UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON DC 20549

FORM 10-Q

For the quarterly period ended March 31,September 30, 2004

OR

For the transition period from ____________ to ____________. .

Commission file number: 0-29975

ACLARA BioSciences, Inc.

(Exact name of registrant as specified in its charter)

1288 Pear Avenue

Mountain View, California 94043

(Address of principal executive offices and zip code)

650-210-1200

(Registrant’s telephone number, including area code)

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).    YESx    NO¨.

The number of shares outstanding of the registrant’s common stock, par value $0.001 per share, as of April 13,November 5, 2004 was 36,143,347.36,401,508.

ACLARA BIOSCIENCES, INC.

TABLE OF CONTENTS

ACLARA BioSciences is a registered trademark andeTag and the ACLARA logo are trademarks of ACLARA BioSciences, Inc.

i

PART I – FINANCIAL INFORMATION

ITEM 1. Financial Statements

ACLARA BIOSCIENCES, INC.

CONDENSED BALANCE SHEETS

(In Thousands, Except Share and Per Share Amounts)

(Unaudited)

The accompanying notes are an integral part of these condensed financial statements.

ACLARA BIOSCIENCES, INC.

CONDENSED STATEMENTS OF OPERATIONS

(In Thousands, Except Per Share Amounts)

(Unaudited)

The accompanying notes are an integral part of these condensed financial statements.

ACLARA BIOSCIENCES, INC.

CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

(in thousands)

The accompanying notes are an integral part of these condensed financial statements.

ACLARA BIOSCIENCES, INC.

NOTES TO CONDENSED FINANCIAL STATEMENTS

(Unaudited)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited condensed financial statements have been prepared in accordance with generally accepted accounting principles for interim financial statements and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, the accompanying unaudited condensed financial statements contain all adjustments consisting of normal recurring adjustments necessary for a fair presentation of the interim financial information for ACLARA BioSciences, Inc. (“ACLARA”). Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for the presentation of complete financial statements. The preparation of interim financial statements in conformity with generally accepted accounting principals requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of expenses during the reporting period. Actual results could differ from these estimates.

This Form 10-Q should be read in conjunction with the financial statements and notes thereto included in ACLARA’s Form 10-K for the year ended December 31, 2003, as filed with the Securities and Exchange Commission. Furthermore, interim results of operations are not necessarily indicative of the results that may be expected for the entire year or for other interim periods.

Comprehensive Income (Loss)

Comprehensive income (loss) generally represents all changes in stockholders’ equity except those resulting from investments or contributions by stockholders. ACLARA’s unrealized gains (losses) on available-for-sale securities represent the only component of comprehensive income that is excluded from ACLARA’s net loss for the three and nine months ended March 31,September 30, 2004 and 2003. As this componentThe following table summarizes the components of comprehensive income is not significant, individually or in the aggregate, no separate statements of comprehensive income have been presented.loss.

Net Loss Per Share

Basic earnings per share is calculated based on the weighted-average number of common shares outstanding during the period. Diluted earnings per share would give effect to the dilutive effect of common stock equivalents consisting of stock options and warrants (calculated using the treasury stock method). Potentially dilutive securities have been excluded from the diluted earnings per share computations as they have an antidilutive effect due to ACLARA’s net loss.

The following outstanding options and warrants (prior to the application of the treasury stock method), were excluded from the computation of diluted net loss per share as they had an antidilutive effect (in thousands):

Accounting for Stock-Based Compensation

ACLARA accounts for stock-based employee compensation arrangements in accordance with the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No. 25”) and its related interpretations and has elected to follow the disclosure-only provisions of Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”) and SFAS No. 148, “Accounting for Stock-Based Compensation Transition and Disclosure an amendment of FASB Statement No. 123.” Under APB No. 25, compensation expense is based on the difference, if any, on the date of the stock option grant between the fair value of ACLARA’s stock and the exercise price of the stock option.

Had compensation cost for stock-based employee compensation arrangements been determined based on the fair value at the date of the awards consistent with the provisions of SFAS No. 123, the impact on ACLARA’s net loss would be as follows (in thousands, except per share data):

2. AGREEMENT TO MERGE WITH VIROLOGIC, INC.

On May 28, 2004, we entered into an agreement to merge with ViroLogic, Inc. The merger agreement was subsequently amended and is contingent upon approval of both our stockholders and ViroLogic’s stockholders and is subject to the satisfaction of certain closing conditions. Under the terms of the merger agreement, if the merger is completed, each outstanding share of ACLARA common stock will be exchanged for 1.7 shares of ViroLogic common stock and 1.7 contingent value rights (each a “CVR”). Each CVR will represent the right to receive, eighteen months year after the effective time of the merger, a potential cash payment, if any, up to $0.88 per CVR (equivalent of up to $1.50 per share of ACLARA common stock based on the 1.7 to 1 exchange ratio), by which the then-current market value of ViroLogic common stock is less than $2.90 per share. The current market value of ViroLogic common stock at that date will be based on a formula averaging trading prices during the 15 consecutive trading day period immediately prior to the eighteen-month anniversary date. The first $0.50 per CVR of any such payment that is made must be made in cash, with the balance of up to $0.38 per CVR being payable, at ViroLogic’s option, in cash, shares of ViroLogic common stock, or a combination of cash and ViroLogic common stock. In addition, each outstanding option to purchase shares of our common stock will be assumed by ViroLogic, and holders of the assumed ACLARA options will have the right to receive shares of ViroLogic common stock and CVRs (or applicable cash payment, if any, upon exercise after the eighteen-month anniversary of the completion of the merger) upon the exercise of the assumed option at the same exchange ratio.

We incurred expenses related to our proposed merger with ViroLogic of $248,000 and $1.9 million in the three months and nine months ended September 30, 2004, respectively. We expect to incur significant merger-related costs in the remainder of 2004. We expect total merger related expenses during 2004 to be approximately $4.3 million, primarily related to financial advisory, legal and accounting fees. Approximately $1.9 million of the 2004 costs are contingent upon the consummation of the merger. Under certain circumstances, if the merger agreement is terminated, we may be required to pay a termination fee of $5.5 million and an additional amount for reimbursement of ViroLogic’s reasonable out-of-pocket expenses related to the merger, up to $1 million.

3. LEGAL MATTERS

ACLARA and certain of its current or former officers and directors (the “ACLARA defendants”) are named as defendants in a securities class action lawsuit filed in the United States District Court for the Southern District of New York. This action, which was filed on November 13, 2001 and is now captionedACLARA Biosciences, Inc. Initial Public Offering Securities Litigation, also names several of the underwriters involved in ACLARA’s initial public offering (“IPO”) as defendants. This class action is brought on behalf of a purported class of purchasers of ACLARA common stock from the time of ACLARA’s IPO (March 20, 2000) through December 6, 2000. The central allegation in this action is that the underwriters in the ACLARA IPO solicited and received undisclosed commissions from, and entered into undisclosed arrangements with, certain investors who purchased ACLARA stock in the IPO and the after-market. The complaint also alleges that the ACLARA defendants violated the federal securities laws by failing to disclose in the IPO prospectus that the underwriters had engaged in these allegedly undisclosed arrangements. More than 300 issuers who went public between 1998 and 2000 have been named in similar lawsuits. In July 2002, an omnibus motion to dismiss all complaints against issuers and individual defendants affiliated with issuers (including ACLARA defendants) was filed by the entire group of issuer defendants in these similar actions. On February 19, 2003, the Court in this action issued its decision on Defendant’s omnibus motion to dismiss. This decision dismissed the Section 10(b) claim as to ACLARA but denied the motion to dismiss Section 11 claim

as to ACLARA and virtually all of the other defendants. On June 26, 2003, the plaintiffs in the consolidated class action lawsuits announced a proposed settlement with us and the other issuer defendants. The proposed settlement, which has been approved by ACLARA’s board of directors, provides that the insurers of all settling issuers will guarantee that the plaintiffs recover $1 billion from non-settling defendants, including the investment banks who acted as underwriters in those offerings. In the event that the plaintiffs do not recover $1 billion, the insurers for the settling issuers will make up the difference. Under the proposed settlement, the maximum amount that could be charged to ACLARA’s insurance policy in the event that the plaintiffs recovered nothing from the investment banks would be approximately $3.9 million. ACLARA believes that the Company has sufficient insurance coverage to cover the maximum amount that we may be responsible for under the proposed settlement. It is possible that the parties may not reach agreement on the final settlement documents or that the Federal District Court may not approve the settlement in whole or part. If a finalthe settlement is not reached or is not approved by the court, ACLARA believes it has meritorious defenses and intends, in that event, to vigorously defend itself against the suit. As a result of this belief, no liability for this suit has been recorded in the accompanying financial statements. However, ACLARA could be forced to incur significant expenses in the litigation, and in the event there is an adverse outcome, its business could be harmed.

4. CONTINGENCIES

On May 20, 2004 the Board of Directors amended stock options for officers to allow for extended exercisability following termination of employment within twelve (12) months after a change of control. If such event occurs, the Company will recognize additional compensation costs for vested awards at the date of termination. The additional compensation will be equal to the intrinsic value of the vested awards as measured at May 20, 2004. The intrinsic value of all options subject to the modification, vested and unvested, was $2.8 million.

5. SUBSEQUENT EVENTS

On October 1, 2004 the Board of Directors amended stock options for directors, employees and consultants other than executive officers to allow for extended exercisability following termination of employment. If such event occurs, the Company will recognize additional compensation costs for vested awards at the date of termination. The additional compensation will be equal to the intrinsic value of the vested awards as measured at October 1, 2004, assuming all the individuals elect to have their options changed in this way. The intrinsic value of all options subject to the modification, vested and unvested, was $1.5 million.

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

The following discussion of the Financial Condition and Results of Operations should be read in conjunction with our condensed financial statements and accompanying footnotes included elsewhere in this Form 10-Q, and in conjunction with the Form 10-K for the year ended December 31, 2003. StatementsThe discussion in this Management’s“Management’s Discussion and Analysis of Financial Condition and Results of Operations that express that ACLARA “believes”, “anticipates”, “expects” or “plans to” as well as other statements that are not historical fact, areOperations” contains forward-looking statements within the meaning of Section 27A of the Private Securities Litigation Act of 1995.1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements include, without limitation, statements containing the words “believes,” “anticipates,” “expects,” “projects,” and other words of similar import or the negative of those terms or expressions. Such forward-looking statements are subject to known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements, or industry results, to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Actual events or results maycould differ materially from those set forth in such forward-looking statements as a result of the risks and uncertainties described herein and elsewhere, including, but not limited to, those factors discussed in “Factors AffectingThat May Affect Our Business, Operating Results”Results and Our Stock Price” set forth below.below and other risks detailed in our reports filed with the Securities and Exchange Commission. Forward-looking statements in this report are made as of the date of this report and we assume no obligation to update any such forward-looking statements.

OVERVIEW AND EXECUTIVE SUMMARY

We are a leading developer of assay systems, providing critical high-value information about the expression and interaction of genes and proteins within cells, for drug discovery and development and for life science research.

Although we initially focused on the development of proprietary microfluidics technologies and products, we initiated a plan of restructuring in 2002 to streamline our operations, reduce costs associated with the microfluidics aspect of our business and increase our focus on oureTag assay technology. Our business is now focused on the furthercompletion of development and ultimate commercialization of oureTag assay technology and on the expansion of theresearch into applications for which it can be used. TheeTag system is comprised of reagent kits, software and services that simplify and automate various aspects of drug development, preclinical testing and clinical assessment. We commercialize oureTag Assay System in two ways. First, we make certaineTag assays available to pharmaceutical and biotechnology customers for gene expression profiling and protein expression analysis though the purchase ofeTag reagent kits, software, custom assay services, and consulting support. Secondly, we intend to offer collaborative arrangements under which pharmaceutical and biotechnology customers can access our development expertise to provide customizedeTag assays and services for use in clinical development programs. TheseTo date, we have not generated significant revenue from this strategy. Once validated, these assays canmay be used as an aide in patient selection in clinical trials of targeted pharmaceutical therapies that may be highly efficacious in selected patient populations while only minimally effective in the general patient population. Our future products may also include a testing service for use in connection with the treatment of cancer patients. We plan to deliver this service to physicians through a clinical laboratory that we will have to establish under the Clinical Laboratory Improvement Amendments, or CLIA, regulatory framework. Additionally we may develop test kits that may be subject to the regulatory authority of the Food and Drug Administration, or FDA.

We have incurred significant losses since our inception. As of March 31,September 30, 2004, our accumulated deficit was $166.8$175.7 million and total stockholders’ equity was $92.0$83.5 million. Total costs and operating expenses were $4.7 million and $6.8$5.6 million for the three months ended March 31,September 30, 2004 and 2003, respectively and $15.2 million and $18.4 million for the nine months ended September 30, 2004 and 2003, respectively. We expect to incur additional operating losses over at least the next yearone to three years as we continue to invest heavily in research and development activities and continue to commercialize oureTag products.

Essentially all our revenues in 2003 and in the first quarterthree quarters of 2004 have been generated from commercialization of oureTag assay system. Our sources of potential revenue in the remainder of 2004 and for the next several years are likely to be primarily from commercialization of oureTag assay system.

We have entered into collaboration agreements with market leaders in various sectors of the life sciences industry. Our objectives with these agreements, as well as those we plan to execute with other leading companies and academic institutions, are to increase the awareness of, and sponsorship of, oureTag technology and increase the demand for our products and thereby to speed the development and commercialization of oureTag Assay System.

Amersham—In March 2003, we entered into a Joint Marketing and Services Agreement with Amersham Biosciences, Inc. Under this non-exclusive agreement, Amersham will sell and support the MegaBACE^TM, its automated high-throughput DNA analysis system, for use with oureTag Assay System. Amersham is a leader in the marketing of capillary electrophoresis instrumentation to the life sciences research market and has a worldwide installed base of over a thousand systems. Amersham markets and provides support for the instrumentation, and we market and provide support for theeTag Assay System. This co-marketing agreement provides for the payment of fees to us based on sales of Amersham equipment resulting from our marketing efforts. Through the first three quarters of 2004, we received $18,200 in fees from Amersham related to purchase of Amersham equipment that resulted from our marketing efforts. We did not receive any payments from Amersham in 2003. We are not obligated to make any payments to Amersham under the agreement. The agreement expires in March 2005.

Genentech, Inc.—In July 2002, we entered into a collaboration agreement with Genentech for the evaluation ofeTag assays in identifying certain receptor binding and signaling events in various biological samples. This agreement was extended in April 2003 to include more extensive evaluation. The agreement provides for payments by Genentech to us in consideration of our performance of services under the agreement. A milestone payment was received during the fourth quarter of 2003 related to this agreement and additional work was performed during 2004 related to an additional phase of this collaboration, which is now completed. The total fees paid by Genentech under this collaboration agreement during 2002, 2003 and 2004 were $120,000, $840,000 and $160,000, respectively. Genentech does not have any obligations to make any further payments under the agreement or to utilize theeTag technology.

Third Wave Technologies—In October 2002, we entered into License and Supply Agreements with Third Wave Technologies, Inc. under which we were granted a license to certain of Third Wave’s intellectual property for the life of the underlying patents. Under these agreements, we have rights to incorporate Third Wave’s Invader technology and Cleavase enzyme with oureTag technology to offereTag assays for multiplexed gene expression applications for the research market. In addition to licensing the Invader technology platform to us, Third Wave will supply Cleavase enzyme to us for incorporation intoeTag-Invader gene expression assays. Under these agreements, in October 2002, we paid a license fee of $1.5 million to Third Wave, purchased an initial quantity of Cleavase enzyme for $2.75 million and will make royalty payments to Third Wave. For 2003, 2004 and 2005, as we

initiate oureTag commercialization efforts, these royalty payments are fixed in amount at $100,000, $150,000 and $250,000, respectively. These License and Supply Agreements superceded a previous Joint Development and Marketing Agreement, signed in October 2001, between Third Wave and us.

GlaxoSmithKline— In October 2004, we entered into an agreement with GlaxoSmithKline to evaluate our proprietary eTag^™ technology assays for GlaxoSmithKline’s potential use in patient selection for certain targeted cancer therapies. Under the agreement, GlaxoSmithKline will provide to us biological samples treated with a drug, and we will test the samples with our eTag assays, with GlaxoSmithKline providing funding for the study. Both parties will then correlate the parameters measured as biomarkers with response to the drug.

We have invested substantial amounts in establishing our assay system for drug development and life science research. Research and development expenses were $2.9 million and $4.4$3.8 million for the three months ended March 31,September 30, 2004 and 2003, respectively and $8.6 million and $12.3 million for the nine months ended September 30, 2004 and 2003, respectively. Over 59%70% of our 5958 employees at March 31,September 30, 2004 were engaged in research and development activities, all of which are related to oureTag assay technology.

RECENT DEVELOPMENTS

On May 28, 2004, we entered into an Agreement and Plan of Merger and Reorganization with ViroLogic, Inc., Apollo Acquisition Sub, Inc., a wholly-owned subsidiary of ViroLogic, and Apollo Merger Subsidiary, LLC, another wholly-owned subsidiary of ViroLogic. The terms of this agreement were modified on October 18, 2004. The exchange ratio of 1.7 to 1 was not changed. Under the new terms, each CVR will represent the right to receive, eighteen months after the effective time of the merger, a potential payment, if any, up to $0.88 per CVR (equivalent of up to $1.50 per share of ACLARA common stock based on the 1.7 to 1 exchange ratio), by which the then-current market value of ViroLogic common stock is less than $2.90 per share. The first $0.50 per CVR of any such payment that is made must be made in cash, with the balance of up to $0.38 per CVR being payable, at ViroLogic’s option, in cash, shares of ViroLogic common stock, or a combination of cash and ViroLogic common stock. In addition, the deadline for completing the merger was extended to January 31, 2005 pursuant to the terms of the amendment. In connection with the amendment, certain affiliates of two of our largest stockholders, Tang Capital Partners, L.P. and Perry Corp., entered into voting agreements and registration rights agreements with ViroLogic. Pursuant to such voting agreements, such stockholders have agreed to vote their shares in ACLARA in favor of the merger. At the effective time of the proposed merger, Apollo Acquisition Sub, Inc. will merge with and into us, with ACLARA surviving the merger as a wholly-owned subsidiary of ViroLogic, and immediately thereafter, ACLARA will merge with and into Apollo Merger Subsidiary, LLC, with Apollo Merger Subsidiary, LLC surviving the merger and continuing as a wholly-owned subsidiary of ViroLogic. The transaction is subject to the approval of stockholders of both ACLARA and ViroLogic and the satisfaction of other closing conditions. For more information about the terms of the merger, see Notes 2 and 5 in Item 1 above.

In connection with the proposed merger, ViroLogic filed a registration statement on Form S-4, including a joint proxy statement/prospectus, with the Securities and Exchange Commission on June 30, 2004. This Form S-4 was declared effective by the SEC on September 28, 2004 and a joint proxy/prospectus was subsequently mailed to stockholders on or around September 28, 2004. Subsequently, the annual stockholders meetings of ACLARA and ViroLogic scheduled for October 27, 2004 were postponed. In advance of the rescheduled annual meetings to reflect the modifications made to the merger agreement on October 18, 2004, ViroLogic has filed a new registration statement on Form S-4, including a joint proxy/prospectus, reflecting the modified terms. We and ViroLogic will distribute to our respective stockholders of record the new joint proxy statement/prospectus reflecting the revised terms contemplated by the amended merger agreement. Investors and security holders are urged to read the new joint proxy statement/prospectus regarding the proposed merger because it contains important information about the transaction. Investors and security holders may obtain a free copy of the new joint proxy statement/prospectus and other documents filed by ViroLogic and ACLARA at the SEC’s website at www.sec.gov. The new joint proxy statement/prospectus and these other documents may also be obtained for free from ViroLogic and ACLARA. We intend to mail the final joint proxy statement/prospectus to our stockholders in connection with our upcoming annual meeting.

ViroLogic and ACLARA are working to complete the transaction as quickly as possible. ViroLogic and ACLARA hope to complete the transaction by the end of the fourth quarter of 2004. However, we cannot predict the exact timing of the completion of the transaction because the transaction is subject to several conditions and may be subject to United States regulatory approvals. There may be a substantial period of time between the approval of the merger by stockholders and the effectiveness of the transaction.

ACLARA, its directors and executive officers may be deemed to be participants in the solicitation of proxies from ACLARA stockholders in favor of the proposed merger. A description of any interests that the directors and executive officers of ACLARA may have in the transaction is available in the joint proxy statement/prospectus.

We expect that the combined company will leverage ViroLogic’s established infrastructure and experience in patient testing and pharmaceutical development for HIV to access the potentially larger market for cancer testing with ACLARA’s proprietaryeTag technology. In particular, ViroLogic, in support of its HIV business, has an established CLIA-certified clinical laboratory, an established sales and marketing organization and substantial experience with obtaining reimbursement from government and other payors for health care services.

RESULTS OF OPERATIONS

YEARSTHREE MONTHS AND NINE MONTHS ENDED MARCH 31,SEPTEMBER 30, 2004 AND 2003

Revenue

Revenue. Total revenues for the three-monthsthree months ended March 31,September 30, 2004 and 2003 were $597,000approximately $181,000 and $179,000,$276,000, respectively. Total revenues for the nine months ended September 30, 2004 and 2003 were approximately $1.3 million and $860,000, respectively. Revenues were primarily derived from commercialization of oureTag reagent kits and assay system.evaluation services. Revenues for the nine months ended September 30, 2004 increased over the comparable period of 2003 due to increased customer collaborations for evaluation and use of oureTag assays. We expect that our sources of potential revenue in 2004 and for the next several years will be derived from further progress in commercialization of oureTag assay system.

Operating Expenses

Research and Development. During 2003 and 2004, all of our research and development programs have been directed at the research and development of theeTag System. OureTag technology has potential application as a research tool in drug discovery and development in gene expression profiling and protein expression analysis. In addition, oureTag technology has the potential, through detection of unique protein-based biomarkers, to differentiate likely responders from non-responders to certain targeted therapies in certain patient groups. Assays based on this technology have the potential to be used as aides for patient selection in clinical trials of therapeutic products targeted on specific patient populations and as diagnostic services and/or kits to guide physicians in the selection of appropriate therapies for particular patients.

Products in development are as follows:

(2)

Completion of clinical assays for diagnostic use in patient testing is dependent on the successful completion of additional research and development and clinical studies both in collaboration agreements with pharmaceutical and biotechnology companies and in multiple and broader clinical studies that provide data that will enable physicians to utilize the tests. Completion of patient testing assays will also require the development and validation of an assay in a CLIA clinical laboratory-certified format. Successful completion of such research and development and clinical studies is expected to be time-consuming, and could exceed four years.

Many of our research and development expenses support multiple product areas. In particular, there is substantial overlap between our research and development activities in support of protein expression assays and protein-based clinical assays for clinical collaborations and patient testing. Because of this overlap we do not identify and track costs incurred on a project by project basis. The completion of our research and development projects are subject to a number of risks and uncertainties, including unplanned delays or expenditures during our product development, the extent of clinical testing required for regulatory approvals, the timing and results of clinical trials, failure to validate our technology and products in clinical trials and failure to receive any necessary regulatory approvals. Because of these uncertainties, the nature, timing and estimated costs of the efforts necessary to complete our research and development projects cannot be determined or estimated with any degree of certainty. Any delays or additional research and development efforts may also require us to obtain additional sources of funding to complete development of our products. Our failure to complete development of our products would have a material adverse impact on our ability to increase revenues and on our financial position and liquidity.

Research and development expenses for the three-months ended September 30, 2004 and 2003 were approximately $2.9 million and $3.8 million respectively. Research and development expenses for the nine-months ended September 30, 2004 and 2003 were approximately $8.6 million and $12.3 million, respectively. The decrease of $1.4$0.9 million inand $3.7 million for the three and nine months ended September 30, 2004 was primarilypartially due to the favorable impact of a restructuring initiated in the second quarter of 2003 that reduced personnel and related expenses by approximately $675,000$187,000 and $1.5 million, respectively, in comparison to the first quarter ofcomparable period in 2003. Additionally expensesExpenses were reduced by approximately $625,000$627,000 and $1.9 million for the three and nine-months ended September 30, 2004, respectively, compared to the corresponding periods in 2003 due to the inclusion, in 2003, of non-recurring license costs related to a litigation settlement.

Selling, General and Administrative. Selling, General and Administrative expenses for the three-months ended September 30, 2004 and 2003 were approximately $1.5 million and $1.7 million, respectively. Selling, General and Administrative expenses for the nine-months ended September 30, 2004 and 2003 were approximately $4.7 million and $6.1 million, respectively. The decreasedecreases of $750,000$184,000 for the three months ended September 30, 2004 and $1.4 million for the nine months ended September 30, 2004 compared to the corresponding periods in 2004 was2003 were primarily due to reduced personnel and related expenses which declined by approximately $350,000 due to the reductionfavorable impact of stock based compensation, relocation and recruiting and approximately $100,000 of outside services.a restructuring in 2003.

Legal mattersMerger-related Expenses. ACLARAWe incurred expenses related to our proposed merger with ViroLogic, Inc. of $248,000 and certain of its current or former officers and directors (the “ACLARA defendants”) are named as defendants in a securities class action lawsuit filed$1.9 million in the United States District Court forthree months and nine months ended September 30, 2004 respectively. We expect to incur significant merger-related costs in the Southern Districtremainder of New York. This action, which was filed on November 13, 20012004. We expect total merger-related expenses during 2004 to be approximately $4.3 million, primarily related to financial advisory, legal and is now captionedACLARA Biosciences, Inc. Initial Public Offering Securities Litigation, also names severalaccounting fees. Approximately $1.9 million of the underwriters involved in ACLARA’s initial public offering (“IPO”) as defendants. This class action is brought on behalf of a purported class of purchasers of ACLARA common stock from2004 fees costs are contingent upon the time of ACLARA’s IPO (March 20, 2000) through December 6, 2000. The central allegation in this action is that the underwriters in the ACLARA IPO solicited and received undisclosed commissions from, and entered into undisclosed arrangements with, certain investors who purchased ACLARA stock in the IPO and the after-market. The complaint also alleges that the ACLARA defendants violated the federal securities laws by failing to disclose in the IPO prospectus that the underwriters had engaged in these allegedly undisclosed arrangements. More than 300 issuers who went public between 1998 and 2000 have been named in similar lawsuits. In July 2002, an omnibus motion to dismiss all complaints against issuers and individual defendants affiliated with issuers (including ACLARA defendants) was filed by the entire group of issuer defendants in these similar actions. On February 19, 2003, the Court in this action issued its decision on Defendant’s omnibus motion to dismiss. This decision dismissed the Section 10(b) claim as to ACLARA but denied the motion to dismiss Section 11 claim as to ACLARA and virtually allconsummation of the other defendants. On June 26, 2003,merger. Under certain circumstances, if the plaintiffs in the consolidated class action lawsuits announced a proposed settlement with us and the other issuer defendants. The proposed settlement, which has been approved by ACLARA’s board of directors, provides that the insurers of all settling issuers will guarantee that the plaintiffs recover $1 billion from non-settling defendants, including the investment banks who acted as underwriters in those offerings. In the event that the plaintiffs do not recover $1 billion, the insurers for the settling issuers will make up the difference. Under the proposed settlement, the maximum amount that could be charged to ACLARA’s insurance policy in the event that the plaintiffs recovered nothing from the investment banks would be approximately $3.9 million. ACLARA believes that the Company has sufficient insurance coverage to cover the maximum amount thatmerger agreement is terminated, we may be responsiblerequired to pay a termination fee of $5.5 million and an additional amount for underreimbursement of ViroLogic’s reasonable out-of-pocket expenses related to the proposed settlement. It is possible that the parties may not reach agreement on the final settlement documents or that the Federal District Court may not approve the settlement in whole or part. If a final settlement is not reached or is not approved by the court, ACLARA believes it has meritorious defenses and intends, in that event,merger, up to vigorously defend itself against the suit. As a result of this belief, no liability for this suit has been recorded in the accompanying financial statements. However, ACLARA could be forced to incur significant expenses in the litigation, and in the event there is an adverse outcome, its business could be harmed.$1 million.

Interest Income Net. Interest income, net represents income earned on our cash and cash equivalents and marketable investments, net of interest paid on capital leases and equipment loans. Net interest income was $350,000,$463,000, and $440,000$364,000 for the three-months ending March 31,September 30, 2004 and 2003, respectively and approximately $1.2 million and $1.2 million for the nine-months ending September 30, 2004 and 2003, respectively. The decrease inIn relation to the comparable periods of 2003, net interest income from 2003 toincreased slightly for the three months ended September 30, 2004 wasand decreased slightly for the nine months ended September 30, 2004, primarily due to lower average balances in cash and cash equivalents short-term and long-termoffset with higher marketable investments and lowerhigher market interest rates.

LIQUIDITY AND CAPITAL RESOURCES

Since inception, we have financed our operations primarily through our initial public offering in March 2000 that raised net proceeds of $201.0 million, private placements of preferred stock totaling $32.3 million, loans from the landlord of our Mountain View facility and equipment financing lines of credit totaling $4.4 million, capital leases totaling $1.8 million, and research and development funding from collaborators and government grants. As of March 31,September 30, 2004, we had total cash resources of $85.3$78.6 million, comprising $57.2$36.8 million in cash and cash equivalents and $28.1$41.8 million in marketable investments. As of December 31, 2003, our total cash resources were $88.4 million, consisting of $26.4 million in cash and cash equivalents and $62.0 million in marketable investments.

The following table summarizes purchase commitments and minimum rentals due for our facility and other leased assets under long-term, non-cancelable operating leases, capital lease and loans payable as of December 31, 2003September 30, 2004 (in thousands):

A loan agreement with the landlord of our Mountain View facility allowed us to borrow approximately $663,000 for leasehold improvements at an annual interest rate of 8.5%. The principleprincipal balance of this loan at March 31,September 30, 2004 was approximately $431,000$399,000 of which approximately $50,000$70,000 is due and payable during 2004. The note matures on July 1, 2009.

In March 1999, we entered into a ten yearten-year operating lease agreement for our Mountain View facility.

Our operating activities used cash of $3.5$10.2 million, and $5.1$13.0 million for the threenine months ended March 31,September 30, 2004 and 2003, respectively. Uses of cash in operating activities primarily resulted from operating losses adjusted for non-cash expenses and changes in working capital and other liabilities. For the nine months ended September 30, 2004, sources of cash included depreciation and amortization of $1.2 million, increases in accounts payable of $1.2 million, and use of cash in deferred revenue of $414,000. The increases in accounts payable was primarily due to merger related expenses that were unpaid at September 30, 2004. For the nine months ended September 30, 2003, sources of cash included depreciation and amortization of $1.4 million, increases in accrued liabilities and other liabilities of $1.5 million, and use of cash in restructuring accrual of $501,000

Our investing activities generated $33.8$19.7 million and $43.4$8.9 million for the threenine months ended March 31,September 30, 2004 and 2003, respectively. These activities consisted primarily of purchases and sales of our marketable investments. As part of our investing activities, cash outflows for additions of property and equipment were $80,000$249,000 and $294,000$597,000 for the threenine months ended March 31,September 30, 2004 and 2003, respectively.

Our financing activities provided cash of approximately $531,000$931,000 and $240,000 for the threenine months ended March 31,September 30, 2004 and used cash of approximately $20,000 for the three months ended March 31,September 30, 2003, respectively. These amounts represent the net proceeds that we received from the issuance of common stock being offset by repayments of equipment financing loans and capital leases.

We expect that we will have to make substantial investments in operating and capital expenditures as we develop and commercialize our future clinical testing products. We may need to obtain additional funding by entering into new collaborations and strategic partnership to enable us to develop and commercialize our products. Even if we receive funding from future collaborations and strategic partnerships, we may need to raise additional capital in the public equity markets, through private equity financing or through debt financing

OureTag System has been used in a research setting by pharmaceutical and biotechnology companies and has been evaluated by these companies for use as an aide in clinical trials. Our future products may include a testing service for use in connection with the treatment of cancer patients. We plan to deliver this service to pharmaceutical and biotechnology companies and physicians through a clinical laboratory that we will have to establish under the Clinical Laboratory Improvement Amendments, or CLIA, regulatory framework. Additionally we may develop test kits that may be subject to the regulatory authority of the Food and Drug Administration, or FDA. The CLIA and FDA regulatory regimes are complicated and we have no experience in managing operations in compliance with these requirements, nor do we have the infrastructure in place to establish and run such operations. To implement a testing service we will have to develop the commercial, operational and regulatory infrastructure for a CLIA-certified clinical laboratory. To market FDA-approved tests kits we will have to develop a manufacturing facility that is compliant with the FDA’s Good Manufacturing Procedures, or GMP, regulations, or develop a partnership with a third party that operates such a facility. For both approaches to commercializing our eTag technology, we will have to conduct clinical studies and build a sales and marketing organization. Clinical studies will be required to provide physicians with the data on which they may base their decisions to utilize the testing products, and in the case of FDA-approved test kits, to satisfy FDA requirement. Clinical studies can be expensive and time-consuming. While we currently have a small business development group, to commercialize our future testing products, we will need to build a sales and marketing organization focused on selling directly to physicians. Building such an organization will be expensive. For all these reasons, we expect our expenses will increase in the future as we commercialize testing services and kits, and will exceed our revenues on an annual basis for at least the next year.

While we do not currently have any material commitments or plans for future capital expenditures and currently utilize approximately one-half of our leased facility, we may have additional requirements for facilities and capital expenditures in the future as we establish a clinical laboratory and potentially establish an FDA compliant manufacturing facility.

We believe that our current cash, and cash equivalents and marketable investment balances, which together totaled $78.6 million at September 30, 2004 and funding that may be received from customers and will be sufficient to satisfy our anticipated cash needs for working capital and capital expenditures for at least the next year. After that time, we cannot be certain that additional funding, if required, will be available on acceptable terms, or at all. We expect that our costs will continue to exceed our revenues on an annual basis for at least the next year. From time to time, we may consider possible strategic transactions, including the potential acquisitions of products, technologies and companies, with the goal of further developing our business and maximizing stockholder value. Such transactions, if any, could materially affect our future liquidity and capital resources. We may raise additional funds through public or private financing, collaborative relationships or other arrangements.resources.. Further, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. Our failure to raise capital when needed may harm our business and operating results.

CRITICAL ACCOUNTING POLICIES

There have been no material changes to our critical accounting policies and estimates from those disclosed in our report on Form 10-K for our fiscal year ended December 31, 2003.

FACTORS AFFECTINGTHAT MAY AFFECT OUR BUSINESS, OUR OPERATING RESULTS AND OUR STOCK PRICE

The following risk factors outline certain risks and uncertainties concerning future results and should be read in conjunction with the other information contained in this Form 10-Q, our Annual Report on Form 10-K for the year ended December 31, 2003.2003 and the Joint Proxy/Prospectus filed with the SEC by ViroLogic related to the proposed merger of ACLARA and ViroLogic. Any of these risk factors could materially and adversely affect our business, results of operations, financial condition and future growth prospects. Additional

Risks Related to the Proposed Merger with ViroLogic

FAILURE TO COMPLETE THE MERGER WITH VIROLOGIC COULD NEGATIVELY IMPACT OUR STOCK PRICE AND FUTURE BUSINESS AND OPERATIONS.

If the merger with ViroLogic is not completed for any reason, we may be subject to a number of material risks, including the following:

The $5.5 million termination fee would be payable either within two days of termination, if our board of directors changes its recommendation with respect to the proposed merger after announcing another acquisition proposal, or by the earlier of the date of the acquisition agreement or the date of acquisition in certain other circumstances. The $1.0 million expense reimbursement is payable within 2 business days after we receive notice of payment and itemization of expenses from ViroLogic. In addition, there is a risk that our customers or collaborators may delay, defer or cancel purchasing or collaboration decisions in response to the announcement of the merger or delay of its completion. If our customers or collaborators delay, defer or cancel such decision, our revenues could be reduced and our business could be harmed. To date and since the initial filing of the Form S-4 on June 30, 2004, four customers have expressed some concerns about the potentially more limited focus of the combined company on certain applications which do not currently knowfocus on cancer diagnostics. In addition, two of our existing customers, who have conducted evaluation experiments related to clinical assays, have indicated that they may defer a decision to pursue a broader future collaboration arrangement with us until the merger is completed or they have had more time to fully understand the ramifications of the proposed merger. None of these customers have deferred, delayed or cancelled any existing agreements, nor have they indicated an intent to do so.

ViroLogic recently announced it has offered to assume employment of approximately 35 of our approximate 55 current employees upon completion of the merger. Current and prospective employees may experience uncertainty about their future roles with ViroLogic until ViroLogic’s strategies with regard to our company are executed. This uncertainty may adversely affect our ability to attract and retain key management, sales, marketing, research and development, technical and other personnel. We may not be able to retain the approximately 20 employees who have not been offered employment with ViroLogic in the short or thatlong term. Although we currently deem immaterial may also impairhave not experienced significant difficulties in attracting or retaining key personnel in the recent past, any failure to attract and retain key personnel could have a material adverse effect on our business financial condition,if the merger is not completed.

Furthermore, if the merger agreement is terminated and our board of directors determines to seek another merger or business combination, it may not be able to find a partner willing to pay an equivalent or more attractive price than that which would have been paid in the merger with ViroLogic.

WE BELIEVE THAT THE PRICE OF OUR COMMON STOCK IS BASED IN LARGE PART ON THE PRICE OF VIROLOGIC COMMON STOCK; THE PRICE OF VIROLOGIC’S COMMON STOCK MAY BE AFFECTED BY FACTORS DIFFERENT FROM THOSE AFFECTING THE PRICE OF OUR COMMON STOCK.

If the merger with ViroLogic is completed, the holders of our common stock will become holders of ViroLogic common stock. In addition, prior to the completion of the merger and unless the merger agreement with ViroLogic is terminated, we believe that the price of our common stock will be determined in part by the expectation that the merger will be completed and that our stockholders will become stockholders of ViroLogic and that the price of our common stock will be affected by the price of ViroLogic common stock.

ViroLogic’s current operations differ somewhat from our operations, and ViroLogic’s results of operations and future growth prospects.the price of ViroLogic common stock may be affected by factors different from those that affect our results of operations and the price of our common stock before the merger. Such factors include ViroLogic’s actual results of operations and investor expectations with regards to those results of operations.

VIROLOGIC AND ACLARA MAY NOT REALIZE THE BENEFITS THEY EXPECT FROM THE MERGER.

The integration of ViroLogic and ACLARA will be complex, time consuming and expensive, and may disrupt ViroLogic’s and ACLARA’s businesses. After the merger, ViroLogic will need to overcome significant challenges in order to realize any benefits or synergies from the proposed merger. These challenges include the timely, efficient and successful execution of a number of post-transaction integration activities, including:

The process of integrating operations and technology could cause an interruption of, or loss of momentum in, the activities of one or more of the combined company’s businesses and the loss of key personnel. The diversion of management’s attention and any delays or difficulties encountered in connection with the merger and the integration of the two companies’ operations and technology could have an adverse effect on the business, results of operations or financial condition of the combined company. Furthermore, the execution of these post-transaction integration activities will involve considerable risks and may not be successful. These risks include:

ViroLogic may not succeed in addressing these risks or any other problems encountered in connection with the transaction. Currently, we do not anticipate any significant difficulties in transferring our material agreements to ViroLogic, nor do we believe there is a significant overlap between the two companies’ customer bases nor any significant differences in corporate cultures and philosophies that may make integration difficult. However, the inability to successfully integrate the operations, technology and personnel of ViroLogic and ACLARA, or any significant delay in achieving integration, could have a material adverse effect on the combined company after the transaction and, as a result, on the market price of ViroLogic common stock and the value obtained by ACLARA stockholders from the merger.

Risks Related to Our Ongoing Business and Operations

WE HAVE A HISTORY OF OPERATING LOSSES AND AN ACCUMULATED DEFICIT, AND WE MAY NOT ACHIEVE OR MAINTAIN PROFITABILITY IN THE FUTURE.

Since we were founded in May 1995, we have engaged primarily in research and development efforts. We have incurred operating losses every year since inception, and we may never achieve profitability. Net losses for the years ended December 31, 2003, 2002 and 2001 were $20.0 million, $37.2 million and $29.0 million, respectively. As of March 31,September 30, 2004, we had an accumulated deficit of $166.8$175.7 million. Our losses have resulted principally from costs incurred in connection with our research and development activities, from litigation settlement charges and from selling, general and administration costs associated with our operations.

To date, we have not generated any significant commercial revenue. Our ability to generate revenues from commercial sales or to achieve profitability is dependent on our ability, alone or with collaborative partners, to successfully design, develop, manufacture and commercialize our proprietaryeTag Assay System in a timely manner and on adoption of our technological approach by customers. We expect that our costs will continue to exceed our revenues on an annual basis for at least the next year.one to three years. Even if we do achieve profitability, we may not be able to sustain or increase profitability on a quarterly or annual basis.

WE HAVE LIMITED PRODUCT OFFERINGS AND OUR BUSINESS WILL SUFFER IF DEMAND FOR OUReTagASSAYS DECLINES OR FAILS TO DEVELOP AS WE EXPECT.EXPECT OR DECLINES.

We derived nearly 100%all of our revenues in 2003 and in the first quarterthree quarters of 2004 from oureTag Assay System.reagent kits and evaluation services. Prior to 2003, our revenues were generated principally from collaborative research and development agreements, government grants and commercial collaborations related to our discontinued microfluidics activities. We expect theeTag Assay System to be the primary source of our revenues for the foreseeable future. As a result, we will continue to be subject to the risk of substantial

decreases in revenues if demand for oureTag Assay System does not develop or declines. Even if we develop additional product offerings for commercial sale and clinical trial use, our future assay products may not be accepted by the research, diagnostic, medical and pharmaceutical marketplaces unless we are able to convince prospective customers that our products are more reliable and cost-effective than other means for the detection of gene and protein expression in research, development and clinical programs.programs and in diagnostics.

Our development of future assay products will be subject to a number of risks, most of which are not within our control, including:

As a result, the nature, timing and estimated costs of the efforts necessary to complete our research and development projects cannot be determined or estimated with any degree of certainty. If we are unsuccessful in addressing these risks and uncertainties, we may never become profitable and our financial condition would suffer.

IF OUR ASSAY PRODUCTS AND SERVICES DO NOT ACHIEVE WIDESPREAD MARKET ACCEPTANCE, OUR ABILITY TO GENERATE SALES WOULD BE LIMITED AND OUR BUSINESS WOULD BE HARMED.

Demand, for our products and services, is substantially dependent upon widespread market acceptance of our assay system for applications in drug discovery and development.development and in diagnostics. Our assay system represents a new technological approach, and our ability to sell this assay system will depend on the willingness of customers to adopt such new technological approaches. We cannot assure you that our assay system will achieve substantial acceptance in our target markets. Market acceptance will depend on many factors, including:

Further, failure of our initial assay products and services to be favorably received by the market could undermine our ability to successfully introduce subsequent assay products and services. If our assay products and services do not gain market acceptance, our losses would increase and we may be unable to remain in business.

OUR OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY.

Our operating results have fluctuated in the past and are likely to do so in the future. These fluctuations could cause our stock price to decline. Some of the factors that could cause our operating results to fluctuate include:

If revenue declines in a quarter, whether due to a delay in recognizing expected revenue or otherwise, our earnings will decline because many of our expenses are relatively fixed in the short-term. In particular, research and development and selling, general and administrative expenses are not affected directly by variations in revenue.

Due to fluctuations in our revenue and operating expenses, we believe that period-to-period comparisons to results of historical operations are not a good indication of our future performance. It is possible that in some future quarter or quarters, our operating results will be below the expectations of securities analysts or investors, or will be below the level of prior periods. In these cases, our stock price could fluctuate significantly or decline.

IF WE ARE UNABLE TO ACHIEVE VOLUME MANUFACTURING OF OUR PRODUCTS AND LARGE-SCALE DELIVERY OF OUReTag SERVICES, OUR REVENUES WILL SUFFER AND OUR BUSINESS MAY NOT DEVELOP OR MAY DECLINE.

In late 2002, we initiated the commercialization of oureTag Assay System, including the sale ofeTag reagent kits software, custom assayand evaluation services and consulting support andthrough the establishment of collaborative agreements under which pharmaceutical and biotechnology customers can useaccess our development expertise to provide customizedeTag assays and services for use in clinical development programs as an aide in patient selection in clinical trials of pharmaceutical therapies that are being targeted on selected patient populations. However, we have limited experience with developing, manufacturing, distributing or selling products and delivering services on a commercial basis.

To date, we have limited our manufacturing activities to low volume manufacturing ofeTag assay productsreagent kits for testing purposes and for validation and small volume commercial use by our collaborative partners and potential customers. The nature of our assay products necessitates access to specialized chemicals, reagents and raw materials, such as antibodies used in conjunction with oureTag components. There are only a limited number of vendors who supply these materials and for some of these materials the suppliers are the sole source of supply. We cannot be certain that we will be able to successfully secure supply of all needed materials, nor can we be certain that these vendors will supply these materials consistently or in the quantities necessary for high volume production. We will need to enter into contractual relationships with these or other manufacturers to facilitate commercial scale production of eTag assay products, and we cannot assure you that we will be able to do so on a timely basis, for sufficient quantities of products or on commercially reasonable terms.

Additionally, we may not be able to adequately provide the desired level of services required under our commercial collaborations. For instance, we have limited experience establishing the high degrees of accuracy, reliability and ease of use required for large-scale delivery of our services. In addition, we have limited experience in developing and providing the software tools necessary to perform analyses of data derived from oureTag Assay System.

Even though we have designed products and delivered services on a limited volume and evaluation basis, we cannot assure you that we will be able to adapt the design or develop our organization or perfect the design of oureTag Assay System to allow for volume manufacturing and large-scale delivery of our services. If we are unable to successfully deliver and market our assay products on a significant scale, or other products or systems, either independently or with our collaborative partners, we may be unable to remain in business.

WE DEPEND ON SINGLE OR LIMITED SOURCE SUPPLIES FOR SOME OF THE KEY COMPONENTS AND MATERIALS IN OUR PRODUCTS, WHICH MAKES US SUSCEPTIBLE TO SUPPLY SHORTAGES OR PRICE FLUCTUATIONS THAT COULD ADVERSELY AFFECT OUR OPERATING RESULTS.

We are dependent on Third Wave for our supply of the Cleavase enzyme that is a critical component ofeTag assays for gene expression applications, which enzyme is proprietary to Third Wave. Failure of Third Wave to supply enzyme could seriously impair our business. Pursuant to the Supply Agreement with Third Wave, we purchased an initial quantity of Cleavase

enzyme from Third Wave in 2002. This initial quantity of enzyme represents more than one year’s supply and we cannot assure you that we will fully utilize this inventory in a reasonable timeframe. This inventory of enzyme represents substantially all of the total inventory balance at March 31,September 30, 2004. In addition, we are subject to a limited source of antibodies for use in our protein applications. We cannot assure

you that we will be able to obtain adequate amounts of these components and materials in a timely manner in the future and at commercially reasonable costs. We may experience difficulty identifying and obtaining alternative sources of supply and, even if we obtain alternative sources of supply, may experience delays evaluating, testing and integrating the alternative components and materials into oureTag Assay System. Any interruption or delay in the supply of any of these components or materials, or the inability to obtain these components or materials from alternative sources at acceptable prices and within a reasonable amount of time, would impair our ability to deliver our products to our customers, obtain widespread market acceptance of oureTag Assay System and could adversely affect our operating results.

IF WE ARE UNABLE TO SUCCESSFULLY DEVELOP OUR SALES AND MARKETING CHANNELS, WE MAY BE UNABLE TO GENERATE SIGNIFICANT REVENUES.

We do not have fully developed sales and distribution channels for our products. We currently have a small business development group that is focused on commercializing oureTag assays and establishing collaborative agreements with pharmaceutical and biotechnology companies. We may not be able to develop significant revenues with this group and we may not be able to successfully build a sales and marketing organization to fully exploit the commercial opportunity foreTag assays.

Our ability to generate revenues will be dependent on the development of the appropriate partnerships, on the resources devoted by our partners to commercialization activities and on the success of those activities. Our ability to generate revenue will also be dependent on our success in recruiting management and business development personnel and in building a sales and marketing organization. We cannot assure you that we will be able to successfully build and manage effective sales and distribution channels, or that our partners will devote sufficient resources to our commercialization efforts to be effective.

BECAUSE A SMALL NUMBER OF CUSTOMERS HAVE ACCOUNTED FOR, AND ARE LIKELY TO CONTINUE TO ACCOUNT FOR, A SUBSTANTIAL PORTION OF OUR REVENUE, OUR REVENUE COULD DECLINE OR BE DELAYED DUE TO THE LOSS OF ONE OR MORE OF THESE CUSTOMERS.

Historically, we have had very few customers from which we have derived the majority of our revenue. If we were to lose any one or more of these customers or if there was a delay in the attainment of milestones in our collaborations, our revenue would decrease substantially. In 2003, two commercial2004, three customers accounted for 56%28%, 12%, and 17%11% of our total revenues, respectively. Although we anticipate that future sales of our products will further expand our revenue base, we expect that we will continue to rely on a few customers for the majority of our revenues.

OUR REVENUES WILL BE LIMITED IF GOVERNMENT OR THIRD PARTY PAYORS LIMIT THE AMOUNTS THAT THEY WILL REIMBURSE FOR POSSIBLE FUTURE TESTING SERVICES.

We plan to develop assays for use by physicians as an aide in selection of appropriate cancer therapies. Such assays would generally be paid for by Government and third-party payors, including Medicare and Medicaid. These payors will require that we identify the services that we perform using industry standard codes known as the Current Procedural Terminology or CPT codes, which are developed by the American Medical Association or AMA. Most payors maintain a list of standard reimbursement rates for each such code, and our ability to be reimbursed for our services is therefore effectively limited by our ability to describe the services accurately using the CPT codes. Currently there are no CPT codes for our future testing services and we may not be able to successfully establish such codes or achieve adequate reimbursement from payors.

Government and third-party payors are attempting to contain or reduce the costs of healthcare and are challenging the prices charged for medical products and services. In addition, increasing emphasis on managed care in the United States will continue to put pressure on the pricing of healthcare products. This could in the future limit the price that we can charge for our products. This could also hurt our ability to generate revenues. Significant uncertainty exists as to the reimbursement status of new medical products like the products that we are developing and that we expect to develop, particularly if these products fail to show demonstrable value in clinical studies. If government and other third-party payors do not provide adequate coverage and reimbursement for our testing products or do not authorize reimbursement for our planned products, our potential revenues will be adversely affected and a substantial business may not develop.

WE MAY NOT BE ABLE TO DEVELOP THE NECESSARY INFRASTRUCTURE FOR COMMERCIALIZATION OF PLANNED TESTING PRODUCTS. WE HAVE LIMITED EXPERIENCE DELIVERING FDA-APPROVED PRODUCTS

We plan to develop testing products for use in connection with the treatment of cancer patients. These products will be required to be provided trough a clinical laboratory operated under the Clinical Laboratory Improvement Amendments, or CLIA, regulatory framework. We have no experience with establishing and operating a laboratory under this regulatory framework. Future cancer testing products may include test kits that may be subject to the regulatory authority of the Food and Drug Administration, or the FDA. The FDA regulatory regime is complicated, and we have no experience at managing FDA compliance issues.

Our planned testing products will be based on assays that are in development in a research setting, but that have not been transferred to or validated in a CLIA-certified laboratory. We may be unable to successfully establish a CLIA-certified laboratory and successfully accomplish this transfer and validation. Failure to do so would have an adverse impact on our business and on our ability to establish a revenue stream from such potential services.

Future test kits could be subject to premarket FDA approval requirements, which would be expensive and time-consuming, and could delay or prevent the combined company from marketing these tests. In addition, the production of the future test kits may be subject to Good Manufacturing Practice Regulation, or GMP, under the auspices of the FDA. Our facility is not GMP compliant. If the manufacture of the proposed kits is subject to GMP regulation, we will be required to establish a GMP compliant facility, or to enter into a relationship with a third party manufacturer that operates a GMP compliant facility. We have no experience with GMP compliance. GMP compliance, or entry into a manufacturing relationship with a third party manufacturer, would be time-consuming and expensive. FDA regulation, including GMP regulation, could delay the development, introduction and commercialization of products and adversely impact our revenue and profitability.

IF WE ARE UNABLE TO COMPLETE OUR ASSESSMENT AS TO THE ADEQUACY OF OUR INTERNAL CONTROL OVER FINANCIAL REPORTING AS OF DECEMBER 31, 2004 AND SERVICESFUTURE YEAR-ENDS AS REQUIRED BY SECTION 404 OF THE SARBANES-OXLEY ACT OF 2002, OR IN THE COURSE OF SUCH ASSESSMENTS IDENTIFY AND REPORT IN OUR FORM 10-K MATERIAL WEAKNESSES IN OUR CONTROLS, INVESTORS COULD LOSE CONFIDENCE IN THE RELIABILITY OF OUR FINANCIAL STATEMENTS, WHICH COULD RESULT IN A DECREASE IN THE VALUE OF OUR COMMON STOCK.

As directed by Section 404 of the Sarbanes-Oxley Act of 2002, the Securities and Exchange Commission adopted rules requiring each public company to include a report of management on the company’s internal controls over financial reporting in its annual reports on Form 10-K. This report is required to contain an assessment by management of the effectiveness of such company’s internal controls over financial reporting. In addition, the public accounting firm auditing a public company’s financial statements must attest to and report on management’s assessment of the effectiveness of the company’s internal controls over financial reporting. Over the past several months, we have been developing the necessary documentation and testing procedures to comply with these requirements. However, over this same period, our management and our accounting organization has spent a significant amount of time engaged in activities related to our proposed merger with ViroLogic, which has reduced the amount of our limited resources dedicated to the documentation and testing of our internal controls. In addition, as a result of the uncertainties about future employment in the light of the proposed merger and the anticipated reductions in headcount after the merger, one of the three employees in our accounting department has resigned and we are utilizing temporary employees to help complete the documentation and testing of internal controls. While we are expending significant resources in developing the necessary documentation and testing procedures required by Section 404, there is a significant risk that we will not comply with all of the requirements imposed by Section 404. In addition, the very limited size of our organization could lead to conditions that could be considered material weaknesses, such as those related to segregation of duties that is possible in larger organizations but more difficult in smaller organizations. Also, controls related to our general information technology infrastructure may not be as comprehensive as in the case of a larger organization with more sophisticated capabilities. We have not yet completed our assessment and accordingly have not determined how such circumstances will be interpreted in the context of an assessment of internal controls over financial reporting. If we fail to implement required new or improved controls, we may be required to disclose material weaknesses in our system of internal controls in our 2004 Annual Report on Form 10-K. In addition, we may be unable to complete our assessment and comply with the requirements of Section 404 in a timely manner. This could result in an adverse reaction in the financial markets due to a loss of confidence in the reliability of our financial statements, which could cause the market price of our Common Stock to decline.

WE ARE SUBJECT TO THE REGULATORY AND CLINICAL PROBLEMS EXPERIENCED BY OUR CUSTOMERS, WHICH MAY ADVERSELY AFFECT OUR REVENUES AND OPERATING RESULTS.

Our pharmaceutical and biotechnology company customers are involved in the discovery and development of new drugs and associated pre-clinical and clinical trial testing of candidates for new drugs in which our customers may use our products. Clinical trials are long, expensive and uncertain processes. Our customers may encounter difficulties in their pre-clinical and clinical trials unrelated to our products, including failure to obtain FDA approvals or other regulatory difficulties, which may cause our customers, among other possible outcomes, to delay timing of their clinical trials, to change the methodology used to test their drugs under development or to discontinue their new drug development efforts entirely, any of which could materially and adversely affect our revenues and results of operations.

Our currenteTag Assay System is not subject to oversight by nor does its sale require prior approval by the Food and Drug Administration (FDA). However, we may be subject to FDA and other regulation with regard to future diagnostic kits and services that we may develop. Under the Federal Food, Drug and Cosmetic Act and related regulations, the FDA regulates the design, development, manufacturing, labeling, sale, distribution and promotion of drugs, medical devices and diagnostics. Before a new drug, device or diagnostic product can be introduced in the market, the product must undergo rigorous testing and an extensive regulatory approval process implemented by the FDA under federal law. In addition, the FDA imposes additional regulations on manufacturers of approved products. We have limited experience with obtaining FDA approvals and developing, manufacturing, distributing or selling products within FDA requirements. Any failure to obtain FDA and other requisite governmental approvals with regard to any future products that we may develop could have a material adverse affect on our business, results of operations and financial condition.

IF WE ARE UNABLE TO EFFECTIVELY PROTECT OUR INTELLECTUAL PROPERTY, WE WOULD BE UNABLE TO PREVENT THIRD PARTIES FROM USING OUR TECHNOLOGY, WHICH COULD IMPAIR OUR ABILITY TO COMPETE IN THE MARKET. THE COST OF ENFORCING OUR PROPRIETARY RIGHTS MAY BE EXPENSIVE AND RESULT IN INCREASED LOSSES.

Our success will depend in part on our ability to obtain and maintain meaningful patent protection for our products, both in the United States and in other countries, and our inability to do so could harm our competitive position. We rely on our portfolio of issued and pending patent applications in the United States and in other countries to protect a large part of our intellectual property and our competitive position. We continually strive to strengthen and expand our large portfolio of patents and patent applications. We have 6365 pending and issued U.S. patents related to theeTag technology and 71 pending and issued U.S. patents related to microfluidic and nanofluidic technologies, as well as a large number of international patent applications and patents. We cannot assure you that any of the currently pending or future patent applications will be issued as patents, or that any patents issued to us will not be challenged, invalidated, held unenforceable or circumvented. Further, we cannot assure you that our intellectual property rights will be sufficiently broad to prevent third parties from producing competing products similar in design to our products.

In addition to patent protection, we also rely on protection of trade secrets, know-how and confidential and proprietary information. We generally enter into confidentiality agreements with our employees, consultants and our collaborative partners upon commencement of a relationship with us. However, we cannot assure you that these agreements will provide meaningful protection against the unauthorized use or disclosure of our trade secrets or other confidential information or that adequate remedies would exist if unauthorized use or disclosure were to occur. The exposure of our trade secrets and other proprietary information would impair our competitive advantages and could have a material adverse effect on our operating results, financial condition and future growth prospects. Further, we cannot assure you that others have not or will not independently develop substantially equivalent know-how and technology.

Further, there is a risk that some of our confidential information could be compromised during the discovery process of any litigation. During the course of any lawsuit, there may be public announcements of the results of hearings, motions and other interim proceedings or developments in the litigation. If securities analysts or investors perceive these results to be negative, it could have a substantial negative effect on the trading price of our stock.

OUR PRODUCTS COULD INFRINGE ON THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS, WHICH MAY CAUSE US TO ENGAGE IN COSTLY LITIGATION AND, IF WE ARE NOT SUCCESSFUL, COULD ALSO CAUSE US TO PAY SUBSTANTIAL DAMAGES AND PROHIBIT US FROM SELLING OUR PRODUCTS.

Our commercial success also depends in part on avoiding the infringement of other parties’ patents or proprietary rights and the breach of any licenses that may relate to our technologies and products. We are aware of various third-party patents that may relate to our technology. We believe that we do not infringe these patents but cannot assure you that we will not be found in the future to infringe these or other patents or proprietary rights of third parties, either with products we are currently developing or with new products that we may seek to develop in the future. If third parties assert infringement claims against us, we may be forced to enter into license arrangements with them. We cannot assure you that we could enter into the required licenses on commercially reasonably terms, if at all. The failure to obtain necessary licenses or to implement alternative approaches may prevent us from commercializing products under development and would impair our ability to be commercially competitive. We may also become subject to interference proceedings conducted in the U.S. Patent and Trademark Office to determine the priority of inventions.

TheWhile we are not currently involved in any legal proceeding and have not received any threats of legal proceedings related to our patents and intellectual property, the defense and prosecution, if necessary, of intellectual property suits, U.S. Patent and Trademark Office interference proceedings and related legal and administrative proceedings willare costly, time consuming to pursue could result in substantial expense to us, anda significant diversion of effort by our technical and management personnel. We have been involved in significant litigation related to our patents and intellectual property in the past. On January 4, 2001, we settled three pending lawsuits involving Caliper Technologies Corporation. These lawsuits included a lawsuit filed by Caliper Technologies alleging misappropriation of trade secrets; a lawsuit that we filed against Caliper Technologies alleging patent infringement claims; and a lawsuit filed by Caliper Technologies against us alleging additional patent infringement claims. As a result of the settlement, the claims were dismissed. Caliper and we granted each other cross-licenses to the patents at issue. We issued Caliper Technologies 900,000 shares of our common stock with a guaranteed liquidation price of $36.11 per share, for an aggregate value of $32.5 million. We recorded a litigation settlement charge of $32.5 million in the fourth quarter of fiscal 2000 relating to this settlement. In October 2002, we repurchased the 900,000 shares of our common stock and paid Caliper Technologies $32.5 million related to this settlement. These lawsuits, as well as details of other non-intellectual property related litigation, are discussed in more detail in our annual and quarterly reports on Form 10-K and 10-Q filed with the SEC. An adverse determination in future litigation or interference proceedings to which we may become a party could subject us to significant liabilities to third parties, could put our patents at risk of being invalidated or interpreted narrowly and could put our patent applications at risk of not issuing.

WE DEPEND ON OUR KEY PERSONNEL, THE LOSS OF WHOM WOULD IMPAIR OUR ABILITY TO COMPETE.

Our performance is substantially dependent on the performance of our senior management and key scientific and technical personnel. The loss of the services of Thomas Klopack, our Chief Executive Officer, Sharat Singh, our Chief Technical Officer, Alfred Merriweather, our Chief Financial Officer or Michael Dunn, our Chief Business Officer may significantly delay or prevent the achievement of product development objectives, prevent or delay our performance under customer collaborations, disrupt our relationships with customers, collaborators, employees and investors, disrupt our operations while replacement executives are recruited, or prevent or delay the achievement of other business objectives. We do not carry key man life insurance on any of these individuals. We have employment agreements with Thomas Klopack and Michael Dunn and Change of Control Agreements with Sharat Singh and Alfred Merriweather. In addition, the loss of the services of any member of our senior management, scientific or technical staff may significantly delay or prevent the achievement of product development objectives or prevent or delay our performance under customer collaborations. Any of these losses of senior executives and other business objectivesscientific and technical staff could have a material adverse effect on our business, operating results and financial condition. Our future success will also depend on our ability to identify, recruit and retain additional qualified scientific, technical and managerial personnel. There is currently a shortage of skilled executives and intense competition for such personnel in the areas of our activities, and we cannot assure you that we will be able to continue to attract and retain personnel with the advanced qualifications necessary for the development of our business. In addition, we may be disadvantaged in our ability to attract and retain key personnel by the fact that we have announced the proposed merger with ViroLogic. We may be further disadvantaged if the proposed merger is not consummated. The inability to attract and retain the necessary scientific, technical and managerial personnel could have a material adverse effect on our research and development activities, sales revenue, operating costs and future growth prospects.

WE FACE STRONG COMPETITION IN OUR MARKETS AND EXPECT THE LEVEL OF COMPETITION TO GROW IN THE FORESEEABLE FUTURE.

We compete with companies that design, manufacture and market, analytical instruments, assays and reagents for drug discovery and development using alternate technologies for applications such as gene expression analysis and protein function analysis and other products and systems. As we commercialize testing services and products for the cancer market, we will compete with companies such as DakoCytomation A/S and Abbott Laboratories that currently commercialize testing products for guiding therapy of cancer patients. Established diagnostic product companies such as Abbott Laboratories, Roche Diagnostics and Bayer Diagnostics and established clinical laboratories such as Quest Diagnostics and LabCorp may also develop or commercialize services or products that are competitive with those to be developed and commercialized by us. In addition, there are a number of alternative technological approaches being developed by competitors and evaluated by pharmaceutical and biotechnology companies are developing new technologies for miniaturizing various laboratory procedures forand being studied by the drug discovery and development markets targetedoncology community. In particular, while our future testing products will be based on the identification of protein-based difference among patients, there is significant interest in the oncology community in gene-based approaches that may be available from other companies. We cannot assure you that these alternative technological approaches will not be superior to our technological approach or achieve greater acceptance by us, using such methods as beads, hybridization chips and high-density microwell plates.customers.

We anticipate that we will face increased competition in the future as companies enter the market with new technologies. Rapidly changing technology, evolving industry standards, changes in customer needs, emerging competition and new product introduction, characterize the markets for our products. One or more of our competitors may render our technology obsolete or uneconomical by advances in existing technological approaches or the development of different approaches. Many of these competitors have greater financial and personnel resources and more experience in research and development than we have. We also cannot assure you that we will be able to compete effectively with the competitors’ greater market presence. Furthermore, we cannot assure you that the pharmaceutical and biotechnology companies which are our potential customers or our strategic partners will not develop competing products.

WE MAY BE SUBJECT TO PRODUCT LIABILITY AND SIMILAR CLAIMS AND MAY NOT BE ABLE TO OBTAIN ADEQUATE INSURANCE, WHICH WOULD INCREASE OUR LOSSES IF SUCH CLAIMS OCCURRED.

As we begin commercialization of our products, we will face exposure to product liability and similar claims if our products fail to accurately diagnose or detect, cause injury or are otherwise cause damage. Any product liabilitysuch claims arising in the future, regardless of their merit or eventual outcome, could increase our losses or exceed our assets. We cannot assure you that we will continue to be able to maintain our current product liability insurance coverage or obtain new insurance coverage for our planned future testing service and products on acceptable terms with adequate coverage, or at reasonable costs. In addition, potential product liability claims may exceed the amount of our current insurance coverage of $2 million or may be excluded from coverage under the terms of the policy. Any product liability claims against us, regardless of their merit or successfulness, could harm our reputation, adversely affect our business and cause our stock price to decline.

WE MAY BE UNABLE TO RAISE ADDITIONAL CAPITAL WHEN NEEDED OR GENERATE THE CAPITAL NECESSARY TO EXPAND OUR OPERATIONS AND INVEST IN NEW PRODUCTS, WHICH COULD HURT OUR ABILITY TO COMPETE OR ACHIEVE PROFITABILITY.

It might be necessary for us to raise additional capital over the next few years to continue our research and development efforts and to commercialize our products. We believe that the proceeds from our initial public offering and projected revenue from collaborations should be sufficient to fund our anticipated levels of operations through at least the next 12 months. However, we cannot assure you that our business or operations will not change in a manner that would consume available resources more rapidly than anticipated. We also cannot assure you that existing or potential future collaborations or sales revenue will be adequate to fund our operations. We expect that we will have to make substantial investments in operating and capital expenditures as we develop, test in clinical trials and commercialize our future testing products, including the establishment of a CLIA-certified clinical laboratory and potentially establish an FDA compliant manufacturing facility. We also expect to build a sales and marketing organization focused on selling directly to physicians, which will be expensive. We may need additional funds sooner than planned to meet operational needs, capital requirements for product development and commercialization and payment of monetary damages in any on-going or future litigation. From time to time, we may consider possible strategic transactions, including the potential acquisitions of products, technologies and companies, with the goal of further developing our business and maximizing stockholder value. Such transactions, if any, could materially affect our capital resources. We cannot assure you that additional funds will be available when needed, or on terms acceptable to us, or that sufficient revenue will be generated from sales. If adequate funds are not available, we may have to reduce substantially or eliminate expenditures for the development and production of certain of our proposed products or obtain funds through arrangements with collaboration partners that require us to relinquish rights to certain of our technologies or products. Either of these alternatives could have a material adverse effect on our business, operating results, financial condition and future growth prospects.

CONCENTRATION OF OWNERSHIP AMONG OUR EXISTING EXECUTIVE OFFICERS, DIRECTORS AND PRINCIPAL STOCKHOLDERS MAY PREVENT NEW INVESTORS FROM INFLUENCING SIGNIFICANT CORPORATE DECISIONS.

Our executive officers, directors, principal stockholders and their affiliates presently beneficially own or control a significant percentage of the outstanding shares of common stock. Accordingly,As of the date hereof, our significant principal stockholders include Tang Capital Partners, L.P., Perry Corporation, and Kevin C. Tang. Our current executive officers, directors, principal stockholders and their affiliates, if acting together, would have the ability to influence the outcome of corporate actions requiring stockholder approval, including the election of directors, any merger, consolidation or sale of all or substantially all of our assets and any other significant corporate transactions. The concentration of ownership could also delay or prevent a change of control of our company at a premium price if these stockholders oppose it.

THE MARKET PRICE OF OUR COMMON STOCK IS HIGHLY VOLATILE.

There has only been a public market for our common stock since March 21, 2000, and since then our common stock has traded in a range between $1.30 and $60.00 per share.

The trading price of our common stock may continue to be highly volatile and could be subject to wide fluctuations in price in response to various factors, many of which are beyond our control, including: developments related to the pending merger with ViroLogic, delays in consummation the merger or the operating results and stock price of ViroLogic; quarterly fluctuations in results of operations; our ability to successfully commercialize our products; technological innovations or new commercial products by us or our competitors; developments concerning government regulations or proprietary rights which could affect the potential growth of our customers; the execution of new collaborative agreements and material changes in the relationships with business partners; market reaction to trends in revenues and expenses, especially research and development; changes in earnings estimates by analysts; sales of common stock by existing stockholders; and economic and political conditions.

The market price for our common stock may also be affected by our ability to meet analysts’ expectations. Any failure to meet such expectations, even slightly, could have an adverse effect on the market price of our common stock. In addition, the stock market, and the NASDAQ National Market and the market for technology companies in particular, is subject to extreme price and volume fluctuations. This volatility has had a significant effect on the market prices of securities issued by many companies for reasons unrelated to the operating performance of these companies. In the past, companies that have experienced volatility in the market price of their securities have been the subjects of securities class action litigation, and as noted elsewhere in this Form 10-Q, we have been sued in a securities class action lawsuit. Although we believe that the class action lawsuit and the other lawsuits described elsewhere in this Form 10-Q areis without merit, an adverse determination in any of the lawsuits could have a very significant effect on our business and results of operations, and could materially affect the price of our stock. Moreover, regardless of the ultimate result, it is likely that theany such lawsuits will divert management’s attention and resources from other matters, which could also adversely affect our business and the price of our stock.

ANTI-TAKEOVER PROVISIONS IN OUR CHARTER, DOCUMENTSBYLAWS AND OUR RIGHTS PLAN AND DELAWARE LAW LIMIT THE ABILITY OF ANOTHER PARTY TO ACQUIRE US AND MAY PREVENT OR FRUSTRATE ATTEMPTS BY INVESTORS TO REPLACE OF REMOVE CURRENT MANAGEMENT, WHICH COULD CAUSE OUR STOCK PRICE TO DECLINE.

Certain provisions of our certificate of incorporation and our bylaws could delay or prevent a third party from acquiring us, even if doing so might be beneficial to our stockholders. For example, we haveIn addition, these provisions could also delay or prevent a third party or our stockholders from replacing or removing current management, if the board of directors did not believe a removal was necessary in the exercise of its fiduciary duties. These provisions include:

Our use of a classified board of directors means that a holder of a majority of our common stock would need two annual meetings of stockholders to gain control of our board. The requirement that any action by the stockholders may only be taken at a duly called annual or special meeting and the provision in our bylaws that special meetings may only be called by our board of directors or executive officers limits the ability of our stockholders to take action to remove our current management outside of a meeting of the stockholders. The elimination of cumulative voting prevents a stockholder casting all of his or her votes for one or more non-management nominees to the board of directors. Additionally, Thomas Klopack, our Chief Executive Officer, has been elected to the board of directors for a term ending at the 2005 annual meeting of stockholders and if re-elected to the board at that time, would not require further re-election for three years. These factors could delay action by investors to remove or replace current management.

In addition, on March 16, 2001, we adopted a stockholder rights plan (the “Rights Plan”). which was subsequently amended. Pursuant to the Rights Plan, our Board of Directors declared a dividend distribution of one Preferred Share Purchase Right (a “Right”) on each outstanding share of our common stock. Each Right will entitle stockholders to buy one-one hundredth of a share of newly created Series A Junior Participating Preferred Stock at an exercise price of $40.50 in the event that the Rights become exercisable. Subject to limited exceptions, the Rights will be exercisable if a person or group acquires 15%20% or more of the Company’s common stock or announces a tender offer for 15%20% or more of the common stock.stock; provided, however, that the rights will become exercisable in the case of Perry Corp., Richard Perry or any associate or affiliate of either acquiring, individually or in the aggregate, 25% or more of the Common Stock. If we are acquired in a merger or other business combination transaction which has not been approved by the Board of Directors, each Right will entitle its holder to purchase, at the Right’s then-current exercise price, a number of the acquiring company’s common shares having a market value at the time of twice the Right’s exercise price. These provisions may have the effect of making it more difficult for a third party to acquire, or discourage a third party from attempting to acquire, control of ACLARA. In addition,ACLARA and may make it more difficult for a third party to remove or replace management or to influence or control the board of directors. Further, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law, which may prohibit large stockholders from consummating a merger or combination with us. These factors could also limit the price that investors might be willing to pay for our common stock in the future.

IF WE FAIL TO MANAGE GROWTH EFFECTIVELY, OUR BUSINESS COULD BE DISRUPTED WHICH COULD HARM OUR OPERATING RESULTS.

Our ability to manage our operations and growth effectively requires us to continue to expend funds to enhance our operational, financial and management infrastructure, reporting systems and procedures and to attract and retain sufficient numbers of talented employees. Failure to attract and retain sufficient numbers of talented employees will further strain our human resources and could impede our growth. If we are unable to expand on and implement improvements to our manufacturing and assay development process for oureTag assay system in an efficient or timely manner, or if we encounter deficiencies in existing systems and controls, then we will not be able to develop and manufacture sufficient products required to successfully commercialize our technology. Any failure to effectively manage future growth could have a material adverse effect on our business, results of operations and financial condition.

WE USE HAZARDOUS CHEMICALS AND BIOLOGICAL MATERIALS IN OUR BUSINESS, AND ANY CLAIMS RELATING TO ANY ALLEGED IMPROPER HANDLING, STORAGE, USE OR DISPOSAL OF THESE MATERIALS COULD ADVERSELY HARM OUR BUSINESS.

Our research and development and manufacturing processes involve the use of hazardous materials, including chemicals and biological materials. Our operations also produce hazardous waste products. We cannot eliminate the risk of accidental contamination or discharge and any resultant injury from these materials. Federal, state and local laws and regulations govern the use, manufacture, storage, handling and disposal of these materials. We could be subject to damages in the event of an improper or unauthorized release of, or exposure of individuals to, hazardous materials. In addition, claimants may sue us for injury or contamination that results from our use, or the use by third parties, of these materials, and our liability may exceed our total

assets. Compliance with environmental laws and regulations is expensive, and current or future environmental regulations may impair our research, development or production efforts.

IF OUR FACILITIES WERE TO EXPERIENCE CATASTROPHIC LOSS, OUR OPERATIONS WOULD BE SERIOUSLY HARMED.

Our facilities could be subject to a catastrophic loss such as fire, flood or earthquake. All of our research and development activities, manufacturing, our corporate headquarters and other critical business operations are located near major earthquake faults in the San Francisco Bay Area. Any such loss at any of our facilities could disrupt our operations, delay production, shipments and revenue and result in large expense to repair and replace our facilities. The insurance we maintain does not cover earthquake related losses and may not be adequate to cover other losses resulting from disasters or other business interruptions.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our exposure to interest rate risk relates primarily to our investment portfolio. Fixed rate securities may have their fair market value adversely impacted due to fluctuations in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future investment income may fall short of expectations due to changes in interest rates or we may suffer losses in principle if forced to sell securities that have declined in market value due to changes in interest rates. The primary objective of our investment activities is to preserve principal while at the same time maximize yields without significantly increasing risk. To achieve this objective, we invest in debt instruments of the U.S. Government and its agencies and high-quality corporate issuers, and, by policy, restrict our exposure to any single corporate issuer by imposing concentration limits. To minimize the exposure due to adverse shifts in interest rates, we maintain investments at an average maturity of generally less than two years. Assuming a hypothetical increase in interest rates of one percentage point, the fair value of our total investments as of March 31,September 30, 2004 would have potentially declined by approximately $607,000.$776,000.

We do not utilize derivative financial instruments, derivative commodity instruments or other market-risk sensitive instruments, positions or transactions in any material fashion.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Our management have evaluated, with the participation of our Chief Executive Officer, who is our principal executive officer, and our Chief Financial Officer and Vice President of Finance, who is our principal financial officer, the effectiveness of our “disclosure controls and procedures” (as defined in Rules 13a-15(e) and 15(d)-15(e) of the Securities and Exchange Act of 1934, as amended) as of the end of the periodquarter covered by this Annual Report on Form 10-K.report. Based on that evaluation, our Chief Executive Officer and our Chief Financial Officer and Vice President of Finance concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Securities and Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities Exchange Commission rules and forms.

Changes in Internal Controls

There has been no change in the Company’sour internal controls over financial reporting during the Company’sour most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.

Sarbanes-Oxley Section 404 Compliance

The Securities and Exchange Commission, as directed by Section 404 of the Company’sSarbanes-Oxley Act of 2002 (the “Act”) adopted rules requiring public companies to include a report from management on our internal controls over financial reporting in Annual Reports on Form 10-K. This requirement will first apply to our Annual Report on Form 10-K for the year ended December 31, 2004 and in subsequent Annual Reports thereafter. The report from management must include the following: (1) a statement of management’s responsibility for establishing and maintaining adequate internal controls over financial reporting, (2) a statement identifying the framework used by management to conduct the required evaluation of the effectiveness of our internal controls over financial reporting, (3) management’s assessment of the effectiveness of our internal controls over financial reporting as of December 31, 2004, including a statement as to whether or not internal controls over financial reporting is effective, and (4) a statement that our independent auditors have issued an attestation report on management’s assessment of internal controls over financial reporting.

Management acknowledges its responsibility for establishing and maintaining internal controls over financial reporting and seeks to continually improve those controls. In order to achieve compliance with Section 404 of the Act within the required timeframe, we have been conducting a process to document and evaluate our internal controls over financial reporting over the first ten months of 2004. In this regard, we have dedicated internal resources, engaged temporary employees, utilized assistance from our independent accountants and adopted a detailed work plan to: (i) assess and document the adequacy of our internal controls over financial reporting; (ii) take steps to improve internal control processes where required; (iii) validate through testing that our internal controls are functioning as documented; and (iv) implement a continuous reporting and improvement process for our internal controls over financial reporting. We believe our process for documenting, evaluating and monitoring its internal controls over financial reporting is consistent with the objectives of Section 404 of the Act.

We have prepared initial documentation of our controls over financial reporting and have recently commenced testing of those controls but have not yet completed this testing. Our documentation and testing to date have identified certain deficiencies in the documentation, design and effectiveness of internal controls over financial reporting that we are in the process of remediating. Although we intend to diligently and vigorously review internal controls over financial reporting, we can provide no assurance as to our conclusions at December 31, 2004 with respect to the effectiveness of our internal controls over financial reporting, or that we will be able to complete the required assessment in a timely manner.

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

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Information with respect to this item is incorporated into this Part II, Item 1 by reference to Note 3, “Legal Matters” contained in Part 1, Item 1 above

ITEM 2. CHANGES INUNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Not applicable.Applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not Applicable.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not Applicable.

ITEM 5. OTHER INFORMATION

Not Applicable.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits.    The exhibits listed below are incorporated by reference as part of this report

10.7+		Side Agreement between ACLARA BioSciences, Inc. and The Perkin-Elmer Corporation, dated as of March 19, 1999 (Incorporated by reference to Exhibit 10.12 to our Form S-1.)
10.8+		Custom Instrument Development and Commercialization Agreement between The R.W. Johnson Pharmaceutical Research Initiative, The Perkin-Elmer Corporation and CLARA BioSciences, Inc., signed in March 1999 (Incorporated by reference to Exhibit 10.13 to our Form S-1.)
10.9+		Collaboration Agreement between Soane BioSciences, Inc. and The Perkin-Elmer Corporation, dated as of April 25, 1998 (Incorporated by reference to Exhibit 10.14 to our Form S-1.)
10.1010.9		ACLARA BioSciences, Inc. Employee Stock Purchase Plan (Incorporated by reference to Exhibit 10.16 to our Form S-1.)
10.1110.10		Consulting Agreement with Mr. Andre Marion dated as of January 19, 2000 (Incorporated by reference to Exhibit 10.19 to our Form S-1.)
10.12+10.11+		Settlement Agreement and Mutual General Release between Caliper Technologies Corp. and ACLARA BioSciences, Inc., dated as of March 12, 2001 (Incorporated by reference to Exhibit 10.1 to our Quarterly Report on Form 10-Q filed on May 15, 2001.)
10.13+10.12+		Cross-License Agreement between Caliper Technologies Corp. and ACLARA BioSciences, Inc., dated as of March 12, 2001 (Incorporated by reference to Exhibit 10.2 to our Quarterly Report on Form 10-Q filed on November 14, 2001.)
10.1410.13		Common Stock Issuance Agreement between ACLARA BioSciences, Inc. and Caliper Technologies Corp., dated as of March 12, 2001 (Incorporated by reference to Exhibit 10.3 to our Quarterly Report on Form 10-Q filed on May 15, 2001.)
10.15+10.14+		Amended and Partially Restated Collaboration Agreement between ACLARA BioSciences, Inc. and PE Corporation (NY), executed as of March 22, 2002. (Incorporated by reference to Exhibit 10.24 to our Annual Report on Form 10-K filed on April 1, 2002.)
10.1610.15		Second Side Agreement Between ACLARA BioSciences, Inc. and PE Corporation (NY), effective as of September 30, 2000. (Incorporated by reference to Exhibit 10.25 to our Annual Report on Form 10-K filed on April 1, 2002.)

10.1710.16+		First Amendment to the Custom Instrument Development and Commercialization Agreement between The R.W. Johnson Pharmaceutical Research Institute and ACLARA BioSciences, Inc., executed as of October 1, 2001. (Incorporated by reference to Exhibit 10.27 to our Annual Report on Form 10-K filed on April 1, 2002.)
10.18+		Second Amendment to the Custom Instrument Development and Commercialization Agreement between The R.W. Johnson Pharmaceutical Research Institute and ACLARA BioSciences, Inc., dated as of October 26, 2001. (Incorporated by reference to Exhibit 10.28 to our Annual Report on Form 10-K filed on April 1, 2002.)
10.19+		Development and Commercialization Agreement between Third Wave Technologies, Inc. and ACLARA BioSciences, Inc., dated as of October 24, 2001. (Incorporated by reference to Exhibit 10.29 to our Annual Report on Form 10-K filed on April 1, 2002.)
10.20+10.17+		Agreement between Third Wave Technologies, Inc. and ACLARA BioSciences, Inc. dated as of October 24, 2001. (Incorporated by reference to Exhibit 10.30 to our Annual Report on Form 10-K filed on April 1, 2002.)
10.2110.18		Amendment to the ACLARA BioSciences, Inc. Employee Stock Purchase Plan, effective April 23,2002. (Incorporated by reference to Exhibit 10.31 to our Quarterly Report on Form 10-Q filed on August 14, 2002.)
10.22+10.19+		License Agreement between Third Wave Technologies, Inc. and ACLARA BioSciences, Inc. dated October 15, 2002. (Incorporated by reference to Exhibit 10.32 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
10.23+10.20+		Supply Agreement between Third Wave Technologies, Inc. and ACLARA BioSciences, Inc. dated October 15, 2002. (Incorporated by reference to Exhibit 10.33 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
10.24+10.21+		InvaderCreator Access Agreement between Third Wave Technologies, Inc. and ACLARA BioSciences, Inc. dated October 15, 2002. (Incorporated by reference to Exhibit 10.34 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
0.25+10.22+		Transition Manufacturing Plan Letter Agreement between Third Wave Technologies, Inc. and ACLARA BioSciences, Inc. dated October 15, 2002. (Incorporated by reference to Exhibit 10.35 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
10.2610.23		InvaderCreator Access Letter Agreement between Third Wave Technologies, Inc and ACLARA BioSciences, Inc. dated October 15, 2002. (Incorporated by reference to Exhibit 10.36 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
10.27*10.24*		General Release and Separation Agreement between Joseph M. Limber and ACLARA BioSciences, Inc. dated October 10, 2002. (Incorporated by reference to Exhibit 10.38 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
10.28*10.25*		Change in Control Agreement between Joseph M. Limber and ACLARA BioSciences, Inc. dated October 10, 2002. (Incorporated by reference to Exhibit 10.39 to our Quarterly Report on Form 10-Q filed on November 14, 2002.)
10.29*		Form of Change of Control Agreement between ACLARA BioSciences, Inc. and each of our executive officers except the chief executive officer. (Incorporated by reference to Exhibit 10.36 to our Annual Report on Form 10-K filed on March 31, 2003.)
10.30*10.26*		Letter Agreement between Edward M. Hurwitz and ACLARA BioSciences, Inc. dated October 29, 2002. (Incorporated by reference to Exhibit 10.37 to our Annual Report on Form 10-K filed on March 31, 2003.)

10.31*10.27*		Letter Agreement between Edward M. Hurwitz and ACLARA BioSciences, Inc. dated November 27, 2002. (Incorporated by reference to Exhibit 10.38 to our Annual Report on Form 10-K filed on March 31, 2003.)
10.32*10.28*		Employment Letter Agreement between Thomas G. Klopack and ACLARA BioSciences, Inc. dated March 18, 2003. (Incorporated by reference to Exhibit 10.39 to our Annual Report on Form 10-K filed on March 31, 2003.)
10.33*10.29*		Severance Agreement between Thomas G. Klopack and ACLARA BioSciences, Inc. dated March 18, 2003. (Incorporated by reference to Exhibit 10.40 to our Annual Report on Form 10-K filed on March 31, 2003.)
10.34*10.30*		Employment Letter Agreement between Michael J. Dunn and ACLARA BioSciences, Inc. dated April 11, 2003. (Incorporated by reference to Exhibit 10.41 to our Quarterly Report on Form 10-Q filed on August 14, 2003.)
10.35*10.31*		Severance Agreement between Michael J. Dunn and ACLARA BioSciences, Inc. dated April 11, 2003. (Incorporated by reference to Exhibit 10.42 to our Quarterly Report on Form 10-Q filed on August 14, 2003.)

10.36*10.32*		Form of Change of Control Agreement between ACLARA BioSciences, Inc. and each of our non-employee directors. (Incorporated by reference to Exhibit 10.43 to our Quarterly Report on Form 10-Q filed on August 14, 2003.)
10.37+10.33++		Research Agreement between ACLARA BioSciences, Inc. and Genentech, Inc. dated July 17, 2002. (Incorporated by reference to Exhibit 10.44 to our Quarterly Report on Form 10-Q filed on August 14, 2003.)
10.38+10.34++		Amendment No. 1 to Research Agreement between ACLARA BioSciences, Inc. and Genentech, Inc. dated April 17, 2003. (Incorporated by reference to Exhibit 10.45 to our Quarterly Report on Form 10-Q filed on August 14, 2003.)
10.39*10.35*		NQ03 Stock Plan and options agreement there under. (Incorporated by reference to Exhibit 10.39 to our Annual Report on Form 10-K filed on March 15, 2004.)
24.110.36*		PowersForm of Attorney (see signature pageAmendment to this report). Stock Option Agreement between ACLARA BioSciences, Inc. and each of its executive officers. (Incorporated by reference to Exhibit 10.37 to our Quarterly Report on Form 10-Q filed on August 9, 2004)
10.37 +++		Evaluation Agreement between ACLARA BioSciences, Inc. and GlaxoSmithKline dated September 22, 2004
31.1		Certification of the Chief Executive Officer andpursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2		Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1		Certification of the Chief Executive Officer andpursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2		Certification of the Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.1		Form of Contingent Value Rights Agreement, between ViroLogic, Inc. and U.S. Bank National Association, as trustee (Incorporated by reference to Exhibit 99.3 to our Current Report on Form 8-K, filed with the Securities and Exchange Commission on June 1, 2004).
99.2		Form of Revised Contingent Value Rights Agreement, between ViroLogic, Inc. and U.S. Bank National Association, as trustee (Incorporated by reference to Exhibit 99.1 to our Current Report on Form 8-K, filed with the Securities and Exchange Commission on October 20, 2004).
99.2		Form of Voting Agreement between ViroLogic, Inc. and certain stockholders of ACLARA BioSciences, Inc. (Incorporated by reference to Exhibit 99.2 to our Quarterly Report on Form 10-Q filed on August 9, 2004)
99.3		Form of Voting Agreement between ACLARA BioSciences, Inc. and certain stockholders of ViroLogic, Inc. (Incorporated by reference to Exhibit 99.3 to our Quarterly Report on Form 10-Q filed on August 9, 2004)
99.4		Registration Rights Agreement, dated as of October 18, 2004, by and among ViroLogic, Inc. and certain entities affiliated with Tang Capital Partners, L.P. and Perry Corp. (incorporated by reference to Exhibit 99.4 to Current Report on Form 8-K of ViroLogic, Inc. filed with the SEC on October 19, 2004)

(b) Reports on Form 8-K:

On January 28, 2004, we filed a current report on Form 8-K regarding the announcement of results for our fiscal year ended December 31, 2003.

On April 29, 2004, we filed a current report on Form 8-K regarding the announcement of results for our fiscal quarter ended March 31, 2004.

SIGNATURES

Pursuant to the requirements 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.

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