Santarus 10Q 2007 Q3 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)


þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2007


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

For the transition period from to

Commission File Number: 000-50651

SANTARUS, INC.

(Exact name of registrant as specified in its charter)



Delaware		33-0734433
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)


10590 West Ocean Air Drive,
Suite 200, San Diego, CA		92130
(Address of principal executive offices)		(Zip Code)

(858) 314-5700
(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.þ Yeso No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filero Accelerated filerþ Non-accelerated filero

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

The number of outstanding shares of the registrant’s common stock, par value $0.0001 per share, as of October 15, 2007 was 51,315,485.

SANTARUS, INC.

FORM 10-Q — QUARTERLY REPORT
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2007

TABLE OF CONTENTS


	Page
	No.
PART I – FINANCIAL INFORMATION

Item 1. Financial Statements		1

Condensed Balance Sheets (unaudited) as of September 30, 2007 and December 31, 2006		1

Condensed Statements of Operations (unaudited) for the three and nine months ended September 30, 2007 and 2006		2

Condensed Statements of Cash Flows (unaudited) for the nine months ended September 30, 2007 and 2006		3

Notes to Unaudited Condensed Financial Statements		4

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		10

Item 3. Quantitative and Qualitative Disclosures about Market Risk		21

Item 4. Controls and Procedures		22

PART II – OTHER INFORMATION

Item 1. Legal Proceedings		23

Item 1A. Risk Factors		23

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		45

Item 3. Defaults Upon Senior Securities		45

Item 4. Submission of Matters to a Vote of Security Holders		45

Item 5. Other Information		46

Item 6. Exhibits		46

SIGNATURES		48
EXHIBIT 10.1
EXHIBIT 10.2
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

Santarus, Inc.

Condensed Balance Sheets

(unaudited)


	September 30,			December 31,
	2007			2006
Assets
Current assets:
Cash and cash equivalents	$	40,544,332		$	70,883,641
Short-term investments		8,069,060			4,650,000
Accounts receivable, net		12,609,811			7,133,799
Inventories, net		7,143,964			6,979,269
Other current assets		1,948,547			1,243,333

Total current assets		70,315,714			90,890,042

Long-term restricted cash		1,400,000			1,700,000
Property and equipment, net		732,924			334,402
Other assets		476,941			703,777

Total assets	$	72,925,579		$	93,628,221


Liabilities and stockholders’ equity
Current liabilities:
Accounts payable and accrued liabilities	$	36,389,780		$	22,534,518
Allowance for product returns		2,586,033			1,623,023
Current portion of deferred revenue		7,722,008			7,722,008

Total current liabilities		46,697,821			31,879,549

Deferred revenue, less current portion		9,652,509			15,444,015
Commitments and contingencies
Stockholders’ equity:
Preferred stock, $.0001 par value; 10,000,000 shares authorized at September 30, 2007 and December 31, 2006; no shares issued and outstanding at September 30, 2007 and December 31, 2006		—			—
Common stock, $.0001 par value; 100,000,000 shares authorized at September 30, 2007 and December 31, 2006; 51,309,235 and 50,730,622 shares issued and outstanding at September 30, 2007 and December 31, 2006, respectively		5,131			5,073
Additional paid-in capital		312,578,113			306,033,378
Accumulated other comprehensive loss		(131	)		—
Accumulated deficit		(296,007,864	)		(259,733,794	)

Total stockholders’ equity		16,575,249			46,304,657

Total liabilities and stockholders’ equity	$	72,925,579		$	93,628,221

See accompanying notes.

Santarus, Inc.

Condensed Statements of Operations

(unaudited)


	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2007			2006			2007			2006
Revenues:
Product sales, net	$	19,527,196		$	12,164,092		$	55,354,207		$	26,632,190
Contract revenue		6,930,502			714,286			10,791,506			2,142,857

Total revenues		26,457,698			12,878,378			66,145,713			28,775,047
Costs and expenses:
Cost of sales		1,782,295			1,102,677			5,092,583			3,454,602
License fees and royalties		2,733,808			1,702,973			7,749,590			3,728,509
Research and development		1,725,525			1,889,727			4,956,236			5,987,552
Selling, general and administrative		27,823,204			21,278,070			87,005,367			66,720,745

Total costs and expenses		34,064,832			25,973,447			104,803,776			79,891,408

Loss from operations		(7,607,134	)		(13,095,069	)		(38,658,063	)		(51,116,361	)
Interest and other income, net		705,352			696,826			2,383,993			2,120,393

Net loss	$	(6,901,782	)	$	(12,398,243	)	$	(36,274,070	)	$	(48,995,968	)


Basic and diluted net loss per share	$	(0.13	)	$	(0.26	)	$	(0.71	)	$	(1.06	)

Weighted average shares outstanding to calculate basic and diluted net loss per share		51,274,685			47,901,115			50,966,842			46,400,607

See accompanying notes.

Santarus, Inc.

Condensed Statements of Cash Flows

(unaudited)


	Nine Months Ended
	September 30,
	2007			2006
Operating activities
Net loss	$	(36,274,070	)	$	(48,995,968	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		423,456			454,259
Stock-based compensation		4,996,732			7,124,301
Changes in operating assets and liabilities:
Accounts receivable, net		(5,476,012	)		(3,137,548	)
Inventories, net		(164,695	)		(1,913,106	)
Other current assets		(705,214	)		(373,160	)
Other assets		(4,255	)		—
Accounts payable and accrued liabilities		13,855,262			7,843,972
Allowance for product returns		963,010			1,852,274
Deferred revenue		(5,791,506	)		(2,142,857	)

Net cash used in operating activities		(28,177,292	)		(39,287,833	)

Investing activities
Purchase of short-term investments		(3,727,891	)		(4,379,087	)
Sales and maturities of short-term investments		350,000			5,619,000
Long-term restricted cash		300,000			250,000
Purchases of property and equipment		(632,187	)		(36,338	)

Net cash (used in) provided by investing activities		(3,710,078	)		1,453,575

Financing activities
Exercise of stock options		254,807			508,409
Issuance of common stock, net		1,293,254			27,411,636
Payments on equipment notes payable		—			(38,019	)

Net cash provided by financing activities		1,548,061			27,882,026

Decrease in cash and cash equivalents		(30,339,309	)		(9,952,232	)
Cash and cash equivalents at beginning of the period		70,883,641			59,916,226

Cash and cash equivalents at end of the period	$	40,544,332		$	49,963,994


Supplemental disclosure of cash flow information:
Interest paid	$	9,636		$	12,430


Supplemental schedule of noncash financing activities:
Issuance of warrant in connection with committed equity financing facility	$	—		$	1,282,318

See accompanying notes.

Santarus, Inc.

Notes to Condensed Financial Statements
(unaudited)

1. Organization and Business

Santarus, Inc. (“Santarus” or the “Company”) is a specialty pharmaceutical company focused on acquiring, developing and commercializing proprietary products that address the needs of patients treated by gastroenterologists or primary care physicians. Santarus was incorporated on December 6, 1996 as a California corporation and did not commence significant business activities until late 1998. On July 9, 2002, the Company reincorporated in the State of Delaware.

The Company received approval from the U.S. Food and Drug Administration (“FDA”) to market Zegerid^® (omeprazole/sodium bicarbonate) Capsules in February 2006 for the treatment of heartburn and other symptoms associated with gastroesophageal reflux disease (“GERD”), treatment and maintenance of healing of erosive esophagitis and treatment of duodenal and gastric ulcers. The Company received approval from the FDA to market Zegerid (omeprazole/sodium bicarbonate) Powder for Oral Suspension for these same indications in 2004. In addition, Zegerid Powder for Oral Suspension is approved for the reduction of risk of upper gastrointestinal bleeding in critically ill patients, and is currently the only proton pump inhibitor (“PPI”) product approved for this indication. The Company commercially launched Zegerid Capsules in late March 2006 and launched Zegerid Powder for Oral Suspension 20 mg in late 2004 and the 40 mg dosage strength in early 2005.

2. Basis of Presentation

The accompanying unaudited condensed financial statements have been prepared in accordance with U.S. generally accepted accounting principles related to the preparation of interim financial statements and the rules and regulations of the Securities and Exchange Commission related to a quarterly report on Form 10-Q. Accordingly, they do not include all of the information and disclosures required by U.S. generally accepted accounting principles for complete financial statements. The balance sheet at December 31, 2006 has been derived from the audited financial statements at that date but does not include all information and disclosures required by U.S. generally accepted accounting principles for complete financial statements. The interim financial statements reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the financial condition and results of operations for the periods presented. Except as otherwise disclosed, all such adjustments are of a normal recurring nature.

Operating results for the three and nine months ended September 30, 2007 are not necessarily indicative of the results that may be expected for any future periods. For further information, please see the financial statements and related disclosures included in the Company’s annual report on Form 10-K for the year ended December 31, 2006.

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities as well as disclosures of contingent assets and liabilities at the date of the financial statements. Estimates also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

3. Revenue Recognition

The Company follows Staff Accounting Bulletin (“SAB”) No. 104,Revenue Recognition, and recognizes revenue when there is persuasive evidence that an arrangement exists, title has passed, the price is fixed or determinable, and collectibility is reasonably assured.

Product Sales, Net.The Company sells its Zegerid products primarily to pharmaceutical wholesale distributors. The Company is obligated to accept from customers the return of products that are within six months of their expiration date or up to 12 months beyond their expiration date. The Company authorizes returns for damaged products and exchanges for expired products in accordance with its return goods policy and procedures, and has established allowances for such amounts at the time of sale. The Company commercially launched Zegerid Capsules in late March 2006 and launched Zegerid Powder for Oral Suspension 20 mg in late 2004 and the 40 mg dosage strength in early 2005.

The Company recognizes revenue from product sales in accordance with SAB No. 104 and Statement of Financial Accounting Standards (“SFAS”) No. 48,Revenue Recognition When Right of Return Exists. Among its criteria for revenue recognition from sale transactions where a buyer has a right of return, SFAS No. 48 requires the amount of future returns to be reasonably estimated. The Company recognizes product sales net of estimated allowances for product returns, estimated rebates in connection with contracts relating to managed care, Medicaid, Medicare, and patient coupons, and estimated chargebacks from distributors, wholesaler fees and prompt payment and other discounts.

The Company establishes allowances for estimated product returns, rebates and chargebacks based primarily on the following qualitative and quantitative factors:

	•		the number of and specific contractual terms of agreements with customers;

	•		estimated levels of inventory in the distribution channel;

	•		estimated remaining shelf life of products;

	•		analysis of prescription data gathered by a third-party prescription data provider;

	•		direct communication with customers;

	•		historical product returns, rebates and chargebacks;

	•		anticipated introduction of competitive products or generics;

	•		anticipated pricing strategy changes by the Company and/or its competitors; and

	•		the impact of state and federal regulations.

In its analyses, the Company utilizes prescription data purchased from a third-party data provider to develop estimates of historical inventory channel pull-through. The Company utilizes a separate analysis which compares historical product shipments less returns to estimated historical prescriptions written. Based on that analysis, the Company develops an estimate of the quantity of product in the distribution channel which may be subject to various product return, rebate and chargeback exposures.

The Company’s estimates of product returns, rebates and chargebacks require management’s most subjective and complex judgment due to the need to make estimates about matters that are inherently uncertain. If actual future payments for returns, rebates, chargebacks and other discounts exceed the estimates the Company made at the time of sale, its financial position, results of operations and cash flows would be negatively impacted.

The Company’s allowance for product returns was $2.6 million as of September 30, 2007 and $1.6 million as of December 31, 2006. Prior to the fourth quarter of 2006, the Company deferred the recognition of revenue on product shipments of its Zegerid products to wholesale distributors until units were dispensed through patient prescriptions as the Company was unable to reasonably estimate the amount of future product returns. Units dispensed are not generally subject to return. Prior to the fourth quarter of 2006, the Company’s allowance for product returns was based on an analysis of Zegerid product shipments to its wholesale distributors in excess of the estimated number of units dispensed through patient prescriptions. In order to develop a methodology and provide a basis for estimating future product returns on sales to its customers at the time title transfers, the Company has been tracking its Zegerid products return history from the time of its first commercial product launch of Zegerid Powder for Oral Suspension 20 mg in late 2004, taking into consideration product expiration dating and inventory levels in the distribution channel. Based on the product returns history gathered over two years through the end of 2006, the Company determined that it had the information needed to reasonably estimate future product returns, and as a result, the Company reduced the allowance for product returns during the quarter ended December 31, 2006. The Company continues to recognize product sales at the time title passes to its customers, and the Company provides for an estimate of future product returns at that time based upon its historical product returns trends, analysis of product expiration dating and inventory levels in the distribution channel, and the other factors discussed above. There may be a significant time lag between the date the Company determines the estimated allowance and when it receives the product return and issues credit to a customer. Due to this time lag, the Company records adjustments to its estimated allowance over several periods, which can result in a net increase in its net loss or a net decrease in its net loss in those periods. The historical rate of product returns has increased during the nine months ended September 30, 2007, and the Company has increased its allowance for product returns to reflect actual experience accordingly.

Consistent with industry practice, the Company has offered promotional discounts to its customers at the time of product launch. These discounts are calculated as a fixed dollar discount off the current published list price and/or a fixed incentive fee per transaction and are treated as off-invoice allowances or customer credits. Accordingly, these discounts are recorded as a reduction of revenue in the period that the program is offered. As previously discussed, at the time of product launch and prior to the fourth quarter of 2006, the Company deferred the recognition of revenue on shipments of its Zegerid products to wholesale distributors until units were dispensed through patient prescriptions. As a result, the Company did not recognize product sales related to inventory in the distribution channel.

The Company’s allowance for rebates, chargebacks and other discounts was $20.7 million as of September 30, 2007 and $7.8 million as of December 31, 2006. These allowances reflect an estimate of the Company’s liability for rebates due to managed care organizations under specific contracts, rebates due to various governmental organizations under Medicaid and Medicare contracts and regulations, chargebacks due to various organizations purchasing the Company’s products through federal contracts and/or group purchasing agreements, and other rebates and customer discounts due in connection with wholesaler fees and prompt payment and other discounts. The Company estimates its liability for rebates and chargebacks at each reporting period based on a combination of the qualitative and quantitative assumptions listed above. In each reporting period, the Company evaluates its outstanding contracts and applies the contractual discounts to the invoiced price of wholesaler shipments recognized. Although the total invoiced price of shipments to wholesalers for the reporting period and the contractual terms are known during the reporting period, the Company projects the ultimate disposition of the sale (e.g. future utilization rates of cash payors, managed care, Medicaid, Medicare or other contracted organizations). This estimate is based on historical trends adjusted for anticipated changes based on specific contractual terms of new agreements with customers, anticipated pricing strategy changes by the Company and/or its competitors and the other qualitative and quantitative factors described above. There may be a significant time lag between the date the Company determines the estimated allowance and when the Company makes the contractual payment or issues credit to a customer. Due to this time lag, the Company records adjustments to its estimated allowance over several periods, which can result in a net increase in its net loss or a net decrease in its net loss in those periods. To date, actual results have not materially differed from the Company’s estimates.

Contract Revenue.The Company recognizes contract revenue consistent with the provisions of SAB No. 104 and Emerging Issues Task Force (“EITF”) Issue No. 00-21,Revenue Arrangements with Multiple Deliverables. The Company analyzes each element of its licensing and co-promotion agreements to determine the appropriate revenue recognition. The Company recognizes revenue on upfront payments over the period of significant involvement under the related agreements unless the fee is in exchange for products delivered or services rendered that represent the culmination of a separate earnings process and no further performance obligation exists under the contract. The Company recognizes milestone payments upon the achievement of specified milestones if (1) the milestone is substantive in nature, and the achievement of the milestone was not reasonably assured at the inception of the agreement and (2) the fees are nonrefundable. Any milestone payments received prior to satisfying these revenue recognition criteria are recognized as deferred revenue. Sales milestones and royalties will be recognized when earned under the agreements. Certain elements of the Company’s licensing and co-promotion agreements are described below:

	•		In August 2007, the Company received a nonrefundable $5.0 million milestone payment from Schering-Plough Healthcare Products, Inc. (“Schering-Plough”) relating to progress on clinical product development strategy under the Company’s over-the-counter license agreement with Schering-Plough using the Company’s patented PPI technology. The $5.0 million milestone payment was recognized as contract revenue in the three months ended September 30, 2007 due to the substantive nature of the milestone achieved.

	•		In November 2006, the Company received a nonrefundable $15.0 million upfront license fee in connection with its license agreement with Schering-Plough. The $15.0 million upfront payment is being amortized to revenue on a straight-line basis over a 37-month period through the end of 2009, which represents the estimated period during which the Company has significant responsibilities under the agreement.

	•		In October 2004, the Company received a nonrefundable $15.0 million upfront payment in connection with its co-promotion agreement with Otsuka America Pharmaceutical, Inc. (“Otsuka America”). The $15.0 million upfront payment is being amortized to revenue on a straight-line basis over the 63-month contractual term through the end of 2009.

4. Stock-Based Compensation

For the three months ended September 30, 2007 and 2006 and the nine months ended September 30, 2007 and 2006, the Company recognized approximately $1.7 million, $2.3 million, $5.0 million and $7.1 million of total stock-based compensation, respectively, in accordance with SFAS No. 123 (revised 2004),Share-Based Payment, which is a revision of SFAS No. 123,Accounting for Stock-Based Compensation(“SFAS No. 123(R)”) and EITF Issue No. 96-18,Accounting for Equity Investments that are Issued to Other than Employees for Acquiring or in Conjunction with Selling Goods or Services.As of September 30, 2007, total unrecognized compensation cost related to stock options and employee stock purchase plan rights was approximately $12.2 million, and the weighted average period over which it was expected to be recognized was 2.7 years. In March 2007, the Company granted options to purchase 1,753,817 shares of its common stock in connection with annual option grants to all eligible employees. In October 2007, the Company’s board of directors approved certain equity compensation programs for employees below the vice president level to be effective in November 2007. With the intent of positively impacting employee morale, these programs include the granting of special options to purchase shares of the Company’s common stock as well as accelerating the vesting of out-of-the-money existing stock options with per share exercise prices of $5.00 or greater. Additionally, the decision to accelerate the vesting of these stock options was made to reduce the total stock-based compensation in the Company’s statement of operations in future financial statements relating to options granted to employees below the vice president level.

5. Comprehensive Income (Loss)

Comprehensive income (loss) consists of net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) includes certain changes in stockholders’ equity that are excluded from net income (loss), specifically unrealized gains and losses on securities available-for-sale. Comprehensive loss consists of the following:


	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2007			2006			2007			2006
Net loss	$	(6,901,782	)	$	(12,398,243	)	$	(36,274,070	)	$	(48,995,968	)
Unrealized income (loss) on investments		1,928			5,473			(131	)		3,030

Comprehensive loss	$	(6,899,854	)	$	(12,392,770	)	$	(36,274,201	)	$	(48,992,938	)

6. Net Loss Per Share

The Company calculates net loss per share in accordance with SFAS No. 128,Earnings Per Share. Basic loss per share is calculated by dividing the net loss by the weighted average number of common shares outstanding for the period, without consideration for common stock equivalents. Diluted loss per share is computed by dividing the net loss by the weighted average number of common share equivalents outstanding for the period determined using the treasury-stock method. For purposes of this calculation, common stock subject to repurchase by the Company, preferred stock, options and warrants are considered to be common stock equivalents and are only included in the calculation of diluted loss per share when their effect is dilutive.


	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2007			2006			2007			2006
Numerator:
Net loss	$	(6,901,782	)	$	(12,398,243	)	$	(36,274,070	)	$	(48,995,968	)

Denominator:
Weighted average common shares outstanding		51,283,460			47,940,044			50,980,570			46,449,245
Weighted average unvested common shares subject to repurchase		(8,775	)		(38,929	)		(13,728	)		(48,638	)

Denominator for basic and diluted net loss per share		51,274,685			47,901,115			50,966,842			46,400,607


Basic and diluted net loss per share	$	(0.13	)	$	(0.26	)	$	(0.71	)	$	(1.06	)

7. Segment Reporting

Management has determined that the Company operates in one business segment which is the acquisition, development and commercialization of pharmaceutical products.

8. Balance Sheet Details

Inventories, net consist of the following:


	September 30,			December 31,
	2007			2006
Raw materials	$	1,443,596		$	1,854,492
Finished goods		5,949,415			5,534,141

		7,393,011			7,388,633
Allowance for excess and obsolete inventory		(249,047	)		(409,364	)

	$	7,143,964		$	6,979,269

Inventories are stated at the lower of cost (FIFO) or market and consist of finished goods and raw materials used in the manufacture of the Company’s Zegerid Capsules and Zegerid Powder for Oral Suspension products. Also included in inventories are product samples of Naprelan^® (naproxen sodium) Controlled Release Tablets which the Company purchases from Victory Pharma Inc. (“Victory”) under its co-promotion agreement. The Company provides reserves for potentially excess, dated or obsolete inventories based on an analysis of inventory on hand and on firm purchase commitments, compared to forecasts of future sales.

Accounts payable and accrued liabilities consist of the following:


	September 30,		December 31,
	2007		2006
Accounts payable	$	3,467,948	$	3,386,497
Accrued compensation and benefits		4,875,663		5,587,290
Accrued rebates		19,058,582		7,130,887
Accrued royalties		2,733,808		2,708,623
Other accrued liabilities		6,253,779		3,721,221

	$	36,389,780	$	22,534,518

9. Co-Promotion Agreements

C.B. Fleet Company, Incorporated

In August 2007, the Company entered into a co-promotion agreement with C.B. Fleet Company, Incorporated (“Fleet”) to co-promote the Fleet^® Phospho-soda^® EZ-Prep^™ Bowel Cleansing System in the second sales position to the Company’s targeted gastroenterologists in the U.S. The product is a system for bowel preparation used prior to a medical procedure or examination, such as a colonoscopy.

Under the terms of the agreement, Fleet will pay the Company to promote the product based on a set fee per sales call, subject to a minimum and maximum number of sales calls. The Company is eligible to receive co-promotion fees of up to approximately $3.0 million over the term of the agreement, subject to reduction in the event of any early termination of the agreement. The Company will also have the opportunity to earn bonus payments if unit sales exceed predetermined baselines. Fleet will be responsible for providing all training materials, promotional literature and product samples throughout the term of the agreement.

The agreement will continue in effect until one year from the date that the Company commenced promotional activities, unless terminated sooner or extended by the parties upon mutual written agreement. Either party may terminate the agreement (i) if the other party fails to perform any material term of the agreement and fails to cure such breach, subject to prior written notice within a specified time period; (ii) if the other party becomes insolvent, files or consents to the filing of a petition under any bankruptcy or insolvency law or has any such petition filed against it, and within a specified time

period, such filing has not been stayed; (iii) under other specified circumstances relating to a significant recall or withdrawal of the product or in the event of specified regulatory or governmental actions that would prevent a party from performing its obligations under the agreement; and (iv) at any time by providing 120 days prior written notice to the other party.

Victory Pharma, Inc.

In June 2007, the Company entered into a co-promotion agreement with Victory to co-promote Naprelanproducts in the second sales position to targeted primary care physicians in the U.S. Under the terms of the agreement, the Company will receive a co-promotion fee equal to slightly more than half of the net sales value of the prescriptions generated by its target physicians, offset by an initial credit in recognition of existing sales. Commencing in January 2008, the Company will be obligated to make a minimum number of annual and quarterly second position sales calls to target physicians. Victory is responsible for creating and developing, at its cost and expense, all product marketing materials as well as for handling all manufacturing, distribution, medical affairs and regulatory support for the products. The Company is responsible for all costs related to its sales force, and will purchase samples and training and promotional literature at cost from Victory or its suppliers.

The agreement will continue in effect until June 10, 2014 unless terminated sooner. Either party may terminate the agreement if the other party fails to perform any material term of the agreement and fails to cure such breach, subject to prior written notice within a specified time period. In addition, either party may terminate the agreement if the other party becomes insolvent, files or consents to the filing of a petition under any bankruptcy or insolvency law or has any such petition filed against it, and within a specified time period, such filing has not been stayed. Either party may also terminate the agreement under other specified circumstances relating to a significant recall or withdrawal of the products or in the event of specified regulatory or governmental actions that would prevent a party from performing its obligations under the agreement. The Company may also terminate the agreement in other circumstances, such as loss of market exclusivity, subject to notice to Victory. In addition, subject to 120 days prior written notice to Victory, the Company may terminate the agreement (a) at any time following the 18-month anniversary of the effective date of the agreement or (b) at any time if Victory is not continuing to provide marketing and promotional support for the products at specified minimum levels.

10. Contingencies

Patent Litigation Against Par Pharmaceutical, Inc.

On September 13, 2007, the Company filed a lawsuit in the United States District Court for the District of Delaware against Par Pharmaceutical, Inc. (“Par”) for infringement of the patents listed in the Orange Book for Zegerid Capsules. The University of Missouri, licensor of the patents, is joined in the litigation as a co-plaintiff. The lawsuit is in response to an Abbreviated New Drug Application (“ANDA”) filed by Par with the FDA regarding Par’s intent to market a generic version of the Company’s Zegerid Capsules product prior to the July 2016 expiration of the three listed patents (U.S. Patent Nos. 6,645,988; 6,489,346; and 6,699,885). The complaint seeks a judgment that Par has infringed the listed patents and that the effective date of approval of Par’s ANDA shall not be earlier than the expiration date of the listed patents. The Company commenced the lawsuit within the 45 days required to automatically stay, or bar, the FDA from approving Par’s ANDA for 30 months or until a district court decision that the asserted patents are invalid, unenforceable or not infringed, whichever may occur earlier. On October 2, 2007, the Company filed an amended complaint to reflect the U.S. Patent and Trademark Office’s (“PTO’s”), issuance of an Ex Parte Reexamination Certificate for U.S. Patent No. 6,699,885 (the "‘885 patent”), as further described below. On October 17, 2007, Par filed its answer in the case, primarily asserting non-infringement, invalidity and unenforceability. Par also filed counterclaims seeking a declaration in its favor on those issues. Discovery is expected to begin in the near future and a trial date has not been set. The Company is prepared to vigorously defend and enforce the intellectual property rights protecting its Zegerid products.

U.S. Patent and Trademark Office Reexamination of U.S. Patent No. 6,699,885

Reexamination of the ‘885 patent with the PTO. The PTO granted the Request for Reexamination and issued an initial office action, to which the Company and the University of Missouri submitted a response. The response included the Company’s and the University of Missouri’s positions relating to patentability as well as proposed amendments to certain of the claims of the ‘885 patent. In its September 18, 2007 decision, the PTO confirmed the patentability of the ‘885 patent claims, as amended and added by the Company and the University of Missouri, over the references cited in the proceeding. Following the September 18, 2007 action of the PTO, the ‘885 patent continues to provide patent coverage for the Company’s Zegerid products by generally covering methods for treating gastric acid related disorders by administering a composition consisting essentially of a PPI (at least a portion of which is not enterically coated), and a minimum specified amount of buffering agent, where a minimum serum concentration of the PPI is achieved within specified time periods.

11. Income Taxes

On July 13, 2006, the Financial Accounting Standards Board (“FASB”) issued Financial Interpretation (“FIN”) No. 48,Accounting for Uncertainty in Income Taxes – An Interpretation of FASB Statement No. 109. FIN No. 48 clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with SFAS No. 109,Accounting for Income Taxes,and prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Under FIN No. 48, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. Additionally, FIN No. 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN No. 48 is effective for fiscal years beginning after December 15, 2006.

The Company adopted the provisions of FIN No. 48 on January 1, 2007. The total amount of unrecognized tax benefits as of the date of adoption was $1.5 million. As a result of the implementation of FIN No. 48, the Company recognized a $1.2 million decrease in deferred tax assets and a corresponding decrease in the valuation allowance. There are no unrecognized tax benefits included in the balance sheet that would, if recognized, affect the effective tax rate.

The Company’s practice is to recognize interest and/or penalties related to income tax matters in income tax expense. The Company had $0 accrued for interest and penalties on the Company’s balance sheets at December 31, 2006 and at September 30, 2007 and has recognized $0 in interest and/or penalties in the statement of operations for the three and nine months ended September 30, 2007.

The Company is subject to taxation in the U.S. and various state jurisdictions. The Company’s tax years for 1997 and forward are subject to examination by the U.S. and California tax authorities due to the carryforward of unutilized net operating losses and research and development credits.

The adoption of FIN No. 48 did not impact the Company’s financial condition, results of operations or cash flows. At January 1, 2007, the Company had net deferred tax assets of $93.6 million. The deferred tax assets are primarily composed of federal and state tax net operating loss carryforwards and federal and state research and development credit carryforwards. Due to uncertainties surrounding the Company’s ability to generate future taxable income to realize these assets, a full valuation allowance has been established to offset the Company’s net deferred tax asset. Additionally, the future utilization of the Company’s net operating loss and research and development credit carryforwards to offset future taxable income may be subject to a substantial annual limitation as a result of ownership changes that may have occurred previously or that could occur in the future. The Company has not yet determined whether such an ownership change has occurred, however, the Company plans to complete a Section 382/383 analysis regarding the limitation of the net operating losses and research and development credits. When this analysis is completed, the Company plans to update its unrecognized tax benefits under FIN No. 48. Therefore, the Company expects that the unrecognized tax benefits may change within 12 months of this reporting date. At this time, the Company cannot estimate how much the unrecognized tax benefits may change. Any carryforwards that will expire prior to utilization as a result of such limitations will be removed from deferred tax assets with a corresponding reduction of the valuation allowance. Due to the existence of the valuation allowance, future changes in unrecognized tax benefits will not impact the Company’s effective tax rate.

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

The following discussion contains forward-looking statements, which involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth below under the caption “Risk Factors.” The interim financial statements and this Management’s

Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the financial statements and notes thereto for the year ended December 31, 2006 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in our Annual Report onForm 10-K for the year ended December 31, 2006.

Overview

We are a specialty pharmaceutical company focused on acquiring, developing and commercializing proprietary products that address the needs of patients treated by gastroenterologists or primary care physicians. The primary focus of our current efforts is the commercialization of proprietary immediate-release proton pump inhibitor, or PPI, products. PPI products are the most frequently prescribed drugs for the treatment of many upper gastrointestinal, or GI, diseases and disorders, including gastroesophageal reflux disease, or GERD.

Our Zegerid^® products are the first immediate-release oral PPIs to be developed for the U.S. pharmaceutical market. The formulations are based on patented technology and utilize antacids, which raise the gastric pH and thus protect the PPI, omeprazole, from acid degradation in the stomach, allowing the omeprazole to be quickly absorbed into the bloodstream. Although other marketed oral PPIs enjoy widespread use due to their potent acid suppression, favorable safety profiles and once-a-day dosing, they are available only in delayed-release, enteric-coated formulations. While the enteric coatings protect delayed-release PPIs from acid degradation in the stomach, they also delay absorption until the delayed-release PPIs reach the alkaline environment of the small intestine, where the enteric coatings dissolve. Our immediate-release Zegerid products are designed to provide rapid release and continued nighttime and daytime acid control – the products are not enterically coated and are designed to be released and absorbed more rapidly, while providing a duration of acid control comparable to delayed-release PPIs.

We received approval from the U.S. Food and Drug Administration, or FDA, to market Zegerid (omeprazole/sodium bicarbonate) Capsules in February 2006 for the treatment of heartburn and other symptoms associated with GERD, treatment and maintenance of healing of erosive esophagitis and treatment of duodenal and gastric ulcers. We received approval from the FDA to market Zegerid (omeprazole/sodium bicarbonate) Powder for Oral Suspension for these same indications in 2004. In addition, Zegerid Powder for Oral Suspension is approved for the reduction of risk of upper GI bleeding in critically ill patients, and is currently the only PPI product approved for this indication. We commercially launched Zegerid Capsules 20 mg and 40 mg in late March 2006, and launched Zegerid Powder for Oral Suspension 20 mg in October 2004 and 40 mg in February 2005.

Zegerid Capsules and Zegerid Powder for Oral Suspension are supported by more than 500 field sales representatives who promote our Zegerid products in the primary detail position. The field sales representatives include approximately 210 of our own representatives and approximately 170 representatives under our co-promotion agreement with Otsuka America Pharmaceutical, Inc., or Otsuka America. The field sales representatives also include approximately 140 inVentiv Commercial Services, LLC, or inVentiv, contract sales representatives, under a services agreement that we announced in November 2006. In addition, we utilize field-based district sales managers and regional sales directors to oversee the activities of our field sales representatives and national and regional account managers to work with managed care organizations to obtain formulary and reimbursement coverage for our products. We also use a variety of marketing programs to promote our products, including promotional materials, speaker programs, journal advertising, industry publications, electronic media and product sampling.

In January 2001, we entered into an exclusive, worldwide license agreement with the University of Missouri, under which we licensed rights to its patents and patent applications relating to specific formulations of immediate-release PPIs with antacids for treating upper GI diseases and disorders. This licensed technology forms the basis of our Zegerid family of products. We paid the University of Missouri an upfront licensing fee of $1.0 million in 2001 and a one-time $1.0 million milestone fee upon the filing of our first new drug application, or NDA, in 2003. In July 2004, we paid a one-time $5.0 million milestone fee based upon the FDA’s approval of Zegerid Powder for Oral Suspension 20 mg, and we are required to make additional milestone payments to the University of Missouri upon the achievement of certain regulatory events related to obtaining approvals outside the U.S., which may total up to $3.5 million in the aggregate. We are required to make milestone payments, up to a maximum of $86.3 million, based on first-time achievement of significant sales thresholds, and to pay royalties on net sales of our products.

We have a non-exclusive agreement with Otsuka America, under which Otsuka America is co-promoting Zegerid Capsules and Zegerid Powder for Oral Suspension to targeted U.S. physicians. We originally entered into the agreement in October 2004 and amended the terms of the agreement in January 2006. Under the agreement, we received a $15.0 million

upfront payment from Otsuka America, and have agreed to pay Otsuka America a royalty on total U.S. net sales of Zegerid Capsules and Zegerid Powder for Oral Suspension. The agreement will terminate automatically on December 31, 2009, unless terminated sooner. In addition to other more limited termination rights, either party may terminate the agreement at any time by providing at least 120 days prior written notice.

In October 2006, we entered into a license agreement with Schering-Plough Healthcare Products, Inc., or Schering-Plough, granting rights to develop, manufacture, market and sell omeprazole products using our patented PPI technology for the over-the-counter, or OTC, market in the U.S. and Canada. In November 2006, we received a $15.0 million upfront license fee. In August 2007, we received a $5.0 million milestone payment relating to progress on clinical product development strategy. We may earn up to an additional $60.0 million in milestone payments upon the achievement of certain regulatory and sales milestones. We will also receive low double-digit royalties, subject to adjustment in certain circumstances, on net sales of any OTC products sold by Schering-Plough under the license agreement. In turn, we will be obligated to pay royalties to the University of Missouri based on net sales of any OTC products sold by Schering-Plough. The license agreement will remain in effect as long as Schering-Plough is marketing products under the license agreement in the U.S. or Canada. Schering-Plough may terminate the agreement on 180 days prior written notice anytime after submitting its first new drug application for a licensed product or if Schering-Plough does not meet a specified deadline for receiving marketing approval in the U.S. for a licensed product. In addition, either party may terminate the agreement in the event of uncured material breach of a material obligation, subject to certain limitations, or in the event of bankruptcy or insolvency.

In June 2007, we entered into a co-promotion agreement with Victory Pharma, Inc., or Victory, to co-promote Naprelan^® (naproxen sodium) Controlled Release Tablets prescription pharmaceutical products in the second sales position to targeted primary care physicians in the U.S. Naprelan Tablets are a once-daily, controlled release formulation of naproxen sodium, a non-steroidal anti-inflammatory drug, or NSAID, indicated for the treatment of a number of conditions, including arthritis and the relief of mild to moderate pain. We trained our field sales representatives and commenced promotional activities for the Naprelan products in the third quarter of 2007. Under the terms of the agreement, we will receive a co-promotion fee equal to slightly more than half of the net sales value of the prescriptions generated by our target physicians, offset by an initial credit in recognition of existing sales. Commencing in January 2008, we will be obligated to make a minimum number of annual and quarterly second position sales calls to target physicians. Victory is responsible for creating and developing, at its cost and expense, all product marketing materials as well as for handling all manufacturing, distribution, medical affairs and regulatory support for the products. We are responsible for all costs related to our sales force, and will purchase samples and training and promotional literature at cost from Victory or its suppliers. The agreement will continue in effect until June 10, 2014 unless terminated sooner. In addition to other more limited termination rights, subject to 120 days prior written notice to Victory, we may terminate the agreement (a) at any time following the 18-month anniversary of the effective date of the agreement or (b) at any time if Victory is not continuing to provide marketing and promotional support for the products at specified minimum levels.

In August 2007, we entered into a co-promotion agreement with C.B. Fleet Company, Incorporated, or Fleet, to co-promote the Fleet^® Phospho-soda^® EZ-Prep^™ Bowel Cleansing System in the second sales position to our targeted gastroenterologists in the U.S. The Fleet product is a system for bowel preparation used prior to a medical procedure or examination, such as a colonoscopy. We trained our field sales representatives in September and October 2007 and commenced promotional activities for the product in the fourth quarter of 2007. Under the terms of the agreement, Fleet will pay us based on a set fee per sales call, subject to a minimum and maximum number of sales calls. We are eligible to receive co-promotion fees of up to approximately $3.0 million over the term of the agreement, subject to reduction in the event of any early termination of the agreement. We will also have the opportunity to earn bonus payments if unit sales exceed predetermined baselines. We did not pay an upfront fee and do not expect to incur any material incremental expenses associated with our promotion of the product. Fleet will be responsible for providing all training materials, promotional literature and product samples throughout the term of the agreement. The agreement will continue in effect until one year from the date that we commenced promotional activities, unless terminated sooner or extended by the parties upon mutual written agreement. In addition to other more limited termination rights, either party may terminate the agreement at any time by providing 120 days prior written notice to the other party.

We have incurred significant losses since our inception. We had an accumulated deficit of $296.0 million as of September 30, 2007. These losses have resulted principally from costs incurred in connection with license fees, research and development activities, including costs of clinical trial activities associated with our current Zegerid products, commercialization activities and general and administrative expenses.

We expect to incur additional operating losses and capital expenditures as we support the commercialization of Zegerid Capsules and Zegerid Powder for Oral Suspension and our commercial organization, enhance our product portfolio through development and commercialization of acquired or internally developed proprietary products and fund our administrative support activities.

In February 2006, we entered into a Committed Equity Financing Facility, or CEFF, with Kingsbridge Capital Limited, or Kingsbridge, which may entitle us to sell and obligate Kingsbridge to purchase, from time to time over a period of three years, shares of our common stock for cash consideration up to the lesser of $75.0 million or 8,853,165 shares, subject to certain conditions and restrictions. In connection with the CEFF, we entered into a common stock purchase agreement and registration rights agreement, and we also issued a warrant to Kingsbridge to purchase 365,000 shares of our common stock at a price of $8.2836 per share. The warrant is fully exercisable beginning after the six-month anniversary of the agreement for a period of five years thereafter. On February 3, 2006, we filed a resale shelf registration statement on Form S-3 with the Securities and Exchange Commission to facilitate Kingsbridge’s public resale of shares of our common stock which it may acquire from us from time to time in connection with our draw downs under the CEFF or upon the exercise of a warrant to purchase 365,000 shares of common stock that we issued to Kingsbridge in connection with the CEFF. The resale shelf registration statement was declared effective on February 13, 2006. In 2006, we completed four draw downs under the CEFF and have issued a total of 5,401,787 shares in exchange for aggregate gross proceeds of $36.5 million.

In July 2006, we entered into a Loan and Security Agreement, or the Loan Agreement, with Comerica Bank, or Comerica. The credit facility under our Loan Agreement consists of a revolving line of credit, pursuant to which we may request advances in an aggregate outstanding amount not to exceed $20.0 million. As of November 1, 2007, the date of this report, we have not borrowed any amounts under the Loan Agreement.

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based on our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles, or GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. We review our estimates on an on-going basis. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates under different assumptions or conditions. We believe the following accounting policies to be critical to the judgments and estimates used in the preparation of our financial statements.

Revenue Recognition

We follow Staff Accounting Bulletin, or SAB, No. 104,Revenue Recognition, and recognize revenue when there is persuasive evidence that an arrangement exists, title has passed, the price is fixed or determinable, and collectibility is reasonably assured.

Product Sales, Net.We sell our Zegerid products primarily to pharmaceutical wholesale distributors. We are obligated to accept from customers the return of products that are within six months of their expiration date or up to 12 months beyond their expiration date. We authorize returns for damaged products and exchanges for expired products in accordance with our return goods policy and procedures, and have established allowances for such amounts at the time of sale. We commercially launched Zegerid Capsules in late March 2006 and launched Zegerid Powder for Oral Suspension 20 mg in late 2004 and the 40 mg dosage strength in early 2005.

We recognize revenue from product sales in accordance with SAB No. 104 and Statement of Financial Accounting Standards, or SFAS, No. 48,Revenue Recognition When Right of Return Exists. Among its criteria for revenue recognition from sale transactions where a buyer has a right of return, SFAS No. 48 requires the amount of future returns to be reasonably estimated. We recognize product sales net of estimated allowances for product returns, estimated rebates in connection with contracts relating to managed care, Medicaid, Medicare, and patient coupons, and estimated chargebacks from distributors, wholesaler fees and prompt payment and other discounts.

We establish allowances for estimated product returns, rebates and chargebacks based primarily on the following qualitative and quantitative factors:

	•		the number of and specific contractual terms of agreements with customers;

	•		estimated levels of inventory in the distribution channel;

	•		estimated remaining shelf life of products;

	•		analysis of prescription data gathered by a third-party prescription data provider;

	•		direct communication with customers;

	•		historical product returns, rebates and chargebacks;

	•		anticipated introduction of competitive products or generics;

	•		anticipated pricing strategy changes by us and/or our competitors; and

	•		the impact of state and federal regulations.

In our analyses, we utilize prescription data purchased from a third-party data provider to develop estimates of historical inventory channel pull-through. We utilize a separate analysis which compares historical product shipments less returns to estimated historical prescriptions written. Based on that analysis, we develop an estimate of the quantity of product in the distribution channel which may be subject to various product return, rebate and chargeback exposures.

Our estimates of product returns, rebates and chargebacks require our most subjective and complex judgment due to the need to make estimates about matters that are inherently uncertain. If actual future payments for returns, rebates, chargebacks and other discounts exceed the estimates we made at the time of sale, our financial position, results of operations and cash flows would be negatively impacted.

Our allowance for product returns was $2.6 million as of September 30, 2007 and $1.6 million as of December 31, 2006. Prior to the fourth quarter of 2006, we deferred the recognition of revenue on product shipments of our Zegerid products to wholesale distributors until units were dispensed through patient prescriptions as we were unable to reasonably estimate the amount of future product returns. Units dispensed are not generally subject to return. Prior to the fourth quarter of 2006, our allowance for product returns was based on an analysis of Zegerid product shipments to our wholesale distributors in excess of the estimated number of units dispensed through patient prescriptions. In order to develop a methodology and provide a basis for estimating future product returns on sales to our customers at the time title transfers, we have been tracking our Zegerid products return history from the time of our first commercial product launch of Zegerid Powder for Oral Suspension 20 mg in late 2004, taking into consideration product expiration dating and inventory levels in the distribution channel. Based on the product returns history gathered over two years through the end of 2006, we determined that we had the information needed to reasonably estimate future product returns, and as a result, we reduced our allowance for product returns during the quarter ended December 31, 2006. We continue to recognize product sales at the time title passes to our customers, and we provide for an estimate of future product returns at that time based upon our historical product returns trends, our analysis of product expiration dating and inventory levels in the distribution channel, and the other factors discussed above. There may be a significant time lag between the date we determine the estimated allowance and when we receive the product return and issue credit to a customer. Due to this time lag, we record adjustments to our estimated allowance over several periods, which can result in a net increase in our net loss or a net decrease in our net loss in those periods. The historical rate of product returns has increased during the nine months ended September 30, 2007, and we have increased our allowance for product returns to reflect actual experience accordingly.

Consistent with industry practice, we have offered promotional discounts to our customers at the time of product launch. These discounts are calculated as a fixed dollar discount off the current published list price and/or a fixed incentive fee per transaction and are treated as off-invoice allowances or customer credits. Accordingly, these discounts are recorded as a reduction of revenue in the period that the program is offered. As previously discussed, at the time of product launch and prior to the fourth quarter of 2006, we deferred the recognition of revenue on shipments of our Zegerid products to wholesale distributors until units were dispensed through patient prescriptions. As a result, we did not recognize product sales related to inventory in the distribution channel.

Our allowance for rebates, chargebacks and other discounts was $20.7 million as of September 30, 2007 and $7.8 million as of December 31, 2006. These allowances reflect an estimate of our liability for rebates due to managed care organizations under specific contracts, rebates due to various governmental organizations under Medicaid and Medicare contracts and regulations, chargebacks due to various organizations purchasing our products through federal contracts and/or group purchasing agreements, and other rebates and customer discounts due in connection with wholesaler fees and prompt payment and other discounts. We estimate our liability for rebates and chargebacks at each reporting period based on a combination of the qualitative and quantitative assumptions listed above. In each reporting period, we evaluate our outstanding contracts and apply the contractual discounts to the invoiced price of wholesaler shipments recognized. Although the total invoiced price of shipments to wholesalers for the reporting period and the contractual terms are known during the reporting period, we project the ultimate disposition of the sale (e.g. future utilization rates of cash payors, managed care, Medicaid, Medicare or other contracted organizations). This estimate is based on historical trends adjusted for anticipated changes based on specific contractual terms of new agreements with customers, anticipated pricing strategy changes by us and/or our competitors and the other qualitative and quantitative factors described above. There may be a significant time lag between the date we determine the estimated allowance and when we make the contractual payment or issue credit to a customer. Due to this time lag, we record adjustments to our estimated allowance over several periods, which can result in a net increase in our net loss or a net decrease in our net loss in those periods. To date, actual results have not materially differed from our estimates.

Contract Revenue.We recognize contract revenue consistent with the provisions of SAB No. 104 and Emerging Issues Task Force, or EITF, Issue No. 00-21,Revenue Arrangements with Multiple Deliverables. We analyze each element of our licensing and co-promotion agreements to determine the appropriate revenue recognition. We recognize revenue on upfront payments over the period of significant involvement under the related agreements unless the fee is in exchange for products delivered or services rendered that represent the culmination of a separate earnings process and no further performance obligation exists under the contract. We recognize milestone payments upon the achievement of specified milestones if (1) the milestone is substantive in nature, and the achievement of the milestone was not reasonably assured at the inception of the agreement and (2) the fees are nonrefundable. Any milestone payments received prior to satisfying these revenue recognition criteria are recognized as deferred revenue. Sales milestones and royalties will be recognized when earned under the agreements. Certain elements of our licensing and co-promotion agreements are described below:

	•		In August 2007, we received a nonrefundable $5.0 million milestone payment relating to progress on clinical product development strategy under our license agreement with Schering-Plough. The $5.0 million milestone payment was recognized as contract revenue in the three months ended September 30, 2007 due to the substantive nature of the milestone achieved.

	•		In November 2006, we received a nonrefundable $15.0 million upfront license fee in connection with our license agreement with Schering-Plough. The $15.0 million upfront payment is being amortized to revenue on a straight-line basis over a 37-month period through the end of 2009, which represents the estimated period during which we have significant responsibilities under the agreement.

	•		In October 2004, we received a nonrefundable $15.0 million upfront payment in connection with our co-promotion agreement with Otsuka America. The $15.0 million upfront payment is being amortized to revenue on a straight-line basis over the 63-month contractual term through the end of 2009.

Inventories and Related Reserves

Inventories are stated at the lower of cost (FIFO) or market and consist of finished goods and raw materials used in the manufacture of our Zegerid Capsules and Zegerid Powder for Oral Suspension products. Also included in inventories are product samples of the Naprelan products which we purchase from Victory under our co-promotion agreement. We provide reserves for potentially excess, dated or obsolete inventories based on an analysis of inventory on hand and on firm purchase commitments compared to forecasts of future sales.

Stock-Based Compensation

Effective January 1, 2006, we adopted the fair value recognition provisions of SFAS No. 123 (revised 2004),Share-Based Payment, which is a revision of SFAS No. 123,Accounting for Stock-Based Compensation,or SFAS No. 123(R), using the modified prospective transition method. Under this transition method, compensation cost recognized for the three

months ended September 30, 2007 and 2006 and the nine months ended September 30, 2007 and 2006 included (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123, and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123(R). Results for prior periods have not been restated.

We estimate the fair value of stock options and employee stock purchase plan rights granted using the Black-Scholes valuation model. This estimate is affected by our stock price, as well as assumptions regarding a number of complex and subjective variables. These variables include the expected volatility of our stock price, the expected term of the stock option, the risk-free interest rate and expected dividends. As the length of time our shares have been publicly traded is shorter than the expected life of the option, we consider the expected volatility of similar entities as well as our historical volatility since our initial public offering in April 2004 in determining our volatility factor. In evaluating similar entities, we consider factors such as industry, stage of development, size and financial leverage. In determining the expected life of the options, we use the “short-cut” method described in SAB No. 107. Under this method, the expected life is presumed to be the mid-point between the vesting date and the end of the contractual term.

For options granted prior to January 1, 2006, we amortize the fair value on an accelerated basis. For options granted after January 1, 2006, we amortize the fair value on a straight-line basis. All options are amortized over the requisite service period of the awards, which is generally the vesting period. Pre-vesting forfeitures were estimated to be approximately 0% for the three months ended September 30, 2007 and 2006 and the nine months ended September 30, 2007 and 2006, as the majority of options granted contain monthly vesting terms.

We account for options issued to non-employees under SFAS No. 123(R) and EITF Issue No. 96-18,Accounting for Equity Investments that are Issued to Other than Employees for Acquiring or in Conjunction with Selling Goods or Services. As such, the value of options issued to non-employees is periodically remeasured as the underlying options vest.

For the three months ended September 30, 2007 and 2006 and the nine months ended September 30, 2007 and 2006, we recognized approximately $1.7 million, $2.3 million, $5.0 million and $7.1 million, respectively, of stock-based compensation in accordance with SFAS No. 123(R) and EITF Issue No. 96-18. For the three months ended September 30, 2007, stock-based compensation of approximately $34,000, $142,000 and $1.5 million was included in cost of sales, research and development, and selling, general and administrative expenses, respectively, in the accompanying condensed statement of operations. For the three months ended September 30, 2006, stock-based compensation of approximately $39,000, $290,000 and $2.0 million was included in cost of sales, research and development, and selling, general and administrative expenses, respectively, in the accompanying condensed statement of operations. For the nine months ended September 30, 2007, stock-based compensation of approximately $96,000, $394,000 and $4.5 million was included in cost of sales, research and development, and selling, general and administrative expenses, respectively, in the accompanying condensed statement of operations. For the nine months ended September 30, 2006, stock-based compensation of approximately $84,000, $872,000 and $6.2 million was included in cost of sales, research and development, and selling, general and administrative expenses, respectively, in the accompanying condensed statement of operations. As of September 30, 2007, total unrecognized compensation cost related to stock options was approximately $12.2 million, and the weighted average period over which it was expected to be recognized was 2.7 years.

In October 2007, the our board of directors approved certain equity compensation programs for employees below the vice president level to be effective in November 2007. With the intent of positively impacting employee morale, these programs include the granting of special options to purchase shares of our common stock as well as accelerating the vesting of out-of-the-money existing stock options with per share exercise prices of $5.00 or greater. Additionally, the decision to accelerate the vesting of these stock options was made to reduce the total stock-based compensation in our statement of operations in future financial statements relating to options granted to employees below the vice president level.

The above listing is not intended to be a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP. There are also areas in which our management’s judgment in selecting any available alternative would not produce a materially different result. Please see our audited financial statements and notes thereto included in our annual report on Form 10-K for the year ended December 31, 2006, which contain accounting policies and other disclosures required by GAAP.

Results of Operations

Comparison of Three Months Ended September 30, 2007 and 2006

Product Sales, Net.Product sales, net were $19.5 million for the three months ended September 30, 2007 and $12.2 million for the three months ended September 30, 2006 and consisted of sales of Zegerid Capsules and Zegerid Powder for Oral Suspension. The $7.3 million increase was primarily attributable to an increase in sales of Zegerid Capsules. For the three months ended September 30, 2007 as compared to the three months ended September 30, 2006, the amount of rebates, chargebacks and other discounts has grown primarily as a result of increased sales of our Zegerid products and increased contracting with various managed care organizations and governmental organizations relating to Medicaid and Medicare. Accordingly, reductions to revenue and corresponding increases to allowance accounts have likewise increased.

Contract Revenue.Contract revenue was $7.0 million for the three months ended September 30, 2007 and $714,000 for the three months ended September 30, 2006. Contract revenue in each period consisted of co-promotion revenue from the $15.0 million upfront fee received pursuant to our co-promotion agreement with Otsuka America entered into in October 2004, which is being amortized to revenue over the term of the agreement through December 31, 2009. In the three months ended September 30, 2007, contract revenue also included license fee revenue from the $5.0 million milestone payment received in August 2007 and the $15.0 million upfront fee received in November 2006 pursuant to our license agreement with Schering-Plough. The $5.0 million milestone payment was included in contract revenue in the three months ended September 30, 2007, and the $15.0 million upfront fee is being amortized to revenue through the end of 2009, which is the estimated period during which we have significant responsibilities under the agreement.

Cost of Sales.Cost of sales was $1.8 million for the three months ended September 30, 2007 and $1.1 million for the three months ended September 30, 2006, or approximately 9% of net product sales for each period. Cost of sales consists primarily of raw materials, third-party manufacturing costs, freight and indirect personnel and other overhead costs associated with the sales of our Zegerid products. Cost of sales also includes reserves for excess, dated or obsolete commercial inventories based on an analysis of inventory on hand and on firm purchase commitments compared to forecasts of future sales.

License Fees and Royalties.License fees and royalties were $2.7 million for the three months ended September 30, 2007 and $1.7 million for the three months ended September 30, 2006. License fees and royalties consisted of royalties due to the University of Missouri and Otsuka America based upon net product sales.

Research and Development.Research and development expenses were $1.7 million for the three months ended September 30, 2007 and $1.9 million for the three months ended September 30, 2006. The $164,000 decrease in our research and development expenses was primarily attributable to a decrease in stock-based compensation.

Selling, General and Administrative.Selling, general and administrative expenses were $27.8 million for the three months ended September 30, 2007 and $21.3 million for the three months ended September 30, 2006. The $6.5 million increase in our selling, general and administrative expenses was primarily attributable to the expansion of our commercial presence, including expenses associated with our contract sales organization agreement with inVentiv entered into in late 2006 and costs related to our sales and marketing personnel resulting from an increase in headcount. Additionally, an increase in costs associated with advertising and promotional activities contributed to the increase in our selling, general and administrative expenses.

Interest and Other Income, Net.Interest and other income, net was $705,000 for the three months ended September 30, 2007 and $697,000 for the three months ended September 30, 2006.

Comparison of Nine Months Ended September 30, 2007 and 2006

Product Sales, Net.Product sales, net were $55.3 million for the nine months ended September 30, 2007 and $26.6 million for the nine months ended September 30, 2006 and consisted of sales of Zegerid Capsules and Zegerid Powder for Oral Suspension. The $28.7 million increase was primarily attributable to an increase in sales of Zegerid Capsules. For the nine months ended September 30, 2007 as compared to the nine months ended September 30, 2006, the amount of rebates, chargebacks and other discounts has grown primarily as a result of increased sales of our Zegerid products and increased contracting with various managed care organizations and governmental organizations relating to Medicaid and Medicare. Accordingly, reductions to revenue and corresponding increases to allowance accounts have likewise increased.

Contract Revenue.Contract revenue was $10.8 million for the nine months ended September 30, 2007 and $2.2 million for the nine months ended September 30, 2006. Contract revenue in each period consisted of co-promotion revenue from the $15.0 million upfront fee received pursuant to our co-promotion agreement with Otsuka America entered into in October 2004, which is being amortized to revenue over the term of the agreement through December 31, 2009. In the nine months ended September 30, 2007, contract revenue also included license fee revenue from the $5.0 million milestone payment received in August 2007 and the $15.0 million upfront fee received in November 2006 pursuant to our license agreement with Schering-Plough. The $5.0 million milestone payment was included in contract revenue in the nine months ended September 30, 2007, and the $15.0 million upfront fee is being amortized to revenue through the end of 2009, which is the estimated period during which we have significant responsibilities under the agreement.

Cost of Sales.Cost of sales was $5.1 million for the nine months ended September 30, 2007 and $3.5 million for the nine months ended September 30, 2006, or approximately 9% and 13% of net product sales, respectively. Cost of sales consists primarily of raw materials, third-party manufacturing costs, freight and indirect personnel and other overhead costs associated with the sales of our Zegerid products. Cost of sales also includes reserves for excess, dated or obsolete commercial inventories based on an analysis of inventory on hand and on firm purchase commitments compared to forecasts of future sales. The decrease in our cost of sales as a percentage of net product sales was primarily attributable to lower manufacturing costs associated with our capsule product and certain fixed costs being applied to increased sales volumes.

License Fees and Royalties.License fees and royalties were $7.8 million for the nine months ended September 30, 2007 and $3.7 million for the nine months ended September 30, 2006. License fees and royalties consisted of royalties due to the University of Missouri and Otsuka America based upon net product sales.

Research and Development.Research and development expenses were $5.0 million for the nine months ended September 30, 2007 and $6.0 million for the nine months ended September 30, 2006. The $1.0 million decrease in our research and development expenses was primarily attributable to a decrease in manufacturing development activities associated with the capsule and chewable tablet products and a decrease in stock-based compensation.

Research and development expenses have consisted primarily of costs associated with clinical trials of our products under development as well as clinical studies designed to further differentiate our Zegerid products from those of our competitors, development of and preparation for commercial manufacturing of our products, compensation and other expenses related to research and development personnel and facilities expenses. In the future, we may conduct additional clinical trials to further differentiate our Zegerid family of products. We have also committed, in connection with the approval of our NDAs for Zegerid Powder for Oral Suspension, to evaluate the product in pediatric populations, including pharmacokinetic/pharmacodynamic, or PK/PD, and safety studies. We are unable to estimate with any certainty the costs we will incur in the continued development of our Zegerid family of products. Although we are currently marketing Zegerid Capsules and Zegerid Powder for Oral Suspension, and we have received FDA approval to market Zegerid Chewable Tablets, we cannot be certain when or if we will realize any profits from these products or any other development projects. Although we are currently focused primarily on advancing our Zegerid family of products, we anticipate that we will make determinations as to which development projects to pursue and how much funding to direct to each project on an ongoing basis in response to the scientific, clinical and commercial merits of each project.

Selling, General and Administrative.Selling, general and administrative expenses were $87.0 million for the nine months ended September 30, 2007 and $66.7 million for the nine months ended September 30, 2006. The $20.3 million increase in our selling, general and administrative expenses was primarily attributable to the expansion of our commercial presence, including expenses associated with our contract sales organization agreement with inVentiv entered into in late 2006 and costs related to our sales and marketing personnel resulting from an increase in headcount. Additionally, an increase in costs associated with advertising and promotional activities including product samples contributed to the increase in our selling, general and administrative expenses.

Interest and Other Income, Net.Interest and other income, net was $2.4 million for the nine months ended September 30, 2007 and $2.1 million for the nine months ended September 30, 2006. The $264,000 increase was primarily attributable to higher interest income resulting from a higher average rate of return on our cash, cash equivalents and short-term investments.

Liquidity and Capital Resources

As of September 30, 2007, cash, cash equivalents and short-term investments were $48.6 million, compared to $75.5 million as of December 31, 2006, a decrease of $26.9 million. This decrease resulted primarily from our net loss for the nine months ended September 30, 2007 adjusted for non-cash expenses and changes in operating assets and liabilities.

Net cash used in operating activities was $28.2 million for the nine months ended September 30, 2007 and $39.3 million for the nine months ended September 30, 2006. The primary use of cash was to fund our net losses for these periods, adjusted for non-cash expenses, including $5.0 million for nine months ended September 30, 2007 and $7.1 million for the nine months ended September 30, 2006 in stock-based compensation, and changes in operating assets and liabilities. For the nine months ended September 30, 2007, significant working capital sources of cash included increases in accounts payable and accrued liabilities primarily driven by an increase in accrued rebates. These working capital sources of cash were offset in part by increases in accounts receivable and a decrease in deferred revenue. For the nine months ended September 30, 2006, significant working capital sources of cash included increases in accounts payable and accrued liabilities and allowance for product returns, offset in part by increases in accounts receivable and inventories, and decreases in deferred revenue.

Net cash used in investing activities was $3.7 million for the nine months ended September 30, 2007 consisting of purchases of short-term investments and property and equipment, offset in part by a reduction in long-term restricted cash associated with a letter of credit agreement required by our facilities lease and sales and maturities of short-term investments. Net cash provided by investing activities was $1.5 million for the nine months ended September 30, 2006, consisting primarily of purchases and sales and maturities of short-term investments.

Net cash provided by financing activities was $1.5 million for the nine months ended September 30, 2007 consisting of proceeds from the issuance of common stock under our employee stock purchase plan and the exercise of stock options. Net cash provided by financing activities was $27.9 million for the nine months ended September 30, 2006 consisting primarily of net proceeds of approximately $26.3 million resulting from the issuance of common stock in connection with draw downs under our CEFF with Kingsbridge and proceeds from the issuance of common stock under our employee stock purchase plan and the exercise of stock options.

While we support the commercialization of Zegerid Capsules and Zegerid Powder for Oral Suspension and as we continue to sponsor clinical trials and develop and manufacture our current Zegerid products and any new product opportunities, we anticipate significant cash requirements for personnel costs for our own organization, as well as in connection with our contract sales agreement with inVentiv, advertising and promotional activities, capital expenditures, and investment in additional office space, internal systems and infrastructure.

We currently rely on OSG Norwich Pharmaceuticals, Inc. as our manufacturer of Zegerid Capsules and Patheon, Inc. as our manufacturer of Zegerid Powder for Oral Suspension. We also purchase commercial quantities of omeprazole, an active ingredient in our Zegerid products, from Union Quimico Farmaceutica, S.A. At September 30, 2007, we had finished goods and raw materials inventory purchase commitments of approximately $2.8 million.

The following summarizes our long-term contractual obligations as of September 30, 2007:


	Payments Due by Period
			Less than
			One Year
			(Remainder		One to		Four to
Contractual Obligations	Total		of 2007)		Three Years		Five Years		Thereafter
	(in thousands)
Operating leases	$	2,236	$	542	$	1,694	$	—	$	—
Other long-term contractual obligations		1,130		268		862		—		—

Total	$	3,366	$	810	$	2,556	$	—	$	—

The amount and timing of cash requirements will depend on market acceptance of Zegerid Capsules and Zegerid Powder for Oral Suspension, the Naprelan products and any other products that we may market in the future, the resources we devote to researching, developing, formulating, manufacturing, commercializing and supporting our products, and our ability to enter into third-party collaborations.

We believe that our current cash, cash equivalents and short-term investments, together with potential proceeds from the CEFF with Kingsbridge and potential loan proceeds under our Loan Agreement with Comerica, will be sufficient to fund our operations for at least the next 12 months; however, our projected revenue may decrease or our expenses may increase and that would lead to our cash resources being consumed earlier than we expect. In the next 12 months and until we can generate sufficient cash from our operations, we likely will finance future cash needs through strategic collaboration or licensing agreements, or through equity and/or debt financing, if necessary. Draw downs under the CEFF and borrowings under the Loan Agreement are subject to various conditions that must be satisfied at the time of any future draw down or borrowing, and we cannot be sure at this time that we will be able to satisfy each of the required conditions.

In May 2005, we filed a universal shelf registration statement on Form S-3 with the Securities and Exchange Commission, which was declared effective in June 2005. In August 2005, we sold 7,350,000 shares of our common stock that were registered under the universal shelf registration statement. The universal shelf registration statement may permit us, from time to time, to offer and sell up to an additional approximately $43.8 million of equity or debt securities. However, there can be no assurance that we will be able to complete any such offerings of securities. Factors influencing the availability of additional financing include the progress of our commercial activities, investor perception of our prospects and the general condition of the financial markets, among others.

In February 2006, we entered into the CEFF which may entitle us to sell and obligate Kingsbridge to purchase, from time to time over a period of three years, shares of our common stock for cash consideration up to the lesser of $75.0 million or 8,853,165 shares, subject to certain conditions and restrictions. We filed a resale shelf registration statement on Form S-3 with the Securities and Exchange Commission to facilitate Kingsbridge’s public resale of shares of our common stock which it may acquire from us from time to time in connection with our draw downs under the CEFF or upon the exercise of a warrant to purchase 365,000 shares of common stock that we issued to Kingsbridge in connection with the CEFF. The resale shelf registration statement was declared effective in February 2006. In 2006, we completed four draw downs under the CEFF and have issued a total of 5,401,787 shares in exchange for aggregate gross proceeds of $36.5 million: in March 2006, we issued 1,318,201 shares to Kingsbridge in exchange for gross proceeds of $7.8 million (resulting in an average price per share of $5.92); in June 2006, we issued 1,406,668 shares to Kingsbridge in exchange for gross proceeds of $8.8 million (resulting in an average price per share of $6.26); in September 2006, we issued 1,371,684 shares to Kingsbridge in exchange for gross proceeds of $9.9 million (resulting in an average price per share of $7.22); and in October 2006, we issued 1,305,234 shares to Kingsbridge in exchange for gross proceeds of $10.0 million (resulting in an average price per share of $7.66). Accordingly, the remaining commitment of Kingsbridge under the CEFF for the potential purchase of our common stock is equal to the lesser of $38.5 million in cash consideration or 3,451,378 shares (which shares would be priced at a discount ranging from 6% to 10% of the average market price during any future draw down), subject to certain conditions and restrictions. There can be no assurance that we will be able to complete any further draw downs under the CEFF. Factors influencing our ability to complete draw downs include conditions such as a minimum price for our common stock; the accuracy of representations and warranties made to Kingsbridge; the continued effectiveness of the shelf registration statement; and the continued listing of our stock on the Nasdaq Global Market.

In July 2006, we entered into our Loan Agreement with Comerica, pursuant to which we may request advances in an aggregate outstanding amount not to exceed $20.0 million. As of November 1, 2007, the date of this report, we have not borrowed any amounts under the Loan Agreement. Under the Loan Agreement, the revolving loan bears interest, as selected by us, at either the variable rate of interest, per annum, most recently announced by Comerica as its “prime rate” or the LIBOR rate (as computed in the LIBOR Addendum to the Loan Agreement) plus 2.25 percent. Interest payments on advances made under the Loan Agreement are due and payable in arrears on the first calendar day of each month during the term of the Loan Agreement. Amounts borrowed under the Loan Agreement may be repaid and re-borrowed at any time prior to July 28, 2009. The Loan Agreement will remain in full force and effect for so long as any obligations remain outstanding or Comerica has any obligation to make credit extensions under the Loan Agreement. We expect to use the loan proceeds to support our ongoing working capital needs and for general corporate purposes. Amounts borrowed under the Loan Agreement are secured by all of our personal property. The collateral does not include any intellectual property, including copyrights, patents, trademarks, servicemarks and applications therefor, now owned or hereafter acquired, or any claims for damages by way of any past, present and future infringement of any such intellectual property; provided, however, that the collateral includes all accounts and general intangibles that consist of rights to payment and proceeds from the sale, licensing or disposition of all or any part, or rights in, such intellectual property. Under the Loan Agreement, we are subject to certain affirmative and negative covenants, including limitations on our ability: to convey, sell, lease, license, transfer or otherwise dispose of assets; to create, incur, assume, guarantee or be liable with respect to certain indebtedness; to grant liens; to pay dividends and make certain other restricted payments; and to make investments. In addition, under the Loan Agreement we are required to maintain a balance of cash with Comerica in an amount of not less

than $4.0 million and to maintain any other cash balances with either Comerica or another financial institution covered by a control agreement for the benefit of Comerica. We are also subject to certain financial covenants with respect to a minimum liquidity ratio and, when the outstanding loan balances exceed $15.0 million, minimum EBITDA requirements. We believe that we have currently met all of our obligations under the Loan Agreement.

We cannot be certain that our existing cash and marketable securities resources, including under the CEFF and the Loan Agreement, will be adequate, and failure to obtain adequate financing may adversely affect our ability to continue to operate as a going concern. We also cannot be certain that additional funding will be available to us on acceptable terms, or at all. For example, we may not be successful in obtaining collaboration agreements, or in receiving milestone or royalty payments under those agreements. In addition, if we raise additional funds through collaboration, licensing or other similar arrangements, it may be necessary to relinquish potentially valuable rights to our products or proprietary technologies, or grant licenses on terms that are not favorable to us. To the extent that we raise additional capital by issuing equity securities, our stockholders’ ownership will be diluted. Any debt financing we enter into may involve covenants that restrict our operations. If adequate funds are not available on terms acceptable to us at that time, our ability to achieve profitability or to respond to competitive pressures would be significantly limited, and we may be required to delay, scale back or eliminate some or all of our product and clinical development programs or delay the launch of future products.

As of September 30, 2007 and 2006, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we do not engage in trading activities involving non-exchange traded contracts. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in these relationships.

Caution on Forward-Looking Statements

Any statements in this report and the information incorporated herein by reference about our expectations, beliefs, plans, objectives, assumptions or future events or performance that are not historical facts are forward-looking statements. You can identify these forward-looking statements by the use of words or phrases such as “believe,” “may,” “could,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “seek,” “plan,” “expect,” “should,” or “would.” Among the factors that could cause actual results to differ materially from those indicated in the forward-looking statements are risks and uncertainties inherent in our business including, without limitation: our ability to increase market demand for, and sales of, our Zegerid^{^®}products and any other products that we or our strategic partners market; the scope and validity of patent protection for our products, including the outcome and duration of our patent infringement lawsuit against Par Pharmaceutical, Inc., or Par, and our and our strategic partners’ ability to commercialize products without infringing the patent rights of others; our dependence on a number of third parties, such as Schering-Plough, under our OTC license agreement, Otsuka America Pharmaceutical, Inc., under our co-promotion agreement and inVentiv Commercial Services, LLC, under our service agreement; unexpected adverse side effects or inadequate therapeutic efficacy of our products or co-promotion products that could result in product recalls, market withdrawals or product liability claims; competition from other pharmaceutical or biotechnology companies; other difficulties or delays relating to the development, testing, manufacturing and marketing of, and maintaining regulatory approvals for, our products; risks related to our co-promotion agreements relating to the Naprelan^® and Fleet^® Phospho-soda^® EZ-Prep^™ Bowel Cleansing System products, including our ability to generate adequate revenues to justify our level of promotional effort and expense under the agreements; our ability to obtain additional financing as needed to support our operations; and other risks detailed below under Part II — Item 1A — Risk Factors.

Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee future results, events, levels of activity, performance or achievement. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, unless required by law.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Under the terms of our Loan Agreement with Comerica, the interest rate applicable to any amounts borrowed by us under the credit facility will be, at our election, indexed to either Comerica’s prime rate or the LIBOR rate. If we elect Comerica’s prime rate for all or any portion of our borrowings, the interest rate will be variable, which would expose us to the risk of increased interest expense if interest rates rise. If we elect the LIBOR rate for all or any portion of our borrowings, such LIBOR rate will remain fixed only for a specified, limited period of time after the date of our election, after which we will be required to repay the borrowed amount, or elect a new interest rate indexed to either Comerica’s

prime rate or the LIBOR rate. The new rate may be higher than the earlier interest rate applicable under the Loan Agreement. As of November 1, 2007, the date of this report, we have not borrowed any amounts under the Loan Agreement. Accordingly, we currently believe that changes in such interest rates would not materially affect our market risk.

In addition to market risk related to our Loan Agreement with Comerica, we are exposed to market risk in the form of interest income sensitivity, which is affected by changes in the general level of U.S. interest rates, particularly because the majority of our investments are in short-term marketable securities. Due to the nature of our short-term investments, we believe that we are not subject to any material market risk exposure. We do not have any foreign currency or other derivative financial instruments.

Item 4. Controls and Procedures

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As required by Securities and Exchange Commission Rule 13a-15(b), we carried out an evaluation, under the supervision and with the participation of our management, including our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the quarter covered by this report. Based on the foregoing, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective at the reasonable assurance level.

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

PART II — OTHER INFORMATION

Item 1. Legal Proceedings

On September 13, 2007, we filed a lawsuit in the United States District Court for the District of Delaware against Par Pharmaceutical, Inc., or Par, for infringement of the patents listed in the Orange Book for Zegerid^® Capsules. The University of Missouri, licensor of the patents, is joined in the litigation as a co-plaintiff. The lawsuit is in response to an Abbreviated New Drug Application, or ANDA, filed by Par with the U.S. Food and Drug Administration, or FDA, regarding Par’s intent to market a generic version of our Zegerid Capsules product prior to the July 2016 expiration of the three listed patents (U.S. Patent Nos. 6,645,988; 6,489,346; and 6,699,885). The complaint seeks a judgment that Par has infringed the listed patents and that the effective date of approval of Par’s ANDA shall not be earlier than the expiration date of the listed patents. We commenced the lawsuit within the 45 days required to automatically stay, or bar, the FDA from approving Par’s ANDA for 30 months or until a district court decision that the asserted patents are invalid, unenforceable or not infringed, whichever may occur earlier. On October 2, 2007, we filed an amended complaint to reflect the U.S. Patent and Trademark Office’s, or PTO’s, issuance of an Ex Parte Reexamination Certificate for U.S. Patent No. 6,699,885, or the ‘885 patent, as further described below. On October 17, 2007, Par filed its answer in the case, primarily asserting non-infringement, invalidity and unenforceability. Par also filed counterclaims seeking a declaration in its favor on those issues. Discovery is expected to begin in the near future and a trial date has not been set. We are prepared to vigorously defend and enforce the intellectual property rights protecting our Zegerid products.

On September 18, 2007, the PTO issued an Ex Parte Reexamination Certificate for the ‘885 patent, which formally concludes the pending reexamination proceeding relating to the ‘885 patent, and confirms the patentability of the ‘885 patent, as amended during the proceeding, over the references cited in the proceeding. The ‘885 patent is one of the five currently issued U.S. patents providing coverage for our Zegerid family of products, which patents expire in July 2016 and are licensed to us under our license agreement with the University of Missouri. The reexamination process is provided for by law and generally requires the PTO to consider the scope and validity of a patent based on questions raised by a third party or the PTO. In August 2005, an unidentified third party filed a Request for Ex Parte Reexamination of the ‘885 patent with the PTO. The PTO granted the Request for Reexamination and issued an initial office action, to which we and the University of Missouri submitted a response. The response included our and the University of Missouri’s positions relating to patentability as well as proposed amendments to certain of the claims of the ‘885 patent. In its September 18, 2007 decision, the PTO confirmed the patentability of the ‘885 patent claims, as amended and added by us and the University of Missouri, over the references cited in the proceeding. Following the September 18, 2007 action of the PTO, the ‘885 patent continues to provide patent coverage for our Zegerid products by generally covering methods for treating gastric acid related disorders by administering a composition consisting essentially of a proton pump inhibitor, or PPI (at least a portion of which is not enterically coated), and a minimum specified amount of buffering agent, where a minimum serum concentration of the PPI is achieved within specified time periods.

Item 1A. Risk Factors

Certain factors may have a material adverse effect on our business, financial condition and results of operations, and you should carefully consider them. Accordingly, in evaluating our business, we encourage you to consider the following discussion of risk factors, which has been updated since the filing of our Annual Report on Form 10-K, in its entirety, in addition to other information contained in this report as well as our other public filings with the Securities and Exchange Commission.

In the near-term, the success of our business will depend on many factors, including:

•

whether we are able to increase market demand for, and sales of, Zegerid^® (omeprazole/sodium bicarbonate) Capsules and Zegerid (omeprazole/sodium bicarbonate) Powder for Oral Suspension, including our ability to:

	o		achieve market acceptance of our products by our targeted primary care physicians and gastroenterologists;

	o		maintain adequate levels of reimbursement coverage for our products from third-party payors; and

	o		compete effectively within the gastrointestinal, or GI, field, where many other products are well-established and successful and are marketed by competitors with significantly more experience and resources;

	•		whether we are able to maintain patent protection for our products, including whether we are successful in the lawsuit we filed against Par Pharmaceutical, Inc., or Par, for infringement of the patents listed in the Orange Book for Zegerid Capsules; and

	•		whether we will be able to obtain additional financing to fund our operations.

Each of these factors, as well as other factors that may impact our business, are described in more detail in the following discussion. Although the factors highlighted above are among the most significant, any of the following factors could materially adversely affect our business or cause our actual results to differ materially from those contained in forward-looking statements we have made in this report and those we may make from time to time, and you should consider all of the factors described when evaluating our business.

Risks Related to Our Business and Industry

At this time, we are largely dependent on the commercial success of our Zegerid products, and we cannot be certain that we will be able to achieve commercial success with these products.

We have invested a significant portion of our time and financial resources in the development and commercialization of our Zegerid family of products, which are currently being marketed in capsule and powder for oral suspension dosage forms. These products are proprietary immediate-release formulations of omeprazole, a proton pump inhibitor, or PPI, and are intended to treat or reduce the risk of a variety of upper GI diseases and disorders, including gastroesophageal reflux disease, or GERD. We anticipate that in the near term our ability to generate revenues will depend on the commercial success of our currently marketed products, which in turn, will depend on several factors, including our ability to:

	•		successfully increase market demand for, and sales of, Zegerid Capsules and Zegerid Powder for Oral Suspension, through our own sales force, our co-promotion arrangement with Otsuka America Pharmaceutical, Inc., or Otsuka America, our contract sales agreement with inVentiv Commercial Services, LLC, or inVentiv, and any other collaboration with pharmaceutical companies or other contract sales organizations that we may later establish;

	•		successfully maintain patent protection for our Zegerid family of products, including whether we are successful in the lawsuit we filed against Par for infringement of the patents listed in the Orange Book for Zegerid Capsules;

	•		establish and maintain effective marketing programs and continue to build brand identity;

	•		obtain greater acceptance of the products by physicians, patients and third-party payors and obtain and maintain distribution at the retail level;

	•		establish and maintain agreements with wholesalers and distributors on commercially reasonable terms; and

	•		maintain commercial manufacturing capabilities as necessary to meet commercial demand for the products, as well as maintain commercial manufacturing arrangements with third-party manufacturers.

Our ability to generate revenue in the longer term will also depend on whether our over-the-counter, or OTC, license agreement with Schering-Plough Healthcare Products, Inc., or Schering-Plough, will lead to the successful development and commercialization of omeprazole products using our patented PPI technology for the OTC market.

We expect to incur significant costs as we continue to support the commercialization of Zegerid Capsules and Zegerid Powder for Oral Suspension. We have realized modest growth in sales of our Zegerid products to date relative to our expenses to date, including expenses associated with our commercial operations, and we may be unable to achieve greater market acceptance. For the nine months ended September 30, 2007, we recognized $55.4 million in Zegerid net product sales. In addition, as of September 30, 2007, we had an accumulated deficit of $296.0 million.

We cannot be certain that our continued marketing of Zegerid Capsules and Zegerid Powder for Oral Suspension, including the efforts of Otsuka America and inVentiv, will result in increased demand for, and sales of, our products or that we will receive any milestone payments or sales-based royalties from our OTC license agreement with Schering-Plough. The potential demand for our prescription products may also be negatively impacted by the availability of any OTC

products developed and marketed by Schering-Plough. If we fail to successfully commercialize our prescription products or Schering-Plough fails to successfully commercialize OTC products or is significantly delayed in doing so, we may be unable to generate sufficient revenues to sustain and grow our business and attain profitability, and our business, financial condition and results of operations will be materially adversely affected.

Failure of our Zegerid products to continue to achieve and maintain market acceptance would seriously impair our growth prospects and our ability to reach profitability.

The commercial success of Zegerid Capsules, Zegerid Powder for Oral Suspension and any other products we promote depends upon acceptance of our products by the medical community, particularly gastroenterologists and primary care physicians, as well as patients and third-party payors. Market acceptance depends upon several factors, including:

	•		the efficacy and safety of our products and our ability to differentiate our products from products offered by our competitors;

	•		effectiveness of our, Otsuka America’s, inVentiv’s and any other collaborators’ sales and marketing efforts, as compared to the significantly greater resources of our competitors;

	•		our ability to obtain sufficient third-party insurance coverage or reimbursement;

	•		pricing and cost effectiveness, as compared to competitive products, including any available generic products;

	•		the prevalence and severity of any adverse side effects; and

	•		availability of alternative treatments.

In addition, even if our products continue to achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost-effective or otherwise render our products obsolete.

If we are unable to maintain adequate levels of reimbursement for our products, their commercial success may be severely hindered.

Our ability to sell our products may depend in large part on the extent to which reimbursement for the costs of our products is available from private health insurers, managed care organizations, government entities and others. Third-party payors are increasingly attempting to contain their costs. We cannot predict actions third-party payors may take, or whether they will limit the coverage and level of reimbursement for our products or refuse to provide any coverage at all. Reduced or partial reimbursement coverage could make our products less attractive to patients, suppliers and prescribing physicians and may not be adequate for us to maintain price levels sufficient to realize an appropriate return on our investment in our products or compete on price.

In many cases, insurers and other healthcare payment organizations encourage the use of less expensive alternative generic brands and OTC products through their prescription benefits coverage and reimbursement policies. We cannot predict the impact of the availability of any future immediate-release omeprazole OTC products or generic PPI products on the benefits coverage and reimbursement policies for our prescription Zegerid branded products. Insurers and other healthcare payment organizations may make the generic or OTC alternatives more attractive to the patient by providing different amounts of reimbursement so that the net cost of the generic or OTC product to the patient is less than the net cost of a prescription branded product. Aggressive pricing policies by our generic or OTC product competitors and the prescription benefit policies of insurers could have a negative effect on our product revenues and profitability. Even though we are eligible to receive sales-based royalties on OTC products under our OTC license agreement with Schering-Plough, those potential revenues could be offset by the impact of lost sales of our prescription products to the extent the OTC products are preferred by customers over our current prescription products.

Many managed care organizations negotiate the price of medical services and products and develop formularies which establish pricing and reimbursement levels. Exclusion of a product from a formulary can lead to its sharply reduced usage in the managed care organization’s patient population. If our products are not included within an adequate number of formularies or adequate reimbursement levels are not provided, or if those policies increasingly favor generic or OTC products, our market share and gross margins could be negatively affected, as could our overall business and financial condition.

The competition among pharmaceutical companies to have their products approved for reimbursement also results in downward pricing pressure in the industry and in the markets where our products compete. In some cases, we aggressively discount our products in order to obtain reimbursement coverage, and we may not be successful in any efforts we take to mitigate the effect of a decline in average selling prices for our products. Declines in our average selling prices also reduce our gross margins.

In addition, managed care initiatives to control costs may influence primary care physicians to refer fewer patients to gastroenterologists and other specialists. Reductions in these referrals could have a material adverse effect on the size of our potential market and increase costs to effectively promote GI products.

Our account managers contact private health insurers, managed care organizations, government entities and other third-party payors, seeking reimbursement coverage for our products similar to that for branded delayed-release PPI products. The process for obtaining coverage can be lengthy and time-consuming, in some cases taking several months before a particular payor initially reviews our product, and we may ultimately be unsuccessful in obtaining coverage. Our competitors generally have larger account management organizations, as well as existing business relationships with third-party payors relating to their PPI products, as well as other portfolio products. Moreover, the current availability of generic and OTC delayed-release omeprazole products may make obtaining reimbursement coverage for our immediate-release products more difficult because our products also utilize omeprazole as an active ingredient. If we fail to successfully secure and maintain reimbursement coverage for our products on favorable terms or are significantly delayed in doing so, we will have difficulty achieving market acceptance of our products and our business will be materially adversely affected.

Our strategic partner, Schering-Plough, may not successfully develop or commercialize omeprazole products using our patented PPI technology for the OTC market.

In October 2006, we entered into our OTC license agreement with Schering-Plough, pursuant to which we have granted rights under an exclusive license to certain patents, trademarks and other intellectual property to Schering-Plough to develop, manufacture, market and sell omeprazole products for the OTC market in the U.S. and Canada. Since we will depend on Schering-Plough to develop and later sell such OTC products, we will have limited control over the development and commercialization of these products. For example, Schering-Plough may not develop the OTC products as fast or generate as large an OTC market as we would like or as the market may expect. The OTC license agreement may be terminated by either party if the other party is in material breach of its material obligations under the agreement and has not cured the breach within 30 days notice, provided that the cure period for late payments is 15 days, and provided further that all alleged breaches are subject to dispute resolution provisions set forth in the agreement. In addition, Schering-Plough may terminate the agreement in its entirety on 180 days prior written notice to us at any time after submitting its first new drug application, or NDA, to the U.S. Food and Drug Administration, or FDA, for a licensed product or if Schering-Plough does not receive marketing approval in the U.S. for a licensed product before a specified date. If the commercial launch of any licensed OTC products is not successful, it could have a negative impact on physician and patient impressions of our prescription products. Even if the commercial launch of such OTC products is successful, we will only receive specified milestone payments and royalties on net sales and will not enjoy the same financial rewards as we would had we developed and launched the OTC products ourselves. Furthermore, the availability of OTC products using our patented PPI technology could lead to decreased demand for our prescription products. If Schering-Plough’s OTC development efforts are not successful or if the availability of licensed OTC products harms our prescription business, our ability to generate sufficient revenues to sustain and grow our business and attain profitability will be adversely affected.

The market for the GI pharmaceutical industry is intensely competitive and many of our competitors have significantly more resources and experience, which may limit our commercial opportunity.

The pharmaceutical industry is intensely competitive, particularly in the GI field, where currently marketed products are well-established and successful. Many of our competitors are large, well-established companies in the pharmaceutical field. Our competitors include, among others, AstraZeneca plc, TAP Pharmaceutical Products Inc., Wyeth, Altana, Eisai Co., Ltd., Johnson & Johnson, Axcan Pharma Inc., Ferring Pharmaceuticals A/S, Merck & Co., Inc., Novartis AG, Pfizer Inc., Salix Pharmaceuticals, Inc., Shire Pharmaceuticals Group plc and The Procter & Gamble Company, as well as several generic manufacturers. Many of these companies already offer products that target GERD and other GI diseases and disorders that we target. Given our relatively small size and the entry of our products into a market characterized by well-established drugs, we may not be able to compete effectively.

In addition, many of our competitors, either alone or together with their collaborative partners, may have significantly greater experience in:

	•		developing drugs, including prescription and OTC drugs;

	•		undertaking preclinical testing and human clinical trials;

	•		formulating and manufacturing drugs;

	•		obtaining FDA and other regulatory approvals of drugs; and

	•		launching, marketing, distributing and selling drugs.

As a result, they may have a greater ability to undertake more extensive research and development, manufacturing, marketing and other programs. Many of these companies may succeed in developing products earlier than we do, completing the regulatory process and showing safety and efficacy of products more rapidly than we do or developing products that are more effective than our products. Additionally, many of our competitors have greater financial, clinical and operational resources to conduct clinical studies differentiating their products, as compared to our limited resources. Further, the products they develop may be based on new and different technology and may exhibit other benefits relative to our products.

Many of these companies with which we compete also have significantly greater financial and other resources than we do. Larger pharmaceutical companies typically have significantly larger field sales force organizations and invest significant amounts in advertising and marketing their products, including through the purchase of television advertisements and the use of other direct-to-consumer methods. As a result, these larger companies are able to reach a greater number of physicians and consumers and reach them more frequently than we can with our smaller sales organization. It is also possible that our competitors may be able to reduce their cost of manufacturing so that they can aggressively price their products and secure a greater market share to our detriment. In addition, our competitors may be able to attract and retain qualified personnel and to secure capital resources more effectively than we can. Any of these events could adversely affect our business.

Our Zegerid products compete with many other drug products focused on upper GI diseases and disorders which could put downward pressure on pricing and market share and limit our ability to generate revenues.

Our Zegerid products compete with many prescription and OTC products, including:

Prescription Products:

	•		PPIs: AstraZeneca plc’s Prilosec^® and Nexium^®, TAP Pharmaceutical Products Inc.’s Prevacid^®, Wyeth’s and Altana’s Protonix^®, Johnson & Johnson’s and Eisai Co., Ltd.’s Aciphex^®, and generic omeprazole, among others; and

	•		H₂-receptor antagonists: Merck & Co., Inc.’s Pepcid^®, GlaxoSmithKline plc’s Zantac^® and Tagamet^® and Braintree Laboratories, Inc.’s Axid^®, among others.

Over-the-Counter Products:

	•		PPIs: The Procter & Gamble Company’s Prilosec OTC^®;

	•		H₂-receptor antagonists: Boehringer Ingelheim GmbH’s Zantac, GlaxoSmithKline plc’s Tagamet, and Johnson & Johnson’s and Merck & Co., Inc.’s Pepcid AC^® and Pepcid Complete^®, among others; and

	•		Antacids: Johnson & Johnson’s and Merck and Co., Inc.’s Mylanta^{^®}and Rolaids^®, Novartis AG’s Maalox^® and GlaxoSmithKline plc’s Gaviscon^® and Tums^®, among others.

In addition, various companies are developing new products, including motility agents, reversible acid inhibitors, cytoprotective compounds, new PPIs and products that act on the lower esophageal sphincter, or LES. We may be required to compete with these or other new products that have greater efficacy or other benefits relative to our products.

Many of the currently marketed competitive products are available as generic products. For example, there are several generic delayed-release omeprazole products currently available in 10 mg and 20 mg dose strengths in the U.S. market, and we anticipate that additional generic delayed-release omeprazole products, including 40 mg dose strengths, as well as other generic delayed-release PPIs, will enter the market. In addition, with the introduction of Prilosec OTC, delayed-release omeprazole is available in a 20 mg dose as an OTC product. We anticipate that generic OTC delayed-release omeprazole products, as well as other OTC delayed-release PPI products, will also enter the market. The existence of generic and OTC delayed-release PPI products could make it more difficult for branded prescription PPI products, including our Zegerid products, to gain or maintain market share and could cause prices for PPIs to drop, each of which could adversely affect our business. Moreover, the current availability of generic and OTC delayed-release omeprazole products may have an additional impact on demand and pricing for our immediate-release products because our products also utilize omeprazole as an active ingredient.

We may also face competition for our products from lower priced products from foreign countries that have placed price controls on pharmaceutical products. Proposed federal legislative changes may expand consumers’ ability to import lower priced versions of our products and competing products from Canada. Further, several states and local governments have implemented importation schemes for their citizens, and, in the absence of federal action to curtail such activities, we expect other states and local governments to launch importation efforts. The importation of foreign products that compete with our own products could negatively impact our business and prospects.

The promotional efforts of Otsuka America, under our co-promotion agreement, and inVentiv, under our contract sales organization agreement, may not be successful in increasing market demand for, and sales of, our Zegerid products.

To support the promotion of our Zegerid products, we have entered into a co-promotion agreement with Otsuka America and a contract sales organization agreement with inVentiv. Under our co-promotion agreement, Otsuka America currently co-promotes Zegerid Capsules and Zegerid Powder for Oral Suspension to targeted U.S. physicians. While our agreement with Otsuka America requires its field sales representatives to promote our products in a minimum number of primary details to target physicians, we cannot be sure that Otsuka America’s efforts will be successful. In addition, we and Otsuka America each have the right to terminate the agreement effective at any time by providing at least 120 days prior written notice, as well as other more limited termination rights.

Under our services agreement with inVentiv, inVentiv is providing approximately 140 contract sales representatives to promote our Zegerid products in the U.S. Our agreement with inVentiv causes us to incur significant costs, and we cannot be sure that the efforts of the contract sales force will be successful or that our existing sales force, together with any efforts made by Otsuka America and the contract sales force to promote our products, will generate sufficient awareness or demand for our products. If we determine that the contract sales force is not successful and we decide to terminate our agreement with inVentiv, we will incur termination fees if we elect to terminate the agreement prior to December 1, 2007, which is the one-year anniversary of the deployment of inVentiv’s initial project team.

Any revenues we receive from sales of our products generated by Otsuka America, the contract sales force or any other third parties will depend upon the efforts of those other parties, which in many instances will not be within our control. If we are unable to maintain our co-promotion agreement with Otsuka America, to maintain our services agreement with inVentiv or to effectively establish alternative arrangements to market our products more broadly than we can through our internal sales force, our business could be adversely affected. In addition, despite our arrangements with Otsuka America and inVentiv to expand efforts to promote our products, we still will not be able to cover all of the PPI prescribing physicians at the same level of reach and frequency as our competitors with branded PPI products.

We depend on a limited number of wholesaler customers for retail distribution of our products, and if we lose any of our significant wholesaler customers, our business could be harmed.

Our wholesaler customers include some of the nation’s leading wholesale pharmaceutical distributors, such as Cardinal Health, Inc., McKesson Corporation and AmerisourceBergen Corporation, and major drug chains. Sales to Cardinal, McKesson and AmerisourceBergen accounted for approximately 35%, 33% and 16%, respectively, of our annual revenues during 2006 and 33%, 31% and 14%, respectively, of our revenues for the nine months ended September 30, 2007. The loss of any of these wholesaler customers’ accounts or a material reduction in their purchases could harm our business, financial condition or results of operations. In addition, we may face pricing pressure from our wholesaler customers.

If we are unable to continue to manufacture our products on a commercial basis, our commercialization efforts will be materially harmed.

The quantities of our products that our suppliers are able to manufacture in the future may fail to meet our quality specifications or may not be sufficient to meet potential commercial demand. Any problems or delays experienced in the manufacturing process for Zegerid Capsules or Zegerid Powder for Oral Suspension may impair our ability to provide commercial quantities of the products, which would limit our ability to sell the products and would adversely affect our business. While we believe we ultimately could redesign our manufacturing processes or identify alternative suppliers in response to problems we may encounter as we manufacture our products, it could take significant time to do so and may require regulatory approval, and our products may not be available from alternate manufacturers at favorable prices.

We do not currently have any manufacturing facilities and instead rely on third-party manufacturers.

We have no manufacturing facilities, and we rely on third-party manufacturers to provide us with an adequate and reliable supply of our products on a timely basis. Our manufacturers must comply with U.S. regulations, including the FDA’s current good manufacturing practices, applicable to the manufacturing processes related to pharmaceutical products, and their facilities must be inspected and approved by the FDA and other regulatory agencies as part of their business. In addition, because many of our key manufacturers are located outside of the U.S., they must also comply with applicable foreign laws and regulations.

We have limited control over our third-party manufacturers, including with respect to regulatory compliance and quality assurance matters. Any delay or interruption of supply related to a third-party manufacturer’s failure to comply with regulatory or other requirements would limit our ability to make sales of our products. Any manufacturing defect or error discovered after products have been produced and distributed could result in even more significant consequences, including costly recall procedures, re-stocking costs, damage to our reputation and potential for product liability claims. With respect to any future products under development, if the FDA finds significant issues with any of our manufacturers during the pre-approval inspection process, the approval of those products could be delayed while the manufacturer addresses the FDA’s concerns, or we may be required to identify and obtain the FDA’s approval of a new supplier. This could result in significant delays before manufacturing of our products can begin, which in turn would delay commercialization of our products. In addition, the importation of pharmaceutical products into the U.S. is subject to regulation by the FDA, and the FDA can refuse to allow an imported product into the U.S. if it is not satisfied that the product complies with applicable laws or regulations.

We rely on a single third-party manufacturer located outside of the U.S., Patheon Inc., for the supply of Zegerid Powder for Oral Suspension, and we are obligated under our supply agreement to purchase a significant portion of our requirements of this product from Patheon. In addition, we rely on OSG Norwich Pharmaceuticals, Inc., located in New York, as the current sole third-party manufacturer of Zegerid Capsules. We also currently rely on a single third-party supplier located outside of the U.S., Union Quimico Farmaceutica, S.A., or Uquifa, for the supply of omeprazole, which is an active pharmaceutical ingredient in each of our current Zegerid products. We are obligated under our supply agreement with Uquifa to purchase all of our requirements of omeprazole from this supplier. We also currently have only two approved suppliers for sodium bicarbonate, which is a component in our marketed powder for oral suspension and capsule products, and we rely on our third-party manufacturers to purchase the sodium bicarbonate. Additionally, we rely on single suppliers for certain excipients in our powder for oral suspension and capsule products. Any significant problem that our sole source manufacturers or suppliers experience could result in a delay or interruption in the supply to us until the manufacturer or supplier cures the problem or until we locate an alternative source of supply. In addition, because our sole source manufacturers and suppliers provide services to a number of other pharmaceutical companies, they may experience capacity constraints or choose to prioritize one or more of their other customers over us.

Moreover, our sole source manufacturers and suppliers may experience difficulties related to their overall business and financial stability. Patheon, the manufacturer of our powder for oral suspension product, reported in connection with its financial statements for its fiscal year ended October 31, 2006 that its ability to continue as a going concern was uncertain and was dependent upon the successful outcome of a review of strategic and financial alternatives. Although Patheon has reported that it believes, with the completion of new financing arrangements, the going concern uncertainty has been eliminated, any failure of Patheon to maintain long-term improvement in its capital structure could result in a material adverse impact on Patheon’s overall business and financial stability, which could in turn result in a delay or interruption of its supply of our powder for oral suspension product to us.

Although alternative sources of supply exist, the number of third-party manufacturers with the manufacturing and regulatory expertise and facilities necessary to manufacture the finished forms of our pharmaceutical products or the active omeprazole and antacid pharmaceutical ingredients in our products on a commercial scale is limited, and it would take a significant amount of time to arrange for alternative manufacturers. Any new supplier of products or active pharmaceutical ingredients would be required to qualify under applicable regulatory requirements and would need to have sufficient rights under applicable intellectual property laws to the method of manufacturing such products or ingredients. The FDA may require us to conduct additional clinical trials, collect stability data and provide additional information concerning any new supplier before we could distribute products from that supplier. Obtaining the necessary FDA approvals or other qualifications under applicable regulatory requirements and ensuring non-infringement of third-party intellectual property rights could result in a significant interruption of supply and could require the new supplier to bear significant additional costs which may be passed on to us.

Our resources are primarily focused on commercializing our Zegerid products, which products are vulnerable to various risks and uncertainties, and we may be unable to expand our product portfolio or integrate new products successfully.

Our resources are primarily focused on commercializing our Zegerid family of products. Because each of our Zegerid prescription products and any OTC products developed by Schering-Plough are or will be derived from the same technology licensed from the University of Missouri, each product is vulnerable to substantially the same risks stemming from potential patent invalidity, misappropriation of intellectual property by third parties, reliance upon a third-party for patent prosecution and maintenance and unexpected early termination of our license agreement. Our ability to successfully commercialize our products could also be jeopardized by the emergence of a single competitive product that exhibits greater efficacy or other benefits relative to our products.

Our success will depend in part on our ability to develop or otherwise commercialize future products based on different technology than the technology on which the Zegerid family of products is based. Any internal development efforts will be time-consuming and expensive and may not be successful in developing new products. We may not be able to identify appropriate licensing or acquisition opportunities to expand and diversify our pipeline of products. Even if we identify an appropriate product, competition for it may be intense. We may not be able to successfully negotiate the terms of a license or acquisition agreement on commercially acceptable terms. The negotiation of agreements to obtain rights to additional products or to acquire companies or their products or product lines could divert our management’s time and resources from other elements of our existing business. Moreover, we may be unable to finance the licensing or acquisition of a new product or an acquisition target. If we issue shares of our common stock in one or more significant acquisitions, our stockholders could suffer significant dilution of their ownership interests. We might also incur debt or experience a decrease in cash available for our operations, or incur contingent liabilities and amortization expenses relating to identifiable intangible assets, in connection with any future acquisitions.

We may not generate adequate revenues under our co-promotion agreements with Victory Pharma, Inc., or Victory, and C.B. Fleet Company, Incorporated, or Fleet, to justify our level of promotional effort and expense under the agreements.

In June 2007, we entered into a co-promotion agreement with Victory, pursuant to which we agreed to co-promote Naprelan^{^®}(naproxen sodium) Controlled Release Tablets prescription pharmaceutical products in the second sales position to our targeted primary care physicians in the U.S. Under the terms of the co-promotion agreement, we will receive a co-promotion fee equal to slightly more than half of the net sales value of the prescriptions generated by our target physicians, offset by an initial credit in recognition of existing sales.

In August 2007, we entered into a co-promotion agreement with Fleet, pursuant to which we agreed to co-promote the Fleet^® Phospho-soda^® EZ-Prep^™ Bowel Cleansing System in the second sales position to our targeted gastroenterologists in the U.S. Under the terms of the co-promotion agreement, Fleet will pay us to promote the product based on a set fee per sales call, subject to a minimum and maximum number of sales calls. We will also have the opportunity to earn bonus payments if unit sales exceed predetermined baselines.

Our ability to generate adequate revenues under the co-promotion agreements to justify the resources and the level of promotional effort we will have to expend is subject to a number of risks and uncertainties, including:

	•		our ability to increase market demand and sales of the Naprelan and Fleet products;

	•		adverse side effects or inadequate therapeutic efficacy of the Naprelan or Fleet products and any resulting product liability claims or product recalls; and

	•		the potential for termination of the co-promotion arrangements.

Also, our successful co-promotion of the Naprelan products is dependent on the strength of the intellectual property surrounding the Naprelan products, and the level of competition from other products, including a generic formulation of Naprelan, which is currently commercially available in a 500 mg dosage strength and is the subject of pending patent infringement litigation initiated by Elan Corporation, plc and/or its affiliates, as the patent holder for the Naprelan products.

Our ability to successfully co-promote the Fleet product is dependent on the FDA’s continued determination that the Fleet product is safe for its intended use. A recently filed citizen’s petition requests that the FDA withdraw oral sodium phosphate products for bowel cleansing from commercial marketing or reclassify them as prescription medications. Although the FDA has previously declined to act upon similar petitions filed in the past, we cannot be certain about how the FDA may act in the future.

In addition, although our sales representatives will continue to promote our Zegerid products in the primary detail position, the co-promotion of the Naprelan and Fleet products could detract from their efforts to promote our Zegerid products and have an adverse impact on Zegerid sales. If our co-promotion efforts are not successful, our ability to generate sufficient revenues to sustain and grow our business and attain profitability may be adversely affected.

Regulatory approval for our currently marketed products is limited by the FDA to those specific indications and conditions for which we are able to support clinical safety and efficacy.

Any regulatory approval is limited to those specific diseases and indications for which our products are deemed to be safe and effective by the FDA. Our Zegerid products have been approved by the FDA for the treatment of heartburn and other symptoms associated with GERD, treatment and maintenance of healing of erosive esophagitis and treatment of duodenal and gastric ulcers. Zegerid Powder for Oral Suspension also has been approved for the reduction of risk of upper GI bleeding in critically ill patients. In addition to the FDA approval required for new formulations, any new indication for an approved product also requires FDA approval. If we are not able to obtain FDA approval for any desired future indications for our products, our ability to effectively market and sell our products may be reduced and our business will be adversely affected.

While physicians may choose to prescribe drugs for uses that are not described in the product’s labeling and for uses that differ from those tested in clinical studies and approved by the regulatory authorities, our regulatory approvals will be limited to those indications that are specifically submitted to the FDA for review. These “off-label” uses are common across medical specialties and may constitute an appropriate treatment for many patients in varied circumstances. Regulatory authorities in the U.S. generally do not regulate the behavior of physicians in their choice of treatments. Regulatory authorities do, however, restrict communications by pharmaceutical companies on the subject of off-label use. If our promotional activities fail to comply with these regulations or guidelines, we may be subject to warnings from, or enforcement action by, these authorities. In addition, our failure to follow FDA rules and guidelines relating to promotion and advertising may cause the FDA to delay its approval or refuse to approve a product, the suspension or withdrawal of an approved product from the market, recalls, fines, disgorgement of money, operating restrictions, injunctions or criminal prosecution, any of which could harm our business.

We are subject to ongoing regulatory review of our Zegerid products and any other products that we market.

Our Zegerid products and any other products that we market will continue to be subject to extensive regulation. These regulations impact many aspects of our operations, including the manufacture, labeling, packaging, adverse event reporting, storage, distribution, advertising, promotion and record keeping related to the products. The FDA also frequently requires post-marketing testing and surveillance to monitor the effects of approved products or place conditions on any approvals that could restrict the commercial applications of these products. For example, in connection with the approval of our NDAs for Zegerid Powder for Oral Suspension, we committed to commence clinical studies to evaluate the product in pediatric populations in 2005. We have not yet commenced any of the studies and, prior to doing so, will need to finalize study designs, including receiving FDA input on one of the proposed study designs, engage clinical research organizations and undertake other related activities. In addition, the subsequent discovery of previously unknown problems with the product may result in restrictions on the product, including withdrawal of the product from the market. If we fail to comply with applicable regulatory requirements, we may be subject to fines, suspension or withdrawal of regulatory approvals, product recalls, seizure of products, disgorgement of money, operating restrictions and criminal prosecution.

In addition to FDA restrictions on marketing of pharmaceutical products, several other types of state and federal laws have been applied to restrict certain marketing practices in the pharmaceutical industry in recent years. These laws include anti-kickback statutes and false claims statutes. The federal healthcare program anti-kickback statute prohibits, among other things, knowingly and willfully offering, paying, soliciting or receiving remuneration to induce or in return for purchasing, leasing, ordering or arranging for the purchase, lease or order of any healthcare item or service reimbursable under Medicare, Medicaid or other federally financed healthcare programs. This statute has been interpreted to apply to arrangements between pharmaceutical manufacturers on the one hand and prescribers, purchasers and formulary managers on the other. Violations of the anti-kickback statute are punishable by imprisonment, criminal fines, civil monetary penalties and exclusion from participation in federal healthcare programs. Although there are a number of statutory exemptions and regulatory safe harbors protecting certain common activities from prosecution or other regulatory sanctions, the exemptions and safe harbors are drawn narrowly, and practices that involve remuneration intended to induce prescribing, purchases or recommendations may be subject to scrutiny if they do not qualify for an exemption or safe harbor. Our practices may not in all cases meet all of the criteria for safe harbor protection from anti-kickback liability.

Federal false claims laws prohibit any person from knowingly presenting, or causing to be presented, a false claim for payment to the federal government, or knowingly making, or causing to be made, a false statement to have a false claim paid. Recently, several pharmaceutical and other healthcare companies have been prosecuted under these laws for allegedly inflating drug prices they report to pricing services, which in turn are used by the government to set Medicare and Medicaid reimbursement rates, and for allegedly providing free product to customers with the expectation that the customers would bill federal programs for the product. In addition, certain marketing practices, including off-label promotion, may also violate false claims laws. The majority of states also have statutes or regulations similar to the federal anti-kickback law and false claims laws, which apply to items and services reimbursed under Medicaid and other state programs, or, in several states, apply regardless of the payor. Sanctions under these federal and state laws may include civil monetary penalties, exclusion of a manufacturer’s products from reimbursement under government programs, criminal fines and imprisonment.

Because of the breadth of these laws and the narrowness of the safe harbors, it is possible that some of our business activities could be subject to challenge under one or more of such laws. Such a challenge could have a material adverse effect on our business, financial condition and results of operations.

In addition, as part of the sales and marketing process, pharmaceutical companies frequently provide samples of approved drugs to physicians. This practice is regulated by the FDA and other governmental authorities, including, in particular, requirements concerning record keeping and control procedures. Any failure to comply with the regulations may result in significant criminal and civil penalties as well as damage to our credibility in the marketplace.

We are subject to new legislation, regulatory proposals and managed care initiatives that may increase our costs of compliance and adversely affect our ability to market our products, obtain collaborators and raise capital.

There have been a number of legislative and regulatory proposals aimed at changing the healthcare system and pharmaceutical industry, including reductions in the cost of prescription products, changes in the levels at which consumers and healthcare providers are reimbursed for purchases of pharmaceutical products, proposals concerning reimportation of pharmaceutical products and proposals concerning safety matters. For example, the Medicare Prescription Drug, Improvement, and Modernization Act of 2003 provides a new Medicare prescription drug benefit, which became effective in January 2006, and mandates other reforms. Although we cannot predict the full effect on our business of the implementation of this new legislation, to date the new benefit, which is managed by private health insurers, pharmacy benefit managers and other managed care organizations, has resulted in additional growth in the market for delayed-release generic omeprazole products and it may further exacerbate industry-wide pressure to reduce the prices charged for both generic and branded PPI products. This could harm our ability to market our products and generate revenues. It is also possible that other proposals will be adopted. As a result of the new Medicare prescription drug benefit or any other proposals, we may determine to change our current manner of operation, provide additional benefits or change our contract arrangements, any of which could harm our ability to operate our business efficiently, obtain collaborators and raise capital. We are also subject to additional price reporting obligations under the Deficit Reduction Act of 2005, which became effective on January 1, 2007. Complying with these additional reporting obligations will increase our administrative burden.

We face a risk of product liability claims and may not be able to obtain adequate insurance.

Our business exposes us to potential liability risks that may arise from the clinical testing of our products and the manufacture and sale of our Zegerid products and any other products we commercialize. These risks exist even if a product is approved for commercial sale by the FDA and manufactured in facilities licensed and regulated by the FDA. Any product liability claim or series of claims brought against us could significantly harm our business by, among other things, reducing demand for our products, injuring our reputation and creating significant adverse media attention and costly litigation. Plaintiffs have received substantial damage awards in some jurisdictions against pharmaceutical companies based upon claims for injuries allegedly caused by the use of their products. Any judgment against us that is in excess of our insurance policy limits would have to be paid from our cash reserves, which would reduce our capital resources. Although we have product and clinical trials liability insurance with a coverage limit of $15.0 million, this coverage may prove to be inadequate. Furthermore, we cannot be certain that our current insurance coverage will continue to be available for our commercial or clinical trial activities on reasonable terms, if at all. Further, we may not have sufficient capital resources to pay a judgment, in which case our creditors could levy against our assets, including our intellectual property.

We rely on third parties to perform many necessary services for our commercial products, including services related to the distribution, storage and transportation of our products.

We have retained third-party service providers to perform a variety of functions related to the sale and distribution of our products, key aspects of which are out of our direct control. For example, we rely on one third-party service provider to provide key services related to warehousing and inventory management, distribution, contract administration and chargeback processing, accounts receivable management and call center management, and, as a result, most of our inventory is stored at a single warehouse maintained by the service provider. We place substantial reliance on this provider as well as other third-party providers that perform services for us, including entrusting our inventories of products to their care and handling. If these third-party service providers fail to comply with applicable laws and regulations, fail to meet expected deadlines, or otherwise do not carry out their contractual duties to us, or encounter physical or natural damage at their facilities, our ability to deliver product to meet commercial demand would be significantly impaired. In addition, we utilize third parties to perform various other services for us relating to sample accountability and regulatory monitoring, including adverse event reporting, safety database management and other product maintenance services. If the quality or accuracy of the data maintained by these service providers is insufficient, our ability to continue to market our products could be jeopardized or we could be subject to regulatory sanctions. We do not currently have the internal capacity to perform these important commercial functions, and we may not be able to maintain commercial arrangements for these services on reasonable terms.

Our reliance on third-party clinical investigators and clinical research organizations may result in delays in completing, or a failure to complete, clinical trials or we may be unable to use the clinical data gathered if they fail to comply with regulatory requirements or perform under our agreements with them.

As an integral component of our clinical development programs, we engage clinical investigators and clinical research organizations, or CROs, to enroll patients and conduct and manage our clinical studies. As a result, many key aspects of this process have been and will be out of our direct control. If the CROs and other third parties that we rely on for patient enrollment and other portions of our clinical trials fail to perform the clinical trials in a satisfactory manner and in compliance with applicable U.S. and foreign regulations, or fail to perform their obligations under our agreements with them, we could face significant delays in completing our clinical trials or we may be unable to rely in the future on the clinical data generated. For example, the FDA has inspected and will continue to inspect certain of our CROs’ operations and trial procedures and may issue notices of any observations of failure to comply with FDA-approved good clinical practices and other regulations. If our CROs or clinical investigators are unable to respond to such notices of observations in a satisfactory manner or otherwise resolve any issues identified by the FDA or other regulatory authorities, we may be unable to use the data gathered at those sites. To the extent a single CRO conducts clinical trials for us for multiple products, the CRO’s failure to comply with U.S. and foreign regulations could negatively impact each of the trials. If these clinical investigators and CROs do not carry out their contractual duties or obligations or fail to meet expected deadlines, or if the quality or accuracy of the clinical data they obtain is compromised due to their failure to adhere to our clinical protocols, regulatory requirements or for other reasons, our clinical trials may be extended, delayed or terminated, we may be required to repeat one or more of our clinical trials and we may be unable to obtain or maintain regulatory approval for or successfully commercialize our products.

Any products we develop in the future likely will require significant product and clinical development activities and ultimately may not be approved by the FDA, and any failure or delays associated with these activities or the FDA’s approval of such products would increase our costs and time to market.

We face substantial risks of failure inherent in developing pharmaceutical products. The pharmaceutical industry is subject to stringent regulation by many different agencies at the federal, state and international levels. Our products must satisfy rigorous standards of safety and efficacy before the FDA and any foreign regulatory authorities will approve them for commercial use.

Product development is generally a long, expensive and uncertain process. Successful development of product formulations depends on many factors, including our ability to select key components, establish a stable formulation, develop a product that demonstrates our intended safety and efficacy profile, and transfer from development stage to commercial-scale operations. Any delays we encounter during our product development activities would in turn adversely affect our ability to commercialize the product under development.

Once we have manufactured formulations of our products that we believe will be suitable for clinical testing, we then must complete our clinical testing, and failure can occur at any stage of testing. These clinical tests must comply with FDA and other applicable regulations. We may encounter delays or rejections based on our inability to enroll enough patients to complete our clinical trials. We may suffer significant setbacks in advanced clinical trials, even after showing promising results in earlier trials. The results of later clinical trials may not replicate the results of prior clinical trials. Based on results at any stage of clinical trials, we may decide to discontinue development of a product. We, or the FDA, may suspend clinical trials at any time if the patients participating in the trials are exposed to unacceptable health risks or if the FDA finds deficiencies in our applications to conduct the clinical trials or in the conduct of our trials. Moreover, not all products in clinical trials will receive timely, or any, regulatory approval.

Even if clinical trials are completed as planned, their results may not support our assumptions or our product claims. The clinical trial process may fail to demonstrate that our products are safe for humans or effective for their intended uses. Our product development costs will increase and our product revenues will be delayed if we experience delays in testing or regulatory approvals or if we need to perform more or larger clinical trials than planned. In addition, such failures could cause us to abandon a product entirely. If we fail to take any current or future product from the development stage to market, we will have incurred significant expenses without the possibility of generating revenues, and our business will be adversely affected.

If we are unable to attract and retain key personnel, our business will suffer.

We are a small company and, as of September 30, 2007, had 347 employees. Our success depends on our continued ability to attract, retain and motivate highly qualified management, clinical, manufacturing, product development, business development and sales and marketing personnel. We, as well as inVentiv, our contract sales provider, may not be able to recruit and retain qualified personnel in the future, particularly for sales and marketing positions, due to competition for personnel among pharmaceutical businesses, and the failure to do so could have a significant negative impact on our future product revenues and business results.

Our success depends on a number of key senior management personnel, particularly Gerald T. Proehl, our President and Chief Executive Officer. Although we have employment agreements with our executive officers, these agreements are terminable at will at any time with or without notice and, therefore, we cannot assure you that we will be able to retain their services. In addition, although we have a “key person” insurance policy on Mr. Proehl, we do not have “key person” insurance policies on any of our other employees that would compensate us for the loss of their services. If we lose the services of one or more of these individuals, replacement could be difficult and may take an extended period of time and could impede significantly the achievement of our business objectives.

Risks Related to Our Financial Results and Need for Financing

We have incurred significant operating losses since our inception, and we expect to incur significant additional operating losses and may not achieve profitability.

The extent of our future operating losses and the timing of profitability are highly uncertain, and we may never achieve profitability. We have been engaged in developing and commercializing drugs and have consistently generated operating losses since our inception in December 1996. Our commercial activities and continued product development and clinical

activities will require significant expenditures. For the nine months ended September 30, 2007, we recognized $55.4 million in net sales of our Zegerid products, and, as of September 30, 2007, we had an accumulated deficit of $296.0 million. We expect to incur additional operating losses and capital expenditures as we support the continued marketing of our Zegerid products and any other products we commercialize, and continue our product development and clinical research programs.

We will need to raise additional funds to continue our operations and we may be unable to raise capital when needed.

We believe that our current cash, cash equivalents and short-term investments, together with potential proceeds from the Committed Equity Financing Facility, or CEFF, with Kingsbridge Capital Limited, or Kingsbridge, and potential loan proceeds under our Loan Agreement with Comerica, will be sufficient to fund our operations for at least the next 12 months; however, our projected revenue may decrease or our expenses may increase and that would lead to our cash resources being consumed earlier than we expect. In the next 12 months and until we can generate sufficient cash from our operations, we likely will finance future cash needs through strategic collaboration or licensing agreements, or through equity and/or debt financing, if necessary.

In May 2005, we filed a universal shelf registration statement on Form S-3 with the Securities and Exchange Commission, which was declared effective in June 2005. On August 22, 2005, we sold 7,350,000 shares of our common stock that were registered under the universal shelf registration statement. The universal shelf registration statement may permit us, from time to time, to offer and sell up to an additional approximately $43.8 million of equity or debt securities. However, there can be no assurance that we will be able to complete any such offerings of securities. Factors influencing the availability of additional financing include the progress of our commercial activities, investor perception of our prospects and the general condition of the financial markets, among others.

In February 2006, we entered into a CEFF with Kingsbridge, which may entitle us to sell and obligate Kingsbridge to purchase, from time to time over a period of three years, shares of our common stock for cash consideration up to the lesser of $75.0 million or 8,853,165 shares, subject to certain conditions and restrictions. We filed a resale shelf registration statement on Form S-3 with the Securities and Exchange Commission to facilitate Kingsbridge’s public resale of shares of our common stock which it may acquire from us from time to time in connection with our draw downs under the CEFF or upon the exercise of a warrant to purchase 365,000 shares of common stock that we issued to Kingsbridge in connection with the CEFF. The resale shelf registration statement was declared effective in February 2006. We have completed four draw downs under the CEFF and have issued a total of 5,401,787 shares in exchange for aggregate gross proceeds of $36.5 million. Accordingly, the remaining commitment of Kingsbridge under the CEFF for the potential purchase of our common stock is equal to the lesser of $38.5 million in cash consideration or 3,451,378 shares (which shares would be priced at a discount ranging from 6% to 10% of the average market price during any future draw down), subject to certain conditions and restrictions.

There can be no assurance that we will be able to complete any further draw downs under the CEFF. Factors influencing our ability to complete draw downs include conditions such as a minimum price for our common stock; the accuracy of representations and warranties made to Kingsbridge; our ability to maintain the effectiveness of the shelf registration statement; and the continued listing of our stock on the Nasdaq Global Market.

Our quarterly financial results are likely to fluctuate significantly because our sales prospects are uncertain.

Our quarterly operating results are difficult to predict and may fluctuate significantly from period to period, particularly because the commercial success of, and demand for, our Zegerid products, as well as any other products we market are uncertain and therefore our sales prospects are uncertain. The level of our revenues, if any, and results of operations at any given time will be based primarily on the following factors:

	•		commercial success of Zegerid Capsules and Zegerid Powder for Oral Suspension and any OTC products which may be developed and commercialized by Schering-Plough under our OTC license agreement;

	•		demand and pricing of products we may offer;

	•		physician and patient acceptance of our products;

	•		levels of third-party reimbursement for our products;

	•		interruption in the manufacturing or distribution of our products;

	•		our ability to maintain a productive sales force;

	•		our ability to generate revenues under our co-promotion agreements with Victory and Fleet;

	•		our ability to obtain regulatory approval for any future products we develop;

	•		results of our clinical trials and safety and efficacy of our products;

	•		timing of new product offerings, acquisitions, licenses or other significant events by us, Schering-Plough or our competitors;

	•		the outcome of, or other developments related to, our patent infringement suit against Par involving Zegerid capsules;

	•		legislative changes affecting the products we may offer or those of our competitors; and

	•		the effect of competing technological and market developments.

It will continue to be difficult for us to forecast demand for our products with any degree of certainty. In addition, we expect to incur significant operating expenses as we continue to support the marketing of our Zegerid products. Accordingly, we may experience significant, unanticipated quarterly losses. Because of these factors, our operating results in one or more future quarters may fail to meet the expectations of securities analysts or investors, which could cause our stock price to decline significantly.

The Committed Equity Financing Facility that we entered into with Kingsbridge may not be available to us if we elect to make a draw down, may require us to make additional “blackout” or other payments to Kingsbridge, and may result in dilution to our stockholders.

The CEFF entitles us to sell and obligates Kingsbridge to purchase, from time to time over a period of three years, shares of our common stock for cash consideration up to the lesser of $75.0 million or 8,853,165 shares, subject to certain conditions and restrictions. We have completed four draw downs under the CEFF and have issued a total of 5,401,787 shares in exchange for aggregate gross proceeds of $36.5 million.

Kingsbridge will not be obligated to purchase additional shares under the CEFF unless certain conditions are met, which include a minimum price for our common stock; the accuracy of representations and warranties made to Kingsbridge; compliance with laws; the continued effectiveness of the shelf registration statement; and the continued listing of our stock on the Nasdaq Global Market. In addition, Kingsbridge is permitted to terminate the CEFF if it determines that a material and adverse event has occurred affecting our business, operations, properties or financial condition and if such condition continues for a period of 10 days from the date Kingsbridge provides us notice of such material and adverse event.

Moreover, our ability to fully utilize the CEFF as a source of future financings may be limited by the remaining maximum number of 3,451,378 shares issuable under the CEFF consistent with Nasdaq Global Market listing requirements (which shares would be priced at a discount ranging from 6% to 10% of the average market price during any future draw down). If we are unable to access funds through the CEFF, or if the CEFF is terminated by Kingsbridge, we may be unable to access capital on favorable terms or at all.

We are entitled in certain circumstances, to deliver a blackout notice to Kingsbridge to suspend the use of the shelf registration statement and prohibit Kingsbridge from selling shares thereunder. If we deliver a blackout notice in the 15 trading days following the settlement of a draw down, or if the shelf registration statement is not effective in circumstances not permitted by our agreement with Kingsbridge, then we must make a payment to Kingsbridge, or issue Kingsbridge additional shares in lieu of the payment, calculated on the basis of the number of shares held by Kingsbridge (exclusive of shares that Kingsbridge may hold pursuant to exercise of the Kingsbridge warrant) and the change in the market price of our common stock during the period in which the use of the shelf registration statement is suspended. If the trading price of our common stock declines during a suspension of the shelf registration statement, the blackout or other payment could be significant.

If we sell shares to Kingsbridge under the CEFF, or issue shares in lieu of a blackout payment, it will have a dilutive effective on the holdings of our current stockholders, and may result in downward pressure on the price of our common stock. For each draw down under the CEFF, we will issue shares to Kingsbridge at a discount of up to 10% from the volume weighted average price of our common stock. If we draw down amounts under the CEFF when our share price is decreasing, we will need to issue more shares to raise the same amount than if our stock price was higher. Issuances in the face of a declining share price will have an even greater dilutive effect than if our share price were stable or increasing, and may further decrease our share price.

Any future indebtedness under our Loan Agreement with Comerica could adversely affect our financial health.

Under the Loan Agreement with Comerica, we may incur a significant amount of indebtedness. Such indebtedness could have important consequences. For example, it could:

	•		impair our ability to obtain additional financing in the future for working capital needs, capital expenditures and general corporate purposes;

	•		increase our vulnerability to general adverse economic and industry conditions;

	•		make it more difficult for us to satisfy other debt obligations we may incur in the future;

	•		require us to dedicate a substantial portion of our cash flows from operations to the payment of principal and interest on our indebtedness, thereby reducing the availability of our cash flows to fund working capital needs, capital expenditures and other general corporate purposes;

	•		limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;

	•		place us at a disadvantage compared to our competitors that have less indebtedness; and

	•		expose us to higher interest expense in the event of increases in interest rates because our potential indebtedness under the Loan Agreement with Comerica may bear interest at a variable rate.

For a description of the Loan Agreement, see Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources.

Covenants in the Loan Agreement may limit our ability to operate our business.

Under the Loan Agreement with Comerica, we are subject to certain affirmative and negative covenants, including limitations on our ability: to convey, sell, lease, license, transfer or otherwise dispose of assets; to create, incur, assume, guarantee or be liable with respect to certain indebtedness; to grant liens; to pay dividends and make certain other restricted payments; and to make investments. In addition, under the Loan Agreement we are required to maintain a balance of cash with Comerica in an amount of not less than $4.0 million and to maintain any other cash balances with either Comerica or

another financial institution covered by a control agreement for the benefit of Comerica. We are also subject to certain financial covenants with respect to a minimum liquidity ratio and, when the outstanding loan balances exceed $15.0 million, minimum EBITDA requirements.

If we default under the Loan Agreement because of a covenant breach or otherwise, all outstanding amounts could become immediately due and payable, which would negatively impact our liquidity and reduce the availability of our cash flows to fund working capital needs, capital expenditures and other general corporate purposes.

To service any future indebtedness and fund our working capital and capital expenditures, we will require a significant amount of cash. Our ability to generate cash depends on many factors beyond our control.

Our ability to make payments on any indebtedness will depend upon our future operating performance and on our ability to generate cash flow in the future, which is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. We cannot assure you that our business will generate sufficient cash flow from operations, or that future borrowings, including borrowings under our Loan Agreement with Comerica, will be available to us in an amount sufficient to enable us to pay any indebtedness or to fund our other liquidity needs.

Rises in interest rates could adversely affect our financial condition.

The interest rates applicable to any amounts we borrow under the Loan Agreement with Comerica will be indexed, at our election, to either Comerica’s prime rate or the LIBOR rate. If we elect Comerica’s prime rate for all or any portion of our borrowings, the interest rate will be variable. An increase in prevailing interest rates would have an immediate effect on the interest rates charged on our variable rate debt, if any. If prevailing interest rates or other factors result in higher interest rates on any debt we incur under the Loan Agreement, the increased interest expense could adversely affect our cash flow and our ability to service our debt. If we elect the LIBOR rate for all or any portion of our borrowings, such LIBOR rate will remain fixed only for a specified, limited period of time after the date of our election, after which we will be required to repay the borrowed amount, or elect a new interest rate indexed to either Comerica’s prime rate or the LIBOR rate. The new rate may be higher than the earlier interest rate applicable under the Loan Agreement. We cannot be certain that we will have sufficient cash flow from our operating activities or other resources to service our future debt obligations, if any, particularly in an environment of rising interest rates.

Our short operating history makes it difficult to evaluate our business and prospects.

We were incorporated in December 1996 and have only been conducting operations with respect to our Zegerid family of products since January 2001. We commercially launched our first product in October 2004. Our operations to date have involved organizing and staffing our company, acquiring, developing and securing our technology, undertaking product development and clinical trials for our products and commercially launching Zegerid Powder for Oral Suspension and Zegerid Capsules. We have relatively limited experience selling and marketing our products, and we have not yet demonstrated an ability to achieve profitability with our products. Consequently, any predictions about our future performance may not be as accurate as they could be if we had more experience successfully commercializing products.

Changes in, or interpretations of, accounting rules and regulations, such as expensing of stock options, could result in unfavorable accounting charges or require us to change our compensation policies.

Accounting methods and policies for specialty pharmaceutical companies, including policies governing revenue recognition, expenses, accounting for stock options and in-process research and development costs are subject to further review, interpretation and guidance from relevant accounting authorities, including the Securities and Exchange Commission. Changes to, or interpretations of, accounting methods or policies in the future may require us to reclassify, restate or otherwise change or revise our financial statements, including those contained in this report.

For example, effective January 1, 2006, we adopted the fair value recognition provisions of Statement of Financial Accounting Standards No. 123 (revised 2004),Share-Based Payment, which is a revision of SFAS No. 123,Accounting for Stock-Based Compensation,or SFAS No. 123(R), which requires us to treat the fair value of stock options granted to employees as an expense. Prior to January 1, 2006, we were generally not required to record compensation expense in connection with stock option grants to employees, and we have relied heavily on stock options to motivate existing employees and attract new employees. The specific impact of this standard in future periods cannot be predicted at this time because it will depend on levels of stock options or other share-based payments granted and the possible variability in the valuation assumptions used in the future. The requirement to expense the fair value of stock option grants may reduce

the attractiveness of granting stock options. If we reduce our use of stock options, it may be more difficult for us to attract and retain qualified employees.

In connection with the reporting of our financial condition and results of operations, we are required to make estimates and judgments which involve uncertainties, and any significant differences between our estimates and actual results could have an adverse impact on our financial position, results of operations and cash flows.

Our discussion and analysis of our financial condition and results of operations are based on our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles, or GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. In particular, as part of our revenue recognition policy, our estimates of product returns, rebates and chargebacks require our most subjective and complex judgment due to the need to make estimates about matters that are inherently uncertain. Any significant differences between our actual results and our estimates under different assumptions or conditions could negatively impact our financial position, results of operations and cash flows.

Risks Related to Our Intellectual Property

The protection of our intellectual property rights is critical to our success and any failure on our part to adequately secure such rights would materially affect our business.

We regard the protection of patents, trademarks and other proprietary rights that we own or license as critical to our success and competitive position. Laws and contractual restrictions, however, may not be sufficient to prevent unauthorized use or misappropriation of our technology or deter others from independently developing products that are substantially equivalent or superior to our products.

Patents. Our commercial success will depend in part on the patent rights we have licensed or will license and on patent protection for our own inventions related to the products that we market and intend to market. Our success also depends on maintaining these patent rights against third-party challenges to their validity, scope or enforceability. Our patent position is subject to uncertainties similar to other biotechnology and pharmaceutical companies. For example, the U.S. Patent and Trademark Office, or PTO, or the courts may deny, narrow or invalidate patent claims, particularly those that concern biotechnology and pharmaceutical inventions.

We may not be successful in securing or maintaining proprietary or patent protection for our products, and protection that we have and do secure may be challenged and possibly lost. Our competitors may develop products similar to ours using methods and technologies that are beyond the scope of our intellectual property rights. Other drug companies may challenge the scope, validity and enforceability of our patent claims and may be able to develop generic versions of our products if we are unable to maintain our proprietary rights. For example, although we believe that we have valid patent protection in the U.S. for our Zegerid products until at least 2016, depending on the outcome of our patent infringement suit against Par, described below, a generic version of Zegerid could be launched prior to the expiration of our patents. It is also possible that other generic drug makers will attempt to introduce generic versions of our Zegerid products prior to the expiration of our patents. We also may not be able to protect our intellectual property rights against third-party infringement, which may be difficult to detect.

To date, five U.S. patents have been issued relating to technology we license from the University of Missouri and several U.S. patent applications are pending. In addition to the U.S. patent coverage, several international patents have issued, including in Australia, India, Mexico, New Zealand, Russia, Singapore, South Africa, and South Korea, as well as in countries within the European Patent Organization, and several international patent applications are pending, all of which are subject to the University of Missouri license agreement. The patents related specifically to our Zegerid products are and will be method and/or formulation patents and will not protect the use of the active pharmaceutical ingredient outside of the formulations covered by the patents and patent applications licensed to or owned by us. The issued claims in the international patents vary between the different countries and include claims covering pharmaceutical compositions combining PPIs with buffering agents and the use of these compositions in the manufacture of drug products for the treatment of GI disorders. The initial U.S. patent from the University of Missouri does not have corresponding international or foreign counterpart applications and there can be no assurance that we will be able to obtain foreign patent rights to protect each of our products in all foreign countries of interest. We consult with the University of Missouri in its pursuit of the patent applications that we have licensed, but the University of Missouri remains primarily responsible for prosecution of the applications. We cannot control the amount or timing of resources that the University of Missouri

devotes on our behalf. It may not assign as great a priority to prosecution of patent applications relating to technology we license as we would if we were undertaking such prosecution ourselves. As a result of this lack of control and general uncertainties in the patent prosecution process, we cannot be sure that any additional patents will ever be issued. Issued patents generally require the payment of maintenance or similar fees to continue their validity. We rely on the University of Missouri to do this, subject to our obligation to provide reimbursement, and the University’s failure to do so could result in the forfeiture of patents not maintained.

On September 18, 2007, the PTO issued an Ex Parte Reexamination Certificate for U.S. Patent No. 6,699,885, or the ‘885 patent, which formally concludes the pending reexamination proceeding relating to the ‘885 patent, and confirms the patentability of the ‘885 patent, as amended during the proceeding, over the references cited in the proceeding. The ‘885 patent is one of the five currently issued U.S. patents providing coverage for our Zegerid family of products, which are licensed to us under our license agreement with the University of Missouri. For a more detailed description of this proceeding, see Part II – Item 1 – Legal Proceedings.

On August 2, 2006, an Indian company filed a pre-grant opposition to a pending Indian patent application that is licensed to us under our license agreement with the University of Missouri. A hearing was conducted on October 1, 2007. If we, in connection with the University of Missouri, do not successfully defend the patent application against the pre-grant opposition, we may not be able to obtain patent coverage for one or more of our Zegerid products in India.

Trade Secrets and Proprietary Know-how. We also rely upon unpatented proprietary know-how and continuing technological innovation in developing our products. Although we require our employees, consultants, advisors and current and prospective business partners to enter into confidentiality agreements prohibiting them from disclosing or taking our proprietary information and technology, these agreements may not provide meaningful protection for our trade secrets and proprietary know-how. Further, people who are not parties to confidentiality agreements may obtain access to our trade secrets or know-how. Others may independently develop similar or equivalent trade secrets or know-how. If our confidential, proprietary information is divulged to third parties, including our competitors, our competitive position in the marketplace will be harmed and our ability to successfully penetrate our target markets could be severely compromised.

Trademarks. Our trademarks are important to our success and competitive position. We have received U.S. and European Union, or EU, trademark registration for our corporate name, Santarus^®. We also have received trademark registration in the U.S., Canada and Japan and have applied for trademark registration in the EU for our brand name, Zegerid^®, and have applied for trademark registration for various other names and logos. The opposition against our EU trademark application for our brand name, Zegerid, has recently concluded in our favor. Accordingly, the trademark should proceed to registration in the EU, unless the third party that had opposed the trademark appealed the decision before September 17, 2007. As of November 1, 2007, the date of this report, we have not received notice of any appeal having been filed. In addition, in Canada, we have received a notice of allowance for our Zegerid brand name, and we have until the end of 2007 to file a declaration of use or to request an extension. Any objections we receive from the PTO, foreign trademark authorities or third parties relating to our pending applications could require us to incur significant expense in defending the objections or establishing alternative names. There is no guarantee we will be able to secure any of our pending trademark applications with the PTO or comparable foreign authorities.

If we do not adequately protect our rights in our various trademarks from infringement, any goodwill that has been developed in those marks would be lost or impaired. We could also be forced to cease using any of our trademarks that are found to infringe upon or otherwise violate the trademark or service mark rights of another company, and, as a result, we could lose all the goodwill which has been developed in those marks and could be liable for damages caused by any such infringement or violation.

Par’s Paragraph IV certification under the Hatch-Waxman Act related to Zegerid Capsules and the related patent infringement litigation could adversely affect our financial condition and results of operations as it could result in the introduction of a generic product prior to the expiration of the patents for Zegerid Capsules, as well as in significant legal expenses and diversion of management time.

On August 7, 2007, we announced that we and our licensor, the University of Missouri, had received notice that Par submitted an Abbreviated New Drug Application, or ANDA, containing a Paragraph IV certification seeking approval from the FDA to market a generic version of our Zegerid Capsules product prior to the July 2016 expiration of the three Orange Book listed patents (U.S. Patent Nos. 6,645,988; 6,489,346; and 6,699,885). A Paragraph IV certification is the declaration by the generic filer that its product will not infringe the already approved product’s listed patent or that such patent is invalid or unenforceable.

On September 13, 2007, we filed a lawsuit against Par in the United States District Court for the District of Delaware. Our complaint alleges that Par’s ANDA constitutes infringement of the patents listed for Zegerid Capsules. The University of Missouri, licensor of the patents, is joined in the litigation as co-plaintiff. On October 2, 2007, we filed an amended complaint to reflect the PTO’s issuance of a reexamination certificate for the ‘885 Patent. On October 17, 2007, Par filed its answer in the case, primarily asserting non-infringement, invalidity and unenforceability. Par also filed counterclaims seeking a declaration in its favor on those issues. This lawsuit is pending and discovery is expected to begin in the near future. A trial date has not been set.

As a result of the filing of the lawsuit against Par, a 30-month stay, as provided for under the Hatch-Waxman Act, has been imposed during which stay the FDA may not approve Par’s ANDA. The stay will last until the earlier of 30 months (February 2010) or a judgment by the district court that the asserted patents are invalid, unenforceable or not infringed. If the litigation is still ongoing after 30 months, the termination of the stay could result in the introduction of a generic product to Zegerid Capsules prior to resolution of the litigation.

We are not able to predict the outcome of the litigation. An adverse outcome in this litigation could result in one or more generic versions of Zegerid Capsules being launched before the expiration of the three listed patents in July 2016, which could adversely affect our ability to successfully execute our business strategy to maximize the value of Zegerid Capsules and could negatively impact our financial condition and results of operations. An adverse outcome may also impact the patent protection for the products being developed under our license agreement with Schering-Plough, which in turn may impact the amount of, or our ability to receive, milestone payments and royalties under that license agreement. In addition, even if we prevail, the litigation will be costly, time consuming and distracting to management, which could have a material adverse effect on our business.

Third parties may choose to file patent infringement claims against us, which litigation would be costly, time consuming and distracting to management and could be materially adverse to our business.

The products we currently market, and those we may market in the future, may infringe patent and other rights of third parties. In addition, our competitors, many of which have substantially greater resources than us and have made significant investments in competing technologies or products, may seek to apply for and obtain patents that will prevent, limit or interfere with our ability to make, use and sell products either in the U.S. or international markets. Intellectual property litigation in the pharmaceutical industry is common, and we expect this to continue. In particular, intellectual property litigation among companies targeting the treatment of upper GI diseases and disorders is particularly common and may increase due to the large market for these products.

AstraZeneca plc, as well as other competitors and companies, including aaiPharma, TAP Pharmaceutical Products Inc. and Takeda Chemical Industries Ltd., hold various other patents relating to omeprazole and PPI products generally and could file an infringement suit claiming our current products infringe their patents. Our third-party manufacturers may also receive claims of infringement and could be subject to injunctions and temporary or permanent exclusionary orders in the U.S. or in the countries in which they are based. While we believe that we would have meritorious defenses to such claims, the outcome of any such litigation is uncertain and defending such litigation would be expensive, time-consuming and distracting to management.

If we or our third-party manufacturers or suppliers are unsuccessful in any challenge to our rights to manufacture, market and sell our products, we may be required to license the disputed rights, if the holder of those rights is willing, or to cease manufacturing and marketing the challenged products, or, if possible, to modify our products to avoid infringing upon those rights. If we or our third-party manufacturers or suppliers are unsuccessful in defending our rights, we could be liable for royalties on past sales or more significant damages, and we could be required to obtain and pay for licenses if we are to continue to manufacture and sell our products. These licenses may not be available and, if available, could require us to pay substantial upfront fees and future royalty payments. Any patent owner may seek preliminary injunctive relief in connection with an infringement claim, as well as a permanent injunction, and, if successful in the claim, may be entitled to lost profits from infringing sales, attorneys’ fees and interest and other amounts. Any damages could be increased if there is a finding of willful infringement. Even if we and our third-party manufacturers and suppliers are successful in defending an infringement claim, the expense, time delay and burden on management of litigation could have a material adverse effect on our business.

Our Zegerid products depend on technology licensed from the University of Missouri and any loss of our license rights would harm our business and seriously affect our ability to market our products.

Our Zegerid products are based on patented technology and technology for which patent applications are pending that we have exclusively licensed from the University of Missouri. A loss or adverse modification of our technology license from the University of Missouri would materially harm our ability to develop and commercialize our current Zegerid products and other products based on that licensed technology that we may attempt to develop or commercialize in the future. The University of Missouri may claim that new patents or new patent applications that result from new research performed by the University of Missouri are not part of the licensed technology.

The licenses from the University of Missouri expire in each country when the last patent for licensed technology expires in that country and the last patent application for licensed technology in that country is abandoned. In addition, our rights under the University of Missouri license are subject to early termination under specified circumstances, including our material and uncured breach of the license agreement or our bankruptcy or insolvency. Further, we are required to use commercially reasonable efforts to develop and sell products based on the technology we licensed from the University of Missouri to meet market demand. If we fail to meet these obligations in specified countries, after giving us an opportunity to cure the failure, the University of Missouri can terminate our license or render it nonexclusive with respect to those countries. To date, we believe we have met all of our obligations under the University of Missouri agreement. However, in the event that the University of Missouri is able to terminate the license agreement for one of the reasons specified in the license agreement, we would lose our rights to develop, market and sell our current Zegerid products and we would not be able to develop, market and sell future products based on those licensed technologies.

We may be subject to damages resulting from claims that we or our employees have wrongfully used or disclosed alleged trade secrets of their former employers or otherwise breached the terms of agreements with former employers.

Many of our employees were previously employed at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. In addition, certain of our employees are parties to non-compete, non-solicitation and non-disclosure agreements with their prior employers. We may be subject to claims that these employees or we have inadvertently or otherwise breached these non-compete and non-solicitation agreements or used or disclosed trade secrets or other proprietary information of their former employers. Litigation may be necessary to defend against these claims. Even if we are successful in defending against these claims, litigation could result in substantial costs and be a distraction to management. If we fail in defending such claims, in addition to paying money claims, we may lose valuable intellectual property rights or personnel. A loss of key personnel or their work product could hamper or prevent our ability to commercialize products, which could severely harm our business.

Risks Related to the Securities Markets and Ownership of Our Common Stock

Our stock price may be volatile and you may not be able to sell your shares at an attractive price.

The market prices for securities of specialty pharmaceutical companies in general have been highly volatile and may continue to be highly volatile in the future. For example, during the year ended December 31, 2006, the trading prices for our common stock ranged from a high of $9.70 to a low of $4.76, and on October 15, 2007, the closing trading price for our common stock was $2.06. In addition, we have not paid cash dividends since our inception and do not intend to pay cash dividends in the foreseeable future. Therefore, investors will have to rely on appreciation in our stock price and a liquid trading market in order to achieve a gain on their investment.

The trading price of our common stock may continue to fluctuate substantially as a result of one or more of the following factors:

	•		announcements concerning our commercial progress and activities, product development programs, results of our clinical trials or status of our regulatory submissions;

	•		developments in our pending patent infringement suit against Par involving Zegerid Capsules;

	•		the publication of prescription trend data concerning our products or competitive products;

	•		regulatory developments and related announcements in the U.S., including announcements by the FDA, and foreign countries;

	•		other disputes or developments concerning proprietary rights, including patents and trade secrets, litigation matters, and our ability to patent or otherwise protect our products and technologies;

	•		conditions or trends in the pharmaceutical and biotechnology industries;

	•		fluctuations in stock market prices and trading volumes of similar companies or of the markets generally;

	•		changes in, or our failure to meet or exceed, investors’ and securities analysts’ expectations;

	•		announcements of technological innovations or new commercial products by us or our competitors;

	•		actual or anticipated fluctuations in our or our competitors’ quarterly or annual operating results;

	•		sales of large blocks of our common stock, including sales by Kingsbridge under the CEFF, our executive officers, directors or institutional investors;

	•		announcements concerning borrowings under the Loan Agreement, draw downs under the CEFF, takedowns under our existing universal shelf registration statement or other developments relating to the Loan Agreement, CEFF, universal shelf registration statement or our other financing activities;

	•		our entering into licenses, strategic partnerships and similar arrangements, or the termination of such arrangements;

	•		acquisition of products or businesses by us or our competitors;

	•		announcements made by, or events affecting, our OTC collaborator, our co-promotion partners, our contract sales force provider, our suppliers or other third parties that provide services to us;

	•		litigation and government inquiries; or

	•		economic and political factors, including wars, terrorism and political unrest.

Our stock price could decline and our stockholders may suffer dilution in connection with future issuances of equity or debt securities.

We believe that our current cash, cash equivalents and short-term investments, together with potential proceeds from the CEFF with Kingsbridge and potential loan proceeds under our Loan Agreement with Comerica, will be sufficient to fund our operations for at least the next 12 months. Until we can generate sufficient cash from our operations, we likely will pursue raising additional funds in the next 12 months primarily to support the further commercialization of our Zegerid products. To the extent we conduct substantial future offerings of equity or debt securities, such offerings could cause our stock price to decline. For example, we may issue additional shares of our common stock under our CEFF with Kingsbridge, we may issue securities under our existing universal shelf registration statement, or we may pursue alternative financing arrangements.

The exercise of outstanding options and warrants and future equity issuances, including future public offerings or future private placements of equity securities and any additional shares issued in connection with acquisitions, will also result in dilution to investors. The market price of our common stock could fall as a result of resales of any of these shares of common stock due to an increased number of shares available for sale in the market.

Future sales of our common stock by our stockholders may depress our stock price.

A concentrated number of stockholders hold significant blocks of our outstanding common stock. Sales by our current stockholders of a substantial number of shares, or the expectation that such sales may occur, could significantly reduce the market price of our common stock. Similarly, sales by Kingsbridge of any shares that we may sell to it under the CEFF

from time to time or upon the exercise of the warrant to purchase 365,000 shares of common stock that we issued to Kingsbridge in connection with the CEFF, or the expectation that sales may occur, could significantly reduce the market price of our common stock. In addition, the holders of a substantial number of shares of common stock may have rights, subject to certain conditions, to require us to file registration statements to permit the resale of their shares in the public market or to include their shares in registration statements that we may file for ourselves or other stockholders. Moreover, certain of our executive officers have established programmed selling plans under Rule 10b5-1 of the Securities Exchange Act for the purpose of effecting sales of common stock, and other employees and affiliates, including our directors and other executive officers, may choose to establish similar plans in the future. If any of our stockholders cause a large number of securities to be sold in the public market, the sales could reduce the trading price of our common stock. These sales also could impede our ability to raise future capital.

We may become involved in securities or other class action litigation that could divert management’s attention and harm our business.

The stock market has from time to time experienced significant price and volume fluctuations that have affected the market prices for the common stock of pharmaceutical and biotechnology companies. These broad market fluctuations may cause the market price of our common stock to decline. In the past, following periods of volatility in the market price of a particular company’s securities, securities class action litigation has often been brought against that company. In addition, over the last year, several class action lawsuits have been filed against pharmaceutical companies alleging that the companies’ sales representatives have been misclassified as exempt employees under the Federal Fair Labor Standards Act and applicable state laws. These lawsuits generally are in the early stages of litigation, and we cannot be certain as to how the lawsuits will ultimately be resolved. Although we have not been the subject of these types of lawsuits, we may be targeted in the future. Litigation often is expensive and diverts management’s attention and resources, which could adversely affect our business.

We are exposed to increased costs and risks related to complying with recently enacted and proposed changes in laws and regulations, including costs and risks associated with compliance with Section 404 of the Sarbanes-Oxley Act of 2002.

Recently enacted and proposed changes in the laws and regulations affecting public companies, including the provisions of the Sarbanes-Oxley Act of 2002 and rules proposed by the Securities and Exchange Commission and by the Nasdaq Global Market, have resulted in increased costs to us. In particular, we incur additional administrative expense in connection with our compliance with Section 404 of the Sarbanes-Oxley Act, which requires management to report on, and our independent registered public accounting firm to attest to, our internal controls on an annual basis. As part of our compliance with Section 404, we also rely on the continued effectiveness and adequacy of the internal controls at our key service providers. In addition, the new rules could make it more difficult or more costly for us to obtain certain types of insurance, including directors’ and officers’ liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. The impact of these events could also make it more difficult for us to attract and retain qualified persons to serve on our board, our board committees or as executive officers. We cannot predict or estimate the amount of the additional costs we may incur or the timing of such costs. If we, or the third party service providers on which we rely, fail to comply with any of these laws or regulations, or if our auditors cannot timely attest to our evaluation of our internal controls, we could be subject to regulatory scrutiny and a loss of public confidence in our corporate governance or internal controls, which could have an adverse effect on our business and our stock price.

Anti-takeover provisions in our organizational documents and Delaware law may discourage or prevent a change in control, even if an acquisition would be beneficial to our stockholders, which could adversely affect our stock price and prevent attempts by our stockholders to replace or remove our current management.

Our amended and restated certificate of incorporation and amended and restated bylaws contain provisions that may delay or prevent a change in control, discourage bids at a premium over the market price of our common stock and adversely affect the market price of our common stock and the voting and other rights of the holders of our common stock.

These provisions include:

	•		dividing our board of directors into three classes serving staggered three-year terms;

	•		prohibiting our stockholders from calling a special meeting of stockholders;

	•		permitting the issuance of additional shares of our common stock or preferred stock without stockholder approval;

	•		prohibiting our stockholders from making certain changes to our amended and restated certificate of incorporation or amended and restated bylaws except with 66 2/3% stockholder approval; and

	•		requiring advance notice for raising business matters or nominating directors at stockholders’ meetings.

We are also subject to provisions of the Delaware corporation law that, in general, prohibit any business combination with a beneficial owner of 15% or more of our common stock for five years unless the holder’s acquisition of our stock was approved in advance by our board of directors. Together, these charter and statutory provisions could make the removal of management more difficult and may discourage transactions that otherwise could involve payment of a premium over prevailing market prices for our common stock.

In addition, in November 2004, we adopted a stockholder rights plan, which was subsequently amended in April 2006. Although the rights plan will not prevent a takeover, it is intended to encourage anyone seeking to acquire our company to negotiate with our board prior to attempting a takeover by potentially significantly diluting an acquirer’s ownership interest in our outstanding capital stock. The existence of the rights plan may also discourage transactions that otherwise could involve payment of a premium over prevailing market prices for our common stock.

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

Unregistered Sales of Equity Securities

Not applicable.

Issuer Purchases of Equity Securities

We currently have no publicly announced share repurchase plan or program. All repurchased shares of common stock described in the following table were initially issued as equity incentive awards to employees, directors or consultants in the form of restricted stock or upon the exercise of early-exercisable but unvested stock options. All repurchases were made upon forfeiture of shares of common stock by the recipient of such equity incentive awards in connection with the termination of employment or other service relationship with us. Pursuant to the award agreements governing such grants, the repurchase price for all shares was equal to the price per share initially paid by the recipient. The following table provides information relating to our repurchase of shares of our common stock in the third quarter of 2007.

Maximum Number

Total

(or Approximate

Number of Shares

Dollar Value)

Total Number

Purchased as Part

of Shares That May

Average

of Publicly

Yet Be Purchased

Shares

Price Paid Per

Announced Plans

Under the Plans or

Period

Purchased

Share

or Programs

Programs

July 2007

—

August 2007

159

0.875

—

September 2007

—

Total

159

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


Exhibit
Number		Description

3.1(1)		Amended and Restated Certificate of Incorporation

3.2(1)		Amended and Restated Bylaws

3.3(2)		Certificate of Designations for Series A Junior Participating Preferred Stock

4.1(2)		Form of Common Stock Certificate

4.2(3)		Amended and Restated Investors’ Rights Agreement, dated April 30, 2003, among us and the parties named therein

4.3(3)		Amendment No. 1 to Amended and Restated Investors’ Rights Agreement, dated May 19, 2003, among us and the parties named therein

4.4(3)*		Stock Restriction and Registration Rights Agreement, dated January 26, 2001, between us and The Curators of the University of Missouri

4.5(3)		Form of Common Stock Purchase Warrant

4.6(2)		Rights Agreement, dated as of November 12, 2004, between us and American Stock Transfer & Trust Company, which includes the form of Certificate of Designations of the Series A Junior Participating Preferred Stock of Santarus, Inc. as Exhibit A, the form of Right Certificate as Exhibit B and the Summary of Rights to Purchase Preferred Shares as Exhibit C

4.7(4)		First Amendment to Rights Agreement, dated as of April 19, 2006, between us and American Stock Transfer & Trust Company

4.8(5)		Warrant to Purchase Shares of Common Stock, dated February 3, 2006, issued by us to Kingsbridge Capital Limited

4.9(5)		Registration Rights Agreement, dated February 3, 2006, between us and Kingsbridge Capital Limited

10.1+		Amendment No. 2 to Exclusive License Agreement, dated August 20, 2007, between us and The Curators of the University of Missouri

10.2+		Co-Promotion Agreement, dated August 24, 2007, between us and C.B. Fleet Company, Incorporated

31.1		Certification of Chief Executive Officer pursuant to Rules 13a-14 and 15d-14 promulgated under the Securities Exchange Act of 1934

31.2		Certification of Chief Financial Officer pursuant to Rules 13a-14 and 15d-14 promulgated under the Securities Exchange Act of 1934

32†		Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002


(1)		Incorporated by reference to the Quarterly Report on Form 10-Q of Santarus, Inc. for the quarter ended March 31, 2004, filed with the Securities and Exchange Commission on May 13, 2004.




(2)		Incorporated by reference to the Current Report on Form 8-K of Santarus, Inc., filed with the Securities and Exchange Commission on November 17, 2004.

(3)		Incorporated by reference to the Registration Statement on Form S-1 of Santarus, Inc. (Registration No. 333-111515), filed with the Securities and Exchange Commission on December 23, 2003, as amended.

(4)		Incorporated by reference to the Current Report on Form 8-K of Santarus, Inc., filed with the Securities and Exchange Commission on April 21, 2006.

(5)		Incorporated by reference to the Current Report on Form 8-K of Santarus, Inc., filed with the Securities and Exchange Commission on February 3, 2006.

*		Santarus, Inc. has been granted confidential treatment with respect to certain portions of this exhibit (indicated by asterisks), which portions have been omitted and filed separately with the Securities and Exchange Commission.

+		Application has been made to the Securities and Exchange Commission to seek confidential treatment of certain provisions. Omitted material for which confidential treatment has been requested has been filed separately with the Securities and Exchange Commission.

†		These certifications are being furnished solely to accompany this quarterly report pursuant to 18 U.S.C. Section 1350, and are not being filed for purposes of Section 18 of the Securities Exchange Act of 1934 and are not to be incorporated by reference into any filing of Santarus, Inc., whether made before or after the date hereof, regardless of any general incorporation language in such filing.

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.

Dated: November 1, 2007



	/s/ Debra P. Crawford
	Debra P. Crawford,
	Senior Vice President and Chief Financial Officer (Duly Authorized Officer and Principal Financial Officer)

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. sophomore Good

Santarus (SNTS) Inactive 10-Q2007 Q3 Quarterly report

Content analysis