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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Form 10-Q

  (Mark One)

For the quarterly period ended March 31, 2003

or

For the transition period from             to            

Commission File Number: 000-27765

SYMYX TECHNOLOGIES, INC.

(408) 764-2000
(Registrant’s telephone number, including area code)

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x No o

As of May 1, 2003, Registrant had outstanding 31,045,903 shares of Common Stock, $.001 par value.

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PART I: FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

SYMYX TECHNOLOGIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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SYMYX TECHNOLOGIES, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share information)

See accompanying notes to condensed consolidated financial statements

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SYMYX TECHNOLOGIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1.     Summary of Significant Accounting Policies

Business and Basis of Presentation

     Symyx Technologies, Inc. (the “Company” or “Symyx”) develops and applies high-speed combinatorial technologies to the discovery of materials for chemical, life science and electronics applications. Symyx provides research services through its Industry Collaborations business, licenses discovered materials and patents through its Licensing business, and sells select instruments and software through its Discovery Tools® business.

     Symyx® was incorporated in California on September 20, 1994 and completed a reincorporation in the state of Delaware in February 1999. Symyx’ headquarters and mailing address is 3100 Central Expressway, Santa Clara, California, 95051, and the telephone number at that location is (408) 764-2000. Our SEC filings are available free of charge through our website at www.symyx.com. Our Common Stock trades on the Nasdaq National Market under the symbol “SMMX”.

     The accompanying unaudited condensed consolidated financial information has been prepared by management, in accordance with generally accepted accounting principles for interim financial information and pursuant to instructions to Form 10-Q and Article 10 of Regulation S-X. Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the Securities and Exchange Commission’s rules and regulations. In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the financial position at March 31, 2003 and results of operations and cash flows for all periods presented have been made. The consolidated condensed balance sheet at December 31, 2002 has been derived from the audited financial statements at that date.

     These condensed consolidated financial statements should be read in conjunction with the Company’s audited financial statements as included in the Company’s 2002 Annual Report on Form 10-K as filed with the Securities and Exchange Commission. The results of operations for the three month period ended March 31, 2003 are not necessarily indicative of the results to be expected for any subsequent quarter or for the entire fiscal year ending December 31, 2003.

Principles of consolidation

     These consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Symyx Technologies AG, incorporated in Switzerland, Symyx Discovery Tools, Inc., incorporated in California and Symyx Therapeutics, Inc., incorporated in Delaware. All significant intercompany balances and transactions have been eliminated on consolidation.

Use of Estimates

     The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to exercise judgment in making estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from these estimates.

     The actual results with regard to warranty expenditures could have a material unfavorable impact on the Company if system failures or the cost to repair a system is greater than what the Company has used in estimating the warranty expense accrual.

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

Reclassifications

     Certain reclassifications have been made to prior period amounts to conform to the current period presentations. Revenue reported in previous quarters as product and license revenue is now reported separately as revenue from product sales and revenue from royalties and license fees.

Revenue Recognition

     Service Revenues

     The Company recognizes service revenues from research collaboration agreements and government grants as earned based upon the performance requirements of the agreements. Payments received prior to performance are deferred and recognized as revenue when earned over future performance periods. Collaboration agreements generally specify minimum levels of research effort required to be performed by the Company. Payments received under research collaboration agreements are not refundable if the research effort is not successful. Direct costs associated with these contracts and grants are reported as research and development expense.

     Non-refundable up-front payments received in connection with research and development collaboration agreements, including technology access fees, are deferred and recognized on a straight-line basis over the relevant periods specified in the agreement, generally the research term. Revenue from milestone payments, which are substantially at risk until the milestones are completed, is recognized upon completion of these milestone events. Milestone payments to date have been immaterial.

     Product Sales

     Product sales revenues include sales of Discovery Tools hardware and associated software licenses. Revenue from the sale of Discovery Tools systems is recognized when earned. Revenue is earned when persuasive evidence of an arrangement exists, delivery of the product has occurred, no significant obligations with regard to implementation remain, the fee is fixed or determinable, and collectibility is probable. This is generally upon shipment, transfer of title to and acceptance by the customer of the hardware and associated software and licenses to intellectual property, unless there are extended payment terms. The Company considers all arrangements with payment terms extending beyond 12 months not to be fixed or determinable. If the fee is not fixed or determinable, revenue is recognized as payments become due from the customer. In multiple element arrangements, the Company uses the residual method to allocate revenue to delivered elements once it has established fair value for all undelivered elements. Payments received in advance under these arrangements are recorded as deferred revenue until earned.

     The Company’s product related software licenses may provide for technical support, bug fixes and rights to unspecified upgrades on a when-and-if-available basis for periods defined within the contract. Revenue related to this post contract customer support is deferred and recognized over the term of the contracted support.

     An accrual is established for warranty expenses at the time the associated revenue is recognized. Shipping and insurance costs associated with the sale of Discovery Tools systems are not material and are included in sales, general and administrative costs.

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

     Royalty and License Fees

     Amounts received from third parties for licenses to the Company’s intellectual property are recognized when earned under the terms of the agreements. Generally revenue is recognized upon transfer of the license unless the Company has continuing obligations for which fair value cannot be established, in which case the revenue is recognized over the period of the obligation. If there are extended payment terms, license fee revenue is recognized as these payments become due. The Company considers all arrangements with payment terms extending beyond 12 months not to be fixed or determinable. If there is a provision in the licensing agreement for a variable fee in addition to a non-refundable minimum amount, the amount of the non-refundable minimum guarantee is recognized upon transfer of the license unless the Company has continuing obligations for which fair value cannot be established and the amount of the variable fee in excess of the guaranteed minimum is recognized as revenue when it is fixed and determinable.

     Royalty revenues are recorded based on reported sales by third party licensees of products containing the Company’s software and intellectual property.

     Amounts received from third parties for options to license certain technology or enter collaborative arrangements upon specified terms are deferred until either the option is exercised or the option right expires.

Concentration of Revenue

     For the three months ended March 31, 2003, and 2002 the following customers contributed more than 10% of the Company’s total revenue for the quarter (in thousands):

     The revenue from the above customers has been included in the following reportable segments for the first quarter ended March 31, 2003 and 2002 (in thousands):

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

Inventories

     Work in process is the only component of inventories for all periods presented and comprises customized Discovery Tools systems in the process of being built. Inventories are carried at the lower of cost or market, determined on a specific identification basis.

Warranty expense accrual

     The Company offers a warranty on each Discovery Tool System shipped. The specific terms and conditions of these warranties vary depending upon the product sold and country in which the Company does business, however they typically include coverage for parts and labor and software bug fixes, for a specified period (typically 1 year). The Company estimates the costs that may be incurred under its basic limited warranty and records a liability in the amount of such costs at the time product revenue is recognized. Factors that affect the Company’s warranty liability include the number of installed units, historical and anticipated rates of warranty claims, and cost per claim. The Company periodically assesses the adequacy of its recorded warranty liabilities and adjusts the amounts as necessary.

Changes in the Company’s product warranty expense accrual during the three month period ended March 31, 2003 are as follows (in thousands):

Income Taxes

     Income taxes have been provided using the liability method in accordance with FASB Statement 109, “Accounting for Income Taxes”. In accordance with FASB Statement 109, a deferred tax asset or liability is determined based on the difference between the financial statement and tax basis of assets and liabilities as measured by the enacted tax rates which will be in effect when these differences reverse. The Company provides a valuation allowance against net deferred tax assets unless, based upon the available evidence, it is more likely than not that the deferred tax assets will be realized.

Stock Based Compensation

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

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

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

     Pro forma information under SFAS 123 is as follows (in thousands, except per share data).

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

     The value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions:

     The Black-Scholes option pricing model was developed for use in estimating the value of traded options that have no vesting restrictions and are fully transferable. In addition, option pricing models require the input of highly subjective assumptions including the expected stock price volatility. The Company uses projected data for expected volatility and expected life of its stock options based upon historical and other economic data trended into future years. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the estimate, in management’s opinion, the existing valuation models do not provide a reliable measure of the fair value of the Company’s employee stock options. Under the Black-Scholes option pricing model, the weighted-average estimated values of employee stock options granted during the three months ended March 31, 2003 and the fiscal year ended December 31, 2002 were $7.02 and $8.33 per share, respectively.

     The value of shares of common stock relating to the Employee Stock Purchase Plan is estimated on the issuance date using the Black-Scholes model and the following weighted average assumptions for issuances made in 2003 and 2002:

2.  Earnings Per Share

     Basic net income per share has been computed using the weighted-average number of shares of common stock outstanding during the period, less shares subject to repurchase. Diluted net income (loss) per share has been calculated based on the shares used in the calculation of basic net income per share and the dilutive effect of stock options and shares subject to repurchase. The computation of the weighted average number of shares outstanding for the three month periods ended March 31, 2003 and 2002 are as follows (in thousands):

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

3.  Comprehensive Income

     The Company has adopted Statement of Financial Accounting Standards No. 130, “Reporting Comprehensive Income”. The only components of other comprehensive income (loss) are unrealized gains and losses on available-for-sale securities and a foreign currency translation adjustment.

     The components of comprehensive income, net of tax, for the three months ended March 31, 2003 and 2002 are as follows (in thousands):

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

     The components of accumulated other comprehensive income, net of tax, at March 31, 2003 and December 31, 2002 are as follows (in thousands):

4.  Segment Disclosure

     Statement of Financial Accounting Standards No. 131, Disclosures about Segments of an Enterprise and Related Information (SFAS 131), requires disclosures of certain information regarding operating segments, products and services, geographic areas of operation and major customers. The method for determining what information to report under SFAS 131 is based upon the “management approach,” or the way that management organizes the operating segments within a company, for which separate financial information is available that is evaluated regularly by the Chief Operating Decision Maker (CODM) in deciding how to allocate resources and in assessing performance. Symyx’ CODM is the Chief Executive Officer. The CODM evaluates the performance of the Company based on consolidated profit or loss from operations before income taxes. For the purpose of making operating decisions, the CODM primarily considers financial information presented on a consolidated basis accompanied by disaggregated information about revenues. Revenue is defined as revenues from external customers.

     Symyx allocates research personnel time to each collaboration arrangement on a full-time-equivalent basis but does not allocate actual research and development expenses to each collaboration or business segment. The Company does not assess segment performance below the revenue level or allocate sales, general or administrative expenses or assets to the individual segments and, therefore, financial performance including depreciation and amortization and capital expenditures is not reported on a segment basis.

     Symyx provides research services to its partners through its Industry Collaborations business, offers access to select proprietary instruments and associated software and intellectual property, through its Discovery Tools business and licenses discovered materials and methodology patents through its Licensing business.

     The disaggregated financial information reviewed by the CODM is as follows. The Company segregates Industry Collaboration revenue into four categories for purposes of internal management reporting: Chemicals, Industrial Polymers, Electronic Materials, and Life Sciences. The CODM reviews this revenue information on an industry basis as well as by Business Unit (in thousands).

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SYMYX TECHNOLOGIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

     The disaggregated financial information reviewed by the CODM can be reconciled to the revenue disclosed in the Condensed Consolidated Statement of Operations as follows (in thousands).

Geographic Area Data

     All significant long-lived assets were geographically located in the United States for all periods presented. All revenue is generated in the United States for all periods presented. Revenues are attributed to the following geographic locations based on the physical location of Symyx’ customers (in thousands).

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

     This Management’s Discussion and Analysis of Financial Condition and Results of Operations and other parts of this Form 10-Q contain forward-looking statements that involve risks and uncertainties. These statements typically may be identified by the use of forward-looking words or phrases such as “believe,” “expect,” “intend,” “anticipate,” “should,” “planned,” “estimated,” and “potential,” among others. All forward-looking statements included in this document are based on our current expectations, and we assume no obligation to update any such forward-looking statements. The Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for such forward-looking statements. In order to comply with the terms of the safe harbor, we note that a variety of factors could cause actual results and experience to differ materially from the anticipated results or other expectations expressed in such forward-looking statements. The risks and uncertainties that may affect the operations, performance, development, and results of our businesses include but are not limited to (1) market acceptance of our products and services; (2) uncertainties relating to the pace, quality or number of discoveries of new materials; (3) the dependence on collaborators to successfully commercialize products; (4) uncertainties of patent protection and litigation; (5) future growth strategy; (6) general economic conditions in the United States and in major European and Asian markets; (7) exposure to risks associated with export sales and operations; (8) natural disasters, power failures and other disasters; and (9) other factors that might be described from time to time in our periodic filings with the Securities and Exchange Commission and include those set forth in this Quarterly Report on Form 10-Q as “Factors Affecting Future Results” and “Other Risk Factors”.

     All percentage amounts and ratios were calculated using the underlying data in thousands. Operating results for the three months ended March 31, 2003, are not necessarily indicative of the results that may be expected for any subsequent quarter or for the full fiscal year.

Overview

     To date, our revenues and cash flows from operations have come from research collaborations with large chemical, life science and electronics companies, sale of instruments, and licensing of intellectual property, materials and software, and government grants. Approximately 25 leading chemical, life science and electronics companies are among our base of worldwide partners, customers and licensees. We expect that our cash flows and revenue for 2003 will be comprised in large part of payments to be made and revenue to be earned under research and development collaborations together with product revenue from our Discovery Tools business and license fees from our Intellectual Property and Materials Licensing business.

     We have invested heavily in establishing the technology, instrumentation and informatics necessary to pursue high throughput discovery of materials. These materials include catalysts to manufacture commodity chemicals and polyolefins, polymers and phosphors for life science and industrial applications, and specialized materials for electronics applications.

     We expect to continue to make significant investments in research and development, including the development of new instruments and software, to enhance our technologies. In addition, an important part of our strategy is to expand our operations and employee base, and to build our resources for research and development, business development and marketing.

     As of March 31, 2003, our accumulated deficit was approximately $7.7 million. We may incur additional operating losses in the future as we continue to expand staffing, equipment and facilities. See “Factors Affecting Future Results.”

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Critical Accounting Policies

     Symyx’ financial statements and accompanying notes are prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). Preparing financial statements and related disclosures requires management to exercise judgment in making estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. These estimates and assumptions are affected by management’s application of accounting policies. Estimates are used for, but not limited to, revenue recognition, establishing the warranty expense accrual, establishing slow-moving, obsolete and excess inventory reserves, determining when technical feasibility for our software products has been achieved and accounting for income taxes. The following critical accounting policies, among others, are impacted significantly by judgments, estimates and assumptions used in the preparation of the Consolidated Financial Statements.

Source of Revenues and Revenue Recognition Policy

     Service revenue consists of research and development funding received from collaborative partners as well as government grants received for proprietary materials research. Product revenue consists of payments from customers for Discovery Tools systems and consumables. Royalties and license fees include fees for licensing of our intellectual property, proprietary materials and technology license payments and royalties on laboratory instruments and software sold under license by third parties.

     We recognize revenue from research collaboration agreements and government grants as earned upon performance of the services specified in the agreements. Payments received that are related to future performance are deferred and recognized as revenue as the performance requirements are fulfilled. As of March 31, 2003, we had deferred revenues of approximately $4.3 million, compared with $3.0 million at December 31, 2002. The terms of our collaboration agreements generally require us to perform minimum levels of research.

     We recognize revenue from the sale of Discovery Tools, and all related costs of products sold are expensed, once customer acceptance has been achieved. A warranty expense accrual is established at the time of customer acceptance. If there are extended payment terms, we recognize product revenue as these payments become due. We consider all arrangements with payment terms extending beyond 12 months not to be fixed or determinable. Accordingly, the cost of products sold as a percentage of product revenue will fluctuate from one period to the next based on the timing of when extended payments are due as well as the mix of products sold.

     We recognize license fee revenues for licenses to our intellectual property when earned under the terms of the agreements. Generally, revenue is recognized upon transfer of the license unless we have continuing obligations for which fair value cannot be established, in which case the revenue is recognized over the period of the obligation. If there are extended payment terms, we recognize license fee revenue as these payments become due. We consider all arrangements with payment terms extending beyond 12 months not to be fixed or determinable. In certain licensing arrangements there is provision for a variable fee as well as a non-refundable minimum amount. In such arrangements, the amount of the non-refundable minimum guarantee is recognized upon transfer of the license unless we have continuing obligations for which fair value cannot be established and the amount of the variable fee in excess of the guaranteed minimum is recognized as revenue when it is fixed and determinable.

     We recognize royalty revenues based on reported sales by third party licensees of products containing our materials, software and intellectual property.

     Our sources of potential revenue for the next several years are likely to be:

	•		payments under existing and possible future collaborative arrangements;
	•		royalties from our partners based on revenues received from any products commercialized under those agreements;
	•		sales of Discovery Tools, other instruments and associated services; and
	•		licensing of software and intellectual property.

     See Note 1 of Notes to Condensed Consolidated Financial Statements for a further discussion of our revenue recognition policies.

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Inventories

     We carry our inventories at the lower of cost or market, cost being determined on a specific identification basis. We apply judgment in determining the provisions for slow-moving, excess and obsolete inventories based on historical experience and anticipated product demand.

Warranty Expense Accrual

     A warranty expense accrual is established at the time of customer acceptance of a Discovery Tool system and is included as a cost of product sold. Management is required to exercise judgment in establishing the appropriate level of warranty expense accrual for each Discovery Tool system delivered. The actual results with regard to warranty expenditures could have a material unfavorable impact on us if system failures or the costs to repair systems are greater than our estimates.

Research and Development Costs

     We account for research and development costs in accordance with several accounting pronouncements, including SFAS 2, “Accounting for Research and Development Costs”, and SFAS 86, “Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed”. SFAS 86 specifies that costs incurred internally in creating a computer software product should be charged to expense when incurred as research and development until technological feasibility has been established for the product. Once technological feasibility is established, all software costs should be capitalized until the product is available for general release to customers. Judgment is required in determining when the technological feasibility of a product is established. We have determined that technological feasibility for our software products is reached shortly before the products are released to manufacturing. Costs incurred after technological feasibility is established are not material, and accordingly, we expense all research and development costs when incurred.

Accounting for Income Taxes

     Income taxes have been provided using the liability method. Our effective tax rate for fiscal year 2003 is based on our projection of the estimated future tax consequences of events that have been recognized in our financial statements or tax returns. Fluctuations in the actual outcome of these future tax consequences could materially impact our financial position or results of operations. A deferred tax asset or liability is determined based on the difference between the financial statement and tax basis of assets and liabilities as measured by the enacted tax rates that will be in effect when these differences reverse. We provide a valuation allowance against net deferred tax assets unless, based upon the available evidence, it is more likely than not that the deferred tax assets will be realized. Establishing this valuation allowance involves significant judgment, since we have a limited history of profitability and the period over which the potential future benefit from the deferred tax assets may be realized is quite long.

Employee Stock Options

     We generally grant stock options to our employees for a fixed number of shares with an exercise price equal to the fair value of the shares on the date of grant. As allowed under the Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”), we have elected to follow Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) and related interpretations in accounting for stock awards to employees. Accordingly, no compensation expense is recognized in our financial statements in connection with stock options granted to employees with exercise prices not less than fair value. Deferred compensation for options granted to employees is determined as the difference between the deemed fair market value of our common stock on the date options were granted and the exercise price.

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Results of Operations

Revenues

     Our total revenue for the three months ended March 31, 2003 was $14.9 million, compared to $14.5 million from the same period in 2002. This increase was due to the increased revenue generated by our Intellectual Property Licensing business, which generated $1.1 million of revenue in the three months ended March 31, 2003, up from $211,000 in the same period in 2002. Product sales revenue for the three months ended March 31, 2003 included revenue from the sale of Discovery Tools Systems to both Merck and to North Dakota State University and payments from The Dow Chemical Company and ExxonMobil Chemical. Service revenue from collaborations decreased due to a change in the mix of collaborative contracts being undertaken during the first quarter of 2003.

     ExxonMobil, Merck, and an Undisclosed Partner accounted for 19%, 25%, and 12% of total revenue, respectively, for the three months ended March 31, 2003, and for 15%, 15%, and 9% of revenue, respectively, for the same period in 2002.

     We segregate revenue by Industry Collaborations, Discovery Tools and Intellectual Property Licensing. Industry collaboration revenue is further segregated into four categories for purposes of internal management reporting: chemicals, electronic materials, life sciences and industrial polymers.

Industry Collaboration Revenue

     The increase in chemicals revenue for the three months ended March 31, 2003 resulted primarily from the commencement of the BP collaboration in 2003. The decrease in life sciences revenue was due mainly to the conclusion of the Merck polymorph development collaboration upon shipment of the system to Merck in late 2002, which was partially offset by the commencement of a new development collaboration with Merck. The decrease in industrial polymers revenue was due to the conclusion of the Unilever collaboration at the end of 2002, partially offset by collaborative revenue received from a new undisclosed partner.

Discovery Tools Revenue

     Discovery Tools revenue was mainly attributable to the shipment of Discovery Tools systems to Merck and North Dakota State University during the quarter ended March 31, 2003. Discovery Tools revenue in the quarter ended March 31, 2002 included the sale of a Solubility system to Eli Lilly and final license payments from Sumitomo for systems shipped to them in 2001.

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Intellectual Property Licensing

     The increase in Intellectual Property Licensing revenue for the three months ended March 31, 2003 was due to intellectual property license fees received from General Electric and Bayer, together with license fees received from third parties for the use of our software and certain other intellectual property and know how.

Cost of Products Sold

     Cost of products sold was $1.1 million, or 22% of product sales revenue for the three months ended March 31, 2003, compared to $645,000, or 12% of product sales revenue for the same period in 2002. The increase in the cost of products sold was due to the change in the product mix shipped in the respective quarters.

     The cost of products sold is expected to fluctuate from period to period and will be driven by the variability of product mix and sales volume in each period.

Research and Development Expenses

     Our research and development expenses consist primarily of:

	•		salaries and other personnel-related expenses;
	•		facility costs;
	•		supplies; and
	•		depreciation of facilities and laboratory equipment.

     The table below indicates the major collaborative partners, defined as those contributing greater than 10% of collaborative research revenue for the three months ended March 31, 2003, for whom we conducted research and development, together with the primary focus of the collaborations and the date upon which the current contract ends. Contracts may only be extended by mutual agreement between us and the collaborative partner.

     We do not track fully burdened research and development costs or capital expenditures by project. However, we estimate based on Full Time Equivalent (“FTE”) effort, that approximately 52% of research & development efforts in the first three months of 2003 were undertaken for collaborative projects funded by our partners, and approximately 48% of research effort was on our own internally funded research including development costs related to our Discovery Tools business. Due to the nature of our research and our dependence on our collaborative partners to commercialize the results of the research, we cannot predict with any certainty whether any particular collaboration or research effort will ultimately result in a commercial product and therefore whether we will achieve future milestones or royalty payments under our various collaborations.

     Research and development expenses for the three months ended March 31, 2003 were $9.4 million, a decrease of $851,000, or 8% from the same period in 2002. The decrease was due primarily to the decreases in research and development labor, supplies and outside research services for the three months ended March 31, 2003.

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     Research and development expenses represented 63% of total revenue in the three months ended March 31, 2003 and 71% of total revenue in the same period in 2002. The decrease as a percentage of total revenue in 2003 was due primarily to revenue increases associated with a reduction in consultants and outside research costs in 2003. Our core businesses are research to discover new materials, the sale of instruments and licensing of related software and licensing of intellectual property and materials discovered in our collaborative and internal research programs. Accordingly, we expect to continue to devote substantial resources to research and development.

Sales, General and Administrative Expenses

     Our sales, general and administrative expenses consist primarily of personnel costs for business development, legal, general management, finance and human resources, as well as payment of commissions to our sales agents and professional expenses, such as legal and accounting. Sales, general and administrative expenses were $3.8 million, an increase of $331,000 or 10% from $3.5 million for the same period in 2002. This increase was due primarily to the addition of business development and patent attorney headcounts and increased legal compliance fees, partially offset by a reduction in the use of consultants and other outside services.

     Sales, general and administrative expenses represented 26% and 24% of total revenue for the three month periods ended March 31, 2003 and 2002, respectively. We expect that our sales, general and administrative expenses will increase in absolute dollar amounts as we:

	•		continue to expand our business development and administrative staff;
	•		add to and improve our existing laboratory and engineering facilities; and
	•		incur escalating costs related to being a public company, such as directors’ and officers’ insurance, and increasing professional fees.

Net Interest Income (Expense)

     Net interest income (expense) represents interest income earned on our cash and available-for-sale securities net of interest expense on equipment financing loans. Interest income was approximately $580,000 for the three month period ended March 31, 2003, and $1.0 million for the same period in 2002. This decrease was due to the impact of lower average interest rates in the three months ended March 31, 2003. There was no interest expense for the three month period ended March 31, 2003. Amounts owed under equipment financing loans used to partially fund our initial acquisition of equipment were fully repaid at December 31, 2001, resulting in interest expense decreasing to $9,000 for the three month period ended March 31, 2002.

Provision for Income Taxes

     We recorded an income tax expense of $476,000 for the three months ended March 31, 2003 and $585,000 for the same period in 2002. The effective tax rate was 40% for the three months ended March 31, 2003 and 49% for the same period in 2002. The decrease in our effective tax rate in the three month period ended March 31, 2003 as compared to the three month period ended March 31, 2002 was due to our anticipation that we will be able to record deferred tax assets for temporary differences that arise in the current year and therefore will not need to provide a valuation allowance for these new deferred tax assets. We do not, however, have a sufficient history of profitability to fully benefit all of our historic deferred tax assets at this time. The largest single component of our unbenefited deferred tax assets arises because our depreciation expense for accounting purposes is substantially higher than our tax depreciation expense. Until we have a more established history of profitability, we will not be sufficiently confident of receiving the full benefit of these future income tax deductions. We review the need for a valuation allowance on a quarterly basis.

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Recent Accounting Pronouncements

Guarantor’s Accounting and Disclosure Requirements for Guarantees

     In November 2002, the FASB issued FASB Interpretation No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, an interpretation of FASB Statements No. 5, 57 and 107 and Rescission of FASB Interpretation No. 34.” FIN 45 clarifies the requirements of SFAS No. 5, “Accounting for Contingencies,” relating to the guarantor’s accounting for, and disclosure of, the issuance of certain types of guarantees. The disclosure provisions of FIN 45 are effective for financial statements of periods that end after December 15, 2002. However, the provisions for initial recognition and measurement are effective on a prospective basis for guarantees that are issued or modified after December 31, 2002. We have no guarantees of indebtedness that would be affected by FIN 45. The disclosure provision related to product warranties is included in Note 1 to the Condensed Consolidated Financial Statements. We do not believe there will be a material effect upon our financial condition or results from operations from the adoption of the provisions of FIN 45.

Consolidation of Variable Interest Entities

     In January 2003, the FASB issued FASB Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities.” FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. FIN 46 applies to public enterprises as of the beginning of the applicable interim or annual period. We do not believe there will be a material effect upon our financial condition or results from operations from the adoption of the provisions of FIN 46.

Liquidity and Capital Resources

     This section discusses the effects of the changes in our balance sheets, cash flows, and commitments on our liquidity and capital resources.

Balance Sheet and Cash Flows

     We had positive cash flow from operations and financing activities and used cash in investing activities for the three months ended March 31, 2003. At March 31, 2003 we had cash, cash equivalents and available-for-sale securities of approximately $127.0 million, an increase of $9.0 million from December 31, 2002.

     As of March 31, 2003, we had no long-term liabilities.

     Our operating activities provided $10.6 million and $4.8 million of cash during the three months ended March 31, 2003 and 2002, respectively. The sources of cash for the three month periods were primarily the receipt of research and development funding from collaborative partners and revenue from product sales and intellectual property licensing, partially offset by operating expenses.

     Net cash used in investing activities during the three months ended March 31, 2003 was $23.8 million, and investing activities provided $13.0 million in the same period in 2002. The fluctuations from period to period are due primarily to the timing of purchases, sales and maturity of securities and purchases of property and equipment. We expect to continue to make significant investments in the purchase of property and equipment to support our expanding operations.

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     Financing activities provided cash of $464,000 million and $485,000 million during the three months ended March 31, 2003 and 2002, respectively. These amounts were primarily the proceeds from the exercise of stock options.

     Current liabilities increased by approximately $2.9 million at March 31, 2003 as compared to December 31, 2002. The increase was due primarily to an increase in deferred revenue and income taxes payable and accrued accounts payable at March 31, 2003. Deferred revenue increased at March 31, 2003, as compared to December 31, 2002 due to the timing of the receipt of advance payments from certain customers. Income taxes payable increased at March 31, 2003 compared to December 31, 2002 due to our ongoing profitability. Our warranty expense accrual at March 31, 2003 is higher than December 31, 2002, reflecting an increase in our installed base of Discovery Tools Systems subject to warranty.

Backlog

     As of March 31, 2003, our customers have contractually committed to future funding of approximately $28.8 million for the purchase by customers of Discovery Tools systems, licenses to our intellectual property and for research and development with existing collaborative partners, excluding milestone payments which are contingent upon the success of the research.

Commitments

     As of March 31, 2003, our principal commitments were $14.8 million. Principal commitments consisted of our obligations under operating leases. We will satisfy these obligations as they become due over the next eight years.

     Future commitments under the operating leases for our facilities are as follows (in thousands):

     In March 2003, we exercised our option to purchase for approximately $3.9 million, the land and building at 3100 Central Expressway, Santa Clara, CA which houses our head office. This acquisition was completed in April 2003 and will reduce the future commitments shown in the table above by approximately $1.8 million.

     As of March 31, 2002, we have purchase commitments for inventory of approximately $1.1 million.

     We believe that our current cash, available-for-sale securities balances and the cash flows generated by operations will be sufficient to satisfy our anticipated cash needs for working capital, capital expenditures, investment requirements, stock repurchases and other liquidity requirements associated with our existing operations for at least the coming year. Nonetheless, we may raise additional funds through public or private financing, collaborative relationships or other arrangements. We cannot assure you that additional funding, if sought, will be available on terms favorable to us. Further, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. Collaborative arrangements and licensing may require us to relinquish our rights to some of our technologies or products. Our failure to raise capital when needed may harm our business and operating results.

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     A portion of our cash may be used to acquire or invest in complementary businesses or products or to obtain the right to use complementary technologies. From time to time, in the ordinary course of business, we may evaluate potential acquisitions of such businesses, products or technologies.

Contingencies

     We are a party to a legal proceeding that has arisen in the ordinary course of business. While the outcome of these proceedings cannot be predicted with certainty, management does not expect this matter to have a material adverse effect on our consolidated financial position, results from operations, or cash flows.

     We carry insurance with coverages and coverage limits that we believe to be adequate. Although there can be no assurance that such insurance is sufficient to protect us against all contingencies, management believes that our insurance protection is reasonable in view of the nature and scope of our operations.

Off Balance Sheet Financing and Related Party Transactions

     We have not entered into any off-balance sheet financing arrangements and have not established any special purpose entities as of March 31, 2003. We have not guaranteed any debt or commitments of other entities or entered into any options on non-financial assets. The only transactions between Symyx and related parties during the three months ended March 31, 2003 were:

	•		existing loans originally provided to certain employees and executive officers for the exercise of stock options prior to our initial public offering in 1999 and partial repayment of these loans during the three months ended March 31, 2003; and
	•		Mario M. Rosati, one of our directors, is also a member of Wilson Sonsini Goodrich & Rosati, Professional Corporation, which has served as our outside corporate counsel since our formation and has received compensation at normal commercial rates for these services.

Factors Affecting Future Results

     Set forth below and elsewhere in this Quarterly Report and in other documents we file with the SEC are risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this Quarterly Report. These are not the only risks and uncertainties facing us. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations.

We may not be able to achieve sustained profitability

     Our ability to continue profitability is dependent on our ability to extend current collaborations and add new ones, to secure new Discovery Tools customers, to add additional licensees of our intellectual property and to make discoveries that our partners or we choose to commercialize. We rely on our existing partners and potential new customers to provide a market for our businesses and our materials. To date, our partners have successfully commercialized only one of our discovered materials. In addition, we have only sold and installed a limited number of Discovery Tools systems and have only recently initiated our intellectual property licensing business. Our ability to achieve our objectives and maintain a profitable business will depend in large part on acceptance by customers of the products and services offered by our businesses, including materials we discover. We cannot assure you that we will achieve the levels of customer acceptance that will be necessary for us to maintain and grow a profitable business. In addition, current negative economic conditions affecting our current and prospective collaboration partners and other potential customers have caused many of these customers to reduce or curtail both internal and external research and development activities. Sustained reductions in research and development activities of our current and potential customers would harm our business and adversely affect our ability to maintain profitability.

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We are dependent on the development activities of companies in the chemical, life sciences and electronics industries, and declines or reductions in research and development activities in these industries could harm our business

     The market for our discovery services and instrumentation within the chemical, life sciences and electronics industries depends on our customers’ ability and willingness to invest in research and development. A majority of our revenues are attributable to our research collaborations. Our future revenues are dependent on funding of our research collaborations, licensing of intellectual property and proprietary materials and sales of Discovery Tools.

     In particular, many companies in the chemical and pharmaceutical industries have, in the past several years, experienced declining profitability or even losses. As a result, some chemical and pharmaceutical companies have reduced their research and development activities. In addition, many chemical products have become commodity products that compete primarily on the basis of price. If commoditization of chemical products and other pressures affecting the industry continue in the future, more companies could adopt strategies that involve significant reductions in their research and development programs. Although we believe that our approach can help life science, chemical and electronics companies increase the efficiency of their research and development activities, our efforts to convince them of this value may be unsuccessful. To the extent that life science, chemical and electronics companies reduce their research and development activities, they would be less likely to do business with us. As a result of current negative economic conditions, a number of these companies have recently both reduced the size of their research and development budgets as well as the size of their workforces. Decisions by these companies to reduce their research and development activities could result in fewer or smaller scale collaborations with us, fewer or smaller scale intellectual property licenses, fewer sales of our Discovery Tools systems and related licenses and products, or choosing not to work with Symyx, any of which could reduce our revenues and harm our business and operating results.

We are dependent upon acceptance of our technology and approach by customers, and if we cannot achieve market acceptance from potential customers, we will be unable to develop a sustainable or profitable business

     Our ability to succeed is also dependent upon the acceptance by potential customers of our high throughput screening technology and methodology as an effective tool in the discovery of new materials. Historically, life science and chemical companies have conducted materials research and discovery activities internally using traditional manual discovery methods. In order for us to achieve our business objectives, we must convince these companies that our technology and capabilities justify outsourcing part of their basic research and discovery programs. If we cannot convince other companies of the effectiveness of our automated discovery methods, we may be unable to keep our existing customers or attract additional customers on acceptable terms or develop a sustainable, profitable business.

     Balancing our need to protect our intellectual property is the need for the chemical and materials industries to adopt our technologies. Our growth will depend in part on our ability to convince the research community to adopt our technologies and in turn pay us for such use by obtaining services, products and/or licenses from us under our intellectual property portfolio. Companies may become concerned about the scope and importance of our intellectual property portfolio and thus slow or stop their adoption of our technologies. This also may cause them to challenge our intellectual property portfolio.

We cannot predict the pace, quality or number of discoveries we may generate, and any inability of ours to generate a significant number of discoveries would reduce our revenues and harm our business

     Our future revenues and profitability are dependent upon our ability to achieve discoveries, whether through collaborations with customers or through our own proprietary research. Because of the inherently uncertain nature of research activities, we cannot predict with a high level of precision the pace with which we may generate discoveries or the quality of any discoveries that we may generate. Due to the uncertain nature of materials discovery, in which several hundred thousand compounds must often be screened to identify a single development candidate, we may not generate the number of discoveries that we would expect to generate from a given number of experiments. In addition, our development candidates may not result in products having the commercial potential our collaborators or we anticipate. If this happens, our existing and potential new customers may not renew or enter into new agreements with us. Consequently, our future revenues from our research collaborations and from commercialization of products would likely decline and harm our business and operating results.

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We conduct proprietary research programs, and any conflicts with our collaborators or any inability to commercialize development candidates resulting from this research would harm our business

     Our strategy involves conducting proprietary research programs. We believe that our collaborative agreements are structured in a manner to enable us to minimize conflicts with our collaborators relating to rights to potentially overlapping leads developed through our proprietary programs and through programs funded by a collaborator. However, conflicts between a collaborator and us could potentially arise, particularly if we were to discover a material in one of our proprietary programs that was a potential target of one of our collaborative programs. In this event, we may become involved in a dispute with our collaborator regarding the material. Disputes of this nature could harm the relationship between us and our collaborator, and concerns regarding our proprietary research programs could also affect our ability to enter into new collaborative relationships. If circumstances surrounding our proprietary research programs were to affect our existing collaborative relationships or our ability to enter into new relationships, our revenues and operating results would decline.

     In addition, we will either commercialize development candidates resulting from our proprietary programs directly or through licensing to other companies. In order for us to commercialize these development candidates directly, we would need to develop, or obtain through outsourcing arrangements, the capability to manufacture, market and sell products. We do not have this capability, and we may not be able to develop or otherwise obtain the requisite manufacturing, marketing and sales capabilities. If we are unable to successfully commercialize products resulting from our proprietary research efforts, our revenues and operating results would decline.

We are dependent on our collaborations with major companies, and the failure of our collaborative partners to successfully commercialize products would reduce our revenues and harm our business

     To date, the majority of our revenues have come from collaborative arrangements with chemical, life science, and electronics companies. These contracts generally expire after a fixed period of time. If they are not renewed or if we do not enter into new collaborative arrangements, our business and operating results may be harmed.

     For us to achieve and sustain a significant level of profitability, we must make discoveries with significant commercial potential, and our collaborators must successfully commercialize products based on our discoveries. Typically, we do not receive royalties on sales of products by our collaborators until the collaborator has commenced commercial sales of a product resulting from the collaboration. The failure of our partners to commercialize development candidates resulting from our research efforts would reduce our revenues and would harm our business and operating results.

The loss of a key customer or collaborative partner could substantially reduce our revenues and be perceived as a loss of momentum in our business

     Although we have expanded our base of customers and collaborative partners, substantial portions of our revenues are generated from a small number of chemical, life science and electronics companies. We expect that these companies will in aggregate continue to account for a substantial portion of our revenues for the foreseeable future and the loss of one or more of these customers or collaborative partners would harm our business and operating results. The loss of a significant customer or collaborative partner could also be perceived as a loss of momentum in our business and this may cause the market price of our common stock to fall.

We have a limited number of contracts for the sale of Discovery Tools systems and for the licensing of intellectual property and materials to date, and we cannot assure you that we will be able to build a sustainable business related to either the sale of additional systems or the licensing of intellectual property and materials

     To date, we have a limited number of contracts for our Discovery Tools systems. Because of the high cost and complexity of these systems, the sales cycle for them has been and is likely to continue to be long. Sales of these systems will require us to educate our potential customers about the full benefits of these systems, which may require significant time.

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     Sales of Discovery Tools systems and licensing of intellectual property and materials will be subject to a number of significant risks over which we have little or no control, including:

	•		customers’ budgetary constraints and internal acceptance review procedures;
	•		customers’ willingness to acknowledge the validity of our patent portfolio and their need to obtain a license to our intellectual property in order to undertake research using combinatorial chemistry methods;
	•		complexity of our systems and difficulties we may encounter in meeting individual customer specifications and commitments on a timely basis;
	•		our ability to build new systems to meet the demands of our customers;
	•		the fact that there may be only a limited number of customers that are willing to purchase our larger systems or enter into licensing agreements with us;
	•		a long sales cycle that involves substantial human and capital resources; and
	•		potential downturns in general or in industry specific economic conditions.

     If we are unable to continue to build the infrastructure to support our Discovery Tools and Licensing businesses, or if the sales or build cycles for Discovery Tools systems lengthens unexpectedly, our revenues may decline or not grow as anticipated and our results from operations may be harmed.

     While we believe that all of our Industry Collaborations, Discovery Tools and Licensing businesses complement each other, it is possible that these individual business lines could become competitive with one another or negatively impact one another’s revenue streams. This could harm our ability to grow particular arms of our business and harm our business and operating results.

We are exposed to risks associated with export sales and operations that may limit our ability to generate revenue from our products and intellectual property

     We intend to continue to expand our international presence in order to increase our export sales. Export sales to international customers entail a number of risks, including:

	•		obtaining and enforcing intellectual property rights under a variety of foreign laws;
	•		unexpected changes in, or impositions of, legislative or regulatory requirements;
	•		delays resulting from difficulty in obtaining export licenses for certain technology, and tariffs, quotas and other trade barriers and restrictions;
	•		longer payment cycles and greater difficulty in accounts receivable collection;
	•		potentially adverse taxes;
	•		currency exchange fluctuations;
	•		the burdens of complying with a variety of foreign laws; and
	•		other factors beyond our control.

     We are also subject to general geopolitical risks in connection with international operations, such as political, social and economic instability, terrorism, potential hostilities and changes in diplomatic and trade relationships. Although we have not to date experienced any material adverse effect on our operations as a result of such regulatory, geopolitical and other factors, we cannot assure investors that such factors will not adversely affect our operations in the future or require us to modify our current business practices. We cannot assure investors that one or more of the foregoing factors will not have a material adverse effect on our business, financial condition and operating results or require us to modify our current business practices.

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We depend on a limited number of suppliers and will be delayed in our manufacture or unable to manufacture our Discovery Tools if shipments from these suppliers are delayed or interrupted

     Key parts of our Discovery Tools systems are currently available only from a single source or a limited number of sources. In addition, components of our capital equipment are available from one or only a few suppliers. In the event that supplies from these vendors were delayed or interrupted for any reason, we may not be able to get equipment or components for Discovery Tools systems or our own research efforts in a timely fashion or in sufficient quantities or under acceptable terms.

     Even if alternative sources of supply are available, it could be time consuming and expensive for us to qualify new vendors and integrate their components into our Discovery Tools systems. In addition, we are dependent on our vendors to provide components of appropriate quality and reliability. Consequently, in the event that supplies from these vendors were delayed or interrupted for any reason, we could be delayed in our ability to develop and deliver products to our customers.

We expect that our quarterly results of operations will fluctuate, and this fluctuation could cause our stock price to decline, causing investor losses

     Our quarterly operating results have fluctuated in the past and are likely to do so in the future. These fluctuations could cause our stock price to fluctuate significantly or decline. Revenues in future fiscal periods may be greater or less than revenues in the immediately preceding period or in the comparable period of the prior year. Some of the factors that could cause our operating results to fluctuate include:

	•		expiration of research contracts with major collaborative partners, which may not be renewed or replaced with contracts with other companies;
	•		the success rate of our discovery efforts associated with milestones and royalties;
	•		the timing and willingness of partners to commercialize our discoveries which would result in royalties;
	•		developments or disputes concerning patent or other proprietary rights;
	•		the size and timing of customer orders for shipments of, and payments related to Discovery Tools instrumentation;
	•		the size and timing of license fees we receive from third parties who license our intellectual property;
	•		the size and timing of royalties we receive from third parties who license our laboratory instruments and software for resale;
	•		the size and timing of internal research and development programs we undertake on an un-funded basis;
	•		the size and timing of intellectual property licensing agreements we may enter into;
	•		changes in estimates and underlying assumptions related to our warranty expense accrual, inventory valuation reserve, and income tax valuation allowance;
	•		fluctuations in the market values of our cash equivalents and short and long-term investments and in interest rates, including any gains or losses arising on the sale of these investments;
	•		changes in accounting rules and regulations, including those related to revenue recognition and accounting for stock options granted to employees; and
	•		general and industry specific economic conditions, which may affect our customers’ capital investment levels and research and development investment decisions.

     A large portion of our expenses, including expenses for facilities, equipment and personnel, are relatively fixed in nature. Accordingly, in the event revenues decline or do not grow as anticipated due to expiration of research contracts, failure to obtain new contracts or other factors, we may not be able to correspondingly reduce our operating expenses. Failure to achieve anticipated levels of revenues could therefore significantly harm our operating results.

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     Due to the possibility of fluctuations in our revenues and expenses, we believe that quarter-to-quarter comparisons of our operating results are not a good indication of our future performance. Our operating results in some quarters may not meet the expectations of stock market analysts and investors. In that case, our stock price would probably decline, and investors would experience a decline in the value of their investment.

Future business activities such as the development of a new line of business or the acquisition of a company or technology could disrupt our business and distract our management team.

     In the future, we may engage in acquisitions or expand our business focus in order to exploit technology or market opportunities. In the event that we acquire another company or business, we may not be able to successfully integrate the acquired business into our existing business in a timely and non-disruptive manner or at all. In the event that we develop a new line of business, our management’s attention from normal daily operations of the business may be diverted. Furthermore, an acquisition or business expansion may not produce the revenues, earnings or business synergies that we anticipate. The time, capital management and other resources spent on an acquisition or business expansion that fails to meet our expectations could cause our business and financial condition to be materially and adversely affected.

Our investments could lose market value and consequently harm our ability to fund continuing operations.

     The primary objective of our investment activities is to preserve principal while at the same time maximizing yields without significantly increasing risk. To achieve this objective, we maintain our portfolio of cash equivalents, short-term and long-term investments in a variety of securities, including government and corporate obligations and money market funds. These securities are generally classified as available for sale and consequently are recorded on the balance sheet at fair value with unrealized gains or losses reported as a separate component of accumulated other comprehensive income (loss), net of estimated tax. The market values of these investments may fluctuate due to market conditions and other conditions over which we have no control. Fluctuations in the market price and valuations of these securities may require us to record losses due to an impairment in the value of the securities underlying our investment. This could result in future charges on our earnings. All securities are held in U.S. currency.

     Investments in both fixed rate and floating rate interest earning instruments carry varying degrees of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest rates. In general, securities with longer maturities are subject to greater interest rate risk than those with shorter maturities. While floating rate securities generally are subject to less interest rate risk than fixed rate securities, floating rate securities may produce less income than expected if interest rates decrease. Due in part to these factors, our investment income may fall short of expectations or we may suffer losses in principal if securities are sold that have declined in market value due to changes in interest rates.

Changes in accounting standards regarding stock option plans could limit the desirability of granting stock options, which could harm our ability to attract and retain employees, and could also reduce our profitability.

     The Financial Accounting Standards Board is considering whether to require all companies to treat the value of stock options granted to employees as an expense. The U.S. Congress and other governmental and regulatory authorities have also considered requiring companies to expense stock options. If this change were to become mandatory, we and other companies would be required to record a compensation expense equal to the value of each stock option granted. This expense would likely be recognized over the vesting period of the stock option. Currently, we are generally not required to record compensation expenses in connection with stock option grants. If we are required to expense stock option grants, it would reduce the attractiveness of granting stock options because the additional expense associated with these grants would reduce our profitability. However, stock options are an important employee recruitment and retention tool, and we may not be able to attract and retain key personnel if we reduce the scope of our employee stock option program. Accordingly, in the event we are required to expense stock option grants, our profitability would be reduced, as would our ability to use stock options as an employee recruitment and retention tool.

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We are exposed to general global economic and market conditions

     Our business is subject to the effects of general economic conditions in the United States, Europe, Asia and globally, and, in particular, market conditions in the life science and chemical industries. In recent quarters, our ability to conclude Discovery Tools sale agreements and research and development collaborative arrangements have been adversely affected as a result of unfavorable economic conditions and reduced capital spending in the United States, Europe, and Asia. If the economic conditions in the United States and globally do not improve, or if we experience a worsening in the global economic slowdown, we may experience material adverse impacts on our business, operating results, and financial condition.

The loss of key personnel or the inability to attract and retain additional personnel could have a material adverse effect on our results of operations

     We believe our future success will depend upon our ability to attract and retain highly skilled personnel, including key scientific and managerial personnel. We do not have any key-person life insurance relating to our key personnel. All our employees are at-will and not subject to employment contracts. We may not be successful in attracting and retaining key personnel in the future.

     As we seek to expand our operations, the hiring of qualified scientific and technical personnel will be difficult due to the limited availability of qualified professionals. The number of people with experience in the fields of combinatorial materials science and combinatorial chemistry is limited, and we may face intense competition for these types of employees. We have in the past experienced difficulty in recruiting qualified personnel. Failure to attract and retain personnel, particularly scientific and technical personnel, would impair our ability to grow our business and pursue new discovery initiatives and collaborative arrangements.

Competition could increase, and competitive developments could render our technologies obsolete or noncompetitive, which would reduce our revenues and harm our business

     The field of combinatorial materials science is increasingly competitive. We are aware of companies that may apply their expertise in combinatorial chemistry to their internal materials research and development programs. In addition, there are companies focusing on aspects of combinatorial chemistry for the discovery of materials. In addition, academic and research institutions may seek to develop technologies that would be competitive with our systems for materials discovery. Because combinatorial materials science is an emerging field, competition from additional entrants may increase. Our Discovery Tools business may face increasing competition from a number of instrument manufacturing companies. To the extent these companies develop competing technologies, our own systems and workflows could be rendered obsolete or noncompetitive.

     Our current and potential competitors may have greater financial, manufacturing, marketing and sales resources than we do. In addition, some of our existing competitors may, individually or together with companies affiliated with them, have greater human and scientific resources than we do. Our competitors could develop technologies and methods for materials research and discovery that render our technologies, methodologies, workflows and systems obsolete or less competitive. Accordingly, if our competitors introduce new materials discovery technologies that are faster or more cost-effective than our technologies, customers may switch to these new technologies. We would then experience a decline in our revenues and operating results.

Any inability of ours to keep pace with technological advances and evolving industry standards would harm our business

     The market for our products is characterized by continuing technological development, evolving industry standards and changing customer requirements. Due to increasing competition in our field, it is likely that the pace of innovation and technological change will increase. The introduction of products by our direct competitors or others embodying new technologies, the emergence of new industry standards or changes in customer requirements could render our existing products obsolete, unmarketable or less competitive. Our success depends upon our ability to enhance existing products and services and to respond to changing customer requirements. Failure to develop and introduce new products and services, or enhancements to existing products, in a timely manner in response to changing market conditions or customer requirements would harm our future revenues and our business and operating results.

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Our inability to adequately protect our proprietary technologies could harm our competitive position and have a material adverse effect on our business.

     The success of our business depends, in part, on our ability to obtain patents and maintain adequate protection of our intellectual property for our technologies and products in the U.S. and other countries. The laws of some foreign countries do not protect proprietary rights to the same extent as the laws of the U.S., and many companies have encountered significant problems in protecting their proprietary rights in these foreign countries. These problems can be caused by, for example, a lack of rules and processes allowing for meaningfully defending intellectual property rights. If we do not adequately protect our intellectual property, competitors may be able to practice our technologies and erode our competitive advantage, and our business and operating results could be harmed.

     The patent positions of technology companies, including our patent positions, are often uncertain and involve complex legal and factual questions. We will be able to protect our proprietary rights from unauthorized use by third parties only to the extent that our proprietary technologies are covered by valid and enforceable patents or are effectively maintained as trade secrets. We apply for patents covering our technologies and products as we deem appropriate. However, we may not obtain patents on all inventions for which we seek patents, and any patents we obtain may be challenged and may be narrowed in scope or extinguished as a result of such challenges. Our existing patents and any future patents we obtain may not be sufficiently broad to prevent others from practicing our technologies or from developing competing products. Others may independently develop similar or alternative technologies or design around our patented technologies or products. These companies would then be able to offer research services and develop, manufacture and sell products, which compete directly with our research services and products. In that case, our revenues and operating results would decline.

     We rely upon trade secret protection for certain of our confidential information. We have taken measures to protect our confidential information. These measures may not provide adequate protection for our trade secrets or other confidential information. We seek to protect our confidential information by entering into confidentiality agreements with employees, collaborators and consultants. Nevertheless, employees, collaborators or consultants may still disclose or misuse our confidential information, and we may not be able to meaningfully protect our trade secrets. In addition, others may independently develop substantially equivalent information or techniques or otherwise gain access to our trade secrets. Disclosure or misuse of our confidential information would harm our competitive position and could cause our revenues and operating results to decline.

Litigation or other proceedings or third party claims of intellectual property infringement could require us to spend time and money.

     Our success depends on our ability to enforce our intellectual property through either litigation or licensing. As we become more involved in licensing, there is a greater likelihood of intellectual property litigation. Should such litigation occur, expenses, distractions and risks associated with the litigation could cause us to lose focus or may otherwise harm our profitability and weaken our intellectual property position. To be successful in enforcing our intellectual property through litigation or licensing there are several aspects to consider, including maintaining the validity of our intellectual property, proving that others are infringing on our intellectual property and obtaining commercially significant compensation for such infringement.

     With regard to maintaining the validity of our intellectual property, intellectual property litigation can be successful only if our intellectual property withstands close scrutiny. If it does not withstand this scrutiny, we can lose part or all of our intellectual property position. Also, we are involved in several administrative proceedings, such as opposition proceedings in the European Patent Office, that challenge the validity of the patents we have obtained there. Our success depends on securing valid patents of commercially significant scope. Also, we are involved in some enforcement proceedings that are not material, but which are a distraction related to a market that is not commercially significant. Such non-material proceedings nonetheless place demands on managerial and financial resources and subject the validity of our intellectual property to risk, and our success will depend in part upon the ability to successfully conclude such non-material proceedings. Additional proceedings such as this can adversely affect our intellectual property while causing us to spend resources on the enforcement proceeding without significant commercial advantage.

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     With regard to proving infringement of our intellectual property, our success depends in part on obtaining useable knowledge of what technologies others are practicing. If others do not publish or disclose the technologies that they are using, our ability to discover infringing uses and enforce our intellectual property will diminish. In this case our revenues from intellectual property licensing and our operating results may decline.

     With regard to obtaining commercially significant compensation for infringement, our success depends in part on others adopting our technology and being successful while using our technology. For example, should we attempt to obtain a per use royalty for use of our intellectual property, our success will depend on others using our intellectual property significantly. However, if they are not successful in their use, then our per use royalty may not be commercially significant and our operating results would decline.

     Moreover, even if we defend and enforce our intellectual property rights, others may independently develop alternative technologies, or design around or invalidate our patented technologies. These developments would reduce the value of our intellectual property assets.

     Our commercial success also depends in part on ensuring we do not infringe patents or other proprietary rights of third parties. Others have filed, and in the future are likely to file, patent applications covering technologies that we may wish to utilize with our proprietary technologies, or products that are similar to products developed with the use of our technologies. If these patent applications result in issued patents and we wish to use the claimed technology, we would need to obtain a license from the third party and this would increase our costs of operations and harm our operating results.

     Third parties may assert that we are employing their proprietary technology without authorization. In addition, third parties may obtain patents in the future and claim that use of our technologies infringes these patents. We could incur substantial costs and diversion of the time and attention of management and technical personnel in defending ourselves against any such claims. Furthermore, parties making claims against us may be able to obtain injunctive or other equitable relief that could effectively block our ability to further develop, commercialize and sell products, and such claims could result in the award of substantial damages against us. In the event of a successful claim of infringement against us, we may be required to pay damages and obtain one or more licenses from third parties. We may not be able to obtain these licenses at a reasonable cost, if at all. In that event, we could encounter delays in product introductions while we attempt to develop alternative methods or products, or be required to cease commercializing affected products, which would harm our operating results.

We use hazardous materials in our business, and any claims relating to improper handling, storage or disposal of these materials could subject us to significant liabilities

     Our business involves the use of a broad range of hazardous chemicals and materials. Environmental laws impose stringent civil and criminal penalties for improper handling, disposal and storage of these materials. In addition, in the event of an improper or unauthorized release of, or exposure of individuals to, hazardous materials, we could be subject to civil damages due to personal injury or property damage caused by the release or exposure. A failure to comply with environmental laws could result in fines and the revocation of environmental permits, which could prevent us from conducting our business. Accordingly, any violation of environmental laws or failure to properly handle, store or dispose of hazardous materials could result in restrictions on our ability to operate our business and could require us to incur potentially significant costs for personal injuries, property damage and environmental cleanup and remediation.

Our facilities are located near known earthquake fault zones, and the occurrence of an earthquake or other disaster could cause damage to our facilities and equipment and harm our business

     Our facilities are located in the Silicon Valley near known earthquake fault zones and are vulnerable to damage from earthquakes. In October 1989, a major earthquake that caused significant property damage and a number of fatalities struck this area. We are also vulnerable to damage from other types of disasters, including fire, floods, power outages or losses, communications failures and similar events. If any disaster were to occur, our ability to operate our business at our facilities would be seriously, or potentially completely, impaired. In addition, the unique nature of our research activities and of much of our equipment could make it difficult for us to recover from a disaster. The insurance we maintain may not be adequate to cover our losses resulting from disasters or other business interruptions. Accordingly, an earthquake or other disaster could harm our business and operating results.

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Other Risk Factors

Some of our existing stockholders can exert control over us, and may not make decisions that are in the best interests of all stockholders

     Our officers, directors and principal stockholders (greater than 5% stockholders) together control a significant percentage of our outstanding common stock. As a result, these stockholders, if they act together, will be able to exert a significant degree of influence over our management and affairs and over matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions. This concentration of ownership may have the effect of delaying or preventing a change in control of Symyx and might affect the market price of our common stock, even when such a change may be in the best interests of all stockholders.

Our stock price has been and may continue to be volatile

     The market price of our common stock since our initial public offering has been highly volatile. Volatility in the market price for our common stock will be affected by a number of factors, including the following:

	•		decisions by significant stockholders to acquire or divest their stock holdings, given the relatively low average daily trading volumes we have historically experienced;
	•		the announcement of new products or services by us or our competitors;
	•		quarterly variations in our or our competitors’ results of operations;
	•		failure to achieve operating results projected by securities analysts;
	•		failure to achieve operating results within guidance provided by our senior management;
	•		changes in earnings estimates or recommendations by securities analysts;
	•		changes in management;
	•		changes in investors’ beliefs as to the appropriate valuation ratios for us and our competitors;
	•		speculation in the press or analyst community;
	•		developments in our industry;
	•		changes in our revenue growth rates; and
	•		general market conditions, political influences and other factors, including factors unrelated to our operating performance or the operating performance of our competitors.