Neurogen (NRGN) 10-Q 2007 Q4 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2007

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 000-18311

NEUROGEN CORPORATION

(Exact name of registrant as specified in its charter) 

Delaware (State or other jurisdiction of incorporation or organization)	22-2845714 (I.R.S. Employer Identification No.)
35 Northeast Industrial Road Branford, Connecticut (Address of principal executive offices)	06405 (Zip Code)

(203) 488-8201

(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.

Yes [X] 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 filer [ ]    Accelerated filer [X]   Non-accelerated filer [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes [ ] No [X]

As of November 7, 2007, the registrant had 41,993,266 shares of Common Stock outstanding.

FORM 10-Q

FOR THE THIRD QUARTER ENDED

SEPTEMBER 30, 2007

TABLE OF CONTENTS

PART I – FINANCIAL INFORMATION	PAGE
Item 1. Financial Statements	3
Condensed Consolidated Balance Sheets at September 30, 2007 and December 31, 2006	3
Condensed Consolidated Statements of Operations for the three-month and nine-month periods ended September 30, 2007 and 2006	4
Condensed Consolidated Statements of Cash Flows for the nine-month periods ended September 30, 2007 and 2006	5
Notes to Condensed Consolidated Financial Statements	6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	10
Item 3. Quantitative and Qualitative Disclosures about Market Risk	16
Item 4. Controls and Procedures	17
PART II – OTHER INFORMATION	17
Item 1. Legal Proceedings	17
Item 1A. Risk Factors	17
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	17
Item 3. Defaults upon Senior Securities	17
Item 4. Submission of Matters to a Vote of Security Holders	17
Item 5. Other Information	17
Item 6. Exhibits	18
Signatures	18

Page 2

PART I – FINANCIAL INFORMATION

ITEM 1 – FINANCIAL STATEMENTS

NEUROGEN CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except per share data)
(unaudited)
	September 30,			December 31,
	2007			2006
Assets
Current assets:
Cash and cash equivalents	$	29,925		$	56,170
Marketable securities		26,978			51,401
Receivables from corporate partners		208			209
Other current assets, net		2,744			2,813
Total current assets		59,855			110,593
Property, plant and equipment:
Land, building and improvements		31,732			31,682
Equipment and furniture		18,048			18,509
Construction in progress		3			85
		49,783			50,276
Less accumulated depreciation and amortization		23,918			23,191
Property, plant and equipment, net		25,865			27,085
Other assets, net		49			61
Total assets	$	85,769		$	137,739
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable and accrued expenses	$	8,162		$	8,481
Unearned revenue from corporate partners, current portion		-			7,520
Loans payable, current portion		1,471			1,454
Total current liabilities		9,633			17,455
Unearned revenue from corporate partners, net of current portion		-			6,768
Loans payable, net of current portion		7,871			8,976
Total liabilities		17,504			33,199
Commitments and Contingencies (Note 7)
Stockholders' Equity:
Preferred stock, par value $0.025 per share
Authorized 2,000 shares; none issued		-			-
Common stock, par value $0.025 per share
Authorized 75,000 shares; issued and outstanding 41,950 and 41,774
shares at September 30, 2007 and December 31, 2006, respectively		1,049			1,044
Additional paid-in capital		340,734			336,795
Accumulated deficit		(273,250	)		(232,442	)
Accumulated other comprehensive income		(268	)		(857	)
Total stockholders' equity		68,265			104,540
Total liabilities and stockholders' equity	$	85,769		$	137,739
See accompanying notes to condensed consolidated financial statements

Page 3

NEUROGEN CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands, except per share data)
(unaudited)
	Three Months Ended September 30,			Three Months Ended September 30,			Nine Months Ended September 30,			Nine Months Ended September 30,
	2007			2006			2007			2006
Operating revenues:
License fees	$	5,640		$	1,115		$	10,872		$	3,345
Research and development		1,859			962			4,565			4,362
Total operating revenues		7,499			2,077			15,437			7,707
Operating expenses:
Research and development		12,903			11,605			48,199			39,237
General and administrative		3,044			2,633			10,274			8,818
Total operating expenses		15,947			14,238			58,473			48,055
Operating loss		(8,448	)		(12,161	)		(43,036	)		(40,348	)
Other income (expense):
Investment and other income		703			810			2,539			2,547
Interest expense		(186	)		(214	)		(576	)		(636	)
Total other income, net		517			596			1,963			1,911
Loss before income taxes		(7,931	)		(11,565	)		(41,073	)		(38,437	)
Income tax benefit		42			670			265			670
Net loss	$	(7,889	)	$	(10,895	)	$	(40,808	)	$	(37,767	)
Basic and diluted loss per share	$	(0.19	)	$	(0.31	)	$	(0.98	)	$	(1.09	)
Shares used in calculation of loss per share:
Basic and diluted		41,910			34,618			41,832			34,534
See accompanying notes to condensed consolidated financial statements.

Page 4

NEUROGEN CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
(unaudited)
	Nine Months Ended September 30, 2007			Nine Months Ended September 30, 2006
Cash flows from operating activities:
Net loss	$	(40,808	)	$	(37,767	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation expense		1,749			1,760
Amortization of investment premium/discount		131			450
Non-cash compensation expense		2,946			3,974
401(k) match expense		712			697
Loss on disposal of assets		93			169
Changes in operating assets and liabilities:
Decrease (increase) in receivables from corporate partners		1			(21	)
Decrease in other assets, net		55			827
Decrease in accounts payable and accrued expenses		(319	)		(265	)
Decrease in unearned revenue from corporate partners		(14,288	)		(4,044	)
Net cash used in operating activities		(49,728	)		(34,220	)
Cash flows from investing activities:
Purchases of property, plant and equipment		(622	)		(1,240	)
Maturities and sales of marketable securities		24,881			41,972
Net cash provided by investing activities		24,259			40,732
Cash flows from financing activities:
Principal payments under loans payable		(1,088	)		(1,073	)
Proceeds from exercise of employee stock options		312			64
Net cash used in financing activities		(776	)		(1,009	)
Net (decrease) increase in cash and cash equivalents		(26,245	)		5,503
Cash and cash equivalents at beginning of year		56,170			11,241
Cash and cash equivalents at end of period	$	29,925		$	16,744
See accompanying notes to condensed consolidated financial statements

Page 5

NEUROGEN CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2007

(UNAUDITED)

(1) BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The unaudited condensed consolidated financial statements have been prepared from the books and records of Neurogen Corporation (“Neurogen” or the “Company”) in accordance with generally accepted accounting principles for interim financial information pursuant to Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete consolidated financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair statement of the Company's financial position and operations have been included. The condensed consolidated balance sheet at December 31, 2006 was derived from audited financial statements but does not include all disclosures required by accounting principles generally accepted in the United States of America. Therefore, the unaudited interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements, including the significant accounting policies described in Note 1, for the year ended December 31, 2006, included in the Company's Annual Report on Form 10-K. Interim results are not necessarily indicative of the results that may be expected for the full fiscal year.

(2) NATURE OF THE BUSINESS

The Company is subject to risks similar to other companies in the industry, including, but not limited to, the uncertainty of discovery and development of new drugs, the need for additional funding, dependence on key personnel, risks related to biotechnology, uncertainty of regulatory approval, and protection of proprietary technology. 

The Company expects to incur substantial and increasing losses for at least the next several years and will need substantial additional financing to obtain regulatory approvals, fund operating losses, and if deemed appropriate, establish manufacturing and sales and marketing capabilities, which the Company will seek to raise through equity or debt financings, collaborative or other arrangements with third parties or through other sources of financing.  There can be no assurance that such funds will be available on terms favorable to the Company, if at all.  There can be no assurance that the Company will successfully complete its research and development, obtain adequate patent protection for its technology, obtain necessary government regulatory approval for drug candidates the Company develops or that any approved drug candidates will be commercially viable.  In addition, the Company may not be profitable even if it succeeds in commercializing any of its drug candidates.

(3) COMPREHENSIVE LOSS

Comprehensive loss for the three-month periods ended September 30, 2007 and 2006 was $7,669,000 and $10,276,000, respectively. Comprehensive loss for the nine-month periods ended September 30, 2007 and 2006 was $40,219,000 and $37,179,000, respectively. The differences between net loss and comprehensive loss are due to changes in the net unrealized gain or loss on marketable securities.

(4) MARKETABLE SECURITIES

The following tables summarize the Company’s marketable securities (in thousands):

	September 30, 2007
	Amortized Cost		Gross Unrealized Gain		Gross Unrealized Loss			Fair Value
U.S. government notes	$	4,498	$	-	$	(25	)	$	4,473
Corporate notes and bonds		22,748		-		(243	)		22,505
Total	$	27,246	$	-	$	(268	)	$	26,978
	December 31, 2006
	Amortized Cost		Gross Unrealized Gain		Gross Unrealized Loss			Fair Value
U.S. government notes	$	11,997	$	-	$	(152	)	$	11,845
Corporate notes and bonds		40,261		-		(705	)		39,556
Total	$	52,258	$	-	$	(857	)	$	51,401

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The following table summarizes investment maturities at September 30, 2007 (in thousands):

	Amortized Cost		Fair Value
Less than one year	$	14,678	$	14,590
Due in 1 to 2 years		12,568		12,388
Total	$	27,246	$	26,978

The following table shows the gross unrealized losses and fair value of the Company's investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2007 (in thousands):

	Less than 12 Months				12 Months or More					Total
Descriptions of Securities	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
US Government Obligations and Direct Obligations of U.S.	$	-	$	-	$	4,473	$	(25	)	$	4,473	$	(25	)
Asset Backed Securities		-		-		1,738		(15	)		1,738		(15	)
Corporate Bonds		-		-		20,767		(228	)		20,767		(228	)
Total	$	-	$	-	$	26,978	$	(268	)	$	26,978	$	(268	)

For the investments in all three categories shown in the above table (comprising 18 securities in aggregate), the unrealized losses were caused primarily by interest rate increases.

Based on the contractual terms and credit quality of these securities, and current market conditions, the Company does not consider it likely that any of them will be settled by the issuer at a price less than the amortized cost of the investments. Since the Company believes it has the ability and intends to hold these investments until a recovery of fair value, which may be at maturity, and because the decline in market value is attributable to changes in interest rates and not credit quality, the Company does not consider these investments to be other-than-temporarily impaired at September 30, 2007.

(5)  STOCK-BASED COMPENSATION

The Company has certain stock incentive plans under which it has awarded incentive and non-qualified stock options and restricted stock. Stock options are generally granted at fair market value at the date of grant, with vesting schedules that range from immediate vesting (typically in the case of grants to consultants) to four or five years (typically in the case of grants to employees), and expire up to ten years after grant. Under all plans at September 30, 2007, there were 7,202,983 shares reserved for future issuance (of which 5,750,288 are reserved for options outstanding and 1,452,695 are available for future grant as options or restricted stock). In addition, 32,500 shares of unvested restricted stock issued from the plans remain outstanding as of September 30, 2007.

Stock Options

The following table presents the combined activity of the Company’s stock option plans (excluding unvested restricted stock of 32,500 shares) for the nine-month period ended September 30, 2007:

	Options			Weighted Average Exercise Price		Weighted Average Remaining Contractual Term		Aggregate Intrinsic Value
Outstanding at January 1		5,442,845		$	11.96
Granted		1,065,000			6.26
Exercised		(86,343	)		5.58
Canceled		(671,214	)		10.83
Outstanding at September 30		5,750,288		$	11.13		4.7	$	181,629
Options exercisable at September 30		3,615,938		$	13.63		3.4	$	165,662

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For the nine months ended September 30, 2007 and 2006, the Company recorded $2,867,000 and $3,530,000, respectively, of expense for employee options as a result of SFAS No. 123R. The Company adopted SFAS No. 123R in the first quarter of 2006. No income tax benefit has been recorded as the Company has recorded a full valuation allowance.

Option grants to employees that allow for immediate vesting due to retirement are expensed over the period from grant date to retirement eligibility date. Options granted to Directors which allow for immediate vesting upon termination of service are expensed immediately.

The estimated weighted average fair value at the date of grant for options granted in the nine months ended September 30, 2007 and 2006 was $4.13 and $4.09, respectively, using the Black-Scholes method with the following weighted average assumptions:

	Nine Months Ended September 30, 2007	Nine Months Ended September 30, 2006
Expected life	5.5-6.5 years	5.1-6.5 years
Risk-free interest rate	4.5%-5.0%	4.8%
Volatility	70%-73%	75%-77%
Expected dividend yield	0%	0%

The compensation cost related to unvested options at September 30, 2007 to be recognized in the future is approximately $4,691,000, which will be recognized as expense over the remaining weighted-average vesting period of 1.1 years at September 30, 2007.

Non-Cash Stock Compensation Expense

The composition of non-cash stock compensation expense is summarized as follows (in thousands):

	Three Months Ended September 30, 2007		Three Months Ended September 30, 2006		Nine Months Ended September 30, 2007		Nine Months Ended September 30, 2006
Restricted stock (net of cancellations)	$	11	$	79	$	53	$	345
Options granted to consultants		-		-		-		39
SFAS No. 123R expense		591		1,029		2,867		3,530
Total non-cash stock compensation expense	$	602	$	1,108	$	2,920	$	3,914

(6) NET LOSS PER COMMON SHARE

The Company computes and presents net loss per common share in accordance with SFAS No. 128, “Earnings Per Share.” Basic loss per share reflects no dilution for common equivalent shares and is computed by dividing net loss by the weighted average number of common shares outstanding for the period. Diluted loss per share is computed by dividing net loss by the weighted average number of common and common equivalent shares outstanding during the period. Common equivalent shares consist of stock options and unvested restricted stock and are calculated using the treasury stock method. Since the Company is in a loss position for all periods presented, the effect of potential common equivalent shares would have been anti-dilutive; therefore, the calculation of diluted loss per share does not consider the effect of stock options and unvested restricted stock.

Options and unvested restricted stock outstanding as of September 30, 2007 and 2006 of 5,782,788 and 5,345,079, respectively, represented all potentially dilutive securities that were excluded for the calculation of diluted loss per share.

Page 8

(7) CONCLUSION OF RESEARCH PROGRAM

On May 30, 2007, Neurogen was notified by Merck & Co., Inc. (“Merck”) that the Company’s research program component of its collaboration with Merck under the Research Collaboration and License Agreement (the “Merck Agreement”) relating to drugs that block the vanilloid receptor-1 (“VR1”) would conclude on August 28, 2007.  The license, development and potential commercialization components of the Merck Agreement will continue. However, the Company has no ongoing obligation with respect to the Merck research program.

The conclusion of the research program resulted in the acceleration of revenue recognition of previously unearned license and nonsubstantive milestone revenue; the incremental impact on the three-month period ended September 2007 was the recognition of the remaining $7,499,000 of unearned revenue.

The receivables from corporate partners as of September 30, 2007 included approximately $161,000 in patent expense reimbursements from Merck.

(8) COMMITMENTS AND CONTINGENCIES

In the second quarter of 2004, the Company was informed that the Connecticut Department of Environmental Protection (the "DEP") was considering taking action against the Company as a result of incidents where the Company's wastewater monitoring systems indicated that the wastewater pH limits of the Company's wastewater discharge permit had been exceeded.  During the third quarter of 2007, the Company received from the DEP a proposed Consent Order addressing the incidents originally identified by the DEP in 2004.  Following discussions between the DEP and the Company, the two parties agreed on a final Consent Order that was entered into effective September 26, 2007.  The final Consent Order required the Company to certify that the Company’s wastewater treatment system operates in compliance with past system improvements adopted by the Company and to pay a nominal penalty.   The Company is not aware of any negative environmental impacts resulting from the incidents that were the subject of the Consent Order, but continues to carefully monitor its wastewater neutralization systems in an effort to prevent any further incidents and maintain compliance with its permit conditions.

(9) INCOME TAXES

As of January 1, 2007, the Company adopted Financial Interpretation Number (FIN) 48, an interpretation of SFAS No. 109, which clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements.

The evaluation of a tax position in accordance with FIN 48 is a two-step process. The first step is recognition: The enterprise determines whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The second step is measurement: A tax position that meets the more-likely-than-not recognition threshold is measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement.

Neurogen has never paid federal or state income taxes due to its history of net operating losses.  The Company’s policy is to recognize interest and penalties related to income tax matters in income tax expense.  As of January 1 and September 30, 2007, the Company had no accruals for interest or penalties related to income tax matters.

The Company believes that only one tax matter has uncertainty and it relates to an anticipated refund from the state of Connecticut.  Connecticut tax law provisions allow certain companies to obtain cash refunds at an exchange rate of 65% of their research and development credits, in exchange for foregoing the carryforward of these credits into future tax years.

The Company believes that it is entitled to a larger cash refund for tax credit carryovers from the state of Connecticut for certain prior years.  In the second quarter of 2006, the Company filed five complaints in Superior Court (for the tax years 2000-2004) seeking cash refunds of certain unused research and development tax credits that the Company alleges were wrongfully disallowed by the State of Connecticut. All five cases are entitled Neurogen Corporation v. Pam Law, Commissioner of Revenue Services of the State of Connecticut and are filed in Superior Court, Tax Session, for the State of Connecticut sitting in the Judicial District of New Britain and have case numbers HHB-CV-06-4010825S HAS, HHB-CV-06-4010826S HAS, HHB-CV-06-4010827S HAS, HHB-CV-06-4010828S HAS, and HHB-CV-06-4010882S HAS. Other Connecticut biotechnology companies also filed similar complaints. The plaintiffs and the state have filed cross-motions for Partial Summary Judgment. The Court denied both motions but requested further briefing on certain issues.  Hearings on certain issues have occurred since then and further proceedings are scheduled to reach a final decision at the trial court level.  The Company has fully reserved any assets related to this matter.

As of September 30, 2007, the Company is subject to U.S. federal and state income tax in Connecticut. Years subject to audit are years in which unused net operating losses were generated that remain open by the statute of limitation for examinations. Tax years from 1992 forward remain open to examination by U.S. federal authorities, and tax years from 1998 forward remain open to examination by state authorities.

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(10) RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.”  SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. The standard is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The Company does not believe that its adoption in the first quarter of 2008 will have a material impact on the Company’s financial statements.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities,” which includes an amendment of SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The standard is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The Company does not believe that its adoption in the first quarter of 2008 will have a material impact on the Company’s financial statements. 

In October 2007, the FASB issued EITF Issue No. 07-3, “Accounting for Nonrefundable Advance Payments for Goods or Services to Be Used in Future Research and Development Activities” (“EITF Issue No. 07-3”). EITF Issue No. 07-3 provides that nonrefundable advance payments made for goods or services to be used in future research and development activities should be deferred and capitalized until the related goods are delivered or services are performed, at which point the amounts would be recognized as expense.  The Issue is effective for fiscal years beginning after December 15, 2007 and interim periods within those fiscal years.  The Company does not expect that the adoption of EITF Issue No. 07-3 will have a material effect on its financial position or results of operations.

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

FORWARD-LOOKING STATEMENTS

Statements that are not historical facts, including statements about the Company’s confidence and strategies, the status of various product development programs, the sufficiency of cash to fund planned operations and the Company’s expectations concerning its development compounds, drug discovery technologies and opportunities in the pharmaceutical marketplace are “forward-looking statements” within the meaning of the Private Securities Litigations Reform Act of 1995 that involve risks and uncertainties and are not guarantees of future performance. These risks include, but are not limited to, difficulties or delays in development, testing, regulatory approval, production and marketing of any of the Company’s drug candidates, the failure to attract or retain key personnel, any unexpected adverse side effects or inadequate therapeutic efficacy of the Company’s drug candidates which could slow or prevent product development efforts, competition within the Company’s anticipated product markets, the Company’s dependence on corporate partners with respect to research and development funding, regulatory filings and manufacturing and marketing expertise, the uncertainty of product development in the pharmaceutical industry, inability to obtain sufficient funds through future collaborative arrangements, equity or debt financings or other sources to continue the operation of the Company’s business, risk that patents and confidentiality agreements will not adequately protect the Company’s intellectual property or trade secrets, dependence upon third parties for the manufacture of potential products, inexperience in manufacturing and lack of internal manufacturing capabilities, dependence on third parties to market potential products, lack of sales and marketing capabilities, potential unavailability or inadequacy of medical insurance or other third-party reimbursement for the cost of purchases of the Company’s products, and other risks detailed in the Company’s Securities and Exchange Commission filings, including its Annual Report on Form 10-K for the year ended December 31, 2006, each of which could adversely affect the Company’s business and the accuracy of the forward-looking statements contained herein.  Any new material changes in risk factors since the Annual Report on Form 10-K for the year ended December 31, 2006 are discussed further in Part II, Item 1A.

OVERVIEW

Since its inception in September 1987, Neurogen has been engaged in the discovery and development of drugs. The Company has not derived any revenue from product sales and has incurred, and expects to continue to incur, significant losses in most years prior to deriving any such product revenues or earnings. Revenues to date have come from six collaborative research agreements, one license agreement and one technology transfer agreement.

In the period ended September 30, 2007, the conclusion of the VR1 research program with Merck (of which the Company was notified on May 30, 2007) resulted in an acceleration of revenue and a net loss decrease of $5.1 million.  The effect of the conclusion of the research program was to accelerate the recognition of the remaining unearned license revenue (from the initial payment by Merck in January 2004 and the subsequent anniversary payments in December 2004, 2005 and 2006) and nonsubstantive milestone revenue (from the payment received in October 2006). Prior to the conclusion, and from the initiation of the Merck Agreement, the initial payment had been recognized ratably over a five year period ending December 2008 while subsequent anniversary payments and the nonsubstantive milestone payment were recognized ratably over the remaining period after the effective date through December 2008. The conclusion resulted in a change in the estimated length of the performance period under the collaboration. The change is such that all unearned revenue was fully recognized by August 28, 2007 when the research program conclusion became effective.  Refer to Critical Accounting Judgments and Estimates below for a more complete discussion of revenue recognition methodology.

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During the third quarter of 2007, the Company incurred significant expenses in conducting clinical trials and other development activities, such as formulation testing and toxicology studies, adipiplon (formerly NG2-73), the Company’s lead compound in its insomnia program, and NGD-4715, the Company’s lead compound in its obesity program.  Adipiplon, which the Company is currently preparing for Phase 3 testing and has been tested in over 600 subjects in eight clinical studies, is the Company’s most advanced drug candidate. If adipiplon continues to progress through Phase 3 studies without the Company entering into an agreement to partner with another firm to share costs and future revenue, clinical trial and other development expenses related to adipiplon will continue to increase. The actual amount of future development expenses will derive from the level of development activities being conducted and the level of these activities is contingent on the results of ongoing studies. Research and development expenses accounted for 82% of total expenses in the nine-month periods ended September 30, 2007 and 2006. The Company will continue to seek early stage partnerships for some research and development programs, while it selectively retains the rights to other drug programs to more advanced stages before considering partnership arrangements. The decision of whether and when to partner a program is based on an analysis of development risk, resources required to complete each regulatory stage, and the amount of immediate versus long term return that could be extracted at each stage of development.

Collaborative agreements have been and are expected to continue to be a source of funding for the Company. Such arrangements not only drive current revenue (through the recognition of upfront and subsequent license fees, research funding and potential milestone payments), but over the longer term these arrangements may have a significant impact on potential future product revenue and earnings in the form of royalties if the agreements result in successful drug development and commercialization. The initiation, expiration and specific terms of such agreements have contributed to, and will continue to cause, significant fluctuations in the Company’s recognized revenues and losses.

RESULTS OF OPERATIONS

Results of operations may vary from period to period depending on numerous factors, including the timing of income earned under existing or future collaborative agreements, the progress of the Company's independent and partnered research and development projects, the size of the Company's staff and the level of preclinical and clinical development spending on drug candidates in unpartnered programs. Neurogen believes its research and development costs could increase over the next several years as its drug development programs progress. In addition, general and administrative expenses would be expected to increase to support any expanded research and development activities.

Three Months Ended September 30, 2007 and 2006

The Company's operating revenues for the three months ended September 30, 2007 increased $5.4 million to $7.5 million from $2.1 million for the same period in 2006.  The three months ended September 30, 2007 include accelerated recognition of $5.1 million in license and research revenue under the Merck Agreement (as discussed above) due to the conclusion of the research program component of the Company’s VR1 collaboration with Merck.  The research program and the Company’s remaining obligations concluded as of August 28, 2007, and as such, remaining unearned revenue was recognized ratably over the period between May 30 and August 28, 2007.

Research and development expenses for the three months ended September 30, 2007 were $12.9 million compared to $11.6 million for the same period in 2006. The $1.3 million or 11% increase was due primarily to a $1.0 million increase in the Company’s outsourced clinical expenses. In the Company’s insomnia program, outsourced clinical expenses increased in 2007 by $0.7 million from $0.9 million to $1.6 million.  In addition, outsourced clinical expenses in the Company’s obesity program increased by $0.3 million in 2007 for Phase 1 clinical trials on the Company’s lead compound, NGD-4715.  Outsourced development expenses such as toxicology studies, chemical manufacturing and formulations for all of the Company’s unpartnered programs increased by $0.9 million from $2.4 million in 2006 to $3.3 million in 2007.  Finally, these outsourced expenses were offset by a decrease in salaries and benefits expense of $0.5 million and a net decrease in recruiting and relocation expense, supplies and research expense, computer and office supplies expense, and travel, meals and training expense of $0.1 million. As mentioned above, unless currently unpartnered programs are partnered, the Company retains all rights to the programs and it expects that development costs will increase as each program progresses.

The Company expenses all research and development costs as incurred. While the Company maintains a system to record the level of staff time spent on each of its research and development projects, it does not maintain a historical cost accounting system with sufficient accuracy to reliably estimate its research and development costs on a specific project-by-project basis. A significant portion of the Company's research and development expenses (such as laboratory supplies, travel, information systems and services and facilities costs) benefit multiple projects and are not individually tracked to a specific project. Further, the Company's staff timekeeping system does not account for differences in compensation costs between lower level technicians and more senior scientists.

General and administrative expenses for the three months ended September 30, 2007 were $3.0 million compared to $2.6 million for the same period in 2006. The $0.4 million or 16% increase in expenses was due primarily to increases in patent, legal, and market research expenses.

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Other income, net of interest expense, was $0.5 million for the three months ended September 30, 2007 compared to $0.6 million for the same period in 2006.

For the three months ended September 30, 2007, the Company recorded an income tax benefit of $0.04 million for the sale of R&D credits generated during this period to the State of Connecticut for cash.   Prior to the fourth quarter of 2006, the Company had recorded the sale of the credits for the prior year at the time of filing the previous year’s tax return, typically in September of the following year. Therefore, in the quarter ending September 30, 2006, the $0.7 million includes the estimated sale of R&D credits for 2005. However, in the fourth quarter of 2006, the Company determined that it is more likely than not that it will continue to sell the credits to the State for cash, and as a result of this change in estimate, the Company recorded the sale of credits generated for 2006 in the fourth quarter of 2006.

The Company recognized a net loss of $7.9 million for the three months ended September 30, 2007 compared to $10.9 million for the same period in 2006. The $3.0 million decrease in net loss was a result of the accelerated recognition of previously unearned license and research revenue under the Merck Agreement partially offset by the increase in research and development and general and administrative expenses.

Nine Months Ended September 30, 2007 and 2006

The Company’s operating revenues for the nine months ended September 30, 2007 were $15.4 million compared to $7.7 million for the same period in 2006. The $7.7 million increase resulted primarily from the accelerated recognition of $8.2 million in license and research revenue associated with the original license fee, three anniversary payments, and a non-substantive milestone under the Merck Agreement (as discussed above) due to the conclusion of the research program component of the Company’s VR1 collaboration with Merck.  The acceleration was offset by a decrease in research revenue associated with FTE funding of $0.5 million, which consisted $0.3 million in revenue recognized in September 2006 for FTE funding received and unearned at the end of 2005 as well as $0.2 million associated with the shortened research program period in 2007.  The research program and the Company’s remaining obligations concluded as of August 28, 2007, and as such, remaining unearned revenue was recognized ratably over the period between May 30 and August 28, 2007.

Research and development expenses for the nine months ended September 30, 2007 were $48.2 million compared to $39.2 million for the same period in 2006. The 9.0 million or 23% increase was due primarily to a $9.0 million increase in the Company’s outsourced clinical expenses. In the Company’s insomnia program, outsourced clinical expenses increased in 2007 by $6.4 million from $6.2 million to $12.6 million.  In addition, outsourced clinical expenses in the Company’s obesity program increased by $1.9 million in 2007 for Phase 1 clinical trials on the Company’s lead compound, NGD-4715.  Additionally, the Company incurred outsourced development expense of $0.7 million in 2007 as a result of a payment to Wyeth Pharmaceuticals, a division of Wyeth (“Wyeth”), for products received for clinical studies and initial clinical study costs.  Outsourced development expenses such as toxicology studies, chemical manufacturing and formulations for all of the Company’s unpartnered programs increased by $1.5 million from $7.8 million in 2006 to $9.3 million in 2007.  Finally, these outsourced expenses were offset by a decrease in salaries and benefits expense of $0.9 million and a decrease in utilities and supplies and research expense of $0.6 million.

General and administrative expenses for the nine months ended September 30, 2007 were $10.3 million compared to $8.8 million for the same period in 2006. The $1.5 million increase in expenses was due primarily to higher patent expenses, legal, market research, and general supplies.

Other income, net of interest expense, was $2.0 million for the nine months ended September 30, 2007 compared to $1.9 million for the same period in 2006.

The Company recognized a net loss of $40.8 million for the nine months ended September 30, 2007 compared to $37.8 million for the same period in 2006. The $3.0 million increase in net loss was due primarily to the increase in research and development and general and administrative expenses discussed above offset by the accelerated recognition of previously unearned license and research revenue under the Merck Agreement.

LIQUIDITY AND CAPITAL RESOURCES

Cash and Marketable Securities

At September 30, 2007 and December 31, 2006, cash, cash equivalents and marketable securities in the aggregate were $56.9 million and $107.6 million, respectively. The decrease is due to funding operations and advancing the Company’s programs as mentioned above.  Marketable securities of $12.4 million at September 30, 2007 had maturities beyond one year. However, the Company can and may liquidate such investments prior to maturity to meet its operating, strategic and/or investment objectives.

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The levels of cash, cash equivalents and marketable securities have fluctuated significantly in the past and are expected to do so in the future as a result of operating needs and financing events. The Company intends to use its cash to pursue the further development of compounds in human clinical trials, the capabilities of its drug discovery platform and to enhance its capacity to pursue new drug targets, as well as fund general and corporate overhead. The Company believes this may allow it to retain a greater portion of commercial rights, potentially establish more valuable partnerships, and retain greater control over the drug development process.

Evaluation of Investments for Other-Than-Temporary Impairment

In accordance with FASB Staff Position (“FSP”) SFAS No. 115-1 and SFAS No. 124-1, “The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments,” the Company reviewed its marketable securities portfolio, which consists of U.S. Treasury obligations, direct obligations of U.S. Government agencies, investment-grade asset-backed securities and corporate debt obligations, for potential other-than-temporary impairment. Gross unrealized losses related to the Company’s investments totaled $0.3 million (based on an aggregate fair value of $27 million for all investments in unrealized loss positions) as of September 30, 2007. All marketable securities held at September 30, 2007 have been in a continuous loss position for twelve months or more, and the related unrealized loss was $0.3 million. The Company believes that the decline in market values of these investments resulted primarily from rising interest rates and not credit quality.

The Company believes it has the ability and intends to hold investments that mature in the next twelve months until maturity and thereby recover the fair market value. Unrealized losses related to securities that mature beyond the next twelve months, and that have been in a continuous unrealized loss position for twelve months or more, amounted to $0.2 million, or 1.6%, of the total market value of such marketable securities as of September 30, 2007. The Company has not recorded any losses for other-than-temporary impairment at this time; however, if interest rates rise and such unrealized losses become more significant, the Company may record impairment losses. In evaluating the unrealized losses, the Company considered the nature of the investments, current credit ratings, maturity dates and the Company’s projected cash requirements.

Debt Arrangements

The debt agreements entered into by the Company to date include a commercial term mortgage loan financing in December 2001 with Webster Bank, and a construction loan entered into in October 1999 with Connecticut Innovations, Inc. (“CII”). Total proceeds received under these agreements were $22.5 million, which are repayable through monthly installments over a maximum term of 15 years. Interest rates on these loans ranged from 6.9% to 8.0% in 2006 and through September 30, 2007. Of the amounts borrowed, $5.8 million and $3.5 million remained outstanding as of September 30, 2007 under the Webster Bank facility and the CII facility, respectively. An approximate aggregate amount of $1.5 million is due and payable in each of the next four years and $1.6 million is due and payable in the fifth year, including a balloon payment of $1.0 million on the mortgage loan upon maturity in December 2011. Thereafter, the remaining aggregate balance of approximately $1.7 million is payable in regular installments until the scheduled maturity date. The Company made $1.1 million in principal repayments on outstanding loans during each of the nine-month periods ended September 30, 2007 and 2006.

As of September 30, 2007, Neurogen does not have any significant lease or capital expenditure commitments.

Financing Activities and Liquidity

Neurogen's cash requirements to date have been met primarily by the proceeds of its equity financing activities, amounts received pursuant to collaborative research, licensing or technology transfer arrangements, certain debt arrangements and interest earned on invested funds. The Company's equity financing activities have included underwritten public offerings of common stock, private placement offerings of common stock and private sales of common stock in connection with collaborative research and licensing agreements. The Company's expenditures have funded research and development, general and administrative expenses, and the construction and outfitting of its research and development facilities.

The Company may from time to time, as warranted by its operating and strategic requirements, further augment its cash balance through financing transactions, including the issuance of debt or equity securities and further corporate alliances. No assurances can be given that adequate levels of additional funding can be obtained on favorable terms if at all. The Company filed an S-3 registration statement that became effective in February 2003, under which the Company may issue debt, common or preferred stock or warrants of up to $75.0 million in total financing. To date, the Company has issued approximately $55.0 million in common stock pursuant to this S-3 registration statement; the $55.0 million consists of  $15.0 million the Company received from Merck for the purchase of 1,783,252 shares in January 2004 and approximately $40.0 million (before transaction costs) the Company received in a public offering of 6,993,000 shares in December 2006.

In May 2007, the Company filed an S-3 registration statement that became effective in June 2007, under which the Company may issue debt, common or preferred stock or warrants of up to $100.0 million in total financing.  The Company has not sold any securities pursuant to this S-3 registration statement to date.

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The Company is in the early stage of product development. The Company has not derived any product revenues from product sales and does not expect to derive any product revenues for at least the next several years, if at all. Prior to deriving any such product revenues, the Company expects to incur significant losses and negative cash flows that in the aggregate could exceed the Company's existing cash resources. To provide cash to fund its operations until such time as it achieves sustainable revenues, the Company relies extensively on its ability to develop drug discovery programs of sufficient value to either partner the programs with pharmaceutical companies or raise capital through debt or equity financings.

To the extent that drug candidates progress in the Company's currently unpartnered programs, such as its proprietary insomnia program, its program for the treatment of depression and anxiety, its program to treat obesity, or earlier stage programs, such progress could lead to the opportunity to partner on terms which provide capital, revenues and cash flows to the Company or the opportunity to raise capital through equity offerings. If unpartnered programs do not progress or do not progress on schedule, such opportunities would be delayed or may not materialize at all.

To the extent that drug candidates progress in the Company's VR1 program partnered with Merck, such progress could result in milestone payments and royalties. Such progress could also provide the opportunity to raise capital through equity offerings. The Company does not have control over the progress of the VR1 program.

Lack of progress, scheduling delays or failures in any of the Company's major programs could significantly reduce the Company's levels of revenues, cash flows and cash available to fund its business. These factors could also significantly increase the Company's cost of capital and limit its ability to raise equity capital. All of the Company's compounds in development, whether in human clinical trials or not, will require significant additional research, development and testing before they can be commercialized. Furthermore, the scope, magnitude and timing of future research and development expenses, as well as anticipated project completion dates, are a series of steps, ranging from preclinical testing to clinical studies in humans. Each step in the process is typically more expensive than the previous step, but actual timing and cost for completion depends on the specific progress of each product being tested.

While the Company cannot accurately predict the time required or the cost involved in commercializing any one of its candidates, new drug development typically takes many years and tens or hundreds of millions of dollars. In addition, developing new drugs is an extremely uncertain process where most candidates fail and uncertain developments such as clinical or regulatory delays, side effects, undesirable drug properties or ineffectiveness of a drug candidate would slow or prevent the development of a product. If Neurogen or its partners are unable to commercialize one or more of the drugs that may result from its development programs, the Company may never achieve product revenues and may eventually be unable to continue operations. This result would cause its stockholders to lose all or a substantial portion of their investment.

Neurogen anticipates that its current cash and marketable securities amounts will be sufficient to fund its current and planned operations into at least mid to late 2008. However, Neurogen's funding requirements may change and will depend upon numerous factors, including but not limited to:

§ the progress of the Company's research and development programs;

§ the timing and results of preclinical testing and clinical studies;

§ the timing of regulatory approvals;

§ determinations as to the commercial potential of its proposed products;

§ the status of competitive products; and

§ the ability of the Company to establish and maintain collaborative arrangements with others for the purpose of funding certain research and development programs; conducting clinical studies; obtaining regulatory approvals and, if such approvals are obtained, manufacturing and marketing products.

Many of these factors could significantly increase the Company's expenses and use of cash. If adequate funds are not available, we may be required to:

§ delay, reduce the scope of or, eliminate our research and development programs;

§ reduce our planned commercialization efforts;

§ obtain funds through arrangements with collaborators or others on terms unfavorable to us or that may require us to relinquish rights to certain drug candidates that we might otherwise seek to develop or commercialize independently; and/or

§ pursue merger or acquisition strategies.

Additionally, any future equity funding may dilute the ownership of our equity investors.

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Tax Benefits

As of December 31, 2006, the Company had approximately $210.2 million of net operating loss carryforwards and $12.8 million of research and development credit carryforwards available for federal income tax purposes, which expire in the years 2007 through 2026. When the Company filed its 2005 federal tax return in September 2006, it capitalized research and development expenditures for federal tax purposes of $38.5 million, which reduced its federal net operating loss carryover. The Company also has approximately $173.2 million in Connecticut state tax net operating loss carryforwards, which expire in the years 2020 through 2026, and $7.3 million of Connecticut non-incremental research and development credit carryforwards with an unlimited carryforward period. The Company has provided a valuation allowance for the full amount of its net deferred tax asset.

Due to “change in ownership” provisions of the Tax Reform Act of 1986, the Company's utilization of its net operating loss and research and development credit carryforwards may be subject to an annual limitation in future periods. In 2006, the Company reviewed its changes in ownership through a testing date of December 31, 2005 and determined that an ownership change occurred in 2005. The change of ownership did not have the effect of reducing the amount of net operating loss carryforwards but has limited approximately $1.1 million of the tax credits existing at the date of the ownership change that the Company may utilize in the taxable years following the change.

RESEARCH COLLABORATIONS

Merck

In December 2003, Neurogen entered into a collaboration agreement with Merck to research, develop, and commercialize small molecule medicines that work by targeting the vanilloid receptor (“VR1”), a key integrator of pain signals in the nervous system. In January 2004, under the terms of the Merck Agreement, the Company received a payment of $15.0 million for license fees and sold to Merck 1,783,252 shares of newly issued Neurogen common stock for an additional $15.0 million. Merck agreed, among other things, to fund a specified level of discovery and research resources for an initial three year period and to pay additional license fees (totaling $7.0 million) on the first three anniversary dates of the collaboration. Under the Merck Agreement, Merck is responsible for funding the cost of development, including clinical trials, manufacturing and marketing of collaboration products, if any. Merck will pay Neurogen royalties based upon net sales levels, if any, for collaboration products.

The agreement provided Merck the option to extend the discovery and research effort for up to an additional two years. On September 29, 2006, Neurogen and Merck agreed to amend the Merck Agreement to extend the research program component of their VR1 collaboration for one year until December 28, 2007. Under the amended collaboration agreement, Merck had the option to end the research program component of the collaboration and the remainder of any associated funding by providing 90 days advance written notice to Neurogen. Merck exercised this right, and notice was provided to Neurogen on May 30, 2007. The research component of the Merck Agreement and the Company’s remaining obligations concluded on August 28, 2007. The conclusion resulted in the acceleration of revenue recognition of previously unearned license and nonsubstantive milestone revenue; the incremental impact on the three-month period ended September 30, 2007 was recognition of the remaining $7.5 million of deferred revenue.

As of September 30, 2007, the Company has received $13.1 million of research funding from Merck, two $2.5 million license payments on the first and second anniversary dates of the collaboration in December 2004 and 2005 and one $2.0 million license payment on the third anniversary date of the collaboration in December 2006. The Company is eligible to receive milestone payments if certain compound discovery, product development or regulatory objectives are achieved through the collaboration. Milestones received to date include a preclinical milestone of $3.0 million in the second quarter of 2004, a clinical milestone of $2.0 million received in the first quarter of 2006 and a second clinical milestone of $3.0 million received in late October 2006.

IN-LICENSING AGREEMENT

Wyeth

In November 2006, Neurogen acquired worldwide rights to Aplindore, a small molecule partial agonist for the D2 dopamine receptor, from Wyeth. Along with the initial $3.0 million license fee paid upon signing, which was expensed in the fourth quarter of 2006, Neurogen paid Wyeth for the shipment of compound material suitable for Phase 2 trials in February 2007. Neurogen will pay approximately $0.3 million in annual maintenance fees upon the annual anniversaries of the effective date of the agreement until NDA approval. There is also potential for Neurogen to pay milestone payments upon the successful achievement of clinical development and regulatory events and eventual commercialization in identified countries as well as royalties on worldwide sales. Neurogen has the option to terminate the agreement by providing 90 days advance written notice to Wyeth. Neurogen expects to commence Phase 2 trials in Parkinson's disease and restless legs syndrome (“RLS”) with Aplindore in late 2007 or early 2008. The compound was initially developed by Wyeth for use in schizophrenia, and Wyeth had studied the compound in six Phase 1 clinical trials involving over 100 healthy volunteers and over 100 schizophrenic patients.

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CRITICAL ACCOUNTING JUDGMENTS AND ESTIMATES

The discussion and analysis of financial condition and results of operations are based upon the Company’s condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The presentation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and disclosure of contingent assets and liabilities. Management makes estimates in the areas of revenue recognition, accrued expenses, income taxes, stock-based compensation, and marketable securities, and bases the estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. For a complete description of the Company’s accounting policies, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies,” and “Notes to Consolidated Financial Statements” in Neurogen Corporation’s Form 10-K for the year ended December 31, 2006.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.”  SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.  The standard is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years.  The Company does not believe that its adoption in the first quarter of 2008 will have a material impact on the Company’s financial statements.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities,” which includes an amendment of SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The standard is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years.  The Company does not believe that its adoption in the first quarter of 2008 will have a material impact on the Company’s financial statements.

In October 2007, the FASB issued EITF Issue No. 07-3, “Accounting for Nonrefundable Advance Payments for Goods or Services to Be Used in Future Research and Development Activities” (“EITF Issue No. 07-3”). EITF Issue No. 07-3 provides that nonrefundable advance payments made for goods or services to be used in future research and development activities should be deferred and capitalized until the related goods are delivered or services are performed, at which point the amounts would be recognized as expense.  The Issue is effective for fiscal years beginning after December 15, 2007 and interim periods within those fiscal years.  The Company does not expect that the adoption of EITF Issue No. 07-3 will have a material effect on its financial position or results of operations.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest rate risk. The Company's investment portfolio includes investment grade debt instruments. These securities are subject to interest rate risk and could decline in value if interest rates fluctuate. Increasing interest rates have led to a decline in market values of fixed-rate investments held as of September 30, 2007. The Company considers such impairment as temporary because of its ability and intent to hold these investments until a recovery of fair value, which may be at maturity.

The following table provides information about the Company's financial instruments that are sensitive to changes in interest rates:

Fair value of investments with expected maturities in the following years (in thousands):
	2007			2008			2009			Total
Fixed Rate Investments	$	4,987		$	14,025		$	7,966		$	26,978
Weighted Average Interest		3.6	%		4.5	%		3.8	%		4.1	%

Capital market risk. The Company currently has no product revenues and is dependent on funds raised through other sources. One source of funding is through collaborative partnerships with large pharmaceutical companies, which sometimes include an equity purchase by Neurogen’s partner. Another source of funding is further equity offerings to financial investors. The ability of the Company to raise funds in both of these cases, and the desirability of raising such funds, is dependent upon capital market forcesaffecting the price of the Company’s stock. These market forces, which fluctuate widely and frequently in the biotechnology capital markets, include both general market conditions and specific conditions, such as the stock performance of peer companies, rotation of funds from various market sectors, including sectors defined by market capitalization, stage of development or therapeutic focus and the activities of large holders of individual stocks. Because a significant majority of Neurogen’s stock is held by only a few institutions and the average trading volume of the stock is relatively low, changes in general or specific market conditions can significantly impact the stock price of the Company.

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ITEM 4. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures.

The Company's management, with the participation of the Company's Chief Executive Officer and President, evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of September 30, 2007. Based on this evaluation, the Company's Chief Executive Officer and President concluded that, as of September 30, 2007, the Company's disclosure controls and procedures were effective to provide reasonable assurance that information is accumulated and communicated to the Company's management, including its Chief Executive Officer and President, as appropriate to allow timely decisions regarding required disclosure, and ensure that information required to be disclosed in the reports the Company files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms.

Changes in Internal Control over Financial Reporting.

There has been no change in the Company's internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the Company's fiscal quarter ended September 30, 2007 that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The Company believes that it is entitled to a larger cash refund for tax credit carryovers from the state of Connecticut for certain prior years.  In the second quarter of 2006, the Company filed five complaints in Superior Court (for the tax years 2000-2004) seeking cash refunds of certain unused research and development tax credits that the Company alleges were wrongfully disallowed by the State of Connecticut. All five cases are entitled Neurogen Corporation v. Pam Law, Commissioner of Revenue Services of the State of Connecticut and are filed in Superior Court, Tax Session, for the State of Connecticut sitting in the Judicial District of New Britain and have case numbers HHB-CV-06-4010825S HAS, HHB-CV-06-4010826S HAS, HHB-CV-06-4010827S HAS, HHB-CV-06-4010828S HAS, and HHB-CV-06-4010882S HAS. Other Connecticut biotechnology companies also filed similar complaints. The plaintiffs and the state have filed cross-motions for Partial Summary Judgment. The Court denied both motions but requested further briefing on certain issues.  Hearings on certain issues have occurred since then and further proceedings are scheduled to reach a final decision at the trial court level.  The Company has fully reserved any assets related to this matter.

ITEM 1A. RISK FACTORS

There have been no material changes for the third quarter ended September 30, 2007 to the risk factors as previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Not applicable for the third quarter ended September 30, 2007.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable for the third quarter ended September 30, 2007.

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

Not applicable for the third quarter ended September 30, 2007.

ITEM 5. OTHER INFORMATION

None.

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ITEM 6. EXHIBITS

Exhibit 31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

Exhibit 31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

Exhibit 32.1 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

Exhibit 32.2 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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.

NEUROGEN CORPORATION
By:	/s/ STEPHEN R. DAVIS
	Stephen R. Davis President (Duly Authorized Officer and Chief Accounting Officer) Date: November 7, 2007