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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

For the fiscal year ended December 31, 2003

OR

For the transition period from              to             

Commission File Number 0-23223

CURAGEN CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (203) 401-3330

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $0.01 par value

Preferred Stock Purchase Rights

(Title of Class)

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

Indicate 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 the 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.  ¨

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

The aggregate market value of common stock held by non-affiliates of the registrant (without admitting that any person whose shares are not included in determining such value is an affiliate) computed by reference to the average bid and asked price of the common stock, as of the last business day of the registrant’s most recently completed second fiscal quarter, was $235,673,966.

The number of shares outstanding of the registrant’s common stock as of March 1, 2004 was 49,951,600.

Documents Incorporated by Reference

The registrant intends to file a definitive proxy statement pursuant to Regulation 14A within 120 days of the end of the fiscal year ended December 31, 2003. Portions of such proxy statement are incorporated by reference into Part III of this report.

CURAGEN CORPORATION

FORM 10-K

INDEX

PART I

Item 1.    Business

The following Business Section contains forward-looking statements, which involve risks and uncertainties. The registrant’s actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors. See also “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors”.

BUSINESS

Overview

We are a genomics-based pharmaceutical development company dedicated to improving the lives of patients by developing novel protein, antibody and small molecule therapeutics in the areas of oncology, inflammatory diseases, obesity and diabetes, and central nervous system disorders. Our pipeline of therapeutics is based on internally discovered targets from the human genome that we believe play a role in important mechanisms underlying disease. We have focused our research efforts on three types of targets: targets that encode protein therapeutics, targets amenable to antibody therapeutic development and targets amenable to small molecule therapeutic development. We use internal resources to develop our protein therapeutics and have established development alliances with Abgenix, Inc. (“Abgenix”) to support our antibody projects and Bayer AG (“Bayer”) to support small molecule projects. Currently, we have one protein therapeutic in clinical development for cancer support and a preclinical pipeline of over 15 protein, antibody and small molecule projects.

Strategy

We hope to generate value for our shareholders by focusing our resources on developing genomics-based therapeutics to improve the lives of patients. We are striving to become profitable by commercializing a subset of therapeutics stemming from our development pipeline, and establishing partnerships with pharmaceutical and biotechnology companies for the development and commercialization of other therapeutics from our development pipeline.

Drug Development Approach

We have taken a systematic approach to identifying and validating the therapeutic targets we believe to be the most promising from the human genome that are both applicable and amenable to drug development. By leveraging our technology and informatics foundation, we have identified 8,000 genes, both novel and known, with the potential to be targets for therapeutic drug development. Based on disease associations in cellular and animal models, we have qualified 500 of these targets as possibly playing a role in disease. By evaluating the relative medical need, biology, speed of path to patients, and strength of intellectual property position of each of these targets, we have selected our priority projects for development. We have over 15 priority projects in animal validation or later stages of development across three therapeutic areas: protein therapeutics, antibody therapeutics, and small molecule therapeutics.

Protein Therapeutics

Proteins are molecules composed of amino acids found in the human body. There are many types of proteins, all carrying out a number of different biological functions. Protein therapeutics can treat conditions in which a person is either missing an important protein or would benefit from additional amounts of a given protein. We are applying our genomics expertise and knowledge of disease to develop protein therapeutics in four disease areas: oncology, inflammatory diseases, obesity and diabetes, and central nervous system disorders.

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We have identified genes whose protein products may make suitable therapeutics, have disease associations and are potentially protected by our intellectual property position. We have implemented protocols for the production, purification and testing of our proteins, and have established cell-based assays for characterizing the therapeutic potential of these proteins. Using animal models, we currently are evaluating the activity of a number of secreted proteins as potential human therapeutics. Proteins with activity and favorable toxicity profiles are then selected for clinical development. Our first product to enter into clinical trials was CG53135 (also known as FGF-20), a protein therapeutic we discovered, which is being investigated for the treatment of oral mucositis, a side effect of patients undertaking radiation or chemotherapy for cancer treatment.

Human Monoclonal Antibody Therapeutics

Antibody therapeutics are very powerful and highly specific molecules that mimic the activity of a family of specialized naturally occurring proteins used by the body’s immune system to combat many diseases. In contrast with protein therapeutics, which supply additional protein molecules, antibody therapeutics may be used to neutralize the activity of a protein that may contribute to the onset or progression of a disease. We are applying our genomics expertise and knowledge of disease to develop antibody therapeutics primarily in oncology and inflammatory diseases. We have identified genes that make suitable targets for antibody therapeutics, have disease associations and may be protected by intellectual property rights. We are developing antibody therapeutics with our partner Abgenix, a biopharmaceutical company focused on the discovery, development and manufacturing of human therapeutic monoclonal antibodies. We believe human monoclonal antibodies are superior to other antibody therapeutics because their close resemblance to naturally occurring antibodies decreases the risk of potentially eliciting an immune response that may neutralize their effect or cause an adverse reaction. We and Abgenix are evaluating many antibody development programs and each plan on advancing the most promising into clinical development. We anticipate initiating clinical trials of our second product, CR002, which is a fully-human monoclonal antibody being investigated for the treatment of kidney inflammation.

Small Molecule Therapeutics

Small molecules are low molecular weight molecules designed to interact with specific proteins known to be involved in a given disease condition. The biggest advantage of small molecule therapeutics is that in contrast to protein therapeutics and antibody therapeutics, which are primarily administered as injectibles, they can be administered as an orally available pill. We have applied our genomics expertise and knowledge of disease to identify small molecule therapeutic targets in four disease areas: oncology, inflammatory diseases, obesity and diabetes, and central nervous system disorders. Our strategy is to partner our small molecule targets with leading companies whose small molecule expertise complements our discovery capabilities. Our obesity and diabetes disease program is partnered with Bayer. In this alliance, we intend to co-develop small molecule therapeutics to treat obesity and Type II (adult onset) diabetes and will co-commercialize resulting products. Our oncology, inflammatory diseases and central nervous system small molecule targets are available for partnering.

Disease Focus

We are focusing our discovery and development efforts on four disease areas that have large growing markets and have large unmet medical needs.

Oncology

Nearly 10 million people throughout the world are diagnosed with cancer each year. The direct and indirect medical costs to treat cancer total more than $180 billion each year, and in the United States alone, cancer takes the lives of 1,500 people on average each day. Most of our protein and antibody therapeutics are being developed to help cancer patients. Our first indication for our clinical product, CG53135, is for oral mucositis, a side effect experienced by patients undergoing cancer therapy. In addition, we are developing several preclinical protein and antibody therapeutics as cancer treatments.

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Inflammatory Diseases

More than 80 million Americans suffer from major inflammatory diseases. Arthritis, various forms of respiratory inflammation and debilitating inflammatory bowel disease are a daily reality in the lives of millions of individuals. For some sufferers, surgery is an undesirable last resort. However, surgery cannot restore diseased tissue to their previously healthy state. By focusing on the underlying causes of diseases, we are making progress in developing therapeutics to treat, and in some cases, restore the damage caused by inflammatory disorders. CR002, which we anticipate to be our first antibody therapeutic to enter clinical trials, has the potential to be a promising alternative to many patients with kidney inflammation that may develop kidney failure and require kidney transplantation. In addition, we have multiple protein and antibody therapeutics in preclinical development to treat inflammatory conditions.

Obesity and Diabetes

Approximately 127 million Americans are overweight or obese and 13 million have been diagnosed with diabetes. In the United States alone, the direct and indirect costs of overweight and obesity is over $120 billion and of diabetes is over $130 billion. These conditions are reaching epidemic proportions and lead to a tremendous drain on the healthcare system. Our collaboration with Bayer for the development of small molecules for the treatment of diabetes and obesity accounts for the majority of our work in this area. The collaboration on diabetes treatment focuses on insulin secretion and insulin sensitivity. The focus of the collaboration for obesity is on satiety and peripheral metabolism. In addition to our small molecule collaboration with Bayer, we also have protein and antibody therapeutics in our pipeline for obesity.

Central Nervous System Disorders

It is estimated that up to 1.5 billion people throughout the world suffer with some form of central nervous system disorder, such as depression, schizophrenia, Alzheimer’s disease or Parkinson’s disease. Alzheimer’s disease alone leads to over a $100 billion drain to the US healthcare system. Our scientists have been examining the genetic pathways associated with both psychiatric and neurological disorders and have identified potential targets in this area. We have promising programs in central nervous system disorders in early stages of development.

Leading Products

CG53135 for oncology support

In 2003, we became one of the first genomics companies to discover, validate, and successfully advance a novel therapeutic candidate from the human genome into Phase I clinical trials when we received U.S. Food and Drug Administration (“FDA”) clearance to begin testing CG53135 in patients.

CG53135, also known as Fibroblast Growth Factor 20 (FGF-20), is a novel investigational protein therapeutic for the treatment of radiation or chemotherapy induced oral mucositis and inflammatory bowel disease. Oral mucositis is a side effect of patients undertaking radiation or chemotherapy for cancer treatment. The disease is characterized by inflammation and ulceration of the tissue lining the mouth and throat leading to bleeding, pain, and difficulty eating and drinking. In addition to leading to debilitating symptoms, oral mucositis may result in the interruption of radiation or chemotherapeutic protocols in oncology patients. Currently, there is no FDA approved therapy to treat oral mucositis. A therapeutic that could treat oral mucositis successfully would not only prevent debilitating symptoms, but also would enable cancer patients to receive the optimum dosage of radiation therapy or chemotherapy needed to fight their cancer.

CG53135 promotes proliferation of two critical layers of cells (epithelial and mesenchymal) present in the mucosa lining the mouth and the remainder of a patient’s gastrointestinal tract. The molecule has demonstrated activity in two animal models of oral mucositis and the data for these studies was published in the journal Clinical Cancer Research in 2003. In addition, the molecule is also active in multiple animal models of inflammatory bowel disease and data for these studies was published in the journal Gastroenterology in 2002.

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CG53135 is in a Phase I trial in patients with oral mucositis. Studies in other clinical indications are planned.

CR002 for kidney inflammation

CR002 is a novel fully-human monoclonal antibody with the potential to treat a potentially common form of kidney inflammation. CR002 is designed to block the activity of platelet-derived growth factor D, or PDGF-D, a target shown to play a role in kidney inflammation. CR002 is the most advanced fully-human monoclonal antibody stemming from our collaboration with Abgenix. The project is currently in preclinical development and we anticipate filing an investigational new drug application (“IND”) and initiating clinical trials of CR002. This molecule will be one of the first therapeutics aimed at treating a root cause of kidney inflammation.

Kidney inflammation typically is characterized by a loss of architecture and diminishing function that may eventually lead to kidney failure, necessitating dialysis or kidney transplantation. Kidney inflammation is usually managed clinically by the use of non-specific immunosuppressants, which have variable efficacy and debilitating side effects.

A study conducted in an animal model of kidney nephritis, published in the Journal of the American Society of Nephrology in 2003, earned us and our colleagues from Abgenix a Congress Award at the 2003 World Congress of Nephrology Meeting.

Pipeline

We have over 15 potential protein, antibody and small molecule therapeutics currently being evaluated in animal studies or being prepared for animal studies. Many of the INDs that we anticipate filing in the future will be identified from these programs. Each of these programs has been developed to target a mechanism believed to be causative or supportive of disease such as inflammation, proliferation and angiogenesis. The majority of our advanced antibody and protein therapeutics are in the areas of cancer and inflammation, and our small molecules are in the area of obesity and diabetes.

Collaborations

Our technology and expertise have been used in our partnerships with more than a dozen leading biotechnology and pharmaceutical companies including Biogen, Inc. (“Biogen”), Genentech, Inc. (“Genentech”), GlaxoSmithKline, Inc. (“GSK”), Hoffmann-La Roche Inc. (“Roche”) and Pfizer Inc.

In addition, we have established a pipeline of potential therapeutics by leveraging the capabilities of industry leaders to more efficiently advance our programs, reduce risk, and conserve resources. We have developed three classes of therapeutics: protein therapeutics which are developed in-house, fully-human monoclonal antibody therapeutics which are developed in collaboration with Abgenix and small molecule therapeutics for diabetes and obesity which are developed through a collaboration with Bayer.

Abgenix

In December 1999, we entered into a strategic alliance with Abgenix to develop and commercialize genomic-based antibody therapeutics using Abgenix’ XenoMouse^™ technology. This six-year alliance was established initially to identify fully-human antibody therapeutic candidates primarily in oncology. Antibodies determined to have commercial product potential will be allocated between the parties for further development. Under the terms of the agreement, the developing party will pay milestone and royalty payments to the other party for products resulting from this drug development alliance. In addition, under the agreement, Abgenix purchased 837,990 shares of our common stock at a price of $17.90 per share for $15.0 million through a private placement.

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In November 2000, we expanded our alliance with Abgenix to include the potential for generating fully-human monoclonal antibodies against a larger number of targets and for treating a broader range of complex diseases including autoimmune disorders. As part of this expanded alliance, Abgenix purchased an additional 1,441,442 shares of our common stock at a price of $34.69 per share for $50.0 million through a private placement.

Our collaboration with Abgenix has been very productive. Fully-human monoclonal antibodies have been raised against over 20 targets and many of these programs are being evaluated for advancement into cellular and animal validation. We anticipate that we will be initiating clinical development in the near future of CR002, our leading antibody therapeutic stemming from our collaboration with Abgenix and together we have eight additional antibody programs in animal studies. Our Abgenix collaboration has enabled us to leverage the resources and expertise of one of the world’s leaders in generating fully-human monoclonal antibodies and has fueled our pipeline with a total of 5 proprietary fully-human monoclonal antibodies whose development we control. Either party can terminate the agreement upon an uncured material breach of contract by the other party upon 30 days written notice. In addition, either party may terminate the agreement upon a breach of certain payment or diligence obligations by the other party if such breach continues, in the case of certain payment obligations, for 10 days and, in the case of certain diligence obligations, for 30 days, after written notice of such breach was provided by the non-breaching party.

Bayer

In January 2001, we signed two comprehensive drug discovery, evaluation, development, and co-commercialization agreements with Bayer. As part of these agreements, Bayer purchased 3,112,482 shares of our common stock at a price of $27.31 per share in a private placement totaling $85.0 million.

The first agreement is a comprehensive alliance to discover, develop, and jointly commercialize small molecule therapeutics to treat metabolic disorders, primarily obesity and adult onset diabetes. We are to provide therapeutic targets to Bayer and grant Bayer access to our comprehensive suite of functional genomic technologies, bioinformatics and pharmacogenomic expertise to select and prioritize the resulting therapeutics. Bayer will utilize its development expertise to develop small molecule therapeutics against the targets supplied by us. Bayer is responsible under the agreement for funding all high-throughput screening, combinatorial chemistry, medicinal chemistry and pharmacology activities until a designated preclinical stage. We share expenses with Bayer related to later stage preclinical and clinical compound development. Both parties jointly fund the relevant research, development and commercialization activities. If we jointly commercialize any therapeutics resulting from this alliance with Bayer, Bayer will receive 56% of the profits associated with that therapeutic and we will receive 44%. Either party can terminate the agreement upon an uncured material breach of contract by the other party, upon 90 days written notice (30 day notice for payment breach). Bayer may terminate the agreement if there is a change in control involving us, upon providing 90 days written notice to us within 90 days. We may terminate the screening term upon a change in control of Bayer, upon providing written notice to Bayer within 90 days.

The second agreement is a broad, five-year pharmacogenomic and toxicogenomic collaboration. We are applying our functional genomic technologies and pharmacogenomics expertise to evaluate Bayer’s developmental and preclinical pipeline of pharmaceutical compounds across all disease areas. Through the efforts of this collaboration, we and Bayer expect to reduce drug development costs, reduce the time to market, and create safer and more efficacious therapeutics. Either party can terminate upon an uncured material breach of contract by the other party, upon 90 days written notice. In certain circumstances Bayer may terminate the agreement if there is a change in control involving us, upon providing written notice to us within 90 days.

Other

In addition to the above-listed alliances, we have smaller, ongoing collaborative relationships with various pharmaceutical and biotech companies. We have established relationships with more than 100 universities,

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academic institutions, and individual companies to gain access to disease tissue samples, disease models, and select technologies. We have successfully conducted research with, and have the potential to receive future milestones and royalties from companies including Alexion Pharmaceuticals, Inc., Biogen, DuPont/Pioneer Hi-Bred International, Inc., GSK, Genentech, Roche and its affiliate, Roche Vitamins, Inc. and Millennium Pharmaceuticals, Inc. (formerly COR Therapeutics, Inc.). At present, we do not consider these relationships either collectively or individually to be of a material nature.

Company History

We began operations in 1993, when the massive undertaking to sequence the human genome was just beginning. Our strategy was based on discovering novel ways to combat disease through an understanding of how genes and their resulting proteins function within the human genome. We developed an integrated genomics, proteomics and bioinformatics technology platform that has been used to analyze the human genome, disease models, marketed therapeutics and therapeutic candidates. This approach has led to our discovery of hundreds of disease-related genes, therapeutic targets and potential novel therapeutics. Our platform has been utilized by over a dozen biotechnology and pharmaceutical companies. These collaborations helped validate our technology and have assisted us in developing our own proprietary pipeline of potential therapeutics. We have focused our research efforts on three types of targets: targets that encode protein therapeutics, targets amenable to antibody therapeutic development, and targets amenable to small molecule therapeutic development. As our portfolio has grown, we have started developing protein therapeutics on our own, and transitioned our service-based collaborations towards more strategic research and development alliances that would enable us to leverage the expertise and resources of industry leaders to turn our antibody and small molecule targets into therapeutics. To that end, we established a strategic alliance with Abgenix for the development of fully-human monoclonal antibodies against our proprietary targets and a strategic alliance with Bayer around the development of small molecules directed against our targets in diabetes and obesity. As our pipeline has matured over the past few years, we have decreased our early-stage target discovery efforts and increased resources for the advancement of our pipeline of protein, antibody and small molecule therapeutics into clinical development. Today, we remain one of the leading genomics-based pharmaceutical companies in the industry with a Phase I product for cancer support and a deep pipeline of protein, antibody and small molecule therapeutics.

Technology

We have assembled a comprehensive, proprietary, and large-scale platform to understand the human genome and have laid the groundwork to better understand the biology behind disease. Using this foundation, we prioritized promising programs from what we believe to be the remaining intervention points appropriate for the development of novel therapeutics. We identify pharmaceutically relevant genes and proteins and associate them with specific diseases through biological methods that include hypothesis-driven disease models, drug response models, gene and pathway mining approaches, and human genetics. We are developing a pipeline of protein, antibody, and small molecule therapeutics in the areas of oncology, inflammatory diseases, obesity and diabetes and central nervous system disorders.

We have used our proprietary technology to identify the Pharmaceutically Tractable Genome (“PTG”). The PTG is the subset of human genes that we believe will make suitable therapeutic targets either because they are proteins that are shed in the blood and can be targeted by protein and antibody therapeutics, sit on cell surfaces and make suitable antibody and small molecule therapeutics, or belong to intracellular classes of proteins that can be modulated by small molecules. We have identified the roughly 8,000 genes that make up the PTG and have used this foundation to systematically determine which are the most promising ones to develop as therapeutic candidates.

We have established disease programs for the identification of novel, pharmaceutically relevant targets and the association of these targets with specific diseases through process-driven and hypothesis-driven scientific strategies. Once associated with diseases, potential therapeutic target candidates are validated through cellular

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assays and animal model systems. Information resulting from these efforts is comprehensively managed through our bioinformatics system which is composed of tools and databases that have been designed specifically to manage, organize, and analyze this complementary biological information.

We are a leader in the emerging field of systems biology. We have used our technologies to complete the world’s first comprehensive protein interaction map for a multicellular organism, Drosophila melanogaster. That achievement was featured on the cover of and published in the December 5, 2003 edition of Science. We also were the first to complete a proteomics map of a eukaryotic organism, yeast (Saccharomyces cerevisiae). That achievement was featured on the cover of and published in the February 10, 2000 edition of Nature. In addition, we have a proprietary set of human protein-protein interaction data. Insight into the highly complex pathways of model organisms’ protein-protein interactions, combined with our proprietary knowledge of human protein-protein interactions, enhances our ability to select promising novel targets for drug development and continues to support our preclinical and clinical development efforts through the identification of biomarkers.

Competition

Currently we face, and will continue to face, intense competition from:

We also are subject to significant competition from organizations that are pursuing strategies, approaches, technologies and products that are the same as or similar to our own. Many of the organizations competing with us have greater capital resources, research and development staffs and facilities and marketing capabilities. In addition, research in the field of genomics is highly competitive. Our competitors in the genomics area include:

A number of our competitors are attempting to rapidly identify and patent genes and gene fragments sequenced at random, typically without specific knowledge of the function of such genes or gene fragments. If our competitors discover or characterize important genes or gene fragments before we do, it could adversely affect any of our related disease research programs. In addition, a number of competitors are producing proteins from genes and claiming both the proteins as potential therapeutics as well as claiming antibodies against these proteins. In many cases generic antibody claims are being issued by the United States Patent and Trademark Office (“USPTO”) even though competitors have not actually made antibodies against the protein of interest, or do not have cellular, animal, or human data to support the use of these antibodies as therapeutics. These claims on proteins as therapeutics and such claims covering all antibodies against the proteins and methods of use in broad human indications are being filed at a rapid rate, and some number of these claims have issued and may continue to issue. We expect that competition in genomics research will intensify as technical advances are made and become more widely known. The competition listed above was selected based upon identifying those companies that we feel have business models that are similar to ours.

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Intellectual Property

Our business and competitive position depend on our ability to protect our genomic technologies, gene sequences, the proteins they encode, antibodies raised against them, other products, information systems and proprietary databases, software and other methods and technology. We continually file patent applications for our proprietary methods and devices for sequencing, gene expression analysis, discovery of biological pathways and drug screening and development. As of the date of this report, we had approximately 790 patent applications pending covering genes and gene transcripts, the proteins they encode, antibodies raised against them, methods of use of therapeutic proteins or antibodies and the use of gene targets for small molecular screening, as well as for our products, processes and technologies with the USPTO, as well as numerous corresponding international and foreign patent applications. As of the date of this report, we had been issued approximately 50 patents with respect to aspects of our gene portfolio, products, processes and technologies.

In 2001, the USPTO issued new guidelines for patent applications reflecting its current policy regarding statutory written description and utility requirements for patentability. The implementation of these new guidelines may cause the USPTO initially to reject some of our pending new gene and protein patent applications. Although we believe that we will overcome such rejections to any of our new gene and protein cases, there is no guarantee that the USPTO will approve them. We strive especially to gain issued patents for our commercially important genes and proteins. The new guidelines are not expected to impact pending cases directed to technology platforms.

CuraGen^® and other trademarks of CuraGen Corporation mentioned in this report are the property of CuraGen Corporation. Trademarks of 454 Life Sciences Corporation mentioned in this report are the property of 454 Life Sciences Corporation. All other trademarks or trade names referred to herein are the property of their respective owners.

454 Life Sciences Corporation

In June 2000, we announced the formation of 454 Life Sciences Corporation (“454”). This majority-owned subsidiary was initially funded with $40.0 million primarily from investors including us, Soros Fund Management, L.L.C., Cooper Hill Partners, L.L.C., and members of our senior management team. In September 2003, 454 secured an additional $20.0 million in equity financing from us and several existing shareholders, including Cooper Hill Partners L.L.C., to initiate commercialization of 454’s product offering. This second round of financing increased our ownership from 60% to 66%.

454 is developing novel nanoscale instrumentation and technologies for rapidly and comprehensively determining the nucleotide sequence—“whole genome sequencing”—of entire genomes. 454’s proprietary technology is expected to have widespread applications in industrial processes, agriculture, animal health, biodefense, human health care, including drug discovery and development, and disease diagnosis.

In August 2003, 454, utilizing its proprietary platform, submitted the whole genome sequence of an adenovirus to GenBank^®, the National Institutes of Health genetic sequence database. The submission marked the first time that a new method has been used to sequence a whole genome since Walter Gilbert and Frederick Sanger won the Nobel Prize in 1980 for the invention of DNA sequencing in 1977.

454’s technology platform is based on the application of massively parallel approaches to every step of the sequencing process: sample preparation, DNA sequencing, basecalling, sequence assembly and bioinformatic analysis. This approach, combined with the use of advanced nanotechnology, reduces cost and throughput roadblocks to efficient whole genome analysis. It is our goal to allow entire genomes to be analyzed without the cost and time restrictions normally associated with scaling up current methods of DNA sequencing in large facilities.

Scientists, using the 454 technology platform, will be able to generate whole genome sequences for a wide variety of viral and bacterial organisms. Instead of looking for biologically meaningful regions in one bacterial genome, researchers will have at their disposal multiple strains of an organism for comparison. This will provide

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information about new pathogens, drug resistant strains and variations in host-pathogen interactions as mutation of pathogens occurs. Currently, 454 is focusing on the analysis of viruses and bacteria. 454 anticipates that it will begin scaling its technology to analyze bacteria, fungi, larger model organisms, human DNA, and other genomic applications during 2004. 454 plans to sell both genomic analysis services and complete genomic analysis systems including instrumentation, reagents and software to end-users.

The operations of 454 are run by a separate management team and governed by a Board of Directors made up of members of our management team and Board of Directors. 454 has also established a Scientific Advisory Board that is comprised of an elite group of scientists in the fields of whole genome sequencing, infectious disease, human genetics, chemical engineering and bioinformatics. As this new technology is commercialized and its applications across the life sciences industry become accepted, we anticipate that 454 will contribute revenue to the consolidated entity. See Note 12 to our consolidated financial statements for segment reporting.

Government Regulation

Prior to the marketing of any new therapeutic developed by us, or by our collaborators, that new therapeutic must undergo an extensive regulatory approval process in the United States and other countries. This regulatory process, which includes preclinical and clinical studies to establish a compound’s safety and efficacy, can take many years and require the expenditure of substantial resources. Data obtained from such studies are susceptible to varying interpretations that could delay, limit or prevent regulatory approval.

The process for new drug approval has many steps, including:

Investigational new drug application (“IND”).    During the pre-clinical testing, an IND is filed with the FDA to begin human testing of the drug. The IND becomes effective if not rejected by the FDA within 30 days. All clinical trials must be conducted in accordance with good clinical practices, (“GCPs”). In addition, an Institutional Review Board, (“IRB”), comprised of physicians at the hospital or clinic where the proposed studies will be conducted, must review and approve the study. The IRB also continues to monitor the study for any safety issues. Progress reports detailing the results of the clinical trials must be submitted at least annually to the FDA. In addition, the FDA may, at any time during the 30-day period or at any time thereafter, impose a clinical hold on proposed or ongoing clinical trials. If the FDA imposes a clinical hold, clinical trials cannot commence or recommence without FDA authorization and then only under terms authorized by the FDA. In some instances, the IND application process can result in substantial delay and expense. The IND must contain the following:

Clinical trials.    Clinical trials are typically conducted in three sequential phases, which could possibly overlap. The FDA monitors the progress of each phase and may require the modification, suspension, or termination of a trial if it is determined to present excessive risks to patients. The clinical trial process may also be accompanied by substantial delay and expense and there can be no assurance that the data generated in these studies will ultimately be sufficient for marketing approval by the FDA.

New drug application (“NDA”).    After the completion of the clinical trial phases, and with considerable interaction with the FDA, a company prepares an NDA for submission to the FDA. The NDA must contain all of the information on the drug gathered to that date, including data from the clinical trials.

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The FDA does a preliminary review of all NDAs submitted before it accepts them for filing and may request additional information rather than accepting an NDA for filing. Once the submission is accepted for filing, the FDA begins an in-depth review of the NDA. Under the Federal Food, Drug and Cosmetic Act, the FDA has specified time frames in which to review the NDA and respond to the applicant. The review process is often significantly extended by FDA requests for additional information or clarification regarding information already provided in the submission. The FDA may refer the application to an appropriate advisory committee, typically a panel of clinicians, for review, evaluation and a recommendation as to whether the application should be approved. The FDA is not bound by the recommendation of an advisory committee. If FDA evaluations of the NDA and the manufacturing facilities are favorable, the FDA may issue either an approval letter or an approvable letter, which usually contains a number of conditions that must be met in order to secure final approval of the NDA. When and if those conditions have been met to the FDA’s satisfaction, the FDA will issue an approval letter, authorizing commercial marketing of the drug for certain indications. If the FDA’s evaluation of the NDA submission or manufacturing facilities is not favorable, the FDA may refuse to approve the NDA or issue a not approvable letter.

Marketing approval.    If the FDA approves the NDA, the drug becomes available for physicians to prescribe. Periodic reports must be submitted to the FDA, including descriptions of any adverse reactions reported. The FDA may request additional studies (Phase IV) to evaluate long-term effects.

Phase IV clinical trials and post marketing studies.    In addition to studies requested by the FDA after approval, additional studies are conducted to explore new indications. The purpose of these trials and related publications is to broaden the application and use of the drug and its acceptance in the medical community.

Approvals in European Union (“EU”).    In 1993, the EU established a system for the registration of medicinal products in the EU and under that system, marketing authorization may be submitted at either a centralized or decentralized level. The centralized procedure is administered by the European Agency for the Evaluation of Medicinal Products. This procedure is mandatory for the approval of biotechnology products and is available at the applicant’s option for other innovative products. The centralized procedure provides, for the first time in the EU, for the granting of a single marketing authorization that is valid in all EU member states. A mutual recognition procedure is available at the request of the applicant for all medicinal products that are not subject to the mandatory centralized procedure, under a decentralized procedure. The decentralized procedure creates a new system for mutual recognition of national approvals and establishes procedures for coordinated EU action on product suspensions and withdrawals. Under this procedure, the holder of a national marketing authorization for which mutual recognition is sought may submit an application to one or more member states, certifying that identical dossiers are being submitted to all member states for which recognition is sought. Within 90 days of receiving the application and assessment report, each member state must decide whether or not to recognize the approval. The procedure encourages member states to work with applicants and other regulatory authorities to resolve disputes concerning mutual recognition. If such disputes cannot be resolved within the 90-day period provided for review, the application will be subject to a binding arbitration procedure at the request of the applicant. Alternatively, the application may be withdrawn.

Approvals outside of the United States and EU.    Steps similar to those in the United States must be undertaken in virtually every other country comprising the market for our products before any such product can be commercialized in those countries. The approval procedure and the time required for approval vary from country to country and may involve additional testing. There can be no assurance that approvals will be granted on a timely basis or at all. In addition, regulatory approval of prices is required in most countries other than the United States. There can be no assurance that the resulting prices would be sufficient to generate an acceptable return to us.

We have received FDA clearance to conduct clinical trials for CG53135, a potential protein therapeutic for the treatment of oral mucositis in cancer patients that are undergoing chemotherapy and radiotherapy. None of our product candidates have been approved for commercialization in the United States or elsewhere. We, or any

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of our collaborators, may not be able to conduct clinical testing or obtain the necessary approvals from the FDA or other regulatory authorities for some products. Failure by us, or our collaborators, to obtain required governmental approvals will delay or preclude our collaborators or us from marketing therapeutics or diagnostic products developed with us or limit the commercial use of such products and could have a material adverse effect on our business, financial condition and results of operations.

In February 2004, the FDA granted us orphan drug designation on CG53135, for the treatment of radiation induced oral mucositis. The Orphan Drug Act of 1983 is intended to encourage companies to develop therapies for the treatment of diseases that affect fewer than 200,000 individuals in the United States at the time of application. Further criteria include the ability of the product to address an unmet medical need where no approved treatment option exists or provide significant benefit over available treatments. Orphan drug designation, granted by the FDA’s Office of Orphan Products Development, provides us with a number of potential benefits for CG53135. Orphan drug designation may result in seven years of market exclusivity in the United States upon FDA product approval, provided that the sponsor company continues to meet certain conditions established by the FDA. Upon marketing authorization and during the period of market exclusivity, the FDA does not accept or approve other applications to market the same medicinal product for the same therapeutic indication. Other incentives provided by orphan designation include protocol assistance and eligibility for research and development support. Protocol assistance includes regulatory assistance and reduced filing fees, as well as advice on the conduct of clinical trials.

Our research and development activities involve the controlled use of hazardous materials, chemicals and controlled substances. We are subject to federal, state and local laws and regulations governing the acquisition, use, storage, handling and disposal of such materials and certain waste products.

Available Information

We were incorporated in Delaware in November 1991. Our principal executive office is located at 555 Long Wharf Drive, 11th Floor, New Haven, Connecticut 06511. Our telephone number is (203) 401-3330. We maintain a web site on the Internet at http://www.curagen.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports, are available free of charge through the Investor Relations section of our website as soon as reasonably practicable after such materials have been electronically filed with, or furnished to, the Securities and Exchange Commission (“SEC”). These documents are also available in the SEC’s Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330, and in addition, the SEC maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC (http://www.sec.gov).

Employees

As of December 31, 2003, we and 454 had 327 full and part-time employees, 149 of whom hold Ph.D., M.D. or J.D. degrees. Our employees include engineers, physicians, molecular biologists, chemists, lawyers and computer scientists. We believe that we maintain good relationships with our employees. We believe that our future success will depend in large part on our ability to attract and retain experienced and skilled employees.

Seasonality

Our business is not subject to any material fluctuations based on the season of the year.

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Item 2.    Properties

We maintain our administrative offices along with research facilities at locations in both Branford and New Haven, Connecticut. At December 31, 2003, we leased a total of approximately 166,000 square feet at all locations. Our leases are for original terms of two to six years, and generally provided for renewal options for terms of up to five years. Currently, we are attempting to sub-lease approximately 20,000 square feet of unoccupied office space at our New Haven facility. This space is unoccupied as a result of our corporate restructurings in late 2002 and mid 2003, and is not suitable to be built-out as laboratory space. In January 2004, we entered into a five-year lease agreement for an additional 20,000 square foot research facility in Branford to allow us to further our pipeline efforts.

We believe that our facilities are adequate for our current operations or that suitable additional leased space will be available as needed. Our plans to construct a new corporate headquarters and protein production facility in Branford have been deferred indefinitely, pending improvements in the external financing environment which would afford us the ability to finance the future construction costs.

Item 3.    Legal Proceedings

We are not currently a party to any material legal proceedings.

Item 4.    Submission Of Matters To A Vote Of Security Holders

No matters were submitted to a vote of our security holders during the quarter ended December 31, 2003.

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PART II

Item 5.    Market For Registrant’s Common Equity And Related Stockholder Matters

Market Information

Our common stock is traded on the Nasdaq National Market under the symbol “CRGN”. The following table sets forth, for the periods indicated, the low and high sales prices per share for our common stock, as reported by the Nasdaq National Market:

On March 1, 2004, the closing price of our common stock on the Nasdaq National Market was $6.88 per share.

Stockholders

As of March 1, 2004, there were approximately 220 stockholders of record of our common stock and, according to our estimates, 10,385 beneficial owners of our common stock.

Dividends

We have never paid cash dividends on our common stock and do not anticipate declaring any cash dividends in the foreseeable future. We currently intend to retain earnings, if any, to finance the development of our business.

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Item 6.    Selected Financial Data

The selected consolidated financial data set forth below for each of the three years in the period ended December 31, 2003 are derived from our consolidated balance sheets as of December 31, 2003 and 2002 and the related audited consolidated statements of operations, of stockholders’ equity and of cash flows for each of the three years ended December 31, 2003, 2002 and 2001 and notes thereto, which are included elsewhere in this report. The consolidated balance sheet data as of December 31, 2001, 2000 and 1999 and the consolidated statements of operations data for each of the two years in the periods ended December 31, 2000 and 1999 have been derived from our related financial statements. The selected consolidated financial data set forth below should be read in conjunction with, and are qualified by reference to, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our audited consolidated financial statements.

Deficiency of Earnings Available to Cover Fixed Charges:

The following table sets forth our consolidated deficiency of earnings available to cover fixed charges for each of our five most recent fiscal years.

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

We are a genomics-based pharmaceutical development company dedicated to improving the lives of patients by developing novel protein, antibody and small molecule therapeutics in the areas of oncology, inflammatory diseases, obesity and diabetes, and central nervous system disorders. Our pipeline of therapeutics is based on targets from the human genome that we believe play a role in important mechanisms underlying disease.

We have taken a systematic approach to identifying and validating the most promising therapeutic targets from the human genome that are both applicable and amenable to drug development. We use internal resources to develop our protein therapeutics and have established development alliances with Abgenix, Inc. (“Abgenix”) to support our antibody projects and Bayer AG (“Bayer”) to support small molecule projects.

As our pipeline has matured over the past few years, we have decreased our early-stage target discovery efforts and focused our resources on the advancement of our pipeline of protein, antibody and small molecule therapeutics into clinical development. In 2003, we received U.S. Food and Drug Administration (“FDA”) clearance to conduct Phase I clinical trials for CG53135, a potential protein therapeutic for the treatment of oral mucositis in cancer patients that are undergoing chemotherapy and radiotherapy. CR002, which is the most advanced fully-human monoclonal antibody stemming from our collaboration with Abgenix, is currently in preclinical development and we anticipate filing an investigational new drug application (“IND”) for, and initiating clinical trials of, CR002 in the near future. CR002 is a novel fully-human monoclonal antibody with the potential to treat a form of kidney inflammation that if left untreated could progress to kidney failure. In addition to CG53135 and CR002, we have over 15 potential protein, antibody and small molecule therapeutics currently being evaluated in animal studies or being prepared for animal studies. Many of the INDs that we anticipate filing in the future will be identified from these programs.

To enable us to focus on our pipeline, we announced the formation of 454 Life Sciences Corporation (“454”) in June 2000. This majority-owned subsidiary is developing novel nanoscale instrumentation and technologies for rapidly and comprehensively determining the nucleotide sequence—“whole genome sequencing”—of entire genomes. 454’s proprietary technology is expected to have widespread applications in industrial processes, agriculture, animal health, biodefense, human health care, including drug discovery and development, and disease diagnosis. Currently, 454 is focusing on the analysis of viruses and bacteria and anticipates that it will begin scaling its technology to analyze bacteria, fungi, larger model organisms, human DNA, and other genomic applications during 2004. 454 plans to sell both genomic analysis services and complete genomic analysis systems, including instrumentation, reagents and software to end-users.

We expect to generate value for our shareholders by focusing our resources on developing genomics-based therapeutics to improve the lives of patients. We expect to become profitable by commercializing a subset of therapeutics stemming from our development pipeline, and establishing partnerships with pharmaceutical and biotechnology companies for the co-development and co-commercialization of other therapeutics from our development pipeline. Our failure to successfully develop pharmaceutical products that we can commercialize would materially adversely affect our business, financial condition and results of operations. Royalties or other revenue generated from commercial sales of products developed through the application of our technologies and expertise are not expected for several years, if at all. We expect that our revenue or income sources for at least the next several years may be limited to: interest income; payments under various collaboration agreements to the extent milestones are met; royalty payments from collaborators under existing or future arrangements (to the extent that we enter into any future arrangements); and 454 service and product revenue (which is expected in 2004, as 454’s technology is commercialized and its applications across the life sciences industry become accepted).

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We expect to continue to incur substantial expenses relating to our research and development efforts, as we focus on preclinical and clinical trials required for the development of therapeutic protein, antibody and small molecule product candidates, and as 454 focuses on the continued development and commercialization of its technology for whole genome analysis. Conducting clinical trials is a lengthy, time-consuming and expensive process. Before obtaining regulatory approvals for the commercial sale of any product, we must demonstrate through various studies that a product is both effective and safe for use in humans. We will incur substantial expenses for, and devote a significant amount of time to, these studies. As a result, we expect to incur continued and increasing losses over the next several years, unless we are able to realize additional revenues under existing or new collaboration agreements or through 454’s sales of genomic analysis services and/or complete genomic analysis systems. The timing and amounts of such revenues, if any, cannot be predicted with certainty and may fluctuate. Results of operations for any period may be unrelated to the results of operations for any other period. In addition, historical results should not be viewed as indicative of future operating results.

The 2002 and 2001 consolidated financial statements have been reclassified to conform to the classifications used in 2003. All dollar amounts in tabular presentations are shown in thousands, unless otherwise noted.

Critical Accounting Policies and Use of Estimates

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses and as such, actual results may differ from our estimates under different assumptions or conditions.

While our significant accounting policies are more fully described in Note 1 to our consolidated financial statements, we believe the following to be our critical accounting policies and uses of estimates:

Research and development expenses.    Research and development costs have been our most significant costs to date and primarily include personnel costs, supplies and reagents, clinical trial related costs such as contractual services and manufacturing costs, depreciation of lab equipment and allocated facility costs. Such costs are charged to research and development expenses as incurred unless recoverable under contract. Our research and development expenses also include accruals for clinical trial related costs such as contractual services and current manufacturing costs. At each period end, we estimate the costs incurred to date but not yet invoiced, and we analyze the progress of these services based upon information received from the supplier when evaluating the adequacy of the accrued liabilities. Significant judgments and estimates must be used in determining the related accruals in any accounting period. Actual results could differ significantly from our estimates under different assumptions.

Revenue recognition.    We have entered into certain collaborative research agreements that provide for the partial or complete funding of specified projects in exchange for access to, and certain rights in, the data discovered under the related projects. Collaboration revenue is recognized based upon defined metrics of completion that include percentage of completion milestones, and project specific initiatives as defined in each of the respective research plans. The defined metrics are reviewed internally each month to determine the work performed, whether deliverables have been accepted by the collaborator and the appropriate revenue to be recognized. We have also entered into a collaborative research exchange agreement in which services and technology access are exchanged between the collaborative partner and us. Collaboration revenues and expenses under this exchange agreement include the fair value of the work performed by each collaborative partner. Deferred revenue arising from payments received from collaborative research agreements is recognized as income when earned.

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Results of Operations

The following table sets forth a comparison of the components of our net loss for the years ended December 31, 2003 and 2002 (in millions):

Collaboration revenue.    The decrease in collaboration revenue for the year ended December 31, 2003 was primarily a result of a decline in revenue recognized from the Abgenix strategic alliance. Also reflected in the decrease was the on-going change in our business strategy, which is to establish strategic research and development alliances with companies for the co-development and co-commercialization of therapeutics from our development pipeline, rather than focusing on short-term revenue generating service-based collaborations. In addition, during 2002 the setup phase of the Bayer alliance was completed and we received a related milestone payment, resulting in a transition to the production phase of that alliance. We expect that 2004 collaboration revenue will remain fairly constant as compared to 2003, reflecting continued progress of the Bayer alliance and various other collaborations, as well as the inclusion of nominal revenues expected from the commercialization of 454’s new technology.

Research and development expenses.    The decrease in research and development expenses for the year ended December 31, 2003 was primarily due to implementation of corporate restructuring plans in late 2002 and mid 2003, intended to reduce overall costs and focus resources on prioritizing, selecting and advancing our most promising drug candidates. We anticipate that research and development expenses, particularly with respect to our preclinical and clinical trials, will increase in 2004 as we continue to advance our pipeline of protein, antibody, and small molecule therapeutics and as expenses increase in preparation for, and in connection with, the expected commercialization of 454’s technology.

General and administrative expenses.    General and administrative expenses for the year ended December 31, 2003 decreased primarily due to the implementation of corporate restructuring plans. Additionally, lower intellectual property expenses are indicative of the shift in our focus from early-stage discovery efforts to the advancement of our therapeutic development efforts. General and administrative expenses are expected to increase slightly in 2004.

Restructuring and related charges.    Restructuring and related charges of approximately $2.9 million were incurred in the second quarter of 2003 as a part of our June 2003 corporate restructuring plan which was intended to focus resources on continuing to advance our pipeline of therapeutics into preclinical and clinical development. In connection with the 2003 restructuring plan, we incurred $1.8 million related to employee separation costs, $1.0 million of operating lease obligations and $0.1 million of asset impairment costs. The employee separation costs were recorded under Statement of Financial Accounting Standards No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (“SFAS 146”) and included amounts to be paid for severance and related benefits, the services for which had been performed in full as of the end of 2003. The cash requirements under the June 2003 restructuring plan were $2.7 million, of which $1.4 million were paid prior to December 31, 2003. The remaining cash requirements of $1.3 million will be paid through the end of 2008. The components of our 2002 restructuring charges are set forth on page 19.

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Interest income.    Interest income for the year ended December 31, 2003 decreased primarily due to lower yields in our investment portfolio and a decrease in cash and investment balances during 2003. We earned an average yield of 2.3% in 2003 as compared to 2.7% in 2002. During 2004, we anticipate that interest income will increase as compared to 2003, as a result of the receipt of net proceeds of approximately $97.0 million from our 4% convertible subordinated notes due 2011, which we issued on February 17, 2004, offset by the utilization of cash and investment balances in the normal course of operations. In 2004 we expect the yields in our investment portfolio to be consistent with 2003. However, in the event that in 2004 we use a portion of the net proceeds of the debt offering due 2011 to repay our existing debt due 2007, our anticipation of an increase in interest income for 2004 will differ accordingly.

Interest expense.    We expect a significant increase in interest expense during 2004, attributable to interest to be paid semi-annually to the holders of our $100.0 million of 4% convertible subordinated notes due 2011, which we issued on February 17, 2004.

Income tax benefit.    For the year ended December 31, 2003, the income tax benefit decrease was a result of the decline in various expenses which qualified for the annual research and development credit as a result of the corporate restructuring plan, primarily personnel costs, supplies and reagents, and intellectual property expenses. We recorded the income tax benefit as a result of Connecticut legislation, which allowed companies to obtain cash refunds from the State of Connecticut at a rate of 65% of their annual research and development expense credit, in exchange for forgoing the credit carryforward. In addition, due to 454’s focus on revenues to be realized in the short term, 454 elected not to request a cash refund for 2003, but instead elected to continue to carry forward the credit.

Minority interest in subsidiary loss.    Minority interest in subsidiary loss for the year ended December 31, 2003 (which is the portion of 454’s loss attributable to shareholders of 454 other than us) increased primarily due to 454’s additional efforts to advance its technology. During 2004, losses attributed to the minority ownership in 454 are expected to remain fairly constant as compared to 2003, as 454 continues to make progress towards commercializing and developing new technologies.

The following table sets forth a comparison of the components of our net loss for the years ended December 31, 2002 and 2001 (in millions):

Collaboration revenue.    The decrease in collaboration revenue for the year ended December 31, 2002 reflected a change in our business strategy which is to establish strategic research and development alliances with companies for the co-development and co-commercialization of therapeutics from our development pipeline, rather than focusing on short-term revenue generating service-based collaborations. The decline in collaboration revenue can also be attributed to the completion in 2001 of various short-term service-based collaborations including GlaxoSmithKline, Inc. and Millennium Pharmaceuticals, Inc. (formerly COR Therapeutics, Inc.). The decrease in collaboration revenue was also a result of the progression of the Bayer alliance during 2002 from the set-up phase to the production phase, offset by additional revenue recognized from the Abgenix strategic alliance.

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Research and development expenses.    The increase in research and development expenses for the year ended December 31, 2002 was primarily attributable to increased internal research efforts and our obligations to fulfill research requirements under existing collaborations and strategic alliances, which included payments for contractual services, increased equipment depreciation expense and additional personnel costs.

General and administrative expenses.    General and administrative expenses for the year ended December 31, 2002 increased primarily due to legal expenses in support of the development of our intellectual property portfolio and additional personnel costs.

Restructuring and related charges.    Restructuring and related charges of approximately $11.0 million were incurred in 2002 as a part of our restructuring plan which was intended to reduce costs and focus resources on prioritizing, selecting and rapidly advancing our most promising drug candidates. In connection with this restructuring plan, we incurred $1.8 million related to employee separation costs and $1.1 million of asset impairment costs related to equipment no longer in service. The employee separation costs were recorded under SFAS 146 and included amounts to be paid for severance and related benefits, the services for which had been performed in full as of the end of 2002. The cash requirements under the restructuring plan were $1.9 million, of which $1.2 million were paid prior to December 31, 2002, and the remaining cash requirements of $0.7 million were paid by the end of 2003.

Also included in restructuring and related charges was an asset impairment of $8.1 million, consisting of costs previously incurred in conjunction with the planned construction of a campus facility, including a new corporate headquarters and protein production facility in Branford, Connecticut. Plans to construct these facilities have been deferred indefinitely, pending improvements in the external financing environment, which would afford us the ability to finance the future construction costs.

Interest income.    Interest income for the year ended December 31, 2002 decreased primarily due to lower yields in our investment portfolio and a decrease in cash and investment balances during 2002. We earned an average yield of 2.7% in 2002 as compared to 4.0% in 2001.

Minority interest in subsidiary loss.    Minority interest in subsidiary loss for the year ended December 31, 2002 (which is the portion of 454’s loss attributable to shareholders of 454 other than us) increased primarily due to 454’s additional personnel costs, increased purchases of laboratory supplies, increased equipment depreciation expense and payments for consulting and contractual services as a result of the continued development of their technology platform.

Liquidity and Capital Resources

Since our inception, we have financed our operations and met our capital expenditure requirements primarily through public equity offerings, private placements of equity securities, convertible subordinated debt offerings, revenues received under our collaborative research agreements and government grants, capital leases and exercises of stock options. As of December 31, 2003, we had recognized $106.0 million of cumulative sponsored research revenues from collaborative research agreements and government grants. At December 31, 2003, our gross investment in lab and office equipment, computers, land and leasehold improvements was $47.4 million, and equipment with a gross book value of $2.3 million secured our capital lease facilities. Since inception, we have not had any off-balance sheet arrangements. To date, inflation has not had a material effect on our business.

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Cash and investments.    The following table depicts the components of our operating, investing and financing activities for the year ended December 31, 2003, using the direct cash flow method (in millions):

The decrease in cash and investments for 2003 was primarily a result of additional operating losses in support of our research and development activities and acquisitions of additional property and equipment and intangible assets, offset by proceeds received in 454’s equity financing from several existing minority shareholders.

In accordance with our investment policy, we are utilizing the following investment objectives for cash and investments: (1) investment decisions are made with the expectation of minimum risk of principal loss, even with a modest penalty in yield; (2) appropriate cash balances and related short-term funds are maintained for immediate liquidity needs, and appropriate liquidity is available for medium-term cash needs; and (3) maximum after-tax yield is achieved.

Future Liquidity

Sources of Liquidity.    During 2004, we expect to continue to fund our operations through a combination of the following sources: cash and investment balances; interest income; collaboration revenue; and potential public securities offerings and/or private strategic-driven common stock offerings.

Uses of Liquidity.    Throughout 2004, we plan to continue making substantial investments in our emerging preclinical and clinical drug pipeline. In that regard, we foresee the following as significant uses of liquidity: personnel costs; supplies and reagents; clinical trial related costs such as contractual services and manufacturing costs; interest expense related to payments made to the holders of our convertible subordinated debt issued in February 2000 and February 2004; and capital expenditures. These costs will be incurred primarily in connection with the following preclinical and clinical efforts: ongoing clinical trial costs and anticipated Phase II manufacturing costs on our protein therapeutic CG53135 in the area of oral mucositis; costs related to our manufacturing agreement with Abgenix for CR002; toxicology costs to support our planned submission of an IND for CR002; preclinical and clinical costs in connection with the use of our protein therapeutic CG53135 to

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treat alternative clinical indications; and legal expenses in support of the continued protection of our intellectual property portfolio. We anticipate that we will also incur significant capital expenditures in 2004, primarily for the expansion of our existing protein production laboratory facilities, in addition to the purchase of equipment and leasehold improvements at both our and 454’s research facilities and administrative offices.

Contractual Obligations

The following table represents our consolidated contractual obligations as of December 31, 2003:

The expected timing of payment of the obligations discussed above is estimated based on current information. Timing of payments and actual amounts paid may be different depending on the time of receipt of goods or services or changes to agreed-upon amounts for some obligations.

Purchase obligations for supplies and reagents are not included in the table above, as our purchase orders typically represent authorizations to purchase rather than binding agreements. For the purposes of this table, contractual obligations for purchase of goods or services are defined as agreements that are enforceable and legally binding on us and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. Our purchase orders are based on our current operating needs and are fulfilled by our vendors within short time periods. We do not have significant agreements for the purchase of supplies and reagents specifying minimum quantities or set prices. Additionally, we have entered into agreements for contractual services primarily relating to the manufacturing costs of our protein therapeutic CG53135, and our fully-human monoclonal antibody CR002, and have included these amounts in purchase commitments above.

On February 17, 2004, we completed an offering for $100.0 million of 4% convertible subordinated notes due February 15, 2011, and received net proceeds of approximately $97.0 million. Depending on market and other conditions, from time to time, we may repurchase a portion of the existing notes in open market purchases, in privately negotiated transactions, or otherwise. In addition, we also may use net proceeds for working capital,

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general corporate purposes and potentially for future acquisitions of complementary businesses or technologies. The amounts and timing of our actual expenditures will depend upon numerous factors, including the amount and extent of our acquisitions, our product development activities, our investments in technology and the amount of cash generated by our operations. Actual expenditures may vary substantially from our estimates. Our failure to use such funds effectively could have a material adverse effect on our business, results of operations and financial condition. In February 2004, we repurchased $20.0 million of our 6% convertible subordinated debentures due 2007, for total consideration of $20.0 million, plus accrued interest of $0.05 million to the date of repurchase.

We believe that our existing cash and investment balances and other sources of liquidity will be sufficient to meet our requirements for the next twenty-four months. Our operating and capital expenditures are considered to be crucial to our future success, and by continuing to make strategic investments in our preclinical and clinical drug pipeline, we believe that we are building substantial value for our shareholders. The adequacy of our available funds to meet our future operating and capital requirements, including the repayment of our remaining $130.0 million of 6% convertible subordinated debentures due February 2, 2007 and our $100.0 million of 4% convertible subordinated notes due February 15, 2011, will depend on many factors. These factors include: the number, breadth and progress of our research, product development and clinical programs; the costs and timing of obtaining regulatory approvals for any of our products; potential future acquisitions of complementary businesses or technologies; in-licensing of pharmaceutical products; and costs incurred in enforcing and defending our patent claims and other intellectual property rights.

While we will continue to explore alternative sources for financing our business activities, including the possibility of public securities offerings and/or private strategic-driven common stock offerings, we cannot be certain that in the future these sources of liquidity will be available when needed or that our actual cash requirements will not be greater than anticipated. In appropriate strategic situations, we may seek financial assistance from other sources, including contributions by others to joint ventures and other collaborative or licensing arrangements for the development and testing of products under development. However, should we be unable to obtain future financing either through the methods described above or through other means, we may be unable to meet the critical objective of our long-term business plan, which is to successfully develop and market pharmaceutical products.

We received federal grants during 1999 and earlier years, for specific purposes that are subject to review and audit by the grantor agencies. Such audits could lead to requests for reimbursement by the grantor agency for any expenditures disallowed under the terms of the grant. Additionally, any noncompliance with the terms of the grant could lead to loss of current or future awards.

During 1995 to 1998, we also received two grants from Connecticut Innovations, Inc. (“CII”) in the amounts of $0.5 million and $0.2 million. The term of the $0.5 million grant is January 4, 1995 to December 31, 2004, and the term of the $0.2 million grant is February 1, 1995 to January 31, 2005. We could be required to repay 100% of these amounts if during the terms of the respective grants (i) we breach and fail to cure a material covenant, (ii) a we fail to cure any of our material representations or warranties that become untrue, (iii) we become bankrupt or insolvent or liquidate our assets, or (iv) we are required to repay the federal grants to which the CII grants relate. In addition, we could be required to repay up to 200% of the amounts of the CII grants if we cease to have a “Connecticut presence,” during the terms of the respective grants.

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Income Taxes

For income tax purposes, we do not file consolidated income tax returns with 454. We and 454 have tax net operating loss carryforwards available to reduce future federal and Connecticut taxable income and research and development tax credit carryforwards available to offset future federal and Connecticut income taxes as detailed below. Utilization of the net operating loss and tax credit carryforwards may be limited due to changes within each company’s ownership, as defined within Section 382 of the Internal Revenue Code.

Minority Interest in Subsidiary

As of December 31, 2003, minority interest in subsidiary was $8.2 million. Minority interest in subsidiary is related to 454 and reflects the minority shareholders’ capitalization, less a gain recognition of $3.9 million as a result of our contribution of technology to 454 in 2000, and less the minority shareholders’ portion of losses incurred to date. The loss attributed to the minority ownership in 454 is expected to remain fairly constant during 2004, as 454 continues to make progress towards commercializing and developing new technologies.

Recently Enacted Pronouncements

In January 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation (“FIN”) No. 46, “Consolidation of Variable Interest Entities—an Interpretation of Accounting Research Bulletin No. 51.” FIN No. 46 clarifies rules for consolidation of special purpose entities. The provisions of FIN No. 46 became effective for financial statements issued after January 31, 2003 and the adoption of FIN No. 46 did not have a material effect on our financial statements. In December 2003, the FASB issued FIN No. 46(R) which clarifies rules for consolidation of special purpose entities. We have evaluated the provisions of this interpretation, and we do not believe it will have an impact on our financial statements.

In April 2003, the FASB issued Statement of Financial Accounting Standards No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities”, (“SFAS 149”) which amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities under FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities.” The provisions of SFAS 149 are effective for financial statements issued after June 30, 2003, and the adoption of SFAS 149 did not have a material effect on our financial statements.

In May 2003, the FASB issued Statement of Financial Accounting Standards No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity” (“SFAS 150”) which requires that an issuer classify a financial instrument that is within its scope as a liability, or an asset in some circumstances, where those instruments were previously classified as equity. The provisions of SFAS 150 are effective for financial statements issued after May 15, 2003, and the adoption of SFAS 150 did not have a material effect on our financial statements.

In December 2003, the FASB issued Statement of Financial Accounting Standards No. 132R (“SFAS 132R”), “Employers’ Disclosures about Pensions and Other Post-retirement Benefits”. SFAS 132R amends the disclosure requirements of SFAS 132 to require additional disclosures about assets, obligations, cash flow and net periodic benefit cost. The statement was effective in 2003 and did not have an impact on our financial statements.

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RISK FACTORS

Risks Related to Our Business

Because our business strategy is still largely untested, we do not know whether we will be able to commercialize any of our products or to what extent we will generate revenue or become profitable.

We do not know whether we can implement our business strategy successfully because we are in the early stages of development. Initially, we set out to find as many genes and their related functions as possible and are now using that information to develop our own therapeutic products. This strategy is largely untested. Other companies first target particular diseases and try to find cures for them, have a limited number of genes and proteins of potential therapeutic interest, or rely on other more proven strategies. If our strategy does not result in the development of products that we can commercialize, we will be unable to generate revenue. We have not completed development of any product based on our genomics research. Although our first potential product has entered clinical trials, we cannot be certain that this or any future products will receive marketing approval. If we are unable to commercialize products, we may not be able to recover our investment in our product development efforts.

Because clinical trials for our products will be expensive and protracted and their outcome is uncertain, we must invest substantial amounts of time and money that may not yield viable products.

Conducting clinical trials is a lengthy, time-consuming and expensive process. Before obtaining regulatory approvals for the commercial sale of any product, we must demonstrate through laboratory, animal and human studies that such product is both effective and safe for use in humans. We will incur substantial expense for, and devote a significant amount of time to, these studies.

Completion of clinical trials may take many years. The length of time required varies substantially according to the type, complexity, novelty and intended use of the product candidate. The FDA monitors the progress of each phase of testing, and may require the modification, suspension, or termination of a trial if it is determined to present excessive risks to patients. Our rate of commencement and completion of clinical trials may be delayed by many factors, including:

Studies that we conduct, or studies which third parties conduct on our behalf, may not demonstrate sufficient effectiveness and safety to obtain the requisite regulatory approvals for these or any other potential products. Regulatory authorities may not permit us to undertake any additional clinical trials. The clinical trial process may be accompanied by substantial delay and expense and there can be no assurance that the data generated in these studies ultimately will be sufficient for marketing approval by the FDA.

We have only one product in clinical development and our other products are in preclinical development. None of these products may demonstrate sufficient effectiveness or safety to obtain the requisite regulatory approvals required for initiation or continuation of clinical studies or obtaining marketing approval.

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Because we have limited experience in developing, commercializing and marketing products, we may be unsuccessful in our efforts to do so.

Currently, we are developing several potential pharmaceutical products, and such products will require significant research and development and preclinical testing, and will require extensive clinical testing prior to our submitting any regulatory application for their commercial use. Although we are conducting human studies with respect to one product, we have limited experience with these activities and may not be successful in developing or commercializing these or other products. These activities, if undertaken without the collaboration of others, will require the expenditure of significant funds. Such potential pharmaceutical products will be subject to the risks of failure inherent in the development of pharmaceutical products based on new technologies. Before we can commercialize a product, we must rigorously test the product in the laboratory and complete extensive human studies. Even if we complete such studies, our ability to develop and commercialize products will depend on our ability to:

As a result of these possibilities, we may not be able to develop through our research and development activities any commercially viable products. We cannot be certain that expenses for testing and study will yield profitable products or even products approved for marketing by the FDA. If we are not successful in identifying products that we can develop commercially, we may be unable to recover the large investment we have made in research, development and manufacturing. In addition, should we choose to develop pharmaceutical products internally, we will have to make significant investments in pharmaceutical product development, marketing, sales and regulatory compliance resources, and we will have to establish or contract for the manufacture of products under the current good manufacturing practices (“cGMPs”) of the FDA. Any potential products developed by our licensees will be subject to the same risks.

We do not have any marketed products. If we develop products that can be marketed, we intend to market the products either independently or together with collaborators or strategic partners. If we decide to market any products independently, we will incur significant additional expenditures and commit significant additional management resources to establish a sales force. For any products that we market together with partners, we will rely, in whole or in part, on the marketing capabilities of those parties. We may also contract with third parties to market certain of our products. Ultimately, we and our partners may not be successful in marketing our products.

We depend on a limited number of suppliers and depend on them to manufacture and supply critical components of our development and clinical programs.

Currently, we contract with third-party manufacturers or develop products with partners and use the partners’ manufacturing capabilities. As we use others to manufacture our products, we depend on those parties to comply with cGMPs, and other regulatory requirements and to deliver materials on a timely basis. These parties may not perform adequately. Any failures by these third parties may delay our development of products or the submission of these products for regulatory approval.

We depend on third-party research organizations to design and conduct our laboratory testing and human studies. If we are unable to obtain any necessary testing services on acceptable terms, we may not complete our product development efforts in a timely manner. As we rely on third parties for laboratory testing and human studies, we may lose some control over these activities and become too dependent upon these parties. These third parties may not complete testing activities on schedule or when we request.

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Because neither we nor any of our collaborative partners have received marketing approval for any product resulting from our research and development efforts, and may never be able to obtain any such approval, we may not be able to generate any product revenue.

All the products being developed by our collaborative partners also will require additional research and development, extensive preclinical studies and clinical trials and regulatory approval prior to any commercial sales. In some cases, the length of time that it takes for our collaborative partners to achieve various regulatory approval milestones may affect the payments that we are eligible to receive under our collaboration agreements. We and our collaborative partners may need to address a number of technical challenges successfully in order to complete development of our products. Moreover, these products may not be effective in treating any disease or may prove to have undesirable or unintended side effects, toxicities or other characteristics that may preclude our obtaining regulatory approval or prevent or limit commercial use.

We may be unable to manufacture or obtain sufficient quantities of our products and ensure their proper performance and quality.

Biopharmaceuticals must be produced under the cGMPs of the FDA. We do not have facilities capable of manufacturing drug products under cGMPs and must outsource any such production. We are devoting resources to establishing our own manufacturing capabilities to support development and preclinical activities and are contracting with third-party vendors for the manufacture of materials for use in humans. We may be unable to contract successfully for cGMPs manufacture of any products and may be unable to obtain required quantities of our products economically. We may not be able to obtain capacity to produce a sufficient amount of commercial product to meet our commercial and clinical development needs. Failure to meet the demand for product may adversely affect our ability to continue to market the product.

Compliance with government regulation is critical to our business and failure to satisfy regulatory requirements could impair our business.

Prior to the marketing of any new drug developed by us, or by our collaborators, that new drug must undergo an extensive regulatory review process in the United States and other countries. This regulatory process, which includes preclinical and clinical studies, as well as post-marketing surveillance to establish a compound’s safety and efficacy, can take many years and require the expenditure of substantial resources. Data obtained from such studies are susceptible to varying interpretations that could delay, limit or prevent regulatory approval. Even if the FDA approves our products, we will still need to obtain institutional review board approval, which may involve additional delays. The rate of completion of clinical trials depends upon, among other factors, the enrollment of patients. Patient enrollment is a function of many factors, including:

We have not had any of our product candidates receive approval for commercialization in the United States or elsewhere. Neither we nor our collaborators may be able to conduct clinical testing or obtain the necessary approvals from the FDA or other regulatory authorities for any products. Failure by us or our collaborators to obtain required governmental approvals will delay or preclude our collaborators or us from marketing drugs

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developed with us or limit the commercial use of such products and could have a material adverse effect on our business, financial condition and results of operations. Even where a product is exempted from FDA clearance or approval, the FDA may impose restrictions as to the types of customers to which we can market and sell our products. Such restrictions may materially and adversely affect our business, financial condition and results of operations.

In addition, the FDA may condition marketing approval on the conduct of specific post-marketing studies to further evaluate safety and efficacy. Rigorous and extensive FDA regulation of pharmaceutical products continues after approval, particularly with respect to compliance with cGMPs reporting of adverse effects, advertising, promotion and marketing. Discovery of previously unknown problems or failure to comply with the applicable regulatory requirements may result in restrictions on the marketing of a product or withdrawal of the product from the market as well as possible civil or criminal sanctions, any of which could materially adversely affect our business.

We must obtain regulatory approval by governmental agencies in other countries prior to commercialization of our products in those countries. Foreign regulatory systems may be just as rigorous, costly and uncertain as in the United States.

We rely significantly on our collaborative partners, and our business could be harmed if we are unable to maintain strategic alliances.

As part of our business strategy, we have strategic research and development alliances with companies to gain access to specific technologies. These alliances with other pharmaceutical and biotechnology companies may provide us with access to unique technologies, access to capital, near-term revenues, milestone and/or royalty payments, and potential profit sharing arrangements. In return, we provide access to unique technologies, expertise in genomics, and information on the molecular basis of disease, drug targets, and drug candidates. To date, we have entered into significant strategic alliances with Abgenix and Bayer, in addition to numerous smaller agreements to facilitate these efforts. In these strategic alliances, either party can terminate the agreement at any time the alliance permits them to or if either party materially breaches the contract. We may not be able to maintain or expand existing alliances or establish any additional alliances. If any of our existing collaborators were to breach, terminate or not renew their agreements with us or otherwise fail to conduct activities successfully and in a timely manner, the preclinical or clinical development or commercialization of product candidates or research programs may be delayed or terminated.

We depend on attracting and retaining key employees.

We are highly dependent on the principal members of our management and scientific staff, including Jonathan M. Rothberg, Ph.D., our Chief Executive Officer, President and Chairman of the Board; David M. Wurzer, Executive Vice President and Chief Financial Officer; Christopher K. McLeod, Executive Vice President; Timothy M. Shannon, M.D., Executive Vice President and Chief Medical Officer; and Richard F. Begley, Ph.D., President and Chief Executive Officer of 454. The loss of services of any of these personnel could materially adversely affect our business, financial condition and results of operations. We entered into employment agreements with all of the principal members of our management and scientific staff that bind them to a specific term of employment. We maintain key person life insurance on the life of Dr. Rothberg in the amount of $2.0 million. Our future success also will depend in part on the continued services of our key scientific and management personnel and our ability to attract, hire and retain additional personnel. There is intense competition for such qualified personnel and there can be no assurance that we will be able to continue to attract and retain such personnel. Failure to attract and retain key personnel could materially, adversely affect our business, financial condition and results of operations.

We depend on academic collaborators, consultants and scientific advisors.

We have relationships with collaborators and consultants at academic and other institutions who conduct research at our request. These collaborators and consultants are not our employees. Substantially all of our

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collaborators and consultants are employed by employers other than us and may have commitments to, or consulting or advisory contracts with, other entities that may limit their availability to us. As a result, we have limited control over their activities and, except as otherwise required by our collaboration and consulting agreements, can expect only limited amounts of their time to be dedicated to our activities. Our ability to discover genes and biological pathways involved in human disease and commercialize products based on those discoveries may depend in part on continued collaborations with researchers at academic and other institutions. We may not be able to negotiate additional acceptable collaborations with collaborators or consultants at academic and other institutions.

Our academic collaborators, consultants and scientific advisors may have relationships with other commercial entities, some of which could compete with us. Our academic collaborators, consultants and scientific advisors sign agreements which provide for confidentiality of our proprietary information and of the results of studies. We may not be able to maintain the confidentiality of our technology and other confidential information in connection with every academic collaboration or advisory arrangement, and any unauthorized dissemination of our confidential information could materially adversely affect our business, financial condition and results of operations. Further, any such collaborator, consultant or advisor may enter into an employment agreement or consulting arrangement with one of our competitors.

Competition in our field is intense and likely to increase.

We face, and will continue to face, intense competition from one or more of the following entities:

We also are subject to significant competition from organizations that are pursuing approaches, technologies and products that are the same as, or similar to, our technology and products. Many of the organizations competing with us have greater capital resources, research and development staffs and facilities and marketing capabilities. In addition, research in the field of genomics, protein therapeutics, and fully-human antibodies generally is highly competitive. Our competitors include:

A number of organizations are attempting to rapidly identify and patent genes and gene fragments sequenced at random, typically without specific knowledge of the function of such genes or gene fragments. If our competitors discover or characterize important genes or gene fragments before we do, it could adversely affect our ability to commercialize our products. We expect that competition in genomics research, protein therapeutics, and therapeutic antibodies will intensify as technical advances are made and become more widely known. In addition, a number of competitors are producing proteins from genes and claiming both the proteins as potential therapeutics as well as claiming antibodies against these proteins. In many cases generic antibody claims are being issued by the United States Patent and Trademark Office (“USPTO”) even though competitors

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have not actually made antibodies against the protein of interest, or do not have cellular, animal, or human data to support the use of these antibodies as therapeutics. These claims on proteins as therapeutics and these claims covering all antibodies against the proteins and methods of use in broad human indications are being filed at a rapid rate, and some number of these claims have issued and may continue to issue. In addition, purified proteins, therapeutic data, and antibodies, including polyclonal antibodies, mouse monoclonal antibodies and, in some cases, fully-human monoclonal antibodies, are being generated against a large number of targets within the human genome. All of these activities may make it difficult to commercialize products, or, if licenses are made available, may make the royalty burden on these products so high as to prevent commercial success.

We may engage in acquisitions that are unsuccessful.

In the future, we may engage in acquisitions in order to exploit technology or market opportunities. We are not experienced in acquiring and integrating new businesses. If we acquire another company, we may not be able to integrate the acquired business successfully into our existing business in a timely and non-disruptive manner or at all. Furthermore, an acquisition may not produce the revenues, earnings or business synergies that we anticipate. If we fail to integrate the acquired business effectively or if key employees of that business leave, the anticipated benefits of the acquisition would be jeopardized. The time, capital management and other resources spent on an acquisition that fails to meet our expectations could cause our business and financial condition to be materially and adversely affected. In addition, acquisitions can involve material non-recurring charges and amortization of significant amounts of non-cash acquisition costs that could adversely affect our results of operations.

If our patent applications do not result in issued patents, then our competitors may obtain rights to commercialize our discoveries.

Our business and competitive position depends on our ability to protect our products, processes and technologies. We continually file patent applications for our proprietary methods, novel uses of genes, and our development products. As of the date of this report, we had approximately 790 patent applications pending covering novel genes and gene transcripts, as well as our products, processes and technologies with the USPTO, and had filed numerous corresponding international and foreign patent applications. As of the date of this report, we had been issued approximately 50 patents with respect to aspects of our gene portfolio, products, processes and technologies.

Our commercial success also depends in part on obtaining patent protection on genes and proteins for which we or our collaborators discover utility and on products, methods and services based on such discoveries. We have applied for patent protection on novel genes and proteins, novel mutants of known genes and their uses, partial sequences of novel proteins and their gene sequences and uses, and novel uses for previously identified genes discovered by third parties. We have applied for patents on antibodies against the proteins we have discovered, as well as seek or have our partners seek patent protection on the antibodies we produce against these proteins. We have sought and intend to continue to seek patent protection for novel uses for genes and proteins and therapeutic antibodies that may have been patented by third parties. In such cases, we would need a license from the holder of the patent with respect to such gene or protein in order to make, use or sell such gene or protein for such use. We may not be able to acquire such licenses on commercially reasonable terms, if at all. Our patent application filings that result from the identification of genes associated with the cause or effect of a particular disease generally seek to protect the genes and the proteins encoded by such genes as well as antibodies raised against these gene products. We also seek patent protection for our therapeutic, diagnostic and drug screening methods and products.

In 2001, the USPTO issued new guidelines for patent applications reflecting the USPTO’s current policy regarding statutory written description and utility requirements for patentability. The implementation of these new guidelines may cause the USPTO initially to reject some of our pending new gene and protein patent applications. There is no guarantee that the USPTO will approve them. We strive especially to gain issued patents for our commercially important genes and proteins.

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The patent positions of pharmaceutical, biopharmaceutical and biotechnology companies, including us, are generally uncertain and involve complex legal and factual questions. Our patent applications may not protect our products, processes and technologies because of the following reasons:

In addition, patent law relating to the scope of claims in the technology fields in which we operate is still evolving. The degree of future protection for our proprietary rights is uncertain. Furthermore, there can be no assurance that others will not independently develop similar or alternative technologies, duplicate any of our technologies, or, if patents are issued to us, design around the patented technologies developed by us. In addition, we could incur substantial costs in litigation if we are required to defend ourselves in patent suits brought by third parties or if we initiate such suits.

The issuance of patents may not provide us with sufficient protection.

We may not be able to obtain further patents for our products, processes and technologies, or, if we are able to obtain further patents, these patents may not provide us with substantial protection or be commercially beneficial. The issuance of a patent is not conclusive as to its validity or enforceability, nor does it provide the patent holder with freedom to operate without infringing the patent rights of others. A patent could be challenged by litigation and, if the outcome of such litigation were adverse to the patent holder, competitors could be free to use the subject matter covered by the patent, or the patent holder may license the technology to others in settlement of such litigation. The invalidation of key patents owned by or licensed to us or non-approval of pending patent applications could increase competition, and materially adversely affect our business, financial condition and results of operations. In addition, any application or exploitation of our technology could infringe patents or proprietary rights of others and any licenses that we might need as a result of such infringement might not be available to us on commercially reasonable terms, if at all. Third parties have indicated to us that they believe we may be required to obtain a license in order to perform certain processes that we use in the conduct of our business or in order to market potential drugs we have in development.

We cannot predict whether our or our competitors’ pending patent applications will result in the issuance of valid patents. Litigation, which could result in substantial cost to us, also may be necessary to enforce our patent and proprietary rights and/or to determine the scope and validity of others’ proprietary rights. We may participate in interference proceedings that may in the future be declared by the USPTO to determine priority of invention, which could result in substantial cost to us. The outcome of any such litigation or interference proceeding might not be favorable to us, and we might not be able to obtain licenses to technology that we require or that, if obtainable, we could license such technology at a reasonable cost.

The public availability of genomic sequence information or other sequence information prior to the time we apply for patent protection on a corresponding full-length or partial gene could adversely affect our ability to obtain patent protection with respect to such gene or gene sequences. In addition, certain other groups are attempting to rapidly identify and characterize genes through the use of gene expression analysis and other technologies. To the extent any patents issue to other parties on such partial or full-length genes or uses for such

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genes, the risk increases that the sale of potential products, including therapeutics, or processes developed by us or our collaborators may give rise to claims of patent infringement. Others may have filed and in the future are likely to file patent applications covering genes or gene products or antibodies against the gene products that are similar or identical to our products. Any such patent application may have priority over our patent applications. Any legal action against us or our collaborators claiming damages and seeking to enjoin commercial activities relating to the affected products and processes could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain a license in order to continue to manufacture or market the affected products and processes or could enjoin us from continuing to manufacture or market the affected products and processes. There can be no assurance that we or our collaborators would prevail in any such action or that any license required under any such patent would be made available on commercially acceptable terms, if at all. We believe that there may be significant litigation in the industry regarding patent and other intellectual property rights. If we become involved in such litigation, it could consume a substantial portion of our managerial and financial resources.

There is substantial uncertainty concerning the extent to which supportive data will be required for issuance of patents for human therapeutics. If data additional to that available to us is required, our ability to obtain patent protection could be delayed or otherwise adversely affected. Although the USPTO issued new utility guidelines in July 1995 that address the requirements for demonstrating utility for biotechnology inventions, particularly for inventions relating to human therapeutics, there can be no assurance that the USPTO examiners will follow such guidelines or that the USPTO’s position will not change with respect to what is required to establish utility for gene sequences and products and methods based on such sequences.

We cannot be certain that our security measures will protect our proprietary technologies.

We also rely upon trade secret protection for some of our confidential and proprietary information that is not subject matter for which patent protection is being sought. We have developed a database of proprietary gene expression patterns and biological pathways which we update on an ongoing basis and which can be accessed over the Internet. We have taken security measures to protect our proprietary technologies, processes, information systems and data and continue to explore ways to enhance such security. Such measures, however, may not provide adequate protection for our trade secrets or other proprietary information. While we require employees, academic collaborators and consultants to enter into confidentiality and/or non-disclosure agreements where appropriate, any of the following could still occur:

We depend upon our ability to license technologies.

We may have to acquire or license certain components of our technologies or products from third parties. We may not be able to acquire from third parties or develop new technologies, either alone or with others. Failure to license or otherwise acquire necessary technologies could materially adversely affect our business, financial condition and results of operations.

The 454 Life Sciences technology platform is in development and the early stages of commercialization.

The technology platform of 454, our majority-owned subsidiary (see “Business—454 Life Sciences Corporation”), is still in development and 454 has not had significant sales of its services or products. 454 may not be able to continue to successfully develop or commercialize the 454 technology platform. The success of commercialization of the 454 technology platform depends on many factors, including:

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454 is subject to competition from organizations that have developed or are developing technologies and products to service 454’s potential customers.

Many of the organizations competing with 454 potentially have greater capital resources, research and development staffs and facilities and marketing capabilities. 454’s potential competitors include:

We believe that the future success of 454 will depend in large part on our ability to maintain a competitive position in instruments for the high throughput nucleic acid sequencing field. Before we recover development expenses for our products or technologies, such products or technologies may become obsolete as a result of technological developments by us or others. Our products could also be made obsolete by new technologies which are less expensive or more effective. We may not be able to make the enhancements to our technology necessary to compete successfully with newly emerging technologies. A market for the high throughput nucleic acid sequencing field may not be sufficient to generate revenues significant enough for 454 to achieve profitability.

We could be liable for any failure to comply with hazardous product regulations.

Our research and development activities involve the controlled use of hazardous materials and chemicals. We are subject to federal, state and local laws and regulations governing the use, storage, handling and disposal of such materials and certain waste products. Although we believe that our safety procedures for handling and disposing of such materials comply with the standards prescribed by federal, state and local laws and regulations, the risk of accidental contamination or injury from these materials cannot be completely eliminated. In the event of such an accident, we could be held liable for any damages that result and any liability could exceed our resources.

Risks Related to Our Financial Results

We have a history of operating losses and expect to incur losses in the future.

We have incurred losses since inception, principally as a result of research and development and general and administrative expenses in support of our operations. We anticipate incurring additional losses over the next several years as we focus our resources on prioritizing, selecting and advancing our most promising drug candidates. We may never be profitable or achieve significant revenues. For example, we experienced net losses of $74.5 million in 2003, $90.4 million in 2002 and $42.9 million in 2001, and as of December 31, 2003 had an accumulated deficit of $289.5 million.

Our quarterly operating results have fluctuated greatly and may continue to do so.

Our operating results have fluctuated on a quarterly basis. We expect that losses will continue to fluctuate from quarter to quarter and that these fluctuations may be substantial. Our results of operations are difficult to

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predict and may fluctuate significantly from period to period, which may cause our stock price to decline and result in losses to investors. Some of the factors that could cause our operating results to fluctuate include:

We believe that quarterly comparisons of our financial results are not necessarily meaningful and should not be relied upon as an indication of future performance. In addition, fluctuations in quarterly results could affect the market price of our common stock in a manner unrelated to our long-term operating performance.

The market price of our common stock is highly volatile.

The market price of our common stock has fluctuated widely and may continue to do so. For example, during fiscal year 2003, the closing sale price of our stock ranged from a high of $7.70 per share to a low of $3.17 per share. Many factors could cause the market price of our common stock to rise and fall. These factors include:

We have a large amount of debt and our debt service obligations may prevent us from taking actions that we would otherwise consider to be in our best interests.

As of March 1, 2004, we had total consolidated debt of $231.5 million; and for the year ended December 31, 2003, we had a deficiency of earnings available to cover fixed charges of $80.6 million. A variety of uncertainties and contingencies will affect our future performance, many of which are beyond our control. We

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may not generate sufficient cash flow in the future to enable us to meet our anticipated fixed charges, including our debt service requirements with respect to our notes that we sold in February 2000 and February 2004. At March 1, 2004, $230.0 million of those notes remained outstanding. The following table shows, as of March 1, 2004, the remaining aggregate amount of our interest payments due in each of the years listed (in millions):

Our substantial leverage could have significant negative consequences for our future operations, including:

Our debt investments are impacted by the financial viability of the underlying companies.

We have a diversified portfolio of investments of which $196.6 million at December 31, 2003 were invested in US Treasuries and debt investments that are sponsored by the US Government. Our corporate fixed-rate debt investments comply with our policy of investing in only investment-grade debt instruments. The ability for the debt to be repaid upon maturity or to have a viable resale market is dependent, in part, on the financial success of the underlying company. Should the underlying company suffer significant financial difficulty, the debt instrument could either be downgraded or, in the worst case, our investment could be worthless. This would result in our losing the cash value of the investment and incurring a charge to our statement of operations.

We may need to raise additional funding, which may not be available on favorable terms, if at all.

We believe that we have sufficient capital to satisfy our capital needs for at least the next twenty-four months. However, our future funding requirements will depend on many factors and we anticipate that, at some future point, we will need to raise additional capital to fund our business plan and research and development efforts on a going-forward basis. To the extent that we need to obtain additional funding, the amount of additional capital we would need to raise would depend on many factors, including:

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We expect that we would raise any additional capital we require through public or private equity offerings, debt financings or additional collaborations and licensing arrangements. We cannot be certain that in the future these sources of liquidity will be available when needed or that our actual cash requirements will not be greater than anticipated. In appropriate strategic situations, we may seek financial assistance from other sources, including contributions by others to joint ventures and other collaborative or licensing arrangements for the development and testing of products under development. If we raise additional capital by issuing equity securities, the issuance of such securities would result in ownership dilution to our shareholders. If we raise additional funds through collaborations and licensing arrangements, we may be required to relinquish rights to certain of our technologies or product candidates, or to grant licenses on unfavorable terms. The relinquishing of rights or granting of licenses on unfavorable terms could materially adversely affect our business, financial condition and results of operations. If adequate funds are not available, our business, financial condition and results of operations would be materially adversely affected. However, should we be unable to obtain future financing either through the methods described above or through other means, we may be unable to meet the critical objective of our long-term business plan, which is to successfully develop and market pharmaceutical products. If we require additional capital at a time when investment in biotechnology companies such as ours, or in the marketplace in general, is limited due to the then prevailing market or other conditions, we may not be able to raise such funds at the time that we desire or any time thereafter.

Risks Related to Our Convertible Debt and Our Common Stock into which Our Debt is Convertible

We have significant leverage as a result of the sales of our debt in 2000 and 2004.

In February 2000, in connection with the sale of our 6% convertible subordinated debentures due in 2007, we incurred $150.0 million of indebtedness. In February 2004, we repurchased $20.0 million of these debentures, for total consideration of $20.0 million, plus accrued interest of $0.05 million to the date of repurchase. As a result of the remaining indebtedness of $130.0 million, our interest payment obligations amount to $7.8 million per year.

In February 2004, in connection with the sale of our 4% convertible subordinated notes due in 2011, we incurred an additional $100.0 million of indebtedness. As a result of this indebtedness, our interest payment obligations amount to $4.0 million per year. The degree to which we are leveraged could adversely affect our ability to obtain further financing for working capital, acquisitions or other purposes and could make us more vulnerable to industry downturns and competitive pressures. Our ability to meet our debt service obligations will depend upon our future performance, which may be subject to the financial, business and other factors affecting our operations, many of which are beyond our control.

These notes, due in 2007 and 2011, are effectively subordinated to all of our secured indebtedness and all indebtedness of our subsidiaries. These notes are our general unsecured obligations and are not guaranteed by any of our subsidiaries. Accordingly, these notes are effectively subordinated to all of our current and future secured indebtedness to the extent of the assets securing the indebtedness. Furthermore, our right to receive any distribution of assets of any subsidiary upon that subsidiary’s liquidation, reorganization or otherwise, is subject to the prior claims of creditors of that subsidiary, except to the extent we also are recognized as a creditor of that subsidiary. As a result, these notes are effectively subordinated to the claims of such creditors.

There are no restrictive covenants in our indentures relating to our ability to incur future indebtedness.

The indentures governing our notes due in 2007 and 2011 do not contain any financial or operating covenants or restrictions on the payment of dividends, the incurrence of indebtedness, transactions with affiliates, incurrence of liens or the issuance or repurchase of securities by us or any of our subsidiaries. We may therefore incur additional debt, including secured indebtedness senior to these notes. As part of our growth strategy, we

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potentially may use proceeds from the 2004 offering to finance future acquisitions of complementary businesses or technologies, which may cause us or our subsidiaries to incur significant indebtedness to which these notes would be subordinate.

These notes are obligations exclusively of CuraGen Corporation. Our subsidiaries are separate and distinct legal entities. Our subsidiaries have no obligation to pay any amounts due on these notes or to provide us with funds for our payment obligations, whether by dividends, distributions, loans or other payments. In addition, any payment of dividends, distributions, loans or advances by our subsidiaries to us could be subject to statutory or contractual restrictions. Payments to us by our subsidiaries will also be contingent upon our subsidiaries’ earnings and business considerations.

Our debt service obligations may adversely affect our cash flow.

A higher level of indebtedness increases the risk that we may default on our debt obligations. We cannot be certain that we will be able to generate sufficient cash flow to pay the interest on our debt or that future working capital, borrowings or equity financing will be available to pay or refinance such debt. If we are unable to generate sufficient cash flow to pay the interest on our debt, we may have to delay or curtail our research and development programs.

The level of our indebtedness among other things, could:

Our ability to repurchase notes, if required, with cash upon a change in control or fundamental change may be limited.

In certain circumstances involving a change in control, we may be required to repurchase some or all of the notes due 2007. In certain circumstances involving a fundamental change, we may be required to repurchase some or all of the notes due 2011. We cannot be certain that we will have sufficient financial resources at such time or would be able to arrange financing to pay the repurchase price of the notes. Our ability to repurchase the notes in such event may be limited by law, by the indenture and by such indebtedness and agreements as may be entered into, replaced, supplemented or amended from time to time.

Securities we issue to fund our operations could cause dilution to our shareholders’ ownership.

The conversion of our notes into shares of common stock will dilute the ownership interest of our current shareholders. We may decide to raise additional funds through a public or private debt or equity financing to fund our operations. If we raise funds by issuing equity securities, the percentage ownership of current shareholders, including the ownership that holders of the notes would have upon conversion, will be reduced, and the new equity securities may have rights prior to those of the common stock issuance upon conversion of the notes. We may not obtain sufficient financing on terms that are favorable to existing shareholders and us.

Item 7a.    Quantitative and Qualitative Disclosures About Market Risk

Currently, we maintain approximately 12% of our cash and investments in financial instruments with original maturity dates of less than three months, 21% in financial instruments with original maturity dates of

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greater than three months and less than one year, and the remaining 67% in financial instruments with original maturity dates of greater than one year and less than five years. These financial instruments are subject to interest rate risk and will decline in value if interest rates increase. We estimate that a change of 100 basis points in interest rates would result in a $3.0 million decrease or increase in the fair value of our cash and investments.

Our outstanding long-term liabilities as of December 31, 2003 consisted of our 6% convertible subordinated debentures due February 2, 2007 and an accrued long-term liability for the remaining future minimum payments under a license agreement (see Note 11 to our consolidated financial statements). As the debentures bear interest at a fixed rate, our results of operations would not be affected by interest rate changes. Although future borrowings may bear interest at a floating rate, and would therefore be affected by interest rate changes, at this point we do not anticipate any significant future borrowings (except for the issuance on February 17, 2004 of $100.0 million of 4% convertible subordinated notes due 2011, which is more fully described in Note 13 to our consolidated financial statements), and therefore do not believe that a change of 100 basis points in interest rates would have a material effect on our financial condition.

Accordingly, we do not believe that there is any material market risk exposure with respect to derivative or other financial instruments that would require disclosure under this item.

As of December 31, 2003, the market value of our $150.0 million 6% convertible subordinated debentures due 2007, based on quoted market prices, was estimated at $133.0 million.

Item 8.    Financial Statements and Supplementary Data

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CURAGEN CORPORATION AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(in thousands, except par value and share data)

See accompanying notes to consolidated financial statements

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CURAGEN CORPORATION AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)