UNITED STATES

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

ý	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002

o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM TO

COMMISSION FILE NUMBER 000-23267

DEPOMED, INC.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

CALIFORNIA		94-3229046
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION)		(I.R.S. EMPLOYER IDENTIFICATION NUMBER)

1360 O’BRIEN DRIVE MENLO PARK, CALIFORNIA 94025
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)

(650) 462-5900
(REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such requirements for the past 90 days.

YES ý

NO o

The number of issued and outstanding shares of the Registrant’s Common Stock, no par value, as of May 3, 2002 was 13,973,309.

DEPOMED, INC.

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited):

	Balance Sheets at March 31, 2002 and December 31, 2001

	Statements of Operations for the three-month periods ended March 31, 2002 and 2001, and for the period from inception (August 7, 1995) to March 31, 2002

	Statements of Cash Flows for the three-month periods ended March 31, 2002 and 2001, and for the period from inception (August 7, 1995) to March 31, 2002

	Notes to Financial Statements

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

PART II – OTHER INFORMATION

Item 1. Legal Proceedings

Item 2. Changes in Securities and Use of Proceeds

Item 6. Exhibits and Reports on Form 8-K

Signature

PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

DEPOMED, INC.

(A Development Stage Company)

BALANCE SHEETS

	March 31, 2002			December 31, 2001
	(Unaudited)			(See Note 1)
ASSETS
Current assets:
Cash and cash equivalents	$	9,693,385		$	5,150,088
Accounts receivable	162,847			397,277
Receivable from joint venture	484,208			642,793
Prepaid and other current assets	154,286			197,479
Total current assets	10,494,726			6,387,637

Property and equipment, net	1,936,760			2,065,175
Other assets	291,876			294,034
	$	12,723,362		$	8,746,846

LIABILITIES AND SHAREHOLDERS’ EQUITY (NET CAPITAL DEFICIENCY)
Current liabilities:
Accounts payable	$	2,635,798		$	2,327,381
Accrued compensation	463,201			446,515
Other accrued liabilities	411,719			343,667
Payable to joint venture	801,271			845,845
Capital lease obligation, current portion	6,652			13,984
Long-term debt, current portion	526,864			542,251
Other current liabilities	86,560			137,718
Total current liabilities	4,932,065			4,657,361

Capital lease obligation, non-current portion	3,045			4,216
Long-term debt, non-current portion	681,276			783,416
Promissory note from related party, non-current portion	5,748,577			4,779,054

Commitments

Shareholders’ equity (net capital deficiency):
Preferred stock, no par value; 5,000,000 shares authorized; Series A convertible exchangeable preferred stock; 25,000 shares designated, 12,015 shares issued and outstanding at March 31, 2002 and December 31, 2001	13,972,517			13,735,000
Common stock, no par value, 25,000,000 shares authorized; 13,973,309 and 11,530,168 shares issued and outstanding at March 31, 2002 and December 31, 2001, respectively	44,498,617			36,109,124
Deficit accumulated during the development stage	(57,112,735		)	(51,321,325		)
Total shareholders’ equity (net capital deficiency)	1,358,399			(1,477,201		)
	$	12,723,362		$	8,746,846

See accompanying notes to Financial Statements.

DEPOMED, INC.

(A Development Stage Company)

STATEMENTS OF OPERATIONS

(Unaudited)

	Three Months Ended March 31,						Period From Inception (August 7, 1995) to
	*2002*			*2001*			*March 31, 2002*

Revenue:
Collaborative agreements	$	137,509		$	278,255		$	3,507,873
Collaborative agreements with affiliates	484,208			359,167			4,364,700

Total revenue	621,717			637,422			7,872,573

Operating expenses:
Research and development	4,587,605			2,655,682			34,715,560
General and administrative	629,972			586,619			10,536,746
Purchase of in-process research and development	—			—			298,154

Total operating expenses	5,217,577			3,242,301			45,550,460

Loss from operations	(4,595,860		)	(2,604,879		)	(37,677,887		)

Other income (expenses):
Equity in loss of joint venture	(812,402		)	(630,118		)	(18,188,438		)
Interest income (expense), net	(145,631		)	45,147			711,107

Total other income (expenses)	(958,033		)	(584,971		)	(17,477,331		)

Net loss	(5,553,893		)	(3,189,850		)	(55,155,218		)

Accretion of dividend on preferred stock	(237,517		)	(220,000		)	(1,957,517		)

Net loss applicable to common stock shareholders	$	(5,791,410	)	$	(3,409,850	)	$	(57,112,735	)

Basic and diluted net loss per common share	$	(0.49	)	$	(0.40	)

Shares used in computing basic and diluted net loss per common share	11,855,476			8,617,913

See accompanying notes to Financial Statements.

DEPOMED, INC.

(A Development Stage Company)

STATEMENTS OF CASH FLOWS

(Unaudited)

	Three Months Ended March 31,						Period From Inception (August 7, 1995) to
	2002			2001			March 31, 2002
Operating Activities
Net loss	$	(5,553,893	)	$	(3,189,850	)	$	(55,155,218	)
Adjustments to reconcile net loss to net cash used in operating activities:
Equity in loss of joint venture	812,402			630,118			18,188,438
Depreciation and amortization	174,559			118,318			1,779,275
Accrued interest expense on notes	112,547			32,359			390,028
Amortization of deferred compensation	—			22,053			947,250
Value of stock options issued for services	6,605			—			216,392
Purchase of in-process research and development	—			—			298,154
Changes in assets and liabilities:
Accounts receivable	234,430			(6,480		)	(162,847		)
Accounts receivable from joint venture	158,585			73,146			(484,208		)
Other current assets	43,193			58,021			(154,286		)
Other assets	2,158			(555		)	(292,034		)
Accounts payable and other accrued liabilities	376,469			342,701			3,047,517
Accrued compensation	16,686			(24,159		)	395,725
Other current liabilities	(51,158		)	(38,344		)	86,560
Net cash used in operating activities	(3,667,417		)	(1,982,672		)	(30,899,254		)

Investing Activities
Investment in joint venture	(856,976		)	(695,524		)	(17,387,167		)
Expenditures for property and equipment	(46,144		)	(482,802		)	(3,400,460		)
Purchases of marketable securities	—			—			(15,217,066		)
Maturities of marketable securities	—			2,614,954			15,214,109
Net cash (used in) provided by investing activities	(903,120		)	1,436,628			(20,790,584		)

Financing Activities
Payments on capital lease obligations	(8,503		)	(9,399		)	(302,821		)
Proceeds on equipment loan	—			587,472			1,947,006
Payments on equipment loan	(117,527		)	(33,204		)	(626,466		)
Proceeds from issuance of promissory notes to related parties	856,976			695,504			6,422,167
Payments on notes	—			—			(1,000,000		)
Payments on shareholder loans	—			—			(294,238		)
Proceeds on issuance of preferred stock	—			—			12,015,000
Proceeds on issuance of common stock, net of issuance costs	8,382,888			(364		)	43,222,575
Net cash provided by financing activities	9,113,834			1,240,009			61,383,223

Net increase in cash and cash equivalents	4,543,297			693,965			9,693,385
Cash and cash equivalents at beginning of period	5,150,088			3,878,354			—
Cash and cash equivalents at end of period	$	9,693,385		$	4,572,319		$	9,693,385

See accompanying notes to Financial Statements.

DEPOMED, INC.

(A Development Stage Company)

NOTES TO FINANCIAL STATEMENTS

(Unaudited)

1. BASIS OF PRESENTATION

These unaudited condensed financial statements and the related footnote information of DepoMed, Inc. (the “Company”) have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of the Company’s management, the accompanying interim unaudited condensed financial statements include all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the information for the periods presented. The results for the interim period ended March 31, 2002 are not necessarily indicative of results to be expected for the entire year ending December 31, 2002 or future operating periods.

The balance sheet at December 31, 2001 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. For further information, refer to the financial statements and footnotes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2001 filed with the Securities and Exchange Commission.

As of March 31, 2002, the Company had approximately $9,693,000 in cash and cash equivalents, working capital of $5,563,000 and accumulated net losses of $55,155,000. In the course of its development activities, the Company expects such losses to continue over the next several years. Management plans to continue to finance the operations with a combination of equity and debt financing and revenue from corporate alliances and technology licenses, including revenue from its joint venture. If adequate funds are not available, the Company may be required to delay, reduce the scope of, or eliminate one or more of its development programs. As more fully discussed in the Management’s Discussion and Analysis, the Company expects its existing capital resources will permit it to meet its capital and operational requirements through at least December 2002.

2. REVENUE RECOGNITION

Revenue related to collaborative research agreements with corporate partners and the Company’s joint venture is recognized as the expenses are incurred for each contract. The Company is required to perform research activities as specified in each respective agreement on a best efforts basis, and the Company is reimbursed based on the costs associated with supplies and the hours worked by employees on each specific contract. Nonrefundable milestone payments are recognized pursuant to collaborative agreements upon the achievement of specified milestones where no further obligation to perform exists under that milestone provision of the arrangement.

3. CASH, CASH EQUIVALENTS AND MARKETABLE SECURITIES

The Company considers all highly liquid investments with an original maturity (at date of purchase) of three months or less to be cash equivalents. Cash and cash equivalents consist of cash on deposit with banks and money market instruments. The Company places its cash and cash equivalents with high quality, U.S. financial institutions and, to date, has not experienced losses on any of its balances. The Company records cash and cash equivalents at amortized cost, which approximates the fair value.

4. NET LOSS PER COMMON SHARE

Net loss per common share is computed using the weighted-average number of shares of common stock outstanding. Common stock equivalent shares from outstanding stock options, warrants and other convertible securities and loans are not included as their effect is antidilutive.

5. COMPREHENSIVE LOSS

Total comprehensive loss for the three months ended March 31, 2002 and 2001, approximates net loss and includes unrealized gains and losses on marketable securities.

6. RECENTLY ISSUED ACCOUNTING STANDARDS

In October 2001, the Financial Accounting Standards Board issued Financial Reporting Standard No. 144 (“FAS 144”), “Accounting for the Impairment or Disposal of Long-Lived Assets.” FAS 144 supersedes Financial Reporting Standard No. 121 (“FAS 121”), “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.” The primary objectives of FAS 144 are to develop one accounting model based on the framework established in FAS 121 for long-lived assets to be disposed of by sale, and to address significant implementation issues. The adoption of FAS 144 on January 1, 2002 had no impact on the Company’s financial position and results of operations.

7. RESEARCH ARRANGEMENTS

Elan Corporation, plc

In 1999, the Company formed a joint venture, DepoMed Development, Ltd. (“DDL”), with Elan Corporation, plc, Elan Pharma International, Ltd. and Elan International Services, Ltd. (together “Elan”) to develop products using drug delivery technologies of Elan and DepoMed, Inc. This joint venture, a Bermuda limited liability company, is initially owned 80.1% by DepoMed and 19.9% by Elan. DDL funds its research through capital contributions from its partners based on the partners’ ownership percentage. DepoMed and Elan have initially agreed upon an aggregate maximum funding amount of $10,000,000 and a two-year funding term that expired January 21, 2002. DepoMed and Elan are currently negotiating to extend the funding term of the agreement. Both partners continue to perform development work for DDL while the negotiations are ongoing.

While the Company owns 80.1% of the outstanding capital stock (and 100% of the outstanding common stock) of DDL, Elan and its subsidiaries have retained significant minority investor rights that are considered “participating rights” as defined in Emerging Issues Task Force Consensus No. 96-16. Accordingly, DepoMed does not consolidate the financial statements of DDL, but instead accounts for its investment in DDL under the equity method of accounting.

For the three months ended March 31, 2002 and 2001, and for the period from formation (November 30, 1999) to March 31, 2002, DDL recognized a net loss of approximately $1,014,000, $787,000 and $22,707,000, respectively. The net loss from formation to March 31, 2002 includes a $15,000,000 payment to Elan for the acquisition of in-process research and development rights related to certain Elan drug delivery technologies. DepoMed recognized 80.1% of DDL’s loss, or approximately $812,000, $630,000 and $18,188,000 for the three months ended March 31, 2002 and 2001, and for the period from formation to March 31, 2002, respectively. To date, DDL has not recognized any revenue.

8. COMMITMENTS AND CONTINGENCIES

Elan Promissory Note

In connection with the formation of DDL, Elan made a loan facility available to the Company for up to $8,010,000 to support DepoMed’s 80.1% share of the joint venture’s research and development costs pursuant to a convertible promissory note issued by DepoMed to Elan. The note has a six-year term and bears interest at 9% per annum, compounded semi-annually, on any amounts borrowed under the facility. At Elan’s option, the note is convertible into the Company’s common stock. An anti-dilution provision of the note was triggered with the Company’s March 2002 financing (See Note 9 of the Notes to Financial Statements), which adjusted the price at which the amount borrowed under the facility and the accrued interest convert to the Company’s common stock from $10.00 per share to $9.07 per share. The funding term of the loan expired on January 21, 2002 and DepoMed and Elan are currently in negotiations to extend the funding term. Although the funding term has not formally been extended as of March 31, 2002, Elan has allowed funding under the facility. In the three months ended March 31, 2002, the Company borrowed approximately $857,000 under the facility. To date, a total of $5,749,000 is outstanding on the note, including $376,000 of accrued interest.

Equipment Financing Credit Facility

In March 2001, the Company entered into a secured equipment financing credit facility. The credit facility allowed the Company to finance up to $2,000,000 of equipment and leasehold improvements purchased from August 2000 through December 31, 2001. In 2001, the Company utilized approximately $1,347,000 of the credit facility and the unused portion of $653,000 expired on December 31, 2001. Loans under the facility were collateralized initially by a security interest in all of the Company’s assets until the Company completed one or more financings of an aggregate of at least $10,000,000. In March 2002, the security interest in the Company’s assets was released and as a result only the financed equipment will serve as collateral for the duration of the loans.

9. SHAREHOLDERS’ EQUITY

Private Placement

In March 2002, the Company completed a private placement of 2,300,000 shares of common stock at $3.83 per share with net proceeds of $8,195,000. Additionally, the Company issued warrants to a placement agent to purchase 121,981 shares of common stock at $4.875 per share. The warrants are exercisable until March 22, 2006.

Preferred Stock Dividend

In conjunction with the formation of DDL, Elan purchased 12,015 shares of DepoMed Series A convertible exchangeable preferred stock (the “Series A Preferred Stock”). The Series A Preferred Stock accrues a dividend of 7% per annum, compounded semi-annually and payable in shares of Series A Preferred Stock. The Series A Preferred Stock is convertible into the Company’s common stock, at Elan’s option. An anti-dilution provision of the Elan agreement was triggered with the Company’s March 2002 financing, which adjusted the price at which the Series A Preferred Stock and accrued dividends convert to the Company’s common stock from $12.00 per share to $10.66 per share. For the three months ended March 31, 2002, the Company accrued $238,000 as dividends on the Series A Preferred Stock. Through March 31, 2002, the Company had accrued a total of $1,958,000 related to the dividend on the Series A Preferred Stock.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

FORWARD-LOOKING INFORMATION

The following discussion and analysis should be read in conjunction with the Management’s Discussion and Analysis of Financial Condition and Results of Operations included with the company’s Annual Report on Form 10-K for the year ended December 31, 2001 and the company’s Financial Statements and related notes thereto appearing elsewhere in this quarterly report. Statements made in this quarterly report that are not statements of historical fact are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). A number of risks and uncertainties, including those discussed under the caption “ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS” below and elsewhere in this quarterly report on Form 10-Q, could affect such forward-looking statements and could cause actual results to differ materially from the statements made. The company expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any changes in the company’s expectations with regard thereto or any change in events, conditions or circumstances on which any such statements are based.

ABOUT THE COMPANY

We are a development stage company engaged in the development of new and proprietary oral drug delivery technologies. Our primary oral drug delivery system is the patented Gastric Retention System (the “GR System”). The GR System is designed to be retained in the stomach for an extended period of time while it delivers the incorporated drug or drugs, on a continuous, controlled release basis. By incorporation into the GR System, a drug currently taken two or three times a day may be administered only once a day. At present, several drug compounds incorporated in the GR System are in advanced clinical trial development. In January 2002, a patent on our GR System was issued, which expands the coverage of our technology for the controlled delivery of a broad range of drugs from a gastric retained polymer matrix tablet to maximize therapeutic benefits. Our intellectual property position includes four issued patents and thirteen patent applications pending in the United States. We have also developed the Reduced Irritation System (the “RI System”), (together with the GR System, the “DepoMed Systems”) which is designed to provide for significant reduction in local upper gastrointestinal irritation from the effects of certain drugs.

In this Annual Report on Form 10-Q, the “company,” “DepoMed,” “we,” “us,” and “our,” refer to DepoMed, Inc.

We develop proprietary products utilizing our technology internally, as well as in collaboration with pharmaceutical and biotechnology companies. Regarding our collaborative programs, we apply our technology to the partner’s compound and from these collaborations we expect to receive research and development funding, milestone payments, license fees and royalties. For our internal development programs, we apply our proprietary technology to existing drugs and fund development through Phase II clinical trials. With the Phase II clinical trial results, we generally seek a collaborative partner for marketing and sales, as well as to complete the funding of the clinical trials. We also expect to receive milestone payments, license fees and royalties from these later stage collaborations.

We have internally developed a potential once-daily metformin product for Type II diabetes, Metformin GR™, which is currently in pivotal Phase III human clinical trials. We are currently in discussions with potential marketing partners for our Metformin GR product; however, we cannot assure that we will be successful in finding such a partner or that the terms of any such arrangement will be favorable to us.

In January 2002, a broad patent covering our GR System was issued. We subsequently filed and served a complaint against Bristol-Myers Squibb Company (“BMS”) claiming that BMS’s once-daily metformin product, Glucophage® XR, infringes our United States Patent No. 6,340,475 (the “BMS Lawsuit”), as well as other matters set forth in the complaint. Although we intend to vigorously enforce our intellectual property rights, there can be no assurance that we would be successful in any litigation against BMS.

In January 2001, we announced that we completed a Phase I human clinical trial with an internally developed once-daily formulation of the antibiotic drug ciprofloxacin, called Ciprofloxacin GR™, for urinary tract infections. Our formulation was found to have comparable bioavailability and had a significantly extended blood plasma concentration profile compared with CIPRO®, a currently marketed ciprofloxacin HCl immediate release product that is taken twice per day. Late in the third quarter of 2001, we began a Phase II clinical trial for Ciprofloxacin GR which reached 100% patient enrollment in March 2002. If the trial is successful, we anticipate proceeding to a Phase III trial later in 2002.

In addition, we are developing other product candidates expected to benefit from incorporation into our drug delivery systems. For example, we initiated a Phase I clinical trial of the drug furosemide incorporated into the GR System for cardiovascular indications in March 2002. Further, we have begun a feasibility study of a combination product comprising our Metformin GR once-daily formulation of Metformin with a once-daily sulfoyluerea.

Future clinical progress of our products depends primarily on the result of each ongoing study. There can be no assurance that a clinical trial will be successful or that the product will gain regulatory approval. For a more complete discussion of the risks and uncertainties associated with completing development of a potential product, see the section entitled “Additional Factors that May Affect Future Results” and elsewhere in this Form 10-Q.

In November 1999, we entered into an agreement to form a joint venture with Elan Corporation, plc, Elan Pharma International, Ltd. and Elan International Services, Ltd. (together “Elan”) to develop products using drug delivery technologies and expertise of both Elan and DepoMed. This joint venture, DepoMed Development, Ltd. (“DDL”), a Bermuda limited liability company, is initially owned 80.1% by DepoMed and 19.9% by Elan. DepoMed began subcontract development work for DDL in January 2000 and an undisclosed product entered Phase I clinical trials in December 2000. Patent applications have been filed for this product and we are currently seeking a marketing partner for it. DDL’s second product candidate is currently in Phase I clinical trials and DDL’s third product candidate is in preclinical testing.

In addition to research and development conducted on our own behalf and through collaborations with pharmaceutical partners, our activities since inception (August 7, 1995) have included establishing our offices and research facilities, recruiting personnel, filing patent applications, developing a business strategy and raising capital. To date, we have received only limited revenue, all of which has been from these collaborative research and feasibility arrangements. We intend to continue investing in the further development of our drug delivery technologies and the DepoMed Systems. We will need to make additional capital investments in laboratories and related facilities. As additional personnel are hired in 2002 and our potential products proceed through the development process, expenses can be expected to increase from their 2001 levels.

DepoMed has generated a cumulative net loss of approximately $55,155,000 for the period from inception through March 31, 2002. Of this loss, $18,188,000 is attributable to our share of the equity in the net loss of DDL.

RESULTS OF OPERATIONS

Three Months Ended March 31, 2002 and 2001

Revenues

Revenue for the three months ended March 31, 2002 and 2001 was $622,000 and $637,000, respectively. In 2002, revenue from collaborative agreements decreased to $138,000 from $278,000 in 2001. These revenues consisted of research and development work performed for two undisclosed collaborative partners. The decrease in revenue was due to decreased work performed for the undisclosed New York Stock Exchange-listed pharmaceutical company while it evaluated the clinical status of its drug program. Also in 2002, revenues earned for development work performed for DDL, were $484,000 compared to $359,000 for the same period of 2001. The increase was due to increased research funding for development work conducted on the joint venture’s additional product candidates. Development work performed for DDL is funded by the joint venture partners at the partners’ pro rata ownership percentage, up to an aggregate maximum amount of $10,000,000. As of March 31, 2002, the amount remaining under the agreement was $2,293,000. While the funding period terminated on January 21, 2002, we expect that the partners will agree to extend the period through at least December 2002. We expect to continue to perform development work for DDL through at least December 2002.

Research and Development Expense

Research and development expense increased to $4,588,000 for the three months ended March 31, 2002, compared to $2,656,000 in the same period of 2001. The increase was primarily due to increased expense of $1,149,000 for clinical trials with DepoMed proprietary products, including a Phase III trial with Metformin GR and a Phase II trial with Ciprofloxacin GR, which began in the third and fourth quarters of 2001, respectively. Other increases included $334,000 related to the hiring of additional employees and related expenses, $209,000 related to increased laboratory supplies for additional projects, and $141,000 related to legal fees associated with increased patent filings during the first quarter of 2002.

The scope and magnitude of future research and development expenses are difficult to predict at this time given the number of studies that will need to be conducted for any of our potential products or those of potential collaborative partners. As potential products proceed through the development process, each step is typically more expensive than the previous step. Success in development therefore results in increasing expenditures. Our research and development expenses currently include costs for scientific personnel, supplies, equipment, outsourced activities, consultants, patent filings, depreciation, utilities, administrative expenses and an allocation of corporate costs. Our largest research and development expense over the last three years has been expense related to clinical trials. We expect our research and development expense will continue to increase in the foreseeable future.

General and Administrative Expense

General and administrative expense for the first quarter of 2002 and 2001 was $630,000 and $587,000, respectively. The increase was primarily due to expense of $74,000 related to increased patent and other legal services in regard to business development and other issues regarding the BMS Lawsuit. Other increases included expense of $31,000 related to salary increases and the hiring of additional employees and expense of $12,000 related to increased insurance limits on directors and officers insurance. These increases were offset by a $31,000 expense reduction in travel and entertainment. Various other administrative expenses were reduced due to higher allocation rates of general and administrative expense to research and development expense, which are a function of the hiring of additional research and development personnel. We expect that general and administrative expense will increase in the future, but at a lower rate than research and development expenses. Also, as a result of the BMS Lawsuit, our legal fees will increase in the future and may impact our results of operations.

Equity in Loss of Joint Venture

DDL was formed In the fourth quarter of 1999. While we own 80.1% of the outstanding capital stock (and 100% of the outstanding common stock) of DDL, Elan and its subsidiaries have retained significant minority investor rights that are considered “participating rights” as defined in the Emerging Issues Task Force Consensus No. 96-16. Accordingly, we do not consolidate the financials statements of DDL, but instead account for our investment in DDL under the equity method of accounting.

DDL recognized a loss of $1,014,000 and $787,000 for the three months ended March 31, 2002 and 2001, respectively. The increase in research and development expense was due to increased clinical trials activity and increased development work conducted on additional product candidates. Our 80.1% share of the DDL’s loss was $812,000 and $630,000 for the three months ended March 31, 2002 and 2001, respectively. We were responsible, at our sole discretion, for funding 80.1% of DDL’s cash requirements up to a maximum of $8,010,000 through January 21, 2002. Elan made available to us a convertible loan facility to assist us in funding our portion of the joint venture losses up to a maximum of $8,010,000 through January 21, 2002. We are currently in negotiations with Elan to extend the funding period for research and development as well as the funding period of the loan facility through at least December 2002. We expect that both funding periods will be extended and that our share of DDL’s losses will be approximately $2,500,000 during 2002. Although the funding periods have not formally been extended, as of March 31, 2002, we continue to perform work for DDL and Elan has allowed for funding under the facility.

Interest Expense

Net interest expense was approximately $146,000 for the three months ended March 31, 2002, compared to net interest income of $45,000 in the same period of 2001. Interest income decreased from $93,000 in 2001 to $15,000 in 2002 due to declining cash and investment balances as well as declining interest rates. Interest income was offset by interest expense that increased from $48,000 in 2001 to $160,000 in 2002 due to amounts borrowed under the equipment loan and the promissory note from Elan. In 2001, net interest income also included immaterial gains realized on the sale and maturity of marketable securities.

Series A Preferred Stock Dividend

In January 2000, we issued 12,015 shares of Series A convertible exchangeable preferred stock at a price of $1,000 per share to fund our 80.1% share of the initial capitalization of DDL. The Series A preferred stock accrues a dividend of 7% per annum, compounded semi-annually and payable in shares of Series A preferred stock. The Series A preferred stock is convertible at anytime after January 2002, at Elan’s option, into DepoMed’s common stock. The original conversion price of the Series A preferred stock was $12.00; however, as a result of our March 2002 financing, the conversion price has been adjusted to $10.66 per share. For the three months ended March 31, 2002 and 2001, we accrued a dividend of $238,000 and $220,000, respectively. To date, we have accrued a total of $1,958,000 related to the dividend on the Series A preferred stock.

Stock Option Grants

In June 2001, the Board of Directors authorized an increase in the number of shares authorized for issuance under the Plan by 500,000 shares. This increase will not be submitted for shareholder approval until the 2002 Annual Meeting of Shareholders on May 30, 2002. In November and December 2001, we granted options to purchase approximately 310,000 shares out of the proposed 500,000 share increase of common stock at exercise prices of $5.50 and $5.80, which represent the fair market value of our common stock on the respective dates of grant. However, as the options will not be deemed authorized for grant until the shareholders have approved the increase in the number of shares authorized under the Plan, the applicable measurement date for accounting purposes will be the date such approval is obtained. Accordingly, if on such date the fair market value of the underlying common stock is greater than the exercise price, we will be required to recognize the difference as a non-cash compensation expense. If the fair market value of our common stock is significantly higher than the exercise price on this date, our results

could be materially impacted in the second quarter of 2002. The fair market value of our common stock at March 31, 2002 was $5.00; the fair market value of our common stock on May 3, 2002 was $5.00.

LIQUIDITY AND CAPITAL RESOURCES

Cash used in operations in the three months ended March 31, 2002 was approximately $3,667,000, compared to approximately $1,983,000 for the three months ended March 31, 2001. During the three months ended March 31, 2002, the cash used in operations was due primarily to the net loss offset by our equity in the loss of the joint venture. Decreases in accounts receivable due to decreased revenue in 2002 and increases in accounts payable due to increased clinical trial activity also offset the net loss. In 2001, the cash used in operations was due to the net loss offset by increases in accounts payable and our equity in the loss of the joint venture.

Cash used in investing activities in the three months ended March 31, 2002 totaled approximately $903,000 and consisted of a $857,000 investment in our joint venture and $46,000 in purchases of lab equipment, leasehold improvements and office equipment. Net cash provided by investing activities in the three months ended March 31, 2001 totaled approximately $1,437,000 and consisted of maturities of marketable securities, offset by a $696,000 investment in our joint venture and $483,000 in purchases of lab equipment, leasehold improvements and office equipment. We expect that future capital expenditures may include additional product development and quality control laboratory equipment as we work towards implementation of current Good Manufacturing Practices (“cGMP”) in our laboratories.

Cash provided by financing activities in the three months ended March 31, 2002 was approximately $9,114,000, compared to $1,240,000 for the same period of 2001. In 2002, the amount consisted of net proceeds of approximately $8,195,000 from a private placement completed in March for 2,300,000 shares of common stock and warrants to purchase 121,981 shares of common stock (See Note 9 of Notes to Financial Statements, Shareholders’ Equity, Private Placement). Other financing included $857,000 from a credit facility provided by Elan to fund our portion of our joint venture expense and $188,000 of proceeds from the exercise of warrants and stock options. Cash provided by financing was offset by $126,000 of payments on equipment loans and capital lease obligations. In 2001, the amount provided by financing activities consisted of proceeds of $696,000 from the Elan credit facility and $587,000 of proceeds from an equipment financing credit facility we signed in March 2001, which financed equipment purchases from August 2000 through January 2001. Cash provided by financing was offset by $43,000 of payments on equipment loans and on capital lease obligations.

As of March 31, 2002, we had approximately $9,693,000 in cash and cash equivalents, working capital of $5,563,000 and accumulated net losses of $55,155,000. We expect to continue to incur operating losses over the next several years. We anticipate that our existing capital resources will permit us to meet our capital and operational requirements through at least December 2002. We are seeking a partner to provide additional funding to support the Metformin GR clinical trials to their conclusion, as well as our other development programs. If we are unsuccessful in securing such funding, it may become necessary for us to temporarily halt some of our clinical trials until we can successfully enter into a collaborative agreement covering our Metformin GR product, which may not be accomplished.

We base our expectations on our current operating plan which may change as a result of many factors. Accordingly, we could require additional funding sooner than anticipated. Our cash needs may also vary materially from our current expectations because of numerous factors, including:

• results of research and development;

• relationships with collaborative partners;

• changes in the focus and direction of our research and development programs;

• technological advances; and

• results of clinical testing, requirements of the FDA and comparable foreign regulatory agencies.

We will need substantial funds of our own or from third parties to:

• conduct research and development programs;

• conduct preclinical and clinical testing; and

• manufacture (or have manufactured) and market (or have marketed) potential products using the DepoMed Systems.

Our existing capital resources will not be sufficient to fund our operations until such time as we may be able to generate sufficient revenues to support our operations. We have limited credit facilities and no other committed source of capital. To the extent that our capital resources are insufficient to meet our future capital requirements, we will have to raise additional funds to continue our development programs. We may not be able to raise such additional capital on favorable terms, or at all. If the company raises additional capital by selling its equity or convertible debt securities, the issuance of such securities could result in dilution of our shareholders’ equity positions. If adequate funds are not available the company may have to:

• curtail operations significantly; or

• obtain funds through entering into collaborative agreements on unattractive terms.

The inability to raise capital would have a material adverse effect on the company.

Recently Issued Accounting Standards

ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS

We are at an early stage of development and are expecting operating losses in the future.

We are at an early stage of development. Accordingly, our business is subject to all of the business risks associated with a new enterprise, including:

• uncertainties regarding product development;

• dependence on collaborative partnering relationships;

• lack of revenue and uncertainty regarding future revenues;

• limited financial and personnel resources; and

• lack of established credit facilities.

As we expand our research and development efforts, we anticipate that we will continue to incur substantial operating losses for at least the next several years. Therefore, we expect our cumulative losses to increase. To date, we have had no revenues from product sales and only minimal revenues from our collaborative research and development arrangements and feasibility studies. Our success will depend on commercial sales of products that generate significant revenues for us. We cannot predict whether we will be able to achieve commercial sales of any revenue-generating products.

We may not be able to develop a successful product.

Our research and development programs are at an early stage. In order for us to incorporate a pharmaceutical product into a DepoMed System, we would need to complete substantial additional research and development on a drug provided by a collaborative partner. Even if we are successful, the collaborative partner’s drug incorporated in the DepoMed System:

• may not be offered for commercial sale; or

• may prove to have undesirable or unintended side effects that prevent or limit its commercial use.

Before we or others make commercial sales of products using the DepoMed Systems, we or our collaborative partners would need to:

• conduct clinical tests showing that these products are safe and effective; and

• obtain regulatory approval.

This process involves substantial financial investment and may not be successful.

In June 2001, we announced the initiation of Phase III human clinical trials of Metformin GR and in October 2001 we announced the initiation of Phase II clinical trials of Ciprofloxacin GR. There can be no assurance that these clinical trials will be successful, or that regulatory approval will be obtained.

Successful commercial sales of Metformin GR or any other product would require:

• entering into a license agreement with a capable marketing and sales partner;

• market acceptance;

• cost-effective commercial scale production; and

• reimbursement under private or governmental health plans.

We will have to curtail, redirect or eliminate our product development programs if we or our collaborative partners find that:

• the DepoMed Systems prove to have unintended or undesirable side effects; or

• products which appear promising in preclinical studies do not demonstrate efficacy in larger scale clinical trials.

These events could have a material adverse effect on the company.

Most of our revenues are derived from our relationship with Elan and our strategy is dependent upon entering into additional collaborative relationships.

We have generated all of our revenues through collaborative arrangements with pharmaceutical and biotechnology companies. Currently, most of our revenues are derived from our joint venture with Elan. If our joint venture with Elan is terminated or fails to produce desired results, our revenues and results of operations will suffer.

Our strategy to continue the research, development, clinical testing, manufacturing and commercial sale of products using the DepoMed Systems requires that we enter into additional collaborative arrangements. We may not be able to enter into future collaborative arrangements on acceptable terms, which would have a material adverse effect on us. The success of the Elan joint venture and other collaborative arrangements requires that our collaborative partners:

• perform their obligations as expected; and

• devote sufficient resources to the development, clinical testing and marketing of products developed under collaborations.

Our collaborative agreements may give rise to disputes.

Collaborative agreements are generally complex and may contain provisions which give rise to disputes regarding the relative rights and obligations of the parties. Any such dispute could delay collaborative research, development or commercialization of potential products, or could lead to lengthy, expensive litigation or arbitration. In addition, the terms of our past and future collaborative partner agreements may limit or preclude us from developing products or technologies developed pursuant to such agreements. Moreover, collaborative agreements often take considerably longer to conclude than the parties initially anticipate, which could cause us to agree to less favorable agreement terms or to reduced rates of spending in support of key programs.

It is possible that our collaborative partners may not choose to develop and make commercial sales of products using the DepoMed Systems technologies. Any of the following events could have a material adverse effect on the company:

• any parallel development by a collaborative partner of competitive technologies or products;

• arrangements with collaborative partners that limit or preclude us from developing products or technologies;

• premature termination of an agreement; or

• failure by a collaborative partner to devote sufficient resources to the development, and commercial sales of products using the DepoMed Systems.

In July 1996, the company and Bristol-Myers entered into a letter agreement regarding a joint research project relating to the development of a product consisting of formulations of a Bristol-Myers drug incorporated in the GR System (the “Bristol-Myers Agreement”). After we completed our research under the Bristol-Myers Agreement, Bristol-Myers decided in early 1999 not to exercise its option to license the resulting product and to proceed instead with its own internally developed product. The Bristol-Myers Agreement by its terms prohibits us from exploiting any formulations of the Bristol-Myers drug developed pursuant to the agreement or any proprietary information or invention relating solely to the Bristol-Myers drug developed under the Bristol-Myers Agreement.

Independent of the Bristol-Myers Agreement, we developed a proprietary product, currently in clinical trials, incorporating the Bristol-Myers drug (which is no longer covered by a U.S. patent) into the GR System. We believe that our development of this product does not contravene any of our obligations under the Bristol-Myers Agreement. However, there can be no assurance that Bristol-Myers will not assert that we have violated the terms of the Bristol-Myers Agreement or dispute our sole ownership of any patent that relates to the product. If Bristol-Myers were to make such an assertion, we could be subject to costly and time-consuming litigation, the outcome of which would be uncertain and in which we would be at a disadvantage because Bristol-Myers has considerably greater financial resources.

We may be unable to protect our intellectual property and may be liable for infringing the intellectual property of others.

Our success will depend in part on our ability to obtain and maintain patent protection for our technologies and to preserve our trade secrets. Our policy is to file patent applications in the United States and foreign jurisdictions. We currently hold four issued United States patents and eleven United States patent applications are pending. Additionally, we are currently preparing a series of patent applications representing our expanding technologies for filing in the United States. We have also applied for patents in numerous foreign countries. Some of those countries have granted our applications and other applications are still pending. No assurance can be given that our patent applications will be approved, or that any issued patents will provide competitive advantages for the DepoMed Systems or our technologies.

With respect to already issued patents and any patents which may issue from our applications, there can be no assurance that claims allowed will be sufficient to protect our technologies. The United States maintains patent applications in secrecy until a patent issues. As a result, we cannot be certain that others have not filed patent applications for technology covered by our pending applications or that we were the first to file patent applications for such technology. Competitors may have filed applications for, or may have received patents and may obtain additional patents and proprietary rights relating to, compounds or processes that may block our patent rights or permit the competitors to compete without infringing our patent rights. In addition, there can be no assurance that:

• any patents issued to us will not be challenged, invalidated or circumvented; or

• the rights granted under the patents issued to us will provide proprietary protection or commercial advantage to us.

We also rely on trade secrets and proprietary know-how. We seek to protect that information, in part, through entering into confidentiality agreements with employees, consultants, collaborative partners and others before such persons or entities have access to our proprietary trade secrets and know-how. These confidentiality agreements may not be effective in certain cases, due to, among other things, the lack of an adequate remedy for breach of an agreement or a finding that an agreement is unenforceable. In addition, our trade secrets may otherwise become known or be independently developed by competitors.

Our ability to develop our technologies and to make commercial sales of products using our technologies also depends on not infringing others’ patents. We not aware of any claim of patent infringement against us. However, if claims concerning patents and proprietary technologies arise and are determined adversely to us, the claims could have a material adverse effect on us. Extensive litigation regarding patent and other intellectual property rights is common in the pharmaceutical industry.

We may need to engage in litigation to enforce any patents issued or licensed to us or to determine the scope and validity of third-party proprietary rights. There can be no assurance that our issued or licensed patents would be held valid by a court of competent jurisdiction. Whether or not the outcome of litigation is favorable to us, the diversion of our financial and managerial resources to such litigation could have a material adverse effect on us. We may also be required to participate in interference proceedings declared by the United States Patent and Trademark Office for the purpose of determining the priority of inventions in connection with our patent applications or other parties’ patent applications. Adverse determinations in litigation or interference proceedings could require us to seek licenses (which may not be available on commercially reasonable terms, or at all) or subject us to significant liabilities to third parties. These events could have a material adverse effect on us.

In January 2002, a broad patent covering our GR System was issued. We subsequently filed and served a complaint against Bristol-Myers claiming that Bristol-Myers’ once-daily metformin product, Glucophage® XR, infringes our United States Patent No. 6,340,475, as well as other matters set forth in the complaint. Although we intend to vigorously enforce our intellectual property rights, there can be no assurance that we would be successful in any litigation against Bristol-Myers.

These events could have a material adverse effect on the company.

Failure to obtain or delay in obtaining regulatory approval could harm our business.

Numerous governmental authorities in the United States and other countries regulate our research and development activities and those of our collaborative partners. Governmental approval is required of all potential pharmaceutical products using the DepoMed Systems and their manufacture and marketing prior to the commercial use of those products. The regulatory process will take several years and require substantial funds. If products using the DepoMed Systems do not receive the required regulatory approvals or if such approvals are delayed, our business would be materially adversely affected. There can be no assurance that the requisite regulatory approvals will be obtained without lengthy delays, if at all.

In the United States, the FDA rigorously regulates pharmaceutical products, including any drugs using the DepoMed Systems. If a company fails to comply with applicable requirements, the FDA or the courts may impose sanctions. These sanctions may include civil penalties, criminal prosecution of the company or its officers and employees, injunctions, product seizure or detention, product recalls, total or partial suspension of production. The FDA may withdraw approved applications or refuse to approve pending new drug applications, premarket approval applications, or supplements to approved applications.

We generally must conduct preclinical testing on laboratory animals of new pharmaceutical products prior to commencement of clinical studies involving human beings. These studies evaluate the potential efficacy and safety of the product. We then submit the results of these studies to the FDA as part of an Investigational New Drug application, which must become effective before beginning clinical testing in humans in the United States.

Typically, human clinical evaluation involves a time-consuming and costly three-phase process:

• In Phase I, we conduct clinical trials with a small number of subjects to determine a drug’s early safety profile and its pharmacokinetic pattern.

• In Phase II, we conduct clinical trials with groups of patients afflicted with a specific disease in order to determine preliminary efficacy, optimal dosages and further evidence of safety.

• In Phase III, we conduct large-scale, multi-center, comparative trials with patients afflicted with a target disease in order to provide enough data to demonstrate the efficacy and safety required by the FDA prior to commercialization.

The FDA closely monitors the progress of each phase of clinical testing. The FDA may, at its discretion, re-evaluate, alter, suspend or terminate testing based upon the data accumulated to that point and the FDA’s assessment of the risk/benefit ratio to patients.

The results of the preclinical and clinical testing are submitted to the FDA in the form of a New Drug Application (an “NDA”) for approval prior to commercialization. An NDA requires that our products are compliant with cGMP. Failure to achieve or maintain cGMP standards for products using the DepoMed Systems would adversely impact their marketability. In responding to an NDA, the FDA may grant marketing approval, request additional information or deny the application. Failure to receive approval for any product using the DepoMed Systems would have a material adverse effect on the company.

The FDA regulates not only prescription and over-the-counter drugs approved by NDAs, but also over-the-counter products that comply with monographs issued by the FDA. These regulations include:

• cGMP requirements;

• general and specific over-the-counter labeling requirements (including warning statements);

• advertising restrictions; and

• requirements regarding the safety and suitability of inactive ingredients.

In addition, the FDA may inspect over-the-counter products and manufacturing facilities. A failure to comply with applicable regulatory requirements may lead to administrative or judicially imposed penalties. If an over-the-counter product differs from the terms of a monograph, it will, in most cases, require FDA approval of an NDA for the product to be marketed.

Foreign regulatory approval of a product must also be obtained prior to marketing the product internationally. Foreign approval procedures vary from country to country. The time required for approval may delay or prevent marketing in certain countries. In certain instances, we or our collaborative partners may seek approval to market and sell certain products outside of the United States before submitting an application for United States approval to the FDA. The clinical testing requirements and the time required to obtain foreign regulatory approvals may differ from that required for FDA approval. Although there is now a centralized European Union (“EU”) approval mechanism in place, each EU country may nonetheless

impose its own procedures and requirements. Many of these procedures and requirements are time-consuming and expensive. Some EU countries require price approval as part of the regulatory process. These constraints can cause substantial delays in obtaining required approval from both the FDA and foreign regulatory authorities after the relevant applications are filed, and approval in any single country may not meaningfully indicate that another country will approve the product.

We depend on third parties for manufacturing, marketing and sales of products using the DepoMed Systems.

We do not have and do not intend to establish in the foreseeable future internal commercial scale manufacturing, marketing or sales capabilities. Rather, we intend to use the facilities of our collaborative partners or those of contract manufacturers to manufacture commercial quantities of products using the DepoMed Systems. Our dependence on third parties for the manufacture of products using the DepoMed Systems may adversely affect our ability to deliver such products on a timely and competitive basis. There may not be sufficient manufacturing capacity available to us when, if ever, we are ready to seek commercial sales of products using the DepoMed Systems. In addition, we expect to rely on our collaborative partners or to develop distributor arrangements to market and sell products using the DepoMed Systems. We may not be able to enter into manufacturing, marketing or sales agreements on reasonable commercial terms, or at all, with third parties. Failure to do so would have a material adverse effect on the company.

Applicable cGMP requirements and other rules and regulations prescribed by foreign regulatory authorities will apply to the manufacture of products using the DepoMed Systems. We will depend on the manufacturers of products using the DepoMed Systems to comply with cGMP and applicable foreign standards. Any failure by a manufacturer of products using the DepoMed Systems to maintain cGMP or comply with applicable foreign standards could delay or prevent their commercial sale. This could have a material adverse effect on the company.

Our quarterly operating results may fluctuate and affect our stock price.

The following factors will affect our quarterly operating results and may result in a material adverse effect on our stock price:

• variations in revenues obtained from collaborative agreements, including milestone payments, royalties, license fees and other contract revenues;

• our success or failure in entering into further collaborative relationships;

• decisions by collaborative partners to proceed or not to proceed with subsequent phases of the relationship or program;

• costs of litigation;

• the timing of any future product introductions by us or our collaborative partners;

• market acceptance of the DepoMed Systems;

• regulatory actions;

• adoption of new technologies;

• the introduction of new products by our competitors;

• manufacturing costs and capabilities;

• changes in government funding; and

• third-party reimbursement policies.

We may not be able to compete successfully in the pharmaceutical product and drug delivery system industries.

Other companies that have oral drug delivery technologies competitive with the DepoMed Systems include ALZA Corporation, a subsidiary of Johnson & Johnson, Elan Corporation plc, SkyePharma plc, Biovail Corporation International, Flamel Technologies S.A. and Andrx Corporation, all of which have oral tablet products designed to release the incorporated drugs over time. Each of these companies has patented technologies with attributes different from ours, and in some cases with different sites of delivery to the gastrointestinal tract. We believe that we are the only drug delivery company that is currently developing products for oral drug delivery systems for enhanced retention in the stomach of an orally administered tablet.

Competition in pharmaceutical products and drug delivery systems is intense. We expect competition to increase. Competing technologies or products developed in the future may prove superior either generally or in particular market segments to the DepoMed Systems or products using the DepoMed Systems. These developments could make the DepoMed Systems or products using them noncompetitive or obsolete.

All of our principal competitors have substantially greater financial, marketing, personnel and research and development resources than we do. In addition, many of our potential collaborative partners have devoted, and continue to devote, significant resources to the development of their own drug delivery systems and technologies.

We could become subject to product liability litigation.

Our business involves exposure to potential product liability risks that are inherent in the production and manufacture of pharmaceutical products. Any such claims could have a material adverse effect on the company. We have obtained product liability insurance for clinical trials currently underway, but there can be no assurance that:

• we will be able to obtain product liability insurance for future trials;

• we will be able to maintain product liability insurance on acceptable terms;

• we will be able to secure increased coverage as the commercialization of products using the DepoMed Systems proceeds; or

• any insurance will provide adequate protection against potential liabilities.

Business interruptions could harm our business.

Our operations are vulnerable to damage or interruption from computer viruses, human error, natural disasters, telecommunications failures, terrorism, intentional acts of vandalism and similar events. In particular, our corporate headquarters are located in the San Francisco Bay area, which is known for seismic activity. We have not established a formal disaster recovery plan, and our back-up operations and our business interruption insurance may not be adequate to compensate us for losses that occur. A significant business interruption would result in losses or damages incurred by us and would harm our business.

The impact of recent changes in global economic conditions may negatively impact our stock price.

The domestic and international economic environment is more uncertain than it has been in recent periods. Additionally, the September 11, 2001 terrorist attacks in New York City, Washington, D.C. and Pennsylvania, and the United States’ military response, has further affected economic certainty and global economic conditions. Economic and political uncertainty resulting from the attacks and the U.S. military response could adversely affect our development efforts as well as those of our collaborative partners. This could have a material adverse effect on our results of operations and our stock price.

Our advisors have relationships with other entities.

Two groups (the Policy Advisory Board and Development Advisory Board) advise the company on business and scientific issues and future opportunities. Certain members of our Policy Advisory Board and Development Advisory Board work full-time for academic or research institutions. Others act as consultants to other companies. In addition, except for work performed specifically for and at the direction of the company, any inventions or processes discovered by such persons will be their own intellectual property or that of their institutions or other companies. Further, invention assignment agreements signed by such persons in connection with their relationships with the company may be subject to the rights of their primary employers or other third parties with whom they have consulting relationships. If we desire access to inventions which are not our property, we will have to obtain licenses to such inventions from these institutions or companies. We may not be able to obtain these licenses on commercially reasonable terms, if at all.

Reform of the healthcare industry may affect our business and the availability of healthcare reimbursement.

The healthcare industry is changing rapidly as the public, government, medical professionals, third-party payors and the pharmaceutical industry examine ways to contain or reduce the cost of health care. Changes in the healthcare industry could impact our business, particularly to the extent that we develop the DepoMed Systems for use in prescription drug applications.

Certain foreign governments regulate pricing or profitability of prescription pharmaceuticals sold in their countries. There have been a number of federal and state proposals to implement similar government control in the United States, particularly with respect to Medicare payments. We expect that these proposals will continue to be advanced. In addition, downward pressure on pharmaceutical pricing in the United States has increased due to an enhanced emphasis on managed care. We expect this pressure to continue to increase. We cannot predict whether any such legislative or regulatory proposals will be adopted or the effect such proposals or managed care efforts may have on our business. However, the announcement of such proposals or efforts could have a material adverse effect on our ability to raise capital. Further, the adoption of such proposals or efforts would have a material adverse effect on the company and any prospective collaborative partners.

Sales of products using the DepoMed Systems in domestic and foreign markets will depend in part on the availability of reimbursement from third-party payors, such as government health administration authorities and private health insurers. Third-party payors are increasingly challenging the price and cost-effectiveness of prescription pharmaceutical products. Significant uncertainty exists as to the reimbursement status of newly approved healthcare products. Accordingly, products using the DepoMed Systems may not be eligible for third-party reimbursement at price levels sufficient for the company or our collaborative partners to realize appropriate returns on our investments in the DepoMed Systems.

We may not be able to attract and retain key employees.

Our success is dependent in large part upon the continued services of John W. Fara, the President and Chief Executive Officer of the company, and other members of our executive management, and on our ability to attract and retain key management and operating personnel. We maintain key man life insurance on the life of Dr. Fara in the amount of $1,000,000. Management, scientific and operating personnel are in high demand and are often subject to competing offers. The loss of the services of one or more members of management or key employees or the inability to hire additional personnel as needed may have a material adverse effect on the company.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

We are involved in legal proceedings relating to some of our intellectual property rights. In January 2002, we filed and later served, a complaint against BMS in the United States District Court for the Northern District of California for infringement of U.S. Patent No. 6,340,475, issued on January 22, 2002 and assigned to DepoMed. The patent, titled “Extending the Duration of Drug Release Within the Stomach During the Fed Mode,” covers our technology for the controlled delivery of a broad range of drugs from a gastric retained polymer matrix tablet to maximize therapeutic benefits. The complaint alleges infringement by BMS’s once-daily Glucophage® XR tablet, as well as other matters set forth in the complaint.

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

Recent Sales of Unregistered Securities

In March 2002, we completed a private placement to accredited investors of 2,300,000 shares of common stock at $3.83 per share with net proceeds of $8,195,000. We also issued warrants to a placement agent to purchase 121,981 shares of common stock at $4.875 per share. The warrants are exercisable until March 22, 2006. These transactions did not involve public offerings and therefore were exempt from registration under Section 4(2) of the Securities Act of 1933. We filed a registration statement on Form S-3 in April 2002 covering the resale of shares issued in the March 2002 private placement and the shares issuable upon exercise of the warrants.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a)	Exhibits

	None

(b)	Reports on Form 8-K

	None

SIGNATURE

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

Date: May 15, 2002	DEPOMED, INC.


	By /s/ John F. Hamilton
	John F. Hamilton
	Vice President and Chief Financial Officer (Authorized Officer and Principal Accounting and Financial Officer)

PART I – FINANCIAL INFORMATION

PART II – OTHER INFORMATION

2002

2001

March 31, 2002