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U.S. SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended March 31, 2004

or

For the transition period from              to            

Commission file number 0-27914

SIRNA THERAPEUTICS, INC.

(Exact name of registrant as specified in its charter)

2950 Wilderness Place

Boulder, Colorado 80301

(Address of principal executive offices)

Registrant’s telephone number: (303) 449-6500

Former name, if changed since last report

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

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

The number of shares of the registrant’s common stock, par value $0.01 per share, outstanding as of April 28, 2004 was 31,799,516.

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SIRNA THERAPEUTICS, INC.

INDEX TO FORM 10-Q

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PART I. FINANCIAL INFORMATION

ITEM I. FINANCIAL STATEMENTS

SIRNA THERAPEUTICS, INC.

CONDENSED BALANCE SHEETS

(in thousands, except per share amounts)

See notes to condensed financial statements

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SIRNA THERAPEUTICS, INC.

CONDENSED STATEMENTS OF OPERATIONS

(Unaudited)

(in thousands, except per share amounts)

See notes to condensed financial statements

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SIRNA THERAPEUTICS, INC.

CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

(in thousands, except per share amounts)

See notes to condensed financial statements.

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SIRNA THERAPEUTICS, INC.

NOTES TO CONDENSED FINANCIAL STATEMENTS

March 31, 2004

(Unaudited)

Note 1: Basis of Presentation

The accompanying unaudited condensed financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and 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 generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004. For further information, refer to the financial statements and footnotes thereto included in our annual report on Form 10-K for the year ended December 31, 2003.

Note 2: Special Meeting of Stockholders and Private Placement

On February 11, 2003, the Company entered into a common stock and warrant purchase agreement with the Sprout Group, Venrock Associates, Oxford Bioscience Partners IV, TVM V Life Science Ventures GmbH & Co. KG and Granite Global Ventures (collectively, the “Investors”) to sell common stock and warrants for an aggregate amount of approximately $48 million (the “Stock Purchase Agreement”). On April 16, 2003, the Company held a Special Meeting of Stockholders at which the terms of the Stock Purchase Agreement with the Investors were approved.

On April 21, 2003, pursuant to the Stock Purchase Agreement, the Company completed the sale of 24,242,425 shares of its common stock and warrants to purchase 5,015,152 shares of its common stock to the Investors for an aggregate consideration of approximately $48 million. The common stock was sold in a private placement at a price per share of $1.98 and the warrants are exercisable at any time over the five year period measured from the date of issuance at a price per share of $2.52.

Note 3: Accounting for Stock-Based Compensation

Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-Based Compensation defined a fair value method of accounting for stock options and other equity instruments. Under the fair value method, compensation cost is measured at the grant date based on the fair value of the award and is recognized over the service period, which is usually the vesting period. As provided for in SFAS No. 123, the Company has elected to apply Accounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for its stock-based compensation plans. Under APB 25, if the exercise prices of the options issued to the Company’s employees and directors equal or exceed the fair value of the underlying stock on the date of grant, no compensation expense is recognized. The Company has elected to follow the intrinsic value method prescribed by APB 25, however, the Company will continue to evaluate its approach to accounting for stock options in light of ongoing industry and regulatory developments.

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The following is a reconciliation of net loss per weighted average share had the Company adopted the fair value measurement provisions of SFAS No. 123 (in thousands, except per share amounts).

In February 2003, the Company granted options to purchase approximately 4.8 million shares of common stock to employees and consultants at an exercise price of $2.10 per share, subject to stockholder approval. At the time of the grants, the Company’s stock option plan had available 285,000 options and therefore the February 2003 grants required stockholder approval for the additional 4.5 million shares granted. At the Special Meeting held on April 16, 2003, the Company’s stockholders approved an amendment to the Company’s stock option plan to increase the number of shares reserved for issuance pursuant to the plan by a total of 5,666,667 shares. On the day of the meeting, the Company’s stock price closed at $2.70 per share. Since the price of the stock closed at a higher price on the day of approval (effective grant date) than the exercise price of the options, the Company was required to record unearned compensation of $2.7 million, which is the $0.60 difference in stock price multiplied by the 4.5 million shares that required approval. The compensation is deferred and will be expensed as the options vest. Generally, the options vest monthly over four and five years. Related to the February 2003 grants, the Company recorded compensation expense of $106,000 for the three month period ended March 31, 2004.

Note 4: Recently Adopted Accounting Standards

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS No. 150 establishes guidelines on how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity and is effective for financial instruments entered into or modified after May 31, 2003. The Company adopted SFAS No. 150 on June 1, 2003. The adoption did not have a material impact on our results of operations or financial condition.

In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), Consolidation of Variable Interest Entities. This interpretation of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” addresses consolidation by business enterprises of variable interest entities that possess certain characteristics. FIN 46 requires that if a business enterprise has a controlling financial interest in a variable interest entity (“VIE”), the assets, liabilities, and results of the activities of the variable interest entity must be included in the consolidated financial statements with those of the business enterprise. The consolidation requirements of FIN 46 are effective immediately for VIE’s created after January 31, 2003. The consolidation requirements for older VIE’s are effective for financial statements of interim or annual periods beginning after June 15, 2003, however in October of 2003 the FASB deferred the effective date of FIN 46 for older VIE’s to the end of the first interim or annual period ending after December 15, 2003. Certain disclosure requirements are effective for all financial statements issued after January 31, 2003, regardless of when the VIE was established. The Company does not have any ownership in any variable interest entities as of December 31, 2003. The Company will apply the consolidation requirements of FIN 46 in future periods should an interest in a variable interest entity be acquired.

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The following Management’s Discussion and Analysis of Financial Condition and Results of Operations, as well as information contained elsewhere in this report, contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended and the Private Securities Litigation Reform Act of 1995. Forward-looking statements give our current expectations or forecasts of future events. You can identify these statements by the fact that they do not relate strictly to historical or current events. Forward-looking statements use words such as “anticipate,” “estimate,” “expect,” “will,” “may,” “intend,” “plan,” “believe” and similar expressions in connection with discussion of future operating or financial performance. The forward-looking statements include statements relating to future actions, prospective products and product approvals, future performance or results of current and anticipated products, sales efforts, expenses and financial results. Forward-looking statements are not guarantees of future performance and they can be affected by inaccurate assumptions or by known or unknown risks and uncertainties. Actual results may differ materially from those projected in the forward-looking statements as a result of various factors, including, without limitation, those listed under “Risk Factors” in this Quarterly Report on Form 10-Q and under “Item 1. Business-Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2003. Except to fulfill our obligations under the federal securities laws, we undertake no obligation to update forward-looking statements to reflect events or circumstances after the date on which it its made.

We begin Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) with the company’s business overview to give you an understanding of the technology of our business and the direction in which our business and our product candidates are moving. This is followed by a discussion of the Critical Accounting Estimates that we believe are important to understanding the assumptions and judgments incorporated in our reported financial results. We then discuss our Results of Operations for the quarter ended March 31, 2004 compared to the same period in 2003, separated by our functions. We then provide an analysis of changes in our balance sheet and cash flows, and discuss our financial commitments in the section entitled “Liquidity and Capital Resources.”

Business Overview

RNA interference (RNAi) technology generally uses a double-stranded sequence of nucleic acid, such as RNA, capable of reducing the expression of messenger RNA (mRNA) and viral RNA in a sequence-specific manner. For simplicity, we refer to the double-stranded RNA molecule facilitating this process as a siRNA (short interfering RNA). The process of reducing the expression of an mRNA or viral RNA using siRNAs is called RNA interference or RNAi. RNA interference is a mechanism used by cells to regulate the expression of genes and replication of viruses. The RNA interference mechanism induces the destruction of target RNA using naturally occurring cellular protein machinery.

Harnessing the natural phenomenon of RNA interference holds potential for the development of a new class of drugs with specificity toward a wide range of different diseases that result from undesirable protein production or viral replication. Although there is widespread use of RNA interference-based reagents for target validation, the development of RNA interference-based pharmaceuticals for therapeutic uses to target disease currently is in an early stage of development.

Since our inception in 1992, we have dedicated ourselves to engineering RNA-based molecules for therapeutic and diagnostic purposes. Our expertise in nucleic acid technology enables us to focus on the development of a new type of nucleic acid-based therapeutic based on RNA interference. In 2001 we began to study RNAi and in 2003, based on advancements in, and potential of, the field, we directed our research and development activities entirely to RNA interference. We are using our expertise to design, stabilize,

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manufacture and deliver siRNAs that activate selectively the process of RNA interference. We believe siRNA-based drugs may become important therapeutics in the future. We also continue to act as a manufacturer of oligonucleotides (chains of nucleotides that can be chemically synthesized; oligonucleotides are a form of nucleic acid) for our use and for use by our collaborators and customers, to generate free cash flow for the purpose of supporting our therapeutic discovery operations.

Product Candidate Programs. We are seeking to develop drugs that address significant and unmet medical needs. Currently, we are in research and/or preclinical development with product candidates in the following areas:

We are also evaluating other disease targets and indications for the development of RNA interference-based therapeutics.

Intellectual Property. We have been working with RNA-based molecules for a number of years, therefore we have accumulated an extensive patent portfolio. We own, or have exclusive licenses to use, over 180 issued or allowed patents relating to nucleic acid technology. Over 30 of these issued or allowed patents extend coverage to the RNA interference technology. Additionally, we have filed or licensed over 60 patent applications covering various aspects of the RNA interference technology. In addition, in September 2003, we announced that we entered into a worldwide license agreement with the University of Massachusetts Medical School (Medical School) for its undivided interest in intellectual property relating to RNA interference technology covering siRNA. The license grants us rights to the undivided interest of the Medical School in the intellectual property for uses relating to human and veterinary therapeutic, prophylactic, diagnostic and health care applications.

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Licensing, Process Development and Pilot Manufacturing. In addition to our work with RNA interference, we also have developed an extensive expertise in nucleic acid technologies. We intend to leverage our nucleic acid expertise through licensing, process development and pilot manufacturing. To date, we have entered into certain process development and pilot manufacturing arrangements with collaborators which have generated revenues. Recently, we entered into an agreement with Archemix, a privately held company, whereby we are manufacturing Archemix’s cGMP-grade ARC183, an anti-thrombin aptamer. In addition, in 2003 we completed a collaboration with Geron Corporation, a biopharmaceutical company focused on oncology and regenerative medicine. Our first program, which began in 2001, was a process development consultation with Geron for GRN163, a nucleic acid-based telomerase agonist for cancer. We successfully completed the program and renewed the agreement to manufacture GMP clinical-grade GRN163 for Geron’s Phase I clinical study. Delivery under this agreement was completed in June 2003. We intend to continue to seek out process development and manufacturing collaborations in order to supplement our research activities.

Other Programs. As we have redirected our business to focus on RNA interference, our ribozyme related partnerships are completed. ANGIOZYME is a ribozyme-based product candidate we were developing in collaboration with Chiron Corporation, or Chiron, to treat solid tumor cancers. We completed analysis of data from a Phase II colorectal cancer clinical trials in 2003. We are no longer developing ANGIOZYME. We have agreed with Chiron to seek a licensee for the further development of ANGIOZYME; however, it is uncertain whether or not an interested party will be found, and if so, under terms agreeable to both Chiron and Sirna.

We also were developing HERZYME, a ribozyme-based product candidate, in collaboration with Elan Corporation (Elan) to treat breast and other solid tumor cancers. A Phase I clinical trial was completed during the first quarter of 2003. In April 2003, we entered into a termination agreement with Elan, under which we retain full rights to HERZYME and Elan transferred its 19.9% interest in our joint venture with Elan, Medizyme Pharmaceuticals, Ltd., to us in exchange for either (a) a portion of any future net revenues received by us if we enter into a commercialization agreement with a third party for HERZYME or (b) a royalty on our net sales of HERZYME. We do not intend to pursue development of HERZYME.

Critical Accounting Estimates

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on the results we report in our financial statements, which we discuss under the heading “Results of Operations” following this section of our MD&A. Some of our accounting policies require us to make difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Our most critical accounting estimates include recognition of revenue, valuation of our patent costs and accounting for our investments in our unconsolidated affiliates.

Revenue Recognition. To date, we have committed substantially all our resources to our research and product candidate development programs. We have not generated any revenues from therapeutic product sales, nor do we anticipate generating any therapeutic product revenues in the foreseeable future. Revenue recorded from our collaborative agreements may consist of: research revenue, contract manufacturing revenue, milestone revenue and license or royalty revenue. We generally recognize revenue when we have satisfied all contractual obligations and we are reasonably assured of collecting the resulting receivable. Given the nature of our business and the infrastructure that we need to support, we often enter into collaborations where we receive nonrefundable up-front payments for prior or future expenditures. In compliance with current accounting rules, we recognize revenue related to up-front payments over the

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period of the contractual arrangements as we satisfy our performance obligations. Occasionally, we are required to estimate the period of a contractual arrangement or our performance obligation when the information is not clearly defined in the agreements we enter into. Should different estimates prevail, revenue recognized could be different. As of March 31, 2004, we evaluated our estimates for the periods of contractual arrangements and determined that our estimates are appropriate. We depend upon funding from external financing and corporate collaborations for our research and product development programs and expect to depend upon this funding for the foreseeable future.

Our revenues are denominated in U.S. dollars. Therefore, we have not been exposed to foreign currency exchange risks and have not engaged in any hedging transactions.

Patent Expenses. Due to the early stage of development of siRNA technology, we expense all legal costs directly incurred in connection with patent applications or patents until we determine that the estimated recoverability of such costs is sufficiently probable, at which time such costs are capitalized. If capitalized, such deferred patent costs are then amortized over the estimated economic life of the patent on a straight-line basis. We review all capitalized patent costs on a quarterly basis and if we decide to abandon a patent or a patent application or determine that an issued patent or a patent application no longer has significant economic value, the unamortized balance in deferred patent costs related to that patent or patent application is immediately expensed.

In 2003, we changed our business strategy which focused on development of ribozyme-based therapeutics and diagnostics to developing a new class of nucleic acid-based therapeutics based on RNA interference. As a result of finalizing this change in strategic direction during the quarter ended June 30, 2003, we undertook a detailed review of our existing patent portfolio. Based on this review, we wrote off $447,000 of patent costs related to patents or patents that we abandoned in the second quarter of 2003. In addition, since we are no longer pursuing the development of ribozymes internally, we expensed approximately $4.9 million of capitalized patent costs related to the ribozyme technology. This expense is reflected as a separate line item in our statement of operations for the year ended December 31, 2003.

Certain patent costs directly related to our existing RNAi technology and chemistry technology relating to process development, manufacturing, stabilization and delivery of oligonucleotides continue to remain capitalized and will be amortized over three years, due to the early stage of the RNAi technology.

Accounting for Investments in Unconsolidated Affiliates. As part of the joint venture with Elan, we licensed HERZYME and Elan licensed its MEDIPAD^® and certain liposomal drug delivery technologies to the joint venture, Medizyme. The joint venture was terminated in April 2003. While we own 100% of the outstanding common stock of Medizyme, during the collaboration, Elan retained significant minority investor rights that were considered “participating rights” as defined in EITF 96-16, Investors Accounting for an Investee When the Investor Owns a Majority of the Voting Stock but the Minority Shareholder or Shareholders Have Certain Approval or Veto Rights. Therefore, we did not consolidate the operations of Medizyme, but instead accounted for the investment in Medizyme under the equity method. As of December 31, 2003, we had absorbed the entire cost basis in our equity investment through our share of Medizyme’s net losses.

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Results of Operations

Three Months Ended March 31, 2004 and 2003

Revenues

The following table sets forth information on revenues earned from our collaborations for the periods indicated (in thousands):

Generally, revenue fluctuations result from changes in the number of funded research projects as well as the timing and completion of contractual milestones. Our revenues are split into three categories: (i) Contract revenues, (ii) Contract revenues-joint venture, and (iii) Contract revenues-related parties. Contract revenues primarily include revenues recorded from Archemix, Eli Lilly, Chiron, and Fujirebio Diagnostics, Inc. Chiron revenues were related to our collaboration on ANGIOZYME. Contract revenues-joint venture include revenues from Medizyme, our joint venture we had with Elan for the development of HERZYME. Contract revenues-related parties consist of revenues recorded from atugen AG.

Our revenues for the quarter ended March 31, 2004 were $318,000, a decrease of $172,000 compared to the same period in 2003. The decrease is primarily a result of our change in business strategy in mid 2003 and the subsequent termination of ribozyme related programs and the associated revenues from Chiron, Fujirebio and atugen. As discussed previously, we are not pursuing development of ANGIOZYME and discontinued clinical trials of ANGIOZYME in 2003. In addition, in April 2003, we terminated our joint venture with Elan and are not pursuing development of HERZYME. Offsetting our loss in revenues in the ribozyme programs are revenues related to our Archemix manufacturing collaboration. Archemix revenues were $290,000 for the first quarter of 2004. In addition, during the first quarter of 2004, we entered into an eighteen-month collaboration with Lilly to jointly investigate our proprietary modified siRNAs against specific oncology targets provided by Lilly. Revenues recognized during the first quarter of 2004 are from Lilly’s access to a non-exclusive research license of certain of our technologies in oncology during the eighteen-month collaboration.

We are actively pursuing partnerships and collaborations to fund our research and development programs.

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Expenses

Research and Development

The following table sets forth information on research and development expenses for the periods indicated (in thousands):

Our research and development expenses for the quarter ended March 31, 2004 were $5.1 million, an increase of $1.3 million compared to the same period in 2003. The increase is primarily due to the scale up of our research and outside services as we progress in our preclinical activities for Sirna-027, our RNAi drug candidate targeting AMD. In 2003, outside service expenses included completing phase II clinical studies for ANGIOZYME and outside studies conducted for our preclinical work in our RNAi programs, whereas in 2004 the expenses were exclusively RNAi related. In addition, patent expense increased due to our increased activity in patent applications related to RNAi technology. Until we can determine that the estimated recoverability of the patent costs is sufficiently probable, we expense all legal costs directly incurred in connection with patent applications or patents. Also, personnel expense for the first quarter of 2004 was $1.9 million, an increase of $212,000 compared to the same period in 2003. While average staffing decreased in 2004, our personnel expense increased primarily due to $73,000 in additional non-cash stock option expense recognized, $48,000 in additional accruals for expected increases in benefits, and $50,000 in severance payments incurred during the first quarter of 2004. In addition, annual salary increases became effective in January. We expect research and development expenses to increase as we move forward in our development activities.

We have incurred the following expenses, net of partner reimbursements, related to our major research and development projects (in thousands):

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Research and development project costs include costs of salaries, benefits, clinical trial site costs, outside services, materials and supplies incurred to support the clinical programs. Indirect costs allocated to projects include facility and occupancy costs, intellectual property-related expenses, including patent prosecution and maintenance, and license and royalty payments. For purposes of project tracking, we capture the level of effort expended on a project through our project management system, which is based primarily on human resource time allocated to each project, supplemented by an allocation of indirect costs and other specifically identifiable costs, if any. As a result, the costs we allocate to a project are not intended to, and do not necessarily, reflect the precise actual incremental costs of the project.

Future costs related to the projects are difficult to estimate due to the nature of the technology and the inability to foresee outcomes of key milestones in the clinical development of each drug. However, in the biotechnology industry, drug timelines generally track certain averages such as the following:

The most significant costs associated with clinical development are the Phase III trials as they tend to be the longest and largest studies conducted during the drug development process. The FDA closely monitors the progress of each phase of clinical testing. The FDA may, at its discretion, re-evaluate, alter, suspend or terminate testing based upon the data accumulated to that point and the FDA’s assessment of the risk/benefit ratio to patients. If Phase III trials are successful, the final step in a drug approval timeline is submission of a New Drug Application (NDA) with the FDA. The NDA process may last several years.

The above timelines and costs are estimates and generalizations and as such involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from estimates. In addition, we intend to seek collaborations and corporate partners to assist in the cost and complexities of developing our drugs. If we are successful in our drug development, we intend to rely on our corporate partners or third parties with established direct sales forces to market, distribute and sell our products. These partners or third parties may have significant control over important aspects of the commercialization of our products, including market identification, marketing methods, pricing, sales force recruitment and management and promotional activities.

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General and Administrative.

The following table sets forth information on general and administrative expenses for the periods indicated (in thousands):

General and administrative expenses for the quarter ended March 31, 2004 were $1.1 million, compared to $1.4 million for the same period in 2003. The decrease is primarily due to severance paid in the first quarter of 2003 related to a reduction in force that occurred at the beginning of 2003. Other expenses increased in 2004 as a result of increased legal and professional fees in connection with business development efforts. We expect general and administrative costs to approximate the same levels in 2004 as in 2003.

Interest income, expense and other expense. Interest income was $104,000 for the quarter ended March 31, 2004, compared to $21,000 for the same period in 2003. The fluctuation from year to year is due to the fluctuation of average balances in our cash, cash equivalents and securities available-for-sale. Interest expense was $108,000 for the first quarter of 2004, compared to $124,000 during the same period in 2003. The reduction in interest expense is a result of paying off a $1.0 million loan that we carried through a credit institution in February 2004.

Equity in loss of unconsolidated affiliate. Equity in loss of unconsolidated affiliate was zero for the quarter ended March 31, 2004, compared to $133,000 for the same period in 2003. The expense for the first quarter of 2003 was our share of Medizyme’s expenses. The decrease in loss is due to the wind-down and subsequent termination of our joint venture with Elan in April 2003. As of March 31, 2004, all material expenses incurred with Medizyme have been recognized.

Liquidity and Capital Resources

We had cash, cash equivalents and securities available-for-sale of $29.6 million at March 31, 2004 compared with $36.6 million at December 31, 2003. The $7.0 million decrease in cash, cash equivalents and securities available-for-sale is primarily the result of $5.9 million used for operations, net of revenues of $318,000; $131,000 used for investments in equipment, leasehold improvements and patents; and $1.1 million paid for debt obligations.

We invest our securities available-for-sale in interest bearing, investment-grade securities.

Accounts receivable at March 31, 2004 were $72,000 compared to $156,000 at December 31, 2003. Accounts receivable at March 31, 2004 were primarily due from Archemix related to our manufacturing agreement.

Total additions for property, plant and equipment for the three months ended March 31, 2004 were $90,000. In February 2004, we paid off a loan of $1.0 million that we carried through a credit institution. We anticipate future property, plant and equipment needs to be financed through credit facilities yet to be determined.

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Schering AG. At March 31, 2004, we had an outstanding convertible loan, including accrued interest, of $3.06 million from Schering AG. Accrued interest is paid on a quarterly basis. The $3.0 million principal is due in January 2005.

We have financed our operations through sales of equity securities in public offerings, private placements of preferred and common stock, funds received under our collaborative agreements and financing under equipment and tenant improvement loans. We anticipate that, with the consummation of our private placement in April 2003, our existing financial resources and expected revenues from collaborations, our cash should be sufficient to meet our anticipated operating and capital requirements through 2005. We expect to incur substantial additional costs, including costs related to:

We will continue to need to raise additional capital through any or all of the following: public or private financing, merger or acquisition, new collaborative relationships, new credit facilities and/or other sources. If we raise funds by issuing and selling more stock, your ownership in us will be diluted. We may grant future investors rights superior to those of existing stockholders. In addition, we do not know if additional funding will be available, or available on acceptable terms when needed.

Recently Adopted Accounting Standards

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS No. 150 establishes guidelines on how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity and is effective for financial instruments entered into or modified after May 31, 2003. The Company adopted SFAS No. 150 on June 1, 2003. The adoption did not have a material impact on our results of operations or financial condition.

In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), Consolidation of Variable Interest Entities. This interpretation of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” addresses consolidation by business enterprises of variable interest entities that possess certain characteristics. FIN 46 requires that if a business enterprise has a controlling financial interest in a variable interest entity (“VIE”), the assets, liabilities, and results of the activities of the variable interest entity must be included in the consolidated financial statements with those of the business enterprise. The consolidation requirements of FIN 46 are effective immediately for VIE’s created after January 31, 2003. The consolidation requirements for older VIE’s are effective for financial statements of interim or annual periods beginning after June 15, 2003, however in October of 2003 the FASB deferred the effective date of FIN 46 for older VIE’s to the end of the first interim or annual period ending after December 15, 2003. Certain disclosure requirements are effective for all financial statements issued after January 31, 2003, regardless of when the VIE was established. We do not have any ownership in any variable interest entities as of December 31, 2003. We will apply the consolidation requirements of FIN 46 in future periods should an interest in a variable interest entity be acquired.

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Risk Factors

Risks Relating to our Business, Industry and Common Stock

We are a biotechnology company in the early stage of development and have only a limited operating history for you to review in evaluating our current business and its prospects.

Our focus is directed towards RNA interference technology, which is in an early stage of development and will require substantial further testing before we can begin any clinical development of RNA-based therapeutic product candidates. There can be no assurance that our technologies will enable us to discover and develop therapeutic products.

All of our product candidates are in early stages of development, have never generated any sales and require extensive testing before commercialization. Our RNA interference-based drugs, which are the focus of our business, will require more than five years to bring to market, and may never reach the market. You must consider, based on our limited history, our ability to:

We have a history of losses, expect future losses and cannot assure you that we will ever become or remain profitable.

We have incurred significant losses and have had negative cash flows from operations since inception. To date, we have dedicated most of our financial resources to research and development and general and administrative expenses. We have funded our activities primarily from sales of our stock, revenues we receive under contract manufacturing of oligonucleotides, research and development agreements, and lines of credit. As of March 31, 2004, our accumulated deficit was approximately $230.3 million. We expect that the ability to use our net operating loss as a tax benefit will be significantly restricted in the future as a result of the change of control associated with the 2003 private placement transaction with the Sprout Group, Venrock Associates, Oxford Bioscience Partners IV, TVM V Life Science Ventures GmbH & Co. KG and Granite Global Ventures (collectively, the “Investors”).

We expect to incur losses for at least the next several years because we plan to spend substantial amounts on research and development of our product candidates, including preclinical studies and clinical trials.

There is inherent uncertainty in administrative proceedings and litigation relating to our patents that could cause us to incur substantial costs and delays in obtaining and enforcing our patents and other proprietary rights. The ultimate result of any patent litigation could be the loss of some or all protection for the patent involved. We may also decide to oppose or challenge third party patents.

We have filed patent applications on various aspects of RNA interference technology that have not yet been approved. We cannot guarantee that any patents will issue from any pending or future patent applications owned by or licensed to us or that such patents, if issued, will have scope sufficient to prevent competing products. In addition, the scope of our present or future patents may not be sufficiently broad to prevent competitive products. We have received issuance of some additional patent applications covering various aspects of basic RNA and other oligonucleotide technology, and we have filed patent applications for other technology improvements and modifications that have not yet been approved.

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We are involved in a re-examination proceeding involving one of our patents in the United States that relates to oligonucleotides. Additionally, we have filed documents in opposition to an RNA interference-related patent granted to a potential competitor in Europe.

We recently filed a complaint in federal court against a privately held company, alleging infringement of certain ribozyme-related patents to which we have exclusive rights. The complaint does not relate to our primary business, the development of nucleic acid-based therapeutics involving RNA interference.

Additionally, we cannot be certain that the named inventors or assignees of subject matter claimed by our owned or licensed patents or patent applications were the first to invent or the first to file patent applications or are proper assignees for these inventions.

The manufacture, use or sale of our products may infringe on the patent rights of others. We may not have identified all United States and foreign patents and patent applications that pose a risk of infringement. We may be forced to litigate if an intellectual property dispute arises.

If we infringe or are alleged to have infringed another party’s patent rights, we may be required to seek a license, defend an infringement action or challenge the validity of the patents in court. Patent litigation is costly and time consuming. We may not have sufficient resources to bring these actions to a successful conclusion. In addition, if we do not obtain a license, do not successfully defend an infringement action or are unable to have infringed patents declared invalid, we may:

In addition, we regularly enter into agreements to license technologies and patent rights. Should we fail to comply with the terms of those license agreements, including payment of any required maintenance fees or royalties, or should the licensors fail to maintain their licensed interest in the licensed patents, we could lose the rights to those technologies and patents.

We are aware of a number of issued patents and patent applications that are owned by third parties and that purport to cover chemically modified oligonucleotides as well as their manufacture and use. We have investigated the breadth and validity of these patents to determine their impact upon the company’s programs in the field of RNA interference. Based on our review of these patents and advice of outside patent counsel, we believe that our technology does not infringe any valid claims of such patents and that these patents are not likely to impede the advancement of the company’s programs. There can be no assurance, however, that third parties will not assert infringement claims against the company’s programs with respect to these patents or otherwise, or that any such assertions will not result in costly litigation or require the company to obtain a license to intellectual property rights of such parties. There can be no assurance that any such licenses would be available on terms acceptable to us, if at all. Parties making such claims may be able to obtain injunctive relief that could effectively block the company’s ability to further develop or commercialize our products in the United States and abroad and could result in the award of substantial damages. Defense of any lawsuit or failure to obtain any such license could substantially harm the company. Litigation, regardless of outcome, could result in substantial cost to and a diversion of efforts by the company.

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To develop, market or sell RNA interference-based drugs, we will need to find partners for collaboration.

Engaging corporate partners and other third parties to help develop, manufacture and market our RNA interference-based products is an element of our strategy. Our partnership with Lilly is focused on developing novel RNA interference therapeutics in oncology. During the eighteen-month collaboration, the companies will jointly investigate Sirna’s proprietary modified small interfering RNAs against Lilly’s specific oncology targets. There can be no assurances that Lilly will extend the collaboration beyond the eighteen-month period or that we will be able to engage other partners.

Our other current partnerships are focused on the development of ribozyme-based drugs (including our partnership with Chiron for our most advanced ribozyme-based drug, ANGIOZYME), which are no longer the focus of our business. Due to our new business strategy, we do not intend to develop ANGIOZYME independently. We have agreed with Chiron to seek a licensee for the further development of ANGIOZYME; however, it is uncertain whether or not an interested party can be found, and if so, under terms agreeable to both Chiron and Sirna. Additionally, on April 11, 2003, we announced that we had concluded our collaboration with Elan Corporation with respect to the development of the HERZYME ribozyme product candidate. We will not continue with independent development of this product candidate, and it is not clear whether we will be successful in finding a development partner for it.

Generally, if a partner were to terminate its funding of the development of a particular product candidate from our collaboration, we may not have the right or resources to continue development of that product candidate on our own. Similarly, if we are unable to attract partners for particular product candidates, then we may be unable to develop those candidates.

In addition, there are many aspects of our collaborations that have been and will continue to be outside of our control, including:

We currently lack sales and marketing experience and will likely rely upon third parties to market our products which will result in a loss of control over the marketing process. Currently, we intend to rely on third parties with established direct sales forces to market, distribute and sell many of our products. These third parties may have significant control over important aspects of the commercialization of our products, including market identification, marketing methods, pricing, sales force recruitment and management and promotional activities. We may be unable to control the actions of these third parties. We may be unable to make or maintain arrangements with third parties to perform these activities on favorable terms.

Because we must obtain regulatory approval to market our products in the United States and foreign jurisdictions, we cannot predict whether or when we will be permitted to commercialize 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 we develop. A pharmaceutical

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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 Food and Drug Administration, the FDA. Satisfaction of regulatory requirements typically takes many years, depends 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 human beings, we must submit and receive approval from the FDA for an investigational new drug, or IND. In addition to the FDA regulations, clinical trials are subject to oversight by institutional review boards at the universities or research institutions where we plan to carry out our clinical trials. The clinical trials:

Before receiving FDA clearance to market a product, we must demonstrate that the product is safe and effective on the patient population that would be treated. Data obtained from preclinical and clinical activities are susceptible to varying interpretations that could delay, limit or prevent regulatory clearances. In addition, delays or rejections may be encountered based upon additional government regulation from future legislation or administrative action or changes in FDA policy 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 against our potential products or us. Additionally, we have limited experience in conducting and managing the clinical trials necessary to obtain regulatory approval.

If regulatory clearance for 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 the applicable regulatory requirements needed to receive marketing clearance.

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

A small number of investors can control the company.

As of March 31, 2004 the Investors in our April 2003 private placement collectively own approximately 79.2% (after giving effect to the exercise of their warrants issued in connection with the private placement, but prior to giving effect to exercise of any stock options) of our outstanding common stock. In addition, some of the Investors currently have the right to select four of seven members of our Board of Directors. In connection with the private placement transaction, our stockholders agreed to amend our certificate of incorporation to permit stockholder action to be taken by written consent in addition to by

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means of an actual meeting. As a result, our Investors (if they acted together) are now able to take any action, even those actions that under Delaware law require the affirmative vote of a supermajority of the stockholders, by written consent, without the need for a stockholders’ meeting. For example, if our Investors were to act in concert, they could decide to take us private, to sell some or all of our assets, or to effect a merger without holding a stockholders’ meeting. If the Investors were to act in concert, they would have sufficient voting power to effect these types of transactions, although they have not indicated any present intent to do so.

Our products require materials that may not be readily available or cost effective, which may reduce our competitiveness or reduce our profitability.

The products we are developing are new chemical entities that are not yet available in commercial quantities. Raw materials necessary for the manufacture of our products may not be available in sufficient quantities or at a reasonable cost in the future. Therefore, our products may not be available at a reasonable cost in the future.

Disclosure of our trade secrets could reduce our competitiveness.

Because trade secrets and other unpatented proprietary information are critical to our business, we attempt to protect our trade secrets by entering into confidentiality agreements with third parties, employees and consultants. However, these agreements can be breached and, if they are, there may not be an adequate remedy available to us. In addition, third parties may independently discover trade secrets and proprietary information. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights.

Our success may depend on third party reimbursement of patients’ costs for our products that could result in price pressure or reduced demand for our products.

Our ability to market products successfully will depend in part on the extent to which various third parties are willing to reimburse patients for the costs of our products and related treatments. These third parties include government authorities, private health insurers and other organizations, such as health maintenance organizations. Third party payors are increasingly challenging the prices charged for medical products and services. Accordingly, if less costly drugs are available, third party payors may not authorize or may limit reimbursement for our products, even if our products are safer or more effective than the alternatives. In addition, the trend toward managed healthcare and government insurance programs could result in lower prices and reduced demand for our products. Cost containment measures instituted by healthcare providers and any general healthcare reform could affect our ability to sell our products and may have a material adverse effect on us. We cannot predict the effect of future legislation or regulation concerning the healthcare industry and third party coverage and reimbursement on our business.

Our common stock has limited trading volume and a history of volatility, which could impair your investment.

You may be unable to sell securities you purchase from us at the time or price desired. The market price of our common stock has fluctuated dramatically in recent years. The trading price of our common stock may continue to fluctuate substantially due to:

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These fluctuations are not necessarily related to our operating performance. As a result, the value of your shares could vary significantly from time to time. The historical trading volume of our common stock has been limited.

Both our charter documents and Delaware law have anti-takeover provisions that may discourage transactions involving actual or potential changes of control at premium prices.

Our corporate documents and provisions of Delaware law applicable to us include provisions that discourage change of control transactions. For example, our charter documents authorize our board of directors to issue up to 5,000,000 shares of preferred stock without stockholder approval and to set the rights, preferences and other designations of preferred stock, including the voting rights, at its discretion.

In addition, we are subject to provisions of Delaware General Corporation Law that may make some business combinations more difficult. As a result, transactions that otherwise could involve a premium over prevailing market prices to holders of our common stock may be discouraged or may be more difficult for us to effect as compared to companies organized in other jurisdictions.

The personal liability of our directors is limited.

Our charter documents limit the liability of our directors for breach of their fiduciary duty or duty of care to our company. The effect is to eliminate liability of directors for monetary damages arising out of negligent or grossly negligent conduct. However, liability of directors under the federal securities laws will not be affected.

Any of our stockholders would be able to institute an action against a director for monetary damages only if he, she or it can show a breach of the individual director’s duty of loyalty, a failure to act in good faith, intentional misconduct, a knowing violation of the law, an improper personal benefit, or an illegal dividend or stock purchase, and not for such director’s negligence or gross negligence in satisfying his duty of care.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to changes in interest rates primarily from our investments in certain short-term investments. We invest our excess cash in highly liquid short-term investments that are typically held for the duration of the term of the respective instrument. We do not utilize derivative financial instruments, derivative commodity instruments or other market risk sensitive instruments to manage exposure to interest rate changes. Accordingly, we believe that, while the securities we hold are subject to changes in the financial standing of the issuer of such securities, we are not subject to any material risks arising from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices or other market changes that affect market risk sensitive instruments.

ITEM 4. CONTROLS AND PROCEDURES

As of the end of the period covered by this report, we have carried out an evaluation, under the supervision and with the participation of our chief executive officer and our principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based upon the evaluation, our principal executive officer and principal financial officer concluded as of the end of the period covered by this report that our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act (i) is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and (ii) is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Not Applicable

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

Not Applicable

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.

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

Not applicable.

ITEM 5. OTHER INFORMATION

Not applicable.

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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

We furnished the following Current Reports on Form 8-K during the quarter ended March 31, 2004:

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SIGNATURES

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

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Exhibit Index

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