Encysive Pharmaceuticals 10Q 2007 Q3 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)


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

FOR QUARTERLY PERIOD ENDED SEPTEMBER 30, 2007


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

Commission File Number: 0-20117

ENCYSIVE PHARMACEUTICALS INC.

(Exact name of registrant as specified in its charter)


Delaware		13-3532643
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)


4848 Loop Central Drive, Suite 700, Houston, Texas		77081

(Address of principal executive office)		(Zip code)

(713) 796-8822

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

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.

Yesþ Noo

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).
Yeso Noþ

Indicate the number of shares outstanding of each of the issuer’s classes of Common Stock, exclusive of treasury shares, as of the latest practicable date.


Class		Outstanding at October 31, 2007
Common stock, $0.005 par value		79,306,943

TABLE OF CONTENTS


Certification Pursuant to Rule 13a-14(a) / Rule 15d-14(a)
Certification Pursuant to Rule 13a-14(a) / Rule 15d-14(a)
Certification Pursuant to Section 1350
Certification Pursuant to Section 1350

ENCYSIVE PHARMACEUTICALS INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
($ in thousands, except per share data)
(Unaudited)


	September 30,			December 31,
	2007			2006
ASSETS
Current assets:
Cash and cash equivalents	$	54,097		$	43,798
Restricted cash		100			—
Accounts receivable		7,088			5,211
Other current receivables, net of reserve of $0 and $65		1,207			141
Inventory, net of reserve of $860 and $496		3,063			2,343
Prepaids		1,365			1,926

Total current assets		66,920			53,419
Equipment and leasehold improvements, net of accumulated depreciation of $12,498 and $11,892		5,385			5,976
Deferred debt origination costs, net of accumulated amortization of $5,119 and $1,202		4,725			3,461
Intangible assets, net of accumulated amortization of $764 and $685		202			281

Total assets	$	77,232		$	63,137


LIABILITIES AND STOCKHOLDERS’ DEFICIT
Current liabilities:
Accounts payable	$	1,639		$	3,435
Accrued expenses		19,987			22,133
Deferred revenue		320			1,286

Total current liabilities		21,946			26,854
Long-term debt		191,888			130,000

Commitments and contingencies		—			—

Stockholders’ deficit:
Preferred stock, par value $.005 per share. 5,000,000 Shares authorized; none issued or outstanding		—			—
Common stock, par value $.005 per share. 150,000,000 shares authorized. At Sept. 30, 2007, 79,474,351 shares issued 79,261,351 outstanding; at December 31, 2006, 62,660,802 shares issued, 62,447,802 shares outstanding		397			313
Additional paid-in capital		373,104			329,817
Treasury stock, 213,000 shares at Sept. 30, 2007 and December 31, 2006		(1,602	)		(1,602	)
Accumulated other comprehensive income		80			33
Accumulated deficit		(508,581	)		(422,278	)

Total stockholders’ deficit		(136,602	)		(93,717	)

Total liabilities and stockholders’ deficit	$	77,232		$	63,137

See accompanying notes to consolidated financial statements

ENCYSIVE PHARMACEUTICALS INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE LOSS
($ in thousands, except per share data)
(Unaudited)


	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2007			2006			2007			2006
Revenues:
Sales	$	3,625		$	7		$	6,834		$	7
Royalty income		4,838			6,003			15,330			12,582
License fee and milestones		322			322			966			966

Total Revenues		8,785			6,332			23,130			13,555

Expenses:
Cost of goods sold		798			14			1,275			14
Research and development		7,389			16,271			41,573			49,326
Sales and marketing		6,817			10,039			27,293			31,642
General and administrative		5,572			5,340			17,465			16,446
Restructuring		5,409			—			13,351			—

Total expenses		25,985			31,664			100,957			97,428

Operating loss		(17,200	)		(25,332	)		(77,827	)		(83,873	)
Investment income		753			846			2,388			3,230
Interest expense		(6,076	)		(988	)		(10,864	)		(2,946	)

Loss before cumulative effect of change in accounting principle	$	(22,523	)	$	(25,474	)		(86,303	)		(83,589	)
Cumulative effect of change in accounting principle		—			—			—			107

Net loss applicable to common Shares	$	(22,523	)	$	(25,474	)	$	(86,303	)	$	(83,482	)

Other comprehensive income:
Unrealized loss on foreign currency		133			(2	)		47			(2	)

Comprehensive loss	$	(22,390	)	$	(25,476	)	$	(86,256	)	$	(83,484	)

Loss per share:
Continuing operations, basic and diluted	$	(0.32	)	$	(0.44	)	$	(1.28	)	$	(1.43	)

Weighted average common shares used to compute net loss per share basic and diluted		70,649,304			58,477,871			67,680,703			58,404,970

See accompanying notes to consolidated financial statements

ENCYSIVE PHARMACEUTICALS INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
($ in thousands)
(Unaudited)


	Nine Months Ended
	September 30,
	2007			2006
Cash flows from operating activities:
Net loss	$	(86,303	)	$	(83,482	)
Adjustments to reconcile net loss to cash used in operating activities:
Depreciation and amortization		794			811
Expenses paid with stock		121			97
Share-based compensation expense		2,080			5,973
Amortization of debt issue costs		3,917			497
Loss on disposition of fixed assets		109			33
Changes in operating assets and liabilities:
Restricted cash		(100	)		—
Accounts receivable		(1,546	)		(714	)
Inventory		(1,084	)		(586	)
Reserve for obsolescence		364			369
Prepaids		570			639
Other current receivables		(1,277	)		104
Accounts payable and accrued expenses		(4,134	)		633
Deferred revenue		(966	)		(966	)

Net cash used in operating activities		(87,455	)		(76,592	)


Cash flows from investing activities:
Proceeds from sale of equipment		27			—
Purchases of equipment and leasehold improvements		(248	)		(1,824	)

Net cash used in investing activities		(221	)		(1,824	)


Cash flows from financing activities:
Borrowing of long-term debt		128,000			—
Debt issue costs		(5,181	)		—
Repayment of long-term debt		(66,112	)		—
Proceeds from sale of common stock in direct public placement		13,967			—
Proceeds from sale of common stock in private offerings		27,142			—
Proceeds from option exercises		61			431

Net cash provided by financing activities		97,877			431


Effect of exchange rate changes on cash		98			—

Net increase (decrease) in cash and cash equivalents		10,299			(77,985	)
Cash and cash equivalents at beginning of period		43,798			127,913

Cash and cash equivalents at end of period	$	54,097		$	49,928


Supplemental schedule of cash flow information:
Interest paid		7,775			3,250

See accompanying notes to consolidated financial statements

ENCYSIVE PHARMACEUTICALS INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2007 (unaudited)

(1) Liquidity and Management’s Plans

The accompanying consolidated financial statements have been prepared assuming that Encysive Pharmaceuticals Inc. (the “Company” or “Encysive”), a Delaware corporation, will continue to operate as a going concern. The Company has sustained losses since its formation, and at September 30, 2007 had a stockholder’s deficit of $136.6 million. At September 30, 2007, the Company had cash and cash equivalents of $54.1 million. Management believes that our existing capital resources will be sufficient to fund the Company’s operations into the third quarter of 2008, taking into consideration the effects of the Restructuring, discussed below. In order to continue as a going concern, the Company will need to receive significant additional funding. These matters raise substantial doubt about the Company’s ability to continue as a going concern. These consolidated financial statements do not include the adjustments that would be necessary should the Company be unable to continue as a going concern.

In order to reduce its ongoing expenses, on June 25, 2007, the Company announced that it was implementing a strategic restructuring (the “Restructuring”), to focus its resources on its most promising assets. For additional information about the Restructuring and the engagement of Morgan Stanley, see Note 12(b), Restructuring, below. In addition, on July 17, 2007, the Company announced that it had retained the investment banking firm of Morgan Stanley to assist in evaluating its strategic alternatives to maximize shareholder value. In this evaluation process, the Company will consider various alternatives to raise additional capital, including, but not limited to, an acquisition of the Company or its assets, licensing or sales of its drug candidates, licensing or sales of some or all of the worldwide rights to Thelin™, issuances of common stock or other equity securities, and the sale of senior, convertible, or subordinated debt which may or may not be secured by the Company’s assets. The Company does not intend to publicly disclose further information regarding the status of the review of strategic alternative until a definitive transaction is entered into or the process is completed. There can be no assurance that any particular alternative will be pursued or that any transaction will occur, or on what terms, or as to the timing of any transaction.

Although the Company entered into four financing arrangements, discussed below, to provide additional liquidity, the Company has received all remaining amounts available under these arrangements in the nine months ended September 30, 2007, and these arrangements will not provide any additional liquidity in the future. On June 15, 2007, the Company received its third approvable letter from the U.S. Food and Drug Administration (the “FDA”) for Thelin™ (sitaxsentan sodium), which is under review for the treatment of pulmonary arterial hypertension (“PAH”). In the third approvable letter, the FDA stated that Encysive’s development program for Thelin™ did not demonstrate the evidence of effectiveness needed for approval. On August 6, 2007, the Company filed with the FDA a request for formal dispute resolution to contest the third approvable letter. On September 5, 2007, the Company received a written response from the FDA that the data in the Thelin™ new drug application did not provide the substantial evidence of effectiveness needed for approval. The Company decided to move forward with plans to conduct an additional Phase III study evaluating Thelin™ for PAH which will require significant additional funds which will be difficult to obtain on commercially acceptable terms, if at all.

On October 19, 2006, the Company entered into a Common Stock Purchase Agreement (the “Azimuth Agreement”) with Azimuth Opportunity Ltd. (“Azimuth”), which provided that, upon the terms and subject to the conditions set forth therein, Azimuth committed to purchase up to $75 million of common stock, or 11,866,851 shares of the Company’s common stock as of October 19, 2006, whichever occurred first, over the 18-month term of the Azimuth Agreement. The Company closed five draw downs under the Azimuth Agreement, and received aggregate gross proceeds of approximately $45.5 million and net proceeds of approximately $44.9 million after deducting estimated offering expenses. The Company has issued to Azimuth the maximum number of shares of the Company’s common stock permitted to be issued under the Azimuth Agreement and the Azimuth Agreement terminated pursuant to its terms.

On February 6, 2007, the Company’s wholly owned subsidiary, Argatroban Royalty Sub LLC, a Delaware limited liability company (“Royalty Sub”), issued an aggregate principal amount of $60.0 million of its Argatroban PhaRMA^SM Secured 12% Notes due 2014 (the “Original Argatroban Notes”) to certain institutional investors in a private placement pursuant to Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”). Net proceeds from the financing were approximately

$56.6 million after transaction costs, of which $10.0 million was withheld from the Company pending confirmation of treaty relief from U.K withholding tax obligations. The amount withheld, along with earned interest thereon, was released to the Company on June 18, 2007 when tax treaty relief was obtained.

On September 21, 2007, Royalty Sub issued an aggregate principal amount of $68.0 million of its Argatroban PhaRMA^SM Secured 18.5% Notes due 2014 (the “Argatroban Notes”) to the holders of the Original Argatroban Notes in consideration for the delivery of the Original Argatroban Notes for contemporaneous redemption and cancellation, as well as cash consideration from the holders of the Original Argatroban Notes in an amount of approximately $14.4 million. Of the $14.4 million, approximately $1.4 million was paid to the holders of the Original Argatroban Notes for accrued and unpaid interest thereon and approximately $1.8 million was paid in transaction expenses, resulting in net proceeds to the Company of approximately $11.2 million. For additional information, refer to Note 9.

On August 20, 2007, the Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with certain institutional accredited investors and qualified institutional buyers relating to the offering and sale (the “Offering”) of 7,692,305 units at a price of $1.95 per unit, with each unit consisting of one share of the Company’s common stock and a warrant to purchase one share of the Company’s common stock (each a “Warrant” and collectively, the “Warrants”). The Offering closed on August 21, 2007 (the “Closing Date”) and, without giving effect to the potential exercise of the Warrants, resulted in gross proceeds of approximately $15 million and net proceeds of approximately $14 million, after placement agent fees and other expenses of the Offering. The Purchase Agreement includes customary representations, warranties and covenants made by the Company and the investors, including the agreement by the Company not to issue any shares of the Company’s common stock or any securities convertible into or exchangeable or exercisable for the Company’s common stock for a period of 75 days after the Closing Date, subject to extension. The Company also agreed not to engage in any financing involving a Variable Rate Transaction (as defined in the Purchase Agreement) for a period of one year from the Closing Date. For additional information, refer to Note 4.

The Company has an effective shelf registration statement on Form S-3, under which it could issue additional common stock, debt, or other securities for gross aggregate proceeds of up to approximately $38.0 million. The shelf registration statement does not provide any assurance that the Company will be able to sell any securities thereunder on commercially acceptable terms, if at all.

(2) Organization and Significant Accounting Policies

(a) Organization

Encysive is a global biopharmaceutical company focused on the discovery, development and commercialization of novel synthetic small molecule compounds to address unmet medical needs. The Company’s research and development programs are predominantly focused on the treatment and prevention of interrelated diseases of the vascular endothelium and exploit its expertise in the area of the intravascular inflammatory process, referred to as the inflammatory cascade, and vascular diseases. Since its formation in 1989, the Company has been engaged principally in research and drug discovery programs and clinical development of certain drug compounds.

The Company is presently working on a number of long-term development projects that involve experimental and unproven technology, which may require many years and substantial expenditures to complete, and which may or may not be successful. Sales of the Company’s first product approved by the FDA, Argatroban, for which it receives royalty income, began during November 2000. The Argatroban royalty income is used to pay the outstanding Argatroban Notes and is therefore not available to fund our operational requirements. Thelin™ (sitaxsentan sodium), has been approved by the European Medicines Agency (“EMEA”), the Therapeutic Products Directorate (“TPD”) in Canada, and the Australian Therapeutic Goods Administration (“TGA”) and first became commercially available in Germany and the U.K. late in the fourth quarter of 2006.

(b) Basis of Consolidation

The Company’s consolidated financial statements include the accounts of the Company, its wholly owned subsidiaries, ImmunoPharmaceutics, Inc. (“IPI”), a California corporation; Encysive, L.P. (“ELP”), a Delaware limited partnership; EP-ET, LLC, a Delaware limited liability company; Encysive (UK) Limited, a private company located in the United Kingdom (“UK”); Encysive

GmbH, a private company located in Germany; Encysive France S.A.S., a private company located in France; Encysive Italy S.r.l., a private company located in Italy; Encysive Canada Inc., a private company located in Canada; Encysive Switzerland GmbH, a private company located in Switzerland; and Royalty Sub.

(c) Revenue Recognition

Revenue from sales of Thelin™ is recognized when product is shipped and ownership transfers to the customer. Sales revenue includes value added taxes billed to customers, and is reported net of discounts, allowances, and returns. Revenue from service contracts is recognized as services are performed. Royalty revenue is recognized as products are sold by a licensee and the Company has received sufficient information to record a receivable. The Company defers the recognition of milestone payments related to contractual agreements that are still in the development stage. Such deferred revenues are amortized into income over the estimated remaining development period. Milestone payments received under contractual agreements which have completed the development stage are evaluated, and either recognized into income when earned, or amortized over a future period, depending upon whether the Company continues to have obligations under the terms of the arrangement. License fees received under the terms of licensing agreements for the Company’s intellectual property are similarly deferred and amortized into income over the estimated development period of the licensed item or items. The Company periodically evaluates its estimates of remaining development periods and adjusts the recognition of remaining deferred revenues over the adjusted development period remaining. Revenue from grants is recognized as earned under the terms of the related grant agreements, typically as expenses are incurred. Amounts received in advance of services being performed under contracts are recorded as deferred revenue and recognized as services are performed.

(d) Debt issue costs

The Company incurred costs, principally comprised of initial purchasers’ discounts and various legal and professional fees, of approximately $1.8 million during the three months ended September 30, 2007 related to the issuance of the Argatroban Notes. The Company incurred costs of approximately $5.2 million during the nine months ended September 30, 2007 of which approximately $3.4 million related to the issuance of the Original Argatroban Notes and $1.8 million related to the issuance of the Argatroban Notes. Debt issue costs are deferred, and recognized from the issuance of the Argatroban Notes through the final maturity date of September 30, 2014. During the three months and nine months ended September 30, 2007, interest expense included approximately $3.3 million and $3.4 million, respectively, in amortized debt issue costs, including approximately $3.2 million in unrecognized costs related to the issuance of the Original Argatroban Notes at the time of their redemption on September 21, 2007. Remaining unamortized debt issue costs related to the Argatroban Notes were approximately $1.8 million at September 30, 2007.

The Company also incurred costs of approximately $4.7 million related to the issuance of its 2.50% Convertible Senior Notes due 2012 (the “Convertible Notes”) in March 2005. Debt issue costs are deferred, and recognized from the issuance of the Convertible Notes through the date that the Company has the ability to call the Convertible Notes, March 20, 2010. Interest expense in each of the three months ended September 30, 2007 and 2006, includes approximately $0.2 million in amortized debt issue costs, and interest expense in each of the nine months ended September 30, 2007 and 2006, includes approximately $0.5 million in amortized debt issue costs, respectively. Remaining unamortized debt issue costs were approximately $3.0 million at September 30, 2007. For additional information about the Convertible Notes, see Note 9.

(e) Use of Estimates

Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. Actual results could differ from these estimates.

(f) New Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements. FIN 48 requires companies to determine whether it is “more likely than not” that a tax position will be sustained upon examination by the appropriate taxing authorities before any part of the benefit can be recorded in the financial statements. It also provides guidance on the recognition, measurement and classification of income tax uncertainties, along with any related interest and penalties. Previously recorded income tax benefits that no longer meet this standard are required to be charged to earnings in the period that such determination is made. FIN 48 also requires significant additional disclosures. The Company adopted the new standard during the first quarter of 2007 as required. The adoption of FIN 48 did not have a material effect on the Company’s consolidated financial statements.

In September 2006, the FASB issued Statement of Financial Standards No. 157, “Fair Value Measurements” (“FAS 157”). FAS 157 defines fair value, establishes a framework for measuring fair value, and requires enhanced disclosures about fair value measurements. FAS 157 does not require any new fair value measurements. FAS 157 is effective for fiscal years beginning after November 15, 2007. The guidance in FAS 157 will be applied prospectively with the exception of (i) block discounts of financial instruments; and (ii) certain financial and hybrid instruments measured at initial recognition under FAS 133, which are to be applied retrospectively as of the beginning of initial adoption (a limited form of retrospective adoption). The Company will adopt the new standard during the first quarter of 2008. The Company is currently evaluating the impact of FAS 157 and does not expect that the adoption of FAS 157 will have a material impact on the Company’s consolidated financial statements.

In February 2007, the FASB issued Statement of Financial Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“FAS 159”). FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. FAS 159 is effective for fiscal years beginning after November 15, 2007, but may be adopted earlier provided that FAS 157 is also adopted. The Company will adopt the new standard during the first quarter of 2008. The Company is currently evaluating the impact of FAS 159 and does not expect that the adoption of FAS 159 will have a material impact on the Company’s consolidated financial statements.

(3) Inventory

Inventory balances are determined using the first-in first-out method. Inventory at September 30, 2007 and December 30, 2006 was as follows ($ in thousands):


	September 30,			December 31,
	2007			2006
Work-in-process	$	3,215		$	2,448
Finished goods		708			391

		3,923			2,839
Less reserve		(860	)		(496	)

Net	$	3,063		$	2,343

(4) Capital Stock

In March 2005, the Company issued the Convertible Notes in the principal amount of $130 million. As the Notes are convertible into the Company’s common stock, the Company has reserved 9,322,001 shares for issuance upon conversion, including 213,000 treasury shares. For additional information about the Convertible Notes, see Note 9.

On August 20, 2007, the Company entered into the Purchase Agreement with certain institutional accredited investors and qualified institutional buyers relating to the Offering and the Warrants. The Warrants will expire five years from the date of issuance, will be exercisable on or after the six-month anniversary of the date of issuance and have an exercise price of $1.95 per share, subject to adjustment. The exercisability of the Warrants may be limited in certain circumstances if, upon exercise, the holder would hold more than 4.99% of the total Company common stock issued and outstanding; provided, however, the holder may increase such limitation to 9.99% upon prior written notice to us. The number of shares deliverable and/or the exercise price of the Warrants are subject to adjustment to reflect

stock splits and dividends, subsequent rights offerings, distributions on the Company’s common stock, and similar corporate actions. The holders of the Warrants are entitled to 20 days notice before the record date for certain distributions to holders of the Company’s common stock. In the event of certain “fundamental transactions,” such as a merger, consolidation, sale of substantially all of the Company’s assets, tender offer or exchange offer with respect to the Company’s common stock or reclassification of the Company’s common stock, the holders of the Warrants will be entitled to receive thereafter in lieu of the Company’s common stock, the consideration (if different from common stock), that the holders of the Company’s common stock received due to such “fundamental transaction.” In addition, in the event of certain kinds of fundamental transactions, the holders of the Warrants will be entitled to receive an amount of cash equal to the value of the Warrants as determined in accordance with a formula specified in the Warrants.

The Company has reserved Common Stock for issuance as of September 30, 2007, as follows:


Stock option plans			9,420,819
Warrants			7,692,305
2.50% Convertible Senior Notes due 2012			9,322,001

Total shares reserved			26,435,125

(5) Cash, Cash Equivalents, and Restricted Cash

Cash equivalents are considered to be those securities or instruments with original maturities, when purchased, of three months or less and are recorded at cost. Short-term investments consist of debt securities with remaining maturities of less than one year and original maturities greater than three months at the purchase date. The Company classifies all short-term investments as held-to-maturity. Held-to-maturity securities are those securities in which the Company has the ability and intent to hold the security until maturity. Short-term investments are stated at amortized cost plus accrued interest. Interest income is accrued as earned. The Company evaluates the carrying value of its securities by comparing the carrying value of the securities to their market value. In the event that the fair value of a security were to decline below its carrying cost, and in the opinion of management such decline was other than temporary, the Company would record a loss and reduce the carrying value of such security to its fair value. All of the Company’s funds were invested in cash or cash equivalents at September 30, 2007 and December 31, 2006.

The Company deposited approximately $0.1 million into an account with a bank to secure a letter of credit, which is classified as Restricted Cash on the consolidated balance sheet.

(6) Net Loss per Common Share

Basic net loss per common share is calculated by dividing the net loss by the weighted average number of common and common equivalent shares outstanding during the period. For the three-month periods ended September 30, 2007 and 2006, the weighted average common shares used to compute basic and diluted net loss per common share totaled 70,649,304 and 58,477,871 , respectively. For the nine-month periods ended September 30, 2007 and 2006, the weighted average common shares used to compute basic and diluted net loss per common share totaled 67,680,703 and 58,404,970 shares, respectively. Securities convertible into common stock comprised of stock options, shares of common stock reserved for issuance upon exercise of the Warrants, shares of common stock reserved for issuance upon conversion of the Convertible Notes and unvested shares of restricted common stock totaling 24,052,422 and 15,853,522 shares at September 30, 2007 and 2006, respectively, were not used in the calculation of diluted net loss per common share because the effect would have been antidilutive.

(7) Income Taxes

The Company did not incur tax expense (benefit) during the three and nine month periods ended September 30, 2007 and 2006, due to operating losses and the related increase in the valuation allowance.

(8) Entity-Wide Geographic Data

The Company operates in a single business segment that includes sales, research and development of pharmaceutical products. The Company’s revenues are primarily derived from royalties earned on sales of Argatroban by GlaxoSmithKline plc (“GSK”) and the Company’s sales of Thelin™ in Europe. The following table summarizes the Company’s sources of revenues from its principal customers (dollars in thousands):


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2007		2006		2007		2006
Entities:
GSK	$	4,838	$	6,003	$	15,330	$	12,582
Others		3,947		329		7,800		973

Total	$	8,785	$	6,332	$	23,130	$	13,555

The following table summarizes the Company’s sources of revenues by geographical area (dollars in thousands):


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2007		2006		2007		2006
Geographical Area:
United States	$	5,160	$	6,325	$	16,296	$	13,548
Europe		3,625		7		6,834		7

Total	$	8,785	$	6,332	$	23,130	$	13,555

The following table summarizes the Company’s long-lived assets by geographical area (dollars in thousands):


	September 30,		December 31,
	2007		2006
Geographical Area:
United States	$	10,049	$	9,499
Europe		263		219

Total	$	10,312	$	9,718

(9) Long-Term Debt

On February 6, 2007, the Company, pursuant to the terms of a purchase and sale agreement, sold, assigned and contributed to Royalty Sub, the rights of the Company to receive royalties and certain payments (the “Royalty Payments”) from sales of Argatroban in the United States and Canada, in exchange for approximately $56.6 million in cash, of which $10.0 million was deposited into a “Holdback Account” pending receipt of the U.K. Tax Confirmation (defined below), and a capital contribution by the Company to Royalty Sub in an amount equal to the excess of the agreed fair market value of the Royalty Payments over the amount of the cash portion of the purchase price. Also on February 6, 2007, Royalty Sub issued an aggregate principal amount of $60.0 million of Original Argatroban Notes to certain institutional investors in a private placement pursuant to Section 4(2) of the Securities Act.

Funds in the Holdback Account, including interest, were released to the Company on June 18, 2007, upon receiving a confirmation from Her Majesty’s Revenue & Customs of the United Kingdom (“HMRC”) that, under the income tax treaty presently in force between the UK and the United States, either (i) no UK income tax is required to be withheld at source on the royalties in respect of sales of Argatroban in North America or (ii) if UK income tax is required to be withheld at source on such royalties, the Company or Royalty Sub is entitled to repayment from HMRC of such tax (the “U.K. Tax Confirmation”).

The Royalty Payments to Royalty Sub were the sole source of payment of principal of, and interest on, the Original Argatroban Notes. The payment dates for the Original Argatroban Notes were March 30, June 30, September 30 and December 30 of each year. See Item 2.03 of the Company’s Current Report on Form 8-K, the contents of which are incorporated herein by reference, filed with the Securities

and Exchange Commission on February 8, 2007 for a more complete description of the terms of the Original Argatroban Notes and the related indenture.

On September 21, 2007, Royalty Sub issued the Argatroban Notes to the holders of the Original Argatroban Notes in consideration for the delivery of the Original Argatroban Notes for contemporaneous redemption and cancellation, as well as cash consideration from the holders of the Original Argatroban Notes in an amount of approximately $14.4 million. Of the $14.4 million, approximately $1.4 million was paid to the holders of the Original Argatroban Notes for accrued and unpaid interest thereon and approximately $1.8 million was paid in transaction expenses, resulting in net proceeds to the Company of approximately $11.2 million.

The Argatroban Notes were issued pursuant to an Indenture, dated as of February 6, 2007 (the “Original Indenture”), between Royalty Sub and U.S. Bank National Association, as Trustee (the “Trustee”), as supplemented by a First Supplemental Indenture, dated as of September 21, 2007 (the “Supplemental Indenture” and collectively with the Original Indenture, the “Indenture”), between Royalty Sub and the Trustee. The Indenture provides for $68 million in aggregate principal amount of the Argatroban Notes. Except as described below, the Royalty Payments are the sole source of payment for the Argatroban Notes, and the Company is not an obligor or guarantor of the Argatroban Notes. Principal on the Argatroban Notes must be paid in full by the final legal maturity date of September 30, 2014, unless redeemed earlier. The interest rate applicable to the Argatroban Notes is 18.5% per annum (calculated on the basis of a 360-day year consisting of twelve 30-day months) and is payable quarterly in arrears on March 30, June 30, September 30 and December 30 each year, beginning on September 30, 2007 (each, a “Payment Date”). The calculation date for each such Payment Date will be the fifth business day immediately preceding such Payment Date (the “Calculation Date”). Non-payment of principal will not be an event of default prior to September 30, 2014. See Item 2.03 of the Company’s Current Report on Form 8-K, the contents of which are incorporated herein by reference, filed with the Securities and Exchange Commission on September 21, 2007 for a more complete description of the terms of the Argatroban Notes and the Indenture.

In March 2005, the Company issued $130,000,000 in Convertible Notes, due 2012. The Company will pay 2.50% interest per annum on the Convertible Notes on March 15 and September 15 of each year.

Holders of the Convertible Notes may convert the Convertible Notes into shares of common stock at any time prior to the maturity date of the Convertible Notes at a conversion rate of 71.7077 shares of common stock per $1,000 principal amount of Convertible Notes, which is equal to an initial conversion price of approximately $13.95 per share, subject to adjustment as set forth in the indenture governing the Convertible Notes. In the event of certain types of fundamental changes, the Company will increase the number of shares issuable upon conversion or, in lieu thereof, the Company may in certain circumstances elect to adjust the conversion rate and related conversion obligation so that the Convertible Notes are convertible into shares of the acquiring or surviving company, or at the option of the Company, the Company may elect to pay the additional value represented by an increase in the conversion rate in cash to holders electing to convert their Convertible Notes. On or after March 20, 2010, the Company may redeem some or all of the Convertible Notes for cash at 100% of the principal amount plus accrued interest, if the trading price of the Company’s common stock exceeds 140% of the conversion price of the Convertible Notes then in effect for at least 20 trading days within a period of 30 consecutive trading days ending on the trading day prior to the date on which the redemption notice is mailed. Upon the occurrence of a fundamental change meeting certain conditions, holders of the Convertible Notes may require the Company to repurchase for cash all or part of their Convertible Notes.

The Convertible Notes are senior unsecured obligations and rank equally in right of payment with any senior unsecured indebtedness that the Company may incur in the future. The Convertible Notes will be effectively subordinated to all future secured indebtedness and all existing and future liabilities of the Company’s subsidiaries, including trade payables and senior in right of payment to any future subordinated indebtedness that the Company may incur.

(10) Share-Based Payment

The Company has share-based awards outstanding under six different plans as follows:

The Amended and Restated 1990 Incentive Stock Option Plan (“1990 Plan”) allows for the issuance of incentive and non-qualified options to employees, directors, officers, non-employee independent contractors and non-employee directors, pursuant to which 40,000 shares of Common Stock are reserved

for issuance out of authorized but unissued shares of the Company. No new issuances are being made under the 1990 Plan.

The Amended and Restated 1992 Incentive Stock Option Plan (“1992 Plan”) allows for the issuance of incentive and non-qualified options to employees, directors, officers, non-employee independent contractors and non-employee directors, pursuant to which 100,383 shares of Common Stock are reserved for issuance out of authorized but unissued shares of the Company. No new issuances are being made under the 1992 Plan.

The Amended and Restated 1995 Stock Option Plan (“1995 Plan”) allows for the issuance of incentive and non-qualified options, shares of restricted stock and stock bonuses to employees, officers, and non-employee independent contractors, pursuant to which 377,144 shares of Common Stock are reserved for issuance out of authorized but unissued shares of the Company. No new issuances are being made under the 1995 Plan.

The Amended and Restated 1995 Non-Employee Director Stock Option Plan (“1995 Director Plan”) allows for the issuance of non-qualified options to non-employee directors, pursuant to which 352,500 shares of Common Stock are reserved for issuance out of authorized but unissued shares of the Company. No new issuances are being made under the 1995 Director Plan.

The Amended and Restated 1999 Stock Incentive Plan (“1999 Plan”) allows for the issuance of incentive and non-qualified options, shares of restricted stock and stock-based bonuses to directors, employees, officers and non-employee independent contractors, pursuant to which 5,972,595 shares of Common Stock are reserved for issuance out of authorized but unissued shares of the Company.

The 2007 Incentive Plan, as amended (“2007 Plan”), allows for the issuance of incentive and non-qualified options, shares of restricted stock, and stock-based bonuses to directors, employees, officers and non-employee independent contractors, pursuant to which 2,578,197 shares of Common Stock are reserved for issuance out of authorized but unissued shares of the Company.

Compensation expense in the nine months ended September 30, 2007 includes a reversal of approximately $2.4 million of compensation expense previously recorded for unvested options and restricted stock that was cancelled as a result of the Restructuring. Compensation expense related to all share-based awards during the three months and nine months ended September 30, 2007 and 2006 was as follows ($ in Thousands):


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2007		2006		2007		2006
Options	$	591	$	1,169	$	1,782	$	4,135
Nonvested shares of common stock		451		694		298		1,936

Total	$	1,042	$	1,863	$	2,080	$	6,071

Cash received from stock options exercised during the three and nine months ended September 30, 2007 was $51,000 and $61,000, respectively. Cash received from stock options exercised during the three and nine months ended September 30, 2006 was $1,000 and $431,000, respectively.

The fair value of the Company’s stock option awards is estimated on the date of grant using a Black-Scholes option-pricing model that uses the assumptions in the table below. The fair value of the Company’s stock option awards, which are subject to graded vesting, is expensed over the vesting life of the stock options using the straight-line method. Expected volatility is based on an average of (i) historical volatility of the Company’s stock, (ii) implied volatility from the Company’s convertible debt and (iii) implied volatility from traded options on the Company’s stock. The risk-free rate for periods within the contractual life of the stock option award is based on the yield curve of a zero-coupon U.S. Treasury bond for the month during which the stock option award is granted with a maturity equal to the expected term of the stock option award granted. The Company uses historical data to estimate stock option exercises and forfeitures within its valuation model. The expected term of stock option awards granted is derived from historical exercise experience under the Company’s share-based payment plans and represents the period of time that stock option awards granted are expected to be outstanding.

The significant weighted average assumptions relating to the valuation of the Company’s stock options for the three and nine months ended September 30, 2007 and 2006 were as follows:


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2007		2006		2007			2006
Expected dividend yield		—		—		0.0	%		0.0	%
Risk-free interest rate		—		—		4.7	%		4.7	%
Expected volatility		—		—		77.6	%		64.9	%
Expected life in years		—		—		5.0			3.9

A summary of the Company’s stock option activity for the nine months ended September 30, 2007 was as follows:


				Weighted		Weighted Average		Aggregate
	Stock			Average		Remaining		Intrinsic Value
	Options			Exercise Price		Contractual Term		(in Thousands)
Outstanding at December 31, 2006		5,614,455		$	8.14		5.70	$	1,496
Grants		714,532		$	2.995
Forfeited or expired		(222,206	)	$	6.26
Exercises		(4,166	)	$	0.93

Outstanding at March 31, 2007		6,102,615		$	7.61		6.15	$	708
Grants		560,000		$	2.06
Forfeited or expired		(317,821	)	$	5.66
Exercises		(6,666	)	$	0.93

Outstanding At June 30, 2007		6,338,128		$	7.22		6.16	$	308
Grants		—
Forfeited or expired		(504,157	)	$	8.64
Exercises		(53,000	)	$	0.93

Outstanding At September 30, 2007		5,780,971		$	7.16		5.86	$	180
Vested and expected to vest in the future at September 30, 2007		5,742,625		$	7.18		0.39	$	180
Exercisable at September 30, 2007		4,110,778		$	7.94		4.59	$	180
Available for grant at September 30, 2007		3,639,848

In March 2007, the Company adopted the 2007 Plan, which was approved by the stockholders at the Company’s 2007 annual meeting of stockholders in May 2007. At September 30, 2007, there were 931,445 options outstanding, and 1,646,752 shares available for grant under the 2007 Plan.

The weighted average grant date fair value of options granted and total intrinsic value of options exercised during the three and nine months ended September 30, 2007 and 2006, was as follows:


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2007		2006		2007		2006
Weighted average:
Grant date fair value per option	$	—	$	—	$	1.70	$	4.34
Total intrinsic value of options exercised	$	47,000	$	6,000	$	77,000	$	538,000

The fair value of nonvested shares of common stock is determined based on the closing trading price of the Company’s common stock on the day before the grant date. The weighted average grant date fair value of nonvested shares granted during the three months ended September 30, 2007 and 2006 was $1.78 and $4.26, respectively, and during the nine months ended September 30, 2007 and 2006 was $3.03 and $6.92, respectively. A summary of the Company’s nonvested shares activity for the nine months ended September 30, 2007 was as follows:


				Weighted Average
				Grant Date
	Shares			Fair Value
Nonvested at December 31, 2006		823,675		$	8.83
Activity during quarter ended March 31, 2007
Grants		1,762,572		$	3.04
Vested		(35,783	)	$	8.59
Forfeited		(11,537	)	$	9.17

Nonvested at March 31, 2007		2,538,927		$	4.81
Activity during quarter ended June 30, 2007
Grants		63,231		$	3.44
Vested		(23,137	)	$	10.26
Forfeited		(1,231,645	)	$	4.37

Nonvested at June 30, 2007		1,347,376		$	5.05
Activity during the quarter ended September 30, 2007
Grants		21,976		$	1.78
Vested		(55,533	)	$	6.86
Forfeited		(342,118	)	$	4.65

Nonvested at September 30, 2007		971,701		$	5.01

The Company began granting phantom units in 2006 to certain of its non-U.S. employees. The fair value of unvested phantom units is determined based on the closing trading price of the common stock on the day before the grant date. A summary of the Company’s unvested phantom unit activity for the nine months ended September 30, 2007, was as follows:


				Weighted
				Average
	Phantom			Grant Date
	Units			Fair Value
Unvested at January 1, 2007		124,682		$	4.10
Grants		170,943			3.00
Vested		—			—
Forfeited		(10,504	)		4.10

Unvested at March 31, 2007		285,121		$	3.44
Grants		21,803			3.44
Vested		—			—
Forfeited		—			—

Unvested at June 30, 2007		306,924		$	3.44
Grants		—			—
Vested		—			—
Forfeited		(21,480	)		3.26

Unvested at September 30, 2007		285,444		$	3.45

At September 30, 2007, there was approximately $6.7 million of unrecognized compensation expense related to unvested share-based awards granted under the Company’s share-based payment plans of which approximately $2.8 million relates to stock options expected to be recognized over a weighted-average period of 1.4 years, and approximately $3.9 million relates to nonvested shares expected to be recognized over a weighted average period of 1.3 years.

(11) Accrued expenses

Accrued expenses consisted of the following items (dollars in thousands):


	September 30, 2007		December 31, 2006
Accrued compensation and benefits	$	1,549	$	4,498
Accrued research and development Costs		8,336		11,498
Accrued interest on long-term debt		134		953
Accrued sales and marketing expenses		4,376		1,676
Reserve for future Argatroban returns		1,359		1,149
Accrued legal and professional fees		140		231
Restructuring		3,342		—
Other accrued expenses		751		2,128

Total	$	19,987	$	22,133

(12) Commitments and Contingencies

(a) Litigation

On September 26, 2006, a purported class action complaint (the “Massachusetts Laborers complaint”) was filed in the United States District Court for the Southern District of Texas by Massachusetts Laborers’ Annuity Fund, on behalf of itself and all other similarly situated investors against the Company, Bruce D. Given, M.D., the Company’s former President and Chief Executive Officer, Richard A.F. Dixon, the Company’s Senior Vice President, Research and Chief Scientific Officer and Stephen L. Mueller, the Company’s former Vice President, Finance and Administration, Secretary and Treasurer. The complaint alleged violations of sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Securities and Exchange Commission Rule 10b-5, and focused on statements that are claimed to be false and misleading regarding our drug sitaxsentan sodium. The plaintiffs sought unspecified damages on behalf of a purported class of purchasers of our securities during the period from February 19, 2004 through March 24, 2006.

In addition, on October 10, 2006, a second purported class action complaint was filed in the United States District Court for the Southern District of Texas by Gustav R. Bastian, on behalf of himself and all other similarly situated investors against the Company, Dr. Given, Dr. Dixon and Mr. Mueller. The complaint asserted substantially the same factual allegations and legal claims as the Massachusetts Laborers complaint on behalf of the same putative class. A third substantially similar purported class action complaint was filed on October 20, 2006 by Steven O. Scott, and a fourth substantially similar purported class action complaint was filed on November 1, 2006 by Cami Janzen-Guare. These complaints asserted substantially the same factual allegations and legal claims as the Massachusetts Laborers’ complaint and were filed in the same court on behalf of the same putative class.

The Court consolidated the four existing putative class action lawsuits into a single civil action. The Court appointed a lead plaintiff and lead counsel in the consolidated action, who filed a consolidated amended complaint. We filed a motion to dismiss the consolidated action. On September 19, 2007, the Court dismissed, with prejudice, the consolidated securities class action and the plaintiffs did not file an appeal of the Court’s order.

On November 22, 2006, John Jadelis, an individual claiming to be a stockholder of the Company, filed a purported shareholder derivative complaint in the United States District Court for the Southern District of Texas. The complaint named the Company as a nominal defendant and Bruce D. Given, the Company’s former President and CEO, Richard A.F. Dixon, the Company’s Senior Vice President of Research and Chief Scientific Officer, Stephen L. Mueller, the Company’s former Vice President, Finance and Administration, Secretary and Treasurer, Ron Anderson, Director, J. Kevin Buchi, Director, John H. Dillon, II, Director, John M. Pietruski, Director, James A Thomson, Director, Suzanne Oparil, Director, James T. Willerson, Director and Robert J. Cruikshank, Director, as defendants. The suit asserted claims for breach of fiduciary duty, abuse of control, insider selling, misappropriation of information, gross mismanagement, and waste of corporate assets, and sought contribution and indemnification against the individual defendants. The lawsuit sought damages on behalf of the Company against the individual defendants, as well as a constructive trust over the individual defendants’ assets or trading activities; restitution and

disgorgement of all profits, benefits, and compensation obtained by the individual defendants; and the costs of attorneys’ fees expended by the plaintiff in litigating the derivative action. We filed a motion to dismiss the derivative action. On October 3, 2007, the Court entered an order dismissing, without prejudice, the shareholder derivative action and the plaintiffs did not file an appeal of the Court’s order.

As a result of the dismissals of the class and derivative lawsuits, there are no longer any pending shareholder lawsuits against the Company.

(b) Restructuring

On June 25, 2007, the Company announced that it is implementing a strategic restructuring in order to focus its resources on its most promising assets. As a result, the Company reduced its U.S. workforce by approximately 70 percent, to about 75 people. Approximately 150 employees, including the U.S. sales force, were terminated immediately, with a smaller group leaving in the following months. The Company also eliminated the position of Chief Operating Officer. As of September 30, 2007, the Restructuring was largely completed.

The Company is providing cash severance payments to employees directly affected by the workforce reduction. The Company estimates that it will record approximately $15 million in restructuring and severance costs in 2007, of which approximately $5.4 million and $13.4 million was recorded in the three and nine months ended September 30, 2007. In July 2007, the Company entered into retention agreements with the approximately 75 members of its U.S. workforce who will remain employed by the Company following the restructuring, including its named executive officers. In July 2007, the Company also entered into retention agreements with selected employees of its non-U.S. operations.

These agreements provide for the payment of retention bonuses to the selected employees that remain employed by the Company for the applicable retention periods. Subject to certain conditions, including the continued employment of the selected employees by the Company through December 31, 2007 (the “Initial Retention Period”), an initial retention bonus, which will be equal to six months of the employee’s annual base salary, will be payable to the selected employees in two equal installments on each of September 30, 2007 and December 31, 2007. The Company made the first installment as required by these agreements and the expense is included in the restructuring and severance costs at September 30, 2007. Following the Initial Retention Period, unless the Company provides the selected employees with written notice at least 30 days prior to the end of the Initial Retention Period or any Extension Period (as defined below), the agreements will automatically renew for additional successive two-month periods (each an “Extension Period”). Subject to certain conditions, including continued employment of the selected employees by the Company through the end of each Extension Period, an extra retention bonus, which will be equal to two months of the employee’s annual base salary, will be payable to the selected employees on the next business day immediately following the last day of each Extension Period. The costs related to the retention agreements were included in the estimated restructuring costs for 2007, discussed above.

(c) Foreign Currency Exchange Risk

The Company is exposed to market risk primarily from changes in foreign currency exchange rates. We have contracts with entities outside the U.S. that are denominated in a foreign currency. Although changes in foreign currency exchange rates have not had a material effect on our financial results to date, management believes changes in foreign currency exchange rates could have a material effect on future financial results.

(d) Other contingencies

Like other biopharmaceutical companies, the Company is subject to other contingencies, including legal proceedings and claims arising out of its business that cover a wide range of matters, including, among others, environmental matters, securities matters and shareholder claims, contract and employment claims, intellectual property infringement claims and product liability. The Company may be involved in legal actions from time to time. The Company has used various substances in its research and development that have been or may be deemed to be hazardous or dangerous, and the extent of its potential liability, if any, under environmental, product liability and workers’ compensation statutes, rules, regulations and case law is unclear.

Item 2.

ENCYSIVE PHARMACEUTICALS INC. AND SUBSIDIARIES

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Three and Nine Months Ended September 30, 2007, and September 30, 2006

FORWARD LOOKING STATEMENTS

The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes to the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2006, and with the consolidated financial statements and related notes to the financial statements included elsewhere in this Form 10-Q. This Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements represent our management’s judgment regarding future events. In many cases, you can identify forward-looking statements by terminology such as ‘‘may,’’ ‘‘will,’’ ‘‘should,’’ “target,” “seek,” “project,” ‘‘could,’’ ‘‘plan,’’ ‘‘expect,’’ ‘‘anticipate,’’ ‘‘estimate,’’ ‘‘believe,’’ ‘‘predict,’’ ‘‘intend,’’ ‘‘potential,’’ or ‘‘continue’’ or the negative of these terms or other words of similar import, although some forward-looking statements are expressed differently. All statements, other than statements of historical fact, included in and incorporated by reference into this Form 10-Q regarding our financial position, business strategy and plans or objectives for future operations are forward-looking statements. Among the factors that could cause actual results to differ materially from those indicated by such forward-looking statements are: the actual costs incurred in our restructuring; our ability to execute our revised strategic plan and the impact of reducing our workforce on our strategic plan; unexpected delays in regulatory approval of Thelin™ (sitaxsentan sodium) by the United States Food and Drug Administration, or the FDA, in the U.S. and our other products under development; our ability to enter into and consummate a definitive transaction as a result of the evaluation of our strategic alternatives or our ability to maximize stockholder value through the process; the high cost and uncertainty of the research, clinical trials and other development activities involving our products and compounds; timing and outcome of regulatory action on competing products; possible delays in the timelines for initiating clinical trials and obtaining results of clinical trials, including the proposed Phase III trial for Thelin™, with respect to our products under development, including Thelin™ and TBC3711; decisions by the FDA regarding whether and when to approve our New Drug Application, or NDA, for Thelin™; our estimates of the sufficiency of our existing capital resources; our ability to raise additional capital to fund cash requirements for future operations; market acceptance of Thelin™ in the European Union, or EU, Canada and Australia, and the actual rate of acceptance; the availability of sufficient funds to continue our research and development efforts and to repay our outstanding indebtedness; the availability of sufficient funds to commercialize Thelin™ in the U.S. should it be approved by the FDA; Thelin™’s orphan drug designation; reduced estimates of patient populations and diagnosis rates of patients with pulmonary arterial hypertension in the EU, Canada and Australia; the impact of reimbursement policies and governmental regulation of prices for Thelin™ in the EU, Canada and Australia; our ability to predict revenues from Thelin™ and expense levels in 2007 and beyond; the impact of existing and future EU, Canadian and US regulatory provisions on product exclusivity, including orphan drug exclusivity for Thelin™, and the impact of legislation or regulations in countries within the EU, Australia and Canada affecting Thelin™’s pricing, reimbursement or access; the scope of our patents and challenges by others of the scope of our patents; our ability to attract and retain qualified personnel; the impact of competitive products on Thelin™ and Argatroban sales; the ability of our subsidiary to repay the notes secured by royalties on the sales of Argatroban; the impact of strategic relationships among our competitors; the breadth of approved labeling for competitive approved products; the speed with which reimbursement and pricing approvals, and product launches for Thelin™ may be achieved in the EU, Canada, Australia and in other countries where Thelin™ may be approved; difficulties or delays in importing, manufacturing, packaging or distributing Thelin™ in the EU, Canada, Australia and in other countries where Thelin™ may be approved; our ability to earn a profit from sales or licenses of Thelin™ or other drug candidates; our ability to establish future collaborative arrangements or licenses; and the availability of materials necessary for the manufacture of our products; as well as more specific risks and

uncertainties facing us such as those set forth in “Item 1A — Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2006 and below.

You should read these forward-looking statements carefully because they discuss our expectations about our future performance, contain projections of our future operating results or our future financial condition, or state other “forward-looking” information. You should be aware that the occurrence of any of the events described in “Risk Factors,’’ “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this Form 10-Q could substantially harm our business, results of operations and financial condition and that upon the occurrence of any of these events, the trading price of our common stock could decline, and you could lose all or part of your investment.

All subsequent written and oral forward-looking statements attributable to us or to persons acting on our behalf are expressly qualified in their entirety by the applicable cautionary statements. We cannot guarantee any future results, levels of activity, performance or achievements. Except as required by law, we undertake no obligation to update any of the forward-looking statements in this Form 10-Q after the date of this Form 10-Q.

As used in this Form 10-Q, the words “we,” “our,” “us,” “Encysive,” and the “Company” refer to Encysive Pharmaceuticals Inc., its predecessors and subsidiaries, except as otherwise specified. This Form 10-Q may contain trademarks and service marks of other companies.

EXECUTIVE SUMMARY

Encysive Pharmaceuticals Inc. is a global biopharmaceutical company that engages in the discovery, development and commercialization of novel, synthetic, small molecule compounds to address unmet medical needs. We focus our research and development programs predominantly on the treatment and prevention of interrelated diseases of the vascular endothelium and exploit our expertise in the area of the intravascular inflammatory process, referred to as the inflammatory cascade, and vascular diseases. We have successfully developed one FDA approved drug, Argatroban, for the treatment of heparin-induced thrombocytopenia, or HIT, which is licensed to and marketed by GSK. Our lead drug candidate, Thelin™ (sitaxsentan sodium) is an endothelin receptor antagonist for the treatment of PAH. Thelin™ has received marketing authorization in the EU, Canada and Australia, and we are preparing to conduct an additional Phase III clinical trial to seek regulatory approval to market Thelin™ in the U.S. We are a multinational company with revenues from an approved product in the EU and Canada, and sales and marketing operations in several EU countries.

In order to reduce our ongoing expenses, on June 25, 2007 we announced that we were implementing a strategic restructuring, to focus our resources on our most promising assets. In July 2007, we retained the investment banking firm of Morgan Stanley to assist in evaluating strategic alternatives to maximize stockholder value. In this evaluation process, we will consider various alternatives to raise additional capital, including, but not limited to, an acquisition of the Company or its assets, licensing or sales of our drug candidates, licensing or sales of some or all of our worldwide rights to Thelin™, issuances of common stock or other equity securities, and the sale of senior, convertible, or subordinated debt which may or may not be secured by our assets. We do not expect to publicly disclose further information regarding the status of the review of strategic alternatives until a definitive transaction is entered into or the process is completed. There can be no assurances that any particular alternative will be pursued or that any transaction will occur, or on what terms, or as to the timing of any transaction.

Thelin™ — for the treatment of Pulmonary Arterial Hypertension

Thelin™ (sitaxsentan sodium) is a selective oral ETA receptor antagonist dosed once a day for the treatment of PAH. In August 2006, Thelin™ was approved by the European Commission, or EC, for use in patients with pulmonary arterial hypertension classified as World Health Organization, or WHO, functional class III, to improve exercise capacity, as well as in primary pulmonary hypertension and in pulmonary hypertension associated with connective tissue disease. After the EC approved Thelin™ for marketing and sale in the EU, we started to build the necessary commercial infrastructure, including the establishment of country sales organizations and the negotiation of third party distributor relationships, to

promote and sell Thelin™ in various countries of the EU. The centralized licensing procedure of the European Agency for the Evaluation of Medicinal Products, or EMEA, permits us to market Thelin™ in all 27 member states of the EU, however in most of the EU countries we must negotiate pricing and reimbursement prior to commercial launch. In the fourth quarter of 2006, we made Thelin™ commercially available in the UK and Germany, and in April 2007 we launched Thelin™ in the Republic of Ireland and in The Netherlands. We recently launched Thelin™ in Spain and France in September 2007 and October 2007, respectively. We expect Thelin™ to be commercially available in Italy in the fourth quarter of 2007. We anticipate subsequent product launches of Thelin™ in other EU countries as their respective national governments approve pricing and reimbursement.

On March 7, 2007, we announced that the Australian Therapeutic Goods Administration, or TGA, had granted marketing approval for Thelin^™ 100 mg tablets as a once daily oral treatment for patients with PAH. We have subsequently applied for reimbursement in Australia and we intend to commercialize Thelin™ through a third party in Australia.

On May 30, 2007, the Therapeutic Products Directorate, or TPD, of Health Canada approved Thelin™ for the treatment of primary pulmonary arterial hypertension and pulmonary hypertension secondary to connective tissue disease, in patients with WHO functional class III who have not responded to conventional therapy. Thelin™ is also indicated in patients with WHO functional class II who did not respond to conventional therapy and for whom no appropriate alternative treatment can be identified. In anticipation of receiving approval for Thelin™ in Canada, we began to build a commercial presence in Canada. We have begun a limited launch of Thelin^TM on a patient by patient basis in Canada. Thelin^TM is currently being reimbursed by private insurance and we have applied for reimbursement through Canada’s national Common Drug Review. We expect this process to continue into next year.

In March 2006, we received an Approvable Letter from the FDA, or the March Approvable Letter, pursuant to which the FDA identified several concerns and observations that were required to be resolved before the drug could be approved, including the option of conducting additional clinical trial work. In May 2006, the FDA accepted for review our complete response to the concerns and observations noted in the March Approvable Letter, and designated the submission as a Class 1 review. The FDA established a new Prescription Drug User Fee Act, or PDUFA, target action date of July 24, 2006, and on such date we received a second Approvable Letter, or the July Approvable Letter, pursuant to which the FDA identified one of the substantive items raised in the March Approvable Letter as remaining unresolved. The FDA again offered the alternative of conducting additional clinical work. Following discussions with the FDA, we submitted a complete response to the July Approvable Letter, which was accepted by the FDA on December 28, 2006. On June 15, 2007, we received a third approvable letter, or Third Approvable Letter, from the FDA. In the Third Approvable Letter, the FDA stated that our development program for Thelin™ did not demonstrate the evidence of effectiveness needed for approval. The FDA encouraged us to conduct an additional study to demonstrate the drug’s effectiveness in exercise capacity as measured by change in six-minute walk distance. In July 2007, we held a formal Class A preliminary dispute resolution meeting with officials from the FDA regarding the Third Approvable Letter and the status of our NDA for Thelin. The meeting complied with the FDA’s guidance on formal dispute resolution requiring that a sponsor meet with the division reviewing its NDA prior to requesting formal dispute resolution. On August 6, 2007 we filed with the FDA a request for formal dispute resolution to contest the Third Approvable Letter. On September 5, 2007, the Company received a written response from the FDA that the data in the NDA did not provide the substantial evidence of effectiveness needed for approval. While additional appeals are possible, we have decided not to appeal and have decided to move forward with plans to conduct an additional Phase III study evaluating Thelin™ in PAH. We are currently working with the FDA to finalize a study protocol. After the Company has concluded its protocol discussions with the FDA, it will announce the details of the study, including timing and the number of patients.

On September 4, 2007, we completed patient enrollment in the Phase II trial for Thelin™ in diastolic heart failure (“DHF”), a type of congestive heart failure. Thelin™ is being tested in approximately 150 DHF patients at approximately 40 study centers. Results of the trial are expected in the middle of 2008.

During 2004, we obtained orphan drug designation for Thelin™ from both the FDA and the EC. Orphan drug designation grants exclusivity to Thelin™ upon product approval for seven years in the U.S. and ten years in the EU. During 2006, the EMEA requested additional information from us to support the orphan drug designation for Thelin™ and we have responded to that request. In May 2007, we met with officials from the EC to discuss the EMEA’s reassessment of the orphan drug status of Thelin™ in the EU, and following that meeting we submitted documents supporting our position that

Thelin™’s orphan drug status should be maintained in the EU. At this time, we cannot assure you that Thelin™ will maintain orphan drug designation and its associated exclusivity in the EU for the full 10 year period. We anticipate that patent protection for Thelin™ may extend beyond expiration of orphan drug exclusivity in the U.S. and the EU.

We have established central EU commercial operations near London, England, with regional sales offices established in Munich, Germany, Paris, France and Milan, Italy. We will evaluate the need to add additional infrastructure and commercial support as reimbursement is obtained in countries within the EU where Thelin™ is approved. We will also evaluate the need for commercial infrastructure and support worldwide if Thelin™ receives regulatory approval and reimbursement in other countries outside of the EU. In some markets, we may choose to use third parties to distribute Thelin™, or to provide other services such as reimbursement and/or sales support. In Canada, we have invested in a limited commercial infrastructure.

In anticipation of approval of Thelin™ by the FDA, we had hired and trained a U.S. sales force, formed a commercialization infrastructure and initiated other market launch preparation activities in the U.S. On June 25, 2007, the U.S. sales force and commercial infrastructure was terminated as part of our strategic restructuring, discussed below.

Argatroban

Argatroban, licensed from Mitsubishi Pharma Corporation, or Mitsubishi, and developed in North America by us, is a synthetic direct thrombin inhibitor that was approved by the FDA in 2000. It is indicated as an anticoagulant for prophylaxis or treatment of thrombosis in patients with HIT, and as an anticoagulant in patients with or at risk for HIT undergoing percutaneous coronary intervention, or PCI. Argatroban was approved in Canada in 2001 for use as an anticoagulant therapy in patients with HIT syndrome. We have licenses to a formulation patent, which expires in 2014, and a manufacturing process patent that expires in 2017. The composition of matter patent has expired. We are not aware of any regulatory submissions by other parties for generic compounds that could compete with Argatroban. Argatroban is marketed and sold by GSK in the U.S. and Canada under a license agreement whereby our subsidiary described below receives royalties on sales.

On February 6, 2007, our wholly owned subsidiary, Argatroban Royalty Sub LLC, or Royalty Sub, closed a private placement of $60 million in aggregate principal amount of the Original Argatroban Notes to institutional investors. The Original Argatroban Notes were redeemed and cancelled on September 21, 2007 when Royalty Sub issued the Argatroban Notes in exchange for the Original Argatroban Notes, as well as cash consideration from the holders of the Original Argatroban Notes in an amount of approximately $14.4 million. Of the $14.4 million, approximately $1.4 million was paid to the holders of the Original Argatroban Notes for accrued and unpaid interest thereon and approximately $1.8 million was paid in transaction expenses, resulting in net proceeds to the Company of approximately $11.2 million. The Argatroban Notes are secured by royalties to be paid from sales of Argatroban and by a pledge by us of the stock of Royalty Sub. All interest and principal payments on the Argatroban Notes will be made solely from royalties and other payments payable under the license agreement with GSK, all of which have been transferred to Royalty Sub. The Argatroban Notes are non-recourse and non-convertible and have not been guaranteed by us. Royalty Sub will receive all royalties on the sales of Argatroban until the Argatroban Notes have been repaid in full; therefore, future royalties will not be available to fund our operations. For additional information about the Argatroban Notes, refer to Note 9 to the consolidated financial statements included herein.

Research Programs

Our research efforts are concentrated on targets within the vasculature, and the potential indications of our drug candidates include cardiovascular diseases and a potentially wide variety of inflammatory diseases involving two complementary sets of targets. The first set of targets relate to G protein-coupled receptors, or GPCRs. Historically, GPCRs have been some of the most amenable targets for developing commercially successful pharmaceuticals, such as beta-blockers, antihistamines, and most anti-psychotics and anti-depressants. Endothelin receptors, targeted by Thelin™ and TBC3711, are examples of GPCRs.

We have also developed expertise in pharmacologically intervening in the intravascular inflammatory cascade, representing a second set of intravascular targets. Bimosiamose, licensed to Revotar Biopharmaceutics A.G. and TBC4746, licensed to Schering-Plough are examples of drug

candidates that we designed to target two distinct steps in this cascade, the selectins and VLA-4, respectively. Some of the targets in this cascade are GPCRs. Thus, we believe that our focus on endothelial cell and related vascular biology has opened up a broad range of disease targets with high unmet medical need.

We have an ongoing Phase II study with TBC3711 in resistant hypertension, and have completed patient enrollment in a Phase II proof of concept study of oral Thelin™ as a treatment for diastolic heart failure with results expected to be available in mid 2008. Our CCR-9 antagonist is progressing through preclinical development and we expect to be in human testing for inflammatory bowel disease next year.

Critical Accounting Policies

Revenue Recognition

	•		We recognize revenue from sales of Thelin™ when product is shipped and ownership transfers to the customer. Sales revenue includes value added taxes billed to customers, and is reported net of applicable discounts, allowances and returns.

	•		We recognize royalty revenue as a licensee sells products and we have received sufficient information to record a receivable. Our royalty revenue is based on net sales of product, that is, sales net of discounts, returns and allowances. Argatroban is licensed to GSK, which distributes and sells the product, and from which we receive a quarterly royalty payment. At the time of each payment, GSK provides us with limited quarterly data related to the product’s gross sales, sales returns, discounts and allowances. While we are informed of the amount of product returns recorded each quarter, we do not have information necessary to identify the period or periods to which such returns correspond. We believe that substantially all discounts and allowances pertain to current period sales. We also believe that a portion of sales recorded in each period will ultimately be returned, and therefore estimate future returns and their impact on royalty revenues. In the pharmaceutical industry, product returns are primarily influenced by remaining or expired shelf life, product withdrawals or recalls, significant price changes from competitors or the introduction of generic products or other new competition. We are not aware of any pending product recalls or withdrawals, significant price fluctuations or generic competition. Accordingly, we have estimated only the impact of product dating on returns.

			Since we do not manufacture, sell or distribute Argatroban, we do not have information related to levels of inventory in the distribution channels. However, due to the cost of the drug and pressures on hospitals to minimize operating expenditures, we believe inventory levels are maintained at a minimally acceptable level. Inventory level is therefore not a part of the Company’s estimate process.

			We have estimated remaining shelf life, which is an important reason for product returns, based upon the fact that Argatroban has an expiration date of two years from manufacture. Common industry practice is that prescription drugs can be returned to the manufacturer at any time; however, product is normally returned when the remaining shelf life is reduced to six months or less. Our reserve is therefore based upon an estimate of the percentage of sales made in the preceding 18-month period that may be returned in future periods. Initially, lacking any historical sales data for Argatroban and based upon management’s experience with other pharmaceutical products in the industry, management estimated that four percent of gross sales of Argatroban would be returned during future periods. Based upon subsequent analysis of historical sales data, we believe that differences between estimated and actual future returns will not have a material effect on our results of operations or financial condition.

	•		Revenue from collaborative research and development activities is recognized as services are performed.

	•		We defer the recognition of milestone payments related to contractual agreements that are still in the development stage. Such deferred revenues are amortized into income over the estimated remaining development period. Milestone payments received under contractual agreements which have completed the development stage are evaluated, and either recognized into income when earned, or amortized over a future period, depending upon whether we continue to have obligations under the terms of the arrangement.

	•		License fees received under the terms of licensing agreements for our intellectual property are deferred and amortized into income over the estimated development period of the licensed item or items.

	•		Revenue from grants is recognized as earned under the terms of the related grant agreements, typically as expenses are incurred.

Amounts received in advance of services being performed under contracts are recorded as deferred revenue, and recognized as services are performed. We periodically evaluate our estimates of remaining development periods, and adjust the recognition of remaining deferred revenues over the adjusted development period remaining. At September 30, 2007, remaining deferred revenue was approximately $0.3 million, which we expect to recognize over the next 12 months. A future change in our estimate of development periods could accelerate or decelerate the timing of future recognition of deferred revenue.

Cost of goods sold

After the EC granted marketing approval in August 2006, Thelin™ became commercially available through third party distributors in the U.K. and in Germany during late 2006, in the Republic of Ireland and The Netherlands in April 2007 and in Spain and France in September and October 2007, respectively. Cost of goods sold is comprised of the direct cost of inventory consumed, value added taxes billed to customers along with the fees associated with third party distributors.

Stock Options

The Company adopted the provisions of FAS 123R on January 1, 2006 using the modified prospective transition method. Under this transition method, compensation expense recognized during the three and nine months ended September 30, 2006 included: (i) compensation expense for all share-based awards 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 Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“FAS 123”), and (ii) compensation expense for all share-based awards granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with FAS 123R. In accordance with the modified prospective transition method, results for prior periods have not been restated. See Note 10 to the consolidated financial statements for further detail on the impact of FAS 123R on the Company’s condensed consolidated financial statements.

Drug Manufacturing and Packaging

Costs arising from the manufacturing and packaging of drug product, which is intended for use in clinical trials, are recognized as incurred and included in research and development expenses. Inventory balances are determined using the first-in first-out method.

Costs Related to Issue of Long-Term Debt

Costs incurred in the issuance of the Argatroban Notes and the Convertible Notes, primarily comprised of initial purchasers’ discounts, legal and other professional fees have been deferred, and will be amortized and reported as a component of interest expense during the periods beginning with the issuance date to the date that we have the ability to call the debt. All costs incurred in the issuance of the Original Argatroban Notes were included in the interest expense in the three and nine months ended September 30, 2007.

Results of Operations

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Our operating results have fluctuated significantly during each quarter and year, and we anticipate that such fluctuations, which are largely attributable to increasing commercialization expenditures, will continue for the next several years. We have been unprofitable to date and expect to make substantial expenditures during the next several years as we invest in launching Thelin™ in Europe, obtaining

regulatory approval of Thelin™ in the U.S., and if approval is received, the commercializing of Thelin™ in the U.S.

We have sustained net losses of approximately $508.6 million from the date of our inception to September 30, 2007. We have primarily financed our operations to date through a series of private placements, including the Azimuth Agreement, and public offerings of our common stock and convertible debt, debt issued by our subsidiary that is secured by royalties on Argatroban and from funds received through our collaborations, research agreements and partnerships. See discussion of “Liquidity and Capital Resources” below.

Three and Nine month periods ended September 30, 2007 and 2006

Sales

After the EC granted marketing approval in August 2006, Thelin™ became commercially available through third party distributors in the U.K. and Germany during late 2006, in the Republic of Ireland and The Netherlands in April 2007 and in Spain and France in September and October 2007, respectively. We reported sales of Thelin™ in Europe of $3.6 million and $6.8 million in the three and nine months ended September 30, 2007, respectively.

We have just started to commercialize Thelin™ in Europe, and as such, cannot make any sales projections or financial forecasts. Even though we have received regulatory approval to market Thelin™ in Europe, Canada and Australia significant uncertainties make it difficult to forecast or predict future sales. Uncertainties which could materially affect our revenue projections include the market acceptance of Thelin™ in each country, pricing and reimbursement policies of third-party payers, the speed with which government or other third-party payers grant pricing and reimbursement approvals, competitive activity, the timing of competitive product approvals and the breadth of these products’ labeling, market acceptance and other factors impacting the timing, effectiveness, and speed of our product launches.

Royalties

Royalties increased $2.7 million in the nine months ended September 30, 2007 compared with the nine months ended September 30, 2006. Royalties earned on sales of Argatroban under our agreement with GSK are based upon a tiered structure, which provides for increases in royalty revenue earned, as a percentage of sales, as Argatroban sales increase. The increase in royalties is due to higher sales of Argatroban, and a corresponding higher royalty rate, as a percentage of sales, in the nine months ended September 30, 2007 as sales reached higher tiers within the agreement. Royalty income on sales of Argatroban was $4.8 million and $6.0 million in the three months ended September 30, 2007 and 2006, respectively. Under our agreement with GSK, a “catch-up” payment in addition to the royalty payments is earned when sales exceed a certain threshold. In 2007, we earned the “catch-up” payment in the second quarter while in 2006 we did not earn the “catch-up” payment until the third quarter. Such sales thresholds are evaluated annually. As a result of the recent sale of the Argatroban Notes by Royalty Sub, all royalty revenues from sales of Argatroban will be used to pay interest and to repay the Argatroban Notes, and are no longer available to fund our operations until the Argatroban Notes are repaid in full.

Total Revenues

Revenues in the three months ended September 30, 2007 increased $2.5 million, to $8.8 million from $6.3 million in the three months ended September 30, 2006, primarily due to increased sales of Thelin™ in Europe. Revenues in the nine months ended September 30, 2007 increased $9.6 million, to $23.1 million from $13.6 million in the nine months ended September 30, 2006. These increases are due to sales of Thelin™ in Europe and to higher royalties earned on sales of Argatroban by GSK in 2007.

Cost of Goods Sold

Cost of goods sold in the three and nine months ended September 30, 2007 of approximately $0.8 million and $1.3 million, respectively, was primarily comprised of the cost to manufacture, finish and package quantities of Thelin™ sold in Europe. There was no significant cost of goods sold in the three or nine months ended September 30, 2006 as Thelin™, although commercially available in the U.K. and Germany, had not been commercially launched.

Research and Development Expense

Research and development expense in the three and nine months ended September 30, 2007 decreased $8.9 million, and $7.8 million compared to the three and nine months ended September 30, 2006, respectively. The decreases primarily resulted from the phasing out of STRIDE-3 in the U.S. and Latin America, a reduction in the number of on-going regulatory submissions and reductions in staff due to the Restructuring.

As discussed in Liquidity and Capital Resources below, we have restricted research and development activities to those necessary to maintain our existing programs and we expect ongoing research and development expenses to decline over the remainder of 2007 as a result of the Restructuring, discussed below.

Sales and Marketing Expense

Sales and marketing expenses declined $3.2 million and $4.3 million, respectively in the three and nine months ended September 30, 2007 compared with the three and nine months ended September 30, 2006. Sales and marketing expense in the nine months ended September 30, 2007 included a reversal of compensation expense of approximately $1.9 million, as a result of the cancellation of unvested stock options and restricted stock due to the Restructuring. We have made Thelin™ commercially available in the U.K., Germany, the Republic of Ireland, The Netherlands, Spain and France and are actively preparing for the commercial launch of Thelin™ in other countries of Europe and in Canada. We have hired a sales force in the U.K. and in Germany, France, Italy and Canada. As a result of the Restructuring, discussed below, we expect sales and marketing expenses in the U.S. to decline significantly over the remainder of 2007, however this decline is expected to be partially offset by increased commercialization activities in Europe and Canada.

General and Administrative Expense

General and administrative expense increased $0.2 million and $1.0 million, respectively, in the three and nine months ended September 30, 2007 compared to the three and nine months ended September 30, 2006. As a result of the Restructuring, discussed below, we expect General and Administrative expense to decline in the second half of 2007, but expect this expense to be higher than in the comparable prior-year periods. While we have reduced our general and administrative expenses in the U.S., general and administrative expenses have increased in Europe as we have continued to build the infrastructure necessary to commercially support Thelin™ in Europe and Canada. We believe the commercial infrastructure in Europe is substantially complete, and expect general and administrative expenses in the fourth quarter of 2007 to remain comparable to the third quarter of 2007.

Restructuring Expense

Following the receipt of the third Approvable Letter from the FDA, on June 25, 2007 we announced the implementation of a strategic restructuring in order to reduce our ongoing expenses and to focus our resources on our most promising assets. As a result, we reduced our U.S. workforce by approximately 70 percent, to about 75 employees. Approximately 150 employees, including the U.S. sales force, were terminated immediately, with a smaller group leaving over the following months. We also eliminated the position of Chief Operating Officer, and intend to maintain a smaller headquarters in the U.S.

We are providing cash severance payments to employees directly affected by the workforce reduction, and have entered into retention agreements providing for the payment of retention bonuses to approximately 75 members of our U.S. workforce who will remain with us following the Restructuring. We have also entered into retention agreements with selected employees of our non-U.S. operations. We estimate that the total restructuring charge will approximate $15 million, of which $5.4 million and $13.4 million was recorded in the three months and nine months ended September 30, 2007. We expect to incur Restructuring expense of approximately $1.2 million in the fourth quarter of 2007.

As a result of the restructuring, we intend to focus our resources on continued sales and marketing activities of Thelin™ in Europe and Canada; advancing regulatory approval for Thelin™ for PAH in the U.S.; continuing the clinical development of TBC3711; continuing the Phase II proof of concept study of oral Thelin™ as a treatment for diastolic heart failure; and completing activities to maintain the value of our Chemokine C-motif Receptor 9 and its two late stage pre-clinical programs against an undisclosed target.

Total Operating Expenses

Total operating expenses in the three months ended September 30, 2007 decreased $5.7 million, compared to the three months ended September 30, 2006, primarily due to the Restructuring. Total operating expenses in the nine months ended September 30, 2007 increased $3.5 million, compared to the nine months ended September 30, 2006, primarily due to the restructuring expense of $13.4 million and increased research and development expenses in the first six months of 2007. We expect our ongoing operating expenses to be approximately $20 million in the quarter ended December 31, 2007.

Operating Loss

Operating loss in the three and nine months ended September 30, 2007, decreased $8.1 million and $6.0 million, respectively compared with the three and nine months ended September 30, 2006, primarily as a result of higher revenues in the 2007 periods.

Interest Expense

Interest expense increased $5.1 million and $7.9 million in the three and nine months ended September 30, 2007, compared with the three and nine months ended September 30, 2006, respectively. The increases are primarily due to interest on the Original Argatroban Notes, which were issued on February 6, 2007 and redeemed and cancelled on September 21, 2007 concurrently with the issuance of the Argatroban Notes. Interest expense in the three and nine months ended September 30, 2007 includes approximately $3.2 million in costs incurred in the issuance of the Original Argatroban Notes, Since all amounts received for royalties on sales of Argatroban in excess of accrued interest on the Argatroban Notes will be used to redeem Argatroban Notes each quarter, we expect interest expense to decline in the future.

Investment Income

Investment income in the three and nine month periods ended September 30, 2007, decreased approximately $0.1 million and $0.8 million, respectively, due to reduced funds available for investment during 2007.

Cumulative effect of Change in Accounting Principle

Prior to the Company’s adoption of FAS 123R, if unvested shares of restricted common stock were forfeited, the Company reversed any compensation expense that it had previously recorded on those shares at the time of forfeiture. Following the adoption of FAS 123R, the Company periodically adjusts the amount of expense recorded each period, based upon its estimate of future forfeitures. The cumulative effect of estimating future forfeitures of unvested restricted common shares granted before January 1, 2006, was $107,000, which is reported as a cumulative effect of change in accounting principle during the nine months ended September 30, 2006.

Net Loss

Net loss decreased $3.0 million in the three months ended September 30, 2007, compared with the three months ended September 30, 2006, due to higher revenues and reduced expenses in the 2007 period. Net loss increased $2.8 million in the nine month period ended September 30, 2007, compared with the nine month period ended September 30, 2006. The increased net loss is primarily due to restructuring expense of $13.4 million and higher research and development expenses in the first six months of 2007, partially offset by higher revenues in the 2007 periods.

Liquidity and Capital Resources

While the Consolidated Financial Statements included herein have been prepared assuming that we will continue as a going concern, because of our losses and need for additional financing to execute our business strategy, our independent auditor’s report on our Consolidated Financial Statements for the year ended December 31, 2006 contained a statement relating to their substantial doubt about our ability to continue as a going concern. At September 30, 2007, we had cash and investments of $54.1 million. To date, we have financed our research and development activities and other operations primarily through public and private offerings of common stock, including an equity financing line with Azimuth; proceeds from the issuance and sale of our Convertible Notes, the Original Argatroban Notes and the Argatroban Notes; funds received through collaborations, research agreements, licenses and partnerships; and royalty revenue from sales of Argatroban. Although we entered into four financing arrangements to provide additional liquidity, we have received all remaining amounts available under these arrangements in the nine months ended September 30, 2007, and these arrangements will not provide any additional liquidity in the future. On August 6, 2007, the Company filed with the FDA a request for formal dispute resolution to contest the third approvable letter. On September 5, 2007, the Company received a written response from the FDA that the data in the Thelin™ new drug application did not provide the substantial evidence of effectiveness needed for approval. The Company’s decision to move forward with plans to conduct an additional Phase III study evaluating Thelin™ for PAH will require significant additional funds. In order to reduce our ongoing expenses, on June 25, 2007 we announced that we were implementing a strategic restructuring, to focus our resources on our most promising assets. In July 2007, we retained the investment banking firm of Morgan Stanley to assist in evaluating strategic alternatives to maximize stockholder value. The evaluation process may result in additional funding for the Company as we will consider various alternatives to raise additional capital, including, but not limited to, an acquisition of the Company or its assets, licensing or sales of our drug candidates, licensing or sales of some or all of our worldwide rights to Thelin™, issuances of common stock or other equity securities, and the sale of senior, convertible, or subordinated debt which may or may not be secured by our assets. We do not expect to publicly disclose further information regarding the status of the review of strategic alternatives until a definitive transaction is entered into or the process is completed. There can be no assurances that any particular alternative will be pursued or that any transaction will occur, or on what terms, or as to the timing of any transaction. We believe that additional funding will be difficult to obtain on commercially acceptable terms, if at all. See Note 1 to the Condensed Consolidated Financial Statements.

Outlook for the Balance of 2007

Until recently, the majority of our financial resources have been dedicated to the research and development of Argatroban, Thelin™ and other drug compounds. Beginning in 2005, we have spent an increasing percentage of our financial resources on preparations for the anticipated commercial launch of Thelin™ in the U.S., and more recently, in building the commercial infrastructure necessary to launch Thelin™ in Europe and Canada. As described below, we expect to continue to invest in our commercial organization in Europe and Canadian launch preparations for Thelin™, however as a result of the restructuring, we have terminated our U.S. sales force and significantly reduced our commercial infrastructure in the U.S. While we continue to invest in developing several new drug compounds, we currently do not have any drug candidates that may be commercialized in the near future other than Thelin™.

We have just started to commercialize Thelin™ in Europe, and as such, cannot make any projections or financial forecasts of sales or operating expenses. We believe, however, that the commercial launch of Thelin™ in Europe and anticipated launch of Thelin™ in Canada will require additional funding due to higher levels of sales and marketing expenditures, particularly in Europe, than in recent periods. Even though we have received regulatory approval to market Thelin™ in Europe, Canada and Australia, significant uncertainties make it difficult to forecast or predict future sales. Uncertainties that could materially affect any revenue projections include the market acceptance of Thelin™ in each country, approved pricing and reimbursement policies of third-party payers, the speed with which government or other third-party payers grant pricing and reimbursement approvals, competitive activity, the timing of

competitive product approvals and the breadth of competitive product labeling, and other factors impacting the timing, effectiveness and speed of our product launches.

We believe that our existing capital resources are sufficient to fund our operations into the third quarter of 2008. We have implemented a strategic restructuring to reduce our cash requirements and to focus our remaining resources on our most promising assets. As a result of the restructuring, we intend to focus our resources on continued sales and marketing activities of Thelin™ in Europe and Canada; advancing regulatory approval for Thelin™ for PAH in the U.S.; continuing the clinical development of TBC3711; continuing the Phase II proof of concept study of oral Thelin™ as a treatment for diastolic heart failure; and completing activities to maintain the value of our Chemokine C-motif Receptor 9 and its two late stage pre-clinical programs against an undisclosed target.

As a result of these decisions, we expect our ongoing expenses to be approximately $20 million in the fourth quarter of 2007. We also expect to continue to incur operating losses through 2007 and 2008. Because of this, we will require significant additional funding to continue our operations. We are working with Morgan Stanley to evaluate strategic alternatives and we will consider various alternatives to raise additional capital, including, but not limited to, an acquisition of the Company or its assets, licensing or sales of our drug candidates, licensing or sales of some or all of our worldwide rights to Thelin™, issuances of common stock or other equity securities, and the sale of senior, convertible, or subordinated debt which may or may not be secured by our assets. We believe that additional funding will be difficult to obtain, and we cannot assure you that such funding will be available on commercially acceptable terms, if at all. See Note 1 to the Condensed Consolidated Financial Statements.

Cash Used in Operating Activities:

Cash and cash equivalents, including accrued interest thereon, was $54.1 million at September 30, 2007, compared with $43.8 million at December 31, 2006. We used $87.5 million in cash in continuing operations during the nine months ended September 30, 2007, compared to $76.6 million during the nine months ended September 30, 2006. The primary operating uses of cash in the 2007 and 2006 periods were to fund our general operating expenses and the ongoing research and development programs, as well as preparations for the commercialization of Thelin, partially offset by cash received from revenues and investment income. Cash received from GSK for royalties in the nine months ended September 30, 2007 was used to pay interest upon and to partially repay the Original Argatroban Notes and the Argatroban Notes while in the nine months ended September 30, 2006 cash received from GSK was available to fund operating activities.

Cash used in Investing Activities:

Investing activities are primarily comprised of purchases of equipment and leasehold improvements, and of our investments in debt securities. Cash is generated from investing activities when marketable securities mature and the resulting cash is utilized primarily to fund operating activities. Purchases of equipment and leasehold improvements were $0.2 million and $1.8 million in the nine months ended September 30, 2007 and 2006, respectively. There were no purchases or maturities of investments in debt securities during the nine months ended September 30, 2007 or 2006.

Cash provided by Financing Activities:

Cash provided by financing activities of $97.9 million during the nine months ended September 30, 2007 was primarily comprised of proceeds from the Original Argatroban Notes, the Argatroban Notes, the sale of common stock in a registered direct offering and from the three draw downs under the Azimuth Agreement. We incurred $5.2 million in expenses associated with issuing the Argatroban Notes and the Original Argatroban Notes, and after receipt of royalties from GSK we repaid $6.1 million in principal of the Argatroban Notes and the Original Argatroban Notes during the nine months ended September 30, 2007. Cash provided by financing activities of $0.4 million during the nine months ended September 30, 2006 was comprised of proceeds from employee stock option exercises.

Material Commitments:

Our material contractual obligations are comprised of (i) amounts borrowed through the issuance of the Convertible Notes, (ii) amounts borrowed through the issuance of the Argatroban Notes and (iii) obligations under our operating lease agreements. In addition, we have signed a long-term purchase

agreement for the manufacturing and supply of Thelin™; however, our obligations under the agreement are contingent upon receiving regulatory approval for the marketing of Thelin™ in the U.S.

As of September 30, 2007, the Company had contractual obligations as follows (dollars in thousands):


			Less
Contractual			than 1		1-3		3-5		After 5
Obligations	Total		year		Years		Years		years
Long-term debt	$	191,888	$	—	$	—	$	—	$	191,888
Severance and retention		3,342		3,342
Operating leases		3,295		2,090		1,175		30		—

Total	$	198,525	$	5,432	$	1,175	$	30	$	191,888

Off-Balance Sheet Arrangements:

We have not engaged in off-balance sheet financing arrangements.

Impact of Inflation and Changing Prices

The pharmaceutical research industry is labor intensive and wages and related expenses increase in inflationary periods. The leases of space and related building services for our Houston office and laboratory facilities each contain clauses that escalate rent and related services each year based on the increase in building operating costs and the increase in the Houston Consumer Price Index, respectively. To date, inflation has not had a significant impact on our operations.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Foreign Currency Exchange Risk

The Company is exposed to market risk primarily from changes in foreign currency exchange rates. We have contracts with entities outside the U.S. that are denominated in a foreign currency. To date, changes in foreign currency exchange rates have not had a material impact on our financial results, although future changes in foreign currency exchange rates could have a material impact on our future financial results.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this report, our management carried out an evaluation, with the participation of our principal executive officer (the “CEO”) and our principal accounting officer (the “PAO”), of the effectiveness of our disclosure controls and procedures pursuant to Rule 13a-15 of the Securities Exchange Act of 1934. Based on those evaluations, the CEO and PAO concluded:

(i) that our disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including the CEO and PAO, as appropriate to allow timely decisions regarding required disclosure; and

(ii) that our disclosure controls and procedures are effective.

Changes in Internal Controls Over Financial Reporting

There have been no changes in our internal controls over financial reporting during the period covered by this report that have materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

In addition, on October 10, 2006, a second purported class action complaint was filed in the United States District Court for the Southern District of Texas by Gustav R. Bastian, on behalf of himself and all other similarly situated investors against the Company, Dr. Given, Mr. Dixon and Mr. Mueller. The complaint asserted substantially the same factual allegations and legal claims as the Massachusetts Laborers complaint on behalf of the same putative class. A third substantially similar purported class action complaint was filed on October 20, 2006 by Steven O. Scott, and a fourth substantially similar purported class action complaint was filed on November 1, 2006 by Cami Janzen-Guare. These complaints asserted substantially the same factual allegations and legal claims as the Massachusetts Laborers’ complaint and were filed in the same court on behalf of the same putative class.

As a result of the dismissals of the class and derivative lawsuits, there are no longer any pending shareholder lawsuits against the Company.

Item 1A. Risk Factors

The following risks should be read in conjunction with other risk factors disclosed under Item 1A. Risk Factors, in our Annual Report on Form 10-K for the year ended December 31, 2006.

If we are unable to raise significant additional capital, we will not be able to continue to operate as a going concern.

Our restructuring efforts may have an adverse impact on our current employees and on our ability to retain and attract management and other key personnel.

On June 25, 2007, we implemented a restructuring plan intended to reduce our operating expenses following our receipt of the Third Approvable Letter from the FDA on June 15, 2007. As a result, we reduced our U.S. workforce by approximately 70 percent to about 75 people. The planning and implementation of our restructuring has placed, and will continue to place a strain on our managerial, operational and other resources. We cannot assure you that our restructuring efforts will enable us to reduce our costs to the extent anticipated.

Our success depends largely upon the continued service of our senior management and scientific staff and our ability to attract, retain and motivate qualified scientific, senior management, sales and marketing and professional support staff personnel. Our success is also dependent on our retaining and expanding our personnel as needs arise in the areas of sales and marketing, and professional support staff, in order to successfully commercialize Thelin™ in the EU and Canada. Since receiving marketing approval for Thelin™ from the EC in August 2006, we began to establish sales and marketing operations and hire sales representatives in the UK, Germany, France and Italy and other countries of the EU. We may also need to hire additional qualified personnel in management, finance and accounting, human resources, regulatory affairs, legal and other key areas in order to successfully commercialize Thelin™ in the EU and Canada.

The industry in which we compete has a high level of employee mobility and aggressive recruiting of skilled personnel. We face intense competition for such personnel from other pharmaceutical companies, academic institutions, government entities and other organizations. We cannot assure you that we will be successful in attracting, hiring or retaining qualified personnel.

Since receiving the Third Approvable Letter, we have lost several employees and we may lose key employees in the future for reasons discussed above. The loss of any of our key employees could adversely affect our business and cause significant disruption in our operations.

The workforce reduction could also result in reduced productivity by our remaining employees, which in turn may affect our business and financial results in future quarters. We cannot assure you that future reductions or adjustments to our workforce will not be made or that issues associated with such reductions will not recur.

We cannot guarantee our ability to enter into and consummate a definitive transaction as a result of the evaluation of our strategic alternatives with Morgan Stanley or our ability to maximize stockholder value through this process.

On July 17, 2007 we retained the investment banking firm of Morgan Stanley to assist us in evaluating our strategic alternatives to maximize stockholder value. As this evaluation is in its early stages, we are uncertain as to what strategic alternatives may be available to us, if any, whether we will elect to pursue any such strategic alternatives, whether we will be able to consummate a definitive transaction, what impact any particular strategic alternative will have on our stock price if pursued, and whether we will maximize stockholder value through this evaluation process. There are various uncertainties and risks relating to our evaluation of strategic alternatives and our ability to consummate a definitive transaction, including:

	•		exploration of strategic alternatives may distract management from focusing our resources on our most promising assets and disrupt day-to-day operations, which could have a material adverse effect on our operating results;

	•		the process of evaluating strategic alternatives may be time consuming and expensive and may result in the loss of business opportunities and business partners;

	•		perceived uncertainties as to our future direction may result in increased difficulties in recruiting and retaining employees, particularly senior management;

	•		numerous factors, some of which are outside our control, including factors affecting the availability of financing for transactions or the financial markets in general; and

	•		we may not be able to successfully achieve the benefits of any strategic alternative undertaken by us.

If the evaluation of strategic alternatives does result in a transaction, we are unable to predict what the market price of our common stock would be after the announcement of such a transaction. In addition, the market price of our common stock could be highly volatile for several months as we explore strategic alternatives and may continue to be more volatile if and when a transaction is announced or we announce that we are no longer evaluating strategic alternatives.

We have recently experienced significant turnover in senior management.

Over the past 12 months, we have experienced significant turnover in our senior management team, including the departures of our President and Chief Executive Officer, Chief Financial Officer, Vice President of Clinical Development, Vice President of Finance and Administration, and Executive Director of Business Development. As a result of these changes, we essentially have a new management team. It is not yet possible to assess how effective this management team will be and whether they will be able to accomplish our strategic business objectives. In addition, because we have a relatively small organization, the loss of executive officers or other key employees could adversely affect our operations. Further, changes in senior management are disruptive to the organization and changes may slow our progress toward our strategic goals.

We have a history of losses and we may never become profitable.

Until recently, the majority of our financial resources have been dedicated to the research and development of Argatroban, Thelin™ and other drug compounds. Beginning in 2005, we have spent an increasing percentage of our financial resources on preparations for the anticipated commercial launch of Thelin™ in the U.S., and more recently, in building the commercial infrastructure necessary to launch Thelin™ in Europe and Canada. As described below, we expect to continue to invest in our commercial organization in Europe and Canadian launch preparations for Thelin™, however as a result of the Restructuring, we have terminated our U.S. sales force and significantly reduced our commercial infrastructure in the U.S. While we continue to invest in developing several new drug compounds, we currently do not have any drug candidates that may be commercialized in the near future other than Thelin™. We also intend to maintain a smaller headquarters in the U.S.

Based upon our current cash position, we believe that our existing capital resources are sufficient to fund our operations into the third quarter of 2008. We have implemented a strategic restructuring to reduce our cash requirements and to focus our remaining resources in our most promising assets. As a result of the restructuring, we intend to focus our resources on continued sales and marketing activities of Thelin™ in Europe and Canada; advancing regulatory approval for Thelin™ for PAH in the U.S.; continuing the clinical development of TBC3711; continuing the Phase II proof of concept study of oral Thelin™ as a treatment for diastolic heart failure; and completing activities to maintain the value of our Chemokine C-motif Receptor 9 and its two late stage pre-clinical programs against an undisclosed target.

We cannot assure you that we will be able to develop, produce at reasonable cost, obtain regulatory approvals, or market successfully, any of our product candidates, including Thelin™. All of our products will require regulatory approval before they may be commercialized. Products, if any, resulting from our research and development programs other than Argatroban and Thelin™, or the use of our products in new indications, may not be commercially available for a number of years, if at all, and we cannot assure you that any successfully developed products will generate substantial revenues or that we will ever be profitable.

If we are unable to raise additional capital, we will be unable to conduct our operations and develop our potential products.

Even with the Restructuring, we expect to continue to incur substantial research and development expenditures as we develop new drug candidates, and continue to invest in the development and commercialization of Thelin™. We also anticipate that our operating expenses will continue to increase due to the following factors:

•

We have incurred and will continue to incur significant commercialization-related expenses for Thelin™. These costs include:

	-		building a commercial infrastructure in Europe, Canada and other key geographic areas;

	-		rebuilding a commercial infrastructure in the U.S. if Thelin™ receives FDA approval;

	-		investing in market launch and market development activities in Europe, Canada and other key geographic areas;

	-		expenses related to reimbursement submissions and approvals;

	-		market research;

	-		building the necessary infrastructure in our support services functions, such as finance, human resources and legal;

	-		building the depth and breadth of our management team;

	-		preparing and producing educational and promotional materials; and

	-		establishing additional contractual relationships with manufacturing, distribution and logistics services providers to support the commercialization of Thelin™.

•

We expect to incur significant expenses in conjunction with additional clinical trial costs for Thelin™ and TBC3711 and are incurring costs for clinical trials related to an additional drug compound. These costs include:

	-		hiring personnel to direct and execute clinical trials;

	-		costs incurred by clinical investigators;

	-		services of contract research organizations; and

	-		purchasing and formulating quantities of drug compound to be used in such clinical trials.

Notwithstanding revenues that may be produced through potential sales of Thelin™, we will need to secure additional financing to continue our current operations, including the required levels of research and development to reach our long-term goals. Estimates of our future cash requirements will depend on many factors, including:

	•		the outcome and timing of reimbursement approvals for Thelin™ in the various countries in the EU, Canada and Australia, including pricing levels;

	•		competitive activity, including the timing of regulatory approvals and approved product labels for products competitive with Thelin™;

	•		our success in commercializing Thelin™;

	•		scientific progress in our drug discovery programs;

	•		the number and magnitude of these research and development programs;

	•		progress with preclinical testing and clinical trials of new drug compounds;

	•		the costs and our success in filing, prosecuting and enforcing patent claims;

	•		competing technological and market developments and changes in our existing research relationships;

	•		administrative costs and costs to commercialize Thelin™ as new product markets are developed;

	•		working capital requirements to support inventory and accounts receivable;

	•		our ability to maintain and establish additional collaborative arrangements;

	•		effective and sustained commercialization activities and arrangements; and

	•		the result of our evaluation of strategic alternatives with Morgan Stanley.

We cannot give investors in our common stock any assurance that we will be able to maintain compliance with the $1.00 per-share minimum price requirement for continued listing on Nasdaq or that our stock will not be de-listed by Nasdaq.

As of November 7, 2007, the price for our shares of common stock had closed below $1.00 per share for two consecutive trading days. Under Nasdaq’s continued listing standards, companies listed on the Nasdaq Global Market are required to have, among other criteria, a minimum per-share price of at least $1.00. A company may be de-listed from the Nasdaq Global Market if its common stock trades below $1.00 per share for 30 consecutive trading days and, after receiving a deficiency notice from Nasdaq, does not maintain a minimum bid price of at least $1.00 for 10 consecutive trading days within a period of 180 days from the date of such notice.

If our common stock is de-listed from Nasdaq, there will be a significant reduction in the liquidity of our common stock and a material reduction in the per-share price of our common stock. In addition, any such de-listing could harm our ability to raise capital on terms acceptable to us, or at all, and may result in the loss of confidence in our financial stability by suppliers, customers and employees. If our securities are de-listed from the Nasdaq Global Market, we may face a lengthy process to re-list our securities, if we are able to re-list them at all, and the liquidity that Nasdaq provides will no longer be available to investors. Also, if our common stock is de-listed from Nasdaq, we may become subject to the SEC’s “penny stock” rules.

We make business decisions based on forecasts of future sales of Thelin™ in markets where we have approval that may be inaccurate.

Our forecasts of future sales of Thelin™ in markets where we have approval are based on many assumptions, including, but not limited to, reliance on external primary and secondary market research, our own internal research, population estimates, estimates of disease diagnostic rates, treatment trends, and sales of similar and competitive products, and market estimates by third parties. Any of these assumptions can materially impact our forecasts and we cannot assure you that the assumptions are accurate. In addition, our sales forecasts include the transition of our current clinical trial patients to Thelin™ commercial supply. We cannot assure you that patients currently receiving Thelin™ in our clinical trials will be prescribed Thelin™ when the clinical trials are terminated.

Legislative changes or regulatory decisions in Europe may adversely impact our orphan drug status which may result reduced revenues in the European Union.

The EC has designated Thelin™ as an orphan drug. Orphan drug status precludes European regulators from approving marketing applications in the EU for medicinal products that are chemically similar to Thelin™ for a period of ten years. We have been requested to provide information to support the designation of Thelin™ as an orphan drug in the EU and have responded to this request. In May 2007, we met with officials of the EC to discuss the EMEA’s reassessment of the orphan drug status of Thelin™ in the EU, and following that meeting, we submitted documents supporting our position that Thelin™’s orphan drug status should be maintained in the EU. If the EC amends its decision designating Thelin™ as an orphan drug, or if the EC decides not to renew the orphan drug designation of Thelin™ after the first five years following marketing approval, Thelin™ will lose its orphan drug status and European regulators may approve medicinal products that are chemically similar to Thelin™. In such case, we would need to rely on our existing patent protection to prevent the commercialization of competing products in the EU. This protection presently extends to 2016, subject to any available extensions, and may be broader or narrower than that offered by orphan drug status, depending on the scope of patent claims applicable to Thelin™. If Thelin™ loses its orphan drug status in the EU, and existing patent claims applicable to Thelin™ cannot prevent commercialization of competing products, Thelin™ will face increased competition, which may decrease the amount of revenue we receive from Thelin™.

We depend on third parties in the conduct of our clinical trials for our product candidates and any failure of those parties to fulfill their obligations could adversely affect our development plans.

We depend on independent clinical investigators, contract research organizations, hospitals and other third party service providers and our collaborators in the conduct of our clinical trials for our product candidates. We rely on these parties for successful execution of our clinical trials but do not control many aspects of their activities. For example, the investigators are not our employees. However, as the sponsor of these trials we are responsible for ensuring that each of our clinical trials is conducted in accordance with the clinical investigational plan, protocols for each clinical trial, good clinical practices and other regulatory requirements. Third parties may not complete activities on schedule or may not conduct our clinical trials in accordance with regulatory requirements or our stated protocols. The failure of these third parties to carry out their obligations could delay or prevent the development, approval and commercialization of our product candidates.

Issuance of shares in connection with financing transactions or under stock plans will dilute current stockholders.

We issued approximately 7.7 million shares of our common stock, and warrants to purchase an additional 7.7 million shares of common stock at a price of $1.95 per share in a registered direct offering in August 2007.

We issued $130 million of our Convertible Notes, which are convertible into approximately 9.3 million shares of our common stock. In addition, pursuant to our stock plans, our management, upon approval by our Compensation and Corporate Governance Committee, is authorized to grant stock awards to our employees, directors and consultants. Stockholders will incur dilution upon the conversion of the Convertible Notes, or the exercise of any outstanding stock awards. In addition, if we raise additional funds by issuing additional common stock, or securities convertible into or exchangeable or exercisable for common stock, further dilution to our existing stockholders will result and new investors could have rights superior to existing stockholders.

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

None

Item 3. Defaults Upon Senior Securities

None

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

None

Item 5. Other Information

None


Item 6.		Exhibits


Exhibit No.		Description

4.1		Form of Common Stock Warrant (incorporated by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on August 23, 2007).

4.2		First Supplemental Indenture, dated as of September 21, 2007, between Royalty Sub and U.S. Bank National Association, as Trustee, including the form of Argatroban PhaRMASM Secured 18.5% Notes due 2014 attached as Exhibit A thereto (incorporated by reference to Exhibit 4.2 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on September 21, 2007).

10.1		Form of Retention Agreement for Remaining Employees, including Named Executive Officers (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on July 9, 2007).

10.2		Separation Agreement and Release dated July 12, 2007, between the Company and Bruce D. Given, M.D. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on July 16, 2007).

10.3		Securities Purchase Agreement dated August 20, 2007, between the Company and the purchasers named therein (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on August 23, 2007).

31.1		Certification of Chief Executive Officer pursuant to Rule 13a-14(a) / Rule 15d-14(a), promulgated under the Securities Exchange Act of 1934, as amended.

31.2		Certification of Chief Financial Officer pursuant to Rule 13a-14(a) / Rule 15d-14(a), promulgated under the Securities Exchange Act of 1934, as amended.

32.1		Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

ENCYSIVE PHARMACEUTICALS INC.

November 9, 2007

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, on the 9th day of November 2007.


	ENCYSIVE PHARMACEUTICALS INC.
	By:	/s/ George Cole
		George Cole
		President and Chief Executive Officer


	By:	/s/ Richard A. Goeggel
		Richard A. Goeggel
		Vice President, Finance and Treasurer

INDEX TO EXHIBITS


Exhibit No.		Description

4.1		Form of Common Stock Warrant (incorporated by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on August 23, 2007).

4.2		First Supplemental Indenture, dated as of September 21, 2007, between Royalty Sub and U.S. Bank National Association, as Trustee, including the form of Argatroban PhaRMASM Secured 18.5% Notes due 2014 attached as Exhibit A thereto (incorporated by reference to Exhibit 4.2 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on September 21, 2007).

10.1		Form of Retention Agreement for Remaining Employees, including Named Executive Officers (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on July 9, 2007).

10.2		Separation Agreement and Release dated July 12, 2007, between the Company and Bruce D. Given, M.D. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on July 16, 2007).

10.3		Securities Purchase Agreement dated August 20, 2007, between the Company and the purchasers named therein (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K (Commission File No. 000-20117) filed with the Commission on August 23, 2007).

31.1		Certification pursuant to Rule 13a-14(a) / Rule 15d-14(a), promulgated under the Securities Exchange Act of 1934, as amended.

31.2		Certification pursuant to Rule 13a-14(a) / Rule 15d-14(a), promulgated under the Securities Exchange Act of 1934, as amended.

32.1		Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

Positive
Negative
Uncertain
Constraining
Legalese
Litigious
Readability	H.S. sophomore Avg

Encysive Pharmaceuticals (ENCY) Inactive 10-Q2007 Q3 Quarterly report

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