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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K

(MARK ONE)

For the Fiscal Year Ended December 31, 2003

Or

For the Transition Period From            To                              

COMMISSION FILE NUMBER 33-90516

NEOPHARM, INC.
(Exact Name of Registrant as Specified in its Charter)

150 FIELD DRIVE
SUITE 195
LAKE FOREST, ILLINOIS    60045
(Address of Principal Executive Offices)    (Zip Code)

(847) 295-8678
(Registrant's Telephone Number, Including Area Code)

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $.0002145 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 ý    No o

        Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

        Indicate by check mark whether Registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2) Yes ý    No o

        The aggregate market value of the Registrant's common stock held by non-affiliates (affiliates being, for these purposes only, directors, executive officers and holders of 5% of the registrant's stock) of the registrant, par value $.0002145 per share, (based on the closing price of such shares on the NASDAQ on June 30, 2003) was $98,632,971. As of March 1, 2004 there were 23,198,374 shares of Common Stock outstanding.

Documents Incorporated by Reference

        Certain information required in Part III of the Registrant's Annual Report on Form 10-K for December 31, 2003 is incorporated by reference to portions of the Registrant's definitive proxy statement for its 2004 Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of the fiscal year ended December 31, 2003.

FORM 10-K TABLE OF CONTENTS

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ITEM 1. BUSINESS

FORWARD LOOKING STATEMENTS

        This annual report on Form 10-K includes forward looking statements within the meaning of The Private Securities Litigation Reform Act of 1995. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends affecting the financial condition of our business. These forward-looking statements are subject to a number of risks, uncertainties and assumptions about us, including, among other things:

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failure to achieve positive results in clinical trials;



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competitive factors;



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general economic conditions;



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relationships with pharmaceutical and biotechnology companies;



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the ability to develop safe and efficacious drugs;



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variability of royalty, license and other revenue;



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failure to satisfy performance obligations in our licenses or other contracts;



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ability to enter into future collaborative agreements;



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uncertainty regarding our patents and patent rights (including the risk that we may be forced to engage in costly litigation to protect such patent rights and the material harm to us if there were an unfavorable outcome of any such litigation);



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governmental regulation and suspension;



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technological change;



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changes in industry practices; and



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one time events.

        In addition, in this annual report, the words "believe," "may," "will," "estimate," "continue," "anticipate," "intend," "expect" and similar expressions, as they relate to us, our business, or our management, are intended to identify forward-looking statements. All of our forward looking statements are qualified in their entirety by reference to the factors discussed in this document under the heading ITEM 1.—"BUSINESS—RISK FACTORS," and any documents incorporated by reference that describe risks and factors that could cause results to differ materially from those projected in these forward-looking statements.

        We caution you that the risk factors contained herein are not exhaustive. We operate in a continually changing business climate and we do not intend to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise after the date of this annual report. In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this annual report may not occur and actual results could differ materially from those anticipated or implied in the forward-looking statements. Accordingly, you should not rely on forward-looking statements as a prediction of actual results.

BUSINESS OVERVIEW

        We are a biopharmaceutical company engaged in the research, development, and commercialization of drugs for the treatment of cancer. We have built our drug portfolio based on our two novel proprietary technology platforms: the NeoLipid liposomal drug delivery system and a tumor-

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targeting toxin platform. We have four cancer product candidates in various stages of clinical development. The following table summarizes key information about our current product pipeline:

(1)

Worldwide rights were licensed to Pharmacia and Upjohn Company in February 1999. We terminated the related license agreement in November 2002. Pharmacia, however, disputes the termination, and the matter is to be resolved as part of the arbitration dispute between the parties. We currently expect this dispute to be resolved in the first half of 2004.

        Our most advanced product candidate is IL13-PE38QQR, a tumor-targeting toxin being developed as a treatment for glioblastoma multiforme, a deadly form of brain cancer. Based on the results from our Phase I/II clinical trials, we began a pivotal Phase III registration clinical trial in the first quarter of 2004. In addition, three compounds based on our NeoLipid drug delivery platform are currently in Phase I clinical development. These compounds are:

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LE-SN38, a liposomal formulation of SN-38, the active metabolite of the pro-drug irinotecan (marketed in the US as Camptosar by Pfizer), which is currently approved by the US Food and Drug Administration (FDA) for the treatment of colorectal cancer;



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LEP-ETU, a liposomal formulation of the anti-cancer agent paclitaxel, which is currently approved by the FDA for the treatment of breast, lung and ovarian cancer; and



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LErafAON, our liposomal antisense oligonucleotide under development as a therapeutic enhancement for both radiation therapy and cancer chemotherapy.

        Previously, we had been developing a liposomal formulation of mitoxantrone (LEM). Based on an analysis of the limited potential market size for the compound, we have decided to cease further development of LEM.

        NeoLipid technology combines drugs or other compounds with our proprietary lipids and allows for the creation of a stable liposome. This physical property is especially important during drug storage and after the drug has been administered intravenously to the patient. We believe our NeoLipid technology may have applications in a variety of other areas in addition to our drug product candidates in clinical development. We have recently developed a new transfection agent, NeoPhectin, which we began marketing for research use in January 2004. Furthermore, we are planning to leverage our NeoLipid technology to develop therapeutic formulations of small molecules and biologic molecules such as RNAi, and we are currently conducting and planning research to investigate potential drug candidates.

        In January 2004, we completed the sale of 4,312,500 shares of stock to the public. Proceeds to the Company were approximately $74 million after underwriting fees, but before expenses. We expect to use the proceeds from this sale of stock to fund clinical trials of our lead product candidates and for clinical and preclinical studies for our other product candidates; for potential licenses and acquisitions of other businesses or complementary products and technologies; and for working capital, capital expenditures and other general corporate purposes. As of March 1, 2004, we had 109 full time employees.

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MARKET OVERVIEW

        According to the American Cancer Society (ACS) 2004 Cancer Facts and Figures, cancer is the second leading cause of death in the United States. The ACS 2004 Cancer Facts and Figures also estimates that doctors will diagnose over 1.3 million new cases of cancer in the United States in 2004. The National Institutes of Health (NIH) estimate that the annual cost of cancer in 2003 was approximately $189.5 billion, including $64.2 billion in direct medical costs and $16.3 billion for morbidity costs, which includes the cost of lost productivity.

        Cancer is characterized by uncontrolled cell division resulting in the growth of a mass of cells commonly known as a tumor. Cancerous tumors can arise in almost any tissue or organ and cancer cells, if not eradicated, spread, or metastasize, throughout the body. Cancer is believed to occur as a result of a number of factors, including hereditary and environmental factors.

        For the most part, cancer treatment depends on the type of cancer and the stage of disease progression. Generally, staging is based on the size of the tumor and whether the cancer has metastasized. Following diagnosis, solid tumors are typically surgically removed or the patient is given radiation therapy. Chemotherapy is the principal treatment for tumors that are likely to, or have, metastasized. Chemotherapy involves the administration of cytotoxic drugs, which are designed to kill cancer cells, or the administration of hormones, which affect the growth of tumors.

        Because in most cases metastatic cancer is fatal, cancer specialists attempt to attack the cancer aggressively, with as many therapies as available and with as high a dose as the patient can tolerate. Since chemotherapy attacks both normal and cancerous cells, treatment often tends to result in complicating side effects. Additionally, cells which have been exposed to several rounds of chemotherapy develop a resistance to the cancer drugs that are being administered. This is known as "multi-drug resistance." The side effects of chemotherapy often limit the effectiveness of treatment. Cancers often recur and mortality rates remain high. Despite the large sums of money spent on cancer research, current treatments are inadequate and improved cancer agents are needed.

        The products we currently have under development target a broad range of solid tumors. The table below shows the incidence and mortality estimated for the year 2004 for various types of solid tumor cancers that our products seek to treat:

        Source: American Cancer Society, 2004 Cancer Facts and Figures

BUSINESS STRATEGY

        Our goal is to become a leading pharmaceutical company focused on discovering, developing, and commercializing innovative anti-cancer treatments. Our strategy consists of the following key elements:

Focus on the growing cancer market

        According to Datamonitor OncoVision, the worldwide cancer drug market in 2004 is expected to be in excess of $20 billion. Despite the large sums of money spent, cancer is the second leading cause of death in the US, yet there remain unmet needs, and current treatments remain ineffective and inadequate for some populations. Given the life-threatening nature of cancer, the FDA has adopted

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procedures to accelerate the approval of cancer drugs. We intend to use our expertise in the field of cancer research to target this significant market opportunity for cancer drug development.

Develop our existing product portfolio

        We currently have a portfolio of four anti-cancer drugs which have advanced to clinical trials and are under development. We intend to further develop these products both by expanding our internal resources and by continuing to collaborate with leading governmental and educational institutions.

Create new products by capitalizing on our NeoLipid platform

        We intend to use our proprietary NeoLipid liposomal technology to create new products in two ways: by extending the patent life of existing cancer drugs and by utilizing our platform to develop new drugs. We believe that several widely used cancer drugs are nearing patent expiration. When a drug is combined with another agent or delivery system in a novel way, its patent life may be extended. We are working to extend the marketing exclusivity for paclitaxel through our LEP-ETU compound. While many chemotherapeutic drugs such as paclitaxel have been effective for the treatment of cancer, these drugs have been limited in their use because of adverse side effects and difficulties in administration. Using our NeoLipid technology, we believe opportunities exist for us to increase the usefulness of these compounds as improved anti-cancer treatments. In addition, we believe that our liposomal technology may provide us with a platform for the development of novel therapeutic agents for cancer drug development.

Increase commercial success through diversification

        We are developing several drug product candidates simultaneously in order to reduce the impact of any single product failure. In addition, by broadening our product portfolio, we increase our flexibility to eliminate products which we determine may have less market potential while applying additional resources to products which show promise.

Commercialize pharmaceutical products focused on cancer in selected markets

        We intend to bring to market novel drugs that address significant unmet needs in cancer treatment. In North America, we intend to develop a specialized cancer sales and marketing capability to market our future products to specialty physicians. We believe that the hospital-based cancer market in the US is readily accessible by a limited sales and marketing presence due to the concentrated market of prescribing physicians coupled with the substantial unmet therapeutic needs. As appropriate, we may establish collaborations with multinational pharmaceutical companies to assist in the commercialization of our product candidates.

DRUG PRODUCT CANDIDATES

IL13-PE38QQR

        We have initiated a pivotal Phase III clinical trial, which we refer to as the PRECISE trial, for IL13-PE38QQR for the treatment of glioblastoma multiforme, a deadly form of brain cancer. IL13-PE38QQR has received orphan drug designation in the US and Europe and fast track drug development program status from the FDA. In addition, IL13-PE38QQR has been selected to participate in the FDA's Continuous Marketing Application (CMA) Pilot 2 program. We have exclusively licensed IL13-PE38QQR from the NIH and the FDA, and have been developing this drug candidate under a Cooperative Research and Development Agreement (CRADA) with the FDA Center for Biologics Evaluation and Research (CBER).

        Conventional, non-specific chemotherapeutic drugs attack abnormal cancer cells by stopping them from dividing and reproducing, but can also damage normal healthy cells because they do not

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discriminate between cancerous and healthy cells. Furthermore, standard chemotherapy drugs are usually administered systemically, which leads to their distribution throughout the body rather than to one area, such as a tumor in the brain. Common side effects of chemotherapy that are caused by damage to bone marrow include the body's inability to produce enough: red blood cells, causing weakness and fatigue; white blood cells, lowering the body's resistance to infections; or platelets, preventing blood from clotting properly, which can lead to excessive bleeding.

        IL13-PE38QQR, on the other hand, is being developed as a highly specific tumor-targeting agent. IL13-PE38QQR is a recombinant protein consisting of a single molecule composed of two parts: a tumor-targeting molecule and a cytotoxic agent. The targeting component consists of interleukin-13, an immune regulatory cytokine (IL-13). Malignant glioma cells, as compared to normal brain cells, express IL-13 receptors at a higher density. IL-13 is an immune regulatory cytokine, or protein, secreted by cells. The cytotoxic agent is a potent bacterially derived toxin called PE38. IL13-PE38QQR is designed to detect and bind to IL-13 receptors on the surface of malignant glioma cancer cells and selectively deliver PE38 to destroy tumor cells while sparing healthy surrounding cells. IL13-PE38QQR is administered by a technique known as convection-enhanced delivery, or CED, in which the drug is delivered through catheters inserted in the tumor or brain tissue surrounding the tumor before and/or following surgical resection of the tumor. CED is designed to infuse IL13-PE38QQR directly to the tumor site and adjacent brain tissue to prevent recurrence of tumor cell growth.

        Preliminary Phase I/II data published from the four studies of IL13-PE38QQR conducted to date represent clinical data from more than 75 patients in various clinical settings, including intra-and peritumoral delivery of IL13-PE38QQR for treatment of malignant glioma. The findings suggest possible evidence of tumor cytotoxic (cancer cell killing) effects of IL13-PE38QQR against malignant glioma tumor cells. Although these studies were not designed to address efficacy, encouraging survival results continue to be observed beyond two years following treatment.

        Based on the data from these studies, we began the PRECISE trial in the first quarter of 2004. This trial is designed to be a multi-center, multi-national study enrolling approximately 300 patients suffering from recurrent glioblastoma multiforme tumors who will be randomized into one of two treatment arms of the study. One group, approximately 200 patients, will receive convection-enhanced infusion of IL13-PE38QQR after surgery and the other group, approximately 100 patients, will be treated through placement of Gliadel® Wafers (Guilford Pharmaceuticals) at the time of surgery. Gliadel Wafers are approved for treatment of patients undergoing initial surgery for and after recurrence of this disease. The primary endpoint of the study is to determine if there is a statistically significant overall patient survival difference between the two arms of this study.

LE-SN38

        LE-SN38 is our NeoLipid liposomal formulation of SN-38, the active metabolite of Camptosar, a chemotherapeutic pro-drug, which is used as a first-line and second-line colorectal cancer treatment. At the present time, without the NeoLipid system, SN-38 is insoluble and can only be used to treat cancer by administering the pro-drug, Camptosar. A pro-drug is a compound that is converted into the active drug in the body. However, Camptosar is converted into SN-38 in colorectal cancer cells at different rates by different patients, and this variability in conversion rates can result in suboptimal dosing and adverse side effects. By employing our proprietary NeoLipid technology to deliver SN-38, we hope to deliver the active drug to the tumor cells without the need for conversion. We are also studying the use of LE-SN38 to treat other types of cancers in addition to colorectal. Other tumor cells convert Camptosar less efficiently than colorectal cancer cells, and consequently Camptosar is currently approved only for the treatment of colorectal cancer. Since LE-SN38 does not depend on the conversion process, it may have potential as a treatment for other types of cancer such as breast, lung, prostate and pancreatic cancer.

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        Currently, LE-SN38 is in a Phase I clinical trial. The primary objectives of the Phase I study are to determine the pharmacogenomics, pharmacokinetics, and safety of LE-SN38 in patients with advanced local or metastatic solid tumors who have failed conventional therapy. Tumor progression is also monitored. In this trial, groups of patients are receiving escalating doses of intravenous LE-SN38 infusion over 90 minutes every 21 days until disease progression or unacceptable toxicity levels are reached.

LEP-ETU

        LEP-ETU is our NeoLipid liposomal formulation of the widely used cancer drug, paclitaxel. Paclitaxel, also known as Taxol® (Bristol-Myers Squibb Company), has been approved in the US for the treatment of ovarian, breast and lung cancers. Despite paclitaxel's wide use and its tumor cytotoxic characteristics, its effectiveness can be limited by its adverse side effects, which can include nausea, vomiting, hair loss and nerve and muscle pain. Because of the chemical characteristics of paclitaxel, it cannot be introduced into the body unless it is first formulated in a mixture of castor oil (Cremophor®) and ethanol, which can lead to significant side effects such as hypersensitivity reactions. We believe that by using our proprietary NeoLipid technology, which eliminates the need for Cremophor, LEP-ETU may overcome many of the current limitations of paclitaxel treatment for cancer patients and may limit the adverse side effects of current treatments. LEP-ETU is currently in a Phase I clinical trial. Development of liposomal paclitaxel is one of the subjects of our on-going dispute with Pharmacia. See "Risk factors."

LErafAON

        We are developing a liposomal antisense drug, LErafAON, to enhance the effectiveness of radiation in the treatment of certain cancers. Antisense drugs are designed to work by interfering with gene expression of proteins involved in a disease. Antisense molecules are thought to have a great potential as therapeutics, but delivery of the antisense molecule to the cell has proven to be a significant obstacle to realizing this potential. Two techniques have been used to deliver antisense into the cell: liposomal delivery and viral-vector delivery.

        Viral delivery vehicles have not been widely adopted and used because they can cause irreversible genetic changes that can have long-term side effects, including possibly cancer, are difficult to establish, and may also cause an adverse immune response.

        LErafAON utilizes our NeoLipid technology to produce a liposomal formulation of an antisense oligonucleotide molecule to interfere with expression by tumor cells of a protein known as craf. This protein is expressed at higher levels in cancer cells that are resistant to radiation therapy than in healthy cells. By inhibiting expression of the craf protein, LErafAON may render tumor cells more susceptible to radiation therapy. In addition, pre-clinical studies indicate that LErafAON may be effective in enhancing the effect of chemotherapy in the treatment of various forms of cancer. Our liposomes provide a non-viral method of delivering the antisense oligonucleotide into the cell via intravenous administration.

        We have completed enrollment in two Phase I clinical trials. One study involves the use of LErafAON as a single agent in cancer patients with various solid tumors, and the second study involves the use of LErafAON in combination with radiation therapy in cancer patients with radiation resistant tumors. From the data published to date, investigators have determined a dose for use in further clinical studies. Additionally, investigators have noted that LErafAON has demonstrated clinical proof-of-concept by delivery to tumor cells of an antisense oligonucleotide using a liposome. We are currently preparing to begin Phase I clinical trials with a new formulation of the lipid component of LErafAON designed to offer improved ease of preparation and to possibly enhance safety and tolerability.

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Competition

        Each of the drug product candidates we currently have under development will face competition from products currently on the market or under development. The following table lists our current principal competitors and their products which compete with the listed drug product candidates we currently have under development:

(1)

There are currently no antisense products available on the market for the treatment of cancer, but Isis Pharmaceuticals and Genta are developing such products.

        We also compete with other drug development companies for licenses to novel technologies as well as for collaborations with large pharmaceutical and other companies.

OTHER PRODUCTS

        In addition to development of our drug product candidates, our research efforts have yielded two new non-drug products that we have commercialized.

NeoPhectin and NeoPhectin-AT

        NeoPhectin is a novel in vitro transfection reagent based on our proprietary cationic (positively charged) cardiolipin technology. We designed NeoPhectin to enable researchers to transfect a variety of cell types in laboratory settings. We began marketing NeoPhectin gene transfection kits to distributors of scientific research supplies in January 2004. NeoPhectin-AT is our in vivo transfection reagent designed for use in animal testing and is expected to be available from distributors by the end of March 2004. NeoPhectin consists of small, stable, homogeneous, ready-to-use liposomes that have shown less toxicity to cells and are able to transfect a variety of cell types.

        We believe that cationic liposomes have significant market potential in DNA/RNA therapy if a successful system, such as NeoPhectin, were to be available. As an alternative to viral systems, cationic liposomes are the most commonly used systems for transfection. While cationic liposomes form spontaneous complexes with DNA or RNA, and have shown greater transfection efficiency for in vitro use, the cationic liposomes which are currently commercially available have not been effective for in vivo applications. Cationic liposomes usage has been limited due to the toxicity and variable transfection efficiency in different cell lines.

RESEARCH AND DEVELOPMENT PROGRAM

        In order to add new drug product candidates to our clinical development pipeline, we are actively conducting pre-clinical research to investigate other compounds that could potentially benefit from our NeoLipid technology. Compounds under consideration range from NeoLipid formulations of current chemotherapy drugs for the treatment of cancer to NeoLipid formulations of biologic molecules such as RNAi. Most of our pre-clinical research is conducted by our professional research and development staff at our 35,500 square foot research and development facility in Waukegan, Illinois, where we employed 59 individuals as of March 1, 2004. We have incurred research and development expenses of approximately $34,262,000 in 2003, $28,978,000 in 2002, and $14,814,000 in 2001 to develop our drug product candidates, other products, and pre-clinical compounds.

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COLLABORATIVE RELATIONSHIPS AND LICENSES

Pharmacia License Agreement

        In February 1999, we signed a license agreement with Pharmacia giving them certain rights to develop and commercialize LEP and LED (liposome encapsulated doxorubicin) worldwide. The license agreement provided for up to $69 million in payments to us from Pharmacia, as follows:

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a $9 million non-refundable up-front payment on execution of the license agreement;



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up to $52 million in milestone payments; and



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an $8 million equity investment in our common stock.

        We received the $9 million non-refundable up-front payment upon execution of the license agreement in February 1999, the $8 million equity investment and a $2 million milestone payment in July 1999, upon transferring the investigational new drug applications for LED and LEP to Pharmacia, and a $3 million milestone payment in March 2000 upon Pharmacia's initiation of the Phase II clinical trials for LEP. Under the license agreement, Pharmacia assumed all further responsibility for, and the costs associated with, the development and testing of LEP and LED and obtaining all regulatory approvals. The license agreement provided us with the right to purchase from Pharmacia co-promotion rights in lieu of receiving royalties (10.0% of net sales for LED and 12.5% of net sales for LEP) on United States sales for a price based upon a percentage of Pharmacia's development costs, which would allow us to collect a larger royalty (up to 37.5% of net profits) in exchange for contributing to the promotional expenses of any products developed under the Agreement. The license agreement also provided us with a fixed royalty on foreign sales (8.0% of net sales for LED and 12.5% of net sales for LEP).

        In January 2002, Pharmacia informed us that the LEP and LED development programs were experiencing delays. Subsequently, in April 2002, we filed a Demand for Arbitration with the American Arbitration Association, in accordance with the terms of the license agreement, seeking damages that we had sustained as a result of Pharmacia's delays in the LEP and LED development programs (see Item 3. Legal Proceedings).

        Under the terms of the license agreement, each party may terminate the license agreement upon a material breach by the other. Upon termination of the agreement by either party, Pharmacia's rights to the relevant licenses granted under the agreement automatically revert to us. In November 2002, we terminated the license agreement after receiving notification from Pharmacia that it had ceased development of LEP and LED (see Item 3. Legal Proceedings).

Georgetown University Agreements.

        We currently have three license agreements and two contract research agreements renewable annually with Georgetown University relating to various liposome-related products.

        Under the Georgetown licenses, and in return for sponsoring related research, we were granted exclusive licenses to manufacture and sell LED, LEP, and LErafAON. We are obligated to pay royalties to Georgetown on commercial sales of these products. In addition, through December 31, 2003, we have paid an up-front licensing fee and advance royalty payments (which may be credited against future royalties) of $75,000. Additionally, we may be obligated to make milestone payments upon achieving certain development objectives for these compounds. The Georgetown licenses expire in 2013 for LED,

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2014 for LEP and 2020 for LErafAON. The licenses may also be terminated by either party in the event of a default by the other party.

        Under the annual contract research agreements, which can be terminated upon 90 days written notice by either party, we pay or reimburse Georgetown for all direct and indirect costs associated with research on specific projects. For the contract research agreements in effect during 2003, we paid a total of $500,000 to Georgetown. In return, with respect to any project for which an application is ultimately approved by the FDA, we retain all rights to all inventions, developments, discoveries and other proprietary ideas which are first conceived, discovered or developed during the conduct of the research upon making a one-time payment of up to $175,000 to Georgetown.

National Institutes of Health

        In September 1997, we entered into an exclusive worldwide licensing agreement with the NIH whereby we were granted the right to develop and commercialize IL13-PE38QQR. The IL13-PE38QQR license required us to pay NIH an initial $75,000 non-refundable payment and requires minimum annual royalty payments to NIH of $10,000, that increases to $25,000 after the first commercial sale. The IL13-PE38QQR license also requires us to pay to NIH milestone payments of up to $585,000 upon completion of various phases of development of IL13-PE38QQR, and a maximum royalty of 4% based on future product sales, if any. The license agreement terminates in 2018. However, we have the unilateral right to terminate the license agreement at any time upon 60 days written notice. The NIH may terminate the agreement upon our default in performing any material obligations under the agreement or if they determine that such action is necessary to meet the requirements for public use specified by federal regulations and we do not reasonably satisfy such requirements. While providing us with an exclusive license, it should be noted that, as is typical in such agreements, the NIH does not make any representations or warranties in the license agreement as to the validity or enforceability of the licensed rights.

        In March 1999, we entered into a license agreement with the NIH for SS1(dsFv)-PE38. The SS1(dsFv)-PE38 license required us to pay the NIH an initial $75,000 non-refundable payment and requires minimum annual royalty payments to the NIH beginning on January 1, 2001 of $20,000, that increase to $150,000 per year if we fail to reach certain benchmarks. The other terms and conditions of the SS1(dsFv)-PE38 license are substantially the same as those of the NIH IL13-PE38QQR license described above. In October 2002, we notified NIH that we were ending our participation in the SS1(dsFv)-PE38 development program and we terminated the license agreement as of December 31, 2002. As a result of the termination of the license agreement, NeoPharm has no further financial obligation to the NIH for the development of SS1(dsFv)-PE38.

U.S. Food and Drug Administration

        In August 1997, we entered into a cooperative research and development agreement with the FDA (the "FDA CRADA") covering the IL13-PE38QQR compound licensed from the NIH. Pursuant to the FDA CRADA, we agreed to commercialize IL13-PE38QQR and the FDA agreed to collaborate on the clinical development and commercialization of the licensed compound. Under the terms of the FDA CRADA, we paid $400,000 to the FDA in 2003. Funding for the FDA CRADA expired on December 31, 2003 and we currently are negotiating to renew our funding of this agreement.

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Termination of the FDA CRADA, however, does not affect our rights under our license agreement with the NIH for IL13-PE38QQR.

National Cancer Institute

        In May 1999, we entered into a cooperative research and development agreement with the NCI (the "NCI CRADA"). Pursuant to the NCI CRADA, we committed to commercialize the SS1(dsFv)-PE38 monoclonal antibody compound which we licensed from the NIH. The NCI agreed to collaborate on the clinical development and commercialization of the licensed compound. We were originally committed to pay $100,000 per year over four years for the reasonable and necessary expenses incurred by the NCI in carrying out their responsibilities under the NCI CRADA. In December 2000, the parties agreed to expand the scope of the NCI CRADA and increase NeoPharm's annual funding requirement to $150,000 for the final two years of the agreement. In October 2002, however, we notified NCI that, since the compound had not achieved NeoPharm's requirements to advance into previously anticipated Phase II clinical trials, we were ending our participation in the SS1(dsFv)-PE38 development program, and we thereafter terminated the NCI CRADA as of December 31, 2002. To allow the NCI to complete Phase I testing of the compound, however, we agreed to pay the final payment of $125,000 to NCI in 2003 that we would have spent on the compound if the NCI CRADA had remained in effect until its contractual life expired in May 2003.

        In summary, the amounts paid to our research and development collaborators under our various agreements, as well as our potential aggregate future commitments under these agreements, are included in the following table:

(1)

These amounts do not include potential sales-based royalty payments that may be required under the various license agreements.

Manufacturing

        In order to successfully commercialize our drug compounds, we, or third parties with whom we contract, must be able to manufacture products in commercial quantities in compliance with the FDA's current Good Manufacturing Practices ("cGMP") at acceptable costs and in a timely manner. As we do not currently own a cGMP manufacturing facility, we have contracted with third parties to provide us with cGMP production capacity.

        In August 2002, we entered into an agreement with Diosynth RTP, Inc. to produce IL13-PE38QQR in quantities that will be required to support our Phase III clinical trial for that compound. Under the terms of that agreement, which expires upon completion of manufacturing quantities of IL13-PE38QQR necessary to complete Phase III clinical trials and submission of a Biologics License Application (BLA), we are obligated to supply start up material to Diosynth plus reimburse Diosynth for consumable materials and make payments to Diosynth for achieving the various phases of production. While we have the right to terminate the agreement upon 30 days written notice, Diosynth may only terminate the agreement for material breach by us. As of December 31, 2003, we have paid Diosynth $4,709,659 under the agreement, and are obligated to pay approximately an additional

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$451,500 as the remaining phases of production are completed. This agreement does not include any revenue sharing agreements, and is expected to terminate by June 30, 2004.

        Currently, all of our liposome compounds are produced on a purchase order basis at the Center for Advanced Drug Development (the "Center"), which is affiliated with the University of Iowa Pharmacy School. The Center has indicated that it is currently able to meet our needs for research and clinical trials, but we cannot offer any assurance that they will be able to do so in a timely or cost effective basis in the future. We do not have a formal manufacturing agreement with the Center and, therefore, have no ongoing obligation to manufacture our compounds at this facility.

        In December 2001, we entered into a Processing Agreement with Akorn, Inc., an independent publicly traded company, to secure cGMP lyophilized products manufacturing capacity for both our anticipated Phase II/III clinical supply requirements as well as our anticipated commercial manufacturing capacity requirements for our liposomal compounds. In addition, NeoPharm loaned Akorn $3,250,000 to assist in the completion and validation of Akorn's lyophilized products manufacturing facility at its plant in Decatur, Illinois. Under the terms of the Processing Agreement and Promissory Note, as amended in October 2003, the Promissory Note, including accrued interest, is due in December 2006 and interest on the Promissory Note accrues at the rate Akorn pays on its senior secured debt. In addition, the amended Promissory Note allows us to receive accelerated mandatory repayments once Akorn's senior debt is repaid in full, which is scheduled to occur in October, 2005. The amended Processing Agreement grants NeoPharm access to at least 15% of the annual lyophilization manufacturing capacity at Akorn's facility at most favored customer pricing, upon completion of the facility. The amended Processing Agreement also provides that Akorn is to begin providing lyophilization services on or before October 1, 2004. Dr. John N. Kapoor, our Chairman, is also the Chairman of Akorn, and holds substantial stock ownership in both companies. (See "Notes to Financial Statements—Note 10").

        Our current laboratory facility provides us with the capability to produce the quantities of our drug compounds intended solely for research and development purposes. With respect to our new NeoPhectin™ product, which is used as a transfection agent for research and development purposes, we anticipate that our laboratory facility, which is compliant with current good laboratory practices, will provide us with sufficient capacity to produce commercial quantities of NeoPhectin™, in the event the launch of this product is a commercial success.

        In every case, we believe there are other sources of raw materials and contract manufacturing which would be acceptable to the Company and would comply with the requirements of the FDA. However, there can be no assurances that we could enter into agreements with these alternative suppliers or manufacturers on terms and conditions acceptable to us, if at all.

Patents and Proprietary Rights

        We either own or have licensed over 50 United States patents or patent applications relating to our drug product candidates and compounds. We have also filed applications in a number of foreign jurisdictions which are counterparts of our issued United States patents and patent applications. We believe all of our drug product candidates and compounds under development are protected by patents owned or licensed to us.

        Patent protection is important to our business. The patent position of companies in the pharmaceutical field generally is highly uncertain, involves complex legal and factual questions, and has recently been the subject of much litigation. Therefore, we cannot assure you that any patent applications relating to our products or processes will result in patents being issued, or that the resulting patents, if any, will provide protection against competitors who successfully challenge our patents, obtain patents that may have an adverse effect on our ability to conduct business, or are able to circumvent our patent position. It is possible that other parties have conducted or are conducting research and could make discoveries of compounds or processes that would precede any of our

13

discoveries. Finally, there can be no assurance that others will not independently develop similar pharmaceutical products which will compete against ours or cause our products to become obsolete.

        Our competitive position is also dependent upon unpatented trade secrets. In an effort to protect our trade secrets, we have a policy of requiring our employees, consultants, and advisors to execute proprietary information and invention assignment agreements upon commencement of employment or consulting relationships with us. These agreements provide that all confidential information developed or made known to the individual during the course of their relationship with us must be kept confidential, except in specified circumstances. However, we cannot assure you that these agreements will provide meaningful protection for our trade secrets or other proprietary information in the event of unauthorized use or disclosure of confidential information. Further, invention assignment agreements executed by consultants and advisors may conflict with, or be subject to, the rights of third parties with whom such individuals have employment or consulting relationships. In addition, we cannot assure you that others will not independently develop substantially equivalent proprietary information and techniques or otherwise gain access to our trade secrets, that such trade secrets will not be disclosed, or that we can effectively protect our rights to unpatented trade secrets.

        We may be required to obtain licenses to patents or proprietary rights of others. We cannot assure you that any licenses required under any such patents or proprietary rights would be made available on terms acceptable to us or at all. If we do not obtain such licenses, we could encounter delays in product market introductions while we attempt to design around such patents, or could find that the development, manufacture, or sale of products requiring such licenses could be foreclosed. Litigation may be necessary to defend against or assert claims of infringement to enforce patents issued to us or exclusively licensed to us, to protect trade secrets or know-how owned by us, or to determine the scope and validity of the proprietary rights of others. In addition, we may become involved in oppositions in foreign jurisdictions or interference proceedings declared by the United States Patent and Trademark Office to determine the priority of inventions with respect to our patent applications or those of our licensors. Litigation, opposition, or interference proceedings could result in substantial costs to and diversion of effort by, and may have a material adverse impact on, us. In addition, we cannot assure you that our efforts will be successful. See "RISK FACTORS."

Government Regulation

        Regulation by governmental authorities in the United States and foreign countries is a significant factor in the development, manufacture, and marketing of our drug product candidates and in our ongoing research and product development activities. The nature and extent to which such regulation will apply to us will vary depending on the nature of any products developed. We anticipate that all of our drug product candidates will require regulatory approval by governmental agencies prior to commercialization. In particular, human therapeutic products are subject to rigorous preclinical and clinical testing and other approval procedures of the FDA and similar regulatory authorities in foreign countries. Various federal statutes and regulations also govern or influence testing, manufacturing, safety, labeling, storage, and record-keeping related to such products and their marketing. The process of obtaining these approvals and the subsequent compliance with the appropriate federal statutes and regulations requires substantial time and financial resources. Any failure by us or our collaborators to obtain, or any delay in obtaining, regulatory approval could adversely affect the marketing of any products developed by us, our ability to receive product revenues, and our liquidity and capital resources.

        The development, manufacture, marketing, and distribution of drug products are extensively regulated by the FDA in the U.S. and similar regulatory agencies in other countries. The steps

14

ordinarily required before a new drug may be marketed in the U.S., which are similar to steps required in most other countries, include:

•

preclinical laboratory tests, preclinical studies in animals, formulation studies and the submission to the FDA of an investigational new drug application;



•

adequate and well-controlled clinical trials to establish the safety and efficacy of the drug for each type of cancer;



•

the submission of a new drug application to the FDA; and



•

FDA review and approval of the new drug application (NDA) or biologics license application (BLA).

        Preclinical tests include laboratory evaluation of product chemistry, formulation and toxicity, as well as animal studies. The results of preclinical testing are submitted to the FDA as part of an investigational new drug application. A 30-day waiting period after the filing of each investigational new drug application is required prior to the commencement of clinical testing in humans. At any time during this 30-day period or at any time thereafter, the FDA may halt proposed or ongoing clinical trials until the FDA authorizes trials under specified terms. The investigational new drug application process may be extremely costly and substantially delay development of our products. Moreover, positive results of preclinical tests will not necessarily indicate positive results in subsequent clinical trials.

        Clinical trials to support new drug applications are typically conducted in three sequential phases, although the phases may overlap. During Phase I, clinical trials are conducted with a small number of subjects to assess metabolism, pharmacokinetics, and pharmacological actions and safety, including side effects associated with increasing doses. Phase II usually involves studies in a limited patient population to:

•

assess the efficacy of the drug in specific, targeted indications;



•

assess dosage tolerance and optimal dosage; and



•

identify possible adverse effects and safety risks.

        If a compound is found to be potentially effective and to have an acceptable safety profile in Phase II evaluations, Phase III trials are undertaken to further demonstrate clinical efficacy and to further test for safety within an expanded patient population at geographically dispersed clinical trial sites.

        After successful completion of the required clinical trials, a new drug application or biologics license application (collectively an "application") is generally submitted. The FDA may request additional information before accepting an application for filing, in which case the application must be resubmitted with the additional information. Once the submission has been accepted for filing, the FDA reviews the application and responds to the applicant. FDA requests for additional information or clarification often significantly extend the review process. The FDA may refer the application to an appropriate advisory committee for review, evaluation, and recommendation as to whether the application should be approved, but the FDA is not bound by the recommendation of an advisory committee.

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        If the FDA evaluations of the application and the manufacturing facilities are favorable, the FDA may issue an approval letter or an "approvable" letter. An approvable letter will usually contain a number of conditions that must be met in order to secure final approval of the application and authorization of commercial marketing of the drug for certain indications. The FDA may also refuse to approve the application or issue a "not approvable" letter outlining the deficiencies in the submission and often requiring additional testing or information.

        The Food and Drug Administration's Modernization Act codified the FDA's policy of granting "fast track" approval for cancer therapies and other therapies intended to treat severe or life threatening diseases and having potential to address unmet medical needs. Previously, the FDA approved cancer therapies primarily based on patient survival rates or data on improved quality of life. The FDA considered evidence of partial tumor shrinkage, while often part of the data relied on for approval, insufficient by itself to warrant approval of a cancer therapy, except in limited situations. Under the FDA's new policy, which became effective in 1998, the FDA has broadened authority to consider evidence of partial tumor shrinkage or other clinical outcomes for approval. This new policy is intended to facilitate the study of cancer therapies and shorten the total time for marketing approvals. We intend to take advantage of this policy; however, it is too early to tell what effect, if any, these provisions may have on the approval of our products.

        Under the Orphan Drug Act, the FDA may designate drug products as orphan drugs if there is no reasonable expectation of recovery of the costs of research and development from sales in the United States or if such drugs are intended to treat a rare disease or condition, which is defined as a disease or condition that affects less than 200,000 persons in the United States. If certain conditions are met, designation as an orphan drug confers upon the sponsor marketing exclusivity for seven years following FDA approval of the product, meaning that the FDA cannot approve another version of the "same" product for the same use during such seven year period unless the FDA finds that the sponsor is not able to supply adequate quantities of the drug. The market exclusivity provision does not, however, prevent the FDA from approving a different orphan drug for the same use or the same orphan drug for a different use. The Orphan Drug Act has been controversial, and many legislative proposals have from time to time been introduced in Congress to modify various aspects of the Orphan Drug Act, particularly the market exclusivity provisions. We cannot assure you that new legislation will not be introduced in the future that may adversely impact the availability or attractiveness of orphan drug status for any of our products.

        Sales outside the United States of products we develop will also be subject to regulatory requirements governing human clinical trials and marketing for drugs. The requirements vary widely from country to country, but typically the registration and approval process takes several years and requires significant resources. In most cases, if the FDA has not approved a product for sale in the United States, the product may be exported for sale outside of the United States, only if it has been approved in any one of the following: the European Union, Canada, Australia, New Zealand, Japan, Israel, Switzerland and South Africa. There are specific FDA regulations that govern this process.

        We are also subject to various Federal, state and local laws, regulations and recommendations relating to safe working conditions, laboratory and manufacturing practices, and the use and disposal of hazardous or potentially hazardous substances, including radioactive compounds and infectious disease agents, used in connection with our research work. We cannot accurately predict the extent of government regulation that might result from future legislation or administrative action.

Employees

        As of December 31, 2003, we employed approximately 105 people, of which there are approximately 95 in research and development and 10 in administration. Our employees are not represented by any collective bargaining agreement and we believe our employee relations are good.

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Available Information

        Copies of our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available free of charge through our website (www.neophrm.com) as soon as reasonably practicable after we electronically file the material with, or furnish it to, the Securities and Exchange Commission (SEC). You may read and copy any document we file with the SEC at the SEC's Public Reference Room at 450 Fifth Street, N.W., Washington, DC 20549. Please call the SEC at 1-800-SEC-0330 for further information on the Public Reference Room. Our SEC filings are also available to the public at the SEC's website at http://www.sec.gov.

RISK FACTORS

        You should carefully consider the following risk factors, in addition to the other information set forth in this document. Each of these risk factors could adversely affect our business, operating results and financial condition, as well as the value of an investment in our common stock.

RISKS RELATED TO OUR BUSINESS

The outcome of our ongoing arbitration with Pharmacia is uncertain, the costs are considerable, and an adverse ruling could cause us to abandon some of our drug development programs, cut staff, close facilities or cease operations.

        On April 19, 2002, we filed a Demand for Arbitration with the American Arbitration Association in accordance with the terms of our license agreement dated February 19, 1999 (the "License Agreement") with Pharmacia and Upjohn Company, a subsidiary of Pharmacia Corporation (now Pfizer Inc.) for the purpose of resolving a dispute with Pharmacia concerning delays in the development of our LEP and LED products, which development was being conducted by Pharmacia. In our arbitration demand, we contend that Pharmacia failed in its duty under the License Agreement to use reasonable efforts to develop LEP and LED, thereby breaching the License Agreement. We are seeking substantial damages from Pharmacia arising from its actions. Pharmacia has denied our allegations, asserted various counterclaims and is seeking restitution of the monies paid to us, reimbursement of its expenses, and substantial punitive damages. We currently expect this dispute to be resolved in the first half of 2004.

        There can be no assurance given that we will prevail in this arbitration, or, even if we do prevail, that we would be awarded substantial damages, or any damages whatsoever. In addition, as with any arbitration or litigation, there is always the possibility that the Arbitral Panel could rule against us and in favor of Pharmacia. In that event, we could be found to be responsible for any arbitration award granted in favor of Pharmacia, which award could be substantial. If we were ordered to pay damages to Pharmacia, we could be forced to abandon some or all of our drug development programs. In such event, we might be forced to conserve our remaining resources by taking a variety of actions including, but not limited to, cutting staff, closing facilities, abandoning clinical trials or liquidating assets, any one of which actions could be expected to have a negative impact on current and future product development. Similarly, we could be forced to raise monies by licensing products to unrelated third parties on terms that we might not otherwise find acceptable. In the worst case we might be forced to cease operations. An adverse decision in this arbitration could also result in Pharmacia retaining the rights to our LEP-ETU and LED compounds.

        In addition, we have incurred substantial expenses associated with the arbitration. Through December 31, 2003, we had incurred expenses in connection with the arbitration of approximately $13.4 million, and we anticipate additional arbitration related expenses in 2004 of approximately $1.0 million. Monies for these expenses have and will continue to come from our cash and short-term investments on hand. To the extent that we expend monies on the arbitration, those monies are not

17

then available to develop our drug compounds and pay our operating expenses, which negatively impacts our ability to bring our products to market.

If we were unable to develop, obtain regulatory approvals for, and then market our drug product candidates, our business would be harmed.

        Our future operating results may be adversely affected if we are unable to develop, obtain regulatory approval for, and bring to market new drug products in a timely manner. The process for developing new drugs and/or therapeutic products is inherently long, complex, and uncertain. We must make long-term investments and commit significant resources before knowing whether our development programs will eventually result in products that will receive regulatory approval and achieve market acceptance.

        We currently have four drug product candidates in development. As with any pharmaceutical product under development, there are significant risks in development, regulatory approval, and commercialization of new compounds. During the drug product development phase, there is no assurance that the FDA will approve our clinical trial protocols. There is also no guarantee that future clinical studies, if performed, will demonstrate the safety and efficacy of any drug product we have in development or that we will receive regulatory approval for such products. Further, the FDA can suspend clinical studies at any time if the FDA believes that the patients participating in such studies are being exposed to unacceptable health risks.

        We have yet to submit an application for marketing approval for any of the drug product candidates we currently have under development and we cannot predict with certainty if or when we might submit any of these drug product candidates for regulatory review. Once we submit our drug product candidates for review, we cannot assure you that the FDA or other regulatory agencies will grant approvals for any of our proposed products on a timely basis or at all. Further, even if we receive regulatory approval for a drug product candidate, there can be no assurance that such product will prove to be commercially successful or profitable.

        Sales of our drug product candidates both inside and outside the US will be subject to regulatory requirements governing marketing approval. These requirements vary widely from country to country and could delay the introduction of our drug product candidates in those countries. If the FDA and international regulatory authorities approve a drug product candidate, we must manufacture, or contract with third parties to manufacture, sufficient volumes to meet market demand. This is a process that requires accurate forecasting of market demand. There is no guarantee that there will be market demand for any future drug product candidates or that we will be able to successfully manufacture or adequately support sales of any future drug product candidates.

        At the present time our most advanced drug product candidate is IL13-PE38QQR, which we believe has potential to be used as a treatment for malignant gliomas. In September 1997, we exclusively licensed worldwide rights to IL13-PE38QQR from the NIH and the FDA. On the basis of our Phase I/II clinical trial findings for this drug product candidate, we initiated a pivotal Phase III multi-center, multi-national clinical trial. However, our trials to date involving this drug product candidate have enrolled fewer than 100 patients, and there are no assurances that IL13-PE38QQR will prove to be safe and effective or receive regulatory approval for any indication. Further, even if we were to receive regulatory approval for a drug product candidate utilizing IL13-PE38QQR, there can be no assurance that such a drug product candidate would prove to be commercially successful or profitable.

        We also presently have three other drug product candidates in clinical development for the treatment of various cancers: LE-SN38, LEP-ETU, and LErafAON. Each of these drug product candidates is in the earliest stage of clinical testing. There are no assurances that any of these drug product candidates will prove to be safe and effective or that any of them will receive regulatory

18

approval for the treatment of the indications which we may pursue. Even if one or more of these drug product candidates eventually becomes an approved product, there can be no assurance that it will be successful in the marketplace.

At least in the near term, we are highly dependent on achieving success in the clinical testing, regulatory approval, and commercialization of our most advanced drug product candidate, IL13-PE38QQR, which may never be approved for commercial use. If we are unable to commercialize IL13-PE38QQR, our ability to generate revenues would be impaired and our business would be harmed.

        We have invested a significant portion of our time and financial resources in the development of IL13-PE38QQR, and we anticipate that for the foreseeable future our potential to achieve revenues from product sales will be dependent on its successful clinical testing, regulatory approval in the US, and commercialization. Drug development is a highly uncertain process. We may suffer significant setbacks in our Phase III clinical trials of IL13-PE38QQR, even after achieving potentially promising results in earlier clinical trials. Even if the clinical trials of IL13-PE38QQR show potential, prior to commercialization of IL13-PE38QQR in the US, we will have to submit, and the FDA will have to approve, a BLA for IL13-PE38QQR. If a BLA, assuming one is eventually filed, for IL13-PE38QQR is not approved by the FDA, or if approval is delayed, our ability to achieve revenues from product sales will be impaired and our stock price would be materially and adversely affected. FDA approval is contingent on many factors, including clinical trial results and the evaluation of those results.

        We began our IL13-PE38QQR Phase III clinical trial program in patients suffering from recurrent glioblastoma multiforme tumors in the first quarter of 2004. Patients will receive treatment either with IL13-PE38QQR or Gliadel Wafers, a product currently approved to treat this disease. The primary endpoint of the study is to determine if there is a statistically significant overall patient survival difference between patients treated with IL13-PE38QQR compared to those treated with Gliadel Wafers. The results from our clinical trial may not demonstrate a statistically significant difference between IL13-PE38QQR and treatment with Gliadel Wafers. Results from our clinical trial that are not statistically significant will adversely affect our ability to obtain regulatory approval for IL13-PE38QQR. Adverse safety findings from our study would also adversely affect our ability to obtain regulatory approval. Even if we conclude that the results from our clinical trial are statistically significant, the FDA may not agree with us because the FDA may evaluate the results by different methods or conclude that the clinical trial results are not clinically meaningful or that there were human errors in the conduct of the clinical trials or otherwise. Finally, even if we believe that we have met the FDA requirements for submission of data and information for a BLA, there is a risk that the FDA will require additional data and information that we are unable to provide.

Because all of our drug product candidates are in development, there is a high risk that further development and testing will demonstrate that our drug product candidates are not suitable for commercialization, which could cause our business to suffer.

        We have no drug product candidates that have received regulatory approval for commercial sale. All of the drug product candidates that we are currently developing require extensive pre-clinical and clinical testing before we can submit any application for regulatory approval. Before obtaining regulatory approvals for the commercial sale of any of our proposed drug product candidates, we must demonstrate through pre-clinical testing and clinical trials that our drug product candidates are safe and effective in humans. Conducting clinical trials is a lengthy, expensive, and uncertain process. Completion of clinical trials may take several years or more. Our commencement and rate of

19

completion of clinical trials, including, but not limited to, our ongoing Phase III clinical trial for IL13-PE38QQR, may be delayed by many factors, including, but not limited to:

•

ineffectiveness of the study compound, or perceptions by physicians that the compound is not effective for a particular indication;



•

inability to manufacture, or secure third party sources to manufacture, sufficient quantities of drug compounds for use in clinical trials;



•

failure to comply fully with the investigational new drug (IND) regulations;



•

failure of the FDA to approve our clinical trial protocols;



•

a slower than expected rate of patient recruitment;



•

inability to adequately follow patients after treatment;



•

delays in importing or exporting clinical trial materials;



•

unforeseen safety issues; and



•

government or regulatory delays.

        The clinical results we have obtained to date should not be viewed as predicting that the results of further testing, including later stage controlled human clinical testing, will be successful. If our trials are not successful or are perceived as not successful by the FDA or physicians, our business, financial condition and results of operations will be harmed.

Our business is subject to extensive governmental regulation, which can be costly and time consuming and subject us to unanticipated delays.

        Public health authorities in the US and other countries regulate the research, testing, manufacturing, labeling, distribution, marketing, and advertising activities with respect to all of our drug compounds. The FDA and comparable agencies in foreign countries impose substantial burdens on our ability and the ability of others to introduce pharmaceutical products to the public, including lengthy and detailed clinical testing procedures to demonstrate safety and efficacy and manufacturing procedures to insure compliance with cGMP. This process can last many years, be very costly and still be unsuccessful. All clinical, manufacturing, labeling, and other information developed for proprietary products will be required to be filed with the FDA in BLAs or new drug applications for review and be subject to approval by that agency. We cannot assure you that this lengthy regulatory review process will result in the approval and subsequent marketing of our products.

        Once we submit our drug compounds for review, we do not know whether the FDA or other regulatory agencies will grant approvals for any of them on a timely basis or at all. The FDA can delay, limit, or deny approval for many reasons, including, but not limited to:

•

the FDA may determine that our drug compounds may not be safe or effective;



•

FDA officials may interpret data from pre-clinical testing and clinical trials in different ways than we interpret it;



•

the FDA might not approve our manufacturing processes or facilities or the processes or facilities of our collaboration partners;



•

the FDA may change its approval policies or adopt new regulations; and



•

the FDA may approve a drug compound for fewer than all the indications requested.

        The process of obtaining approvals in foreign countries is subject to delay and failure for the same reasons.

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        In addition, any marketed drug product and its manufacturer continue to be subject to strict regulation. Any unforeseen problems with an approved drug product, or delays in receiving regulatory approval, or failing to receive such approval, would delay or prevent drug product commercialization and harm our business and stock price. Approval of a drug compound could also depend upon our commitment to conduct post-marketing studies.

        Even if the FDA approves IL13-PE38QQR with its orphan drug designation and exclusivity, the FDA can, in certain situations prescribed by law, approve competitors' products.

        It is possible that the FDA may not approve our products, but we choose to market them outside of the United States. If certain legal conditions are met, we might be able to export these products, without selling them in the United States. However, the export process can be complex, and there are no assurances that such export would be permitted or that a country would accept the product.

        We have concluded, based in part on the advice of an independent regulatory consultant, that it is not necessary to obtain approval or clearance from the FDA prior to marketing NeoPhectin or NeoPhectin AT for their current intended use. If the FDA were to take a different view or we choose to market the product commercially for therapeutic or diagnostic purposes, we would need to comply with all applicable regulations, including obtaining any necessary approvals or clearances.

We have a history of operating losses, expect to continue to incur losses for the foreseeable future, and may never be profitable.

        We have a limited operating history, and our operations consist primarily of the development of our drug product candidates and the sponsorship of research and clinical trials. Over the past three years, we have incurred aggregate net losses of approximately $102.7 million. We expect to incur additional losses and, as our development efforts and clinical testing activities continue, our losses are expected to increase. We also expect to experience negative operating cash flows for the foreseeable future as we fund our losses and capital expenditures. Our losses have adversely impacted, and will continue to adversely impact, our working capital, total assets and stockholders' equity. To date, we have not sold or received approval to sell any drug products, and it is possible that revenues from drug product sales will never be achieved. Until we executed our agreement with Pharmacia, which we have subsequently terminated, we generated only limited amounts of revenue from license fees, and it is possible that additional license revenue will not be significant. Although we began marketing our first non-drug product, NeoPhectin, in January 2004 for use by research laboratories as a transfection agent, we cannot at this time predict what, if any, revenues will be generated from this product, nor can we predict when or if we will be able to develop other sources of revenue or when or if our operations will become profitable, even if we are able to commercialize some of our drug compounds.

Budget constraints may force us to delay our efforts to develop certain product candidates in favor of developing others, which may prevent us from commercializing all product candidates as quickly as possible.

        Because we are an emerging company with limited resources, and because research and development is an expensive process, we must regularly assess the most efficient allocation of our research and development budget. As a result, we may have to prioritize development candidates and may not be able to fully realize the value of some of our product candidates in a timely manner, as they will be delayed in reaching the market, if at all.

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Competition in the biopharmaceutical field is intense and subject to rapid technological change. Our principal competitors have substantially greater resources to develop and market products that may be superior to ours.

        If we obtain regulatory approval for any of our drug product candidates, the extent to which they achieve market acceptance will depend, in part, on competitive factors. Competition in our industry is intense, and it is increased by the rapid pace of technological development. Existing drug products or new drug products developed by our competitors may be more effective or have fewer side effects, or may be more effectively marketed and sold, than any that we may develop. Each of our principal competitors has substantially greater research and development capabilities and experience and greater manufacturing, marketing, financial, and managerial resources than we do. Competitive drug compounds may render our technology and drug product candidates obsolete or noncompetitive prior to our recovery of research, development, or commercialization expenses incurred with respect to any of our drug compounds. The FDA's policy of granting "fast track" approval for cancer therapies may also expedite the regulatory approval of our competitors' drug product candidates.

        Each of the drug product candidates we currently have under development will face competition from products currently on the market or under development. The following table lists our current principal competitors and their products which compete with the listed drug product candidates we currently have under development:

(1)

There are currently no antisense products available on the market for the treatment of cancer, but Isis Pharmaceuticals and Genta are developing such products.

        We also compete with other drug development companies for licenses to novel technologies as well as for collaborations with large pharmaceutical and other companies.

Our stock price has been and is likely to continue to be volatile, and your investment in our common stock could decline in value.

        The stock market has experienced significant price and volume fluctuations which often has been unrelated to the operating performance of particular companies. In addition, the market price of our stock has been highly volatile and is likely to continue to be so. For example, during 2002, the market price of our common stock fluctuated between $22.83 and $8.07 per share. During 2003, the market price of our common stock fluctuated between $19.40 and $7.56 per share. On May 13, 2003, our Board of Directors declared a 15% common stock dividend to stockholders of record on June 3, 2003, which was issued on June 10, 2003. All share information and per share data for prior periods has been restated to reflect this stock dividend.

        The following factors, among others, could have a significant impact on the market price of our stock:

•

the success or failure of our clinical trials, including, but not limited to, those involving our lead compound, IL13-PE38QQR, or those of our competitors;



•

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



•

our success, or lack of success, in obtaining a successful resolution of our arbitration claims with Pharmacia;

22

•

litigation;



•

actual or anticipated fluctuations in our financial results;



•

our ability to obtain needed financing;



•

economic conditions in the US and abroad;



•

comments by or changes in Company assessments or financial estimates by securities analysts;



•

adverse regulatory actions or decisions;



•

any loss of key management;



•

changing governmental regulations;



•

developments or disputes concerning patents or other proprietary rights;



•

product or patent litigation; and



•

public concern as to the safety of products developed by us.

        Additionally, volatility or a lack of positive performance in our stock price may adversely affect our ability to retain key employees, all of whom have been granted stock options.

        These factors and fluctuations, as well as political and market conditions, may materially adversely affect the market price of our common stock.

We are currently named as a defendant in a number of securities class action lawsuits. The volatility of our stock increases the risk that additional securities class action litigation could be instituted against us in the future.

        Securities class action litigation is often brought against a company following periods of volatility in the market price of its securities. We, along with certain of our officers, are currently named as defendants in a number of class action lawsuits which have been consolidated for trial and are currently pending in the federal district court for the Northern District of Illinois, and each of which alleges various violations of the federal securities laws in connection with certain of our public statements as they relate to our LEP drug product candidate. We may be named as a defendant in similar litigation in the future. While we are vigorously defending this litigation, this litigation has resulted, and can be expected to continue to result, in substantial costs and in a diversion of management's attention and our resources, which could harm our business and financial condition, as well as the market price of our stock. Moreover, it may result in an adverse judgment against us or a settlement, either of which could require us to make a payment to the plaintiffs.

The SEC has initiated an informal investigation. We believe that this informal investigation was initiated as a consequence of our arbitration proceeding involving Pharmacia's development of LEP and LED and the class action lawsuits involving our public statements regarding LEP.

        In September 2003, the Midwest regional office of the SEC opened an informal investigation. We believe that this informal investigation was initiated as a result of our arbitration with Pharmacia (now Pfizer) regarding Pharmacia's development of our drug compounds LEP and LED and the class action lawsuits which have been filed against us relating to public statements by us regarding the development of LEP. We have voluntarily produced documentation in response to requests for documentation made by the SEC. We cannot predict with certainty the direction this investigation will take or its ultimate outcome. If the SEC brings charges against us or any of our officers or directors, our business could be materially and adversely affected, and our stock price could decrease significantly.

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We may need to raise additional capital in the future. If additional capital is not available, we may have to curtail or cease operations.

        We estimate that as of December 31, 2003, combined with the cash proceeds from our recent equity offering, our existing cash reserves will be sufficient to finance our operations at current and projected levels of development and general corporate activity until approximately September 2005. We can offer no assurance that we will be able to generate revenues from product sales in the near term or in the future, at a rate sufficient to fund our operations. Even though we were successful in raising additional capital in January 2004, we may need additional future financing depending on a number of factors, including, but not limited to, the following:

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our degree of success in commercializing our drug products;



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a possible obligation to pay damages arising out of our ongoing arbitration proceeding with Pharmacia or class action lawsuits;



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the rate of progress and cost of research and development and clinical trial activities relating to our drug products;



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the costs of preparing, filing, prosecuting, maintaining and enforcing patent claims and other intellectual property rights;



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emergence of competing technologies and other adverse market developments;



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changes in or terminations of our existing licensing arrangements;



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the amount of milestone payments, if any, we receive from future collaborators, if any;



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the costs of acquiring or licensing new technology, products or businesses if we desire to expand our product portfolio; and