation. In addition, we received
a payment of $150,000 upon transfer of technology to Ahn-Gook in
December 2002 and will earn royalties based on actual sales in
Korea. The License Agreement was amended in December 2002 to
include twelve additional countries in Asia. We will receive an
upfront payment and additional royalties upon commercialization
of Emitasol in each of these new countries.

On September 27, 2000 the Company entered
into an agreement with Rigel Pharmaceuticals, Inc. to sell
exclusive rights to certain proprietary antiviral drug research
technology. In exchange for a cash payment of $750,000,
83,333 shares of Rigels preferred stock valued at
$500,000 (or $6 per share) and potential future milestone
and royalty payments, Questcor has assigned to Rigel certain
antiviral technology, including its Hepatitis C drug discovery
technology for the research, development and commercialization
of pharmaceutical products.

As a result of the merger with RiboGene, the
Company assumed an option and license agreement entered into
with Roberts Pharmaceutical Corporation, a subsidiary of Shire
Pharmaceuticals Ltd, (Shire) in July 1998 for the
development of Emitasol, an intranasally administered drug being
developed for the treatment of diabetic gastroparesis and for
the prevention of delayed onset emesis. Under the terms of the
agreement, Shire had the option to acquire exclusive North
American rights to Emitasol. This option expired in July 2001.
Under the collaboration agreement, the Company was obligated to
fund one-half of the clinical development expenses for Emitasol
up to an aggregate of $7.0 million. Through
December 31, 2002 the Company has made development payments
for Emitasol, under the terms of the agreement with Shire,
totaling $4.6 million, consisting of $4.1 million paid
to Shire and approximately $500,000 paid to other parties for
allowable expenses including patent and trademark costs. Shire
asserts that the Company owes $348,000 in development expenses
incurred by it under the collaboration agreement prior to the
expiration of the option, which the Company has accrued for as
of December 31, 2002. The Company had Shire return certain
items to the Company, including the transfer of the
Investigational New Drug applications relating to Emitasol and
the assignment of the intellectual property relating to Emitasol
generated in the course of the development program. Shire also
holds all 2,155,715 outstanding shares of the Companys
Series A preferred stock which it originally acquired from
RiboGene for a payment of $10 million. The Company intends
to seek a new corporate partner to continue the development of
Emitasol worldwide.



|   |                    
|-- | -------------------
|3. | Product Acquisition

In July 2001, the Company entered into an Asset
Purchase agreement with Aventis Pharmaceuticals Inc.
(Aventis) to acquire the worldwide rights to Acthar
as well as inventory and certain assets used to manufacture
Acthar. Acthar is a corticotropin product that has been used, as
part of a special program administered by the National
Organization for Rare Disorders (NORD), to treat
seriously ill children with a seizure complex, referred to as
infantile spasm or West Syndrome, a potentially fatal disorder,
and patients with multiple sclerosis who experience severe and
painful episodes of flare. The Company paid an
upfront fee and has agreed to pay an annual royalty on net sales
above a predetermined amount. As part of the agreement, Aventis
manufactured the finished goods from existing inventory of the
active pharmaceutical ingredient (the API) through
July 2002. Under the agreement the Company is committed to
purchase the

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

API and other inventory residing at Aventis. The
Company began shipping Acthar® in the third quarter of 2001.



|   |            
|-- | -----------
|4. | Investments

Following is a summary of investments, at fair
value, based on quoted market prices for these investments (in
thousands):

|                        |                              |                |       |                 |  |            |     |     |   |   |       |       | 
|----------------------- | ---------------------------- | -------------- | ----- | --------------- |  | ---------- | --- | --- | - | - | ----- | ----- | 
|                        |                              | Gross          |       | Gross           |  | Estimated 
|December 31, 2002       |                              | Amortized Cost |       | Unrealized Loss |  | Fair Value
|                        |                              |                |       |                 |  |           
|Cash equivalents:       |                              |                |       |                 |  |            |     |     |   |   |       |      
|                        | Money Market Funds           |                | $     | 5,400           |  |            | $   |    |   |   | $     | 5,400 | 
|                        | Commercial Paper             |                |       | 499             |  |            |     |    |   |   |       | 499   | 
|                        |                              |                |       |                 |  |            |     |     |   |   |       |      
|                        |                              | $              | 5,899 |                 |  | $          |    |     |   | $ | 5,899 |      
|                        |                              |                |       |                 |  |            |     |     |   |   |       |      
|Short-term investments: |                              |                |       |                 |  |            |     |     |   |   |       |      
|                        | Commercial Paper             |                | $     | 498             |  |            | $   |    |   |   | $     | 498   | 
|                        | Corporate Bonds              |                |       | 761             |  |            |     |    |   |   |       | 761   | 
|                        | Corporate Equity Investments |                |       | 133             |  |            |     | (42 | ) |   |       | 91    | 
|                        |                              |                |       |                 |  |            |     |     |   |   |       |      
|                        |                              | $              | 1,392 |                 |  | $          | (42 | )   |   | $ | 1,350 |      
|                        |                              |                |       |                 |  |            |     |     |   |   |       |      

|                        |                                               |                |       |                 |  |            |   |      |   |   |       |       | 
|----------------------- | --------------------------------------------- | -------------- | ----- | --------------- |  | ---------- | - | ---- | - | - | ----- | ----- | 
|                        |                                               | Gross          |       | Gross           |  | Estimated 
|December 31, 2001       |                                               | Amortized Cost |       | Unrealized Loss |  | Fair Value
|                        |                                               |                |       |                 |  |           
|Cash equivalents:       |                                               |                |       |                 |  |            |   |      |   |   |       |      
|                        | Money Market Funds                            |                | $     | 4,943           |  |            | $ |     |   |   | $     | 4,943 | 
|                        | Certificate of Deposit (compensating balance) |                |       | 5,000           |  |            |   |     |   |   |       | 5,000 | 
|                        |                                               |                |       |                 |  |            |   |      |   |   |       |      
|                        |                                               | $              | 9,943 |                 |  |            |  |      |   | $ | 9,943 |      
|                        |                                               |                |       |                 |  |            |   |      |   |   |       |      
|Short-term investments: |                                               |                |       |                 |  |            |   |      |   |   |       |      
|                        | Corporate Equity Investments                  |                | $     | 500             |  |            | $ | (112 | ) |   | $     | 388   | 
|                        |                                               |                |       |                 |  |            |   |      |   |   |       |      

In 2002, the Company recognized an
other-than-temporary loss of $367,000 relating to the Rigel
equity investment. As of December 31, 2002 the weighted
average remaining life of the commercial paper is 75 days
and 182 days for the corporate bonds.

The net realized gains on sales of available for
sale investments were not material in 2002, 2001, and 2000.



|   |            
|-- | -----------
|5. | Inventories

Inventories consist of the following (in
thousands):

|                                                   |  |              |     |      |  |   |     |  
|-------------------------------------------------- |  | ------------ | --- | ---- |  | - | --- | -
|                                                   |  |             
|                                                   |  | December 31,
|                                                   |  |             
|                                                   |  | 2002         |     | 2001
|                                                   |  |              |     |     
|Raw materials                                      |  | $            | 70  |      |  | $ |    |  
|Finished goods                                     |  |              | 397 |      |  |   | 152 |  
|Less allowance for excess and obsolete inventories |  |              | (76 | )    |  |   | (56 | )
|                                                   |  |              |     |      |  |   |     |  
|                                                   |  | $            | 391 |      |  | $ | 96  |  
|                                                   |  |              |     |      |  |   |     |  

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)



|   |                       
|-- | ----------------------
|6. | Property and Equipment

Property and equipment consist of the following
(in thousands):

|                                               |  |              |        |      |  |   |       |  
|---------------------------------------------- |  | ------------ | ------ | ---- |  | - | ----- | -
|                                               |  |             
|                                               |  | December 31,
|                                               |  |             
|                                               |  | 2002         |        | 2001
|                                               |  |              |        |     
|Laboratory equipment                           |  | $            | 464    |      |  | $ | 477   |  
|Office equipment, furniture and fixtures       |  |              | 1,196  |      |  |   | 895   |  
|Leasehold improvements                         |  |              | 251    |      |  |   | 206   |  
|                                               |  |              |        |      |  |   |       |  
|                                               |  |              | 1,911  |      |  |   | 1,578 |  
|Less accumulated depreciation and amortization |  |              | (1,326 | )    |  |   | (976  | )
|                                               |  |              |        |      |  |   |       |  
|                                               |  | $            | 585    |      |  | $ | 602   |  
|                                               |  |              |        |      |  |   |       |  

Depreciation and amortization expense for
property and equipment totaled $361,000, $580,000 and $886,000,
respectively, for the years ended December 31, 2002, 2001
and 2000, respectively.



|   |                                                     
|-- | ----------------------------------------------------
|7. | Purchased Technology and Other Intangible
    Assets

Goodwill and other intangibles consist of the
following (in thousands):

|                              |  |              |        |      |  |   |        |  
|----------------------------- |  | ------------ | ------ | ---- |  | - | ------ | -
|                              |  |             
|                              |  | December 31,
|                              |  |             
|                              |  | 2002         |        | 2001
|                              |  |              |        |     
|Goodwill                      |  | $            | 1,023  |      |  | $ | 1,023  |  
|Purchased technology          |  |              | 3,684  |      |  |   | 6,752  |  
|Assembled workforce           |  |              | 616    |      |  |   | 616    |  
|                              |  |              |        |      |  |   |        |  
|                              |  |              | 5,323  |      |  |   | 8,391  |  
|Less accumulated amortization |  |              | (4,462 | )    |  |   | (6,753 | )
|                              |  |              |        |      |  |   |        |  
|                              |  | $            | 861    |      |  | $ | 1,638  |  
|                              |  |              |        |      |  |   |        |  

Goodwill and assembled workforce no longer
subject to amortization amounted to $479,000 at
December 31, 2002. The remaining net balance of $382,000
relates to purchased technology and is being amortized over the
estimated sales life of the associated product (seven years),
which will be amortized in full during 2003. Purchased
technology of $3,068,000 was fully amortized in 2002, and
written off accordingly. Amortization of purchased technology
relating to products totaled $777,000, $1,054,000 and $1,123,000
for the years ended December 31, 2002, 2001, and 2000,
respectively, and is included in depreciation and amortization
in the accompanying statement of operations.

In accordance with SFAS 141 and 142, the
Company discontinued the amortization of goodwill on
January 1, 2002. The Company performed an impairment test
of goodwill as of January 1, 2002, which did not result in
an impairment charge at transition. The Company will continue to
monitor the carrying value of goodwill through the annual
impairment tests.

58



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

A reconciliation of previously reported net loss
and net loss per share to the amounts adjusted for the exclusion
of goodwill amortization, follows (in thousands, except per
share amounts):

|                                          |                                 |                         |        |        |   |      |        |        |   |   |         |         |  
|----------------------------------------- | ------------------------------- | ----------------------- | ------ | ------ | - | ---- | ------ | ------ | - | - | ------- | ------- | -
|                                          |                                 |                        
|                                          |                                 | Year Ended December 31,
|                                          |                                 |                        
|                                          |                                 | 2002                    |        | 2001   |   | 2000
|                                          |                                 |                         |        |        |   |     
|Reported net loss                         |                                 | $                       | (2,785 | )      |   | $    | (8,697 | )      |   | $ | (13,762 | )      
|                                          | Add back: Goodwill amortization |                         |        |       |   |      |        | 546    |   |   |         | 523     |  
|                                          |                                 |                         |        |        |   |      |        |        |   |   |         |        
|                                          | Adjusted net loss               |                         | $      | (2,785 | ) |      | $      | (8,151 | ) |   | $       | (13,239 | )
|                                          |                                 |                         |        |        |   |      |        |        |   |   |         |        
|Basic and diluted earnings per
    share: |                                 |                         |        |        |   |      |        |        |   |   |         |        
|Reported net loss per share               |                                 | $                       | (0.07  | )      |   | $    | (0.28  | )      |   | $ | (0.56   | )      
|                                          | Add back: Goodwill amortization |                         |        |       |   |      |        | 0.02   |   |   |         | 0.02    |  
|                                          |                                 |                         |        |        |   |      |        |        |   |   |         |        
|                                          | Adjusted net loss per share     |                         | $      | (0.07  | ) |      | $      | (0.26  | ) |   | $       | (0.54   | )
|                                          |                                 |                         |        |        |   |      |        |        |   |   |         |        



|   |                       
|-- | ----------------------
|8. | Convertible Debentures

In March 2002, the Company issued
$4.0 million of 8% convertible debentures to an
institutional investor, and Defiante Farmaceutica
Unipessoal L.D.A. (Defiante), a wholly-owned
subsidiary of Sigma-Tau Finanzaria S.p.A
(Sigma-Tau). The Company will pay interest on the
debentures at a rate of 8% per annum on a quarterly basis.
Included in Other Accrued Liabilities on the accompanying
balance sheet at December 31, 2002 is $80,000 of accrued
interest payable on these debentures. The debentures are
convertible into shares of the Companys common stock at a
fixed conversion price of $1.58 per share (subject to
adjustment for stock splits and reclassifications). The
debentures mature on March 15, 2005.

The Company may redeem the debentures for cash
prior to maturity after March 15, 2003, provided the
average of the closing sale price of the Companys common
stock for the twenty (20) consecutive trading days prior to
the delivery of the optional prepayment notice to the holders of
the debentures is equal to or greater than $3.16 per share,
and the Company has satisfied certain equity conditions. At the
end of the term of the debentures, under certain circumstances,
the Company may redeem any outstanding debentures for stock. The
Company may redeem the institutional investors debentures
for stock at maturity, provided the total aggregate number of
shares of the Companys common stock issued to them
(including shares issuable upon conversion of their debenture
and shares issuable upon exercise of their warrant) does not
exceed 7,645,219 shares (representing 19.999% of the total
number of issued and outstanding shares of the Companys
common stock as of March 15, 2002). The Company may redeem
Defiantes debenture for stock at maturity, provided the
market price of the Companys common stock at the time of
redemption is greater than $1.50 per share (representing
the five day average closing sale price of the Companys
common stock immediately prior to March 15, 2002).

The Company issued warrants to the institutional
investor, Defiante and the placement agent to acquire an
aggregate of 1,618,987 shares of common stock at an
exercise price of $1.70 per share. The warrants expire on
March 15, 2006. The warrants issued to the institutional
investor and Defiante were assigned a value of $843,000. The
warrants issued to the placement agent were assigned a value of
$82,000. The warrants were valued using the Black-Scholes method
with the following assumptions: a risk-free interest rate
of 5%; an expiration date of March 15, 2006;
volatility of 0.72; and a dividend yield of 0%. In connection
with the issuance of the debentures and warrants, the Company
recorded $641,000 related to the beneficial conversion feature
on the convertible debentures. The total amount of the deemed
discount on the convertible debentures as a result of the
warrant issuance and the beneficial conversion feature amounts
to $1,484,000. The beneficial conversion feature and warrant
value is amortized over the term of the debentures. At
December 31, 2002, the unamortized balance is $1,092,000.

59



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)



|   |               
|-- | --------------
|9. | Long-Term Debt

Long-term debt consists of the following (in
thousands):

|                                                                                                                                                       |       |              |       |              |  |   |        |     | 
|------------------------------------------------------------------------------------------------------------------------------------------------------ | ----- | ------------ | ----- | ------------ |  | - | ------ | --- | 
|                                                                                                                                                       |       | December 31, |       | December 31,
|                                                                                                                                                       |       | 2002         |       | 2001        
|                                                                                                                                                       |       |              |       |             
|Note payable to a bank due March 2002,
    collateralized by a cash secured facility, bearing interest at
    CD Rate plus 2%                          |       | $            |      |              |  | $ | 5,000  |    
|Convertible debentures (net of deemed discount of
    $1,092) due March 2005                                                                           |       |              | 2,908 |              |  |   |        |    
|Notes payable for product liability insurance                                                                                                          |       |              | 97    |              |  |   |       |    
|Notes payable for equipment financing due
    February 2003, and April 2003 collateralized by the underlying
    equipment, bearing interest at 12.72% |       |              | 121   |              |  |   | 489    |    
|                                                                                                                                                       |       |              |       |              |  |   |        |    
|                                                                                                                                                       |       |              | 3,126 |              |  |   | 5,489  |    
|Less current portion                                                                                                                                   |       |              | (218  | )            |  |   | (5,368 | )  
|                                                                                                                                                       |       |              |       |              |  |   |        |    
|                                                                                                                                                       | Total |              | $     | 2,908        |  |   | $      | 121 | 
|                                                                                                                                                       |       |              |       |              |  |   |        |    

The cost of equipment specifically pledged under
these agreements totals $643,000 and $1.5 million at
December 31, 2002 and 2001, respectively.

In December 1998, RiboGene borrowed
$5.0 million pursuant to a long-term note payable to a
bank. The note required monthly interest only payments at prime
plus 1.0%. The rate at December 31, 2001 was 5.75%. In
November 2000, the $5.0 million long-term note payable was
converted into $5.0 million cash secured facility. The
minimum $5.0 million compensatory balance, which was
invested in certificates of deposit, is included in cash and
cash equivalents. The note was paid in full on January 18,
2002.

The amounts due for notes payable for equipment
financing and product liability insurance in 2003 are $218,000.
The convertible debentures are due in March 2005.

The fair value of notes payable is estimated
based on current interest rates available to the Company for
debt instruments of similar terms, degrees of risk and remaining
maturities. The carrying value of these obligations approximate
their respective fair values as of December 31, 2002 and
2001. Interest expense was $315,000, $465,000 and $729,000 for
the years ended December 31, 2002, 2001 and 2000,
respectively.

On January 2, 2002, the Company entered into
a revolving accounts receivable line of credit with Pacific
Business Funding, a division of Greater Bay Bancorp, the parent
company of Cupertino National Bank. Cupertino National Bank
previously held the $5 million note. Under the agreement,
the Company can borrow up to the lesser of 80% of its eligible
accounts receivable balance or $3,000,000. Interest accrues on
outstanding advances at an annual rate equal to prime rate plus
four and one-half percent. The term of the agreement is one year
and the agreement automatically renews annually, unless
terminated by the Company. There were no borrowings under this
line of credit as of December 31, 2002. The line of credit
is secured by a blanket lien on all assets including
intellectual property. As of December 31, 2002, $1,200,000
was available for borrowing under the line of credit.

60



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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)



|    |            
|--- | -----------
|10. | Commitments



| |       
| | ------
| | Leases

The Company leases its office and distribution
facilities under operating lease agreements, the terms of which
range from 5 years to 15 years. Minimum future
obligations under operating leases as of December 31, 2002
are as follows (in thousands):

|                         |  |           |        | 
|------------------------ |  | --------- | ------ | 
|                         |  | Operating
|Year ending December 31, |  | Leases   
|                         |  |          
|2003                     |  | $         | 1,497  | 
|2004                     |  |           | 1,549  | 
|2005                     |  |           | 1,466  | 
|2006                     |  |           | 1,294  | 
|2007                     |  |           | 1,322  | 
|Thereafter               |  |           | 6,242  | 
|                         |  |           |        | 
|                         |  | $         | 13,370 | 
|                         |  |           |        | 

In July 2000, the Company entered into an
agreement to sublease 15,000 square feet of laboratory and
office space including sub-leasing its laboratory equipment for
its Hayward, California facility. Due to the termination of the
Companys drug discovery programs, the space and equipment
were no longer needed. Thus, the Company subleased this space.
The current sublessee of the Hayward facility subleased and
fully occupied the 30,000 square feet facility after the
Companys relocation occurred in May 2001.

On October 26, 2000, the Company entered
into an agreement to lease a new facility in Union City,
California. The initial lease term is for 120 months, with
an option for an additional five years. As a condition of this
agreement, the Company provided an irrevocable Letter of Credit
in the amount of $659,000, with the face value of the Letter of
Credit, subject to certain conditions, declining thereafter. The
Company entered into this new lease agreement in order to take
advantage of lower rent costs as laboratory space is no longer
necessary. This letter of credit is included in Deposits
and other assets on the Balance Sheet.

Rent expense totaled $1,649,000, $1,556,000, and
$1,037,000 for the years ended December 31, 2002, 2001 and
2000, respectively. Rent expense comprises the cost associated
with three buildings leased by the Company including its current
headquarters located in Union City, California, its former
headquarters in Hayward, California, and distribution facility
in Carlsbad, California. Net rental income totaled $282,000,
$612,000, and $261,000 for the years ended December 31,
2002, 2001 and 2000, respectively. In the above table, minimum
lease payments have not been reduced by minimum sublease income
of approximately $997,000, $1,048,000, $1,100,000 and $563,000
in the years ended December 31, 2003, 2004, 2005 and 2006,
respectively.



|    |                                             
|--- | --------------------------------------------
|11. | Preferred Stock and Stockholders
    Equity



| |                
| | ---------------
| | Preferred Stock

Pursuant to its Amended and Restated Articles of
Incorporation, the Company is authorized to issue up to
7,500,000 shares of Preferred Stock in one or more series
and has issued 2,155,715 shares of its Series A
Preferred Stock, as of December 31, 2002. The holders of
outstanding shares of Series A Preferred Stock are entitled
to receive dividends concurrently with the Common Stock, if any,
as may be declared from time to time by the Board of Directors
out of assets legally available therefrom. The holders of
Series A Preferred Stock are entitled to the number of
votes equal to the number of shares of Common Stock into which
each share of Series A Preferred Stock could be converted
on the record date. Each share of Series A Preferred Stock
is convertible, at the option of the holder of such share, into
one share of Common Stock, subject to

61



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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

adjustments for stock splits, stock dividends or
combinations of outstanding shares of Common Stock. The Articles
of Incorporation authorizes the issuance of Preferred Stock in
classes, and the Board of Directors may designate and determine
the voting rights, redemption rights, conversion rights and
other rights relating to such class of Preferred Stock, and to
issue such stock in either public or private transactions.

The Series A Preferred Stock has a
liquidation preference equal to $4.64 per share plus all
declared and unpaid dividends which is payable upon the
occurrence of a liquidation, consolidation, merger or the sale
of substantially all of the Companys stock or assets. The
Company excluded the Series A Preferred Stock from total
stockholders equity due to the nature of the liquidation
preference of the preferred stock.



| |             
| | ------------
| | Common Stock

The holders of outstanding shares of the
Companys Common Stock are entitled to receive ratably such
dividends, if any, as may be declared from time to time by the
Board of Directors out of assets legally available therefore,
subject to the payment of preferential dividends with respect to
any Preferred Stock that may be outstanding. In the event of a
liquidation, dissolution and winding-up of the Company, the
holders of outstanding Common Stock are entitled to share
ratably in all assets available for distribution to the Common
Stock shareholders after payment of all liabilities of the
Company, subject to rights of the Preferred Stock. The holders
of the Common Stock are entitled to one vote per share.

In April 2001, the Company entered into a Stock
and Warrant Purchase Agreement with Sigma-Tau pursuant to which
Sigma-Tau purchased (i) an aggregate of
2,873,563 shares of common stock at a purchase price of
$0.52 per share, for an aggregate purchase price of
$1,500,000, and (ii) a warrant to purchase an additional
2,873,563 shares of common stock at a purchase price of
$0.52 per share. In May 2001, as required under the rules
of AMEX, the Company sought and received shareholder approval to
allow for full exercise of the warrant. In July 2001, Sigma-Tau
assigned the warrant to Paolo Cavazza and Claudio Cavazza, the
principal shareholders of Sigma-Tau, who exercised the warrant
in full, purchasing 2,873,563 shares of common stock at a
purchase price of $0.52 per share, resulting in aggregate
proceeds to the Company of $1,500,000 (including the $100,000
originally paid by Sigma-Tau to acquire the warrant).

In July 2001, the Company entered into a Stock
Purchase Agreement with Sigma-Tau pursuant to which Sigma-Tau
purchased 5,279,034 shares of common stock at a purchase
price of $0.66 per share, for an aggregate purchase price
of $3,500,000.

In December 2001, the Company entered into a
Promotion Agreement (effective January 2002) with VSL
Pharmaceuticals, Inc., a private company owned in part by the
principal shareholders of Sigma-Tau, to promote, sell and
distribute the product VSL#3 in the U.S. In connection with
this Promotion Agreement, the Company entered into two Stock and
Warrant Purchase Agreements, one with Paolo Cavazza and one with
Claudio Cavazza, to purchase (i) an aggregate of
640,000 shares of common stock for a purchase price of
$1.50 per share (representing a twenty percent premium to
its market price for the five days prior to execution of the
Purchase Agreements), for an aggregate purchase price of
$960,000, and (ii) warrants, at an aggregate purchase price
of $300,000, to purchase an additional 1,800,000 shares of
common stock at a purchase price of $1.75 per share before
December 1, 2003. The Company issued the common stock
related to this transaction in February 2002, and as such, it is
reflected as Unissued common stock on the
Companys Balance Sheet at December 31, 2001.
Additionally, in connection with this transaction, the Company
entered into a standstill agreement with Sigma-Tau whereby
Sigma-Tau and its affiliates agreed to limit purchases of common
stock on the open market to no more that 2,000,000 shares
through July 2003.

On April 30, 2001, the Company closed a
financing which totaled $442,000. This investment came from a
group of individual investors. The Company issued an aggregate
of 816,800 shares of common stock and sold warrants to
purchase an additional 408,400 shares of common stock with
an exercise price of these warrants of

62



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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

$0.64 per share. The warrants are
exercisable from the date of issuance until the close of
business on April 30, 2006.



| |                             
| | ----------------------------
| | Placement Agent Unit Options

As part of the acquisition of RiboGene, the
Company assumed placement agent options from a 1997 offering of
preferred stock by RiboGene. At December 31, 2002, options
to purchase 986,898 shares of common stock and 61,475
Class A warrants were outstanding at an aggregate exercise
price of approximately $1,096,000. The Class A warrants
have an exercise price of $4.64 per share and expire in
June 2003.



| |         
| | --------
| | Warrants

The Company has 4,789,726 warrants outstanding at
December 31, 2002 (excluding 61,475 Class A warrants
underlying Placement Agent Unit Options).

|                              |       |        |           |                  |  |                  |      |      |  |  |     |     | 
|----------------------------- | ----- | ------ | --------- | ---------------- |  | ---------------- | ---- | ---- |  |  | --- | --- | 
|                              |       |        |           | Weighted Average |  | Weighted Average
|                              |       |        |           | Exercise Price   |  | Remaining       
|                              |       |        |           | per Share of     |  | Contractual Life
|                              |       | Shares |           | Common Stock     |  | (In Years)      
|                              |       |        |           |                  |  |                 
|Class A common stock warrants |       |        | 245,917   |                  |  | $                | 4.64 |      |  |  | 0.5 |    
|Other common stock warrants   |       |        | 4,543,809 |                  |  | $                | 1.80 |      |  |  | 1.8 |    
|                              |       |        |           |                  |  |                  |      |      |  |  |     |    
|                              | Total |        |           | 4,789,726        |  |                  | $    | 1.94 |  |  |     | 1.6 | 
|                              |       |        |           |                  |  |                  |      |      |  |  |     |    



| |                   
| | ------------------
| | Stock Option Plans

For the years ended December 31, 2002 and
2001, the Company recorded amortization of deferred stock
compensation of $17,000 and $25,000, respectively. As of
December 31, 2002 the Company had $22,000 of remaining
unamortized deferred compensation. This amount is included as a
deduction of stockholders equity and is being amortized
over the vesting period of the underlying options.

Pro forma information regarding net loss and loss
per share is required by SFAS No. 123, as disclosed in
Note 1, has been determined as if the Company has accounted
for its employee stock options under the fair value method set
forth in SFAS No. 123. The Black-Scholes option
valuation model was developed for use in estimating the fair
value of traded options which have no vesting restrictions and
are fully transferable. In addition, option valuation models
require the input of highly subjective assumptions including the
expected stock price volatility. Because the Companys
employee stock options have characteristics significantly
different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair
value estimate, in managements opinion, the existing
models do not necessarily provide a single reliable measure of
the fair value of its employee stock options. For purposes of
pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options vesting period.

|                                |  |              |     |      |  |      |     |   |  |  |     |  
|------------------------------- |  | ------------ | --- | ---- |  | ---- | --- | - |  |  | --- | -
|                                |  |             
|                                |  | Years Ended 
|                                |  | December 31,
|                                |  |             
|                                |  | 2002         |     | 2001 |  | 2000
|                                |  |              |     |      |  |     
|Expected stock price volatility |  |              | 82  | %    |  |      | 86  | % |  |  | 72  | %
|Risk-free interest rate         |  |              | 5   | %    |  |      | 5   | % |  |  | 5   | %
|Expected life (in years)        |  |              | 2.2 |      |  |      | 3.1 |   |  |  | 1.0 |  
|Expected dividend yield         |  |              |    |      |  |      |    |   |  |  |    |  

On September 28, 2000, the Company adopted
the Employee Stock Purchase Plan (ESPP). As of
December 31, 2002 all shares of common stock were issued
under the ESPP. The ESPP provides for payroll deductions for
eligible employees to purchase common stock at the lesser of
(i) 85% of the fair market value

63



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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

of the common stock on the offering date and
(ii) 85% of the fair market value of the common stock on
the purchase date. The first purchase date was December 31,
2000. On this date 93,666 shares were purchased at
$0.53 per share. During the year ended December 31,
2001, 193,214 shares were purchased under this plan at an
average purchase price of $0.58 per share. During the year ended
December 31, 2002, 313,114 shares were purchased under
this plan at an average purchase price of $0.52 per share.

As of December 31, 2001,
12,500,000 shares of common stock were reserved for
issuance under the 1992 Employee Stock Option Plan (the
1992 Plan). In December 2002, the board reduced
the number of shares available for grant by
1,220,053 shares. This resulted in 11,279,947 shares
of common stock authorized under the 1992 Plan as of
December 31, 2002. The 1992 Plan provides for the grant of
incentive and nonstatutory stock options with various vesting
periods, generally four years, to employees, directors and
consultants. The exercise price of incentive stock options must
equal at least the fair market value on the date of grant, and
the exercise price of nonstatutory stock options may be no less
than 85% of the fair market value on the date of grant. The
maximum term of options granted under the 1992 Plan is ten years.

As of December 31, 2002,
1,250,000 shares of common stock were reserved for issuance
under the 1993 Non Employee Directors Stock Option Plan (the
Directors Plan). The Directors Plan
provides for the granting of 25,000 options to purchase common
stock upon appointment as a non-employee director and an
additional 10,000 options each January thereafter upon
reappointment. The options vest over four years and the exercise
price of the options is 85% of the fair market value on the date
of grant. The maximum term of options granted under the 1993
Directors Plan is ten years.

Each outside director received $1,000 for each
Board of Directors meeting attended during fiscal year
2002. Additionally, for service as a director in 2002, each
outside director was granted an additional option under the 1992
Plan to purchase 30,000 shares of Common Stock at an
exercise price equal to the then fair market value of the Common
Stock. Such option grant is now fully vested as to each
director. For the calendar year 2001, the Company compensated
members of the Board of Directors for attending the Board of
Directors meetings, by granting them 30,000 options each to
purchase common stock in lieu of the $2,000 payment per meeting.
The options were issued under the 1992 Plan and vest over twelve
months. For the calendar year 2000, the Company paid members of
the Board of Directors in cash ($2,000) for attending the Board
of Directors meetings. The number of shares of common stock
issued with each stock bonus was equal to $2,000 divided by the
ten-day average of the closing sales price for the common stock
as quoted on the American Stock Exchange for the ten trading
days immediately preceding the date of the board meeting at
which the Stock Bonus is earned. Stock bonuses were 100% vested
on the date of the grant. The Company recognized $16,000 of
expense related to stock bonuses for the year ended
December 31, 2000.

The following table summarizes stock option
activity under the 1992 and 1993 Plans:

|                             |           |             |           |                  |   |   |      |      | 
|---------------------------- | --------- | ----------- | --------- | ---------------- | - | - | ---- | ---- | 
|                             |           | Options     |           | Weighted Average
|                             |           | Outstanding |           | Exercise Price  
|                             |           |             |           |                 
|Balance at December 31, 2000 |           |             | 5,580,068 |                  |   | $ | 2.19 |     
|                             | Granted   |             |           | 3,284,900        |   |   | $    | 1.00 | 
|                             | Exercised |             |           | (50,338          | ) |   | $    | 1.15 | 
|                             | Canceled  |             |           | (1,936,164       | ) |   | $    | 2.11 | 
|                             |           |             |           |                  |   |   |      |     
|Balance at December 31, 2001 |           |             | 6,878,466 |                  |   | $ | 1.65 |     
|                             | Granted   |             |           | 3,128,923        |   |   | $    | 1.31 | 
|                             | Exercised |             |           | (355,432         | ) |   | $    | 1.16 | 
|                             | Canceled  |             |           | (709,695         | ) |   | $    | 3.30 | 
|                             |           |             |           |                  |   |   |      |     
|Balance at December 31, 2002 |           |             | 8,942,262 |                  |   | $ | 1.41 |     
|                             |           |             |           |                  |   |   |      |     

64



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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

At December 31, 2002, options to purchase
4,296,617 shares of common stock were exercisable and there
were 2,831,044 shares available for future grant under both
plans. The weighted average fair values of options granted was
$0.83, $0.59 and $0.72 for the years ended December 31,
2002, 2001 and 2000, respectively.

During 2002, 2001 and 2000, there were 40,000,
743,633 and 173,633 options granted to consultants,
respectively. These options are re-measured as they vest, using
the Black-Scholes pricing model, and the resulting value is
recognized as expense over the period of services received. For
the years ended December 31, 2002, 2001 and 2000 the
Company recorded $381,000, $601,000 and $15,000, respectively,
as compensation expense.

Exercise prices and weighted average remaining
contractual life for the options outstanding as of
December 31, 2002 are as follows:

|                        |  |                     |           |                     |  |                  |      |             |  |                  |       |  |  |  |           |  |  |   |       | 
|----------------------- |  | ------------------- | --------- | ------------------- |  | ---------------- | ---- | ----------- |  | ---------------- | ----- |  |  |  | --------- |  |  | - | ----- | 
|                        |  |                     |           |                     |  |                 
|                        |  | Options Outstanding |           |                    
|                        |  |                     |           | Options Exercisable
|                        |  |                     |           | Weighted Average    |  |                  |      |            
|                        |  | Number              |           | Remaining           |  | Weighted Average |      | Number      |  | Weighted Average
|Range of Exercise Price |  | Outstanding         |           | Contractual Life    |  | Exercise Price   |      | Exercisable |  | Exercise Price  
|                        |  |                     |           |                     |  |                  |      |             |  |                 
|$ 0.47 - $ 0.75         |  |                     | 1,222,575 |                     |  |                  | 8.03 |             |  | $                | 0.69  |  |  |  | 613,534   |  |  | $ | 0.69  | 
|$ 0.81 - $ 0.99         |  |                     | 1,490,000 |                     |  |                  | 8.86 |             |  | $                | 0.94  |  |  |  | 307,019   |  |  | $ | 0.83  | 
|$ 1.00 - $ 1.24         |  |                     | 1,047,086 |                     |  |                  | 8.24 |             |  | $                | 1.07  |  |  |  | 601,729   |  |  | $ | 1.09  | 
|$ 1.25 - $ 1.25         |  |                     | 1,204,549 |                     |  |                  | 6.90 |             |  | $                | 1.25  |  |  |  | 821,044   |  |  | $ | 1.25  | 
|$ 1.30 - $ 1.42         |  |                     | 488,925   |                     |  |                  | 8.36 |             |  | $                | 1.37  |  |  |  | 217,820   |  |  | $ | 1.34  | 
|$ 1.48 - $ 1.50         |  |                     | 1,272,633 |                     |  |                  | 9.11 |             |  | $                | 1.50  |  |  |  | 102,633   |  |  | $ | 1.50  | 
|$ 1.53 - $ 1.66         |  |                     | 969,605   |                     |  |                  | 7.32 |             |  | $                | 1.60  |  |  |  | 620,089   |  |  | $ | 1.63  | 
|$ 1.69 - $ 3.73         |  |                     | 1,157,206 |                     |  |                  | 5.89 |             |  | $                | 2.72  |  |  |  | 923,066   |  |  | $ | 2.94  | 
|$ 3.83 - $ 5.50         |  |                     | 86,450    |                     |  |                  | 2.22 |             |  | $                | 4.27  |  |  |  | 86,450    |  |  | $ | 4.27  | 
|$20.88 - $20.88         |  |                     | 3,233     |                     |  |                  | 3.72 |             |  | $                | 20.88 |  |  |  | 3,233     |  |  | $ | 20.88 | 
|                        |  |                     |           |                     |  |                  |      |             |  |                  |       |  |  |  |           |  |  |   |       | 
|                        |  |                     | 8,942,262 |                     |  |                  | 7.80 |             |  | $                | 1.41  |  |  |  | 4,296,617 |  |  | $ | 1.62  | 
|                        |  |                     |           |                     |  |                  |      |             |  |                  |       |  |  |  |           |  |  |   |       | 



| |                
| | ---------------
| | Reserved Shares

The Company has reserved shares of common stock
for future issuance as follows:

|                                                                                          |  |              |            | 
|----------------------------------------------------------------------------------------- |  | ------------ | ---------- | 
|                                                                                          |  | December 31,
|                                                                                          |  | 2002        
|                                                                                          |  |             
|Outstanding options                                                                       |  |              | 8,942,262  | 
|Convertible preferred stock issued and outstanding                                        |  |              | 2,155,715  | 
|Convertible debentures                                                                    |  |              | 2,531,646  | 
|Placement agent unit options                                                              |  |              | 986,898    | 
|Class A warrants (including Class A
    warrants underlying Placement Agent Unit Options) |  |              | 307,392    | 
|Common stock warrants                                                                     |  |              | 4,543,809  | 
|Reserved for future grant or sale under option
    plans                                  |  |              | 2,831,044  | 
|                                                                                          |  |              |            | 
|                                                                                          |  |              | 22,298,766 | 
|                                                                                          |  |              |            | 

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)



|    |                          
|--- | -------------------------
|12. | Discontinued Product Line

In May 2000, the Companys sole customer for
its NeofloTM product, NutraMax Products, Inc., filed
a voluntary petition under Chapter 11 of the
U.S. Bankruptcy Code. The NutraMax bankruptcy filing had a
negative impact on the Companys sales and cash flow during
calendar year 2000 and first quarter of 2001. On April 2,
2001, the U.S. Bankruptcy Court granted NutraMax a motion
to terminate the Companys supply agreement effective that
date. In May 2001, the Company closed its Lees Summit
manufacturing facility where the NeofloTM product was
being produced. As of December 31, 2001, there were no
definitive purchasers of the NeofloTM product and its
related assets, and as a result, the Company recorded a loss on
the discontinuance of the NeofloTM product line of
$677,000. The loss of $677,000 represents a writedown of the
assets of approximately $262,000 consisting mainly of
manufacturing equipment directly related to the
NeofloTM product line and estimated remaining lease
payments of $415,000 for the Lees Summit facility.



|    |             
|--- | ------------
|13. | Income Taxes

As of December 31, 2002, the Company had
federal and state net operating loss carryforwards of
approximately $94 million and $21 million,
respectively. The Company also had federal and California
research and development tax credits of approximately
$1 million and $600,000. The federal and state net
operating loss and credit carryforwards expire at various dates
beginning in the years 2004 through 2022, if not utilized.

Utilization of the Companys net operating
loss and credit carryforwards may be subject to substantial
annual limitation due to the ownership change limitations
provided by the Internal Revenue Code and similar state
provisions. Such an annual limitation could result in the
expiration of the net operating loss and credit carryforwards
before utilization.

Deferred income taxes reflect the net tax effects
of temporary differences between the carrying amounts of assets
for financial reporting and the amount used for income tax
purposes. Significant components of the Companys deferred
tax assets for federal and state income taxes are as follows
(in thousands):

|                          |                                               |              |         |              |  |   |         |        | 
|------------------------- | --------------------------------------------- | ------------ | ------- | ------------ |  | - | ------- | ------ | 
|                          |                                               | December 31, |         | December 31,
|                          |                                               | 2002         |         | 2001        
|                          |                                               |              |         |             
|Deferred tax liabilities: |                                               |              |         |              |  |   |         |       
|                          | Goodwill and purchased intangibles            |              | $       | 200          |  |   | $       | 500    | 
|                          |                                               |              |         |              |  |   |         |       
|Deferred tax assets:      |                                               |              |         |              |  |   |         |       
|                          | Net operating loss carryforwards              |              | $       | 33,200       |  |   | $       | 32,300 | 
|                          | Research and development credits              |              |         | 1,300        |  |   |         | 2,500  | 
|                          | Capitalized research and development expenses |              |         | 1,100        |  |   |         | 1,200  | 
|                          | Acquired research and development             |              |         | 800          |  |   |         | 1,100  | 
|                          | Other, net                                    |              |         | 1,000        |  |   |         | 900    | 
|                          |                                               |              |         |              |  |   |         |       
|Total deferred tax assets |                                               |              | 37,400  |              |  |   | 38,000  |       
|Valuation allowance       |                                               |              | (37,200 | )            |  |   | (37,500 | )     
|                          |                                               |              |         |              |  |   |         |       
|Net deferred taxes        |                                               | $            |        |              |  | $ |        |       
|                          |                                               |              |         |              |  |   |         |       

Due to the Companys lack of earnings
history, the net deferred tax assets have been fully offset by a
valuation allowance. The valuation allowance decreased by
$300,000 in 2002, and increased by $200,000 and
$22.3 million during 2001 and 2000, respectively.

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)



|    |                  
|--- | -----------------
|14. | Legal Proceedings

In July 1998, the Company was served with a
complaint in the U.S. Bankruptcy Court for the southern
District of New York by the Trustee for the liquidation of
the business of A.R. Baron & Co., Inc.
(A.R. Baron) and the Trustee of The Baron
Group, Inc. (the Baron Group), the parent of
A.R. Baron. The complaint alleged that A.R. Baron and
the Baron Group made certain preferential or fraudulent
transfers of funds to the Company prior to the commencement of
bankruptcy proceedings involving A.R. Baron and the Baron
Group. The Trustee sought return of the funds totaling
$3.2 million.

During the quarter ended June 30, 2000, the
Company reached an agreement to settle the Baron litigation and
pay a total amount of $525,000 to the bankruptcy estates of the
Baron entities. Additionally, the Company also reached a
settlement agreement with a former insurer in connection with
the Baron litigation in which the insurer would pay the company
$150,000 in exchange for policy releases. The Company believes
that settling this claim for a net payment of $375,000 which was
charged to operations in 2000, was an acceptable outcome to
avoid incurring further legal fees and management diversion. On
September 26, 2000, the courts formally approved the
settlement and the case is now closed.



|    |                                 
|--- | --------------------------------
|15. | Other Related Party Transactions

In January 2002, the Company entered into a
royalty agreement with Glenridge Pharmaceuticals LLC
(Glenridge). Kenneth R. Greathouse, the
Companys Vice President of Commercial Operations, is a
part owner of Glenridge. This agreement calls for the payment of
royalties on a quarterly basis on the net sales of Acthar®.
The Company has paid Glenridge $443,000 in 2002 related to
royalties on Acthar® sales. The Company has accrued $95,000
for royalties earned in the quarter ended December 31,
2002, which is included in Other Accrued Liabilities in the
accompanying balance sheet.



|    |                          
|--- | -------------------------
|16. | Defined Contribution Plan

The Company sponsors a defined-contribution
savings plan under Section 401(k) of the Internal Revenue
Code covering substantially all full-time U.S. employees.
Participating employees may contribute up to 15% of their
eligible compensation up to the annual Internal Revenue Service
contribution limit and the Plan was adopted in 2000. The Company
matched employee contributions according to specified formulas
and contributed $98,000, $48,000 and $64,000 for the years ended
December 31, 2002, 2001, and 2000, respectively.



|    |                  
|--- | -----------------
|17. | Subsequent Events

In January 2003, the Company completed a private
placement of Series B Convertible Preferred Stock and
Warrants to purchase common stock to various investors. Gross
proceeds to the Company from the private placement were
$10 million. The Series B Preferred Stock has an
aggregate stated value of $10 million and is entitled to a
quarterly dividend at an initial rate of 8% per annum,
which rate will increase to 10% per annum on and after
January 1, 2006, and to 12% on and after January 1,
2008. In addition, on the occurrence of designated events,
including the failure to maintain Net Cash, Cash Equivalent and
Eligible Investment Balances, as defined, of at least 50% of the
aggregate stated value of the outstanding shares of
Series B Preferred Stock, the dividend rate will increase
by an additional 6% per annum. The Series B Preferred
Stock is entitled to a liquidation preference over the
Companys common stock and Series A Preferred Stock
upon a liquidation, dissolution or winding up of the Company.
The Series B Preferred Stock is convertible at the option
of the holder into the Companys common stock at a
conversion price of $0.9412 per share, subject to certain
anti-dilution adjustments. The Company has the right commencing
on January 1, 2006 (assuming specified conditions are met)
to redeem the Series B Preferred Stock at a price of 110%
of stated value, together with all accrued and unpaid dividends
and arrearage interest. In addition, upon the occurrence of
designated Optional Redemption Events, the holders have the
right to require the Company to redeem the

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Series B Preferred Stock at 100% of stated
value, together with all accrued and unpaid dividends and
arrearage interest.

The terms of the Series B Preferred Stock
contain a variety of affirmative and restrictive covenants,
including limitations on indebtedness and liens. Each share of
Series B Preferred Stock is generally entitled to a number
of votes equal to 0.875 times the number of shares of Common
Stock issuable upon conversion of such share of Series B
Preferred Stock. In addition, the Company agreed that two of the
investors are each entitled to appoint a representative to
attend Company Board of Directors meetings in a nonvoting
observer capacity.

The purchasers of the Series B Preferred
Stock also received for no additional consideration warrants
exercisable for an aggregate of 3,399,911 shares of Common
Stock at an exercise price of $1.0824 per share, subject to
certain anti-dilution adjustments. The warrants expire in
January 2007.

On February 11, 2003 the Board of Directors
of the Company adopted a Shareholder Rights Plan. In connection
with the Rights Plan, the Board of Directors declared a dividend
of one preferred share purchase right (the Rights)
for each outstanding share of common stock, no par value per
share (the Common Shares), of the Company
outstanding at the close of business on February 21, 2003
(the Record Date). Each Right will entitle the
registered holder thereof, after the Rights become exercisable
and until February 10, 2013 (or the earlier redemption,
exchange or termination of the Rights), to purchase from the
Company one one-hundredth ( 1/100th) of a share of
Series C Junior Participating Preferred Stock, no par value
per share (the Preferred Shares), at a price of
$10 per one one-hundredth ( 1/100th) of a Preferred
Share, subject to certain anti-dilution adjustments
(the Purchase Price). Until the earlier to
occur of (i) ten (10) days following a public
announcement that a person or group of affiliated or associated
persons has acquired, or obtained the right to acquire,
beneficial ownership of 15% or more of the Common Shares
(an Acquiring Person) or (ii) ten
(10) business days (or such later date as may be determined
by action of the Board of Directors prior to such time as any
person or group of affiliated persons becomes an Acquiring
Person) following the commencement or announcement of an
intention to make a tender offer or exchange offer the
consummation of which would result in the beneficial ownership
by a person or group of 15% or more of the Common Shares (the
earlier of (i) and (ii) being called the
Distribution Date), the Rights will be evidenced,
with respect to any of the Common Share certificates outstanding
as of the Record Date, by such Common Share certificate. An
Acquiring Person does not include any Existing Holder (defined
as Sigma-Tau Finanziaria S.p.A., together with all of its
Affiliates and Associates, including, without limitation
Defiante Farmaceutica L.D.A., Sigma-Tau
International S.A., Paolo Cavazza and Claudio Cavazza, see
Notes 2 and 8), unless and until such time as such Existing
Holder shall become the beneficial owner of one or more
additional Common Shares of the Company (other than
(i) pursuant to a dividend or distribution paid or made by
the Company on the outstanding Common Shares in Common Shares or
pursuant to a split or subdivision of the outstanding Common
Shares or (ii) additional Common Shares purchased prior to
June 15, 2003 in accordance with the terms of that certain
Letter Agreement dated December 1, 2001 by and between the
Company and Sigma-Tau Finanziaria S.p.A., Paolo Cavazza and
Claudio Cavazza), unless, upon becoming the beneficial owner of
such additional Common Shares, such Existing Holder is not then
the beneficial owner of 15% or more of the Common Shares then
outstanding.

In the event that a Person becomes an Acquiring
Person or if the Company were the surviving corporation in a
merger with an Acquiring Person or any affiliate or associate of
an Acquiring Person and the Common Shares were not changed or
exchanged, each holder of a Right, other than Rights that are or
were acquired or beneficially owned by the Acquiring persons
(which Rights will thereafter be void), will thereafter have the
right to receive upon exercise that number of Common Shares
having a market value of two times the then current Purchase
Price of one Right. In the event that, after a person has become
an Acquiring Person, the Company were acquired in a merger or
other business combination transaction or more than 50% of its
assets or earning power were sold, proper provision shall be
made so that each holder of a Right shall

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QUESTCOR PHARMACEUTICALS, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

thereafter have the right to receive, upon the
exercise thereof at the then current Purchase Price of the
Right, that number of shares of common stock of the acquiring
company which at the time of such transaction would have a
market value of two times the then current purchase price of one
Right.

At any time after a Person becomes an Acquiring
Person and prior to the earlier of one of the events described
in the last sentence in the previous paragraph or the
acquisition by such Acquiring Person of 50% or more of the then
outstanding Common Shares, the Board of Directors may cause the
Company to exchange the Rights (other than Rights owned by an
Acquiring Person which have become void), in whole or in part,
for Common Shares at an exchange rate of that number of Common
Shares having an aggregate value equal to the Spread (as defined
in the Rights Agreement) per Right.

The Rights will be transferred with and only with
the Common Shares until the Distribution Date or earlier
redemption or expiration of the Rights. As soon as practicable
following the Distribution Date, separate certificates
evidencing the Rights (Right Certificates) will be
mailed to holders of record of the Common Shares as of the close
of business on the Distribution Date and such separate Right
Certificates alone will evidence the Rights. The Rights will at
no time have any voting rights.

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##### Table of Contents



QUESTCOR PHARMACEUTICALS, INC.

FINANCIAL STATEMENT SCHEDULES (ITEM
15(a)(2))

SCHEDULE II VALUATION AND QUALIFYING
ACCOUNTS

Years Ended December 31, 2002, 2001 and
2000


|                                                 |                   |                |   |              |  |            |   |            |   |  |   |     |  |  |   |     | 
|------------------------------------------------ | ----------------- | -------------- | - | ------------ |  | ---------- | - | ---------- | - |  | - | --- |  |  | - | --- | 
|                                                 |                   |                |   | Additions/   |  |            |   |           
|                                                 |                   | Balance at     |   | (Deductions) |  | Deductions |   | Balance at
|                                                 |                   | Beginning      |   | Charged to   |  | and        |   | End of    
|                                                 |                   | Period         |   | Income       |  | Write-offs |   | Period    
|                                                 |                   |                |   |              |  |            |   |           
|                                                 |                   |               
|                                                 |                   | (In thousands)
|Reserves for uncollectible accounts              |                   |                |   |              |  |            |   |            |   |  |   |     |  |  |   |    
|                                                 | December 31, 2002 |                | $ | 78           |  |            | $ | (40        | ) |  | $ | 18  |  |  | $ | 20  | 
|                                                 | December 31, 2001 |                | $ | 56           |  |            | $ | 51         |   |  | $ | 29  |  |  | $ | 78  | 
|                                                 | December 31, 2000 |                | $ | 30           |  |            | $ | 170        |   |  | $ | 144 |  |  | $ | 56  | 
|Reserves for obsolete and excess inventories     |                   |                |   |              |  |            |   |            |   |  |   |     |  |  |   |    
|                                                 | December 31, 2002 |                | $ | 56           |  |            | $ | 72         |   |  | $ | 52  |  |  | $ | 76  | 
|                                                 | December 31, 2001 |                | $ | 28           |  |            | $ | 45         |   |  | $ | 17  |  |  | $ | 56  | 
|                                                 | December 31, 2000 |                | $ |             |  |            | $ | 28         |   |  | $ |    |  |  | $ | 28  | 
|Reserves for sales and product return allowances |                   |                |   |              |  |            |   |            |   |  |   |     |  |  |   |    
|                                                 | December 31, 2002 |                | $ | 221          |  |            | $ | 1,143      |   |  | $ | 917 |  |  | $ | 447 | 
|                                                 | December 31, 2001 |                | $ |             |  |            | $ | 271        |   |  | $ | 50  |  |  | $ | 221 | 
|                                                 | December 31, 2000 |                | $ |             |  |            | $ |           |   |  | $ |    |  |  | $ |    | 

All other financial statement schedules are
omitted because the information described therein is not
applicable, not required or is furnished in the financial
statements or notes thereto.

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##### Table of Contents



EXHIBIT INDEX

|        |           |  |  |             |  |                                                                                                                                                                                                                                                                                               
|------- | --------- |  |  | ----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |           |  |  |            
|Number  |           |  |  | Description
|        |           |  |  |            
|        | 2.1(1)    |  |  |             |  | Merger agreement entered into August 4,
    1999, by and among Cypros Pharmaceutical Corporation, a
    California corporation (Parent), Cypros Acquisition
    Corporation, a Delaware corporation and a wholly owned
    subsidiary of Parent, and RiboGene, Inc., a Delaware corporation.
|        | 3.1(2)    |  |  |             |  | Amended and Restated Articles of Incorporation of
    the Company.                                                                                                                                                                                                                            
|        | 3.2(3)    |  |  |             |  | Certificate of Determination of Series B
    Convertible Preferred Stock of the Company.                                                                                                                                                                                                      
|        | 3.3(4)    |  |  |             |  | Certificate of Determination of Series C
    Junior Participating Preferred Stock of the Company.                                                                                                                                                                                             
|        | 3.4(5)    |  |  |             |  | Bylaws of the Company.                                                                                                                                                                                                                                                                        
|        | 4.1(6)    |  |  |             |  | Convertible Debenture between the Company and SF
    Capital Partners Ltd. dated March 15, 2002.                                                                                                                                                                                              
|        | 4.2(6)    |  |  |             |  | Convertible Debenture between the Company and
    Defiante Farmaceutica Unipessoal L.D.A. dated March 15,
    2002.                                                                                                                                                                           
|        | 10.1(7)   |  |  |             |  | Forms of Incentive Stock Option and Non-statutory
    Stock Option.                                                                                                                                                                                                                           
|        | 10.2(8)   |  |  |             |  | 1992 Employee Stock Option Plan, as amended.                                                                                                                                                                                                                                                  
|        | 10.3(9)   |  |  |             |  | 1993 Non-employee Directors Equity Incentive
    Plan, as amended, and related form of Nonstatutory Stock Option.                                                                                                                                                                             
|        | 10.4(9)   |  |  |             |  | Employment Agreement dated as of August 4,
    1999 between the Company and Charles J. Casamento.                                                                                                                                                                                             
|        | 10.5(10)  |  |  |             |  | 2000 Employee Stock Purchase Plan.                                                                                                                                                                                                                                                            
|        | 10.6(11)  |  |  |             |  | Asset Purchase Agreement dated July 27, 2001
    between the Company and Aventis Pharmaceuticals Products,
    Inc.                                                                                                                                                                          
|        | 10.7(11)  |  |  |             |  | First Amendment to Asset Purchase Agreement dated
    January 29, 2002, between the Company and Aventis
    Pharmaceuticals Products, Inc.                                                                                                                                                   
|        | 10.8(11)  |  |  |             |  | Promotion Agreement dated December 1, 2001
    between the Company and VSL Pharmaceuticals, Inc.                                                                                                                                                                                             
|        | 10.9(11)  |  |  |             |  | First Amendment to Promotion Agreement dated
    June 27, 2002 between the Company and VSL Pharmaceuticals,
    Inc.                                                                                                                                                                         
|        | 10.10(12) |  |  |             |  | Stock Purchase Agreement dated July 31, 2001
    between Registrant and Sigma-Tau Finance Holding S.A.                                                                                                                                                                                        
|        | 10.11(13) |  |  |             |  | Warrant dated December 1, 2001 between the
    Company and Paolo Cavazza.                                                                                                                                                                                                                     
|        | 10.12(13) |  |  |             |  | Warrant dated December 1, 2001 between the
    Company and Claudio Cavazza.                                                                                                                                                                                                                   
|        | 10.13(6)  |  |  |             |  | Securities Purchase Agreement between the Company
    and SF Capital Partners Ltd. dated March 15, 2002.                                                                                                                                                                                      
|        | 10.14(6)  |  |  |             |  | Registration Rights Agreement between the Company
    and SF Capital Partners Ltd. dated March 15, 2002.                                                                                                                                                                                      
|        | 10.15(6)  |  |  |             |  | Warrant between the Company and SF Capital
    Partners Ltd. dated March 15, 2002.                                                                                                                                                                                                            
|        | 10.16(6)  |  |  |             |  | Securities Purchase Agreement between the Company
    and Defiante Farmaceutica Unipessoal L.D.A. dated March 15,
    2002.                                                                                                                                                                   
|        | 10.17(6)  |  |  |             |  | Registration Rights Agreement between the Company
    and Defiante Farmaceutica Unipessoal L.D.A. dated March 15,
    2002.                                                                                                                                                                   
|        | 10.18(6)  |  |  |             |  | Warrant between the Company and Defiante
    Farmaceutica Unipessoal L.D.A. dated March 15, 2002.                                                                                                                                                                                             
|        | 10.19(3)  |  |  |             |  | Form of Common Stock Purchase Warrant dated
    January 15, 2003 issued by the Company to purchasers of
    Series B Convertible Preferred Stock.                                                                                                                                             
|        | 10.20*    |  |  |             |  | Amendment to Employment Agreement between the
    Company and Charles J. Casamento dated March 21, 2003.                                                                                                                                                                                      

71



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##### Table of Contents



|        |          |  |  |             |  |                                                                                                                                                                                               
|------- | -------- |  |  | ----------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |          |  |  |            
|Number  |          |  |  | Description
|        |          |  |  |            
|        | 10.21(4) |  |  |             |  | Rights Agreement, dated as of February 11,
    2003, between the Company and Computershare Trust Company, Inc.                                                                                
|        | 10.22(3) |  |  |             |  | Form of Subscription Agreement dated as of
    December 29, 2002 by and between the Company and purchasers
    of Series B Convertible Preferred Stock and Common Stock
    Purchase Warrants.
|        | 10.23*   |  |  |             |  | Letter Agreement dated May 2, 2000 between
    the Company and Kenneth R. Greathouse.                                                                                                         
|        | 10.24*   |  |  |             |  | Amendment to Letter Agreement dated
    March 21, 2003 between the Company and Kenneth R.
    Greathouse.                                                                                     
|        | 10.25*   |  |  |             |  | Letter Agreement dated August 24, 2001
    between the Company and Timothy E. Morris.                                                                                                         
|        | 10.26*   |  |  |             |  | Amendment to Letter Agreement dated
    November 7, 2001 between the Company and Timothy E. Morris.                                                                                           
|        | 10.27*   |  |  |             |  | Amendment to Letter Agreement dated
    March 21, 2003 between the Company and Timothy E. Morris.                                                                                             
|        | 23.1*    |  |  |             |  | Consent of Ernst & Young LLP,
    Independent Auditors.                                                                                                                                       
|        | 99.1*    |  |  |             |  | Certification pursuant to section 906 of the
    Public Company Accounting Reform and Investor Protection Act of
    2002.                                                                    



---



| |   |                
| | - | ---------------
| | * | Filed herewith.



|    |                                                                                                                                                                                             
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Filed as an exhibit to the Companys Annual
    Report on Form 10-K for the fiscal year ended
    December 31, 1999, and incorporated herein by reference.                                  
|   
|(2) | Filed as an exhibit to the Companys
    Registration Statement on Form S-8, Registration Statement
    No. 333-30558, filed on February 16, 2000, and
    incorporated herein by reference.
|   
|(3) | Filed as an exhibit to the Companys Current
    Report on Form 8-K filed on January 16, 2003, and
    incorporated herein by reference.                                                    
|   
|(4) | Filed as an exhibit to the Companys Current
    Report on Form 8-K filed on February 14, 2003, and
    incorporated herein by reference.                                                   
|   
|(5) | Filed as an exhibit to the Companys
    Quarterly Report on Form 10-Q for the quarter ended
    September 30, 2002, and incorporated herein by reference.                                  
|   
|(6) | Filed as an exhibit to the Companys
    Registration Statement on Form S-3, Registration
    No. 333-85160, filed on March 28, 2002, and
    incorporated herein by reference.             
|   
|(7) | Filed as an exhibit to the Companys
    Registration Statement on Form S-1, Registration
    No. 33-51682, and incorporated herein by reference.                                           
|   
|(8) | Filed as an exhibit to the Companys Proxy
    Statement for the 2002 Annual Meeting of Shareholders, filed on
    March 28, 2002, and incorporated herein by reference.                    
|   
|(9) | Filed as an exhibit to the Companys
    Registration Statement Form S-4, Registration Statement
    No. 333-87611, filed on September 23, 1999, and
    incorporated herein by reference.  



|     |                                                                                                                                                                                              
|---- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(10) | Filed as an exhibit to the Companys
    Registration Statement on Form S-8, Registration Statement
    No. 333-46990, filed on September 29, 2000, and
    incorporated herein by reference.
|    
|(11) | Filed as an exhibit to the Companys
    Quarterly Report on Form 10-Q for the quarter ended
    June 30, 2002, and incorporated herein by reference.                                        
|    
|(12) | Filed as an exhibit to the Companys
    Quarterly Report on Form 10-Q for the quarter ended
    June 30, 2001, and incorporated herein by reference.                                        
|    
|(13) | Filed as an exhibit to the Companys Annual
    Report on Form 10-K for the fiscal year ended
    December 31, 2001, and incorporated herein by reference.                                   



| |   |                                                                                               
| | - | ----------------------------------------------------------------------------------------------
| |  | The Company has requested confidential treatment
    with respect to portions of this exhibit.

72