Registration No. 333-                    

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

Vanda Pharmaceuticals Inc.

(Exact Name of Registrant as Specified in its Charter)

9620 Medical Center Drive

Suite 201

Rockville, Maryland 20850

(301) 294-9300

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

Mihael H. Polymeropoulos, M.D.

Chief Executive Officer

9620 Medical Center Drive

Suite 201

Rockville, Maryland 20850

(301) 294-9300

(Name, address, including zip code, and telephone number, including area code, of agent for service)

Copies to:

     Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this registration statement.

     If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended, check the following box. o

     If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o                       

     If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o                       

     If this form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o                       

CALCULATION OF REGISTRATION FEE

     The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until this Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

Subject to completion, dated                       , 2006

Prospectus

                                    shares

Common shares

This is our initial public offering of common shares. We are offering                      shares. The estimated initial public offering price is between $          and $           per share.

Currently, no public market exists for our common shares. We will apply to list our common shares on the Nasdaq National Market under the symbol VNDA.

We have granted the underwriters an option for a period of 30 days to purchase up to                     additional common shares.

Investing in our common shares involves a high degree of risk. See “Risk factors” beginning on page 8.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed on the adequacy or accuracy of this prospectus. Any representation to the contrary is a criminal offense.

Thomas Weisel Partners LLC

                    , 2006

Table of contents

You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with information different from that contained in this prospectus. We are offering to sell, and are seeking offers to buy, shares of common stock only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of the common stock.

For investors outside the United States: Neither we nor any of the underwriters have done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the United States. You are required to inform yourselves about and to observe any restrictions relating to this offering and the distribution of this prospectus.

“Vanda” is a trademark of Vanda Pharmaceuticals Inc. This prospectus may also include other registered and unregistered trademarks of Vanda Pharmaceuticals Inc. and other persons.

Unless the context otherwise requires, we use the terms “Vanda,” the “company,” “we,” “us” and “our” in this prospectus to refer to Vanda Pharmaceuticals Inc.

Prospectus summary

This summary highlights the most important features of this offering and the information contained elsewhere in this prospectus. This summary is not complete and does not contain all of the information that you should consider before investing in our common stock. You should read the entire prospectus carefully, especially the risks of investing in our common stock discussed under “Risk Factors” and our consolidated financial statements and related notes included in this prospectus.

Vanda Pharmaceuticals Inc.

We are a biopharmaceutical company focused on the development and commercialization of our portfolio of clinical-stage, small molecule product candidates for central nervous system disorders. We believe that each of these product candidates will be a differentiated new therapy that addresses a large market with significant unmet medical needs. Our product portfolio includes:

We hold exclusive, worldwide rights to these molecules and plan to develop a focused U.S. sales force for the commercialization of iloperidone and VSF-173. Given the large size of the prescribing physician base for insomnia and depression, we plan to partner with a global pharmaceutical company for the development and commercialization of VEC-162 worldwide.

Our founder and Chief Executive Officer, Mihael H. Polymeropoulos, M.D., commenced our operations early in 2003 after leading the Pharmacogenetics Department at Novartis AG. In acquiring and developing our compounds we have relied upon our deep expertise in pharmacogenetics and pharmacogenomics, or collectively, PG. PG is the scientific discipline that examines both genetic variations among people that influence response to a particular drug, and the multiple pathways through which drugs affect people. We believe that the combination of our PG and drug development expertise will provide us with preferential access to compounds discovered by other pharmaceutical companies, and may allow us to identify new uses for these compounds. These capabilities should also enable us to shorten the time it takes to commercialize a drug when compared to traditional approaches.

Iloperidone for Schizophrenia and Bipolar Disorder. We are developing iloperidone, an oral small molecule, for the treatment of schizophrenia and bipolar disorder. Today, schizophrenia patients are primarily treated with drugs known as “atypical” antipsychotics. While these drugs offer only modest and unpredictable efficacy and induce serious side effects, resulting in poor patient compliance, they achieved worldwide sales in excess of $13 billion in 2004. There remains a high degree of dissatisfaction with atypical antipsychotics among patients and physicians. A recent study conducted by the National Institute of Mental Health and published in The New England Journal of Medicine found that 74% of patients taking antipsychotics

In three short-term and three long-term trials comprising over 2,000 patients, iloperidone differentiated itself from currently available atypical antipsychotics by demonstrating a number of reduced side effects. These reduced side effects included low weight gain, no induction of diabetes, low extrapyramidal symptoms (involuntary body movements), including no akathisia (inability to sit still), no hyperprolactinemia (an elevated secretion of the hormone prolactin which can lead to sexual dysfunction, breast development and milk secretion in men and women), low incidence of sleepiness and low negative effects on cognition relative to placebo.

We are also differentiating iloperidone through the development of a four-week injectable depot formulation. We believe this depot formulation will help address the patient compliance and discontinuation problems commonly associated with atypical antipsychotics and will become a compelling complement to our oral formulation. The depot formulation has successfully completed a Phase I/IIa trial.

We are further differentiating iloperidone through the application of our PG expertise, by identifying genetic markers that may enable physicians to tailor their prescribing of iloperidone to certain patients. We have discovered that patients with a common genetic mutation, estimated to occur in approximately 70% of the population, may be more likely to experience better treatment results with iloperidone than other patients. We have also discovered that patients with an uncommon genetic attribute are at an elevated risk of QTc interval prolongation (a measurement of specific electrical activity in the heart as captured on an electrocardiogram, corrected for heart rate) while taking iloperidone. Our market research indicates that physicians treating schizophrenia patients would welcome a test that could provide this information and may prescribe iloperidone more frequently as a result.

We initiated a pivotal Phase III trial in November 2005 to evaluate iloperidone for the treatment of patients with schizophrenia. The trial is a randomized, double-blind, placebo- and active-controlled Phase III trial of approximately 600 patients with schizophrenia. Based on discussions with the United States Food and Drug Administration, or FDA, we believe that if this trial is successful our data and documentation on oral iloperidone will be sufficient to support the filing of a New Drug Application, or NDA, with the FDA. We expect the pivotal Phase III trial to be completed in the first half of 2007.

In addition to schizophrenia, we believe iloperidone may be effective in treating bipolar disorder. Most of the approved atypical antipsychotics have received approval for bipolar disorder subsequent to commercialization for the treatment of schizophrenia. Iloperidone is ready for an initial Phase II trial in bipolar disorder.

We expect to build our own sales force to market iloperidone directly to psychiatrists and other target physicians in the U.S. This medical community is relatively small and we believe that we can cost-effectively develop such a sales force. Outside of the U.S., we expect to find commercial partners for iloperidone.

VEC-162 for Insomnia and Depression. VEC-162 is an oral small molecule melatonin agonist entering Phase III trials for the treatment of insomnia. The market for sleep disorder drugs is large and growing, with over $3.5 billion of worldwide sales in 2004. Industry sources estimate that of the 73 million U.S. adults who suffer from some form of insomnia, only approximately 11 million currently receive treatment.

We recently completed a randomized, double-blind, multi-center, placebo-controlled Phase II trial evaluating the effect of VEC-162 on sleep in healthy volunteers with induced transient insomnia. The drug demonstrated statistically significant improvement in several parameters used to measure the efficacy of insomnia therapies, including reduced duration of wake after sleep onset, or WASO, improved sleep efficiency and shortened time to persistent sleep. In addition, VEC-162 demonstrated a statistically significant shift in patients’ circadian rhythm and a placebo-like side effect profile.

In addition to insomnia, we believe that VEC-162 may be effective in treating depression. VEC-162 has properties similar to agomelatine, an off-patent melatonin agonist, which in a Phase III trial demonstrated more rapid efficacy and reduced side effects when compared to a market-leading antidepressant. VEC-162 is ready for Phase II trials in depression, having demonstrated an antidepressant effect in animal models and having completed several Phase I trials.

VSF-173 for Excessive Daytime Sleepiness. VSF-173 is an oral small molecule that has demonstrated effects on animal sleep/ wake patterns and gene expression suggestive of a stimulant effect. As a result of these observations and safety data from previous human trials, we are planning to initiate a Phase II trial of VSF-173 in excessive daytime sleepiness in late 2006. Excessive daytime sleepiness is a rapidly growing market which is estimated to be approximately $440 million worldwide and is currently treated primarily by stimulants.

Strategy

Our goal is to create a leading biopharmaceutical company focused on developing and commercializing products that address critical unmet medical needs through the application of our drug development and PG expertise. The key elements of our strategy to accomplish this goal are to:

Risks associated with our business

Our business is subject to numerous risks, as more fully described in the section entitled “Risk factors” immediately following this prospectus summary. We may be unable, for many reasons,

Corporate information

We were incorporated in Delaware in November 2002. Our principal executive offices are located at 9620 Medical Center Drive, Rockville, Maryland, 20850 and our telephone number is (301) 294-9300. Our website address is www.vandapharma.com. The information on, or that can be accessed through, our website is not part of this prospectus.

Use of proceeds

We expect to use the net proceeds of this offering for working capital and for other general corporate purposes, including the funding of our clinical development efforts. See “Use of Proceeds.”

Proposed Nasdaq National Market symbol: VNDA

The number of shares of common stock to be outstanding after the offering is based on 150,739 shares of common stock outstanding as of September 30, 2005, and the assumed conversion of 40,081,308 shares of Preferred Stock outstanding on September 30, 2005 into Common Stock in connection with the closing of this offering. Except where we state otherwise, the number of shares of common stock to be outstanding after this offering does not take into account:

Finally, except, where we state otherwise, the information we present in this prospectus reflects:

The following tables summarize our consolidated financial data. The summary consolidated financial data is derived from our audited financial statements for the period from March 13, 2003 (inception) through December 31, 2003, and the year ended December 31, 2004. Data are also included from our unaudited financial statements for the nine-month periods ended September 30, 2004 and 2005. This data should be read together with our financial statements and related notes, “Selected Financial Data,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this prospectus. The pro forma balance sheet data contained in the following tables reflects the conversion of all outstanding shares of our preferred stock into common stock upon completion of this offering. The pro forma as adjusted balance sheet data contained in the following tables reflects the pro forma balance sheet data at September 30, 2005, adjusted for the sale of shares of our common stock in this offering at an assumed initial public offering price of $           per share (the mid-point of the price range set forth on the cover page of this prospectus), after deducting the estimated underwriting discounts, commissions and offering expenses payable by us, and the automatic conversion of all preferred stock into common stock upon completion of this offering.

(1) In September 2005, we completed the sale of an additional 15,040,654 shares of Series B Preferred Stock for proceeds of approximately $18.5 million. After evaluating the fair value of the common stock obtainable upon conversion by the stockholders, we determined that the issuance of the Series B Preferred Stock sold in September 2005 resulted in a beneficial conversion feature of approximately $18.5 million which was fully accreted in September 2005 and is recorded as a deemed dividend to preferred stockholders for the nine-month period ended September 30, 2005.

Risk factors

Investing in our common stock involves a high degree of risk. You should consider carefully the risks and uncertainties described below, together with all of the other information in this prospectus, including the consolidated financial statements and the related notes appearing at the end of this prospectus, before deciding to invest in shares of our common stock. If any of the following risks actually occurs, our business, financial condition, results of operations and future prospects would likely be materially and adversely affected. In that event, the market price of our common stock could decline and you could lose all or part of your investment.

Risks related to our business and industry

Our success is dependent on the success of our three product candidates in clinical development: iloperidone, VEC-162 and VSF-173. If any of these product candidates are determined to be unsafe or ineffective in humans, our business will be materially harmed.

We are uncertain whether any of our current product candidates in clinical development will prove effective and safe in humans or meet applicable regulatory standards. To date, the data supporting our product candidates is derived solely from laboratory and pre-clinical studies and limited clinical trials. However, for each of our product candidates we must provide the FDA and similar foreign regulatory authorities with more extensive clinical data for a defined indication of the product candidate before these regulatory authorities can approve the product candidate for commercial sale. Frequently, product candidates that have shown promising results in early clinical trials have suffered significant setbacks in later clinical trials. Future clinical trials involving our product candidates may reveal that those candidates are ineffective, are unacceptably toxic, have other undesirable side effects or are otherwise unfit for future development. It is impossible to predict when or if any of our product candidates will prove effective or safe in humans or will receive regulatory approval. If we are unable to discover and develop products that are effective and safe in humans, our business will be materially harmed.

Any failure or delay in completing clinical trials for our product candidates could severely harm our business.

Pre-clinical studies and clinical trials required to demonstrate the safety and efficacy of our product candidates are time-consuming and expensive and together take several years to complete. To date we have not completed the clinical testing of any of our product candidates. The completion of clinical trials for our product candidates may be delayed by many factors, including:

It is possible that none of our product candidates will complete clinical trials in any of the markets in which we intend to sell those product candidates. Accordingly, we may not receive the regulatory approvals needed to market our product candidates in any markets. Any failure or delay in commencing or completing clinical trials or obtaining regulatory approvals for our product candidates would severely harm our business.

We face heavy government regulation, and FDA regulatory approval of our products is uncertain.

The research, testing, manufacturing and marketing of drug products such as those that we are developing are subject to extensive regulation by federal, state and local government authorities, including the FDA. To obtain regulatory approval of a product, we must demonstrate to the satisfaction of the applicable regulatory agency that, among other things, the product is safe and effective for its intended use. In addition, we must show that the manufacturing facilities used to produce the products are in compliance with current Good Manufacturing Practices regulations, or cGMP.

The process of obtaining FDA and other required regulatory approvals and clearances will require us to expend substantial time and capital. Despite the time and expense expended, regulatory approval is never guaranteed. The number of pre-clinical and clinical tests that will be required for FDA approval varies depending on the drug candidate, the disease or condition that the drug candidate is in development for, and the regulations applicable to that particular drug candidate. The FDA can delay, limit or deny approval of a drug candidate for many reasons, including that:

For example, if certain of our methods for analyzing our trial data are not approved by the FDA, we may fail to obtain regulatory approval for our product candidates. We will be using a “mixed-method repeated measures” or “MMRM” statistical model to analyze data from our pivotal Phase III trial for iloperidone, as we believe that this model will reduce certain biases that can be associated with other statistical models. We have discussed the use of this statistical model with the FDA in an August 2005 guidance meeting, and they have agreed that the model is valid. However, to our knowledge, the MMRM statistical model has not been previously used as the primary basis for judging efficacy in a pivotal trial by the FDA. If the FDA does not approve of our findings based on the MMRM model, our clinical trial for iloperidone may not be successful.

Moreover, if and when our products do obtain such approval or clearances, the marketing, distribution and manufacture of such products would remain subject to extensive ongoing

Any delay or failure by us to obtain regulatory approvals for our product candidates could diminish competitive advantages that we may attain and would adversely affect the marketing of our products. We have not received regulatory approval to market any of our product candidates in any jurisdiction.

Even if we do receive regulatory approval for our drug candidates, the FDA may impose limitations on the indicated uses for which our products may be marketed, subsequently withdraw approval or take other actions against us or our products that are adverse to our business. The FDA generally approves products for particular indications. An approval for a more limited indication reduces the size of the potential market for the product. Product approvals, once granted, may be withdrawn if problems occur after initial marketing.

We also are subject to numerous federal, state and local laws, regulations and recommendations relating to safe working conditions, laboratory and manufacturing practices, the environment and the use and disposal of hazardous substances used in connection with our discovery, research and development work. In addition, we cannot predict the extent of government regulations or the impact of new governmental regulations that might significantly harm the discovery, development, production and marketing of our products. We may be required to incur significant costs to comply with current or future laws or regulations, and we may be adversely affected by the cost of such compliance.

We intend to seek regulatory approvals for our products in foreign jurisdictions, but we may not obtain any such approvals.

We intend to market our products outside the United States, either alone or with a commercial partner. In order to market our products in foreign jurisdictions, we may be required to obtain separate regulatory approvals and comply with numerous and varying regulatory requirements. The approval procedure varies among countries and jurisdictions and can involve additional testing, and the time required to obtain approval may differ from that required to obtain FDA approval. We have no experience with obtaining any such foreign approvals. Additionally, the foreign regulatory approval process may include all of the risks associated with obtaining FDA approval. For all of these reasons, we may not obtain foreign regulatory approvals on a timely basis, if at all. Approval by the FDA does not ensure approval by regulatory authorities in other countries or jurisdictions, and approval by one foreign regulatory authority does not ensure approval by regulatory authorities in other foreign countries or jurisdictions or by the FDA. We may not be able to file for regulatory approvals and may not receive necessary approvals to commercialize our products in any market. The failure to obtain these approvals could materially adversely affect our business, financial condition and results of operations.

Undesirable side effects caused by our product candidates could interrupt, delay or halt clinical trials and could result in the denial of regulatory approval by the FDA or other regulatory authorities for any or all targeted indications, and in turn prevent us from commercializing our product candidates and generating revenues from their sale. For example, like many other drugs in its class, iloperidone is associated with a prolongation of the heart’s QTc interval, which is a measurement of specific electrical activity in the heart as captured on an electrocardiogram, corrected for heart rate. A QTc interval that is significantly prolonged may result in an abnormal heart rhythm with adverse consequences including fainting, dizziness, loss of consciousness and death. No patient in any of iloperidone’s clinical trials was observed to have an interval that exceeded a 500 millisecond threshold of particular concern to the FDA. We will continue to assess the side effect profile of iloperidone and our other product candidates in our ongoing clinical development program.

In addition, if any of our product candidates receive marketing approval and we or others later identify undesirable side effects caused by the product, we could face one or more of the following:

Any of these events could prevent us from achieving or maintaining market acceptance of the affected product or could substantially increase the costs and expenses of commercializing the product candidate, which in turn could delay or prevent us from generating significant revenues from its sale.

Our product candidates may never achieve market acceptance even if we obtain regulatory approvals.

Even if we receive regulatory approvals for the sale of our product candidates, the commercial success of these products will depend on, among other things, their acceptance by physicians, patients, third-party payors and other members of the medical community as a therapeutic and cost-effective alternative to competing products and treatments. The degree of market acceptance of any of our product candidates will depend on a number of factors, including the demonstration of its safety and efficacy, its cost-effectiveness, its potential advantages over other therapies, the reimbursement policies of government and third-party payors with respect to the product candidate, and the effectiveness of our marketing and distribution capabilities. If our product candidates fail to gain market acceptance, we may be unable to earn sufficient revenue to continue our business. If our product candidates do not become widely accepted by physicians, patients, third-party payors and other members of the medical community, it is unlikely that we will ever become profitable.

Based on our current operating plans, and assuming the sale of            shares of our common stock in this offering at an initial public offering price of $           per share (the mid-point of the price range set forth on the cover page of this prospectus), we believe that the proceeds from this offering, together with our existing cash, restricted cash and cash equivalents, will be sufficient to meet our anticipated operating needs until mid-2007, and after that time we will require additional capital. We believe that if we sell the            shares of our common stock in this offering at an initial public offering price of $           per share ($1.00 lower than the mid-point of the price range set forth on the cover page), the resultant reduction in proceeds we receive from the offering would cause us to require additional capital earlier, in                     . In addition, in budgeting for our activities following this offering, we have relied on a number of assumptions, including assumptions that we will enroll approximately 600 patients in our pivotal Phase III iloperidone trial and approximately 300 patients in our VEC-162 pivotal Phase III trial for insomnia, that we will not engage in further business development activities, that we will not expend funds on the depot formulation of, or bipolar indication for, iloperidone or on a Phase II trial of VEC-162 for depression, that we will be able to continue the manufacturing of our product candidates at commercially reasonable prices, that we will be able to retain our key personnel, and that we will not incur any significant contingent liabilities. We may need to raise additional funds more quickly if one or more of our assumptions prove to be incorrect or if we choose to expand our product development efforts more rapidly than we presently anticipate, and we may decide to raise additional funds even before we need them if the conditions for raising capital are favorable. We may seek to sell additional equity or debt securities or obtain a bank credit facility. The sale of additional equity or debt securities, if convertible, could result in dilution to our stockholders. The incurrence of indebtedness would result in increased fixed obligations and could also result in covenants that would restrict our operations.

We cannot assure you that additional funds will be available when we need them on terms that are acceptable to us, or at all. If we are unable to secure sufficient capital to fund our research and development activities we may not be able to continue operations or we may have to enter into strategic collaborations that could require us to share commercial rights to our products to a greater extent or at earlier stages in the drug development process than we currently intend. Collaborations that are consummated by us prior to proof-of-efficacy and safety of a product candidate could impair our ability to realize value from that product candidate.

We have incurred operating losses in each year since our inception and expect to continue to incur substantial and increasing losses for the foreseeable future.

We have a limited operating history. We have not generated any revenue from product sales to date and we cannot estimate the extent of our future losses. We do not currently have any products that have been approved for commercial sale and we may never generate revenue from selling products or achieve profitability. We expect to continue to incur substantial and increasing losses for the foreseeable future, particularly as we increase our research and development, clinical trial and administrative activity. As a result, we are uncertain when or if we will achieve profitability and, if so, whether we will be able to sustain it. We have been

If our contract research organizations do not successfully carry out their duties or if we lose our relationships with contract research organizations, our drug development efforts could be delayed.

We are dependent on contract research organizations, third-party vendors and investigators for pre-clinical testing and clinical trials related to our drug discovery and development efforts and we will likely continue to depend on them to assist in our future discovery and development efforts. These parties are not our employees and we cannot control the amount or timing of resources that they devote to our programs. If they fail to devote sufficient time and resources to our drug development programs or if their performance is substandard, it will delay the approval of our products. The parties with which we contract for execution of our clinical trials play a significant role in the conduct of the trials and the subsequent collection and analysis of data. Their failure to meet their obligations could adversely affect clinical development of our products. Moreover, these parties may also have relationships with other commercial entities, some of which may compete with us. If they assist our competitors it could harm our competitive position.

If we lose our relationship with any one or more of these parties, we could experience a significant delay in both identifying another comparable provider and then contracting for its services. We may be unable to retain an alternative provider on reasonable terms, if at all. Even if we locate an alternative provider, it is likely that this provider may need additional time to respond to our needs and may not provide the same type or level of service as the original provider. In addition, any provider that we retain will be subject to current Good Laboratory Practices, or cGLP, and similar foreign standards and we do not have control over compliance with these regulations by these providers. Consequently, if these practices and standards are not adhered to by these providers, the development and commercialization of our product candidates could be delayed.

Materials necessary to manufacture our product candidates may not be available on commercially reasonable terms, or at all, which may delay the development, regulatory approval and commercialization of our product candidates.

We rely on the manufacturers of our product candidates to purchase from third-party suppliers the materials necessary to produce the compounds for our clinical trials. Suppliers may not sell these materials to our manufacturers at the time we need them or on commercially reasonable terms. We do not have any control over the process or timing of the acquisition of these materials by our manufacturers. Moreover, we currently do not have any agreements for the commercial production of these materials. If our manufacturers are unable to obtain these materials for our clinical trials, product testing and potential regulatory approval of our product candidates would be delayed, significantly affecting our ability to develop our product candidates. If our manufacturers or we are unable to purchase these materials after

We rely on a limited number of manufacturers for our product candidates and our business will be seriously harmed if these manufacturers are not able to satisfy our demand and alternative sources are not available.

We do not have an in-house manufacturing capability and depend completely on a small number of third-party manufacturers and active pharmaceutical ingredient formulators for the manufacture of our products. We do not have long-term agreements with any of these third parties, and if they are unable or unwilling to perform for any reason, we may not be able to locate alternative acceptable manufacturers or formulators or enter into favorable agreements with them. Any inability to acquire sufficient quantities of our compounds in a timely manner from these third parties could delay clinical trials and prevent us from developing our product candidates in a cost-effective manner or on a timely basis. In addition, manufacturers of our compounds are subject to cGMP and similar foreign standards and we do not have control over compliance with these regulations by our manufacturers. If one of our contract manufacturers fails to maintain compliance, the production of our product candidates could be interrupted, resulting in delays and additional costs. In addition, if the facilities of such manufacturers do not pass a pre-approval plant inspection, the FDA will not grant pre-market approval of our products.

Our manufacturing strategy presents the following additional risks:

We face substantial competition which may result in others developing or commercializing products before or more successfully than we do.

Our future success will depend on our ability to demonstrate and maintain a competitive advantage with respect to our product candidates and our ability to identify and develop additional products through the application of our PG expertise. Large, fully integrated pharmaceutical companies, either alone or together with collaborative partners, have substantially greater financial resources and have significantly greater experience than we do in:

We are also aware of other companies that may currently be engaged in the discovery and development of products and other therapies that will compete with the product candidates that we are developing. In addition, we expect to compete against current market-leading products in the markets that we are targeting.

We have no experience selling, marketing or distributing products and no internal capability to do so.

At present, we have no sales or marketing personnel. In order to commercialize any of our product candidates, we must either acquire or internally develop sales, marketing and distribution capabilities, or enter into collaborations with partners to perform these services for us. We may not be able to establish sales and distribution partnerships on acceptable terms or at all, and if we do enter into a distribution arrangement, our success will be dependent upon the performance of our partner. In the event that we attempt to acquire or develop our own in-house sales, marketing and distribution capabilities, factors that may inhibit our efforts to commercialize our products without strategic partners or licensees include:

We will need to increase the size of our organization, and we may experience difficulties in managing our growth.

As of September 30, 2005, we had 30 full-time employees. We will need to continue to expand our managerial, operational, financial and other resources in order to manage and fund our operations, continue our development activities and commercialize our product candidates. Our current personnel, systems and facilities are not adequate to support this future growth. To manage our growth, we must:

We may be unable to successfully implement these tasks on a larger scale and, accordingly, may not achieve our development and commercialization goals.

A component of our business strategy is acquiring rights to develop and commercialize compounds discovered or developed by other pharmaceutical and biotechnology companies for which we may find effective uses and markets by using our unique PG expertise. Competition for the acquisition of these compounds is intense. If we are not able to identify opportunities to acquire rights to commercialize additional products, we may not be able to develop a diverse portfolio of products and our business may be harmed. Additionally, it may take substantial human and financial resources to secure commercial rights to promising product candidates. Moreover, if other firms develop PG capabilities, we may face increased competition in identifying and acquiring additional product candidates.

If we lose key scientists or management personnel, or if we fail to recruit additional highly skilled personnel, it will impair our ability to identify, develop and commercialize product candidates.

We are highly dependent on principal members of our management team and scientific staff, including our Chief Executive Officer, Mihael H. Polymeropoulos, M.D. These executives each have significant pharmaceutical industry experience. The loss of any such executives, including Dr. Polymeropoulos, or any other principal member of our management team or scientific staff, would impair our ability to identify, develop and market new products.

Product liability lawsuits could divert our resources, result in substantial liabilities and reduce the commercial potential of our products.

The risk that we may be sued on product liability claims is inherent in the development of pharmaceutical products. For example, we face a risk of product liability exposure related to the testing of our product candidates in clinical trials and will face even greater risks upon any commercialization by us of our product candidates. We believe that we may be at a greater risk of product liability claims relative to other pharmaceutical companies because our compounds are intended to treat behavioral disorders, and it is possible that we may be held liable for the behavior and actions of patients who use our compounds. These lawsuits may divert our management from pursuing our business strategy and may be costly to defend. In addition, if we are held liable in any of these lawsuits, we may incur substantial liabilities and may be forced to limit or forego further commercialization of one or more of our products. Although we maintain general liability and product liability insurance, this insurance may not fully cover potential liabilities. In addition, inability to obtain or maintain sufficient insurance coverage at an acceptable cost or otherwise to protect against potential product liability claims could prevent or inhibit the commercial production and sale of our products.

Legislative or regulatory reform of the healthcare system in the U.S. and foreign jurisdictions may affect our ability to sell our products profitably.

The continuing efforts of the U.S. and foreign governments, insurance companies, managed care organizations and other payors of health care services to contain or reduce health care costs may adversely affect our ability to set prices for our products which we believe are fair, and our ability to generate revenues and achieve and maintain profitability.

Specifically, in both the United States and some foreign jurisdictions there have been a number of legislative and regulatory proposals to change the healthcare system in ways that could

In some foreign countries, including major markets in the European Union and Japan, the pricing of prescription pharmaceuticals is subject to governmental control. In these countries, pricing negotiations with governmental authorities can take six to twelve months or longer after the receipt of regulatory marketing approval for a product. To obtain reimbursement or pricing approval in some countries, we may be required to conduct a clinical trial that compares the cost-effectiveness of our product candidate to other available therapies. If reimbursement of our products is unavailable or limited in scope or amount or if pricing is set at unsatisfactory levels, our business could be materially harmed.

Our quarterly operating results may fluctuate significantly.

We expect our operating results to be subject to quarterly fluctuations. The revenues we generate, if any, and our operating results will be affected by numerous factors, including:

If our quarterly operating results fall below the expectations of investors or securities analysts, the price of our common stock could decline substantially. Furthermore, any quarterly fluctuations in our operating results may, in turn, cause the price of our stock to fluctuate substantially. We believe that quarterly comparisons of our financial results are not necessarily meaningful and should not be relied upon as an indication of our future performance.

Our rights to develop and commercialize our product candidates are subject in part to the terms and conditions of licenses or sublicenses granted to us by other pharmaceutical companies. With respect to VEC-162 and VSF-173, these terms and conditions include options in favor of these pharmaceutical companies to reacquire rights to commercialize and develop these product candidates in certain circumstances.

Iloperidone is based in part on patents and other intellectual property owned by Sanofi-Aventis and Novartis. Titan Pharmaceuticals, Inc. holds an exclusive license from Sanofi-Aventis to the intellectual property owned by Sanofi-Aventis, and Titan has sublicensed its rights under such license on an exclusive basis to Novartis. We have acquired exclusive rights to this intellectual property through a further sublicense from Novartis. Our rights with respect to this intellectual property to develop and commercialize iloperidone may terminate, in whole or in part, if we fail to meet certain milestones contained in our sublicense agreement with Novartis. We may also lose our rights to develop and commercialize iloperidone if we fail to pay royalties to Novartis, if we fail to comply with certain requirements in the sublicense regarding our financial condition, or if we fail to comply with certain restrictions regarding our other development activities. Finally, our rights to develop and commercialize iloperidone may be impaired if we do not cure breaches by Novartis and Titan of similar obligations contained in these sublicense and license agreements. In the event of an early termination of our sublicense agreement, all rights licensed and developed by us under this agreement may be extinguished, which would have a material adverse effect on our business.

VEC-162 is based in part on patents and other intellectual property that we have licensed on an exclusive basis from Bristol-Myers Squibb (BMS). Following the completion of our Phase III program for VEC-162, and in the event that we have not entered into a development and commercialization agreement with a third party covering significant markets, BMS has retained an option to reacquire the rights it has licensed to us to develop and commercialize VEC-162, subject to BMS’ payment of pre-determined royalties and milestone payments to us. Additionally, BMS may terminate our license if we fail to meet certain milestones or if we otherwise breach our royalty or other obligations in the agreement. In the event that BMS terminates our license due to our breach, all of our material rights to VEC-162 (including intellectual property we develop with respect to VEC-162) will revert back to BMS. Any termination or reversion of our rights to develop or commercialize VEC-162, including any reacquisition by BMS of our rights, may have a material adverse effect on our business.

VSF-173 is based in part on patents and other intellectual property that we have licensed on an exclusive basis from Novartis. Novartis has the option to reacquire rights to co-develop and exclusively commercialize VSF-173 following the completion of the Phase II clinical trials, and an additional option to reacquire exclusive commercialization rights following the completion of the Phase III clinical trials, subject in each case to Novartis’ payment of pre-determined royalties and other payments to us. In the event that Novartis chooses not to exercise either of these options and we decide to enter into a partnering arrangement to help us commercialize VSF-173, Novartis has a right of first refusal to negotiate such an agreement with us, as well as a right to submit a last matching counteroffer regarding such an agreement. In addition, our rights with respect to VSF-173 may terminate, in whole or in part, if we fail to meet certain development and commercialization milestones described in our license agreement, if we fail to make royalty or milestone payments or if we do not comply with requirements in our license agreement regarding our financial condition. In the event of an early termination of our license agreement, all rights licensed and developed by us under this agreement may revert

If our efforts to protect the proprietary nature of the intellectual property related to our products are not adequate, we may not be able to compete effectively in our markets.

In addition to the rights we have licensed from Novartis and BMS relating to our product candidates, we rely upon intellectual property we own relating to our products, including patents, patent applications and trade secrets. As of September 30, 2005 we owned 10 pending patent applications in the United States and one pending Patent Cooperation Treaty application, which permits the pursuit of patents outside of the United States, relating to our product candidates in clinical development. Our patent applications may be challenged or fail to result in issued patents and our existing or future patents may be too narrow to prevent third parties from developing or designing around these patents. In addition, we rely on trade secret protection and confidentiality agreements to protect certain proprietary know-how that is not patentable, for processes for which patents are difficult to enforce and for any other elements of our drug development processes that involve proprietary know-how, information and technology that is not covered by patent applications. While we require all of our employees, consultants, advisors and any third parties who have access to our proprietary know-how, information and technology to enter into confidentiality agreements, we cannot be certain that this know-how, information and technology will not be disclosed or that competitors will not otherwise gain access to our trade secrets or independently develop substantially equivalent information and techniques. Further, the laws of some foreign countries do not protect proprietary rights to the same extent as the laws of the United States. As a result, we may encounter significant problems in protecting and defending our intellectual property both in the United States and abroad. If we are unable to prevent material disclosure of the intellectual property related to our technologies to third parties, we will not be able to establish or maintain a competitive advantage in our market.

If we do not obtain protection under the Hatch-Waxman Act and similar foreign legislation to extend our patents and to obtain market exclusivity for our product candidates, our business will be materially harmed.

The United States Drug Price Competition and Patent Term Restoration Act of 1984, more commonly known as the “Hatch-Waxman Act,” provides for an extension of patent protection for drug compounds for a period of up to five years to compensate for time spent in development. Assuming we gain a five-year extension for each of our current product candidates in clinical development, and that we continue to have rights under our sublicense and license agreements with respect to these product candidates, we would have exclusive rights to iloperidone’s United States NCE patent until 2016, to VEC-162’s United States NCE patent until 2022 and to VSF-173’s United States NCE patent until 2019. In Europe, similar legislative enactments allow patent protection in the European Union to be extended for up to five years through the grant of a Supplementary Protection Certificate. Assuming we gain such a five-year extension for each of our current product candidates in clinical development, and that we continue to have rights under our sublicense and license agreements with respect to these product candidates, we would have exclusive rights to iloperidone’s European NCE patents until 2015, to VEC-162’s European NCE patents until 2022 and to VSF-173’s European NCE patents until 2017. Additionally, a recent directive in the European Union provides that companies who receive regulatory approval for a new compound will have a 10-year period of

Litigation or third-party claims of intellectual property infringement could require us to divert resources and may prevent or delay our drug discovery and development efforts.

Our commercial success depends in part on our not infringing the patents and proprietary rights of third parties. Third parties may assert that we are employing their proprietary technology without authorization. In addition, third parties may obtain patents in the future and claim that use of our technologies infringes upon these patents. Furthermore, parties making claims against us may obtain injunctive or other equitable relief, which could effectively block our ability to develop and commercialize one or more of our product candidates. Defense of these claims, regardless of their merit, would divert substantial financial and employee resources from our business. In the event of a successful claim of infringement against us, we may have to pay substantial damages, obtain one or more licenses from third parties or pay royalties. In addition, even in the absence of litigation, we may need to obtain additional licenses from third parties to advance our research or allow commercialization of our product candidates. We may fail to obtain any of these licenses at a reasonable cost or on reasonable terms, if at all. In that event, we would be unable to develop and commercialize further one or more of our product candidates.

In addition, in the future we could be required to initiate litigation to enforce our proprietary rights against infringement by third parties. Prosecution of these claims to enforce our rights against others could divert substantial financial and employee resources from our business. If we fail to enforce our proprietary rights against others, our business will be harmed.

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

Our research and development activities involve the controlled use of potentially hazardous substances, including toxic chemical and biological materials. In addition, our operations produce hazardous waste products. Federal, state and local laws and regulations govern the use, manufacture, storage, handling and disposal of these hazardous materials. While we believe that we are currently in compliance with these laws and regulations, continued compliance may be expensive, and current and future environmental regulations may impair our research, development and manufacturing efforts. In addition, if we fail to comply with these laws and regulations at any point in the future, we may be subject to criminal sanctions and substantial civil liabilities and could be required to suspend or modify our operations.

Even if we continue to comply with all applicable laws and regulations regarding hazardous materials, we cannot eliminate the risk of accidental contamination or discharge and our resultant liability for any injuries or other damages caused by these accidents. Although we

Risks related to this offering

Our stock price may be extremely volatile and you may not be able to resell your shares at or above the initial public offering price.

Prior to this offering, there has been no public market for our common stock. Negotiations between the underwriters and us will determine the initial public offering price. This price may not be indicative of future market prices. In addition, the stock market has from time to time experienced significant price and volume fluctuations, and the market prices of the securities of life sciences companies without product revenues, such as ours, have been highly volatile.

The following factors, in addition to the other risk factors described in this section, may also have a significant impact on the market price of our common stock:

As a result of these factors, after this offering you might be unable to resell your shares at or above the initial public offering price.

An active trading market for our common stock may not develop.

Prior to this offering, there has been no public market for our common stock. Although we anticipate that our common stock will be approved for listing on The Nasdaq National Market, an active trading market for our shares may never develop or be sustained following this offering. The initial public offering price for our common stock will be determined through negotiations with the underwriters. This initial public offering price may vary from the market price of our common stock after the offering. Investors may not be able to sell their common stock at or above the initial public offering price.

A substantial number of shares of our common stock could be sold into the public market shortly after this offering, which could depress our stock price.

The market price of our common stock could decline as a result of sales by our existing stockholders of shares of common stock in the market after this offering or the perception that these sales could occur. Once a trading market develops for our common stock, many of our stockholders will have an opportunity to sell their stock for the first time. These factors could also make it difficult for us to raise additional capital by selling stock. Please see the section entitled “Shares eligible for future sale” for more information regarding these factors.

We estimate that the initial public offering price of our common stock will be $           per share. This amount is substantially higher than the pro forma as adjusted net tangible book value that our outstanding common stock will have immediately after this offering. Accordingly, if you purchase shares of our common stock at the assumed initial public offering price, you will incur immediate and substantial dilution of $           per share. If the holders of outstanding options or warrants exercise those options or warrants, you will suffer further dilution.

Our management will have broad discretion over the use of the proceeds we receive in this offering and might not apply the proceeds in ways that increase the value of your investment.

Our management will have broad discretion to use the net proceeds from this offering, and you will be relying on the judgment of our management regarding the application of these proceeds. They might not apply the net proceeds of this offering in ways that increase the value of your investment. We expect to use the net proceeds from this offering for general corporate purposes, including working capital and capital expenditures, further clinical development of our current product candidates and possible investments in, or acquisitions of, new product candidates. We have not allocated these net proceeds for any specific purposes. Our management might not be able to yield any return on the investment and use of these net proceeds. You will not have the opportunity to influence our decisions on how to use the proceeds.

If securities or industry analysts do not publish research or reports or publish unfavorable research about our business, our stock price and trading volume could decline.

The trading market for our common stock will depend in part on the research and reports that securities or industry analysts publish about us or our business. We do not currently have and may never obtain research coverage by securities and industry analysts. If no securities or industry analysts commence coverage of our company, the trading price for our stock would be negatively affected. In the event we obtain securities or industry analyst coverage, if one or more of the analysts who covers us downgrades our stock, our stock price would likely decline. If one or more of these analysts ceases to cover us or fails to publish regular reports on us, interest in the purchase of our stock could decrease, which could cause our stock price or trading volume to decline.

We will incur increased costs as a result of being a public company.

As a public company, we will incur significant legal, accounting, reporting and other expenses that we did not incur as a private company. We expect these rules and regulations to increase our legal and financial compliance costs and to make some activities more time-consuming and costly. We also expect these new rules and regulations may make it more difficult and more expensive for us to obtain director and officer liability insurance and we may be required to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. As a result, we may experience more difficulty attracting and retaining qualified individuals to serve on our board of directors or as executive officers. We cannot predict or estimate the amount of additional costs we may incur as a result of these requirements or the timing of such costs.

Upon completion of this offering, executive officers, key employees and directors and their affiliates will beneficially own, in the aggregate, approximately           % of our outstanding common stock. As a result, these stockholders will be able to exercise significant influence over all matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions, which could have the effect of delaying or preventing a third party from acquiring control over us. For information regarding the ownership of our outstanding stock by our executive officers and directors and their affiliates, please see “Principal stockholders.”

Anti-takeover provisions in our charter and bylaws, and in Delaware law, could prevent or delay a change in control of our company.

We are a Delaware corporation and the anti-takeover provisions of the Delaware General Corporation Law may discourage, delay or prevent a change in control by prohibiting us from engaging in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder, even if a change of control would be beneficial to our existing stockholders. For more information, see “Description of capital stock—Anti-takeover effects of provisions of our amended and restated certificate of incorporation, bylaws and Delaware law.” In addition, our amended and restated certificate of incorporation and by laws may discourage, delay or prevent a change in our management or control over us that stockholders may consider favorable. Our amended and restated certificate of incorporation and bylaws, which will be in effect as of the closing of this offering:

For information regarding these and other provisions, please see “Description of capital stock.”

As of September 30, 2005, we had substantial federal and state net operating loss carryforwards. Under the provisions of the Internal Revenue Code, substantial changes in our ownership may limit the amount of net operating loss carryforwards that can be utilized annually in the future to offset taxable income. We believe that, as a result of this offering, it is possible that a change in our ownership will be deemed to have occurred. If such a change in our ownership occurs, our ability to use our net operating loss carryforwards in any fiscal year may be significantly limited under these provisions.

Forward-looking statements

This prospectus includes “forward-looking statements,” as defined by federal securities laws, with respect to our financial condition, results of operations and business, and our expectations or beliefs concerning future events, including increases in operating margins. Words such as, but not limited to, “believe,” “expect,” “anticipate,” “estimate,” “intend,” “plan,” “targets,” “likely,” “will,” “would,” “could,” and similar expressions or phrases identify forward-looking statements.

All forward-looking statements involve risks and uncertainties. The occurrence of the events described, and the achievement of the expected results, depend on many events, some or all of which are not predictable or within our control. Actual results may differ materially from expected results. Factors that may cause actual results to differ from expected results include, among others:

All future written and verbal forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this section. We undertake no obligation, and specifically decline any obligation, to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this prospectus might not occur.

See the section entitled “Risk factors” for a more complete discussion of these and other risks and uncertainties. The risk factors described in this prospectus are not necessarily all of the important factors that could cause actual results to differ materially from those expressed in any of our forward-looking statements. Other unknown or unpredictable factors also could affect our results. Consequently, there can be no assurance that the actual results or developments anticipated by us will be realized or, even if substantially realized, that they will have the expected consequences to, or effects on, us. Given these uncertainties, prospective investors are cautioned not to place undue reliance on such forward-looking statements.

Use of proceeds

We estimate that we will receive approximately $           million in net proceeds from the sale of our common stock in this offering, based on an assumed initial public offering price of $           per share (the midpoint of the initial public offering price range) and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us. A $1.00 increase (decrease) in the assumed initial public offering price of $           per share would increase (decrease) the net proceeds to us from this offering by $           million, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us. Our net proceeds will increase by approximately $           million if the underwriters’ over-allotment option is exercised in full.

We currently intend to use $           million of the estimated net proceeds from this offering for research, pre-clinical development and clinical trials. The balance of such net proceeds will be used for general corporate purposes, including working capital and the acquisition of pharmaceutical products and businesses that are complementary to our own. Currently, we have no specific plans or commitments with respect to any acquisition. We cannot assure you that we will complete any acquisitions or that, if completed, any acquisition will be successful.

The amount and timing of our actual expenditures will depend on numerous factors, including the progress of our research and development activities and clinical trials, the number and breadth of our product development programs, our ability to establish and maintain corporate collaborations and other arrangements and the amount of cash, if any, generated by our operations.

We will retain broad discretion in the allocation and use of the remaining net proceeds of this offering. Pending application of the net proceeds, as described above, we intend to invest any remaining proceeds in short-term, investment-grade, interest-bearing securities.

Dividend policy

We have never declared or paid any dividends on our capital stock. We currently intend to retain any future earnings to finance our research and development efforts, the further development of our PG expertise and the expansion of our business and do not intend to declare or pay cash dividends on our common stock in the foreseeable future. Any future determination to pay dividends will be at the discretion of our board of directors and will depend upon results of operations, financial condition, contractual restrictions, restrictions imposed by applicable law and other factors our board of directors deems relevant.

Capitalization

The following table sets forth the following information:

This table excludes the following shares:

See “Management— Employee benefit plans,” and Note 10 of “Notes to consolidated financial statements” for a description of our equity plans.

(1) A $1.00 increase (decrease) in the assumed initial public offering price of $        per share would increase (decrease) each of additional paid-in capital, total stockholders’ equity and total capitalization by $        million, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

Dilution

If you invest in our common stock in this offering, your interest will be diluted to the extent of the difference between the public offering price per share of our common stock and the pro forma net tangible book value per share of our common stock after this offering.

As of September 30, 2005, our net tangible book value was approximately $21.5 million, or $142.54 per share of common stock. Our net tangible book value per share represents the amount of our total tangible assets reduced by the amount of our total liabilities, divided by the number of shares of our common stock outstanding as of September 30, 2005, before giving effect to any conversion of our preferred stock into common stock. Our pro forma net tangible book value as of September 30, 2005 was approximately $21.5 million, or $0.53 per share of common stock. Our pro forma net tangible book value per share represents the amount to our total tangible assets reduced by the amount of our total liabilities, divided by the total number of shares of our common stock outstanding as of September 30, 2005, after giving effect to the conversion of our preferred stock into common stock upon completion of this offering. After giving effect to our sale in this offering of                      shares of our common stock at an assumed initial public offering price of $          per share (the midpoint of the price range set forth on the cover page of this prospectus) and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us, our pro forma net tangible book value as of September 30, 2005 would have been $           million, or $          per share of our common stock. This represents an immediate increase of net tangible book value of $           per share to our existing stockholders and an immediate dilution of $           per share to investors purchasing shares in this offering.

The following table illustrates this per share dilution:

A $1.00 increase (decrease) in the assumed initial public offering price of $           per share would increase (decrease) our pro forma net tangible book value per share after this offering by $           per share and the dilution in pro forma net tangible book value per share to investors in this offering by $           per share, assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

If the underwriters exercise their option to purchase additional shares of our common stock in full in this offering, the pro forma net tangible book value per share after the offering would be $           per share, the increase in pro forma net tangible book value per share to existing

The following table presents on a pro forma basis as of September 30, 2005, after giving effect to the conversion of all outstanding shares of preferred stock into common stock upon completion of this offering, the differences between the existing stockholders and the purchasers of shares in the offering with respect to the number of shares purchased from us, the total consideration paid and the average price paid per share:

(1) A $1.00 increase (decrease) in the assumed initial public offering price of $        per share would increase (decrease) the amount of total consideration to $               .

The discussion and the tables above assume no exercise of stock options or warrants outstanding on September 30, 2005 and no issuance of shares reserved for future issuance under our equity compensation plans. In addition, the numbers set forth in the table above reflect the conversion of all shares of our outstanding preferred stock into shares of common stock upon completion of this offering. As of September 30, 2005, there were:

If the underwriters’ over-allotment option is exercised in full, the following will occur:

Selected consolidated financial data

The consolidated statements of operations data for the period of March 13, 2003 (inception) to December 31, 2003 and the year ended December 31, 2004 and the consolidated balance sheet data at December 31, 2003 and 2004 are derived from our audited consolidated financial statements included in this prospectus. The consolidated statements of operations data for the nine months ended September 30, 2004 and 2005, and the consolidated balance sheet data at September 30, 2004 and September 30, 2005, are each derived from our unaudited consolidated financial statements included in this prospectus. The unaudited consolidated financial statements include, in the opinion of management, all adjustments, consisting of only recurring adjustments, that management considers necessary for the fair presentation of the financial information set forth in those statements. The historical results are not necessarily indicative of the results to be expected in future periods.

The following data should be read together with our consolidated financial statements and accompanying notes and the section entitled “Management’s discussion and analysis of financial condition and results of operations” included in this prospectus.

(1) In September 2005, we completed the sale of an additional 15,040,654 shares of Series B Preferred Stock for proceeds of approximately $18.5 million. After evaluating the fair value of our common stock obtainable upon conversion by the stockholders, we determined that the issuance of the Series B Preferred Stock sold in September 2005 resulted in a beneficial

Management’s discussion and analysis of financial condition

and results of operations

You should read the following discussion and analysis of our financial condition and results of operations together with “Selected Financial Data” and our consolidated financial statements and related notes appearing at the end of this prospectus. Some of the information contained in this discussion and analysis or set forth elsewhere in this prospectus include historical information and other information with respect to our plans and strategy for our business and contain forward-looking statements that involve risk, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including but not limited to those set forth under the “Risk factors” section of this prospectus and elsewhere in this prospectus.

Overview

Since we began our operations in March 2003, we have devoted substantially all of our resources to the in-licensing and clinical development of small molecule therapeutics for various central nervous system disorders. Our lead product candidate, iloperidone, is an atypical antipsychotic for the treatment of schizophrenia and bipolar disorder and is in a pivotal Phase III trial for schizophrenia. Our second product candidate, VEC-162, is a melatonin agonist for the treatment of insomnia and depression which is entering a pivotal Phase III trial for insomnia. VEC-162 is also ready for Phase II trials for the treatment of depression. Our third product candidate, VSF-173, is a compound for the treatment of excessive daytime sleepiness and is ready for a Phase II trial.

We expect to complete our pivotal Phase III trial for iloperidone in the first half of 2007. If this trial is successful, we will file an NDA for approval with the FDA later that year. We recently generated positive efficacy and safety data in a Phase II trial of VEC-162 for insomnia and expect to begin a Phase III trial early in 2006. We also expect to begin a Phase II trial of VSF-173 for excessive daytime sleepiness in the second half of 2006. Assuming successful outcomes of our clinical trials and approval by the FDA, we expect to commercialize iloperidone and VSF-173 with our own sales force in the U.S. and expect to commercialize VEC-162 through a strategic partnership with a global pharmaceutical company.

Based on our current operating plans, and assuming the sale of            shares of our common stock in this offering at an initial public offering price of $           per share (the mid-point of the price range set forth on the cover page of this prospectus), we believe that the proceeds from this offering, together with our existing cash, restricted cash and cash equivalents, will be sufficient to meet our anticipated operating needs until mid-2007, and after that time we will require additional capital. We believe that if we sell the            shares of our common stock in this offering at an initial public offering price of $           per share ($1.00 lower than the mid-point of the price range set forth on the cover page), the resultant reduction in proceeds we receive from the offering would cause us to require additional capital earlier, in           . In addition, in budgeting for our activities following this offering, we have relied on a number of assumptions, including assumptions that we will enroll approximately 600 patients in our pivotal Phase III iloperidone trial and approximately 300 patients in our VEC-162 pivotal Phase III trial for insomnia, that we will not engage in further business development activities, that we will not expend funds on the depot formulation of, or bipolar indication for, iloperidone or on a Phase II trial of VEC-162 for depression, that we will be able to continue the manufacturing of our product candidates at commercially reasonable prices, that we will

In March and June 2004 we entered into separate license agreements with Novartis and Bristol-Myers Squibb for the exclusive rights to develop and commercialize our three compounds in clinical development. In consideration for these rights, we paid a $500,000 non-refundable fee for each of the compounds. We are also obligated to make additional payments upon the achievement of specific clinical and commercial milestones, as well as the payment of product royalties based on the net sales of the licensed products. The amount, timing and likelihood of these potential payments will depend on the occurrence of future events that may or may not occur, such as the approval by the FDA for the sale of one or more of our product candidates.

Revenues. We have generated some revenue under research and development contracts that were derived principally from consulting agreements we entered into during our start-up phase to defray research costs. We completed our obligations under these agreements and no longer seek such arrangements.

We have not generated any other operating revenue since our inception. Any revenue that we may receive in the near future is expected to consist primarily of license fees, milestone payments and research and development reimbursement payments to be received from partners. If our development efforts result in clinical success, regulatory approval and successful commercialization of our products, we could generate revenue from sales of our products and from receipt of royalties on sales of licensed products.

Research and development expenses. We expect our research and development expenses to increase as we continue to develop our product candidates. These expenses consist primarily of fees paid to third-party professional service providers in connection with the services they provide for our clinical trials, costs of contract manufacturing services, costs of materials used in clinical trials and research and development, depreciation of capital resources used to develop our products, and all related facilities costs. We expense research and development costs as incurred, including payments made to date under our license agreements. We believe that significant investment in product development is a competitive necessity and plan to continue these investments in order to realize the potential of our product candidates and PG expertise. From inception through September 30, 2005, we incurred research and development expenses in the aggregate of approximately $21.1 million, including stock-based compensation expenses of approximately $660,000. We expect to incur licensing costs in the future that could be substantial, as we continue our efforts to evaluate potential in-license product candidates.

(1) Many of our research and development costs are not attributable to any individual project because we share resources across several development projects. We record direct costs, including personnel costs and related benefits and stock-based compensation, on a project-by-project basis. We record indirect costs that support a number of our research and development activities in the aggregate.

(2) In 2003, there were no active development programs in process for our product candidates listed in the table.

(3) In 2003, all facility-related costs were allocated to general and administrative expenses.

We have allocated $           million of the proceeds of this offering for research and development, including pre-clinical development and clinical trials. Conducting clinical trials is a time-consuming and expensive process. Currently, iloperidone is in a pivotal Phase III trial, and VEC-162 is anticipated to begin pivotal Phase III trials early in 2006. VSF-173 may enter Phase II clinical trials in late 2006. The commencement and rate of completion of clinical trials for our products may be delayed by many factors, including, but not limited to:

General and administrative expenses. General and administrative expenses consist primarily of salaries and other related costs for personnel serving executive, finance, accounting, information technology and human resource functions. Other costs include facility costs not otherwise included in research and development expense and professional fees for legal and accounting services. We expect that our general and administrative expenses will increase as we add personnel and become subject to the reporting obligations applicable to public companies. From inception through September 30, 2005, we incurred expenses in the aggregate of approximately $8.8 million, including stock-based compensation expenses of approximately $3.4 million, on general and administrative expenses.

Stock-based compensation. We have recorded deferred stock-based compensation expense in connection with the grant of stock options to employees. Deferred stock-based compensation for options granted to employees is the difference between the fair value for financial reporting purposes of our common stock on the date such options were granted and their exercise price. We recorded deferred stock-based compensation and additional paid-in capital of approximately $281,000 in the aggregate and approximately $13.1 million in the aggregate in the year ended December 31, 2004 and the nine months ended September 30, 2005, respectively, related to stock options granted to employees. These amounts were recorded as a component of stockholders’ equity and are being amortized as charges to operations over the vesting periods of the options. We recorded amortization of deferred stock-based compensation of approximately $23,000 and approximately $567,000 for the year ended December 31, 2004 and the nine month period ended September 30, 2005, respectively. For options granted to employees through September 30, 2005, we expect to record additional amortization of deferred stock-based compensation in the following approximate amounts: $828,000 during the remainder of 2005, $3.3 million in 2006, $3.3 million in 2007, $3.3 million in 2008 and $2.0 million in 2009.

In August 2004, we approved a modification to an employee’s stock option awards at time of employment termination. The modification was to accelerate a portion of the unvested stock options so the shares could be immediately exercisable. According to FASB Interpretation No. 44, “Accounting for Certain Transactions involving Stock Compensation” (FIN 44), the result of such a modification is to remeasure the stock options that were modified. The remeasurement of the stock options resulted in an immediate charge of approximately $15,000, which was included in general and administrative expense for the year ended December 31, 2004.

According to EITF 00-23, “Issues Related to the Accounting for Stock Compensation under APB Opinion No. 25 and FASB Interpretation No. 44, ” FASB Interpretation No. 28, “Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award Plans and interpretation of APB Opinions No. 15 and 25” (FIN 28), is required for variable awards. FIN 28 specifies that compensation should be measured at the end of each period as the amount by which the quoted market value of the shares of the enterprises’s stock covered by the grant exceeds the option price or value specified under the plan and that amount should be accrued as a charge to expense over the periods the employee performs the related services.

During the quarter ended December 31, 2005, the board of directors granted additional options to purchase up to 1.4 million shares of common stock to employees. We will record deferred stock-based compensation and additional paid-in capital of approximately $5.9 million in the fourth quarter of 2005 for options granted to employees, which will be amortized as charges to operations over the vesting periods for the options. For options granted to employees during the fourth quarter of 2005, we expect to record approximate additional amortization of deferred stock-based compensation in the following approximate amounts: $152,000 during the remainder of 2005, $1.5 million in 2006, 2007, and 2008 and $1.3 million in 2009.

We believe that the adoption of FAS 123R in the beginning of 2006 will have an effect on the additional amortization of deferred stock-based compensation for future periods, but we do not know the specific impact of the adoption because we have not determined which transition method we will adopt.

Beneficial conversion feature. In September 2005, we completed the sale of an additional 15,040,654 shares of Series B Preferred Stock for proceeds of approximately $18.5 million. After evaluating the fair value of our common stock obtainable upon conversion by the stockholders, we determined that the issuance of the Series B Preferred Stock sold in September 2005 resulted in a beneficial conversion feature calculated in accordance with EITF Issue No. 98-5, “Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios,” as interpreted by EITF Issue No. 00-27, “Application of Issue No. 98-5 to Certain Convertible Instruments,” of approximately $18.5 million which was fully accreted in September 2005 and is recorded as a deemed dividend to preferred stockholders for the nine-month period ended September 30, 2005.

Interest and other income, net. Interest income consists of interest earned on our cash, restricted cash and cash equivalents and short-term investments. Interest expense consists of interest incurred on equipment debt. Other expense consists of cumulative foreign currency translation adjustments related to our wholly owned foreign subsidiary located in Singapore.

We have a limited history of operations. We anticipate that our quarterly results of operations will fluctuate for the foreseeable future due to several factors, including any possible payments made or received pursuant to licensing or collaboration agreements, progress of our research and development efforts, and the timing and outcome of clinical trials and related possible regulatory approvals. Our limited operating history makes predictions of future operations difficult or impossible. Since our inception, we have incurred significant losses. As of September 30, 2005, we had a deficit accumulated during the development stage of approximately $29.5 million. We anticipate incurring additional losses, which may increase, for the foreseeable future.

Results of operations

Nine months ended September 30, 2005 compared to nine months ended September 30, 2004

Revenues. Revenues decreased approximately $34,000 for the nine months ended September 30, 2005 to zero. Revenue earned in 2004 was derived principally from consulting agreements we entered into during our start-up phase under research and development contracts. We have completed its obligations under these agreements and will not recognize any related contract revenue in 2005.

Research and development expenses. Research and development expenses increased by approximately $6.6 million, or 131%, to approximately $11.6 million for the nine months ended September 30, 2005 compared to approximately $5.0 million for the nine months ended September 30, 2004. Research and development expense consists of direct costs which include salaries and related costs of research and development personnel, and the costs of consultants, materials and supplies associated with research and development projects, as well as clinical activities. Indirect research and development costs include facilities, depreciation, and other indirect overhead costs.

Direct costs increased approximately $6.8 million as a result of approximate increases of $3.7 million, $3.2 million and $0.2 million, respectively, relating to clinical development activities for iloperidone, VEC-162 and VSF-173. During the nine months ended September 30, 2005, we conducted additional clinical development and manufacturing work on iloperidone as we prepared for its pivotal Phase III trial. We also conducted a Phase II clinical trial for VEC-162. Personnel, benefits and related costs increased approximately $637,000 for the nine months ended September 30, 2005 due to an increase in personnel to support the development and clinical trial activities for iloperidone and VEC-162. Stock-based compensation expense for the nine months ended September 30, 2005 was approximately $659,000.

Contract research and development, consulting, materials and other direct costs increased approximately $1.7 million for the nine months ended September 30, 2005, primarily due to regulatory and manufacturing-related development costs of approximately $4.5 million incurred in connection with the manufacturing of clinical supply materials for the iloperidone Phase III and the VEC-162 clinical trial programs. Prior to FDA approval of our products, manufacturing-related costs are included in research and development expense. Clinical trials expense increased approximately $3.7 million for the nine months ended September 30, 2005 due to the cost incurred as we prepared for our pivotal Phase III iloperidone clinical trial that began in the fourth quarter of 2005 and the costs related to the Phase II VEC-162 trial that was conducted in 2005. Indirect project costs also decreased by approximately $150,000 for the nine months ended September 30, 2005 due primarily to the elimination of contract manufacturing activities we previously conducted.

During the remainder of 2005, and thereafter, we expect research and development expenses to continue to increase substantially as we increase our research and development efforts and as our existing and future product candidates proceed through clinical trials.

General and administrative expenses. General and administrative expenses increased approximately $4.3 million, or 341%, to approximately $5.6 million for the nine months ended September 30, 2005 from approximately $1.3 million for the nine months ended September 30, 2004.

General and administrative expenses consist of professional fees, salaries and related costs for executive and other administrative personnel and facility costs. Salaries, benefits and related costs increased approximately $259,000 for the nine months ended September 30, 2005 due to an increase in personnel as we continued to develop the administrative structure to support the development and clinical trial activities for iloperidone, VEC-162 and our other product candidates. Stock-based compensation expense was approximately $3.4 million for the nine months ended September 30, 2005 and approximately $20,000 for the same period in 2004.

Legal and consulting costs increased approximately $450,000 for the nine months ended September 30, 2005 due primarily to a higher level of consulting activity in 2005 in support of business development and market research activities related to our lead product candidates. Other expenses increased approximately $200,000 for the nine months ended September 30, 2005, primarily due to insurance and taxes.

During the remainder of 2005, and thereafter, we expect our general and administrative expenses to increase substantially. These increased expenses are expected to be necessary to support our discovery and development efforts and our commercial development activities and to fulfill our reporting and other regulatory obligations applicable to public companies.

Interest and other income, net. Net interest income in the nine months ended September 30, 2005 was approximately $188,000 compared to net interest income of approximately $13,000 in the nine months ended September 30, 2004. Interest income was higher in 2005 due to higher average cash balances for the year and higher short-term interest rates which generated substantially higher interest income than in 2004.

Our interest income and expense for the nine months ended September 30, 2004 and the nine months ended September 30, 2005 are disclosed on the following table:

Revenues. We recorded revenues of approximately $34,000 and approximately $48,000 for 2004 and 2003, respectively. Revenue earned in 2004 and 2003 was derived principally from consulting agreements we entered into during our start-up phase under research and development contracts. We completed our obligations under these agreements and will not recognize any related contract revenue in 2005.

Research and development expenses. Research and development expenses increased approximately $5.4 million, or 270%, to approximately $7.4 million for the year ended December 31, 2004 compared to approximately $2.0 million for the period from March 13, 2003 (inception) to December 31, 2003.

The following table discloses the components of research and development expenses reflecting all of our project expenses:

Direct costs increased approximately $5.9 million from zero as a result in the shift from contract development activities to the clinical development of iloperidone and VEC-162. Personnel, benefits and related costs increased approximately $1.2 million in 2005 due to an increase in personnel to support the development and clinical trial activities for iloperidone and VEC-162. Personnel costs associated with contract development activities were charged to indirect project costs for the period from March 13, 2003 (inception) to December 31, 2003.

Contract research and development, consulting, materials and other direct costs increased approximately $3.9 million primarily due to clinical manufacturing-related development costs incurred in connection with the manufacturing of clinical supply materials for iloperidone and VEC-162. Prior to FDA approval of our products, manufacturing-related costs are included in research and development expense. Clinical trials expense increased approximately $916,000 due to the cost incurred as we prepared for our iloperidone and VEC-162 clinical trials.

Indirect project costs also decreased by approximately $517,000, due primarily to the elimination of contract manufacturing activities we previously conducted.

General and administrative expenses. General and administrative expenses increased approximately $1.1 million, or 101%, to approximately $2.1 million for the year ended

The following table discloses the components of our general and administrative expenses:

General and administrative expenses consist of professional fees, salaries and related costs for executive and other administrative personnel, and facility costs. Salaries, benefits and related costs increased approximately $833,000 in 2004 due to an increase in personnel as we continued to develop the administrative structure to support the development and clinical trial activities of our product candidates.

Legal and consulting costs and other expenses increased due primarily to a higher level of consulting activity in 2004 in support of the business development and market research activities related to our lead product candidates.

Interest and other income, net. Net interest income for the year ended December 31, 2004 was approximately $59,000 compared to net interest income of approximately $45,000 for the period from March 13, 2003 (inception) to December 31, 2003. The increase in interest income was attributable to higher average cash balances for the year ended December 31, 2004, and partially offset by an increase in interest expense attributable to an increase in our equipment term loan obligations.

Our interest income and expenses for 2004 and for the period from March 13, 2003 (inception) to December 31, 2003 are disclosed on the following table:

We have funded our operations through September 30, 2005 principally with the proceeds of approximately $47.0 million from preferred stock offerings:

Each share of preferred stock is convertible into one share of our common stock.

In September 2005, we completed the sale of an additional 15,040,654 shares of Series B Preferred Stock for proceeds of approximately $18.5 million. After evaluating the fair value of the common stock obtainable upon conversion by the stockholders, we determined that the issuance of the Series B Preferred Stock sold in September 2005 resulted in a beneficial conversion feature of approximately $18.5 million which was fully accreted in September 2005 and is recorded as a deemed dividend to preferred stockholders for the nine-month period ended September 30, 2005.

On December 9, 2005 we completed the final closing of the Series B financing pursuant to which we sold an additional 12,195,129 shares of Series B Preferred Stock at $1.23 per share, or an aggregate purchase price of approximately $15.0 million. As a result, we will record a beneficial conversion charge in the form of deemed dividends of approximately $15.0 million during the fourth quarter of 2005.

In 2003, we entered into a $515,147 line of credit facility to finance the purchase of specified equipment based on lender-approved schedules. The interest rate was fixed at 9.3% per annum. We granted a security interest in the assets purchased under the credit line. During 2004, we had no draw downs under the line of credit. During 2004 and 2003, we repaid $156,446 and $45,010 on the line of credit, respectively. The total indebtedness relating to this line of credit was $470,137, $313,691, and $187,523 as of December 31, 2004 and 2003 and September 30, 2005, respectively.

Cash, restricted cash and cash equivalents

At September 30, 2005, cash, restricted cash and cash equivalents were approximately $22.3 million compared to approximately $16.3 million at December 31, 2004.

Our cash and cash equivalents are highly liquid investments with a maturity of 90 days or less at date of purchase and consist of time deposits, investments in money market funds with commercial banks and financial institutions, and commercial paper of high-quality corporate issuers. As of September 30, 2005, we did not hold any short-term investments other than cash, restricted cash and cash equivalents.

Also, we maintain cash balances with financial institutions in excess of insured limits. We do not anticipate any losses with respect to such cash balances.

Net cash used in operations was approximately $11.8 million and approximately $6.0 million for the nine months ended September 30, 2005 and 2004, respectively. The net loss for the nine months ended September 30, 2005 of approximately $17.0 million was offset primarily by non-cash charges for depreciation and amortization of approximately $316,000, stock-based compensation of approximately $4.1 million, an increase in accrued expenses of approximately $1.2 million principally related to clinical trial expenses, and other net changes in working capital. Net cash used in investing activities for the nine months ended September 30, 2005 was approximately $527,000 and consisted primarily of an investment of approximately $430,000 in restricted cash for a security deposit on our new leased corporate research and development facility. Net cash provided by financing activities for the nine months ended September 30, 2005 was approximately $18.3 million, consisting primarily of net proceeds from the issuance of Series B Preferred Stock of approximately $18.5 million, offset primarily by payments of equipment debt financing obligations of approximately $128,000.

Net cash used in operations was approximately $8.6 million and approximately $2.1 million for the year ended December 31, 2004 and the period from March 13, 2003 (inception) to December 31, 2003, respectively. The net loss for 2004 of approximately $9.5 million was partially offset by non-cash charges for depreciation and amortization of approximately $377,000, an increase in accounts payable and accrued liabilities of approximately $465,000 and other net changes in working capital. Net cash used from investing activities for the year ended December 31, 2004 was approximately $415,000 and consisted primarily of equipment purchases. Net cash from financing activities for 2004 was approximately $18.1 million, which consists primarily of net proceeds from the issuance of Series B Preferred Stock of approximately $18.3 million, offset by principal payments on notes payable and capital lease obligations of approximately $200,000.

Contractual obligations and commitments

The following table summarizes our major contractual obligations at September 30, 2005 and the effects such obligations are expected to have on our liquidity and cash flows in future periods.

We entered into a five-year non-cancelable operating lease agreement for office and laboratory space in June 2003. The lease contains an option to renew for an additional five years on the same terms and conditions and contains a 3% rent escalation clause.

In August 2005, we entered into a ten-year and six-month non-cancelable operating lease agreement for office and laboratory space at a new facility, which is renewable for an additional five-year period at the end of the original term. The lease expires in June 2016.

In August 2005, we notified the landlord of our old lease space of our intention to exercise our sub-lease rights in order to enter into a lease for a larger office and laboratory facility. When we take possession of the new lease space in January 2006, we will vacate the current office and laboratory space. According to SFAS 146 “Accounting for Costs Associated with Exit or Disposal Activities”, a liability for costs that will continue to be incurred under a contract for its remaining term without economic benefit to the company shall be recognized and measured when the company ceases using the right conveyed by the lease agreement, reduced by estimated sublease rentals that could be reasonably obtained. We expect to incur a charge of approximately $260,000 in the first quarter of 2006 when we move from the current location to the new office and laboratory facility in January 2006. We have included in the table above operating lease obligations related to the old lease space of approximately $288,000, approximately $240,000 and approximately $122,000 for 2006, 2007 and 2008 respectively.

In April 2004, we entered into a capital lease obligation in order to finance certain capital equipment purchases of approximately $92,000. This capital lease had an interest rate of 7.5% and was payable in monthly installments of $3,312 through April 2006. In February 2005, we cancelled this capital lease obligation and settled the obligation in full.

We have entered into agreements with clinical research organizations and other outside contractors who will be responsible for conducting and monitoring our clinical trials for iloperidone and VEC-162. These contractual obligations are not reflected in the table above because we may terminate them without penalty.

In March and June 2004, we entered into separate licensing agreements with Bristol-Myers Squibb and Novartis, respectively, for the exclusive rights to develop and commercialize our three compounds in clinical development. In consideration for these rights, we paid a $500,000 non-refundable fee for each of the compounds. We are obligated to make additional payments under the conditions in the agreements upon the achievement of specified clinical, regulatory and commercial milestones. If the products are successfully commercialized we will be required to pay certain royalties based on net sales for each of the licensed products. The amount, timing and likelihood of these payments are unknown and will depend on the successful outcome of future clinical trials, regulatory filings, favorable FDA regulatory approvals and growth in product sales.

We expect to incur losses from operations for the foreseeable future. We expect to incur increasing research and development expenses, including expenses related to additions to personnel and clinical trials. We expect that our general and administrative expenses will increase in the future as we expand our business development, legal and accounting staff, add infrastructure and incur additional costs related to being a public company, including directors’ and officers’ insurance, investor relations programs and increased professional fees. Our future capital requirements will depend on a number of factors, including our continued progress of our research and development of product candidates, the timing and outcome of regulatory

Except for the equipment debt facility described above, we have no other lines of credit or other committed sources of capital. To the extent our capital resources are insufficient to meet future capital requirements, we will need to raise additional capital or incur indebtedness to fund our operations. We cannot assure you that additional debt or equity financing will be available on acceptable terms, if at all. If adequate funds are not available, we may be required to delay, reduce the scope of or eliminate our research and development programs, reduce our commercialization efforts or obtain funds through arrangements with collaborative partners or others that may require us to relinquish rights to certain product candidates that we might otherwise seek to develop or commercialize. Any future funding may dilute the ownership of our equity investors.

Quantitative and qualitative disclosures about market risk

Our exposure to market risk is currently confined to our cash, restricted cash and cash equivalents that have maturities of less than three months. We currently do not hedge interest rate exposure. We have not used derivative financial instruments for speculation or trading purposes. Because of the short-term maturities of our cash, restricted cash and cash equivalents, we do not believe that an increase in market rates would have any significant impact on the realized value of our investments, but may increase the interest expense associated with any long-term debt or long-term lease obligations.

Effects of inflation

Our most liquid assets are cash, restricted cash and cash equivalents. Because of their liquidity, these assets are not directly affected by inflation. We also believe that we have intangible assets in the value of our intellectual property. In accordance with generally accepted accounting principles, we have not capitalized the value of this intellectual property on our balance sheet. Due to the nature of this intellectual property, we believe that these intangible assets are not affected by inflation. Because we intend to retain and continue to use our equipment, furniture and fixtures and leasehold improvements, we believe that the incremental inflation related to replacement costs of such items will not materially affect our operations. However, the rate of inflation affects our expenses, such as those for employee

Off balance sheet arrangements

We have no off balance sheet arrangements.

Recent accounting pronouncements

In December 2004, the FASB issued SFAS 123R, “Share-Based Payment,” a revision of SFAS 123, “Accounting for Stock-based Compensation.” SFAS 123R requires public companies to recognize expense associated with share-based compensation arrangements, including employee stock options, using a fair value-based option pricing model, and eliminates the alternative to use APB 25’s intrinsic value method of accounting for share-based payments. In April 2005, the SEC announced that the effective date to implement SFAS 123R has been delayed for certain public companies. Accordingly, we plan to begin recognizing the expense associated with our share-based payments, as determined using a fair value-based method, in our statement of operations beginning on January 1, 2006. Adoption of the expense provisions of SFAS 123R is expected to have a material impact on our results of operations. The standard generally allows two alternative transition methods for public companies: modified prospective application without restatement of prior interim periods in the year of adoption; and retroactive application with restatement of prior financial statements to include the same amounts that were previously included in pro forma disclosures. We have not determined which transition method we will adopt.

In order to provide implementation guidance related to SFAS 123R, the SEC issued Staff Accounting Bulletin (“SAB”) No. 107, “Share-Based Payment” in March 2005. SAB 107 provides guidance on numerous issues such as valuation methods (including assumptions such as expected volatility and expected term), the classification of compensation expense, capitalization of compensation cost related to share-based payment arrangements, the accounting for income tax effects of share-based payment arrangements upon adoption of SFAS 123R, and disclosures in MD&A subsequent to adoption of SFAS 123R.

SFAS No. 154, “Accounting Changes and Error Corrections— a replacement of APB Opinion No. 20 and FASB Statement No. 3” was issued by the FASB in May 2005. This Statement replaces APB Opinion No. 20, “Accounting Changes”, and FASB Statement No. 3, “Reporting Accounting Changes in Interim Financial Statements”, and changes the requirements for the accounting for and reporting of a change in accounting principle. SFAS No. 154 applies to all voluntary changes in accounting principle and requires retrospective application to prior periods’ financial statements of changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. This Statement also requires that a change in depreciation, amortization, or depletion method for long-lived, non-financial assets be accounted for as a change in accounting estimate affected by a change in accounting principle. This statement is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. SFAS No. 154 is not expected to have a material effect on our consolidated financial statements.

In June 2005, the FASB Staff issued FASB Staff Position 150-5 (FSP 150-5), “Issuer’s Accounting under FASB Statement No. 150 for Freestanding Warrants and Other Similar Instruments on Shares that are Redeemable.” FSP 150-5 addresses whether freestanding warrants and other similar instruments on shares that are redeemable, either puttable or mandatorily redeemable,

Critical accounting policies

Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities and expenses. On an ongoing basis, we evaluate our estimates and judgments, including those related to revenue recognition, accrued expenses, fair valuation of stock related to stock-based compensation and income taxes. We based our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our financial statements.

Revenue recognition. Contract revenue is recognized upon delivery of products to customers. Revenue earned under research and development contracts are recognized in accordance with the proportional performance method outlined in Staff Accounting Bulletin No. 104 whereby the extent of progress toward completion is measured on the cost-to-cost basis; however, revenue recognized at any point will not exceed the cash received. When the current estimates of total contract revenue and contract cost indicate a loss, a provision for the entire loss on the contract is made in the period which it becomes probable. We have generated some revenues earned under research and development contracts that were derived principally from consulting agreements we entered into during the company start-up phase to defray research costs.

We will use the substantive milestone payment method of revenue recognition when all milestones to be received under contractual arrangements are determined to be substantive, at-risk and the culmination of an earnings process. Substantive milestones are payments that are conditioned upon an event requiring substantive effort, when the amount of the milestone is reasonable relative to the time, effort and risk involved in achieving the milestone and when the milestones are reasonable relative to each other and the amount of any up-front payment. If these criteria are not met the timing of the recognition of revenue from the milestone payment may vary.

Accrued expenses. As part of the process of preparing financial statements we are required to estimate accrued expenses. This process involves identifying services that have been performed on our behalf and estimating the level of service performed and the associated cost incurred for such service as of each balance sheet date in our financial statements. Examples of estimated accrued expenses include professional service fees, such as lawyers and accountants, and contract service fees such as amounts paid to clinical monitors, data management organizations and investigators in conjunction with clinical trials, and fees paid to contract manufacturers in conjunction with the production of clinical materials. In connection with such

Stock-based compensation. We have elected to follow APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations, in accounting for our stock-based compensation plans, rather than the alternative fair value accounting method provided for under SFAS No. 123, Accounting for Stock-Based Compensation. In the notes to our financial statements we provide pro forma disclosures in accordance with SFAS No. 123 and related pronouncements. We account for transactions in which services are received in exchange for equity instruments based on the fair value of such services received from non-employees or of the equity instruments issued, whichever is more reliably measured, in accordance with SFAS No. 123 and EITF Issue No. 96-18, Accounting for Equity Instruments that Are Issued to Other than Employees for Acquiring, or in Conjunction with Selling, Goods or Services. The two factors which most affect charges or credits to operations related to stock-based compensation are the fair value of the common stock underlying stock options for which stock-based compensation is recorded and the volatility of such fair value. If our estimates of the fair value of these equity instruments are too high or too low, it would have the effect of overstating or understating expenses. Because shares of our common stock have not been publicly traded, market factors historically considered in valuing stock and stock option grants include comparative values of public companies discounted for the risk and limited liquidity provided for in the shares we are issuing, pricing of private sales of our convertible preferred stock and the effect of events that have occurred between the time of such grants, economic trends, perspective provided by investment banks and the comparative rights and preferences of the security being granted compared to the rights and preferences of our other outstanding equity.

Income taxes. As part of the process of preparing our financial statements we are required to estimate our income taxes in each of the jurisdictions in which we operate. We account for income taxes by the liability method in accordance with the provisions of SFAS No. 109, “Accounting for Income Taxes”. Under this method, deferred income taxes are recognized for tax consequences in future years of differences between the tax bases of assets and liabilities and their financial reporting amounts at each year-end, based on enacted laws and statutory tax rates applicable to the periods in which the difference are expected to affect taxable income. Valuation allowances are provided if, based upon the weight of available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.

We have not recorded any tax provision or benefit for the years ended December 31, 2003 and 2004. We have provided a valuation allowance for the full amount of our net deferred tax assets since realization of any future benefit from deductible temporary differences and net operating loss carry forwards cannot be sufficiently assured at December 31, 2003 and 2004. At December 31, 2003 and 2004, we had federal net operating loss carryforwards of approximately $1.1 million and approximately $3.9 million, respectively, available to reduce future taxable income, which will begin to expire in 2023. Under the provisions of the Internal

Net loss per share. Net loss attributable to common stockholders per share is calculated in accordance with SFAS No. 128, “Earnings per Share,” and Staff Accounting Bulletin (“SAB”) No. 98. Basic earnings per share (“EPS”) is calculated by dividing the net income or loss attributable to common stockholders by the weighted average number of shares of common stock and Series A and Series B Preferred Stock outstanding for the period, reduced by the weighted average unvested common shares subject to repurchase. In accordance with Emerging Issues Task Force 03-06, “Participating Securities and the Two Class Method Under SFAS 128” (“EITF 03-06”), Series A and Series B Preferred Stock has been included in basic and diluted earnings per share as if the shares of Series A and Series B Preferred Stock were converted to common stock on a 1-for-1 basis.

Diluted EPS is computed by dividing the net income or loss attributable to common stockholders by the weighted average number of common stock equivalents outstanding for the period determined using the treasury-stock method. Common stock equivalents include stock options and warrants but only to the extent that their inclusion is dilutive. We incurred a net loss in all periods presented, causing inclusion of any potentially dilutive securities to have an anti-dilutive affect, resulting in dilutive loss per share attributable to common stockholders and basic loss per share attributable to common stockholders being equivalent. We did not have any common shares issued for nominal consideration as defined under the terms of SAB No. 98, which would be included in EPS calculations.

Business

Overview

We are a biopharmaceutical company focused on the development and commercialization of small molecule therapeutics, with exclusive worldwide commercial rights to three product candidates in clinical development for various central nervous system disorders. Our lead product candidate, iloperidone, is an atypical antipsychotic for the treatment of schizophrenia and bipolar disorder and is in a pivotal Phase III trial for schizophrenia. Our second product candidate, VEC-162, is a melatonin agonist for the treatment of insomnia and depression which is entering a pivotal Phase III trial for insomnia. VEC-162 is also ready for Phase II trials for the treatment of depression. Our third product candidate, VSF-173, is a compound for the treatment of excessive daytime sleepiness and is ready for a Phase II trial. Each of these product candidates benefits from new chemical entity (NCE) patent protection and may offer substantial advantages over currently approved therapies.

We expect to complete our pivotal Phase III trial for iloperidone in the first half of 2007. If this trial is successful, we will file a NDA for approval with the FDA later that year. We recently generated positive efficacy and safety data in a Phase II trial of VEC-162 for insomnia and expect to begin a pivotal Phase III trial early in 2006. We also expect to begin a Phase II trial of VSF-173 for excessive daytime sleepiness in the second half of 2006. Assuming successful outcomes of our clinical trials and approval by the FDA, we expect to commercialize iloperidone and VSF-173 with our own sales force in the U.S. and expect to commercialize VEC-162 through a strategic partnership with a global pharmaceutical company.

Our three product candidates target large prescription markets with significant unmet medical needs. Sales of schizophrenia drugs exceeded $14 billion worldwide in 2004, according to World Review Analyst by IMS, a leading pharmaceutical market research company. These sales were achieved despite the safety concerns, moderate efficacy and poor patient compliance that are associated with these drugs. We believe that iloperidone may address some of these shortcomings, based on its significantly reduced side effect profile observed in trials involving over 2,000 patients to date and based on further improvements to the product we plan to develop as part of our lifecycle management strategy. According to IMS, in 2004 the insomnia market exceeded $3.5 billion in worldwide sales and the depression market accounted for worldwide sales in excess of $20 billion. However, the approved drugs in both the insomnia and depression markets have sub-optimal safety profiles and demonstrate only moderate efficacy. We believe VEC-162 may represent a breakthrough in each of these markets, based on the product’s efficacy, safety and novel mechanism of action. The excessive daytime sleepiness market was approximately $440 million in worldwide sales in 2004. Few available drugs exist to treat this condition, and each of the available drugs has limitations. We believe that VSF-173 may represent a safe and effective alternative treatment in this growing market.

Our team is comprised of experienced pharmaceutical industry executives, and our scientific team possesses deep expertise in clinical development and in pharmacogenetics and pharmacogenomics, or collectively, PG. PG is the scientific discipline that examines both genetic variations among people that influence response to a particular drug, and the multiple pathways through which drugs affect people. Our founder and Chief Executive Officer, Mihael H. Polymeropoulos, M.D., commenced our operations in early 2003 after leading the Pharmacogenetics Department at Novartis.

Our strategy

Our goal is to create a leading biopharmaceutical company focused on developing and commercializing products that address critical unmet medical needs through the application of our drug development and PG expertise. The key elements of our strategy to accomplish this goal are to:

We have the following product candidates in clinical trials:

Iloperidone

We are developing iloperidone, an oral small molecule, for the treatment of schizophrenia and bipolar disorder. In three short-term and three long-term trials comprising over 2,000 patients, iloperidone demonstrated reduced side effects relative to current antipsychotic drugs. We are currently conducting a pivotal Phase III trial for iloperidone for schizophrenia in approximately 600 patients to confirm its efficacy, which has also been observed in previous trials. Based on our End of Phase IIb meeting with the FDA in September 2005, we believe we will be able to file an NDA for iloperidone for schizophrenia if we succeed in demonstrating its efficacy in this trial. If iloperidone obtains regulatory approval, we believe it will represent a differentiated new therapy for schizophrenia.

Therapeutic opportunity

Schizophrenia is a chronic, debilitating mental disorder characterized by hallucinations, delusions, racing thoughts and other psychotic symptoms (collectively referred to as “positive symptoms”), as well as moodiness, anhedonia (inability to feel pleasure), loss of interest, eating and sleep disturbances, and difficulty concentrating (collectively referred to as “negative symptoms”). Schizophrenia develops in late adolescence or early adulthood in approximately 1% of the world’s population. Genetic and environmental factors are believed to be responsible for the disease. Most schizophrenia patients today are treated with drugs known as “atypical” antipsychotics, which were first approved in the U.S. in the late 1980s. Atypical antipsychotics currently comprise over 90% of prescriptions for schizophrenia, having largely replaced “typical” antipsychotics, which were first introduced in the 1950s and are now generic. Atypical antipsychotics are generally regarded as having improved side effect profiles and efficacy in treating negative symptoms relative to typical antipsychotics. According to IMS, the global market for atypical antipsychotics exceeded $13 billion in 2004. Currently approved atypical antipsychotics include olanzapine (Zyprexa^®, Eli Lilly and Company), risperidone (Risperdal^®, Johnson & Johnson), quetiapine (Seroquel^®, AstraZeneca PLC), aripiprazole (Abilify^®, BMS), ziprasidone (Geodon^®, Pfizer Inc.), and generic clozapine.

Limitations of current treatments

The treatment of schizophrenia remains challenging because currently approved antipsychotics often induce serious side effects and offer only modest efficacy. Side effects include weight gain, diabetes, extrapyramidal symptoms (involuntary bodily movements), hyperprolactinemia

Potential advantages of iloperidone

In addition to the efficacy observed in clinical trials to date, the experience with iloperidone thus far suggests that the compound may provide benefits to patients beyond those provided by currently available drugs:

Additionally, we plan to continue to apply our PG expertise to develop tools that may allow physicians to avoid the “trial-and-error” approach to prescribing antipsychotic medications for their patients:

We intend to make one simple blood test for both markers available through national reference laboratories.

Overview of prior Phase III clinical trials

Novartis conducted three short-term (six-week) pivotal Phase III trials with iloperidone. In each of these trials, one or more dose levels of iloperidone achieved statistically significant superiority to placebo on the standard scales for measuring efficacy in schizophrenia, either the Positive and Negative Symptom Scale (PANSS) or Brief Psychiatric Rating Scale (BPRS). Each of these scales is a subjective test administered by a clinician measuring a patient across a range of potential schizophrenia symptoms. In only one of the three pivotal Phase III trials was the declared target dose demonstrated to have statistically significant efficacy better than placebo, which is required for the results of a trial to support an efficacy claim with the FDA. With the need to conduct at least one more Phase III trial to be able to file for approval, Novartis elected instead to discontinue the development of iloperidone.

The table below summarizes the efficacy results from the previous short-term pivotal Phase III trials:

(1) Declared dose (the dose for which a drug must show statistically significant improvement vs. placebo) is italicized and bolded.

(2) As patients improve, their PANSS scale score decreases. Baseline scores for enrollees in the trials were 94.5 (ILP 3000), 94.3 (ILP 3004) and 94.7 (ILP 3005).

(4) Declared dose in this trial was a composite of 8 and 12 mg/day.

We have made several observations about these previous Phase III trials that suggest both reasons for their failure and ways in which we may improve the chances of success in our ongoing pivotal Phase III trial.

Though not required for registration, Novartis also conducted three long-term (52-week) Phase III trials of iloperidone. In these trials, which involved more than 1,300 patients, Novartis measured the safety and time to discontinuation of iloperidone at doses ranging from 4 mg/day to 16 mg/day compared to the antipsychotic haloperidol. Iloperidone demonstrated

Overview of our ongoing pivotal Phase III trial

In November 2005, we initiated our pivotal Phase III trial to evaluate iloperidone for the treatment of patients with schizophrenia. The trial is a randomized, double-blind, placebo- and active-controlled Phase III trial of approximately 600 patients with schizophrenia. To have a successful clinical trial, we need to demonstrate that iloperidone has statistically significant efficacy better than placebo. The active control is present to validate the design of the trial and to increase the chances that trial participants will receive some form of treatment while participating in the trial. Patients will receive four weeks of inpatient treatment in the trial. The iloperidone formulation being used in the study is an oral, twice-daily dose of 12 mg, or 24 mg per day. The trial is being conducted in the United States and India by Quintiles Transnational, a contract research organization. Patient dosing began in November 2005 and will continue through early 2007.

We believe that if this trial is successful, our data and documentation on iloperidone will be adequate to support both United States and European regulatory filings of oral iloperidone. We conducted an End of Phase IIb meeting with the FDA in September 2005, during which the agency agreed that this trial’s design is adequate to measure short-term efficacy in schizophrenia. The FDA also agreed that with success in this trial, the iloperidone package would be sufficient for filing an NDA.

Potential indication for bipolar disorder

In addition to schizophrenia, we believe iloperidone may be effective in treating bipolar disorder. Most of the approved atypical antipsychotics have received approval for bipolar disorder subsequent to commercializing for the treatment of schizophrenia. Approximately 25% of atypical antipsychotic prescriptions are for the treatment of bipolar disorder, according to LEK Consulting. Iloperidone is ready for an initial Phase II trial in bipolar disorder.

Commercialization

We expect to build our own sales force to market iloperidone directly to psychiatrists and other target physicians in the U.S. Because the U.S. psychiatric community is relatively small, we believe that we can cost-effectively develop our own sales force to market and sell iloperidone. Outside of the United States, we expect to find commercial partners for iloperidone.

Intellectual property

Iloperidone and its metabolites, formulations, and uses are covered by a total of nine patent and patent application families worldwide. The primary new chemical entity (NCE) patent covering iloperidone expires normally in 2011 in the United States and 2010 in most of the major markets in Europe. In the United States, the Hatch-Waxman Act of 1984 provides for an extension of NCE patents for a period of up to five years following the expiration of the patent covering that compound to compensate for time spent in development. We believe that iloperidone will qualify for the full five-year patent term extension. In Europe, similar legislative enactments provide for five-year extensions of NCE patents through the granting of Supplementary Protection Certificates, and we believe that iloperidone will qualify for this extension as well. Consequently, assuming that we are granted all available extensions by the

We acquired worldwide, exclusive rights to the NCE patent covering iloperidone and certain related intellectual property from Novartis under a sublicense agreement we entered into in 2004. Please see “—License agreements” below for a more complete description of the rights we acquired from Novartis with respect to iloperidone.

VEC-162

VEC-162 is an oral small molecule entering Phase III trials for the treatment of insomnia. The compound exhibits highly selective binding to the melatonin-1 (MT1) and melatonin-2 (MT2) receptors, which are thought to govern the body’s natural sleep/wake cycle. Compounds that bind to these receptors are thought to be able to help treat sleep disorders, and additionally are believed to offer potential benefits in depression. We intend to commence enrollment of a Phase III trial of VEC-162 for insomnia in early 2006. VEC-162 is also ready to commence a Phase II trial for the treatment of depression.

Therapeutic opportunity

Industry sources estimate that of the 73 million U.S. adults who suffer from some form of insomnia, only approximately 11 million currently receive treatment. Sleep disorders are segmented into three major categories: primary insomnia, secondary insomnia and circadian rhythm sleep disorders (CRSD). Primary insomnia is a symptom complex that comprises difficulty falling asleep or staying asleep, or non-refreshing sleep, in combination with daytime dysfunction or distress. The symptom complex can be an independent disorder (primary insomnia) or be a result of another condition such as depression or anxiety (secondary insomnia). CRSD results from a misalignment of the sleep/wake cycle and an individual’s daily activities or lifestyle. The circadian rhythm is the rhythmic output of the human biological clock and is governed by melatonin levels in the bloodstream. Both the timing of behavioral events (activity, sleep, and social interactions) and the environmental light-dark cycle result in a sleep/wake cycle that follows the circadian rhythm. Examples of CRSD include transient disorders such as jet lag and chronic disorders such as shift work sleep disorder (SWSD). The American Academy of Sleep Medicine estimates that 25% of all sleep problems are directly related to CRSD. In 2004, the sleep disorder drug market exceeded $3.5 billion in global sales, according to IMS.

There are a number of drugs approved and prescribed for patients with sleep disorders. The most commonly prescribed drugs are hypnotics, such as zolpidem (Ambien^®, Sanofi-Aventis), eszopiclone (Lunesta^®, Sepracor Inc.) and zaleplon (Sonata^®, King Pharmaceuticals, Inc.) These drugs work by acting upon a set of brain receptors known as GABA receptors. Several drugs in

Limitations of current treatments

We believe that each of the drugs used to treat insomnia has inherent limitations that leave patients underserved. The key limitations include the potential for abuse, significant side effects, and a failure to address the underlying causes of sleeplessness:

Potential advantages of VEC-162

We believe that VEC-162 may offer efficacy similar to the most efficacious of the approved sleep drugs, and that it may provide significant benefits to patients beyond those offered by the approved drugs. We believe that VEC-162 is unlikely to be scheduled as a controlled substance by the DEA, because Rozerem, which has the same mechanism of action as VEC-162, was shown not to have potential for abuse and was not classified as a Schedule IV controlled substance by the DEA. However, despite the fact that the drugs have a similar mechanism of action, our Phase II results demonstrate that VEC-162 has superior sleep maintenance to Rozerem. VEC-162 also appears to be safe, with no significant side effects or effects on next-day performance. For patients with CRSD, VEC-162 may be able to align the patient’s sleep/wake cycle with their lifestyle, something we believe no approved sleep therapy has demonstrated.

We recently completed a randomized, double-blind, multi-center, placebo-controlled Phase II trial evaluating the effect of VEC-162 on healthy volunteers in a transient insomnia setting. This setting involved a five-hour phase shift, which entailed putting trial participants to bed five hours ahead of their regular sleep time.

A total of 37 healthy volunteers were randomly assigned to one of four VEC-162 dosing groups (10, 20, 50, and 100 milligrams) or placebo. Patients took one oral dose 30 minutes before bedtime. The results of this trial demonstrated:

Overview of planned Phase III clinical trial

We plan to initiate a Phase III trial in the U.S. early in 2006 to evaluate the safety and efficacy of VEC-162 for the treatment of insomnia. The trial will be a randomized, double-blind, placebo-controlled trial of approximately 300 healthy volunteers. Primary endpoints will include sleep efficiency and time to fall asleep, as well as next-day performance and mood. Participants will receive one to two days of inpatient treatment. We believe that we will need to conduct additional trials beyond this Phase III trial to receive approval for the treatment of primary insomnia. We plan to confirm our path to filing with the FDA in an End of Phase IIb meeting after this upcoming clinical trial.

We believe that VEC-162 may also be effective in treating depression. Agomelatine, another melatonin agonist, has shown efficacy and safety that compared favorably to an approved selective serotonin reuptake inhibitor (SSRI) antidepressant, Paxil^® (paroxetine, GSK), in a Phase III trial. Agomelatine’s U.S. patent protection has expired. While the precise mechanism for a melatonin agonist’s effect on depression is currently unknown, it is possible that by improving sleep, a melatonin agonist could improve mood because depressed patients are likely to have sleep disorders.

Approximately 29 million adults in the United States suffer from some form of depression, over 11 million of whom are currently treated with a prescription antidepressant medication. Sales of antidepressants exceeded $20 billion globally in 2004, with SSRI drugs and newer serotonin/norepinephrine reuptake inhibitor (SNRI) drugs accounting for the majority of sales.

We believe that VEC-162 will be differentiated from approved antidepressants in several ways. In the Phase III trial of agomelatine described above, agomelatine showed significantly improved mood in two weeks, vs. four weeks for Paxil^®. Consequently, VEC-162 may, with its similar properties to agomelatine, enjoy a more rapid onset of action than approved SSRI and SNRI drugs. We believe that VEC-162 should also have an improved side effect profile when compared to approved products because it should not have the sexual side effects, weight gain, and sleep disruption associated with SSRI and SNRI drugs.

VEC-162 is ready for Phase II trials in depression. It has demonstrated an antidepressant effect in animal models and has completed several Phase I trials, including one with four weeks of exposure, showing none of the serious side effects associated with the approved SSRI and SNRI drugs.

Commercialization

Given the size of the prescribing physician base for insomnia and depression, we plan to partner with a global pharmaceutical company for the development and commercialization of VEC-162 worldwide.

Intellectual property

VEC-162 and its formulations and uses are covered by a total of five patent and patent application families worldwide. The primary NCE patent covering VEC-162 expires normally in 2017 in the United States and in most European markets. We believe that, like iloperidone, VEC-162 will meet the various criteria of the Hatch-Waxman Act and will receive five additional years of patent protection for VEC-162 in the United States, which would extend its patent protection in the United States until 2022. In Europe, similar legislative enactments provide for five-year extensions of European NCE patents through the granting of Supplementary Protection Certificates, and we believe that VEC-162 will qualify for such an extension, which would extend European patent protection for VEC-162 until 2022. Several other patent applications covering uses of VEC-162 will, if granted, provide exclusive rights for these uses until 2026.

Our rights to the NCE patent covering VEC-162 and related intellectual property have been acquired through a license with BMS. Please see “—License agreements” below for a discussion of this license.

VSF-173 is an oral small molecule that has demonstrated effects on animal sleep/wake patterns and gene expression patterns suggestive of a stimulant effect. The compound also demonstrated a stimulant effect in humans during clinical trials conducted by Novartis for Alzheimer’s Disease. As a result of these observations, we are currently planning to begin the clinical evaluation of VSF-173 in excessive daytime sleepiness. We intend to initiate a Phase II trial for VSF-173 in late 2006. We believe the market opportunity for VSF-173 is significant. Provigil^® (modafinil, Cephalon Inc.) alone accounted for sales of approximately $440 million in 2004 and is estimated to have grown 35% between 2002 and 2005.

Pharmacogenetic and pharmacogenomic (PG) expertise

Our expertise in PG enables us to acquire high quality, patent-protected clinical compounds that have been discovered and developed by other pharmaceutical firms. We can capitalize on the discovery and early development efforts of other firms by acquiring compounds with clinical safety and possibly efficacy data that we believe can benefit from our extensive PG expertise.

PG starts from the premise that a given drug will not just affect the target/receptor for which it was initially developed, but will in fact interact with many systems within the body. Proof of this comes from two different sources. We know, for instance, that most drugs have side effects. These typically result from a drug’s interaction not just with its intended receptor in its intended organ system, but also with either that receptor outside the intended organ system or with other receptors entirely. There are many examples of drugs that were developed initially for one indication but were then shown to be effective for another. One example of this is Viagra^® (sildenafil, Pfizer), which was developed initially for hypertension (high blood pressure) but proved more effective for erectile dysfunction. Being compound-focused enables us to forego the costly discovery work and start with compounds already known to be drugs, in that they are safe and interact with at least one biological system.

Starting with safe compounds— ones that have completed at least Phase I safety trials— we use our PG expertise to understand the disease or diseases for which the drug has the optimal biological (and clinical) effect. We have used this expertise to identify potential points of differentiation for iloperidone and VSF-173. Beyond these two, we have already identified a number of unexpected signaling pathways attributable to known compounds using these techniques, and we have secured a number of patent filings based on these findings. For each compound, we may choose to confirm our findings in animal studies. Compounds clearing this hurdle will be ready for Phase II trials.

Compounds that we would most likely consider attractive candidates for applying our expertise would meet the following criteria:

Our rights to develop and commercialize our clinical-stage product candidates are subject to the terms and conditions of licenses granted to us by other pharmaceutical companies.

Iloperidone

We acquired exclusive worldwide rights to patents for iloperidone through a sublicense agreement with Novartis. A predecessor company of Sanofi-Aventis, Hoechst Marion Roussel, Inc. (HMRI), discovered iloperidone and completed early clinical work on the compound. In 1996, following a review of its product portfolio, HMRI licensed its rights to the iloperidone patents to Titan Pharmaceuticals, Inc. on an exclusive basis. In 1997, soon after it had acquired its rights, Titan sublicensed its rights to iloperidone on an exclusive basis to Novartis. In June 2004, we acquired exclusive worldwide rights to these patents to develop and commercialize iloperidone through a sublicense agreement with Novartis. In consideration for this sublicense, we paid Novartis an initial license fee of $500,000 and are obligated to make future milestone payments to Novartis of less than $100 million in the aggregate (the majority of which are tied to sales milestones), as well as royalty payments to Novartis at a rate which, as a percentage of net sales, is in the mid-twenties. Our rights with respect to the patents to develop and commercialize iloperidone may terminate, in whole or in part, if we fail to meet certain development or commercialization milestones, if we do not meet certain other obligations under our sublicense agreement to make royalty and milestone payments, if we fail to comply with requirements in our sublicense agreement regarding our financial condition, or if we do not abide by certain restrictions in our sublicense agreement regarding our other development activities. Additionally, if we do not cure any breaches by Novartis or Titan of their respective obligations under their agreements with Titan and Sanofi-Aventis, respectively, our rights to develop and commercialize iloperidone may revert back to Novartis.

VEC-162

In March 2004, we entered into a license agreement with BMS under which we received an exclusive worldwide license to develop and commercialize VEC-162. In consideration for the license, we paid BMS an initial license fee of $500,000 and are obligated to make future milestone payments to BMS of less than $40 million in the aggregate (the majority of which are tied to sales milestones) as well as royalty payments based on the net sales of VEC-162 at a rate which, as a percentage of net sales, is in the low teens. We are also obligated under this agreement to pay BMS a percentage of any sublicense fees, upfront payments and milestone payments that we receive from a third party in connection with any partnering arrangement, at a rate which is in the mid-twenties. We have agreed with BMS in our license agreement for VEC-162 to use our reasonable diligence to develop and commercialize VEC-162 and to meet milestones in completing certain clinical work.

BMS holds certain rights with respect to VEC-162 in our license agreement. For example, if we have not agreed to a partnering arrangement to develop and commercialize VEC-162 with a third-party partner after the completion of the entire Phase III program, BMS has the right to commercialize VEC-162 on its own in exchange for certain milestone and royalty payments.

Either party may terminate the VEC-162 license agreement under certain circumstances, including a material breach of the agreement by the other. In the event that we terminate our license without a breach by BMS, or if BMS terminates our license due to our breach, all rights

VSF-173

In June 2004, we entered into a license agreement with Novartis under which we received an exclusive worldwide license to develop and commercialize VSF-173. In consideration for the license, we paid Novartis an initial license fee of $500,000. We are also obligated to make future milestone payments to Novartis of less than $50 million in the aggregate (the majority of which are tied to sales milestones) and royalty payments at rates which, as a percentage of net sales, range from the low-to-mid teens. Novartis has the right to commercialize VSF-173 on its own after Phase II and Phase III in exchange for certain milestones and royalty payments. In the event that Novartis chooses not to exercise either of these options and we decide to enter into a partnering arrangement to commercialize VSF-173, Novartis has a right of first refusal to negotiate such an agreement with us, as well as a right to submit a last matching counteroffer regarding such an agreement. In addition, our rights with respect to VSF-173 may terminate, in whole or in part, if we fail to meet certain development and commercialization milestones described in our license agreement, if we fail to make royalty or milestone payments or if we do no comply with requirements in our license agreement regarding our financial condition. In the event of an early termination of our license agreement, all rights licensed and developed by us under this agreement may revert back to Novartis.

Government regulation

Government authorities in the United States, at the federal, state and local level, as well as foreign countries and local foreign governments, regulate the research, development, testing, manufacture, labeling, promotion, advertising, distribution, sampling, marketing, import and export of our product candidates. All of our products will require regulatory approval by government agencies prior to commercialization. In particular, human pharmaceutical products are subject to rigorous pre-clinical and clinical trials and other approval procedures of the FDA and similar regulatory authorities in foreign countries. The process of obtaining these approvals and the subsequent compliance with appropriate domestic and foreign laws, rules and regulations require the expenditure of significant time and human and financial resources.

United States government regulation

In the United States, the FDA regulates drugs under the Federal Food, Drug and Cosmetic Act and implementing regulations. If we fail to comply with the applicable requirements at any time during the product development process, approval process, or after approval, we may become subject to administrative or judicial sanctions. These sanctions could include the FDA’s refusal to approve pending applications, withdrawals of approvals, clinical holds, warning letters, product recalls, product seizures, total or partial suspension of our operations, injunctions, fines, civil penalties or criminal prosecution. Any such sanction could have a material adverse effect on our business.

The steps required before a drug may be marketed in the United States include:

Pre-clinical studies generally are conducted in laboratory animals to evaluate the potential safety and activity of a product. Violation of the FDA’s good laboratory practices regulations can, in some cases, lead to invalidation of the studies, requiring these studies to be replicated. In the United States, drug developers submit the results of pre-clinical trials, together with manufacturing information and analytical and stability data, to the FDA as part of the IND, which must become effective before clinical trials can begin in the United States. An IND becomes effective 30 days after receipt by the FDA unless before that time the FDA raises concerns or questions about issues such as the proposed clinical trials outlined in the IND. In that case, the IND sponsor and the FDA must resolve any outstanding FDA concerns or questions before clinical trials can proceed. If these concerns or questions are unresolved, the FDA may not allow the clinical trials to commence.

Pilot studies generally are conducted in a limited patient population, approximately three to 25 subjects, to determine whether the product candidate warrants further clinical trials based on preliminary indications of efficacy. These pilot studies may be performed in the United States after an IND has become effective or outside of the United States prior to the filing of an IND in the United States in accordance with government regulations and institutional procedures.

Clinical trials involve the administration of the investigational product candidate to human subjects under the supervision of qualified investigators. Clinical trials are conducted under protocols detailing, among other things, the objectives of the study, the parameters to be used in assessing the safety and the effectiveness of the drug. Each protocol must be submitted to the FDA as part of the IND prior to beginning the trial.

Typically, clinical evaluation involves a time-consuming and costly three-Phase sequential process, but the phases may overlap. Each trial must be reviewed, approved and conducted under the auspices of an independent Institutional Review Board, and each trial must include the patient’s informed consent.

Phase I, II and III testing may not be completed successfully within any specified time period, if at all. The FDA closely monitors the progress of each of the three phases of clinical trials that are conducted in the United States and may, at its discretion, reevaluate, alter, suspend or terminate the testing based upon the data accumulated to that point and the FDA’s assessment of the risk/benefit ratio to the patient. A clinical program is designed after assessing the causes of the disease, the mechanism of action of the active pharmaceutical ingredient of the product candidate and all clinical and pre-clinical data of previous trials performed. Typically, the trial design protocols and efficacy endpoints are established in consultation with the FDA. Upon request through a special protocol assessment, the FDA can also provide specific guidance on the acceptability of protocol design for clinical trials. The FDA or we may suspend or terminate clinical trials at any time for various reasons, including a finding that the subjects or patients are being exposed to an unacceptable health risk. The FDA can also request additional clinical trials be conducted as a condition to product approval. During all clinical trials, physicians monitor the patients to determine effectiveness and to observe and report any reactions or other safety risks that may result from use of the drug candidate. As noted above, iloperidone is currently in Phase III trials for the treatment of schizophrenia, VEC-162 is ready for Phase III trials for the treatment of insomnia and VSF-173 is ready for Phase II trials for the treatment of sleepiness.

Assuming successful completion of the required clinical trials, drug developers submit the results of pre-clinical studies and clinical trials, together with other detailed information including information on the manufacture and composition of the product, to the FDA, in the form of an NDA, requesting approval to market the product for one or more indications. In most cases, the NDA must be accompanied by a substantial user fee. The FDA reviews an NDA to determine, among other things, whether a product is safe and effective for its intended use.

Before approving an application, the FDA will inspect the facility or facilities where the product is manufactured. The FDA will not approve the application unless cGMP compliance is satisfactory. The FDA will issue an approval letter if it determines that the application, manufacturing process and manufacturing facilities are acceptable. If the FDA determines that the application, manufacturing process or manufacturing facilities are not acceptable, it will outline the deficiencies in the submission and will often request additional testing or information. Notwithstanding the submission of any requested additional information, the FDA may ultimately decide that the application does not satisfy the regulatory criteria for approval and refuse to approve the application by issuing a not approvable letter.

The testing and approval process requires substantial time, effort and financial resources, and each may take several years to complete. The FDA may not grant approval on a timely basis, or

If the FDA approves the new drug application, the drug becomes available for physicians to prescribe in the United States. After approval, the drug developer must comply with a number of post-approval requirements, including delivering periodic reports to the FDA, submitting descriptions of any adverse reactions reported, and complying with drug sampling and distribution requirements. The holder of an approved NDA is required to provide updated safety and efficacy information and to comply with requirements concerning advertising and promotional labeling. Also, quality control and manufacturing procedures must continue to conform to cGMP after approval. Drug manufacturers and their subcontractors are required to register their facilities and are subject to periodic unannounced inspections by the FDA to assess compliance with cGMP which imposes certain procedural and documentation requirements relating to quality assurance and quality control. Accordingly, manufacturers must continue to expend time, money and effort in the area of production and quality control to maintain compliance with cGMP and other aspects of regulatory compliance. The FDA may require post market testing and surveillance to monitor the product’s safety or efficacy, including additional studies, known as Phase IV trials, to evaluate long-term effects.

In addition to studies requested by the FDA after approval, a drug developer may conduct other trials and studies to explore use of the approved compound for treatment of new indications, which require FDA approval. The purpose of these trials and studies is to broaden the application and use of the drug and its acceptance in the medical community.

We use, and will continue to use, third-party manufacturers to produce our products in clinical and commercial quantities. Future FDA inspections may identify compliance issues at our facilities or at the facilities of our contract manufacturers that may disrupt production or distribution, or require substantial resources to correct. In addition, discovery of problems with a product or the failure to comply with requirements may result in restrictions on a product, manufacturer or holder of an approved NDA, including withdrawal or recall of the product from the market or other voluntary or FDA-initiated action that could delay further marketing. Newly discovered or developed safety or effectiveness data may require changes to a product’s approved labeling, including the addition of new warnings and contraindications. Also, new government requirements may be established that could delay or prevent regulatory approval of our products under development.

Foreign regulation

Whether or not we obtain FDA approval for a product, we must obtain approval of a product by the comparable regulatory authorities of foreign countries before we can commence clinical trials or marketing of the product in those countries. The approval process varies from country to country, and the time may be longer or shorter than that required for FDA approval. The requirements governing the conduct of clinical trials, product licensing, pricing and reimbursement also vary greatly from country to country. Although governed by the applicable country, clinical trials conducted outside of the United States typically are administered with

Under European Union regulatory systems, we may submit marketing authorization applications either under a centralized or decentralized procedure. The centralized procedure which is available for products produced by biotechnology or which are highly innovative, provides for the grant of a single marketing authorization that is valid for all European Union member states. This authorization is a marketing authorization approval. The decentralized procedure provides for mutual recognition of national approval decisions. Under this procedure, the holder of a national marketing authorization may submit an application to the remaining member states. Within 90 days of receiving the applications and assessment report, each member state must decide whether to recognize approval. This procedure is referred to as the mutual recognition procedure.

In addition, regulatory approval of prices is required in most countries other than the United States. We face the risk that the resulting prices would be insufficient to generate an acceptable return to us or our collaborators.

Third-party reimbursement and pricing controls

In the United States and elsewhere, sales of pharmaceutical products depend in significant part on the availability of reimbursement to the consumer from third-party payors, such as government and private insurance plans. Third-party payors are increasingly challenging the prices charged for medical products and services. It will be time consuming and expensive for us to go through the process of seeking reimbursement from Medicare and private payors. Our products may not be considered cost effective, and coverage and reimbursement may not be available or sufficient to allow us to sell our products on a competitive and profitable basis. The passage of the Medicare Prescription Drug and Modernization Act of 2003 imposes new requirements for the distribution and pricing of prescription drugs which may affect the marketing of our products.

In many foreign markets, including the countries in the European Union, pricing of pharmaceutical products is subject to governmental control. In the United States, there have been, and we expect that there will continue to be, a number of federal and state proposals to implement similar governmental pricing control. While we cannot predict whether such legislative or regulatory proposals will be adopted, the adoption of such proposals could have a material adverse effect on our business, financial condition and profitability.

Marketing and sales

We currently have no sales, marketing or distribution capabilities. However, we plan to develop these capabilities internally to the extent that it is practical to do so, and enter into partnering arrangements to the extent that we believe large sales and marketing forces will be necessary. More specifically, in the United States we expect to build our own sales force to market iloperidone and VSF-173 directly to psychiatrists and other target physicians. Because the number of physicians that would generate the majority of prescriptions for iloperidone and VSF-173 is relatively small, we believe that we can cost-effectively develop our own sales force to market and sell iloperidone and VSF-173. Outside of the U.S., we intend to find commercial partners for iloperidone and VSF-173. We will seek a global commercial partner for VEC-162.

We will be able to protect our products from unauthorized use by third parties only to the extent that our products are covered by valid and enforceable patents— either licensed in from third parties or generated internally— that give us sufficient proprietary rights. Accordingly, patents and other proprietary rights are essential elements of our business.

Our three current compounds in clinical development are covered by new chemical entity (NCE) and other patents. The NCE patent for iloperidone is owned by Sanofi-Aventis, and other patents and patent applications relating to iloperidone are owned by Sanofi-Aventis and Novartis. Novartis also owns the NCE patent for VSF-173 and Bristol-Myers Squibb owns the NCE patent for VEC-162. For all three compounds we have obtained exclusive worldwide rights to develop and commercialize the compounds covered by these patents through license and sublicense arrangements. For more on these license and sublicense arrangements, please see “—License agreements” above. In addition, we have generated intellectual property, and filed patent applications covering this intellectual property, for each of the three compounds.

The NCE patent covering iloperidone expires normally in 2011 in the United States and in 2010 in most European markets. The NCE patent covering VEC-162 expires in 2017 in the United States and most European markets. The NCE patent covering VSF-173 expires in 2014 in the United States and in 2012 in most European markets. Additionally, for each of our late-stage compounds, an additional period of exclusivity in the United States of up to five years following the expiration of the patent covering that compound may be obtained pursuant to the United States Drug Price Competition and Patent Term Restoration Act of 1984, more commonly known as the “Hatch-Waxman Act.” Assuming we gain such a five-year extension and that we continue to have our intellectual property rights under our sublicense and license agreements, we would have exclusive NCE patent rights in the U.S. for iloperidone until 2016, for VEC-162 until 2022 and for VSF-173 until 2017. In Europe, similar legislative enactments may allow us to obtain five-year extensions of the European NCE patents covering our product candidates through the granting of Supplementary Protection Certificates, which would allow us to have exclusive European NCE patent rights for iloperidone until 2015, for VEC-162 until 2022 and for VSF-173 until 2017. Additionally, a recent directive in the European Union allows companies who receive European regulatory approval for a new compound to have a 10-year period of market exclusivity in most European countries for that compound (with the possibility of a further one-year extension), beginning on the date of such European regulatory approval, regardless of when the European NCE patent covering such compound expires. No generic version of an approved drug may be marketed or sold in most European countries during this 10-year period. This directive may be of particular importance with respect to iloperidone, since the European NCE patent for iloperidone will likely expire prior to the end of this 10-year period of market exclusivity.

Aside from the NCE patents covering our current late-stage compounds, as of December 11, 2005 we had one issued United States patent and 17 pending patent applications in the United States, several of which have already been filed internationally as Patent Cooperation Treaty applications. The claims in these various patents and patent applications are directed to compositions of matter, including claims covering other product candidates, pharmaceutical compositions, and methods of use.

For proprietary know-how that is not appropriate for patent protection, processes for which patents are difficult to enforce and any other elements of our PG discovery process that involve proprietary know-how and technology that is not covered by patent applications, we rely on trade secret protection and confidentiality agreements to protect our interests. We require all