TELIK INC - 10-Q Quarterly Report

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

FOR THE PERIOD ENDED SEPTEMBER 30, 2002

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM TO .

COMMISSION FILE NUMBER: 0-31265

TELIK, INC.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

DELAWARE		93-0987903
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION)		(I.R.S. EMPLOYER IDENTIFICATION NO.)

750 GATEWAY BOULEVARD, SOUTH SAN FRANCISCO, CA 94080

(ADDRESS, INCLUDING ZIP CODE, OF PRINCIPAL EXECUTIVE OFFICES)

REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE: (650) 244-9303

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

COMMON STOCK $0.01 PAR VALUE

(TITLE OF CLASS)

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class: Common Stock $0.01 par value		Outstanding at October 15, 2002:
		35,461,407 shares

TELIK, INC.

INDEX

PART I. FINANCIAL INFORMATION

Item 1:	Financial Statements (Unaudited)

	Condensed Balance Sheets as of September 30, 2002 and December 31, 2001	3

	Condensed Statements of Operations for the three-month and nine-month periods ended September 30, 2002 and 2001	4

	Condensed Statements of Cash Flows for the nine-month periods ended September 30, 2002 and 2001	5

	Notes to Consolidated Financial Statements	6

Item 2:	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11

Item 3:	Quantitative and Qualitative Disclosure About Market Risk	24

Item 4:	Controls and Procedures	24

PART II. OTHER INFORMATION

Item 1:	Legal Proceedings	25

Item 2:	Changes in Securities and Use of Proceeds	25

Item 3:	Defaults upon Senior Securities	25

Item 4:	Submission of Matters to a Vote of Security Holders	25

Item 5:	Other Information	25

Item 6:	Exhibits and Reports on Form 8-K	26

SIGNATURES		27

TELIK, INC.

CONDENSED BALANCE SHEETS

(In thousands, except share and per share data)

	September 30, 2002			December 31, 2001
	(Unaudited)			(Note 1)
Assets
Current assets:
Cash and cash equivalents	$	14,992		$	39,508
Short-term investments		14,963			13,722
Due from underwriters		70,265			—
Prepaid expenses and other current assets		1,287			991

Total current assets		101,507			54,221
Property and equipment, net		2,073			1,096
Long-term investments		1,561			1,944
Restricted investments		1,796			—
Other assets		123			54

	$	107,060		$	57,315


Liabilities and stockholders’ equity
Current liabilities:
Accounts payable	$	1,863		$	3,338
Accrued clinical trials		932			881
Accrued compensation		938			636
Other accrued liabilities		1,752			460
Current portion of capital lease obligations		33			—
Current portion of notes payable		90
Deferred revenue		667			662

Total current liabilities		6,275			5,977

Non-current portion of capital lease obligations		105			—
Non-current portion of notes payable		213			—

Commitments

Stockholders’ equity:
Preferred stock, $0.01 par value, 5,000,000 shares authorized, none issued and outstanding		—			—
Common stock, $0.01 par value, 100,000,000 shares authorized, 34,486,292 and 27,765,484 issued and outstanding at September 30, 2002 and December 31, 2001, respectively		345			278
Additional paid-in capital		205,515			134,812
Deferred stock compensation		(732	)		(1,173	)
Note receivable from employee		(24	)		(105	)
Accumulated other comprehensive income		19			33
Accumulated deficit		(104,656	)		(82,507	)

Total stockholders’ equity		100,467			51,338

Total liabilities and stockholders’ equity	$	107,060		$	57,315

See accompanying notes.

TELIK, INC.

CONDENSED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

(Unaudited)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
Contract revenue from collaborations:
With related parties	$	250		$	530		$	995		$	1,324
Other		—			—			—			67
Other revenues		—			25			42			58

Total revenues		250			555			1,037			1,449
Costs and expenses:
Research and development		6,863			4,352			19,909			12,112
General and administrative		1,391			977			3,933			3,134

Total costs and expenses		8,254			5,329			23,842			15,246

Loss from operations		(8,004	)		(4,774	)		(22,805	)		(13,797	)
Interest income, net		179			424			656			1,569

Net loss	$	(7,825	)	$	(4,350	)	$	(22,149	)	$	(12,228	)

Net loss per common share, basic and diluted	$	(0.28	)	$	(0.19	)	$	(0.80	)	$	(0.54	)

Weighted average shares used in computing net loss per common share, basic and diluted		28,174			23,096			27,780			22,791

See accompanying notes.

TELIK, INC.

CONDENSED STATEMENTS OF CASH FLOWS

(In thousands, unaudited)

	Nine Months Ended, September 30,
	2002			2001
Operating activities
Net loss	$	(22,149	)	$	(12,228	)
Adjustments to reconcile net loss to net cash used in operating activities
Depreciation		415			339
Amortization of deferred stock compensation		386			540
Stock options granted to non-employees		107			17
Forgiveness of notes receivable from related parties		28			—
Amortization of discount (premium) on investments		(52	)		33
Changes in operating assets and liabilities:
Prepaid expenses and other assets		(393	)		42
Accounts payable		(1,475	)		396
Accrued clinical trials		51			196
Accrued compensation		302			42
Other accrued liabilities		1,292			236
Deferred revenue		5			859
Long-term liabilities		—			(52	)

Net cash used in operating activities		(21,483	)		(9,580	)

Investing activities
Sales and maturities of investments		85,500			98,805
Purchase of restricted investments		(1,796	)		—
Purchases of investments		(86,320	)		(86,650	)
Purchases of property and equipment		(1,249	)		(406	)

Net cash provided by (used in) investing activities		(3,865	)		11,749

Financing activities
Proceeds from note payable		303			—
Principal payments under capital lease obligations		(4	)		(2	)
Net proceeds from issuance of common stock, net of amount due from underwriters		452			391
Payment of promissory note from employee		81			—

Net cash provided by financing activities		832			389


Net decrease in cash and cash equivalents		(24,516	)		2,558
Cash and cash equivalents at beginning of period		39,508			11,959

Cash and cash equivalents at end of period	$	14,992		$	14,517

Supplemental cash flow information
Cash paid for interest	$	6		$	3

Equipment acquired under capital leases	$	142		$	—

See accompanying notes.

TELIK, INC.

Notes to Condensed Financial Statements

(Unaudited)

1. Basis of presentation and summary of significant accounting policies

We have prepared the accompanying financial statements in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. We believe all adjustments (consisting only of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three-month and nine-month periods ended September 30, 2002 are not necessarily indicative of the results that may be expected for the year ending December 31, 2002 or any other period. The balance sheet at December 31, 2001 has been derived from the audited financial statements at that date. You should read these financial statements and notes in conjunction with our audited financial statements for the year ended December 31, 2001, which are included in our Annual Report on Form 10-K.

Revenue recognition

Since Telik’s inception, most of our revenues have been generated from license and research agreements with collaborators. We recognize cost reimbursement revenue under these collaborative agreements as the related research and development costs are incurred. We recognize milestone fees upon completion of specified milestones according to contract terms. Deferred revenue represents the portion of research payments received that has not been earned.

We also have several royalty and licensing agreements with other pharmaceutical, biotechnology and genomics companies. Under these agreements, we may receive fees for collaborative research efforts, royalties on future sales of products, or some combination of these items. We recognize nonrefundable signing or license fees that are not dependent on future performance under these agreements as revenue when received or over the term of the arrangement if we have continuing performance obligations.

We have received United States government grants, which support research efforts in defined projects. We recognize revenue from such government grants as costs relating to the grants are incurred.

2. Comprehensive income (loss)

Comprehensive income (loss) is comprised of net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) includes changes in unrealized gains (losses) on investments. Comprehensive income (loss) for the three-month and nine-month periods ended September 30, 2002 and 2001 are as follows (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
Net loss	$	(7,825	)	$	(4,350	)	$	(22,149	)	$	(12,228	)
Change in unrealized gain/(loss) on investments		15			1			(14	)		90

Comprehensive loss	$	(7,810	)	$	(4,349	)	$	(22,163	)	$	(12,138	)

TELIK, INC.

Notes to Condensed Financial Statements

(Unaudited)

3. Basic and diluted net loss per share

We have computed net loss per common share according to the Financial Accounting Standards Board Statement No. 128, “Earnings Per Share,” which requires disclosure of basic and diluted earnings per share. Basic earnings per share excludes any dilutive effects of options, shares subject to repurchase, warrants and convertible securities. Diluted earnings per share includes the impact of potentially dilutive securities. A reconciliation of shares used in the calculation is as follows (in thousands, except per share data):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
Net loss	$	(7,825	)	$	(4,350	)	$	(22,149	)	$	(12,228	)

Weighted average shares of common stock outstanding		28,201			23,192			27,824			22,887
Less: weighted average common shares subject to repurchase		(27	)		(96	)		(44	)		(96	)

Weighted average shares used in computing net loss per common share, basic and diluted		28,174			23,096			27,780			22,791

Net loss per common share, basic and diluted	$	(0.28	)	$	(0.19	)	$	(0.80	)	$	(0.54	)

Outstanding options to purchase, in the aggregate, 4,552,704 shares of common stock at September 30, 2002 and 3,045,263 shares of common stock at September 30, 2001 were excluded from diluted earnings calculations for the three-month and nine-month periods ended September 30, 2002 and 2001, respectively, because inclusion of such options would have an anti-dilutive effect on losses in these periods. At September 30, 2002, 15,000 shares of common stock were subject to repurchase.

TELIK, INC.

Notes to Condensed Financial Statements

(Unaudited)

4. Cash, cash equivalents and investments

The following is a summary of cash, cash equivalents and investments (in thousands):

	Amortized Cost		Gross Unrealized Gains		Estimated Fair Value
September 30, 2002

Cash and cash equivalents:
Cash and money market funds	$	3,561	$	—	$	3,561
Commercial paper		11,431		—		11,431

	$	14,992	$	—	$	14,992


Short term investments:
U.S. Government notes	$	2,511	$	3	$	2,514
Corporate notes		12,449		—		12,449

	$	14,960	$	3	$	14,963


Long term investments:
U.S. Government notes	$	1,545	$	16	$	1,561

	$	1,545	$	16	$	1,561


Restricted investments
Certificate of deposit	$	1,796	$	—	$	1,796

	$	1,796	$	—	$	1,796

December 31, 2001
Cash and cash equivalents:
Cash and money market funds	$	39,508	$	—	$	39,508

	$	39,508	$	—	$	39,508


Short term investments:
U.S. Government notes	$	6,976	$	16	$	6,992
Corporate notes		6,730		—		6,730

	$	13,706	$	16	$	13,722

Long term investments:
Corporate notes	$	1,927	$	17	$	1,944

	$	1,927	$	17	$	1,944

TELIK, INC.

Notes to Condensed Financial Statements

(Unaudited)

5. Commitments

In July 2002, we entered into a lease for a research and office facility of approximately 92,000 square feet located at 3165 Porter Drive in Palo Alto, California. This facility will replace our current research and office facilities in South San Francisco, California. The term of the lease is approximately 11.5 years, commencing in January 2003 and terminating in May 2014. We have the option to extend the lease term for an additional term of five years. Under the terms of this lease, the lessor has agreed to finance up to $5.0 million in leasehold improvements to be made to the facility. Our total financial commitment for the full term of the Palo Alto lease is approximately $39.1 million, which includes repayment, over a period of 10 years, of $3.0 million of the total $5.0 million in planned leasehold improvements that will be financed by the lessor. The remaining $2.0 million in planned leasehold improvements to be financed by the lessor will be payable in a balloon payment at the commencement of the third year of the lease. Prior to this balloon payment, interest only payments will be payable monthly on the outstanding balance of the remaining $2.0 million in planned leasehold improvements to be financed by the lessor. Pursuant to the terms of the lease, we are required to maintain a security deposit, in the form of a letter of credit equal to approximately $1.8 million. This letter of credit must be secured by either a deposit account or a securities account and at September 30, 2002, the security deposit is in the form of securities that are classified in the balance sheet as restricted investments. This collateral account is managed in accordance with our investment policy, and is restricted as to withdrawal.

In August 2002, we entered into a Master Lease Agreement, as amended, relating to an equipment lease facility and a related Master Security Agreement, as amended, relating to a line of credit secured by equipment and tenant improvements. Collectively, these credit facilities provide for a line of credit of up to approximately $2.5 million, consisting of approximately $1.9 million relating to the Master Lease Agreement and approximately $0.6 million relating to the Master Security Agreement. Both credit facilities have a drawdown period of one year. Draws on the Master Lease Agreement have a payment term of 42 months with an early buyout option at 36 months. Draws on the Master Security Agreement have a payment term of 36 months. Draws under both agreements will bear interest at a rate to be fixed at the time of drawdown, calculated as 675 basis points above the current four-year Treasury Constant Maturities rate. At September 30, 2002, draws under both credit facilities totaled approximately $0.4 million and approximately $2.1 million remained available for future draws. Pursuant to the terms of these credit facilities, we are required to maintain a balance of cash and investments of at least $20.5 million. In the event our cash and investments balance falls below $20.5 million, we are obligated to provide the lessor with a continuing irrevocable letter of credit from a financial institution acceptable to the lessor in an amount equal to 100% of the outstanding balance of all indebtedness and loans.

6. Follow-on public offering

In May 2002, we filed a registration statement on Form S-3 to offer and sell, from time to time, equity and debt securities in one or more offerings up to a total dollar amount of $100 million. On July 12, 2002 the SEC declared this registration statement effective. On September 27, 2002, we sold 6.5 million shares of our common stock pursuant to this registration in an underwritten public offering and we granted the underwriters an option to purchase up to an additional 975,000 shares to cover overallotments, if any. We received approximately $70.3 million in proceeds from the issuance of the initial 6.5 million shares at a price of $11.50 per share on October 2, 2002, representing gross proceeds less underwriting discounts and commissions. We have reported this amount as due from underwriters in the accompanying financial statements.

TELIK, INC.

Notes to Condensed Financial Statements

(Unaudited)

The underwriters exercised, in full, their option to purchase the additional 975,000 shares and on October 4, 2002, we received approximately $10.5 million in proceeds from the issuance of those shares at a price of $11.50 per share, representing gross proceeds less underwriting discounts and commissions. The aggregate net proceeds from this follow-on public offering were approximately $80.4 million. Our cash, cash equivalents and investments balance of $33.3 million at September 30, 2002 does not include the net proceeds received from this follow-on public offering.

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Special Note Regarding Statements of Expected Future Performance

This Quarterly Report on Form 10-Q contains statements indicating expectations about future performance and other forward-looking statements that involve risks and uncertainties. We usually use words such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “future,” “intend,” “potential,” or “continue” or the negative of these terms or similar expressions to identify forward-looking statements. These statements appear throughout the Form 10-Q and are statements regarding our current intent, belief, or expectation, primarily with respect to our operations and related industry developments. Examples of these statements include, but are not limited to, statements regarding the following: the extent to which our issued and pending patents may protect our products and technology, our ability to identify new product candidates using TRAP technology (our proprietary Target-Related Affinity Profiling technology, which is discussed below), the potential of such product candidates to lead to the development of safer or more effective therapies, our ability to develop the technology derived from our collaborations, our anticipated timing for filing an IND (Investigational New Drug application) with the Food and Drug Administration (FDA) or for the initiation or completion of phase 1, phase 2 or phase 3 testing for any of our product candidates, our future operating expenses, our future losses, our future expenditures for research and development and our use of proceeds from the initial and follow-on public offerings. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report on Form 10-Q. Our actual results could differ materially from those anticipated in these forward-looking statements for many reasons, including the risks faced by us and described in the section of this Item 2 titled “Additional Factors That May Affect Future Results,” and elsewhere in this Quarterly Report on Form 10-Q.

The following discussion and analysis should be read in conjunction with the unaudited financial statements and notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q and with the financial statements and notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the year ended December 31, 2001.

Overview

We are a biopharmaceutical company working to discover, develop and commercialize small molecule drugs to treat serious diseases for which there is significant demand for new therapies. Our most advanced product candidate is TLK286, a small molecule tumor-activated cancer drug designed to treat cancers that are resistant to standard chemotherapy drugs. TLK286 is currently in phase 2 clinical trials in ovarian, non-small cell lung, colorectal and breast cancer, and as a result of our recent pre-phase 3 meeting with the FDA in September 2002, we plan to initiate pivotal phase 3 clinical trials of TLK286 for the treatment of ovarian and non-small cell lung cancer. TLK199, our second product candidate, is a small molecule bone marrow stimulant being developed for the treatment of blood disorders associated with low white blood cell levels. TLK199 is currently in phase 1-2a clinical trial in myelodysplastic syndrome, a form of pre-leukemia for which there is no approved therapy. In July 2002, we selected TLK19781 as our next product candidate to be advanced into clinical development. TLK19781 is a proprietary, orally active small molecule insulin receptor activator for the potential treatment of Type 2 diabetes and other conditions related to insulin resistance. We expect to file an IND application with the FDA for TLK19781 in 2003. We discovered all of our product candidates using our proprietary TRAP technology, which enables the rapid and efficient discovery of small molecule product candidates.

We have incurred net losses since inception and expect to incur substantial and increasing losses for the next several years as we expand our research and development activities and move our product candidates into later stages of development. The process of carrying out the development of our own unpartnered products to later stages of development and our research programs for our corporate partners may require significant additional research and development expenditures including preclinical testing and clinical trials, as well as for obtaining regulatory approval. To date, we have funded our operations primarily through the sale of equity securities and through non-equity payments from collaborative partners.

In 2002, we have received funding, in the form of equity investments, of $80.4 million in net proceeds from our follow-on public offering completed in October 2002. We received funding in the form of equity investments totaling $27.6 million in the year ended December 31, 2001 from our follow-on public offering completed in October 2001. We received funding in the form of equity investments totaling $42.5 million in the year ended December 31, 2000. This funding included net proceeds of $35.6 million from our initial public offering in August 2000 and net proceeds of $7.0 million from our issuance of Series K convertible preferred stock in March 2000. We received funding in the form of equity investments from our collaborative partner Sanwa, in an aggregate amount of $11.0 million during the years of 1996 through 1998.

Since 1996, we have received $15.3 million in non-equity payments from collaborators, including

$10.8 million from Sanwa. Our most recent non-equity payment from a collaborator was $1.0 million, for research funding, received from Sanwa in March 2002.

At September 30, 2002 our accumulated deficit was $104.73 million.

Critical accounting policies

We believe the following accounting policies are critical to the process of making significant judgments and estimates in the preparation of our financial statements.

Revenue recognition

We have received United States government grants, which support research efforts in defined projects. We recognize revenue from such government grants as costs relating to the grants are incurred.

Research and development expenses

Our research and development expenses include salaries and benefits costs for our scientific and clinical development personnel, fees for contractors and consultants involved in research and development, and an allocation of general and administrative costs. Research and development expenses consist of costs incurred for drug and product development, manufacturing, clinical activities, discovery research, screening and identification of drug candidates, and preclinical studies. All such costs are charged to research and development expenses as incurred. Costs of materials and other supplies are charged to research and development expense upon their receipt.

Use of estimates

In preparing our financial statements to conform with accounting principles generally accepted in the United States, we make estimates and assumptions that affect the amounts reported in our financial statements and accompanying notes. These estimates include useful lives for fixed assets for depreciation calculations and assumptions for valuing stock option grants. Actual results may differ from these estimates.

Results of operations

Three-month periods ended September 30, 2002 and 2001

Revenues

Revenues for the three-month periods ended September 30, 2002 and 2001 were $0.3 and $0.6 million, respectively. Revenues resulted from our collaborative agreements with Sanwa and funded research, in 2001, related to a grant received from the National Institutes of Health.

We expect near-term future revenue to fluctuate primarily depending upon the extent to which we enter into new collaborative research agreements and the amounts of payments relating to such agreements.

Research and development expenses

Research and development expenses for the three-month periods ended September 30, 2002 and 2001 were $6.9 million and $4.4 million, respectively. Our research and development activities consist primarily of drug and product development, clinical supply manufacturing, clinical activities, discovery research, screening and identification of drug candidates, and preclinical studies. We group these activities into two major categories: “research and preclinical” and “clinical development.” Research and preclinical costs primarily represent our new drug discovery efforts and preclinical work for our selected clinical candidates. Costs associated with clinical development represent the advancement of our existing product candidates through clinical trials.

We estimate the costs associated with these activities approximate the following (in thousands):

	Three Months Ended September 30,
	2002		2001
Research and preclinical	$	2,609	$	2,290
Clinical development		4,254		2,062

Total research and development	$	6,863	$	4,352

We utilize many of our resources across multiple research projects that are ongoing at any one time. Significant portions of our research and development costs are not directly allocated to individual projects. Therefore, we do not maintain actual cost incurred information on a project-by-project basis.

The increase in research and development expense in the three-month period ended September 30, 2002 compared to the same period in 2001 was principally due to increased costs for clinical development activities associated with TLK286 including phase 2 clinical trials, clinical supply manufacturing and product development, as well as the phase 1-2a clinical trial of TLK199 we initiated in April 2002. We expect research and development expenditures to continue to increase in future periods as a result of increased manufacturing and other clinical development costs primarily relating to our TLK286 and TLK199 product candidates. The timing and the amount of this anticipated increase in expense will depend upon the outcome of our ongoing clinical trials, the costs associated with the planned phase 3 clinical trials of TLK286, including the related expansion of our clinical development organization, regulatory requirements, advancement of our preclinical programs and manufacturing product supply costs.

General and administrative expenses

General and administrative expenses for the three-month periods ended September 30, 2002 and 2001 were $1.4 million and $1.0 million, respectively. The increase in 2002 was due primarily to staffing costs for additional administrative personnel and activities related to the growth of the company. We expect future general and administrative expenses will increase in support of expanded business activities.

Net interest income

Net interest income was $0.2 million and $0.4 million for the three-month periods ended September 30, 2002 and 2001, respectively, and resulted primarily from earnings on investments. The decrease in net interest income in 2002 was principally due to lower average interest rates in 2002. We expect that net interest income will increase in the near term future as a result of interest earned on the $80.4 million in net proceeds from our follow-on public offering that closed in October 2002.

Nine-month periods ended September 30, 2002 and 2001

Revenues

Revenues for the nine-month periods ended September 30, 2002 and 2001 were $1.0 million and $1.4 million, respectively. Revenues resulted from our collaborative agreements with Sanwa and Sankyo and funded research related to grants received from the National Institutes of Health.

Research and development expenses

Research and development expenses for the nine-month periods ended September 30, 2002 and 2001 were $19.9 million and $12.1 million, respectively. Our research and development activities consist primarily of drug and product development, clinical supply manufacturing, clinical activities, discovery research, screening and identification of drug candidates, and preclinical studies. We group these activities into two major categories: “research and preclinical” and “clinical development.” Research and preclinical costs primarily represent our new drug discovery efforts and preclinical work for our selected clinical candidates. Costs associated with clinical development represent the advancement of our existing product candidates through clinical trials.

We estimate the costs associated with these activities approximate the following (in thousands):

	Nine Months Ended September 30,
	2002		2001
Research and preclinical	$	7,963	$	6,782
Clinical development		11,946		5,330

Total research and development	$	19,909	$	12,112

The increase in research and development expense in the nine-month period ended September 30, 2002 compared to the same period in 2001 was principally due to increased costs for clinical development activities associated with TLK286 including phase 2 clinical trials, clinical supply manufacturing, and product development, as well as a phase 1-2a clinical trial of TLK199 we initiated in April 2002.

General and administrative expenses

General and administrative expenses for the nine-month periods ended September 30, 2002 and 2001 were $3.9 million and $3.1 million, respectively. The increase in 2002 was due primarily to staffing costs for additional administrative personnel and activities related to the growth of the company.

Net interest income

Net interest income was $0.7 million and $1.6 million for the nine-month periods ended September 30, 2002 and 2001, respectively, and resulted primarily from earnings on investments. The decrease in net interest income in 2002 was principally due to lower average interest rates in 2002.

Liquidity and Capital Resources

We have financed our operations from inception primarily through the private placement of equity securities, our initial public offering, our follow-on public offerings, revenue from collaborative agreements, interest earned on investments and equipment lease line financings. As of the date of this filing, we have raised $208.9 million from the sale of equity securities, including $11.0 million from collaborators, and we have received $15.3 million in non-equity payments from collaborators.

In the nine-month period ended September 30, 2002, our operating activities resulted in net cash outflows of $21.5 million, resulting primarily from our operating loss of $22.1 million. Net cash used in investing activities was $3.9 million, primarily resulting from the net effect of purchases and sales of short-term securities. Purchases of property and equipment were $1.2 million, principally for new laboratory equipment. Financing activities provided cash of $0.8 million, principally from draws on a line of credit secured by equipment and tenant improvements, sales of stock through our employee stock purchase plan and stock option exercises by employees and consultants.

In October 2002 we completed a follow-on public offering of 7,475,000 million shares of our common stock at a price of $11.50 per share, receiving net proceeds of approximately $80.4 million. In connection with a lease for our new Palo Alto facility, the lessor has agreed to finance up to $5.0 million in leasehold improvements to be made to that facility. We have also entered into agreements relating to an equipment lease line and a line of credit secured by equipment and tenant improvements that collectively provide for a line of credit of up to approximately $2.5 million. At September 30, 2002, draws under both credit facilities totaled approximately $0.4 million and approximately $2.1 million remained available for future draws. We believe our existing cash resources, including the net proceeds from our follow-on public offering that closed in October 2002, plus financing to be provided through credit facilities and anticipated proceeds from corporate collaborations, will be sufficient to satisfy our anticipated cash requirements for at least two years. Our periodic estimates of anticipated cash requirements will vary depending upon our current forecast of future operating expenses. In particular, as a result of our recent pre-phase 3 meeting with the FDA, we expect to initiate registration phase 3 trials of TLK286 in ovarian and non-small cell lung cancers and we anticipate an increase in clinical development expenses, which will include engaging a contract research organization, or CRO, to facilitate the administration of our phase 3 clinical trials. Changes in our research and development plans or other changes affecting our operating expenses may affect actual future consumption of existing cash resources. In any event, we will need to raise substantial additional capital to fund our operations in the future. We expect to finance our future cash needs through the sale of equity securities, strategic collaborations, equipment financing and possibly debt financing.

Our future contractual obligations, including the Palo Alto facility lease, are as follows (in thousands):

	Payments Due by Period
			For years ending December 31,
Contractual Obligations	Total		2002		2003		2004		2005-2006		After 2006
Capital Lease Obligations	$	200	$	35	$	47	$	45	$	73	$	—
Notes payable		358	$	21	$	119	$	119	$	99
Operating Leases		40,368		722		3,067		3,145		6,475		26,959

Total Contractual Cash Obligations	$	40,926	$	778	$	3,233	$	3,309	$	6,647	$	26,959

Our future capital uses and requirements will depend on numerous factors, including the following:

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the number, progress and success of clinical trials and preclinical studies and of our product candidates;

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the progress and number of research programs in development;

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the costs and timing of obtaining regulatory approvals;

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our ability to establish, and the scope of, new collaborations;

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our ability to meet the milestones identified in our collaborative agreements which trigger payments; and

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the costs and timing of obtaining, enforcing and defending our patent and intellectual property rights.

ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS

Our business is subject to various risks, including those described below. You should carefully consider these risk factors as each of these risks could adversely affect our business, operating results and financial condition.

We have a history of net losses, which we expect to continue for at least several years. We will never be profitable unless we develop, and obtain regulatory approval and market acceptance of, our product candidates.

Due to the significant research and development expenditures required to develop our TRAP technology and identify new product candidates, and the lack of any products to generate revenue, we have not been profitable and have generated operating losses since we were incorporated in 1988. As of September 30, 2002, we had an accumulated deficit of $104.7 million. We expect to incur losses for at least the next several years and expect that these losses will actually increase as we expand our research and development activities and incur significant clinical testing costs. These losses, among other things, may cause our stockholders’ equity and working capital to decrease in the future. To date, we have derived substantially all of our revenues, which have not been significant, from project initiation fees and research reimbursement paid pursuant to existing collaborative agreements with third parties and achievement of milestones under current collaborations. We expect that this trend will continue until we develop, and obtain regulatory approval and market acceptance of, our product candidates. We cannot assure you when, if ever, we will receive product revenue, if any, sufficient to become profitable.

All of our product candidates are in research and development. If clinical trials of TLK286 and TLK199 are delayed or unsuccessful, or if we are unable to complete the preclinical development of our diabetes or other preclinical product candidates, our business may be adversely affected.

Preclinical testing and clinical trials are long, expensive and uncertain processes. It may take us or our collaborators several years to complete this testing, and failure can occur at any stage of the process. Success in preclinical testing and early clinical trials does not ensure that later clinical trials will be successful. A number of companies in the pharmaceutical industry, including biotechnology companies, have suffered significant setbacks in advanced clinical trials, even after promising results in earlier trials.

In July 2002, we selected TLK19781, one of a family of orally active small molecule insulin receptor activators that we are developing for potential treatment of diabetes, for advancement into IND-stage development. In April 2002, we initiated a phase 1-2a clinical trial for TLK199. Our success depends, in part, on our ability to complete preclinical development of our diabetes or other preclinical product candidates, and take them through early clinical trials.

TLK286 has to date been evaluated in phase 1 and phase 2 clinical trials. It has not been tested in the larger, controlled phase 3 trials that are generally required prior to regulatory approval. As a result of our recent pre-phase 3 meeting with the FDA, we expect to initiate pivotal phase 3 trials of TLK286 in ovarian and non-small cell lung cancers. These trials would test TLK286 against a control arm consisting of currently established standard drug treatments for these cancers. Changes in standards of care during our phase 3 trials may cause us to, or the FDA may require us to, perform additional clinical testing of TLK286 against a different control arm prior to filing a New Drug Application for marketing approval.

Any clinical trial may fail to produce results satisfactory to the FDA. Preclinical and clinical data can be interpreted in different ways, which could delay, limit or prevent regulatory approval. Negative or inconclusive results or adverse medical events during a clinical trial could cause a clinical trial to be repeated or a program to be terminated. We typically rely on third-party clinical investigators to conduct

our clinical trials and, as a result, we may face additional delays outside our control. We plan to engage a CRO to facilitate the administration of our phase 3 trials of TLK286. Dependence on a CRO will subject us to a number of risks. Delays in identifying and engaging a CRO may result in delays in the initiation of our phase 3 trials. We may not be able to control the amount and timing of resources the CRO may devote to our trials. Should the CRO fail to administer our phase 3 trials properly, regulatory approval, development and commercialization of TLK286 will be delayed.

We do not know whether planned clinical trials will begin on time or whether any of our ongoing clinical trials will be completed on schedule, or at all. We do not know whether any clinical trials will result in marketable products. Typically, there is a high rate of attrition for product candidates in preclinical and clinical trials. We do not anticipate that any of our products will reach the market for at least several years.

We believe that our ability to compete depends, in part, on our ability to use our proprietary TRAP technology to discover, develop and commercialize new pharmaceutical products. We may not be competitive if we are unable to utilize our TRAP technology or if the technology proves ineffective.

TRAP, our proprietary drug discovery technology, is a relatively new drug discovery method that uses a protein panel of approximately 20 proteins selected for their distinct patterns of interacting with small molecules. This panel may lack essential types of interactions that we have not yet identified, which may result in our inability to identify active compounds that have the potential to be developed into commercially viable drugs.

If we are unable to continue to identify new product candidates using TRAP technology, we may not be able to maintain our product pipeline and develop commercially viable drugs.

If we are unable to raise adequate funds in the future, we will not be able to continue to fund our operations, research programs, preclinical testing and clinical trials to develop our products.

The process of carrying out the development of our own unpartnered products to later stages of development and developing other research programs to the stage that they may be partnered will require significant additional expenditures, including the expenses associated with preclinical testing, clinical trials and obtaining regulatory approval. As a result, we will require additional financing to fund our operations. We do not know whether additional financing will be available when needed, or that, if available, we will obtain financing on terms favorable to our stockholders. We have expended substantial amounts of cash to date and expect capital outlays and operating expenditures to increase over the next several years as we expand our clinical, research and development activities.

If our competitors develop and market products that are more effective than ours, or obtain marketing approval before we do, our commercial opportunity will be reduced or eliminated.

The biotechnology and pharmaceutical industries are intensely competitive and subject to rapid and significant technological change. Some of the drugs that we are attempting to develop, for example TLK199, will have to compete with existing therapies. In addition, a number of companies are pursuing the development of pharmaceuticals that target the same diseases and conditions that we are targeting. We face competition from pharmaceutical and biotechnology companies in the United States and abroad. Our competitors may develop new screening technologies and may utilize discovery techniques or partner with collaborators in order to develop products more rapidly or successfully than we, or our collaborators, are able to do. Many of our competitors, particularly large pharmaceutical companies, have substantially greater financial, technical and human resources than we do. In addition, academic institutions, government agencies and other public and private organizations conducting research may seek patent protection with respect to potentially competing products or technologies and may establish exclusive collaborative or licensing relationships with our competitors.

Our competitors may succeed in developing technologies and drugs that are more effective or less costly than any which are being developed by us or which would render our technology and potential drugs

obsolete and noncompetitive. In addition, our competitors may succeed in obtaining FDA or other regulatory approvals for product candidates more rapidly than we, or our collaborators. We cannot assure you that drugs resulting from our research and development efforts, or from our joint efforts with our existing or future collaborative partners, will be able to compete successfully with our competitors’ existing products or products under development or that they will obtain regulatory approval in the United States or elsewhere.

If we do not obtain regulatory approval to market products in the United States and foreign countries, we or our collaborators will not be permitted to commercialize our product candidates.

Even if we are able to achieve success in our preclinical testing, we, or our collaborators, must provide the FDA and foreign regulatory authorities with clinical data that demonstrate the safety and efficacy of our products in humans before they can be approved for commercial sale. Failure to obtain regulatory approval will prevent commercialization of our products.

The pharmaceutical industry is subject to stringent regulation by a wide range of authorities. We cannot predict whether regulatory clearance will be obtained for any product that we are developing or hope to develop. A pharmaceutical product cannot be marketed in the United States until it has completed rigorous preclinical testing and clinical trials and an extensive regulatory clearance process implemented by the FDA. Satisfaction of regulatory requirements typically takes many years, is dependent upon the type, complexity and novelty of the product and requires the expenditure of substantial resources. Of particular significance are the requirements covering research and development, testing, manufacturing, quality control, labeling and promotion of drugs for human use.

Before commencing clinical trials in humans, we, or our collaborators, must submit and receive approval from the FDA of an IND application. We must comply with FDA “Good Laboratory Practices” regulations in our preclinical studies. Clinical trials are subject to oversight by institutional review boards and the FDA and:

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must be conducted in conformance with the FDA’s IND regulations;

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must meet requirements for informed consent;

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must meet requirements for Good Clinical Practices;

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may require large numbers of participants; and

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may be suspended by us, our collaborators or the FDA at any time if it is believed that the subjects participating in these trials are being exposed to unacceptable health risks or if the FDA finds deficiencies in the IND application or the conduct of these trials.

Before receiving FDA clearance to market a product, we or our collaborators must demonstrate that the product is safe and effective in the patient population that will be treated. Negative or inconclusive results or adverse medical events during a clinical trial could cause a clinical trial to be repeated, a program to be terminated and could delay approval. We typically rely on third party clinical investigators to conduct our clinical trials and other third party organizations to perform data collection and analysis and, as a result, we may face additional delaying factors outside our control. In addition, delays or rejections may be encountered based upon additional government regulation from future legislation or administrative action or changes in FDA policy or interpretation during the period of product development, clinical trials and FDA regulatory review. Failure to comply with applicable FDA or other applicable regulatory requirements may result in criminal prosecution, civil penalties, recall or seizure of products, total or partial suspension of production or injunction, as well as other regulatory action. We have limited experience in conducting and managing the clinical trials necessary to obtain regulatory approval.

If regulatory clearance of a product is granted, this clearance will be limited to those disease states and conditions for which the product is demonstrated through clinical trials to be safe and efficacious. We cannot ensure that any compound developed by us, alone or with others, will prove to be safe and efficacious in clinical trials and will meet all of the applicable regulatory requirements needed to receive marketing clearance.

Outside the United States, the ability to market a product is contingent upon receiving a marketing authorization from the appropriate regulatory authorities. This foreign regulatory approval process typically includes all of the risks associated with FDA clearance described above and may include additional risks.

As our product programs advance, we will need to hire additional scientific and management personnel. Our research and development efforts will be seriously jeopardized if we are unable to attract and retain key personnel.

Our success depends on the continued contributions of our principal management and scientific personnel and on our ability to develop and maintain important relationships with leading academic institutions, scientists and companies in the face of intense competition for such personnel. As we progress to advanced clinical trials, including phase 2 and phase 3, we will also need to expand our clinical development personnel. In addition, our research programs depend on our ability to attract and retain highly skilled chemists and other scientists. We do not have employment contracts with our key employees. If we lose the services of Dr. Michael Wick or any of our other key personnel, our research and development efforts could be seriously and adversely affected. There is currently a shortage of skilled executives and employees with technical expertise in the biotechnology industry, and this shortage is likely to continue. As a result, competition among numerous companies, academic and other research institutions for skilled personnel and experienced scientists is intense and turnover rates are high. In recent years, the cost of living in the San Francisco Bay Area has increased significantly, which we expect will adversely affect our ability to compete for qualified personnel and will increase costs. Because of this competitive environment, we may encounter increasing difficulty in attracting qualified personnel as our operations expand and the demand for these professionals increases, and this difficulty could significantly impede the achievement of our research and development objectives.

If physicians and patients do not accept our products, our ability to generate product revenue in the future will be adversely affected.

Our product candidates may not gain market acceptance among physicians, patients and the medical community. We believe that market acceptance will depend on our ability to provide acceptable evidence of safety, efficacy, convenience and ease of administration and cost effectiveness. In addition, we believe market acceptance will depend on the effectiveness of our marketing strategy and the pricing of our products. Physicians may elect not to recommend our products even if we meet the above criteria. If any of our product candidates fails to achieve market acceptance, we may not be able to successfully market and sell the product, which would limit our ability to generate revenue and adversely affect our operations.

If we or our licensees cannot obtain and defend our respective intellectual property rights, or if our products or technologies are found to infringe patents of third parties, we could become involved in lengthy and costly legal proceedings that could adversely affect our business.

Our success will depend in a large part on our own and our licensees’ ability to obtain and defend patents for each party’s respective technologies and the compounds and other products, if any, resulting from the application of these technologies. The patent positions of pharmaceutical and biotechnology companies can be highly uncertain and involve complex legal and factual questions. As a result, the degree of future protection for our proprietary rights is uncertain and we cannot assure you that:

•

we were the first to make the inventions covered by each of our pending patent applications;

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we were the first to file patent applications for these inventions;

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others will not independently develop similar or alternative technologies or duplicate any of our technologies;

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any of our pending patent applications will result in issued patents;

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any patents issued to us or our collaborators will provide a basis for commercially viable products, will provide us with any competitive advantages or will not be challenged by third parties;

• any of our issued patents will be valid or enforceable; or

•

we will develop additional proprietary technologies that are patentable.

Accordingly, we cannot predict the breadth of claims allowed in our or other companies’ patents.

Our success will also depend, in part, on our ability to operate without infringing the intellectual property rights of others. We cannot assure you that our activities will not infringe patents owned by others. If our products or technologies are found to infringe patents issued to third parties, the manufacture, use and sale of our products could be enjoined, and we could be required to pay substantial damages. In addition, we may be required to obtain licenses to patents or other proprietary rights of third parties. No assurance can be given that any licenses required under any such patents or proprietary rights would be made available on terms acceptable to us, if at all. Failure to obtain such licenses could negatively affect our business.

Others may have filed and in the future may file patent applications covering small molecules or therapeutic products that are similar to ours. We cannot assure you that any patent application filed by someone else will not have priority over patent applications filed by us. Any legal action against us or our collaborators claiming damages and seeking to enjoin commercial activities relating to the affected products and processes could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain a license to continue to manufacture or market the affected products and processes. We cannot predict whether we, or our collaborators, would prevail in any of these actions or that any license required under any of these patents would be made available on commercially acceptable terms, if at all. We believe that there may be significant litigation in the industry regarding patent and other intellectual property rights. If we become involved in litigation, it could consume a substantial portion of our managerial and financial resources and we may not be successful in any such litigation.

In addition, we could incur substantial costs and use of our key employees’ time and efforts in litigation if we are required to defend against patent suits brought by third parties or if we initiate these suits, and we cannot predict whether we would be able to prevail in any such suit.

Futhermore, some of our patents and intellectual property rights are owned jointly by us and our collaborators. We cannot assure you that these joint owners will not use these patents and other intellectual property in ways that may negatively affect our business. We will not be able to prevent such use.

We also rely on trade secrets to protect technology, including our TRAP technology, where we believe patent protection is not appropriate or obtainable. However, trade secrets are difficult to protect. While we require employees, academic collaborators and consultants to enter into confidentiality agreements, we may not be able to adequately protect our trade secrets or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. If the identity of specific proteins or other elements of our technology become known, our competitive advantage in drug discovery could be reduced.

We will be dependent upon collaborative arrangements to complete the development and commercialization of some of our product candidates. These collaborative arrangements may place the development of our product candidates outside of our control, may require us to relinquish important rights or may otherwise not be on terms favorable to us.

We expect to enter into collaborative arrangements with third parties for clinical trials, development, manufacturing, regulatory approvals or commercialization of some of our products, particularly outside North America, or in disease areas requiring larger and longer clinical trials, such as diabetes. Dependence on collaborative arrangements will subject us to a number of risks. We may not be able to control the amount and timing of resources our collaborative partners may devote to the product candidates. Our collaborative partners may experience financial difficulties. Should a collaborative partner fail to develop

or commercialize a compound or product to which it has rights from us, we may not receive any future milestone payments and will not receive any royalties for this compound or product. Business combinations or significant changes in a collaborative partner’s business strategy may also adversely affect a partner’s willingness or ability to complete its obligations under the arrangement. If we fail to enter into additional collaborative agreements on favorable terms, our business, financial condition and results of operations could be materially adversely affected.

Under our existing collaboration agreements, we are entitled to payments upon future product sales or the achievement of milestones. For example, under our collaboration agreement(s) with Sanwa, we may be entitled to payments of up to $10.0 million. However, there can be no assurance that any product will be successful under these collaborations or that we will receive any of these payments.

Some of our collaborations are for early-stage programs and allow partners significant discretion in electing whether to pursue any of the planned activities. We do not anticipate significant revenues to result from these relationships until the collaborator has advanced products into clinical trials, which will not occur for several years, if at all. Such arrangements are subject to numerous risks, including the right of the collaboration partner to control the timing of the research and development efforts, and discretion to advance lead candidates to clinical trials and commercialization of the product. In addition, a collaborative partner could independently move forward with a competing lead candidate developed either independently or in collaboration with others, including our competitors.

If we are unable to contract with third parties to manufacture our products in sufficient quantities and at an acceptable cost, we may be unable to meet demand for our products and lose potential revenue.

We do not currently operate manufacturing facilities for clinical or commercial production of our products under development. We expect to continue to rely on third parties for the manufacture of our product. We currently lack the resources or capability to manufacture any of our products on a clinical or commercial scale. As a result, we will be dependent on corporate partners, licensees or other third parties for the manufacturing of clinical and commercial scale quantities of our products. Our products may be in competition with other products for access to these facilities. For this and other reasons, our collaborators or third parties may not be able to manufacture these products in a cost effective or timely manner. If not performed in a timely manner, the clinical trial development of our product candidates or their submission for regulatory approval could be delayed, and our ability to deliver products on a timely basis could be impaired or precluded. We are currently dependent upon two sources of supply for clinical quantities of TLK286 and a sole source of supply for clinical quantities of TLK199. If our suppliers fail to perform, our clinical trials or commercialization of TLK286 and TLK199 would be delayed. We may not be able to enter into any necessary third-party manufacturing arrangements on acceptable terms, if at all. Our current dependence upon others for the manufacture of our products may adversely affect our future profit margins and our ability to commercialize products on a timely and competitive basis.

If we are unable to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will not be able to commercialize products.

We currently have no sales, marketing or distribution capabilities. In order to commercialize any products, we must internally develop sales, marketing and distribution capabilities, or establish collaborations or other arrangements with third parties to perform these services. We intend to market some products directly in North America and rely on relationships with one or more pharmaceutical companies with established distribution systems and direct sales forces to market other products and address other markets. We may not be able to establish in-house sales and distribution capabilities or relationships with third parties. To the extent that we enter into co-promotion or other licensing arrangements, our product revenues are likely to be lower than if we directly marketed and sold our products, and any revenues we receive will depend upon the efforts of third parties, whose efforts may not be successful.

If product liability lawsuits are successfully brought against us, we may incur substantial liabilities and may be required to limit commercialization of our products.

The testing and marketing of medical products entail an inherent risk of product liability. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products. If we are unable to obtain sufficient product liability insurance at an acceptable cost, potential product liability claims could prevent or inhibit the commercialization of pharmaceutical products we develop, alone or with corporate collaborators.

If we use biological and hazardous materials in a manner that causes injury, we may be liable for damages.

Our research and development activities involve the controlled use of potentially harmful biological materials, hazardous materials, chemicals and various radioactive compounds, and are subject to federal, state and local laws and regulations governing the use, storage, handling and disposal of these materials and specified waste products. We cannot completely eliminate the risk of accidental contamination or injury from the use, storage, handling or disposal of these materials. In the event of contamination or injury, we could be held liable for damages that result, and any liability could exceed our resources.

We have implemented anti-takeover provisions which could discourage or prevent a takeover, even if an acquisition would be beneficial to our stockholders.

Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. These provisions include:

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establishing a classified Board of Directors requiring that members of the Board be elected in different years lengthening the time needed to elect a new majority of the Board;

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authorizing the issuance of “blank check” preferred stock that could be issued by our Board of Directors to increase the number of outstanding shares or change the balance of voting control and thwart a takeover attempt;

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prohibiting cumulative voting in the election of directors, which would otherwise allow for less than a majority of stockholders to elect director candidates;

• limiting the ability of stockholders to call special meetings of the stockholders;

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prohibiting stockholder action by written consent and requiring all stockholder actions to be taken at a meeting of our stockholders; and

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establishing advance notice requirements for nominations for election to the Board of Directors and for proposing matters that can be acted upon by stockholders at stockholder meetings.

In addition, in November 2001, we adopted a stockholder rights plan that may discourage, delay or prevent a merger that a stockholder may consider favorable.

Substantial future sales of our common stock by us or by our existing stockholders could cause our stock price to fall.

Additional equity financings or other share issuances by us, including shares issued in connection with strategic alliances, could adversely affect the market price of our common stock. Sales by existing stockholders of a large number of shares of our common stock in the public market or the perception that additional sales could occur could cause the market price of our common stock to drop.

If we do not progress in our programs as anticipated, our stock price could decrease.

For planning purposes, we estimate the timing of a variety of clinical, regulatory and other milestones, such as when a certain product candidate will enter clinical development, when a clinical trial will be

completed or when an application for regulatory approval will be filed. Some of our estimates are included in this quarterly report on Form 10-Q and our estimates are based on present facts and a variety of assumptions. Many of the underlying assumptions are outside of our control. If milestones are not achieved when we expect them to be, investors could be disappointed, and our stock price may decrease.

Our stock price may be volatile, and you may not be able to resell your shares at or above your purchase price.

Our stock prices and the market prices for securities of biotechnology companies in general have been highly volatile, with recent significant price and volume fluctuations, and may continue to be highly volatile in the future. You may not be able to sell your shares quickly or at the market price if trading in our stock is not active or the volume is low. The following factors, in addition to other risk factors described in this section, may have a significant impact on the market price of our common stock:

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developments regarding, or the results of, our clinical trials, including TLK286 clinical trials;

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

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developments concerning proprietary rights, including patents;

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developments concerning our collaborations;

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publicity regarding actual or potential medical results relating to products under development by our competitors or us;

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regulatory developments in the United States and foreign countries;

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litigation;

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economic and other external factors or other disaster or crisis; or

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period-to-period fluctuations in our financial results.

If materials distributed at an investor conference were determined by a court to have been distributed in connection with a recent offering of our common stock and in violation of securities laws, purchasers in that offering would have the right to seek refunds or damages.

Certain materials about us were distributed in connection with an investor conference sponsored by a broker dealer in September 2002. This broker dealer regularly publishes reports, opinions and recommendations regarding our common stock and was proposed to be an underwriter in an offering of our common stock. The materials distributed included a one-page fact sheet containing publicly available information about us and a compilation of interviews relating to conference participants, including an interview of a financial analyst employed by the broker dealer. In this interview, the analyst focused on three companies, including us, summarized TLK286 and made some forward-looking statements about us. An abbreviated version of this interview was issued as a press release. We have been advised that the materials were prepared in connection with the conference and not in anticipation of or in connection with the offering. This broker dealer did not participate in the offering as an underwriter or selling group member.

We urged all investors to read, and base their investment decision only on, the information contained in the prospectus related to the offering. If one or more of these materials were deemed attributable to us or to an underwriter participating in the offering, and deemed to constitute a prospectus that does not meet the requirements of the Securities Act of 1933, persons who purchased our common stock in that offering may have the right, for a period of one year from the date of the violation, to obtain recovery of the consideration paid in connection with their purchase of our common stock or, if they had already sold the stock, to recover any losses resulting from their purchase of common stock.

ITEM 3. Quantitative and Qualitative Disclosures About Market Risk

The following discussion about our market risk exposure involves forward-looking statements. We are exposed to market risk related mainly to changes in interest rates. We do not invest in derivative financial instruments.

The fair value of our investments in marketable securities at September 30, 2002 was $16.5 million, with a weighted-average maturity of 76 days and a weighted-average interest rate of 2.25%. Our investment policy is to manage our marketable securities portfolio to preserve principal and liquidity while maximizing the return on the investment portfolio. Our marketable securities portfolio is invested primarily in corporate debt securities with an average maturity of under one year and a minimum investment grade rating of A to minimize credit risk. Although changes in interest rates may affect the fair value of the marketable securities portfolio and cause unrealized gains or losses, such gains or losses would not be realized unless the investments were sold prior to maturity.

We have operated primarily in the United States and all funding activities with our collaborators to date have been made in U.S. dollars. Accordingly, we do not have any exposure to foreign currency rate fluctuations.

ITEM 4. Controls and Procedures

Within 90 days prior to the filing date of this quarterly report, our chief executive officer and chief financial officer performed an evaluation of the effectiveness of our disclosure controls and procedures. Based on that evaluation, our chief executive officer and chief financial officer have concluded that our disclosure controls and procedures were effective as of the date of such evaluation. Since the most recent evaluation of our controls and procedures performed by our chief executive officer and chief financial officer, there have been no significant changes in our internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation.

PART II. OTHER INFORMATION

ITEM 1. Legal Proceedings

We are not currently involved in any legal proceedings.

ITEM 2. Changes in Securities and Use of Proceeds

On August 11, 2000, a registration statement on Form S-1 (No. 333-33868) was declared effective by the Securities and Exchange Commission, pursuant to which 5,750,000 shares of our common stock were offered and sold by us at a price of $7.00 per share, generating gross offering proceeds of $40.3 million. The managing underwriters were Lehman Brothers Inc., Chase Securities Inc., Legg Mason Wood Walker, Inc., UBS Warburg LLC and Fidelity Capital Markets, a division of National Financial Services Corporation. In connection with the offering, we incurred approximately $2.8 million in underwriting discounts and commissions, and approximately $1.9 million in other related expenses. The net proceeds from the offering, after deducting the foregoing expenses, were approximately $35.6 million.

From the time of receipt through September 30, 2002, we have applied the net proceeds from the offering as follows:

	Estimations, in $000’s
Purchases and installation of machinery and equipment	$	1,684
Repayment of indebtedness		14
Working capital used in operations		30,150
Net proceeds to be applied in future periods		3,752

We plan to use the balance of the net proceeds of our initial public offering for clinical trials, preclinical studies and general corporate purposes, including working capital and product development. We may use a portion of the balance of the net proceeds to acquire or invest in products and technologies that are complementary to our own, although no acquisitions are planned or being negotiated as of the date of this filing, and we have not allocated any portion of the net proceeds for any specific acquisition. None of the net proceeds of the initial public offering were paid directly or indirectly to any director, officer, general partner of Telik or their associates, persons owning 10% or more of any class of equity securities of Telik, or an affiliate of Telik. We expect that our use of the balance of the proceeds from the offering will conform to the intended use of proceeds as described in our initial public offering prospectus dated August 11, 2000.

ITEM 3. Defaults Upon Senior Securities

Not applicable.

ITEM 4. Submission of Matters To a Vote of Security Holders

Not applicable.

ITEM 5. Other Information

In October 2002, we completed a follow-on public offering of our common stock, resulting in net proceeds of approximately $80.4 million.

ITEM 6. Exhibits and Reports on Form 8-K

(a) Exhibits


10.21		Lease between Telik and The Board of Trustees of the Leland Stanford Junior University, dated July 25, 2002.

10.22		Master Lease Agreement between Telik and General Electric Capital Corporation dated August 23, 2002, as amended.

10.23		Master Security Agreement between Telik and General Electric Capital Corporation dated August 23, 2002, as amended.

99.1		Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

(b) Reports on Form 8-K

(1)

We filed a report on Form 8-K dated September 12, 2002 announcing a proposed public offering pursuant to an already effective shelf registration statement.

(2)

We filed a report on Form 8-K dated September 27, 2002 announcing that we had entered into an Underwriting Agreement with UBS Warburg LLC and other representatives of the underwriters relating to the sale of up to 7,475,000 shares of Telik common stock (including 975,000 shares issuable upon exercise of the underwriters’ over-allotment option, if any) to the underwriters at an initial public offering price of $11.50 per share and updating our Risk Factors.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

TELIK, INC.

By:		/s/ CYNTHIA M. BUTITTA
		Cynthia M. Butitta Chief Operating Officer and Chief Financial Officer (Duly Authorized Officer and Principal Financial Officer)

Dated November 13, 2002

CERTIFICATIONS

I, Michael M. Wick, M.D., Ph.D., certify that:

1. I have reviewed this quarterly report on Form 10-Q of Telik, Inc.;

2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

6. The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.


Date: November 13, 2002		/s/ MICHAEL M. WICK
		Michael M. Wick, M.D., Ph.D. Chairman and Chief Executive Officer

CERTIFICATIONS

I, Cynthia M. Butitta, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Telik, Inc.;

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and


Date: November 13, 2002		/s/ CYNTHIA M. BUTITTA
		Cynthia M. Butitta Chief Operating Officer and Chief Financial Officer

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