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7068 Koll Center Parkway, Suite 401, Pleasanton, California 94566


(Address of principal executive offices)	(Zip 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 filing requirements for the past 90 days. Yes þ No o

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

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

State the aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant computed by reference to the price at which the company’s common stock was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter — $43,712,038.72 as of June 28, 2002 (based on the last trading price on June 28, 2002, as reported on the Nasdaq National Market).

The number of shares of the Registrant’s common stock outstanding as of February 28, 2003 was 21,141,455 shares.

Portions of the Registrant’s proxy statement relating to the Registrant’s 2003 Annual Meeting of Stockholders, to be held on May 29, 2003, are incorporated by reference into Part III of this Form 10-K where indicated.

In this report, unless the context otherwise requires, Lipid Sciences, Inc., a Delaware corporation, is referred to as “we,” “the Company” or “Lipid.” On November 29, 2001, after the completion of our merger with Lipid Sciences, Inc., a Delaware corporation, we changed our name from NZ Corporation to Lipid Sciences, Inc. On June 26, 2002, the merged corporation changed its state of incorporation from Arizona to Delaware. In this report, we refer to our former name, NZ Corporation, as “NZ,” and we refer to the merged corporation, Lipid Sciences, Inc., as “Pre-Merger Lipid.” Because the merger was treated as a reverse acquisition, Pre-Merger Lipid was considered the acquiror for accounting and financial reporting purposes. Accordingly, all financial information prior to 2001 included in this report reflects only Pre-Merger Lipid’s information. Consequently, we sometimes also refer to Pre-Merger Lipid as “we” or “the Company.” In addition, all share numbers, purchase prices per share, and exercise prices relating to Pre-Merger Lipid securities are shown on a post-merger basis after adjusting such numbers and prices to reflect the exchange ratio in the merger, with the exception of share amounts included in the Statement of Stockholders’ Equity for the period from Inception (May 21, 1999) to November 29, 2001, the date of the merger, and common stock, share, and per share amounts as of December 31, 2000, disclosed in Note 10 of the Consolidated Financial Statements.

This Annual Report on Form 10-K, including the documents incorporated by reference in this annual report, contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.

Forward-looking statements are identified by words such as “believe,” “anticipate,” “expect,” “estimate,” “intend,” “plan,” “project,” “guess,” “will,” “may” and other similar expressions. In addition, any statements that refer to expectations, projections, plans, objectives, goals, strategies or other characterizations of future events or circumstances are forward-looking statements. These forward-looking statements speak only as of the date stated and we do not undertake any obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise, even if experience or future events make it clear that any expected results expressed or implied by these forward-looking statements will not be realized. Although we believe that the expectations reflected in these forward-looking statements are reasonable, these expectations may not prove to be correct or we may not achieve the financial results, savings or other benefits anticipated in the forward-looking statements. These forward-looking statements are necessarily estimates reflecting the best judgment of our senior management and involve a number of risks and uncertainties, some of which may be beyond our control, that could cause actual results to differ materially from those suggested by the forward-looking statements. These risks and uncertainties include, but are not necessarily limited to:


	•	our inability to obtain adequate funds;

	•	our technology not proving to be safe or effective;

	•	our inability to obtain regulatory approval of our technology, which is only in the clinical development stage;

	•	delay or failure to complete clinical studies;

	•	our dependence on our license agreement with Aruba International;

	•	our reliance on collaborations with strategic partners;

	•	competition in our industry, including the development of new products by others that may provide alternative or better therapies;

	•	failure to secure and enforce intellectual property rights;

	•	risks associated with use of biological and hazardous materials;

	•	product liability claims;

	•	economic downturn in the real estate market;

	•	our dependence on key personnel;

	•	additional shares of common stock becoming available for sale after expiration of certain lock-up period; and

	•	potential dilution of existing stockholders’ ownership if additional shares are issued to former NZ Corporation shareholders who have perfected certain rights.

Factors that could cause actual results or conditions to differ from those anticipated by these and other forward-looking statements include those more fully described in “Item 1. Business — Factors That May Affect Future Results and Financial Condition” and elsewhere in this report.

We are a development-stage biotechnology company that is conducting research and developing products and processes intended to treat major medical conditions in which lipids, or fat components, play a key role. Our technologies are based on a patented process that selectively removes lipids from proteins. We believe that this unique delipidation process has the potential for far-reaching implications for human health. It may provide an effective therapeutic effect on many infectious agents, including the viruses that cause AIDS, Hepatitis B and C, as well as reverse cardio- and cerebrovascular disease.

Our primary activities since incorporation have been conducting research and development, performing business, strategic and financial planning, and raising capital. Accordingly, the Company is considered to be in the development stage.

On November 29, 2001, we completed our merger with Pre-Merger Lipid. As a result of the merger, the Company was renamed Lipid Sciences, Inc. Pre-Merger Lipid ceased to exist as a separate corporation, and the shareholders of Pre-Merger Lipid became shareholders of the Company. In connection with the merger, Pre-Merger Lipid shareholders received 1.55902 shares of our common stock for each share of Pre-Merger Lipid common stock they held at the time the merger was completed. After the transaction, the Pre-Merger Lipid shareholders owned approximately 75% of the then outstanding stock of the Company and the NZ shareholders owned the remaining shares of the Company’s common stock.

Prior to the merger, our common stock was traded on the American Stock Exchange under the symbol “NZ.” Our common stock now trades on the Nasdaq National Market under the symbol “LIPD.”

Following the merger, the business of the Company became primarily that of Pre-Merger Lipid. As part of the merger, we announced our intent to conduct an orderly disposition of substantially all of the real estate and other assets held by the Company before the merger to fund the ongoing operations of Lipid Sciences’ biotechnology business. On March 22, 2002, we formalized a plan to discontinue the operations of our real estate business, including commercial real estate loans.

On January 28, 2003, we announced a new strategic direction for the Company and the application and development of our novel technology of plasma delipidation. As a result, we are focusing our research and development on our proprietary Viral Pathogen Inactivation (VPI^TM) platform. The first indication being pursued by the Company to demonstrate the efficacy of our VPI platform technology is Human Immunodeficiency Virus, or HIV. In connection with this new strategic direction, we have discontinued our Phase 1 human clinical trial in Australia, which was paused in the third quarter of 2002, and ceased all operations in Australia. In addition, we are aligning our clinical trial efforts toward the development of our VPI platform and U.S.-based clinical trials.

The new direction is part of a comprehensive strategic plan being implemented by the Company. In connection with the adoption of that plan, we have also restructured our business operations. The strategic plan was recommended by the management team and approved by the Board of Directors. As part of the cost-savings goal of the strategic plan, Barry D. Michaels resigned as Chief Financial Officer and certain other management and staff positions have been eliminated. Sandra Gardiner, the Company’s Vice President,

Controller and Corporate Secretary, has assumed the newly created position of Chief Accounting Officer. In related appointments, Marc Bellotti, who was Vice President of Product Development, has assumed the position of Vice President, Research and Development. Dale Richardson, who was Vice President of Marketing and Sales, has assumed the position of Vice President, Business Development. We are currently considering candidates to fill the position of President and Chief Executive Officer, a position that has been vacant since Phil Radlick, Ph.D. resigned on October 15, 2002.

On March 3, 2003, we announced the resignation of Bill E. Cham, Ph.D., as a member of the Board of Directors. Dr. Cham had been a Director since 1999 and was a co-founder of Pre-Merger Lipid Sciences.

We are developing our basic delipidation technology as two complementary technology platforms. The first platform, Viral Pathogen Inactivation (VPI^TM) relates to the removal of lipid envelopes from viruses, bacteria and other lipid-enveloped infectious agents. Examples of viruses with lipid envelopes that may be treatable by our VPI system include HIV, Hepatitis B and C. The second platform, Vascular Lipid Removal (VLR^TM) is focused on treating atherosclerosis, which results from an overabundance of lipids in the vascular system. Our VLR platform is targeted at treating conditions such as heart disease, stroke and peripheral vascular disease.

Lipid-enveloped viruses represent one of the two major classes of viruses. Lipid-enveloped viruses possess a lipid coat while non-enveloped viruses, the other class, do not. The lipid coat surrounds the protein structure and genetic material of the virus and protects the virus from recognition by the immune system. The lipid envelope also helps the virus infect the host cell by merging the virus coat with the host cell surface. Some well-known lipid-enveloped viruses include HIV, Hepatitis B and C, Herpes, Cytomegalovirus and Influenza. Currently, 850,000 to 900,000 people in the United States and approximately 42 million people worldwide are infected with HIV. Each year, about 40,000 people in the United States and approximately 5 million worldwide become infected by HIV. Three million people die of HIV/AIDS every year worldwide. HIV infection is a worldwide problem resulting in the devastation of the populations of many countries.

HIV begins its infection of a susceptible host cell, called a lymphocyte, by binding to a receptor on the host cell surface. Lymphocytes are a critical part of the body’s immune system. Following fusion of the virus with the host cell, HIV enters the cell. The genetic material of the virus, RNA, is released into the host cell and converted into DNA. This viral DNA integrates into the genetic material of the cell and replicates itself. The virus can persist in a latent state or emerge through the host cell membrane to infect other cells.

Significant strides have been made in recent years in treating HIV-infected individuals in the developed world. Through the use of combinations of potent new antiviral drugs, HAART (Highly Active Anti-Retroviral Therapy), including protease inhibitors and reverse transcriptase inhibitors, death rates from AIDS have been significantly reduced in countries in which such therapies are available. These new therapies, however, are expensive and are not ideal for a variety of other reasons. Despite improving both quality and duration of life for HIV-infected individuals, HAART therapy has been unable to completely eradicate the virus in the blood and organs of infected individuals. After cessation of drug therapy, or if a patient does not adhere strictly to the schedule of drug therapy, viral loads may rebound or even exceed pretreatment levels. HIV also may mutate in the presence of the antiviral compounds that are designed to attack the virus directly, leading to the development of drug resistance. Drug resistance is a major concern of physicians because a large number of patients are infected by a strain of HIV that is already resistant to at least one drug in their drug therapy. As viral strains continue to mutate, the number of drug-resistant patients is expected to grow significantly. Other characteristics of the infection such as superinfection, infection by more than one strain of HIV, and latent reservoirs where virus is present in infected cells but does not multiply or emerge from the infected cell to infect other cells, contribute to the difficulty in completely eradicating the virus.

In addition, the HAART therapy sometimes dramatically alters the metabolism of lipids to the detriment of the patients receiving the therapy. This often results in an increase in triglycerides and the lipoprotein

apoCIII. The lipoprotein apoCIII has recently been identified as a risk factor for coronary artery disease in HIV patients. Atherosclerosis may be accelerated and abnormal fatty deposits begin to develop in these patients. We believe that atherosclerosis is a leading cause of death in patients who have been utilizing the HAART therapies over a long period of time.

Other side effects of these therapies, which include drug toxicity, lipodystrophy, neurological symptoms, and depression, can be significant. Such side effects lead to the rejection of these therapies by a number of patients.

Existing drug therapies for Hepatitis C infection have proven to be effective in only a portion of the patients treated. In addition, side effects of these existing therapies, such as depression and hematologic abnormalities, can be significant and the therapeutic regimen is very expensive. As with HIV, drug resistance is a serious problem in treating Hepatitis C. Also as with HIV, cost and other aspects of existing therapies for Hepatitis C make them largely impractical in the developing world.

Finally, HIV-infected individuals often do not respond to the traditional vaccine available to protect them against co-infection with Hepatitis B.

Cardiovascular disease is a major, often the leading, cause of death in all industrialized countries of the world. Each person has within them a “cardiovascular clock,” which refers to the slow and continuous build-up of cholesterol-laden plaque on arterial walls. Over decades this build-up may result in the blockage of blood flow through arteries, particularly those which deliver blood to the heart. If untreated, such blockages can lead to reduced blood flow to the heart resulting in cardiac arrest, and ultimately death. The common cause of this disease, known as atherosclerosis, is the deposit of cholesterol in the wall of the artery. Researchers believe that high cholesterol, especially high concentrations of low density lipoprotein, LDL, plays a key role in the occurrence of atherosclerosis. Researchers have found ample evidence to show that diet, drug, or other treatments such as systemic removal of LDL from the blood stream may reduce the progression of this disease. However, we believe that atherosclerosis is rarely improved with current treatments as these treatments do not reverse the disease.

The LDL and high density lipoprotein, HDL, for example, that circulate in the blood are normally “saturated” with cholesterol. One of their functions is to carry cholesterol around in the body to various locations and sometimes leave the cholesterol in that location for further processing by the body. Certain lipoproteins, such as HDL, are responsible for transporting cholesterol away from the plaque and carrying it to the liver for disposal. Other lipoproteins, such as LDL, are responsible for carrying cholesterol to cells outside the liver for use in building cells and cell walls. The LDL lipoproteins are usually the ones that carry cholesterol to the plaque and contribute to cholesterol build-up inside the cells, blocking the flow of blood. Diet, exercise, and drug therapy may help lower the amount of cholesterol in the blood and therefore make it more difficult for cholesterol to build up in the plaque.

According to the American Heart Association, cardiovascular disease is the leading cause of death among American men and women. The limitations for treating this disease by diet, exercise, and drug therapy has led to interventional procedures, such as balloon angioplasty therapy, stent placement, and coronary artery bypass surgery, known as surgical revascularization. These interventional procedures have attendant high costs, clinical complications and sometimes death associated with them. Physicians and their patients, however, are often forced to resort to these procedures in order to save or prolong life.

Current Treatments for Cardiovascular Disease. The initial physician recommendation for a patient with cardiovascular disease is frequently a change in lifestyle involving exercise combined with a low-fat, low-cholesterol diet. If a patient’s condition does not improve, then the physician moves to the next level of treatment to achieve acceptable levels of cholesterol in the blood, typically drug therapy.

Following the initial diet/exercise regimen, treatments are either short-term solutions, termed “acute” by physicians, or long-term solutions, termed “chronic.” Acute treatments are reserved for more life-threatening cardiovascular conditions, such as ischemia, a condition where there is a shortage of oxygen-rich blood

available to the heart, or portions of the heart. In contrast, chronic treatments are used to prevent cardiovascular disease from growing worse and later having to resort to acute treatments. Acute treatments usually involve costly interventional surgical procedures, while chronic treatments are drugs, usually in tablet or pill form, and are required to be taken over a long period of time.

Acute Treatments. Acute treatments are required when blood flow to the heart is severely restricted and the patient is at immediate risk for further complications. Three common invasive procedures are used to restore blood flow: bypass surgery, balloon angioplasty and atherectomy. In bypass surgery, the cardiologist redirects blood flow around the blocked arteries by grafting a healthy vessel removed from another location in the patient. In balloon angioplasty, a thin flexible tube with an inflatable balloon at its end is positioned in the artery at the point of blockage. During the procedure, the balloon is inflated and this pushes aside the plaque that causes the blockage, resulting in a reopening of the artery to allow greater blood flow. Frequently, a cardiologist reinforces the newly opened artery with a wire-mesh cylinder called a stent. In atherectomy, the plaque is removed from the artery using a rotating blade.

The primary benefit of acute treatments is the immediate restoration of oxygen-rich blood flow to the heart. However, the major drawbacks of acute treatments are:


	•	Restenosis, or reclosing of the artery, even after stenting, often occurs in patients who have had these invasive surgical procedures. This may require an additional invasive procedure within six months.

	•	These procedures are invasive to the patient and involve opening up the chest cavity to expose the heart, as in coronary bypass surgery, or snaking a wire through the femoral artery to the heart, as in balloon angioplasty or atherectomy. Invasive procedures by their nature involve a risk of complications, including death.

	•	Since acute treatments are invasive procedures by their nature, significant recovery time is required after the surgical procedure.

	•	Many patients may not be eligible for invasive procedures due to their anatomy, physical condition, age, or past medical history.

	•	Atherosclerosis affects the entire cardiovascular system. Acute procedures are localized and treat only one segment of a diseased artery at a time. Therefore, many diseased arteries are left untreated using these invasive surgical procedures.

Chronic Treatments. Chronic treatments for cardiovascular disease have the goal of preventing or limiting progression of the disease so that acute treatments will not be required in the near future, if at all.

Physicians frequently prescribe drugs called statins, which lower the level of LDL cholesterol in the blood by inhibiting cholesterol production in the body. These drugs can also lower other lipids and have the ability to slightly raise HDL. Studies have shown that statins reduce the incidence of illness and death from cardiovascular disease. We believe that it usually takes at least two years, if at all, for this class of drugs to be effective in preventing death. We also believe that these drugs neither treat the existing atherosclerosis nor reverse the disease in a majority of patients, and in post-operative patients, they also fail to prevent restenosis, the reclosure of an artery following surgical procedures.

Platform I — Viral Pathogen Inactivation (VPI ^TM). It is commonly understood that lipid-enveloped viruses will not be able to infect if their lipid membranes are removed. Our VPI system is designed to remove the lipid from the envelope, thereby exposing the protein coat of lipid-enveloped viruses. We believe that lipid-enveloped viruses may be effectively inactivated and managed by periodic treatment with our VPI system. In effect, by treating an animal or a human infected with a lipid–enveloped virus with our VPI system, the exposed protein coating of the virus may provoke an immune system response. The immune system then could respond by developing antibodies to the exposed protein (epitopes). These antibodies would then attack the virus in the blood stream, reducing the viral load of the victim of the disease. The reduced viral load could greatly reduce the stress on the immune system of the infected animal or human and, in the best case,

potentially improve the disease state. We believe that our VPI system is unique in that it treats the autologous virus of the individual and presents the resulting exposed antigens of that specific population of virus unique to that individual. We believe that this novel approach may overcome some of the limitations of other therapies for HIV, Hepatitis B and C, such as viral mutations leading to drug or vaccine resistance, resulting in lack of protection against infection by another strain.

We believe that our VPI system may prove very useful in treating patients who cannot tolerate other therapies and patients who are resistant to HAART therapy. In addition, we believe that our VPI system may have potential applications in managing viral loads during periods of cessation of HAART therapy. In the developing world, our VPI system may be particularly attractive because the system may be administered on an intermittent basis rather than on a daily basis, potentially at lower costs than existing therapies, and without the issues of drug resistance and other drug-related side effects.

Our strategy is to develop our VPI system and test it for therapeutic applications in humans and/or animals that are already infected with lipid-coated viruses. We are also developing our VPI system in order to establish its use in the preparation of vaccines for diseases that result from lipid-coated pathogens.

In Vitro and Animal Experiments. Experiments were carried out at the University of Sydney using a duck model for Hepatitis B. In these experiments, it was conclusively shown that plasma from an infected duck treated with our VPI system did not infect healthy ducklings. Furthermore, it was shown that the ducklings which had the treated plasma introduced to their system began to develop antibodies to Hepatitis B. Upon exposure to Hepatitis B, 80% of these ducklings were protected from infection. A further study using an accepted substitute virus for Hepatitis C in cattle, bovine viral diarrhea virus (BVDV), showed that a neutralizing antibody was made by these animals to this virus without their becoming infected by the virus.

The first indication pursued by us to demonstrate the efficacy of the application of our VPI platform technology is HIV. Our VPI technology has been shown to successfully inactivate the HIV particle and has the potential to be a therapeutic treatment for this disease. Recent studies have been conducted in vitro at Emory University and Johns Hopkins University as well as in vivo in a mouse model at Emory University and have demonstrated both safety and immunogenicity. Non-human primate studies are planned to demonstrate safety and efficacy in a human surrogate model.

Platform II — Vascular Lipid Removal (VLR^TM). Our Vascular Lipid Removal system has been shown to rapidly remove cholesterol, triglycerides, some phospholipids, and unesterified fatty acids from plasma. If successful, our Vascular Lipid Removal system may reverse the “cardiovascular clock,” or the slow and continuous build-up of cholesterol-laden plaque on arterial walls in the course of a typical human life. The reversal of atherosclerosis has been referred to in scientific terms as Reverse Cholesterol Transport.

We believe that when the HDL particle, known informally as “good cholesterol,” is delipidated, it can be up to six times more efficient at scavenging cholesterol than native, or undelipidated, HDL.

We believe that the plasma lipoproteins, once delipidated, are capable of recombining with cholesterol and other lipids in the arteries. This observation is fundamental to the potential unblocking of arteries by our Vascular Lipid Removal system. Cholesterol is represented in blocked arteries intra- and extracellularly. The delipidated plasma proteins can remove cholesterol from surface of cells (extracellular) as well as from inside cholesterol loaded cells (intracellular).


	•	removing whole blood from the patient;

	•	separating the plasma from the blood cells;

	•	delipidating the plasma; and

	•	returning the blood cells and delipidated plasma to the patient.

Animal Experiments. Several animal models have been tested to establish the safety and efficacy of our Vascular Lipid Removal system. In one of the studies conducted, the system entailed the removal of 25% of

Human Safety Study. Based on the experimental animal results and other research, our first human clinical trial commenced in Australia during the second quarter of 2002. The Phase 1 trial was being conducted in Australia to determine the safety of Lipid Sciences’ plasma delipidation process. After an adverse reaction in a volunteer, the trial was voluntarily paused during the third quarter of 2002. The preliminary results from this trial advanced the science and improved the safety of our proprietary delipidation process. We believe we have identified and mitigated the cause of the adverse event experienced in that trial. However, for strategic reasons, we have decided to discontinue our Phase 1 human clinical trial and cease all operations in Australia. Furthermore, we have decided to align our clinical trial efforts toward the development of our VPI platform and U.S.-based clinical trials.

In October 2000, we entered into a Development Agreement with SRI International, a California nonprofit public benefit corporation, pursuant to which SRI provides us with various consulting and development services. SRI will assign to us all intellectual property developed during the term of the Development Agreement. The Development Agreement calls for SRI to complete two development phases (as defined in the Development Agreement, “Phase I” and “Phase II”) during which time SRI will work to develop a medical device to enable us to further develop and commercialize our lipid removal technology. In addition, we have entered into a number of amendments with SRI to address work performed by SRI, which are both within and outside of the scope of work of Phase II development. Certain of the amendments have been in support of product development and certain of the amendments relate to supplemental testing and analysis performed by SRI.

Phase I was completed on March 28, 2001. Fees for services performed by SRI for Phase I totaled $1,517,000. Phase II was initiated upon completion of Phase I. Fees for Phase II of the development program were limited to $6,300,000. On July 26, 2002, funding to SRI for the continued development of Phase II was increased to $9,500,000. Consistent with our new strategic direction announced on January 28, 2003, we have refocused SRI efforts to support our VPI platform and spending related to Phase II development has been significantly reduced.

We also issued SRI warrants to purchase 779,510 shares of common stock at an exercise price of $3.21 per share. The warrants vested, with respect to 233,853 shares upon completion of Phase I, with the remaining 545,657 shares vesting upon completion of Phase II. On May 12, 2001, the Development Agreement was amended with respect to the warrants to purchase 545,657 shares of common stock related to Phase II. This amendment splits Phase II into two development milestones with warrants to purchase 272,829 shares vesting at the completion of each milestone. If either development milestone is discontinued at the option of the Company, all 545,657 warrants will vest at the completion of the remaining milestone.

We consider the protection of our technology, whether owned or licensed by us, to the exclusion of use by others, to be vital to our business. While we intend to focus primarily on patented or patentable technology, we also rely on trade secrets, unpatented know-how, regulatory exclusivity, patent extensions, and continuing technological innovation to develop our competitive position. In the United States and certain foreign countries, the exclusivity period provided by patents covering medical devices and pharmaceuticals may be extended by a portion of the time required to obtain regulatory approval for a product.

We are the exclusive licensee of the following patents applied for and/or received by Aruba International Pty. Ltd.:


	•	United States Patent No. 5,911,698, entitled “Treatment for Cardiovascular and Related Diseases”;

	•	United States Patent No. 5,744,038, entitled “Solvent Extraction Methods for Delipidating Plasma”;


	•	United States Patent No. 4,895,558, entitled “Autologous Plasma Delipidation Using a Continuous Flow System”;

	•	Australian Patent Counterparts to the United States Patents: Australian Patent Nos. 594964, 693458 and 695826, respectively. The issued patents will expire in July 2005, July 2014 and December 2014. There are also six pending foreign patent applications related thereto;

	•	Pending PCT application entitled, “A Method of Treating Infectious Diseases;” and

	•	Pending PCT application entitled, “A Method of Treating and Preventing Infectious Diseases.”

We have filed a number of international and U.S. Provisional applications. All of these applications are owned by us. In addition, we continually assess and re-evaluate our intellectual property strategy to focus on building the strongest portfolio possible to support our VPI and VLR platforms.

We rely on trade secrets and proprietary know-how to protect our research and development, technologies, and potential products. To protect them, we require our employees, consultants, advisors, collaborators, members of our Scientific and Viral Advisory Boards, and others as may be appropriate to enter into confidentiality agreements that prohibit disclosure to any third party or use of any secrets and know-how for commercial purposes. We also require our employees to agree to disclose and assign us all methods, improvements, modifications, developments, discoveries, and inventions conceived during their employment by us that relate to our business.

In December 1999, we entered into an Intellectual Property License Agreement to obtain the exclusive worldwide rights to certain patents, trademarks, and technology with Aruba International Pty. Ltd., an Australian company, controlled by Bill E. Cham, Ph.D., a founding stockholder of Pre-Merger Lipid and a former Director. As consideration for the license, we issued 4,677,060 shares of our common stock valued at $250,000 to Aruba. This amount was charged to expense as research and development in the year ended December 31, 2000. Under this agreement, we are obligated to pay Aruba a continuing royalty on revenue in future years, subject to a minimum annual royalty amount of $500,000, 10% of any External Research Funding received by us to further this technology, as defined in the agreement, and $250,000 upon commencement of our initial human clinical trial utilizing the technology under the patents. Our initial human clinical trial commenced during the three month period ended June 30, 2002. For the year ended December 31, 2000, we paid cash of approximately $350,000 and issued 66,817 shares of common stock valued at $150,000 related to this agreement. For the years ended December 31, 2002 and 2001, we have expensed approximately $750,000 and $850,000, respectively, related to this agreement. Amounts for 2000, 2001 and 2002 were charged to research and development expense.

General. Drugs, devices and biologic products must satisfy rigorous standards of safety and effectiveness before they can be approved or, in the case of some medical devices, “cleared” for commercial marketing by the Food and Drug Administration, or the FDA. The FDA has extensive power and discretion over this approval process, subject to the provisions of its governing statutes, which consist principally of the Federal Food, Drug, and Cosmetic Act with respect to pharmaceuticals and medical devices, and the Public Health Service Act in the case of drug or device products of a biological nature, such as processed plasma.

The FDA also has promulgated detailed regulations to implement these statutes and has issued various non-binding guidance documents to advise industry on matters in more detail on statutory and regulatory requirements. In evaluating the regulatory status of any proposed product, many different factors are involved and, thus, there may be additional statutory/ regulatory provisions or requirements that are unique to a particular product that are not included in this general discussion.

In defining a product’s regulatory status, several key factors must be considered such as, but not limited to:


	•	the product’s intended use as derived from proposed labeling;

	•	its primary mode of action;

	•	whether the active ingredient is derived from chemical synthesis, which normally is regulated as a drug under the Federal Food, Drug, and Cosmetic Act, or is a product derived from biotechnology, such as recombinant DNA, or human, animal or plant sources, in which case it commonly, but not always, is regulated as a biologic under the Public Health Service Act and a biological drug under the Federal Food, Drug, and Cosmetic Act;

	•	whether it is a virus, therapeutic serum, antitoxin, vaccine, blood, blood component, blood derivative, allergenic product, or analogous product or other very specific products, in which case it is regulated under the Public Health Service Act as a biologic and, if applicable, under the Federal Food, Drug, and Cosmetic Act, as a biological drug; and

	•	the FDA’s prior handling of similar products, which has, in a number of cases, treated products differently than would appear to be required under a reading of applicable statutes.

The extent and nature of the FDA regulatory requirements also will depend on the labeled uses, or indications, for which approval is sought and the type, complexity and novelty of the product. In the case of medical devices, the Federal Food, Drug, and Cosmetic Act requires that the most risky products, referred to as Class III devices, be the subject of a pre-market approval application under Section 515 of the Federal Food, Drug, and Cosmetic Act. A pre-market approval application usually requires that the applicant conduct well-controlled clinical studies to demonstrate the safety and effectiveness of its medical device. Other medical devices can be cleared for marketing by the FDA pursuant to what is known as a pre-market notification. Clearance of a pre-market notification filing relies on a finding by the FDA that the applicant’s device is substantially equivalent to a lawfully marketed device that itself does not require a pre-market approval application. And, in the case of other even less risky devices, the FDA has eliminated the need to file a pre-market notification at all, although the product and its maker generally are still subject to the other general controls contained in the Federal Food, Drug, and Cosmetic Act and the device regulations. The part of the FDA having primary jurisdiction over medical devices is the Center for Devices and Radiological Health, or Devices Center.

Drug products and biological drug products whose active ingredients have never been approved by the FDA — or which, although having the same ingredient, differ in a substantial way from an approved product — usually will require the applicant to file a full new drug application containing substantial evidence in the form of well-controlled clinical investigations that the drug product or biological drug product is safe and effective for its labeled indication(s). In contrast, a generic version of a previously approved drug product may be approved by the FDA under an “abbreviated” new drug application in which the showing of safety and effectiveness is satisfied by the applicant proving that its drug is bioequivalent to the drug product originally approved under a full new drug application that forms the basis for the abbreviated new drug application. To qualify for the abbreviated new drug application process, a generic drug, with some limited exceptions, must be identical to that of the drug covered under the full new drug application as to active ingredient, labeling, dosage strength, dosage form, and route of administration. The part of the FDA having primary jurisdiction over drugs is the Center for Drug Evaluation and Research, or Drugs Center, and over biological drugs is the Center for Biologics Evaluation and Research, or Biologics Center.

Biologics are regulated under the Public Health Service Act, which prohibits marketing them without an approved license from FDA known as a Biologics License Application. Biologics regulation, under the Public Health Service Act, also focuses on whether a biologic is pure, safe and potent. Biologics License Applications for therapeutic biological drug products are similar to new drug applications and well-controlled clinical investigations to show safety and effectiveness are often required. The regulation of biologics also is impacted by the fact that biologics may be used in conjunction with a medical device such as a diagnostic kit. If used in conjunction with a device, the biologic product must satisfy the Public Health Service Act requirements and

If the FDA grants marketing approval of a product, this approval will be limited to those disease states and conditions for which the product has been demonstrated to be safe and effective. Any product approval also could include significant restrictions on the use or marketing of a firm’s products or include other conditions, such as the performance of post-approval studies to monitor known or suspected adverse reactions. Product approvals, if granted, are subject to potential withdrawal, either voluntarily or involuntarily through legal process, for failure to comply with regulatory requirements or upon the occurrence of adverse events following commercial introduction of the products.

Regulatory Status of Our Products. Due to the early nature of our development efforts, we have not yet confirmed with the FDA its view of the regulatory status of our potential products or which center of the FDA will have primary responsibility for review of our regulatory submissions. Depending on the claims made and the FDA’s ruling regarding the regulatory status of our products, they may be designated as devices, biologics or as combination products. However, we anticipate that regardless of regulatory designation, we will need to conduct pre-clinical and clinical studies to prove the safety or effectiveness (or both) of the plasma delipidation systems for the initial intended use for which we elect to seek approval from the FDA.

With respect to pre-clinical studies, as our development work on the plasma delipidation systems is still at an early stage, we cannot predict the nature of the studies the FDA will require. For instance, the FDA may want us to confirm that the levels of any physical components, processing agents, or other inactive ingredients that might be used in the plasma delipidation systems are at acceptable levels when the delipidated fluid (plasma) is returned to the patient following processing, particularly if any of those components or ingredients have not been reviewed previously by the FDA for use in other regulated products. In addition, the initial clinical study we plan to conduct may generate additional information that will impact the types and extent of pre-clinical data the FDA may require the Company to perform. See “— Clinical Studies — General” below.

To support a regulatory submission, the FDA commonly requires clinical studies to show safety and effectiveness. While we cannot currently state the nature of any such studies that the FDA may require for the plasma delipidation system, medical device products approved by the FDA for other companies using similar mechanisms of operation have required extensive and time-consuming clinical studies in order to secure approval.

Once we have sufficient information to design our pre-clinical and clinical development plans, we will seek the FDA’s input on those plans and, more specifically, the agency’s requirements for approval. However, the FDA may insist upon changes to a development plan previously agreed to by the FDA if new information shows that the plan may present safety or effectiveness concerns. The FDA also retains considerable leverage to require changes in study protocols from the sponsors of clinical investigations even after an FDA meeting and agreement has been reached.

A meeting with the FDA to establish the pre-clinical and clinical protocols to support a pre-market approval application will be a critical step in the development of the plasma delipidation systems. For medical devices, such a meeting commonly is held at what is known as the pre-investigational device exemption stage. For a drug or biologic product, such a meeting commonly is held at what is known as the pre-investigational new drug stage.

Outside the United States, the ability to market potential products is contingent upon receiving market application authorizations from the appropriate regulatory authorities. These foreign regulatory approval processes may involve differing requirements than those of the FDA, but also generally include many, if not all, of the risks associated with the FDA approval process described above, depending on the country involved.

Clinical Studies — General. Depending on the regulatory status of our products, we will likely need to conduct significant additional research before we can file applications for product approval. Typically, in the drug, device, and biologics industries there is a high rate of attrition for product candidates in pre-clinical testing and clinical trials. Success in pre-clinical testing and early clinical trials does not ensure that later

clinical trials will be successful. For example, a number of companies in the drug industry, including biotechnology companies, have suffered significant setbacks in advanced clinical trials, even after promising results in earlier trials and in interim analyses. In addition, delays or rejections may be encountered based upon additional government regulation, including any changes in the FDA policy during the process of clinical trials.

In order to conduct clinical investigations on a new drug product, for example, whether of chemical or biological origin, that have not been previously approved in the United States or have not been approved for the labeled indication being sought by an applicant, the applicant or sponsor must first file an investigational new drug (IND) application with the FDA. Such application must contain, among other things, detailed information on the proposed drug product, the contemplated protocol for conducting the clinical investigation, and any available safety and effectiveness information on the proposed drug product. In addition, an Institutional Review Board must approve the protocol to ensure that it provides adequate protection of the rights of the human subjects to be included in the clinical study. If the FDA does not object to the IND application, the study may begin after 30 days from the date the IND application was filed. The FDA may affirmatively approve the IND application prior to the expiration of the 30-day period, at which point the clinical study may begin.

If human clinical trials of a device are required for a pre-market approval application and if the device presents a significant risk as defined in the FDA’s regulations, the sponsor of the trial (usually the manufacturer or the distributor of the device) must submit an investigational device exemption (IDE) filing prior to commencing human clinical trials. The IDE application must be supported by data, typically including the results of animal and laboratory testing and include the proposed protocol governing the clinical study. If the IDE application is approved by the FDA and an appropriate Institutional Review Board, human clinical trials may begin at a specific number of investigational sites with a specific number of patients, as approved by the FDA.

Submission of an IDE application or IND application does not give assurance that the FDA will not object to the IDE application or IND application. Furthermore, even if the IDE application or IND application becomes effective, there can be no assurance that the FDA will determine that the data derived from the studies support the safety and efficacy of the drug or device or warrant the continuation of clinical studies. In addition, the regulations governing INDs and IDEs are extensive and involve numerous other requirements including that, generally, an IDE application or IND application supplement must be submitted to and approved by the FDA before a sponsor or investigator may make a change to the investigational plan that may affect its scientific soundness or the rights, safety or welfare of human subjects. Deviation from these regulatory requirements can lead to the FDA refusing to consider the study in support of a commercial marketing application.

In some circumstances, sponsors of clinical trials are permitted to sell investigational drugs, biologics, or devices distributed in the course of the study, provided such compensation does not exceed recovery of the costs of manufacture, research, development and handling. If we elect to pursue this option, we will need to seek the FDA’s approval if the clinical investigation is conducted under an investigational new drug or an investigational device exemption. The FDA routinely does not grant such approvals. Typically, a showing of special need is required.

As a result of the merger between Pre-Merger Lipid and NZ on November 29, 2001, certain real estate assets, including commercial real estate loans, were acquired. On March 22, 2002, the Company formalized a plan to discontinue the operations of our real estate and real estate lending business, including commercial real estate loans, to fund the ongoing operations of Lipid Sciences’ biotechnology business. As a result, we have reclassified the results of operations and the assets and liabilities of the discontinued operations for all periods presented.

During 2002, we sold or collected principal payments on outstanding loans on approximately 73% of the assets in the real estate and lending business. This included the sale of five industrial properties in Arizona,

As of December 31, 2002, the remaining assets in the disposal group were primarily one commercial real estate loan, notes receivable in connection with seller-provided financing of prior sales of real estate, approximately 79,000 acres of certain mineral rights in New Mexico, vacant industrial land in New Mexico, and residential lots in New Mexico and California. No new real estate activity is anticipated, except as necessary for the ultimate disposition of the assets.

During the twelve months ended December 31, 2002, S. Lewis Meyer, Ph.D. and Richard G. Babbitt were elected to our Board of Directors, and Mr. Babbitt was appointed to serve as Chairman of our Board of Directors, replacing Christopher A. Marlett. Dr. Meyer was appointed to serve as a member of the Nominating and Corporate Governance Committee, as well as a member and Chairman of the Audit Committee. In September 2002, the Board of Directors appointed Mr. Babbitt, Dr. Meyer and Frank M. Placenti to a newly-created Executive Committee of the Board of Directors. The Executive Committee serves as a resource to management for daily operational issues. In addition, in September 2002 the Board increased the annual retainer for Directors to $30,000 from $18,000 and increased cash compensation for Directors serving on committees to $1,500 per meeting from $1,000 per meeting.

In October 2002, Phil Radlick, Ph.D. resigned as President and Chief Executive Officer and as a director of the Company and continued to serve as an advisor to the Company through February 2003. The Company is considering candidates for the position of President and Chief Executive Officer. In addition, former Chairman Christopher A. Marlett resigned as a Director of the Company in October 2002. H. Bryan Brewer Jr., M.D. was elected to our Board of Directors in October 2002. Dr. Brewer has been a member of our Scientific Advisory Board since 2001 and will continue to serve as a member of the Scientific Advisory Board. In addition, Bill E. Cham, Ph.D., resigned as a Director of the Company in March 2003.

As of December 31, 2002, we had thirty-two employees. On January 28, 2003 we announced a restructuring plan in part to reduce operating expenses. As a result, certain management and other staff positions have been eliminated. Currently, we have nineteen employees, eighteen of whom are full-time. Six employees are engaged directly in research and new product development, two in regulatory affairs, quality assurance and clinical activities, five in administration and finance, and six in real estate and lending activities. Of our nineteen employees, five are located in Arizona, one in New Mexico and the balance in California.

We maintain compensation, benefits, equity participation, and work environment policies intended to assist in attracting and retaining qualified personnel. We believe the success of our business will depend, in significant part, on our ability to attract and retain such personnel. No employee is represented by a collective bargaining agreement, nor have we experienced any work stoppage.

For the twelve months ended December 31, 2002, we incurred a net loss of approximately $14,800,000 and since Inception through December 31, 2002, we have incurred an accumulated deficit of approximately $31,500,000. We expect to continue to incur losses for the foreseeable future as we continue funding for clinical testing and other activities related to seeking approval to market our products. Conducting clinical trials necessary to apply for regulatory approval to sell our products will take a number of years and will require significant amounts of capital.

As of December 31, 2002, we had cash, cash equivalents and short-term investments equal to approximately $20,600,000. We anticipate that these assets and the cash raised from the disposal of remaining assets included in the discontinued operations plan will provide sufficient working capital for our research and development activities for the next year. As of December 31, 2002, we have disposed of a substantial portion of the assets included in the discontinued operations plan. In the near future, we will require additional capital in amounts that cannot be quantified, but are expected to be significant. Although we recently announced a plan to restructure our business operations, in part to reduce operating expenses through staff reductions and cessation of all operations in Australia, we cannot assure you that such reduction in operating expenses will be realized. We intend to seek capital needed to fund our operations through new collaborations, through pursuit of research and development grants or through public or private equity or debt financings. Additional financing may not be available on terms favorable to us, or at all. If we are unable to obtain financing on acceptable terms, our ability to continue our business as planned will be significantly harmed.

Before obtaining required regulatory approvals for the commercial sale of any of our potential products, we must demonstrate, through pre-clinical studies and clinical trials, that our technology is safe and effective for use in at least one medical indication. These studies and clinical trials are expected to take a number of years and may fail to show that our technology is sufficiently safe and effective, in which case our technology will not receive regulatory approval, and we will not be able to develop and commercialize our products. In the third quarter of 2002, we paused our Phase 1 human clinical trial being conducted in Australia. Through our recently announced plan to restructure our business operations, we have discontinued our Phase 1 human clinical trial and ceased all operations in Australia. For strategic reasons, we have determined to align our clinical trial efforts toward the development of our Viral Pathogen Inactivation platform and U.S.-based clinical trials. We cannot assure you when, or if, our U.S.-based clinical efforts based on our VPI platform will lead to a successful commercialization of any product.

Our technology, and hence, our business, at present is limited to addressing two medical applications: the removal of lipids from lipid-enveloped viruses, such as HIV, Hepatitis B and C, and other lipid-containing infectious agents, and the treatment of cardiovascular disease. Accordingly, if our technology does not prove to be safe or effective, or if we otherwise fail to receive regulatory approval for our potential product indications, our business prospects would be significantly harmed and possibly it could cause us to cease operations.

Our future success depends in large part upon the results of clinical trials designed to assess the safety and efficacy of our potential product indications. The ultimate results of clinical studies cannot be predicted with accuracy and can be impacted by many variables. We cannot be sure whether planned clinical trials will begin on time or will be completed on schedule or at all. Delay or failure to complete clinical studies may delay or prevent us from bringing products to market, which would materially harm our business. For example, any of our future clinical studies might be delayed in their initiation or performance, or even halted after initiation because:


	•	extensive and time-consuming pre-clinical animal studies are required by the regulatory authorities to demonstrate the safety of the process technology;

	•	the data generated by the pre-clinical animal studies does not indicate to the regulatory authorities that there is a sufficient margin of safety;

	•	the potential clinical benefit from the delipidation cannot be effectively demonstrated through the pre-clinical animal studies;

	•	the relevant regulatory requirements for initiating and maintaining an application for a clinical study cannot be met;

	•	the product is not effective, or physicians perceive that the product is not effective;


	•	patients experience severe side effects during treatment;

	•	patients die during a clinical study because their disease is too advanced or because they experience medical problems that are not related to the product being studied;

	•	patients do not enroll in the studies at the rate we expect; or

	•	the discovery by the sponsor, during the study, of deficiencies in the way the study is being conducted by the study investigators that raise questions as to whether the study is being conducted in conformity with the relevant regulatory authorities’ regulations or Good Clinical Practice.

In the third quarter of 2002, we voluntarily paused our Phase 1 human clinical trial which was being conducted in Australia to determine the safety of our plasma delipidation process. For strategic reasons, we have recently decided to discontinue our Phase 1 human clinical trial and cease all operations in Australia and to align our clinical trial efforts toward the development of our VPI platform and U.S.-based clinical trials.

We have entered into an agreement for an exclusive license to patents, know-how and other intellectual property relating to our foundation technology for removal of lipids from proteins and our continued operations at present are dependent upon such license. The licensor is Aruba International Pty. Ltd., a company controlled by Dr. Bill E. Cham, a founding stockholder of Pre-Merger Lipid and a former Director of the Company. Dr. Cham also controls KAI International, LLC, our largest stockholder. The technology licensed from Aruba currently represents an important part of the technology owned or licensed by us. Aruba may terminate the license agreement if we fail to perform and fail to remedy following written notice of default with respect to our material obligations under the agreement, including our obligations to make royalty payments, or if we cease, without intention to resume, all efforts to commercialize the subject matter of the licensed intellectual property. If our license with Aruba terminates, our business would be significantly harmed and may cause us to cease operations.

We intend to enter into collaborations with strategic partners, licensors, licensees and others. For example, we have entered into a relationship with SRI International to provide the development of multiple production prototypes, including hardware, software and disposables, based on our technology. We may be unable to maintain or expand our existing collaborations or establish additional collaborations or licensing arrangements necessary to develop our technology or on favorable terms. Any current or future collaborations or licensing arrangements may not be successful. In addition, parties we collaborate with may develop products that compete with ours, and we cannot be certain that they will perform their contractual obligations or that any revenues will be derived from such arrangements. If one or more of these parties fails to achieve product development objectives, this failure could harm our ability to fund related programs and develop or commercialize products.

The biotechnology industry is intensely competitive and we may not be able to develop, perfect or acquire rights to new products with commercial potential. We compete with biotechnology and pharmaceutical companies that have been established longer than we have, have a greater number of products on the market, have greater financial and other resources and have other technological or competitive advantages. We also compete in the development of technologies and processes and in acquiring personnel and technology from academic institutions, governmental agencies, and other private and public research organizations. We cannot be certain that one or more of our competitors will not receive patent protection that dominates, blocks or

Our future success will depend in part on our ability to obtain patent protection, defend patents once obtained, maintain trade secrets and operate without infringing upon the patents and proprietary rights of others, and if needed, obtain appropriate licenses to patents or proprietary rights held by third parties with respect to its technology, both in the United States and in foreign countries. We currently have an exclusive license from Aruba International Pty. Ltd. with respect to three issued US patents (and three issued Australian counterpart patents) and counterpart applications as well as independent pending patent applications. The issued patents will expire in July 2005, July 2014 and December 2014. There are additional pending applications assigned to us. Each of the patents and pending applications relates to different aspects of our technology platforms. However, these patent applications may not be approved and, even if approved, our patent rights may not be upheld in a court of law or may be narrowed if challenged. The patent positions of pharmaceutical and biotechnology companies can be highly uncertain and involve complex legal and factual questions. Our patent rights may not provide competitive advantages for our products and may be challenged, infringed upon or circumvented by our competitors.

In addition to patents, we rely on trade secrets, know-how, continuing technological innovations, and licensing opportunities to develop and maintain our competitive position. It is our policy to require our employees, certain contractors, consultants, members of our scientific and viral advisory boards and parties to collaborative agreements to execute confidentiality agreements upon the commencement of a business relationship with us. We cannot assure you that these agreements will not be breached, that they will provide meaningful protection of our trade secrets or know-how or adequate remedies if there is unauthorized use or disclosure of this information or that our trade secrets or know-how will not otherwise become known or be independently discovered by our competitors.

If it were ultimately determined that our intellectual property rights are unenforceable, or that our use of our technology infringes on the intellectual property rights of others, we may be required or may desire to obtain licenses to patents and other intellectual property held by third parties to develop, manufacture and market products using our technology. We may not be able to obtain these licenses on commercially reasonable terms, if at all, and any licensed patents or intellectual property that we may obtain may not be valid or enforceable. In addition, the scope of intellectual property protection is subject to scrutiny and challenge by courts and other governmental bodies. Litigation and other proceedings concerning patents and proprietary technologies can be protracted, expensive and distracting to management and companies may sue competitors as a way of delaying the introduction of competitors’ products. Any litigation, including any interference proceedings to determine priority of inventions, oppositions to patents in foreign countries or litigation against our partners, may be costly and time-consuming and could significantly harm our business.

Because of the large number of patent filings in the biopharmaceutical field, our competitors may have filed applications or been issued patents and may obtain additional patents and proprietary intellectual property rights relating to products or processes competitive with or similar to ours. We cannot be certain that U.S. or foreign patents do not exist or will be issued that would harm our ability to commercialize our products and product candidates.

Our research and development activities involve the controlled use of potentially harmful biological materials, such as blood products, organic solvents and other hazardous materials. We cannot completely eliminate the risk of accidental contamination or injury from the use, storage, handling or disposal of these materials. In the event of contamination or injury, we could be held liable for damages that result, and any liability could be significant. We are subject to federal, state and local laws and regulations governing the use,

Our design, testing, development, manufacture and marketing of products involve an inherent risk of exposure to product liability claims and related adverse publicity. Insurance coverage is expensive and difficult to obtain, and we may be unable to obtain coverage in the future on acceptable terms, if at all. Although we currently maintain product liability insurance for our products in the amounts we believe to be commercially reasonable, we cannot be certain that the coverage limits of our insurance policies or those of our strategic partners will be adequate. If we are unable to obtain sufficient insurance at an acceptable cost or if a successful product liability claim is made against us, whether fully covered by insurance or not, our business could be harmed.

Our ability to operate successfully depends in significant part upon the experience, abilities and continued service of certain key scientific, technical and managerial personnel. If we lose the services of any of these personnel and we are unable to hire qualified replacements, our business could be harmed. Our future success also depends upon our ability to attract and retain additional highly qualified personnel in these areas and our ability to develop and maintain relationships with qualified clinical researchers. In this regard, our Chief Executive Officer and President resigned in October 2002 and we are currently considering candidates to fill this position. In addition, our Chief Financial Officer resigned in January 2003. We currently do not plan to fill that position. Competition for such personnel and relationships is intense, especially in the San Francisco Bay Area. There can be no assurance that we can retain such personnel or that we can attract or retain other highly qualified scientific, technical and managerial personnel or develop and maintain relationships with clinical researchers in the future.

While we have disposed of most of the assets in the discontinued operations plan, we plan to use the proceeds from the sales of the remaining assets in the discontinued operations plan to partially fund our continuing operations. While the current real estate markets are generally healthy, there is no assurance that the markets will continue to be favorable to support the disposal of these assets. A downturn in the real estate market could adversely affect our ability to sell these real estate assets. Additionally, a downturn in the real estate market could adversely affect the ability of our borrowers to repay their loans according to the terms of the loans and/or could adversely affect the value of the collateral for those loans. Either of these outcomes would impair our ability to generate funds for our continuing operations.

There can be no assurance that there will be an active trading market for our common stock or that the market price of the common stock will not decline below its present market price. The market prices for securities of biotechnology companies have been, and are likely to continue to be, highly volatile. Factors that have had, and are expected to continue to have, a significant impact on the market price of our common stock include:


	•	material public announcements;

	•	actual or potential clinical results with respect to our products under development or those of our competitors;

	•	the announcement and timing of any new product introductions by us or others;

	•	technical innovations or product development by us or our competitors;


	•	regulatory approvals or regulatory issues;

	•	developments relating to patents and proprietary rights;

	•	political developments or proposed legislation in the medical device or healthcare industry;

	•	economic and other external factors, disaster or crisis;

	•	changes to our management;

	•	period-to-period fluctuations in our financial results or results which do not meet or exceed analyst expectations; and

	•	market trends relating to or affecting stock prices throughout our industry, whether or not related to results or news regarding us or our competitors.

In the past, securities class action litigation has often been brought against a company following periods of volatility in the market price of its securities. We may, in the future, be the target of similar litigation. Regardless of its outcome, securities litigation may result in substantial costs and divert management’s attention and resources, which could harm our business and results of operations.

The future sale of substantial number of shares of our common stock, or the perception that such sales could occur, would impact the market price of our common stock. In connection with the merger of the privately-held Lipid Sciences, Inc. with and into NZ Corporation in November 2001, (i) certain of our stockholders beneficially owning 5,451,772 shares of our common stock have agreed for one year, and (ii) certain of our other stockholders beneficially owning 9,622,803 shares of our common stock have agreed for two years, pursuant to executed lock-up agreements, not to sell any shares of common stock. The shares subject to such one-year lock-up agreements became available for sale in the public market on November 29, 2002 and the shares subject to such two-year lock-up agreements will be available for sale in the public market on November 29, 2003. If a substantial number of shares of common stock that have become available for sale or will be available for sale in the near future are sold, the market price of our common stock may be negatively impacted.

In connection with the merger of the privately-held Lipid Sciences, Inc. with and into NZ Corporation, we are obligated to issue additional shares of common stock on November 29, 2003 to those individuals and entities who were stockholders of NZ Corporation on the day prior to the completion of the merger and who perfected their stock rights, subject to certain exceptions. Each perfected right entitles the holder to receive up to one additional share of our common stock. If additional shares are issued pursuant to the rights, the issuance of additional shares of common stock will have the effect of diluting the ownership of stockholders not holding rights and increasing the proportionate ownership of the stockholders holding rights. As of December 31, 2002, 2,954,822 rights were perfected with an additional 105,518 rights pending determination. If all of the holders of perfected rights remain qualified to receive the additional shares on November 29, 2003, the issuance will dilute stockholders by up to 12.6%, based on 21,141,455 shares outstanding as of December 31, 2002. In addition, if we seek funding through equity financings, there would be further dilution to existing stockholders.

We have taken a number of actions that could discourage a takeover attempt that might be beneficial to stockholders who wish to receive a premium for their shares from a potential bidder. For example:


	•	our Board of Directors has the authority to issue, without vote or action of stockholders, up to 10,000,000 shares of preferred stock and to fix the price, rights, preferences and privileges of those shares. Any series of preferred stock could contain dividend rights, conversion rights, voting rights,


		terms of redemption, redemption prices, liquidation preferences or other rights superior to the rights of holders of common stock;

	•	our Directors are elected to staggered terms, which prevents the board from being replaced in any single year;

	•	our Certificate of Incorporation and Bylaws require the affirmative vote of the holders of sixty-six and two-thirds percent (66 2/3%) of the voting power of all of the then outstanding shares entitled to vote generally in the election of Directors, voting together as a single class, to make, alter, amend or repeal our Bylaws;

	•	our Certificate of Incorporation does not permit stockholders to take an action by written consent;

	•	our Certificate of Incorporation and the Bylaws provide that special meetings of the stockholders may be called only by the Chairman of the Board, the President, or the Board of Directors by a resolution approved by a majority of the total number of Directors we would have if there were no vacancies; and

	•	under our Bylaws, notice regarding stockholder proposals and Director nominations must have been delivered not less than 45 days nor more than 75 days prior to the first anniversary of the date on which we first mailed our proxy materials for the preceding year’s annual meeting.

Our headquarters are located at 7068 Koll Center Parkway, Suite 401 in Pleasanton, California. The facility is approximately 12,000 square feet, which consists of approximately 9,000 square feet of office and warehouse space and 3,000 square feet of laboratory space. The master lease, entered into in September 2000 for approximately 9,000 square feet, was amended in September 2002 to allow for an additional 3,000 square feet. We have entered into a five-year lease with respect to the master lease, and a three-year lease with respect to the lease amendment. Both facility leases expire in September 2005.

Our previously subleased facility in Brisbane, Australia, consisting of approximately 700 square feet of office and laboratory space, expired in May 2002. We did not renew the sublease.

Additionally, we have leased office space in Phoenix, Arizona for our real estate related activities headquarters. The facility is approximately 5,000 square feet, all of which is office space. In August 2002, we provided notice to the landlord of our intent to exercise the early termination provision under the lease. Accordingly, that lease will expire March 31, 2003. Effective as of April 1, 2003, the Phoenix office will occupy leased space of approximately 900 square feet. The lease will expire in March 2004, but may be terminated early by us without penalty upon 90 days prior written notice.

We also have space available for our use at the SRI International facility in connection with our product development agreement with them.

We are from time to time a party to legal proceedings. All of the legal proceedings we are currently involved in are ordinary and routine. The outcomes of the legal proceedings are uncertain until they are completed. We believe that the results of the current proceedings will not have a material adverse effect on our business or financial condition or results of operations.

There were no matters submitted to a vote of stockholders of the Company during the fourth quarter of 2002.

As of November 29, 2001, our common stock has traded on the Nasdaq National Market System under the symbol “LIPD”. Prior to November 29, 2001, our common stock was admitted to non-listed trading privileges on the American Stock Exchange under the symbol “NZ”. The following table sets forth, for the period indicated, the high and low closing sales prices per share of our common stock, as reported by the AMEX and Nasdaq National Market, respectively. On March 4, 2003, there were approximately 1,010 registered holders of record of our common stock, including multiple beneficial holders and depositories, banks and brokers listed as a single holder in the street name of each respective depository, bank or broker.

We did not declare any dividends on our common stock in 2002 or in any prior years. We anticipate that for the foreseeable future we will continue to retain our earnings for use in our business. The payment of cash dividends is at the discretion of the Board of Directors of the Company.

The following table provides aggregate information regarding outstanding options and warrants under all equity compensation plans of the Company through December 31, 2002:


(1)	Issued pursuant to the Company’s 2001 Performance Equity Plan, 2000 Stock Option Plan and the 1997 Stock Incentive Plan.

(2)	Issued pursuant to individual option agreements, the material terms of which are described below.

(3)	Issued pursuant to warrants, the material terms of which are described below.

The shares of common stock subject to outstanding options and warrants that were granted pursuant to equity compensation plans not approved by the shareholders of the Company were granted pursuant to individual stock option agreements and warrants, the material provisions of which are the following:

Each of Petar Alaupovic, Ph.D., George A. Bray, M.D., H. Bryan Brewer, M.D., Howard Hodis, M.D., Gerhard Kostner, Ph.D. and Frank Sacks, M.D. was granted a non-qualified stock option to

purchase 116,927 shares of common stock as consideration for services performed as a member of the Company’s Scientific Advisory Board. The options granted to the Scientific Advisory Board members are subject to substantially identical terms. Each option has a term of five years, a per share exercise price equal to the fair market value on the date of grant and is exercisable for a three-month period following the optionholder’s termination of service for any reason other than cause, the optionholder’s death or disability. The non-qualified stock option to purchase 155,902 shares of common stock that was granted to Gary S. Roubin, M.D., Ph.D., as consideration for services he performed as a member of the Company’s Board of Directors is subject to substantially similar terms as the options granted to the Scientific Advisory Board members, except that the term of the option is 10 years rather than 5 years. The Company also granted to Joe Markham, as consideration for services performed for the Company in a private placement transaction, a non-qualified stock option to purchase 7,796 shares of common stock that provides for substantial similar terms as the options granted to the Scientific Advisory Board members above. Each option that was granted outside the Company’s plans other than the option granted to Mr. Markham, which was exercisable immediately as of the date of grant, became exercisable over a specified period. All of these options were fully vested as of December 31, 2002.

In May 2000, the Company sold to Joseph D. Chandler, an existing shareholder on the date of grant, a warrant to purchase 155,902 shares of common stock at a per share exercise price of $3.21 as consideration for services he performed for the Company in connection with a private placement transaction. In exchange for the warrant to Mr. Chandler, the Company received cash consideration in the amount of $20,000. The warrant sold to Mr. Chandler expires on May 15, 2005. In October 2000, the Company issued to SRI a warrant to purchase 779,510 shares of common stock at a per share exercise price of $3.21 as consideration for services it performed in connection with a development agreement between the Company and SRI International. The warrant, which expires on October 6, 2007, becomes exercisable only upon completion of specified milestones. In May 2001, the Company sold to Carroll Shelby a warrant to purchase 155,902 shares of common stock at a per share exercise price of $6.41 as consideration for services performed for the Company in connection with a private placement transaction. In exchange for the warrant sold to Mr. Shelby, the Company received cash consideration in the amount of $20,000. This warrant expires on May 30, 2006.

The selected consolidated financial data presented below for the fiscal years ended December 31, 2002 and 2001 and for the period from Inception (May 21, 1999) to December 31, 2000, are derived from audited financial statements. The data set forth below should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and our financial statements and related notes thereto appearing elsewhere in this annual report. The selected data in this section are not intended to replace our financial statements.


(1)	Because our merger with Pre-Merger Lipid was treated as a reverse acquisition, Pre-Merger Lipid was considered the acquiror for accounting and financial reporting purposes. Accordingly, all financial information prior to November 29, 2001 presented represents the financial results of Pre-Merger Lipid.

(2)	Financial information for the year ended December 31, 2001, includes the results of Pre-Merger Lipid from January 1, 2001 through November 28, 2001, and the Company’s results from November 29, 2001 through December 31, 2001.

(3)	Activities during the period from Inception (May 21, 1999) to December 31, 1999 were insignificant and have been included in the results of operations for the year ended December 31, 2000.

You should read the following discussion and analysis in conjunction with our Consolidated Financial Statements and related Notes thereto, included on pages F-1 through F-27 of this Report, and the “Factors That May Affect Future Results and Financial Condition” section at the end of Part I, Item 1. The statements below contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act. See “Forward-Looking Statements” on page ii.

We are developing our basic delipidation technology as two complementary technology platforms. The first platform, Viral Pathogen Inactivation (VPI^TM) is designed to remove lipid from lipid-enveloped viruses, bacteria and other lipid-enveloped infectious agents. Examples of viruses with lipid envelopes that may be treatable by our VPI system include HIV, Hepatitis B, and Hepatitis C. The second platform, Vascular Lipid Removal (VLR^TM) is focused on treating atherosclerosis, which results from an overabundance of lipids in the vascular system. Our VLR platform is targeted at treating conditions such as heart disease, stroke and peripheral vascular disease.

The merger with NZ was accounted for under the purchase method of accounting and was treated as a reverse acquisition because the stockholders of Pre-Merger Lipid owned the majority of our common stock immediately after the merger. Pre-Merger Lipid was considered the acquiror for accounting and financial reporting purposes. Accordingly, all financial information prior to November 29, 2001 included in this report reflects Pre-Merger Lipid results.

In connection with the merger, the Company is obligated to issue additional shares of common stock to those individuals and entities who were stockholders of NZ on the day prior to the completion of the merger and who perfected their stock rights, unless during the 24-month period immediately following the merger, the closing price per share of the Company’s common stock equals or exceeds $12.00 per share throughout any period of 20 consecutive trading days, in which the aggregate volume of shares traded equals or exceeds 1,500,000 shares. Each perfected right entitles the holder to receive up to one additional share of the Company’s common stock. Stockholders had until April 30, 2002 to perfect their rights and must continue to hold their shares in direct registered form through November 29, 2003 to qualify to receive the additional stock with respect to each perfected right. Transfer of shares before November 29, 2003 will disqualify the right with respect to each of the transferred shares. If additional shares are issued pursuant to the rights, the issuance of additional shares of common stock will have the effect of diluting the ownership of stockholders not holding rights and increasing the proportionate ownership of the stockholders holding rights. As of December 31, 2002, 2,954,822 rights were perfected with an additional 105,518 rights pending determination. If all of the holders of perfected rights remain qualified to receive the additional shares on November 29, 2003, the issuance will dilute stockholders by up to 12.6%, based on 21,141,455 shares outstanding as of December 31, 2002.

In the course of our research and development activities, we have sustained continued operating losses and we expect these losses to continue for the foreseeable future as we continue to invest in research and development and begin to allocate significant and increasing resources to clinical testing and other activities related to seeking approval to market our products. We approved a discontinued operations plan on March 22, 2002, to dispose of substantially all of the real estate and other assets held by the Company before the merger (see Note 11 of the Consolidated Financial Statements). During 2002, we disposed of most of the assets in the discontinued operations plan. We intend to finance our operations through the disposition of the remaining assets, through public or private equity or debt financings, the pursuit of research and development grants, and cash on hand. In the longer term, we expect to additionally finance our operations through revenues from product sales and licenses upon receiving all relevant approvals. If adequate funds are not available to satisfy our requirements, we may have to substantially reduce, or eliminate, certain areas of our product development activities, significantly limit our operations, or otherwise modify our business strategy.

Our business is organized into two segments: Biotechnology and Real Estate. Our Biotechnology segment is focused on research and development of products and processes intended to treat major medical conditions in which lipid, or fat components play a key role. As a result of the merger with NZ on November 29, 2001, certain real estate assets, including commercial real estate loans were acquired. As part of the merger, we announced our intent to conduct an orderly disposition of these assets and on March 22, 2002, we formalized a plan to discontinue the operations of our Real Estate segment. The plan identified the major assets to be disposed of, the expected method of disposal, and the period expected to be required for completion of the disposal.

As of December 31, 2001, we recorded restructuring charges of approximately $885,000, which were charged to general and administrative expense. Our restructuring initiatives involved strategic decisions to exit the real estate market through the orderly disposition of substantially all of NZ’s assets. As of December 31, 2002, we have utilized approximately $86,000 of the accruals set up for restructuring purposes. We expect the restructuring to be completed in the first half of 2003 with all accrued amounts paid within twelve months of the restructuring completion (see Note 9 of the Consolidated Financial Statements).

demonstrate the efficacy of our VPI platform technology is HIV. In connection with this new strategic direction we have discontinued our Phase 1 human clinical trial in Australia, which was paused in the third quarter of 2002, and ceased all operations in Australia. In addition, we are aligning our clinical trial efforts toward the development of our VPI platform and U.S.-based clinical trials. Although our strategic plan is projected to reduce operating expenses in the second half of 2003 by approximately 30% to 40% when measured against the same period in 2002, we cannot assure you that such reduction will be sufficient to permit the Company to succeed in its development efforts with currently available funds.

The new direction is part of a comprehensive strategic plan being implemented by the Company. In connection with the adoption of that plan, we also have restructured our business operations. The strategic plan was recommended by the management team and approved by the Board of Directors. As part of the cost-savings goal of the strategic plan, Barry D. Michaels resigned as Chief Financial Officer and certain other management and other staff positions have been eliminated. Sandra Gardiner, the Company’s Vice President, Controller and Corporate Secretary, has assumed the newly created position of Chief Accounting Officer. In related appointments, Marc Bellotti, who was Vice President of Product Development, has assumed the position of Vice President, Research and Development. Dale Richardson, who was Vice President of Marketing and Sales, has assumed the position of Vice President, Business Development. We are currently considering candidates to fill the position of President and Chief Executive Officer, a position that has been vacant since Phil Radlick, Ph.D., resigned on October 15, 2002. Although we believe our strategic plan will lead to a reduction in our operational expenses, we cannot assure you that such reduction will be realized.

In December 2001, the Securities and Exchange Commission, or SEC, required that all registrants disclose and describe their “critical accounting policies” in MD&A. The SEC indicated that a “critical accounting policy” is one which is both important to the portrayal of the Company’s financial condition and results of operations and requires management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. In applying those policies, our management uses its judgment to determine the appropriate assumptions to be used in the determination of certain estimates. Those estimates are based on our historical experience, terms of existing contracts, our observance of trends in the industry and information available from other outside sources, as appropriate. We believe that our following accounting policies fit this definition:

Real estate properties are stated at the lower of cost or estimated fair value. All properties are held for sale and are written down to estimated fair value when the Company determines the carrying cost exceeds the estimated selling price, less costs to sell. Management makes this evaluation on a property-by-property basis. The evaluation of fair value and future cash flows from individual properties requires significant judgment. Our estimates are based on historical results adjusted to reflect our best estimate of future market and operating conditions. Our estimates of fair value represent our best estimate based on industry trends and reference to market rates and transactions. It is reasonably possible that a change in economic or market conditions could result in a change in management’s estimate of fair value.

All loans and notes receivable are held for sale and are written down to estimated fair value when the Company determines that the loan is impaired. Among the factors used to determine whether a loan is impaired are creditworthiness of the borrower, whether or not the loan is performing, the value of any collateral for the loan, collectibility of the loan, and general economic and market conditions. The determination of whether a loan is impaired requires significant judgment. Our estimates are based on historical results adjusted to reflect our best estimate of future market and operating conditions. Our conclusions are based on factors that are inherently uncertain. It is reasonably possible that a change in economic or market conditions could result in a change in management’s estimate of fair value.

The Company accounts for stock options granted to employees using the intrinsic value method in accordance with the provisions of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and, thus, recognizes no compensation expense for those options granted with exercise prices equal to the fair market value of the Company’s common stock on the date of grant. As permitted, the Company has elected to adopt the disclosure provisions only of SFAS No. 123, “Accounting for Stock-Based Compensation”. The Company accounts for its stock-based awards to non-employees in accordance with SFAS No. 123 (see Note 10 of the Consolidated Financial Statements).

The Company follows SFAS No. 109, “Accounting for Income Taxes.” Under the asset and liability method of SFAS No. 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment.

The above listing is not intended to be a comprehensive list of all of our accounting policies. Our significant accounting policies are more fully described in Note 3 to our Consolidated Financial Statements. In many cases, the accounting treatment of a particular transaction is specifically dictated by generally accepted accounting principles, with no need for management’s judgment in their application. There are also areas in which management’s judgment in selecting any available alternative would not produce a materially different result. See our audited Consolidated Financial Statements and notes thereto which begin on page F-1 of this Report which contain accounting policies and other disclosures required by accounting principles generally accepted in the United States of America.

Net Revenue. We have had no revenues from continuing operations since Inception (May 21, 1999). Future revenues will depend on our ability to develop and commercialize our two primary platforms for the treatment of lipid-enveloped viruses (Viral Pathogen Inactivation System) and cardiovascular disease (Vascular Lipid Removal System).

Research and Development Expenses. Research and development expenses include product development, clinical testing, and regulatory expenses. Research and development expenses for 2002 increased 28% to $15,094,000 from $11,799,000 in 2001. The increase in research and development expenses is due primarily to the on-going development of the device component of our delipidation systems, expenses associated with our human clinical trial, including $250,000 paid to Aruba International upon the commencement of our human clinical trial, and staff additions in the research and development and clinical areas. Research and development expenses account for approximately 69% of total operating expenses for the twelve months ended December 31, 2002.

Our first human clinical trial commenced during the second quarter of 2002. The Phase 1 trial was being conducted in Australia to determine the safety of our plasma delipidation process. After an adverse reaction in a volunteer, the trial was voluntarily paused during the third quarter of 2002. The preliminary results from this trial advanced the science and improved the safety of our proprietary delipidation process. We believe we have identified and mitigated the cause of the adverse event experienced in that trial. However, for strategic

reasons, we have discontinued our Phase 1 human clinical trial and ceased all operations in Australia. Furthermore, we have decided to align our clinical trial efforts toward the development of our VPI platform and U.S.-based clinical trials. We anticipate that our research and development expenses will continue for the foreseeable future as we conduct clinical trials necessary for us to apply for regulatory approval to market our products.

While we allocate and track resources when required pursuant to the terms of development arrangements, our research team typically works on different products concurrently, and our equipment and intellectual property resources often are deployed over a range of products with a view to maximize the benefit of our investment. Accordingly, we have not, and do not intend to, separately track the costs for each of our research projects on a product-by-product basis. For the year ended December 31, 2002, however, we estimate that the majority of our research and development expense was associated with our two primary platforms, Lipid-Enveloped Viruses (Viral Pathogen Inactivation System) and Cardiovascular (Vascular Lipid Removal System).

Selling, General and Administrative Expenses. General and administrative expenses for 2002 increased 51% to $6,630,000 from $4,405,000 in 2001. The increase is due primarily to costs to conduct business as a public company, including accounting, legal, stockholder and filing fees. Public company related expenses accounted for approximately 40% of the increase in general and administrative expenses. The balance of the increase in such expenses is primarily due to expenses to establish administrative management, and Director fees and expenses. General and administrative expenses account for approximately 31% of total operating expenses for the twelve months ended December 31, 2002.

Interest and Other Income. Interest and other income for 2002 decreased 33% to $240,000 from $356,000 in 2001. The decrease is due primarily to lower cash, cash equivalent and short-term investment balances throughout 2002.

Results of Continuing Operations — Years Ended December 31, 2001 and Period from Inception (May 21, 1999) to December 31, 2000

Research and Development Expenses. Research and development expenses include product development, clinical testing, and regulatory expenses. Research and development expenses for 2001 increased 433% to $11,799,000 from $2,212,000 in the period from Inception (May 21, 1999) to December 31, 2000. The increase in research and development expenses is due primarily to staff additions in research and development and clinical areas, stock compensation expenses, a non-cash charge related to issuance of stock to our Scientific Advisory Board, and expenses related to the on-going development of the device component of our delipidation systems, including $3,400,000 related to the development agreement with SRI International, of which $850,000 is a non-cash charge related to the issuance of warrants.

Selling, General and Administrative Expenses. General and administrative expenses for 2001 increased 271% to $4,405,000 from $1,188,000 in the period from Inception (May 21, 1999) to December 31, 2000. The increase is due primarily to expenses to establish administrative management (including recruitment fees), accounting, legal, shareholder and filing fees associated with public company requirements, and restructuring costs (see Note 9 of the Consolidated Financial Statements) associated with the merger.

Interest and Other Income. Interest and other income for 2001 decreased 13% to $356,000 from $407,000 in the period from Inception (May 21, 1999) to December 31, 2000. The decrease is due primarily to lower cash, cash equivalent and short-term investment balances throughout 2001.

Results of Discontinued Operations — Years Ended December 31, 2002, 2001 and 2000

During the years ended December 31, 2002, 2001 and 2000, the disposal of real estate assets generated cash of approximately $12,114,000, $21,800 and zero, respectively, and we collected approximately $21,502,000, $495,000 and zero, respectively, in principal payments from commercial real estate notes and other notes receivable.

In May 2002, we paid approximately $3,000,000 to purchase a first position mortgage loan, which was in superior lien position to our second position mortgage loan, on 15 residential lots in San Diego County, California. We purchased the first mortgage because the lender was foreclosing, leaving our second position mortgage unsecured and possibly unrecoverable. The foreclosure process was completed and the property was acquired in July 2002. We have undertaken certain development activities left unfinished by our borrower, in order to prepare the lots for sale.

During 2002, we made significant progress under our plan of disposition. We reduced the total assets in the disposal group by 73%, from approximately $62,400,000 to $16,900,000. We also reduced the total liabilities in the disposal group by 99%, from approximately $23,700,000 to $200,000.

Pre-Merger Lipid financed its operations principally through two private placements of equity securities, which yielded net proceeds of approximately $16,900,000, and the sale of common stock to one of its founders. The merger with NZ resulted in the acquisition of net assets of approximately $45,000,000, net of repurchase of stock and acquisition costs, through December 31, 2002.

The net cash used in operating activities was approximately $13,600,000, $10,400,000 and $2,100,000 for the years ended December 31, 2002 and 2001 and the period from Inception (May 21, 1999) to December 31, 2000, respectively, resulting primarily from operating losses incurred as adjusted for income taxes and non-cash stock compensation charges. The net cash used in investing activities was approximately $2,600,000 and $8,100,000 for the year ended December 31, 2002 and for the period from Inception (May 21, 1999) to December 31, 2000, respectively, primarily attributable to the purchase of short-term investments and capital equipment. Net cash provided by investing activities of approximately $7,300,000 for the year ended December 31, 2001 was primarily from the maturities of short-term investments. Net cash used in financing activities of approximately $700,000 for the year ended December 31, 2002 was primarily due to the repurchase of common stock from dissenting stockholders and additional accrued merger costs. Net cash provided by financing activities of approximately $13,200,000 and $11,300,000 for the year ended December 31, 2001 and for the period from Inception (May 21, 1999) to December 31, 2000 was due primarily to the acquisition of NZ Corporation and the sale of equity securities in private placement transactions. Net cash provided by discontinued operations of approximately $22,700,000 and $1,500,000 for years ended December 31, 2002 and 2001, respectively, was primarily due to the sale of real estate assets and collection of principal payments on commercial real estate loans and other notes receivable.

commencement of our initial human clinical trial utilizing the technology under the patents. Our initial human clinical trial commenced during the three month period ended June 30, 2002. For the year ended December 31, 2000, we paid cash of approximately $350,000 and issued 66,817 shares of common stock valued at $150,000 related to this agreement. For the years ended December 31, 2002 and 2001, we have expensed approximately $750,000 and $850,000, respectively, related to this agreement. Amounts for 2000, 2001 and 2002 were charged to research and development expense.

In May 2000, we sold a total of 4,925,300 shares of common stock at $2.25 per share in a private placement to accredited investors. Net cash proceeds, after expenses, were approximately $11,000,000.

We also issued SRI warrants to purchase 779,510 shares of common stock at an exercise price of $3.21 per share. The warrants vested with respect to 233,853 shares upon completion of Phase I, with the remaining 545,657 shares vesting upon completion of Phase II. On May 12, 2001, the Development Agreement was amended with respect to the warrants to purchase 545,657 shares of common stock related to Phase II. This amendment splits Phase II into two development milestones with warrants to purchase 272,829 shares vesting at the completion of each milestone. If either development milestone is discontinued at the option of the Company, all 545,657 warrants will vest at the completion of the remaining milestone.

Phase I was completed on March 28, 2001. Fees for services performed by SRI for Phase I totaled $1,517,000. Of these total fees, funding of $973,000 and $544,000 was charged to operations in the year ended December 31, 2001 and the period from Inception (May 21, 1999) to December 31, 2000, respectively. The completion of Phase I resulted in warrants to purchase 233,853 shares of common stock becoming fully vested. On this date, we recognized an expense of $847,500, based upon the fair market value of the warrants on the date of vesting, using the Black-Scholes method with the following assumptions: a volatility of 80%, a dividend yield of 0%, a risk-free interest rate of 6%, and a life of seven years.

Phase II was initiated upon completion of Phase I. Fees for Phase II of the development program were limited to $6,300,000. On July 26, 2002, funding to SRI for the continued development of Phase II was increased to $9,500,000. For the years ended December 31, 2002 and 2001, approximately $4,900,000 and $2,500,000, respectively, was charged to operations for fees related to Phase II. As of December 31, 2002, neither milestone related to Phase II was completed, consequently no value has been assigned to the 545,657 warrants which vest upon completion of such milestone. These warrants will be valued using the Black-Scholes method and will be charged to expense as they vest. Consistent with our new strategic direction announced on January 28, 2003, we have refocused SRI efforts to support our VPI platform and spending related to Phase II development has been significantly reduced.

In March 2001, we closed a private placement of 1,375,282 shares of common stock at $4.49 per share for gross proceeds of $6,175,000. In connection with the private placement, we paid a commission to MDB Capital Group, LLC of approximately 7% of the gross proceeds, payable in shares of common stock, for services rendered in the private placement. Accordingly, 95,491 shares of common stock at $4.49 per share were issued as commission for the transaction. Mr. Marlett, the previous Chairman of our Board of Directors, is a manager and majority owner of MDB Capital Group.

In June 2001, Pre-Merger Lipid engaged MDB Capital Group, LLC as its financial advisor in the merger between NZ and Pre-Merger Lipid. The engagement letter commits the Company to pay MDB Capital Group an advisory fee. In December 2001, we paid MDB Capital Group approximately $446,000, which represents a portion of the advisory fee and is based on 5% of the cash and cash equivalents of the Company immediately after the merger, as compared to Pre-Merger Lipid’s cash and cash equivalents immediately prior to the merger. The remainder of the advisory fee is based on 5% of the gross sales of the Company’s pre-merger assets during the two-year period after the closing of the merger, the Company’s assets on the two-year anniversary of the merger and the net operating income of the Company derived from the Company’s pre-merger assets during the two-year period after the closing of the merger. Approximately $1,400,000 of the advisory fee was paid during the twelve months ended December 31, 2002. We anticipate the remainder of the advisory fee to be approximately $825,000. Our adoption of a formalized plan to dispose of all Real Estate segment assets by March 31, 2003 will likely result in the payment of substantially all MDB Capital Group advisory fees by third quarter 2003.

Additionally, in the normal course of business, we have consulted with Dr. Cham, and companies with which he is affiliated, regarding various matters relating to research and development. The amount expensed under these consultations amounted to approximately $21,000 and $110,000 in the year ended December 31, 2001 and the period from Inception (May 21, 1999) to December 31, 2000, respectively, for fees charged by Dr. Cham, including travel and similar costs, and have been included in the results of operations. In November 2001, we entered into a Service Agreement with Karuba International Pty. Ltd., a company controlled by Dr. Cham, in order to consolidate such consulting services. We were required to pay approximately $191,000 a year for Karuba’s consulting services, as well as out-of-pocket expenses incurred in the performance of such services. Under the terms of the agreement, the annual obligation to Karuba increased to approximately $198,000 per year in May 2002. This agreement, the initial term of which expired on November 27, 2002, automatically renews every year. Either party may terminate the agreement, without cause, upon thirty days written notice. However, if we terminate the agreement, we will be required to pay Karuba an amount equal to one third of the annual fee. For the years ended December 31, 2002 and 2001, approximately $279,000 and $19,000, respectively, was expensed to research and development under this agreement of which approximately $9,100 and $19,000 is included in accounts payable at December 31, 2002 and 2001, respectively.

We have a non-cancelable lease agreement for the office space in Pleasanton, California, which expires in 2005. Rent expense for 2002, 2001, and 2000 was approximately $303,000, $265,000, and $78,000, respectively. Future minimum lease payments under this lease agreement total $975,000.

In the course of its research and development activities, the Company has sustained continued operating losses and expects those losses to continue for the foreseeable future as we continue to invest in research and development and begin to allocate significant and increasing resources for clinical testing and related activities. As of December 31, 2002, we had cash and cash equivalents and short-term investments equal to approximately $20.6 million. We anticipate that these assets and the cash raised from the disposal of remaining assets included in the discontinued operations plan will provide sufficient working capital for our research and development activities for at least the next year. We expect additional capital will be required in the future. We intend to seek capital needed to fund our operations through new collaborations, such as licensing or other arrangements, through pursuit of research and development grants or through public or private equity or debt financings. Additional financing may not be available on terms favorable to us, or at all. If we are unable to obtain financing on acceptable terms, our ability to continue our business as planned will be significantly harmed.

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 141 “Business Combinations” and SFAS No. 142 “Goodwill and Other Intangible Assets.” SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001, and that the use of the pooling-of-interest method is no longer allowed. We adopted SFAS No. 141 on July 1, 2001. SFAS No. 142 requires that amortization of goodwill will cease, and instead, the carrying value of goodwill

will be evaluated for impairment on an annual basis. Identifiable intangible assets will continue to be amortized over their useful lives and reviewed for impairment in accordance with SFAS No. 121 “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of.” SFAS No. 142 is effective for fiscal years beginning after December 15, 2001. Lipid adopted SFAS No. 142 on January 1, 2002. Adoption of this statement did not have an impact on Lipid’s financial position, results of operations or cash flows.

In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” This statement superceded SFAS No. 121. SFAS No. 144 retained the fundamental provisions of SFAS No. 121 for (i) recognition and measurement of the impairment of long-lived assets to be held and used; and (ii) measurement of the impairment of long-lived assets to be disposed of by sale. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001. Lipid adopted SFAS No. 144 on January 1, 2002. Adoption of this statement did not have a significant impact on Lipid’s financial position, results of operations or cash flows.

In November 2002, the FASB issued FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” (FIN 45). FIN 45 requires that upon issuance of a guarantee, a guarantor must recognize a liability for the fair value of an obligation assumed under a guarantee. FIN 45 also requires additional disclosures by a guarantor in its interim and annual financial statements about the obligations associated with guarantees issued. The recognition provisions of FIN 45 are effective for any guarantees issued or modified after December 31, 2002. The disclosure requirements are effective for financial statements of interim or annual periods ending after December 15, 2002. We adopted the disclosure requirements for the financial statements included in this Form 10-K. We are currently evaluating the effects of the recognition provisions of FIN 45, however we do not expect that the adoption of FIN 45 will have a material effect on our financial position, results of operations or cash flows.

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure — an amendment of FASB Statement No. 123.” SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The Company adopted the annual disclosure requirements of SFAS No. 148 as of December 31, 2002. The transitional provisions of SFAS No. 148 did not have an impact on the Company’s financial position, results of operations, EPS, or cash flows, as the fair value method has not been adopted.

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”, which addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. The Company will adopt the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the Company’s commitment to an exit plan. SFAS No. 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized.

Our exposure to market risk associated with changes in interest rates relates to our investment portfolio. We maintain a non-trading investment portfolio consisting of government issued securities. These investments are classified as held-to-maturity and are accounted for at their amortized cost, as per FASB Statement No. 115. Due to the conservative nature of our investment portfolio, we do not believe that short-term fluctuations in interest rates would materially affect the value of our securities.

The operating expenses, assets and liabilities of our Australian subsidiary are denominated in a foreign currency, thereby creating exposure to changes in exchange rates. However, the risks related to foreign currency exchange rates are not material to our consolidated financial position or results of operations.

Our financial statements and the report of independent auditors appear on pages F-1 through F-27 of this report.

Previously disclosed in the Company’s Current Report on Form 8-K/A filed with the Securities and Exchange Commission on January 31, 2002.

The information regarding Directors and Executive Officers appearing under the heading “Proposal One: Election of Directors” and “Management-Section 16(a) Beneficial Ownership Reporting Compliance” of our proxy statement relating to our 2003 Annual Meeting of Stockholders to be held on May 29, 2003 (the “2003 Proxy Statement”) is incorporated by reference.

The information appearing under the headings “Management-Executive Compensation,” “Management-Employment Contracts, Termination of Employment and Change-in-Control Arrangements,” “Management-Compensation Committee Interlocks and Insider Participation” and “Proposal One: Election of Directors-Compensation of Directors” of the 2003 Proxy Statement is incorporated by reference.

The information appearing under the heading “Management-Security Ownership of Certain Beneficial Owners and Management” of the 2003 Proxy Statement is incorporated by reference.

The information appearing under the heading “Management-Certain Relationships and Related Transactions” of the 2003 Proxy Statement is incorporated by reference.


(a)	Evaluation of Disclosure Controls and Procedures. The Company’s Chief Accounting Officer, who is currently the highest ranking officer of the Company, has evaluated the procedures (as such term is defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of a date within 90 days prior to the filing date of this Annual Report on Form 10-K (the “Evaluation Date”). Based on such evaluation, such officer has concluded that, as of the Evaluation Date, the Company’s disclosure controls and procedures are effective in alerting her, on a timely basis, to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic filings under the Exchange Act.

(b)	Changes in Internal Controls. There have not been any significant changes in the Company’s internal controls or in other factors that could significantly affect such controls subsequent to the date of their evaluation.

The exhibits listed in the accompanying index to exhibits are filed or incorporated by reference as part of this Annual Report.


	1.	Financial Statements The financial statements and notes thereto, and the reports of the independent auditors thereon, are set forth on pages F-1 through F-27.

	2.	Financial Statement Schedules Schedule III — Real Estate and Accumulated Depreciation Schedule IV — Mortgage Loans on Real Estate All other schedules are omitted since the required information is not present or is not present in amounts sufficient to require submission of the schedules or because the information required is included in the Consolidated Financial Statements.

The exhibits listed in the accompanying index to exhibits are filed or incorporated by reference as part of this Annual Report.

During the last quarter for which this Annual Report is filed, the Company filed the following reports on Form 8-K:


	1.	Report on Form 8-K filed October 16, 2002 under “Item 7. Financial Statements and Exhibits” and “Item 9. Regulation FD Disclosure” containing Lipid Sciences, Inc.’s news release dated October 15, 2002 with respect to the announcement of board and management changes.

	2.	Report on Form 8-K filed October 28, 2002 under “Item 7. Financial Statements and Exhibits” and “Item 9. Regulations FD Disclosure” containing Lipid Sciences, Inc.’s news release dated October 28, 2002 with respect to the election of Dr. H. Bryan Brewer as a director.

	3.	Report on Form 8-K filed November 6, 2002 under “Item 7. Financial Statements and Exhibits” and “Item 9. Regulation FD Disclosure” containing a letter, dated November 6, 2002, from the Chairman of the Board to Lipid Science, Inc.’s stockholders.

We have audited the accompanying consolidated balance sheets of Lipid Sciences, Inc. and subsidiaries (a development stage company) as of December 31, 2002 and 2001, and the related consolidated statements of operations, stockholders’ equity, and cash flows for the years then ended, and for the period from Inception (May 21, 1999) to December 31, 2002. Our audit also included the financial statement schedules III and IV listed in Item 15(a)2. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these Consolidated Financial Statements based on our audits. The Company’s financial statements for the period from Inception (May 21, 1999) to December 31, 2000 were audited by other auditors whose report, dated March 13, 2001, expressed an unqualified opinion on those statements. The financial statements for the period from Inception (May 21, 1999) to December 31, 2000 reflect a net loss of $2,993,000 that is included in the related total for the period from Inception (May 21, 1999) to December 31, 2002. The other auditors’ report has been furnished to us, and our opinion, insofar as it relates to the amounts included for such prior period, is based solely on the report of such other auditors.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, based on our audits and the report of other auditors, such Consolidated Financial Statements present fairly, in all material respects, the financial position of Lipid Sciences, Inc. and subsidiaries at December 31, 2002 and 2001, and the results of their operations and their cash flows for the years then ended, and for the period from Inception (May 21, 1999) through December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such consolidated financial statement schedules referenced above, when considered in relation to the basic Consolidated Financial Statements as a whole, present fairly, in all material respects, the information set forth therein.

We have audited the accompanying statements of operations, stockholders’ equity, and cash flows of Lipid Sciences, Inc. (Pre-Merger Lipid) (a development stage company) for the period from Inception (May 21, 1999) through December 31, 2000, included in the 2002 consolidated financial statements of Lipid Sciences, Inc. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.

We conducted our audit in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Lipid Sciences, Inc. (Pre-Merger Lipid) (a development stage company) at December 31, 2000, and the results of its operations and its cash flows for the period from Inception (May 21, 1999) through December 31, 2000, in conformity with accounting principles generally accepted in the United States.

Lipid was organized in 1908 as an Arizona corporation under the name New Mexico and Arizona Land Company (“NZ”). We changed our name to NZ Corporation in June 2000 and to Lipid Sciences, Inc., in November 2001. In June 2002, we changed the state of our incorporation from Arizona to Delaware.

The Company is engaged in the research and development of products and processes intended to treat major medical conditions in which lipids, or fat components, play a key role. Our primary activities since incorporation have been conducting research and development, performing business, strategic and financial planning, and raising capital. Accordingly, the Company is considered to be in the development stage.

Historically, NZ engaged in various real estate and commercial real estate lending activities. On March 22, 2002, the Company formalized a plan to discontinue the operations of our real estate and real estate lending business, including commercial real estate loans, to fund the ongoing operations of Lipid Sciences’ biotechnology business. As a result, we have reclassified the results of operations and the assets and liabilities of the discontinued operations for all periods presented.

In the course of its research and development activities, the Company has sustained continued operating losses and expects those losses to continue for the foreseeable future as we continue to invest in research and development and begin to allocate significant and increasing resources for clinical testing and related activities. As of December 31, 2002, we had cash and cash equivalents and short-term investments equal to approximately $20.6 million. We anticipate that these assets and the cash raised from the disposal of assets included in the discontinued operations plan will provide sufficient working capital for our research and development activities for at least the next year. We expect additional capital will be required in the future. We intend to seek capital needed to fund our operations through new collaborations, such as licensing or other arrangements, through pursuit of research and development grants or through public or private equity or debt financings.

The merger was accounted for under the purchase method of accounting and was treated as a reverse acquisition because the shareholders of Pre-Merger Lipid owned the majority of the Company’s common stock after the merger. Pre-Merger Lipid was considered the acquiror for accounting and financial reporting purposes. The results of operations from NZ have been included only from November 29, 2001, the date of acquisition. The historical financial statements prior to November 29, 2001 are those of Pre-Merger Lipid. The share amounts included in the Statement of Stockholders’ Equity for all periods prior to the date of the merger have not been adjusted to reflect the effects of the exchange ratio.

Pre-Merger Lipid acquired NZ for the aggregate purchase price of $60,952,000. The aggregate purchase price equals the fair value of NZ’s net assets. The following table summarizes the fair values of the assets acquired and liabilities assumed at the date of the acquisition:

In connection with the merger, the Company is obligated to issue additional shares of common stock to those individuals and entities who were stockholders of NZ on the day prior to the completion of the merger and who perfected their stock rights, unless during the 24-month period immediately following the merger, the closing price per share of the Company’s common stock equals or exceeds $12.00 per share throughout any period of 20 consecutive trading days, in which the aggregate volume of shares traded equals or exceeds 1,500,000 shares. Each perfected right entitles the holder to receive up to one additional share of the Company’s common stock. Stockholders had until April 30, 2002 to perfect their rights and must continue to hold their shares in direct registered form through November 28, 2003 to continue to qualify the right. Transfer of shares before November 29, 2003 will disqualify the right attached to the transferred shares. If additional shares are issued pursuant to the rights, the issuance of additional shares of common stock will have the effect of diluting the ownership of stockholders not holding rights and increasing the proportionate ownership of the stockholders holding rights. The number of outstanding shares of common stock would increase, having the effect of diluting earnings per share. As of December 31, 2002, 2,954,822 rights were perfected with an additional 105,518 rights pending determination. If all of the holders of perfected rights remain qualified to receive the additional shares on November 28, 2003, the issuance will dilute stockholders by up to 12.6%, based on 21,141,455 shares outstanding as of December 31, 2002.

The consolidated results of operations from continuing operations on a pro forma basis as if the merger had occurred as of the beginning of the periods presented would be consistent with the results of continuing operations presented in the consolidated statements of operations. The results of operations of NZ have been reclassified to discontinued operations for all periods presented.

The accompanying Consolidated Financial Statements include the accounts of Lipid, and its wholly-owned subsidiaries. The Company prepares its financial statements in accordance with accounting principles generally accepted in the United States of America. All significant intercompany transactions have been eliminated in consolidation.

The Company considers all highly liquid investments purchased with original maturities of three months or less to be cash equivalents. Cash equivalents may be invested in money market funds. Cash equivalents and short-term investments are carried at cost, which approximates fair value at December 31, 2002, 2001 and 2000. All of the Company’s investments are classified as short-term, are held-to-maturity, and are accounted for at their amortized cost per FASB Statement No. 115. Short-term investments consist of available-for-sale investments in U.S. Government securities with a cost, approximating fair value, of $2,000,000, $0 and $8,045,000 at December 31, 2002, 2001 and 2000, respectively. The short-term, available-for-sale investment had an original maturity date of April 7, 2004, however the investment was called on January 7, 2003.

Commercial real estate loans are recorded at cost (which approximates fair value at the date of the merger). Management, considering current information and events regarding the borrowers’ ability to repay their obligations and the value of collateral, considers a loan to be impaired when it is probable that the Company will be unable to collect all principal amounts due according to the contractual terms of the loan agreement. When a loan is considered to be impaired, the amount of the impairment is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate. Impairment losses are included in the allowance for bad debts through a charge to bad debt expense. Interest accrual stops when a loan becomes 90 days past due. Subsequently, cash receipts on impaired loans are applied to reduce the principal amount of such loans until the loan is no longer impaired or until the principal has been recovered, and are recognized as interest income thereafter. As of December 31, 2002 and 2001, respectively, there was no allowance for bad debts because all of the commercial real estate loans were marked to fair value as part of the merger.

Real estate properties are stated at the lower of cost (which estimates fair value at the date of the merger) or estimated fair value. All properties are held for sale and are written down to estimated fair value when the Company determines the carrying amount exceeds the estimated selling price, less costs to sell. Management makes this evaluation on a property-by-property basis. The evaluation of fair value and future cash flows from individual properties requires significant judgment. It is reasonably possible that a change in economic or market conditions could result in a change in management’s estimate of fair value.

Depreciation on rental properties and other assets is provided over the estimated useful lives of the assets. Depreciation is computed using the straight-line method. Buildings and improvements are depreciated using lives between four and thirty-five years. Property and equipment which are held for sale are not depreciated.

Equipment is stated at cost, less accumulated depreciation, which is calculated using the straight-line method over the estimated useful lives of the respective assets, ranging between three and ten years.

Costs to develop the Company’s products are expensed as incurred in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 2, “Accounting for Research and Development Costs.” These costs include research related overhead expenses, including salaries and other personnel related expenses, contractor fees, facility costs, supplies and depreciation of equipment.

The Company follows SFAS No. 66, “Accounting for Sales of Real Estate.” SFAS No. 66 stipulates certain conditions which must be met to recognize profit from the sale of real estate using the full accrual

method. These conditions include minimum down payments and annual investments by the buyer, and reasonable assurance the related receivable is collectible. We recognize revenue from the sale of properties using the full accrual method when the required conditions are met.

Profits from retail land sales are recognized on the installment basis provided minimum down payments are received. Deferred revenue consists principally of retail land sales made after the merger, and rents collected in advance.

The Company capitalizes construction and development costs as required by SFAS No. 67, “Accounting for Costs and Initial Rental Operations of Real Estate Projects.” Cost of sales for the recreational lots are determined by allocating development costs pro-rata by acre. Costs associated with financing or leasing projects are capitalized and amortized over the period benefited by those expenditures.

The Company accounts for stock-based awards to employees using the intrinsic value method in accordance with Accounting Principles Board (“APB”) No. 25, Accounting for Stock Issued to Employees, as interpreted by Financial Accounting Standards Board (“FASB”) Interpretation No. 44, “Accounting for Transactions Involving Stock Compensation — an Interpretation of APB Opinion No. 25.” The Company accounts for stock-based awards to non-employees in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-Based Compensation and Emerging Issues Task Force (“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.

Because the Company grants stock option awards at market value, there is no compensation expense recorded. Had compensation expense for the Company’s stock option awards been determined based on the Black-Scholes fair value at the grant dates for awards under those plans consistent with the fair value method of SFAS No. 123 — Accounting for Stock-Based Compensation, the Company would have recorded additional compensation expense and its net income and earnings per share (EPS) would have been reduced to the pro forma amounts presented in the following table:

The Company follows SFAS No.109, “Accounting for Income Taxes.” Under the asset and liability method of SFAS No. 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those

temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities resulting from a change in tax rates is recognized in income in the period that includes the enactment date.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

The Company computes its net loss per share under the provisions of SFAS No. 128, “Earnings Per Share.” Basic net loss per share is calculated using the weighted average number of common shares outstanding.

Diluted net loss per share reflects the potential dilution that would occur if securities or other contracts to issue common stock were exercised or converted into common stock. Stock options and warrants to purchase common stock have been excluded from diluted loss per share, as their effect would be antidilutive. These outstanding securities consist of the following:

SFAS No. 107, “Disclosures about Fair Value of Financial Instruments,” requires that a company disclose estimated fair values for its financial instruments. The carrying amounts of the Company’s commercial real estate loans and long-term debt and lines of credit approximate the estimated fair value because they are at interest rates comparable to market rates, given the terms and maturities. The carrying amounts of the Company’s cash equivalents, short-term investments, receivables, and accounts payable approximate the fair value of these instruments due to their short-term maturities. Considerable judgment is required in interpreting market data to develop the estimates of fair value. Accordingly, these fair value estimates are not necessarily indicative of the amounts the Company may pay or receive in actual market transactions.

In June 2001, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 141 “Business Combinations” and SFAS No. 142 “Goodwill and Other Intangible Assets.” SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001, and that the use of the pooling-of-interest method is no longer allowed. The Company has adopted the provisions of SFAS No. 141. SFAS No. 142 requires that amortization of goodwill will cease, and instead, the carrying value of goodwill will be evaluated for impairment on an annual basis. Identifiable intangible assets will continue to be amortized over their useful lives and reviewed for impairment in accordance with SFAS No. 121 “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be

Disposed of.” SFAS No. 142 is effective for fiscal years beginning after December 15, 2001. Lipid adopted SFAS No. 142 on January 1, 2002. Adoption of this statement did not have an impact on Lipid’s financial position or results of operations.

In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” This statement superceded SFAS No. 121 and retained the fundamental provisions of SFAS No. 121 for (i) recognition and measurement of the impairment of long-lived assets to be held and used; and (ii) measurement of the impairment of long-lived assets to be disposed of by sale. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001. Lipid adopted SFAS No. 144 on January 1, 2002. Adoption of this statement did not have a significant impact on Lipid’s financial position or results of operations.

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure — an amendment of FASB Statement No. 123.” SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The Company adopted the annual disclosure requirements of SFAS No. 148 as of December 31, 2002. The transitional provisions of SFAS No. 148 did not have an impact on the Company’s financial position, results of operations, EPS, or cash flows, as the fair value method has not been adopted.

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”, which addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. The Company will adopt the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the Company’s commitment to an exit plan. SFAS No. 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized.

Property and equipment are carried at cost less accumulated depreciation and amortization. Property and equipment are depreciated using the straight-line method over the estimated useful lives, generally three to five years. Leasehold improvements are amortized using the straight-line method over the shorter of the estimated useful life of the asset or the remaining term of the lease.

The Company has a non-cancelable lease agreement for office space in Pleasanton, California and a lease agreement for office space in Phoenix, Arizona. The leases will expire in September 2005 and March 2004, respectively. The lease in Phoenix, Arizona can be terminated without penalty if notice is given within 90 days. Rent expense for 2002, 2001 and 2000 was approximately $303,000, $265,000 and $78,000, respectively. Future minimum lease payments under these leases are:

The Company was required to obtain an irrevocable standby letter of credit for the Pleasanton, California lease in the amount of $525,000 as security for payments due under the lease. Per the lease agreement, this letter of credit was reduced to $315,000, plus interest during 2002.

Phase I was completed on March 28, 2001. Fees for services performed by SRI for Phase I totaled $1,517,000. Of these total fees, funding of $972,967 and $544,000 was charged to operations in the year ended

December 31, 2001 and the period from Inception (May 21, 1999) to December 31, 2000, respectively. The completion of Phase I resulted in warrants to purchase 233,853 shares of common stock becoming fully vested. On this date, we recognized an expense of $847,000, based upon the fair market value of the warrants on the date of vesting, using the Black-Scholes method with the following assumptions: a volatility of 80%, a dividend yield of 0%, a risk-free interest rate of 6%, and a life of seven years.

Phase II was initiated upon completion of Phase I. Fees for Phase II of the development program were limited to $6,300,000. On July 26, 2002, funding to SRI for the continued development of Phase II was increased to $9,500,000. For the years ended December 31, 2002 and 2001, approximately $4,900,000 and $2,500,000, respectively, was charged to operations for fees related to Phase II. As of December 31, 2002, neither milestone related to Phase II was completed, consequently no value has been assigned to the 545,657 warrants which vest upon completion of such milestones. These warrants will be valued using the Black-Scholes method and will be charged to expense as they vest. Consistent with our new strategic direction announced on January 28, 2003, we have refocused SRI efforts to support our VPI platform and spending related to Phase II development has been significantly reduced.

In December 1999, we entered into an Intellectual Property License Agreement to obtain the exclusive worldwide rights to certain patents, trademarks, and technology with Aruba International Pty. Ltd., an Australian company, controlled by Bill E. Cham, Ph.D., a founding stockholder of Pre-Merger Lipid and a former Director. As consideration for the license, we issued Aruba 4,677,060 shares of our common stock valued at $250,000. This amount was charged to expense as research and development in the year ended December 31, 2000. Under this agreement, we are obligated to pay Aruba a continuing royalty on revenue in future years, subject to a minimum annual royalty amount of $500,000, 10% of any External Research Funding received by us to further this technology, as defined in the agreement, and $250,000 upon commencement of our initial human clinical trial utilizing the technology under the patents. Our initial human clinical trial commenced during the three month period ended June 30, 2002. For the year ended December 31, 2000, we paid cash of approximately $350,000 and issued 66,817 shares of common stock valued at $150,000 related to this agreement. For the years ended December 31, 2002 and 2001, we have expensed approximately $750,000 and $850,000, respectively, related to this agreement. Amounts for 2000, 2001 and 2002 were charged to research and development expense.

Additionally, in the normal course of business, we have consulted with Dr. Cham, and companies with which he is affiliated, regarding various matters relating to research and development. The amount expensed under these consultations amounted to approximately $21,000 and $110,000 in the year ended December 31, 2001 and the period from Inception (May 21, 1999) to December 31, 2000, respectively, for fees charged by Dr. Cham, including travel and similar costs, and have been included in the results of operations. In November 2001, we entered into a Service Agreement with Karuba International Pty. Ltd., a company controlled by Dr. Cham, in order to consolidate such consulting services. We were required to pay approximately $191,000 a year for Karuba’s consulting services, as well as out-of-pocket expenses incurred in the performance of such services. Under the terms of the agreement, the annual obligation to Karuba increased to approximately $198,000 per year in May 2002. This agreement automatically renews every year. Either party may terminate the agreement, without cause, upon thirty days written notice. However, if we terminate the agreement, we will be required to pay Karuba an amount equal to one third of the annual fee. For the years ended December 31, 2002 and 2001, approximately $279,000 and $19,000, respectively, was expensed to research and development under this agreement of which approximately $9,100 and $19,000 is included in accounts payable at December 31, 2002 and 2001, respectively.

tal Group, LLC of approximately 7% of the gross proceeds, payable in shares of common stock, for services rendered in the private placement. Accordingly, 95,491 shares of common stock at $4.49 per share were issued as commission for the transaction. Mr. Marlett, the previous Chairman of our Board of Directors, is a manager and majority owner of MDB Capital Group.

At the time of the merger, NZ Corporation had a qualified 401(k) savings plan in place for its employees. Nine employees were eligible to participate. The Company matched up to 3% of the employee’s salary contributed. Total expense for the Company under this plan was approximately $4,000 and $0 for 2001 and 2000, respectively. In January 2002, Lipid replaced the plan with a new qualified 401(k) savings plan. Substantially all employees are eligible to participate. Lipid’s 401(k) plan provides for a contribution by the Company each year, for non-highly compensated employees. The Company matches 100% of the first 3% of the employee’s salary and 50% of every $1.00 of the employee’s salary deferred, up to 5%. Total expense for Lipid under this plan was approximately $10,000 for 2002.

As of December 31, 2001, we recorded restructuring charges of approximately $885,000, which were charged to general and administrative expense. Our recent restructuring initiatives involved strategic decisions to exit the real estate market through the orderly disposition of substantially all of NZ’s assets. In connection with these restructuring initiatives, we have recorded the following:

Severance charges include employee termination costs such as salary and benefits post separation as a result of headcount reductions. Lease termination expenses primarily consist of costs to exit the Phoenix, Arizona facility lease.

We expect the restructuring to be completed in the first half of 2003 with all accrued amounts paid within twelve months of the restructuring completion.

In connection with the merger with Pre-Merger Lipid, the number of shares of preferred stock authorized in the Company’s Articles of Incorporation increased to 10,000,000, with no par value, from 1,000,000 with a par value of $0.01 per share. On June 26, 2002, the Company changed its state of incorporation from Arizona to Delaware. The reincorporation was accomplished through a statutory merger of Lipid Sciences, Inc., an Arizona corporation (“Lipid Arizona”), into a newly formed Delaware corporation of the same name (“Lipid Delaware”). In connection with the merger the par value of the Company’s preferred stock was increased to $0.001 per share. This change in the Company’s state of incorporation was approved by the holders of a majority of the Company’s outstanding shares of Common Stock at the Company’s annual meeting of stockholders on June 18, 2002. There was no impact on the Company’s financial condition or results of operations as a result of the reincorporation. No shares of the Company’s preferred stock have been issued.

Shares of preferred stock may be issued from time to time, in one or more series, as authorized by the Board. Prior to issuance of shares of each series, the Board will designate for each such series, the preferences, conversion or other rights, voting powers, restrictions, rights to receive dividends or other distributions, rights upon dissolution or upon distribution of assets, qualifications and terms or conditions of redemption, as are permitted by law. No shares of preferred stock are outstanding and the Company has no present plans to issue any shares of preferred stock.

In connection with the merger with Pre-Merger Lipid, the number of shares of common stock authorized in the Company’s Articles of Incorporation increased to 75,000,000 with no par value, from 50,000,000 with a par value of $0.01 per share. On June 26, 2002, the Company changed its state of incorporation from Arizona to Delaware. The reincorporation was accomplished through a statutory merger of Lipid Sciences, Inc., an Arizona corporation (“Lipid Arizona”), into a newly formed Delaware corporation of the same name (“Lipid Delaware”). As a result of the merger, each outstanding share of Lipid Arizona Common Stock, no par value, was automatically converted into one share of Lipid Delaware Common Stock, par value $0.001. This change in the Company’s state of incorporation was approved by the holders of a majority of the Company’s outstanding shares of Common Stock at the Company’s annual meeting of stockholders on June 18, 2002. There was no impact on the Company’s financial condition or results of operations as a result of the reincorporation.

As of December 31, 2000, 9,255,807 common shares were issued and outstanding. Of these shares, 3,000,000 were issued at $0.08 per share for cash, and 3,000,000 shares were issued at $0.08 per share for technology rights at the formation of the Company. An additional 3,159,179 shares were issued in May 2000 for cash at a purchase price of $3.50 per share. In March 2001, we issued 882,144 shares for cash at a purchase price of $7.00 per share. These share amounts and per share purchase prices are not adjusted to reflect the exchange ratio.

Lipid purchased the shares from Sun NZ, L.L.C. upon completion of the merger, after which the shares were retired. As of December 31, 2001, there were 21,246,222 shares of common stock issued and outstanding.

Pursuant to the merger, we notified all shareholders who either did not vote or did not vote in favor of the merger of their option of becoming a holder of “dissenting shares” as defined in Chapter 13 (“Chapter 13”) of the California Corporations Code. We determined that in accordance with Section 1300(a) of Chapter 13, the fair market value of a dissenting share as of the day before the first announcement of the terms of the merger was $7.00. In order to pursue dissenters’ rights and receive cash for each dissenting share, the dissenting shareholder was required to make a written demand for purchase of the shares in cash, and the demand must have been received by the President of the Company within 30 days of the mailing of the notice. If the Company and the dissenting shareholder agreed upon the price of the shares, then the Company was required to pay the shareholder the agreed price for the dissenting shares. The dissenting shareholder was also required to surrender their share certificate in order to receive payment of the price. Pursuant to two such notices from dissenting shareholders, we paid approximately $470,400 to repurchase 67,200 shares of Pre-Merger Lipid common stock, the equivalent of 104,767 shares of our common stock. All repurchased shares were retired.

In connection with the merger, the Company is obligated to issue additional shares of common stock to those individuals and entities who were stockholders of NZ on the day prior to the completion of the merger and who perfected their stock rights, unless during the 24-month period immediately following the merger, the closing price per share of the Company’s common stock equals or exceeds $12.00 per share throughout any period of 20 consecutive trading days, in which the aggregate volume of shares traded equals or exceeds 1,500,000 shares. Each perfected right entitles the holder to receive up to one additional share of the Company’s common stock. Stockholders had until April 30, 2002 to perfect their rights and must continue to hold their shares in direct registered form through November 29, 2003 to qualify to receive the additional stock with respect to each perfected right. Transfer of shares before November 29, 2003 will disqualify the right with respect to each of the transferred shares. If additional shares are issued pursuant to the rights, the issuance of additional shares of common stock will have the effect of diluting the ownership of stockholders not holding rights and increasing the proportionate ownership of the stockholders holding rights. The number of outstanding shares of common stock would increase, having the effect of diluting earnings per share. As of December 31, 2002, 2,954,822 rights were perfected with an additional 105,518 rights pending determination. If all of the holders of perfected rights remain qualified to receive the additional shares on November 29, 2003, the issuance will dilute stockholders by up to 12.6%, based on 21,141,455 shares outstanding as of December 31, 2002.

In May 2000, we sold a warrant to purchase 155,902 shares of common stock at $3.21 per share to an existing shareholder as consideration for services provided. We received cash consideration of $20,000 in exchange for the warrant. The fair value of the immediately exercisable warrant, $216,000 was determined using the Black-Scholes method with the following assumptions: a volatility of 80%, a dividend yield of 0%, a risk-free interest rate of 6%, and a life of 5 years. The fair value of the warrant in excess of the consideration to be received, $196,000, was charged to operations in 2000.

We also issued a warrant to purchase 779,510 shares of common stock to SRI at an exercise price of $3.21 per share in connection with a development agreement (see Note 6 of the Consolidated Financial Statements).

In May 2001 we sold a warrant to purchase 155,902 shares of common stock at $6.41 per share to a non-employee as consideration for services provided. We received cash consideration of $20,000 in exchange for the warrant. The fair value of the immediately exercisable warrant, $432,000, was determined using the Black-Scholes method with the following assumptions: a volatility of 80%, a dividend yield of 0%, a risk-free interest

rate of 6%, and a life of 5 years. The fair value of the warrant in excess of the consideration to be received, $412,000, was charged to additional paid-in capital as a cost of financing in 2001.

On November 29, 2001, in connection with the merger of NZ and Pre-Merger Lipid, Lipid assumed all of the warrants to acquire shares of Pre-Merger Lipid common stock. All warrants were adjusted to reflect the 1.55902 merger exchange ratio with the number of shares underlying each warrant multiplied by the ratio and the related exercise prices divided by the ratio. All the above disclosures reflect the share and per share amounts on a post merger equivalent basis.

Prior to the merger, we maintained stock-based compensation plans for our employees, consultants and Directors. The 2000 Stock Option Plan (the “2000 Plan”), adopted by the Board of Directors in May 2000 and approved by stockholders on March 20, 2001, allows for the granting of options for up to 3,118,040 shares of common stock. Stock options granted under the 2000 Plan may be either incentive stock options or nonstatutory stock options. Options may be granted with exercise prices not less than the fair value of the Company’s common stock at the date of grant, as determined by the Board of Directors. All options granted pursuant to the 2000 Plan are to have a term not greater than 10 years from the date of grant. Options vest as determined by the Board of Directors, generally over four years (but not less than 20% of the total number of shares granted per year).

In October 1997, the Company’s Board of Directors approved the New Mexico and Arizona Land Company 1997 Stock Incentive Plan (the “1997 Plan”). The 1997 Plan provides that the following types of awards may be granted under the 1997 Plan: stock appreciation rights (“SARs”); incentive stock options (“ISOs”); non-qualified stock options (“NQSOs”); restricted stock awards; unrestricted stock awards; and performance share awards which entitle recipients to acquire shares upon the attainment of specified performance goals. Under the 1997 Plan, awards may be granted with respect to a maximum of 900,000 shares of the Company’s common stock, subject to adjustment in connection with certain events such as a stock split, merger or other recapitalization of the Company. We assumed the 1997 Plan as a result of the merger.

In November 2001, the Company’s Board of Directors approved the 2001 Performance Equity Plan (the “2001 Plan”). The stockholders approved the Plan on November 29, 2001. The 2001 Plan allows for the granting of options for up to 5,000,000 shares of common stock to employees, officers, consultants, and Directors. The number of shares authorized automatically increases on January 1, in each of the calendar years 2002, 2003, 2004, 2005 and 2006 by an amount equal to 3% of the shares of common stock outstanding on December 31 of the immediately preceding calendar year, if the 2001 Plan is then in effect, but in no event shall any annual increase exceed 500,000 shares of common stock as reflected on the stock ledger of the Company. Stock options granted under the 2001 Plan may be either incentive stock options or nonstatutory stock options. Options may be granted with exercise prices not less than the fair value of the Company’s common stock at the date of grant, as determined by the Board of Directors. All options granted pursuant to the 2001 Plan are to have a term not greater than 10 years from the date of grant. Options vest as determined by the Board of Directors, generally over four years (but not less than 20% of the total number of shares granted per year).

At December 31, 2002, options to purchase 4,644,339 common shares remain available for grant under all the plans.

All options in the 2000 Plan were adjusted to reflect the 1.55902 merger exchange ratio with the number of shares underlying each option multiplied by the ratio and the related exercise prices divided by the ratio. All the above disclosures reflect the share and per share amounts on a post merger equivalent basis. Additionally, all historical stock option information of Pre-Merger Lipid that is provided herein has been similarly restated.

At December 31, 2002, 2001 and 2000, 2,507,772, 1,411,086 and 168,894 options, respectively, were exercisable under the Plans. All options granted in 2002, 2001 and 2000 were granted at fair value. The weighted-average fair value of options granted for the periods ended December 31, 2002, 2001 and 2000, was $3.76, $2.79 and $1.66, respectively. The weighted-average fair value of options that are exercisable for the periods ended December 31, 2002, 2001, and 2000, was $5.02, $5.78, and $7.63, respectively.

The following table summarizes information about stock options outstanding at December 31, 2002:

In conjunction with the merger, 90,000 options of the 628,386 NZ options assumed as a result of the merger became fully vested pursuant to existing change of control agreements at the close of the merger on November 29, 2001. This acceleration of vesting was provided in the terms of the original NZ grants.

We also granted an option to purchase 155,902 shares of common stock outside the Plan to a member of our Board of Directors in May 2000. The option carries an exercise price of $2.25 per share, and has a remaining contractual life of approximately 7.40 years at December 31, 2002. The option vests one-third immediately, with the remaining two-thirds vesting in two equal annual installments on the next two anniversaries of the date of grant.

During 2001, we also granted an option to purchase 7,796 shares of common stock outside the Plan for services rendered in a private placement transaction. The option carries an exercise price of $3.21 per share, and has a remaining contractual life of approximately 2.77 years at December 31, 2002. The option vested immediately as of the date of grant.

During 2001 and 2000, we granted options to purchase an aggregate of 124,723 and 740,537 shares of common stock, respectively, outside of the 2000 Stock Option Plan. Of these, options to purchase 701,562 shares were issued to members of our Scientific Advisory Board. Each option granted vests 20% immediately, with the remaining 80% vesting in equal annual installments on the next three anniversaries of the date of grant. These options were issued at a weighted-average exercise price of $3.21 and $2.44 per share during 2001 and 2000, respectively, and have a life of five years.

We have recorded compensation income of approximately $168,000 in 2002 and compensation expense of approximately $2,936,000 and $567,000 with respect to these options in 2001 and 2000, respectively. We recorded an additional $9,000 of compensation expense in 2002 related to incentive stock options granted to Dr. Radlick, our former CEO, which continued to vest through December 31, 2002. Compensation charges were based on the Black-Scholes method with the following assumptions:

Pro forma information regarding the results of operations is required by SFAS No. 123, which requires that the information be determined as if the Company had accounted for its employee stock options using the fair value method of SFAS No. 123. The fair value of each option granted is estimated on the date of grant using the Black-Scholes option valuation model. The fair values of the options granted were estimated on the dates of their grant using the Black-Scholes option valuation model based on the following assumptions:

The Company has elected to follow APB No. 25 and related interpretations in accounting for its employee stock options because, as discussed below, the alternative fair value accounting provided for under SFAS No. 123 requires the use of option valuation models that were not developed for use in valuing employee stock options. Under APB No. 25, when the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized.

The option valuation models were developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected life of the option. Because the Company’s employee stock options have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value of the estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.

As a result of the merger between Pre-Merger Lipid and NZ on November 29, 2001, certain real estate assets, including commercial real estate loans were acquired. As part of the merger, we announced our intent to conduct an orderly disposition of those assets to fund the ongoing operations of Lipid Sciences’ biotechnology business. On March 22, 2002, we formalized a plan to discontinue the operations of our real estate business, including commercial real estate loans. All of those assets were included in the Real Estate segment. The plan identified the major assets to be disposed of, the method of disposal, and the period required for completion of the disposal. As a result, we have reclassified the results of operations and the assets and liabilities of the discontinued operations for all periods presented. The carrying amounts of the major classes of assets and liabilities included as part of the disposal group as of December 31, 2002 and 2001 are as follows:

Income from discontinued operations reflected in the accompanying statements of operations is comprised of the following:

The reconciliation of the computed statutory income tax benefit to the effective income tax benefit follows:

Deferred income taxes are recorded based upon differences between the financial statements and tax bases of assets and liabilities and available tax credit carryforwards. Temporary differences and carryforwards that comprised deferred income tax assets and liabilities were as follows:

A valuation allowance is provided when it is more likely than not that some portion of the deferred tax asset will not be realized. The Company established a valuation allowance at December 31, 2002 due to the uncertainty of realizing future tax benefits from certain of its net operating loss (“NOL”) carryforwards and credits.

Under Internal Revenue Code (“IRC”) Section 384, if a corporation acquires control of another corporation or acquires the assets of a corporation in a merger and either corporation is a “gain” corporation, post-merger taxable income attributable to net built-in gains cannot be offset by pre-acquisition losses except those losses originated by the company with the net built-in gain.

In addition, IRC Section 382 places a limitation (the “Section 382 Limitation”) on the amount of taxable income which can be offset by NOL carryforwards after a change in control (generally greater than 50% change in ownership) of a loss corporation. California has similar rules. Generally, after a control change, a loss corporation cannot deduct NOL carryforwards in excess of the Section 382 Limitation. Due to these “change in ownership” provisions, utilization of the NOL carryforwards may be subject to an annual limitation regarding their utilization against taxable income in future periods.

The income tax benefit of $5,717,000 reflects a combined income tax benefit for the continuing and discontinued operations. This amount consists of an income tax benefit of $6,081,000 and an income tax expense of $364,000 for the continuing and discontinued operations, respectively.

At December 31, 2002, the Company had net operating loss carryforwards for federal and state income tax purposes of approximately $15,000,000 and $7,000,000 respectively. These carryforwards begin to expire in 2020 and 2012 for federal and state purposes, respectively. The Company also has available federal and

California research and development tax credit carryforwards of approximately $1,000,000 and $1,000,000, respectively. These carryforwards begin to expire in 2020 for federal tax purposes.

Certain unaudited quarterly financial information for the year ended December 31, 2002 and 2001 is presented below:

As a result of the merger between Pre-Merger Lipid and NZ, the Company was previously organized into two segments, Biotechnology and Real Estate. The Biotechnology segment is primarily engaged in the research and development of products and processes focused on treating major medical indications in which lipids, or fat components, play a key role. As part of the merger, we announced our intent to conduct an orderly disposition of the real estate assets, including commercial real estate loans, acquired to fund the ongoing operations of Lipid Sciences. On March 22, 2002, we approved a plan to dispose of the Real Estate segment and intend to focus on Biotechnology in the future. Substantially all of the assets and liabilities of the Real Estate segment are included in the discontinued operations plan formalized by the Company on March 22, 2002 (see Note 11 of the Consolidated Financial Statements).

On January 28, 2003, we announced a new strategic direction for the Company and the application and development of our novel technology of plasma delipidation. As a result, we ceased all operations in Australia and will record a restructuring charge associated with the elimination of certain management and other staff positions in the first quarter of 2003.


(1)	Level payments of interest

(2)	Level payments of principal plus interest on the unpaid balance

(3)	Tax basis is $9,082,000

Pursuant to the requirements of Section 13 or 15(d) 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.


LIPID SCIENCES, INC.

/s/ SANDRA GARDINER

Sandra Gardiner
Chief Accounting Officer

KNOWN ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Sandra Gardiner his attorney-in-fact, with the power of substitution, for him in any and all capacities, to sign any amendments to this Report on Form 10-K, and file the same, with exhibits thereto and any other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that said attorney-in-fact, or his substitute or substitutes, may do or cause to be done by virtue hereof.

In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of Lipid Sciences, Inc. and in the capacities indicated and on March 28, 2003.


Explanatory Note:	The Company does not currently have a Chief Executive Officer. The highest ranking officer of the Company is currently the Chief Accounting Officer.


1.	I have reviewed this Annual Report on Form 10-K of Lipid Sciences, Inc.;

2.	Based on my knowledge, this Annual Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Annual Report.

3.	Based on my knowledge, the financial statements, and other financial information included in this Annual Report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this Annual Report.

4.	The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:


	a.	designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Annual Report is being prepared;


	b.	evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this Annual Report (the “Evaluation Date”); and


	c.	presented in this Annual Report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluations of the Evaluation Date;


5.	The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s Board of Directors (or person performing the equivalent function):


	a.	all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and


	b.	any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and


6.	The registrant’s other certifying officers and I have indicated in this Annual Report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.


Explanatory Note:	The Company does not currently have a Chief Executive Officer. The highest ranking officer of the Company is currently the Chief Accounting Officer.


1.	I have reviewed this Annual Report on Form 10-K of Lipid Sciences, Inc.;

2.	Based on my knowledge, this Annual Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Annual Report.

3.	Based on my knowledge, the financial statements, and other financial information included in this Annual Report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this Annual Report.

4.	The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:


	a.	designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Annual Report is being prepared;


	b.	evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this Annual Report (the “Evaluation Date”); and


	c.	presented in this Annual Report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;


5.	The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s Board of Directors (or person performing the equivalent function):


	a.	all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and


	b.	any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and


6.	The registrant’s other certifying officers and I have indicated in this Annual Report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.


Explanatory Note:	Currently, the Company’s principal financial officer is the Chief Accounting Officer.


(1)	This exhibit is filed as an exhibit to the Registrant’s Registration Statement on Form S-4/A filed with the SEC on October 30, 2001 (Registration No. 333-67012) and is incorporated herein by reference.

(2)	This exhibit is filed as Exhibit 99.1 to the Registrant’s Current Report on Form 8-K/A filed with the SEC on August 10, 2001 and is incorporated herein by reference.

(3)	This exhibit is filed as an exhibit to the Registrant’s Registration Statement on Form S-4 filed with the SEC on August 7, 2001 (Registration No. 333-67012) and is incorporated herein by reference.

(4)	This exhibit is filed as an exhibit to the Registrant’s Registration Statement on Form S-8 filed with the SEC on January 9, 1998 (Registration No. 333-44017) and is incorporated herein by reference.

(5)	This exhibit is filed as an exhibit to the Registrant’s Registration Statement on Form S-4/A filed with the SEC on August 16, 2001 (Registration No. 333-67012) and is incorporated herein by reference.

(6)	This exhibit is filed as an exhibit to the Registrant’s Registration Statement on Form S-4/A filed with the SEC on September 24, 2001 (Registration No. 333-67012) and is incorporated herein by reference.

(7)	This exhibit is filed as an exhibit to the Registrant’s Annual Report on Form 10-K filed with the SEC on March 29, 2002 and is incorporated herein by reference.

(8)	This exhibit is filed as an exhibit to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on August 13, 2002 and is incorporated herein by reference.

(9)	This exhibit is filed as an exhibit to the joint Schedule 13D/A (Amendment No. 1) in respect of Lipid Sciences, Inc. filed by KAI International, Inc. and Bill E. Cham with the SEC on February 4, 2003 and is incorporated herein by reference.


	*	Confidential treatment has been granted with respect to certain portions of these agreements.


**	The Company intends to issue Rights Certificates to the Rights Holders, but has not yet done so. The entitlements of the Rights Holders are described in our Registration Statement on Form S-4/A filed with the SEC on October 30, 2001.

36 EX-4.1 3 p67608exv4w1.txt EX-4.1 EXHIBIT 4.1 COMMON STOCK COMMON STOCK Number Shares LIPD 2184 * [LIPID SCIENCES INCORPORATED LOGO] INCORPORATED UNDER THE LAWS SEE REVERSE FOR CERTAIN DEFINITIONS OF THE STATE OF DELAWARE CUSIP 53630P 10 1 THIS CERTIFIES THAT IS THE RECORD HOLDER OF FULLY PAID AND NONASSESSABLE SHARES OF THE COMMON STOCK, NO PAR VALUE, OF LIPID SCIENCES, INC. transferable on the books of the Corporation by the holder hereof in person or by a duly authorized attorney upon surrender of this Certificate properly endorsed. This Certificate is not valid unless countersigned and registered by the Transfer Agent and Registrar. WITNESS the facsimile seal of the Corporation and the facsimile signatures of its duly authorized officers. Dated: [LIPID SCIENCES, INC. SEAL] COUNTERSIGNED AND REGISTERED, THE BANK OF NEW YORK TRANSFER AGENT AND REGISTRAR BY AUTHORIZED SIGNATURE /s/ Sandra Gardiner /s/ Marc Bellotti SECRETARY VICE PRESIDENT The Corporation will furnish without charge to each stockholder who so requests the powers, designations, preferences and relative, participating, optional, or other special rights of each class of stock or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights. Such requests shall be made to the Corporation's Secretary at the principal office of the Corporation. KEEP THIS CERTIFICATE IN A SAFE PLACE. IF IT IS LOST, STOLEN, OR DESTROYED THE CORPORATION WILL REQUIRE A BOND OF INDEMNITY AS A CONDITION TO THE ISSUANCE OF A REPLACEMENT CERTIFICATE. The following abbreviations, when used in the inscription on the face of this certificate, shall be construed as though they were written out in full according to applicable laws or regulations TEN COM -- as tenants in common UNIF GIFT MIN ACT -- ___________ Custodian ___________ TEN ENT -- as tenants by the entireties (Cust) (Minor) JT TEN -- as joint tenants with right of under Uniform Gifts to Minors survivorship and not as tenants Act ______________________ in common (State) UNIF TRF MIN ACT -- ___________ Custodian (until age ___________) (Cust) ___________ under Uniform Transfers (Minor) to Minors Act ______________________ (State)

Additional abbreviations may also be used though not in the above list. FOR VALUE RECEIVED, ______________________ hereby sell, assign and transfer unto PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER OF ASSIGNEE ______________________________________ ______________________________________ ________________________________________________________________________________ (PLEASE PRINT OR TYPEWRITE NAME AND ADDRESS, INCLUDING ZIP CODE OF ASSIGNEE) ________________________________________________________________________________ ________________________________________________________________________________ _________________________________________________________________________ Shares of the common stock represented by the within Certificate, and do hereby irrevocably constitute and appoint _______________________________________________________________________ Attorney to transfer the said stock on the books of the within named Corporation with full power of substitution in the premises. Dated ________________________ X ______________________________________ X ______________________________________ NOTICE: THE SIGNATURE(S) TO THIS ASSIGNMENT MUST CORRESPOND WITH THE NAME(S) AS WRITTEN UPON THE FACE OF THE CERTIFICATE IN EVERY PARTICULAR, WITHOUT ALTERATION OR ENLARGEMENT OR ANY CHANGE WHATEVER. Signature(s) Guaranteed By _____________________________________ THE SIGNATURE(S) MUST BE GUARANTEED BY AN ELIGIBLE GUARANTOR INSTITUTION (BANKS, STOCKBROKERS, SAVINGS AND LOAN ASSOCIATIONS AND CREDIT UNIONS EX-10.1 4 p67608exv10w1.txt EX-10.1 EXHIBIT 10.1 LIPID SCIENCES, INC. PERFORMANCE EQUITY PLAN (AMENDED AUGUST 5, 2002) SECTION 1. PURPOSE; DEFINITIONS. 1.1. Purpose. The purpose of the Lipid Sciences, Inc. 2001 Performance Equity Plan is to enable the Company to offer to its employees, officers, directors and consultants whose past, present and/ or potential contributions to the Company and its Subsidiaries have been, are or will be important to the success of the Company, an opportunity to acquire a proprietary interest in the Company. The various types of long-term incentive awards that may be provided under the Plan will enable the Company to respond to changes in compensation practices, tax laws, accounting regulations and the size and diversity of its businesses. 1.2. Definitions. For purposes of the Plan, the following terms shall be defined as set forth below: (a) "Agreement" means the agreement between the Company and the Holder, or such other document as may be determined by the Committee, setting forth the terms and conditions of an award under the Plan. (b) "Board" means the Board of Directors of the Company. (c) "Code" means the Internal Revenue Code of 1986, as amended from time to time. (d) "Committee" means the Stock Option Committee of the Board or any other committee of the Board that the Board may designate to administer the Plan or any portion thereof. If no Committee is so designated, then all references in this Plan to "Committee" shall mean the Board. (e) "Common Stock" means the Common Stock of the Company, no par value. (f) "Company" means Lipid Sciences, Inc., a corporation organized under the laws of the State of Delaware. (g) "Deferred Stock" means Common Stock to be received under an award made pursuant to Section 8, below, at the end of a specified deferral period. (h) "Disability" means physical or mental impairment as determined under procedures established by the Committee for purposes of the Plan. (i) "Effective Date" means the date set forth in Section 12.1, below. (j) "Fair Market Value", unless otherwise required by any applicable provision of the Code or any regulations issued thereunder, means, as of any given date: (i) if the Common Stock is listed on a national securities exchange or quoted on the Nasdaq National Market or Nasdaq SmallCap Market, the last sale price of the Common Stock in the principal trading market for the Common Stock on such date, as reported by the exchange or Nasdaq, as the case may be; (ii) if the Common Stock is not listed on a national securities exchange or quoted on the Nasdaq National Market or Nasdaq SmallCap Market, but is traded in the over-the-counter market, the closing bid price for the Common Stock on such date, as reported by the OTC Bulletin Board or the National Quotation Bureau, Incorporated or similar publisher of such quotations; and (iii) if the fair market value of the Common Stock cannot be determined pursuant to clause (i) or (ii) above, such price as the Committee shall determine, in good faith. (k) "Holder" means a person who has received an award under the Plan. (l) "Incentive Stock Option" means any Stock Option intended to be and designated as an "incentive stock option" within the meaning of Section 422 of the Code. (m) "Nonqualified Stock Option" means any Stock Option that is not an Incentive Stock Option. (n) "Other Stock-Based Award" means an award under Section 9, below, that is valued in whole or in part by reference to, or is otherwise based upon, Common Stock. (o) "Parent" means any present or future "parent corporation" of the Company, as such term is defined in Section 424(e) of the Code (without regard to the phrase "at the time of the granting of the option" in such Section). (p) "Plan" means the Lipid Sciences, Inc. 2001 Performance Equity Plan, as hereinafter amended from time to time. (q) "Repurchase Value" shall mean the Fair Market Value in the event the award to be settled under Section 2.2(h) or repurchased under Section 10.2 is comprised of shares of Common Stock and the difference between Fair Market Value and the Exercise Price (if lower than Fair Market Value) in the event the award is a Stock Option or Stock Appreciation Right; in each case, multiplied by the number of shares subject to the award. (r) "Restricted Stock" means Common Stock received under an award made pursuant to Section 7, below, that is subject to restrictions under said Section 7. (s) "SAR Value" means the excess of the Fair Market Value (on the exercise date) over the exercise price that the participant would have otherwise had to pay to 2 exercise the related Stock Option, multiplied by the number of shares for which the Stock Appreciation Right is exercised. (t) "Stock Appreciation Right" means the right to receive from the Company, on surrender of all or part of the related Stock Option, without a cash payment to the Company, a number of shares of Common Stock equal to the SAR Value divided by the Fair Market Value (on the exercise date). (u) "Stock Option" or "Option" means any option to purchase shares of Common Stock which is granted pursuant to the Plan. (v) "Stock Reload Option" means any option granted under Section 5.3 of the Plan. (w) "Subsidiary" means any present or future "subsidiary corporation" of the Company, as such term is defined in Section 424(f) of the Code (without regard to the phrase "at the time of the granting of the option" in such Section). (x) "Termination" means that the Holder has ceased to be an employee or director of, or consultant to, the Company or its Subsidiaries and no longer serves in any such capacity on behalf of the Company or its Subsidiaries. An event that causes a Subsidiary to cease being a Subsidiary shall be treated as a "Termination" of that Subsidiary's employees, directors and consultants. (y) "Vest" means to become exercisable or to otherwise obtain ownership rights in an award. SECTION 2. ADMINISTRATION. 2.1. Committee Membership. The Plan shall be administered by the Board or a Committee, as provided herein. Committee members shall serve for such term as the Board may in each case determine, and shall be subject to removal at any time by the Board. The Committee members shall be "non-employee directors" as defined in Rule 16b-3 promulgated under the Securities Exchange Act of 1934, as amended ("Exchange Act"), and "outside directors" within the meaning of Section 162(m) of the Code. 2.2. Powers of Committee. The Committee shall have full authority to award, pursuant to the terms of the Plan: (i) Stock Options, (ii) Stock Appreciation Rights, (iii) Restricted Stock, (iv) Deferred Stock, (v) Stock Reload Options and/or (vi) Other Stock-Based Awards (collectively, "Awards"). For purposes of illustration and not of limitation, the Committee shall have the authority (subject to the express provisions of this Plan): (a) to select, from the persons designated as eligible recipients of awards in Section 4.1, the officers, employees, directors and consultants of the Company or any Subsidiary to whom Stock Options, Stock Appreciation Rights, Restricted Stock, 3 Deferred Stock, Reload Stock Options and/or Other Stock-Based Awards may from time to time be awarded hereunder; (b) to determine the terms and conditions, not inconsistent with the terms of the Plan, of any award granted hereunder (including, but not limited to, number of shares, share exercise price or types of consideration paid upon exercise of such options, such as other securities of the Company or other property, any restrictions or limitations, and any vesting, exchange, surrender, cancellation, acceleration, termination, exercise or forfeiture provisions, as the Committee shall determine); (c) to determine any specified performance goals or such other factors or criteria which need to be attained for the vesting of an award granted hereunder; (d) to determine the terms and conditions under which awards granted hereunder are to operate on a tandem basis and/or in conjunction with or apart from other equity awarded under this Plan and cash and non-cash awards made by the Company or any Subsidiary outside of this Plan; (e) to permit a Holder to elect to defer a payment under the Plan under such rules and procedures as the Committee may establish, including the payment or crediting of interest on deferred amounts denominated in cash and of dividend equivalents on deferred amounts denominated in Common Stock; (f) to determine the extent and circumstances under which Common Stock and other amounts payable with respect to an award hereunder shall be deferred that may be either automatic or at the election of the Holder; and (g) to substitute (i) new Stock Options for previously granted Stock Options, which previously granted Stock Options have higher option exercise prices and/or contain other less favorable terms, and (ii) new awards of any other type for previously granted awards of the same type, which previously granted awards are upon less favorable terms; and (h) to make payments and distributions with respect to awards (i.e., to "settle" awards) through cash payments in an amount equal to the Repurchase Value. Notwithstanding anything contained herein to the contrary, the Committee shall not grant to any one Holder in any one calendar year awards for more than 500,000 shares in the aggregate. 2.3. Interpretation of Plan. (a) Committee Authority. Subject to Section 11, below, the Committee shall have the authority to adopt, alter and repeal such administrative rules, guidelines and practices governing the Plan as it shall from time to time deem advisable to interpret the terms and 4 provisions of the Plan and any award issued under the Plan (and to determine the form and substance of all Agreements relating thereto), and to otherwise supervise the administration of the Plan. Subject to Section 11, below, all decisions made by the Committee pursuant to the provisions of the Plan shall be made in the Committee's sole discretion and shall be final and binding upon all persons, including the Company, its Subsidiaries and Holders. (b) Incentive Stock Options. Anything in the Plan to the contrary notwithstanding, no term or provision of the Plan relating to Incentive Stock Options (including but not limited to Stock Reload Options or Stock Appreciation rights granted in conjunction with an Incentive Stock Option) or any Agreement providing for Incentive Stock Options shall be interpreted, amended or altered, nor shall any discretion or authority granted under the Plan be so exercised, so as to disqualify the Plan under Section 422 of the Code or, without the consent of the Holder(s) affected, to disqualify any Incentive Stock Option under such Section 422. SECTION 3. STOCK SUBJECT TO PLAN. 3.1. Number of Shares. The total number of shares of Common Stock reserved and available for issuance under the Plan shall be 5,000,000 shares; provided that this number of shares shall automatically increase on the January 1, in each of the calendar years 2002, 2003, 2004, 2005 and 2006 by an amount equal to 3% of the shares of Common Stock outstanding on December 31 of the immediately preceding calendar year as reflected on the stock ledger of the Company, if the Plan is then in effect, but in no event shall any annual increase exceed 500,000 shares of Common Stock. Shares of Common Stock under the Plan ("Shares") may consist, in whole or in part, of authorized and unissued shares or treasury shares. If a Stock Option expires or is cancelled without being exercised, the Shares of Common Stock that were subject to such Stock Option shall revert to the Plan and again be available for future issuance under this Plan. Similarly, if a Stock Appreciation Right or Deferred Stock award is cancelled before it is exercised (in the case of a Stock Appreciation Right) or before the end of the Deferral Period (in the case of a Deferred Stock award, and the shares of Common Stock subject to such Stock Appreciation Right or Deferred Stock award are never in fact issued to the Holder thereof, such Shares shall revert to the Plan and again be available for future issuance under this Plan. 3.2. Changes in Capital Structure. In the event of any stock split, reverse stock split, recapitilization, combination or reclassification of stock, stock dividend, spin-off, or similar change to the capital structure of the Company (not including a Fundamental Transaction or Change of Control as defined in Sections 10.1 and 10.2, respectively), the Committee shall make whatever adjustments it concludes are appropriate to: (a) the number and type of Options or other awards that may be granted under this Plan, (b) the number and type of Options or other awards that may be granted to any individual under this Plan, (c) the exercise price and number and class of securities issuable under each 5 outstanding Option or other award, and (d) the repurchase price of any securities or awards granted hereunder subject to a right of repurchase in favor of the Company. The specific adjustments shall be determined by the Board in its sole and absolute discretion. Unless the Board specifies otherwise, any securities issuable as a result of any such adjustment shall be rounded to the next lower whole security. SECTION 4. ELIGIBILITY; LIMITATIONS. 4.1 Eligibility. Awards may be made or granted to employees, officers, directors and consultants who are deemed to have rendered or to be able to render significant services to the Company or its Subsidiaries and who are deemed to have contributed or to have the potential to contribute to the success of the Company. Notwithstanding any other provision of this Plan, Incentive Stock Option may be granted to, and only to, persons who are employees of the Company or a Subsidiary at the time of grant. An award other than an Incentive Stock Option may be made or granted to a person in connection with his hiring or retention, or at any time on or after the date he reaches an agreement (oral or written) with the Company with respect to such hiring or retention, even though it may be prior to the date the person first performs services for the Company or its Subsidiaries; provided, however, that no portion of any such award shall vest prior to the date the person first performs such services. If an Incentive Stock Option is awarded to a person in connection with his or her becoming an employee of the Company or a Subsidiary, such Incentive Stock Option shall, for all purposes, be deemed granted no earlier than the day on which such person's employment begins. 4.2 Section 162(m) Limitation. So long as the Company is a "publicly held corporation" within the meaning of Section 162(m) of the Code: (a) no employee of the Company or prospective employee of the Company may be granted one or more awards hereunder within any fiscal year representing more than 250,000 Shares or the right to acquire more than 250,000 Shares, subject to adjustment under Section 3.2, and (b) Options may be granted to an Executive only by the Committee (and, notwithstanding Section 2.1, not by the Board). If an Option is cancelled without being exercised, that cancelled Option shall continue to be counted against the limit on Options that may be granted to any individual under this Section 4.2. For purposes of the Plan, an "EXECUTIVE" shall mean any individual who is subject to Section 16 of the Exchange Act or who is a "covered employee" under Section 162(m) of the Code, in either case because of such individual's affiliation with the Company or an affiliate of the Company. SECTION 5. STOCK OPTIONS. 5.1. Grant and Exercise. Stock Options granted under the Plan may be of two types: (i) Incentive Stock Options and (ii) Nonqualified Stock Options. Any Stock Option granted under the Plan shall contain such terms, not inconsistent with this Plan, or with respect to Incentive Stock Options, not inconsistent with the Plan and the Code, as the Committee may from time to time approve. The Committee shall have the authority to 6 grant Incentive Stock Options or Non-Qualified Stock Options, or both types of Stock Options which may be granted alone or in addition to other awards granted under the Plan. To the extent that any Stock Option intended to qualify as an Incentive Stock Option does not so qualify, it shall constitute a separate Nonqualified Stock Option. 5.2. Terms and Conditions. Stock Options granted under the Plan shall be subject to the following terms and conditions: (a) Option Term. The term of each Stock Option shall be fixed by the Committee; provided, however, that an Incentive Stock Option may be granted only within the ten-year period commencing from the Effective Date and may only be exercised within ten years of the date of grant (or five years in the case of an Incentive Stock Option granted to an optionee who, at the time of grant, owns Common Stock possessing more than 10% of the total combined voting power of all classes of voting stock of the Company, or the Parent or a Subsidiary of the Company ("10% Stockholder"). (b) Exercise Price. The exercise price per share of Common Stock purchasable under an Incentive Stock Option shall be determined by the Committee at the time of grant and may not be less than 100% of the Fair Market Value on the date of grant (or, if greater, the par value of a share of Common Stock); provided, however, that (i) the exercise price of an Incentive Stock Option granted to a 10% Stockholder shall not be less than 110% of the Fair Market Value on the date of grant; and (ii) if the Stock Option (other than an Incentive Stock Option) is granted in connection with the recipient's hiring, retention, reaching an agreement (oral or written) with the Company with respect to such hiring or retention, promotion or similar event, the option exercise price may be not less than the Fair Market Value on the date on which the recipient is hired or retained, reached such agreement with respect to such hiring or retention, or is promoted (or similar event), if the grant of the Stock Option occurs not more than 120 days after the date of such hiring, retention, agreement, promotion or other event. (c) Exercisability. Stock Options shall be exercisable at such time or times and subject to such terms and conditions as shall be determined by the Committee and as set forth in Section 10, below. If the Committee provides, in its discretion, that any Stock Option is exercisable only in installments, i.e., that it vests over time, the Committee may waive such installment exercise provisions at any time at or after the time of grant in whole or in part, based upon such factors as the Committee shall determine. (d) Method of Exercise. Subject to whatever installment, exercise and waiting period provisions are applicable in a particular case, Stock Options may be exercised in whole or in part at any time during the term of the Option by giving written notice of exercise to the Company specifying the number of shares of Common Stock to be purchased. Such notice shall be accompanied by payment in full of the purchase price, which shall be in cash or, if provided in the Agreement, either in shares of Common Stock (including Restricted Stock and other contingent awards under this Plan) or partly 7 in cash and partly in such Common Stock, or such other means which the Committee determines are consistent with the Plan's purpose and applicable law. Cash payments shall be made by wire transfer, certified or bank check or personal check, in each case payable to the order of the Company; provided, however, that the Company shall not be required to deliver certificates for shares of Common Stock with respect to which an Option is exercised until the Company has confirmed the receipt of good and available funds in payment of the purchase price thereof (except that, in the case of an exercise arrangement approved by the Committee and described in the last sentence of this paragraph, payment may be made as soon as practicable after the exercise). Payments in the form of Common Stock shall be valued at the Fair Market Value on the date prior to the date of exercise. Such payments shall be made by delivery of stock certificates in negotiable form that are effective to transfer good and valid title thereto to the Company, free of any liens or encumbrances. Subject to the terms of the Agreement, the Committee may, in its sole discretion, at the request of the Holder, deliver upon the exercise of a Nonqualified Stock Option a combination of shares of Deferred Stock and Common Stock; provided, however, that, notwithstanding the provisions of Section 8 of the Plan, such Deferred Stock shall be fully vested and not subject to forfeiture. A Holder shall have none of the rights of a Stockholder with respect to the shares subject to the Option until such shares shall be transferred to the Holder upon the exercise of the Option. The Committee may permit a Holder to elect to pay the Exercise Price upon the exercise of a Stock Option by irrevocably authorizing a third party to sell shares of Common Stock (or a sufficient portion of the shares) acquired upon exercise of the Stock Option and remit to the Company a sufficient portion of the sale proceeds to pay the entire Exercise Price and any tax withholding resulting from such exercise. (e) Transferability. Except as may be set forth in the next sentence of this Section or in the Agreement, no Stock Option shall be transferable by the Holder other than by will or by the laws of descent and distribution or as permitted by the Code and Rule 16b-3 under the Exchange Act, and all Stock Options shall be exercisable, during the Holder's lifetime, only by the Holder (or, to the extent of legal incapacity or incompetency, the Holder's guardian or legal representative). Notwithstanding the foregoing, a Holder may (A) transfer any Stock Option pursuant to a Qualified Domestic Relations Order, and (B) with the approval of the Committee, transfer a Nonqualified Stock Option by gift, for no consideration, to or for the benefit of the Holder's "Immediate Family" (as defined below), or to an entity in which the Holder and/or members of Holder's Immediate Family own more than fifty percent of the voting interest, in exchange for an interest in that entity, subject to such limits as the Committee may establish and the execution of such documents as the Committee may require, and the transferee shall remain subject to all the terms and conditions applicable to the Stock Option prior to such transfer. The term "Immediate Family" shall mean any child, stepchild, grandchild, parent, stepparent, grandparent, spouse, former spouse, sibling, niece, nephew, mother-in-law, father-in-law, son-in-law, daughter-in-law, brother-in-law or sister-in-law, including adoptive relationships, any person sharing the Holder's household (other than a tenant or 8 employee), a trust in which these persons have more than fifty percent beneficial interest, and a foundation in which these persons (or the Holder) control the management of the assets. (f) Termination by Reason of Death. If a Holder's Termination is by reason of death, any Stock Option held by such Holder, unless otherwise determined by the Committee and set forth in the Agreement, shall thereupon automatically terminate, except that the portion of such Stock Option that has vested on the date of death may thereafter be exercised by the legal representative of the estate or by the legatee of the Holder under the will of the Holder, for a period of one year (or such other greater or lesser period as the Committee may specify in the Agreement) from the date of such death or until the expiration of the stated term of such Stock Option, whichever period is shorter. (g) Termination by Reason of Disability. If a Holder's Termination is by reason of Disability, any Stock Option held by such Holder, unless otherwise determined by the Committee and set forth in the Agreement, shall thereupon automatically terminate, except that the portion of such Stock Option that has vested on the date of Termination may thereafter be exercised by the Holder for a period of one year (or such other greater or lesser period as the Committee may specify in the Agreement) from the date of Termination or until the expiration of the stated term of such Stock Option, whichever period is shorter. (h) Other Termination. Subject to the provisions of Section 13.3, below, and unless otherwise determined by the Committee and set forth in the Agreement, if a Holder's Termination is for any reason other than death or Disability, then the portion of such Stock Option that has vested on the date of Termination may be exercised for the lesser of three months after Termination or the balance of such Stock Option's term (or such other greater or lesser period as the Committee may specify in the Agreement). (i) Additional Incentive Stock Option Limitation. In the case of an Incentive Stock Option, the aggregate Fair Market Value (on the date of grant of the Option) with respect to which Incentive Stock Options become exercisable for the first time by a Holder during any calendar year (under all such plans of the Company and its Parent and Subsidiaries) shall not exceed $100,000. (j) Buyout and Settlement Provisions. The Committee may at any time, in its sole discretion, offer to repurchase a Stock Option previously granted, based upon such terms and conditions as the Committee shall establish and communicate to the Holder at the time that such offer is made. 5.3. Stock Reload Option. If a Holder tenders shares of Common Stock to pay the exercise price of a Stock Option ("Underlying Option") and/or arranges to have a portion of the shares otherwise issuable upon exercise withheld to pay the applicable withholding 9 taxes, then the Holder may receive, at the discretion of the Committee, a new Stock Reload Option to purchase that number of shares of Common Stock equal to the number of shares tendered to pay the exercise price and the withholding taxes (but only if such tendered shares were held by the Holder for at least six months). Stock Reload Options may be any type of option permitted under the Code and will be granted subject to such terms, conditions, restrictions and limitations as may be determined by the Committee from time to time. Such Stock Reload Option shall have an exercise price equal to the Fair Market Value as of the date of exercise of the Underlying Option. Unless the Committee determines otherwise, a Stock Reload Option may be exercised commencing one year after it is granted and shall expire on the date of expiration of the Underlying Option to which the Reload Option is related. SECTION 6. STOCK APPRECIATION RIGHTS. 6.1. Grant and Exercise. The Committee may grant Stock Appreciation Rights to participants who have been or are being granted Stock Options under the Plan as a means of allowing such participants to exercise their Stock Options without the need to pay the exercise price in cash. In the case of a Nonqualified Stock Option, a Stock Appreciation Right may be granted either at or after the time of the grant of such Nonqualified Stock Option. In the case of an Incentive Stock Option, a Stock Appreciation Right may be granted only at the time of the grant of such Incentive Stock Option. 6.2. Terms and Conditions. Stock Appreciation Rights shall be subject to the following terms and conditions: (a) Exercisability. Stock Appreciation Rights shall be exercisable as shall be determined by the Committee and set forth in the Agreement, subject to the limitations, if any, imposed by the Code with respect to related Incentive Stock Options. (b) Termination. A Stock Appreciation Right shall terminate and shall no longer be exercisable upon the termination or exercise of the related Stock Option. (c) Method of Exercise. Stock Appreciation Rights shall be exercisable upon such terms and conditions as shall be determined by the Committee and set forth in the Agreement and by surrendering the applicable portion of the related Stock Option. Upon such exercise and surrender, the Holder shall be entitled to receive a number of shares of Common Stock equal to the SAR Value divided by the Fair Market Value on the date the Stock Appreciation Right is exercised. (d) Shares Affected Upon Plan. The granting of a Stock Appreciation Right shall not affect the number of shares of Common Stock available under for awards under the Plan. The number of shares Available for awards under the Plan will, however, be reduced by the number of shares of Common Stock acquirable upon exercise of the Stock Option to which such Stock Appreciation Right relates. 10 SECTION 7. RESTRICTED STOCK. 7.1. Grant. Shares of Restricted Stock may be awarded either alone or in addition to other awards granted under the Plan. The Committee shall determine the eligible persons to whom, and the time or times at which, grants of Restricted Stock will be awarded, the number of shares to be awarded, the price (if any) to be paid by the Holder, the time or times within which such awards may be subject to forfeiture ("Restriction Period"), the vesting schedule and rights to acceleration thereof and all other terms and conditions of the awards. 7.2. Terms and Conditions. Each Restricted Stock award shall be subject to the following terms and conditions: (a) Certificates. Restricted Stock, when issued, will be represented by a stock certificate or certificates registered in the name of the Holder to whom such Restricted Stock shall have been awarded. During the Restriction Period, certificates representing the Restricted Stock and any securities constituting Retained Distributions (as defined below) shall bear a legend to the effect that ownership of the Restricted Stock (and such Retained Distributions) and the enjoyment of all rights appurtenant thereto are subject to the restrictions, terms and conditions provided in the Plan and the Agreement. Such certificates shall be deposited by the Holder with the Company, together with stock powers or other instruments of assignment, each endorsed in blank, which will permit transfer to the Company of all or any portion of the Restricted Stock and any securities constituting Retained Distributions that shall be forfeited or that shall not become vested in accordance with the Plan and the Agreement. (b) Rights of Holder. Restricted Stock shall constitute issued and outstanding shares of Common Stock for all corporate purposes. The Holder will have the right to vote such Restricted Stock, to receive and retain all regular cash dividends and other cash equivalent distributions as the Board may in its sole discretion designate, pay or distribute on such Restricted Stock and to exercise all other rights, powers and privileges of a holder of Common Stock with respect to such Restricted Stock, with the exceptions that (i) the Holder will not be entitled to delivery of the stock certificate or certificates representing such Restricted Stock until the Restriction Period shall have expired and unless all other vesting requirements with respect thereto shall have been fulfilled; (ii) the Company will retain custody of the stock certificate or certificates representing the Restricted Stock during the Restriction Period; (iii) other than regular cash dividends and other cash equivalent distributions as the Board may in its sole discretion designate, pay or distribute, the Company will retain custody of all distributions ("Retained Distributions") made or declared with respect to the Restricted Stock (and such Retained Distributions will be subject to the same restrictions, terms and conditions as are applicable to the Restricted Stock) until such time, if ever, as the Restricted Stock with respect to which such Retained Distributions shall have been made, paid or declared shall have become vested and with respect to which the Restriction Period shall have expired; 11 (iv) a breach of any of the restrictions, terms or conditions contained in this Plan or the Agreement or otherwise established by the Committee with respect to any Restricted Stock or Retained Distributions will cause a forfeiture of such Restricted Stock and any Retained Distributions with respect thereto. (c) Vesting; Forfeiture. Upon the expiration of the Restriction Period with respect to each award of Restricted Stock and the satisfaction of any other applicable restrictions, terms and conditions (i) all or part of such Restricted Stock shall become vested in accordance with the terms of the Agreement, subject to Section 10, below, and (ii) any Retained Distributions with respect to such Restricted Stock shall become vested to the extent that the Restricted Stock related thereto shall have become vested, subject to Section 10, below. Any such Restricted Stock and Retained Distributions that do not vest shall be forfeited to the Company and the Holder shall not thereafter have any rights with respect to such Restricted Stock and Retained Distributions that shall have been so forfeited. SECTION 8. DEFERRED STOCK. 8.1. Grant. Shares of Deferred Stock may be awarded either alone or in addition to other awards granted under the Plan. The Committee shall determine the eligible persons to whom and the time or times at which grants of Deferred Stock will be awarded, the number of shares of Deferred Stock to be awarded to any person, the duration of the period ("Deferral Period") during which, and the conditions under which, receipt of the shares will be deferred, and all the other terms and conditions of the awards. 8.2. Terms and Conditions. Each Deferred Stock award shall be subject to the following terms and conditions: (a) Certificates. At the expiration of the Deferral Period (or the Additional Deferral Period referred to in Section 8.2 (d) below, where applicable), share certificates shall be issued and delivered to the Holder, or his legal representative, representing the number equal to the shares covered by the Deferred Stock award. (b) Rights of Holder. A person entitled to receive Deferred Stock shall not have any rights of a Stockholder by virtue of such award until the expiration of the applicable Deferral Period and the issuance and delivery of the certificates representing such Common Stock. The shares of Common Stock issuable upon expiration of the Deferral Period shall not be deemed outstanding by the Company until the expiration of such Deferral Period and the issuance and delivery of such Common Stock to the Holder. (c) Vesting; Forfeiture. Upon the expiration of the Deferral Period with respect to each award of Deferred Stock and the satisfaction of any other applicable restrictions, terms and conditions all or part of such Deferred Stock shall become vested in accordance with the terms of the Agreement, subject to Section 10, below. Any such 12 Deferred Stock that does not vest shall be forfeited to the Company and the Holder shall not thereafter have any rights with respect to such Deferred Stock. (d) Additional Deferral Period. A Holder may request to, and the Committee may at any time, defer the receipt of an award (or an installment of an award) for an additional specified period or until a specified event ("Additional Deferral Period"). Subject to any exceptions adopted by the Committee, such request must generally be made at least one year prior to expiration of the Deferral Period for such Deferred Stock award (or such installment). SECTION 9. OTHER STOCK-BASED AWARDS. Other Stock-Based Awards may be awarded, subject to limitations under applicable law, that are denominated or payable in, valued in whole or in part by reference to, or otherwise based on or related to, shares of Common Stock, as deemed by the Committee to be consistent with the purposes of the Plan, including, without limitation, purchase rights, shares of Common Stock awarded which are not subject to any restrictions or conditions, convertible or exchangeable debentures, or other rights convertible into shares of Common Stock and awards valued by reference to the value of securities of or the performance of specified Subsidiaries. Other Stock-Based Awards may be awarded either alone or in addition to or in tandem with any other awards under this Plan or any other plan of the Company. Each other Stock-Based Award shall be subject to such terms and conditions as may be determined by the Committee. SECTION 10. ACCELERATED VESTING AND EXERCISABILITY. 10.1 Fundamental Transactions. If the Company merges with another entity in a transaction in which the Company is not the surviving entity or if, as a result of any other transaction or event, other securities are substituted for the Shares or Shares may no longer be issued (each a "FUNDAMENTAL TRANSACTION"), then, notwithstanding any other provision of this Plan, the Committee shall do one or more of the following contingent on the closing or completion of the Fundamental Transaction: (a) arrange for the substitution of Awards on equity securities other than Shares (including, if appropriate, equity securities of an entity other than the Company) in exchange for such Awards, (b) accelerate the vesting and termination of outstanding Options so that Options can be exercised in full before or otherwise in connection with the closing or completion of the transaction or event but then terminate, (c) terminate the Restriction Period or Deferral Period applicable to any outstanding Awards, and (d) cancel Awards in exchange for cash payments to Award holders. The Committee need not adopt the same rules for each Award or each Award holder. 10.2 Changes of Control. The Committee may also, but need not, specify that other transactions or events constitute a "CHANGE OF CONTROL". The Committee may do that either before or after the transaction or event occurs. Examples of transactions or 13 events that the Committee may treat as Changes of Control are: (a) the Company or an "AFFILIATE" (as defined in Regulation D of the Securities Act) is a party to a merger, consolidation, amalgamation, or other transaction in which the beneficial shareholders of the Company, immediately before the transaction, beneficially own securities representing 50% or less of the total combined voting power or value of the Company immediately after the transaction, (b) any person or entity, including a "group" as contemplated by Section 13(d)(3) of the Exchange Act, acquires securities holding 30% or more of the total combined voting power or value of the Company, or (c) as a result of or in connection with a contested election of Company Directors, the persons who were Company Directors immediately before the election cease to constitute a majority of the Board. In connection with a Change of Control, notwithstanding any other provision of this Plan, the Committee may take any one or more of the actions described in Section 10.1. In addition, the Committee may extend the date for the exercise of Options (but not beyond their original Expiration Date). The Committee need not adopt the same rules for each Award or each Award holder. 10.3 Divestiture. If the Company or an Affiliate sells or otherwise transfers equity securities of an Affiliate to a person or entity other than the Company or an Affiliate, or leases, exchanges or transfers all or any portion of its assets to such a person or entity, then the Committee, in its sole and absolute discretion, may specify that such transaction or event constitutes a "DIVESTITURE". In connection with a Divestiture, notwithstanding any other provision of this Plan, the Committee may take one or more of the actions described in Section 10.1 or 10.2 with respect to Options or Option Shares held by, for example, Employees, Directors or Consultants for whom that transaction or event results in a Termination. The Committee need not adopt the same rules for each Option or each Optionee. 10.4 Dissolution. If the Company adopts a plan of dissolution, the Committee may, in its sole and absolute discretion, cause Options to be fully vested and exercisable (but not after their Expiration Date) before the dissolution is completed but contingent on its completion and may cause the Company's repurchase rights on Option Shares to lapse upon completion of the dissolution. To the extent not exercised before the earlier of the completion of the dissolution or their Expiration Date, Options shall terminate just before the dissolution is completed. The Committee need not adopt the same rules for each Option or each Optionee. 10.5 Cut-Back to Preserve Benefits. If the Administrator determines that the net after-tax amount to be realized by any Award holder, taking into account any accelerated vesting, termination of Restriction or Deferral Periods, or cash payments to that Award holder in connection with any transaction or event addressed in this Section 10 would be greater if one or more of those steps were not taken with respect to that Award holder's Award, then and to that extent one or more of those steps shall not be taken. 14 SECTION 11. AMENDMENT AND TERMINATION. The Board may at any time, and from time to time, amend alter, suspend or discontinue any of the provisions of the Plan, but no amendment, alteration, suspension or discontinuance shall be made that would impair the rights of a Holder under any Agreement theretofore entered into hereunder, without the Holder's consent. SECTION 12. TERM OF PLAN. 12.1. Effective Date. The Plan shall be effective as of October 1, 2001, subject to the approval of the Plan by the Company's stockholders within one year after the Effective Date. Any awards granted under the Plan prior to such approval shall be effective when made (unless otherwise specified by the Committee at the time of grant), but shall be conditioned upon, and subject to, such approval of the Plan by the Company's stockholders and no awards shall vest or otherwise become free of restrictions prior to such approval. 12.2. Termination Date. Unless terminated by the Board, this Plan shall continue to remain effective until such time as no further awards may be granted and all awards granted under the Plan are no longer outstanding. Notwithstanding the foregoing, grants of Incentive Stock Options may be made only during the ten year period following the Effective Date. SECTION 13. GENERAL PROVISIONS. 13.1. Written Agreements. Each award granted under the Plan shall be confirmed by, and shall be subject to the terms of, the Agreement executed by the Company and the Holder, or such other document as may be determined by the Committee. The Committee may terminate any award made under the Plan if the Agreement relating thereto is not executed and returned to the Company within 10 days after the Agreement has been delivered to the Holder for his or her execution. 13.2. Unfunded Status of Plan. The Plan is intended to constitute an "unfunded" plan for incentive and deferred compensation. With respect to any payments not yet made to a Holder by the Company, nothing contained herein shall give any such Holder any rights that are greater than those of a general creditor of the Company. 13.3. Employees. (a) Termination for Cause. If a Holder's Termination is due to cause, the Committee may, in its sole discretion, take action to cause all of the Holder's Options to terminate and cease to be exercisable at the time of termination. "Cause" means (i) the willful and continued failure by the Holder to substantially perform his or her duties and obligations (other than any such failure resulting from his or her incapacity due to physical or mental illness) after there has been delivered to the Holder a written demand for performance from the Company which describes the basis for the Company's belief 15 that the Holder has not substantially performed his or her duties; or (ii) the perpetration by the Holder of a material dishonest act or fraud against the Company or its respective subsidiaries; or (iii) the willful engaging by the Holder in misconduct which is materially injurious to the Company or any of its subsidiaries, monetarily or otherwise, including but not limited to, disclosure or misuse of any confidential information, intoxication during the performance of Company duties, or use of unlawful controlled substances or unlawful use of lawful controlled substances; or (iv) the Holder's conviction of a felony not disclosed to the Company prior to initiation of service for the Company which the Committee reasonably believes has had or will have a material detrimental effect on the Company's reputation or business. For purposes of this paragraph, no act, or failure to act, on Holder's part shall be considered "willful" unless done, or omitted to be done, by the Holder in bad faith and without reasonable belief that the action or omission was in the best interests of the Company and its subsidiaries. (b) No Right of Employment. Nothing contained in the Plan or in any award hereunder shall be deemed to confer upon any Holder who is an employee of the Company or any Subsidiary any right to continued employment with the Company or any Subsidiary, nor shall it interfere in any way with the right of the Company or any Subsidiary to terminate the employment of any Holder who is an employee at any time. 13.4. Investment Representations; Company Policy. The Committee may require each person acquiring shares of Common Stock pursuant to a Stock Option or other award under the Plan to represent to and agree with the Company in writing that the Holder is acquiring the shares for investment without a view to distribution thereof. Each person acquiring shares of Common Stock pursuant to a Stock Option or other award under the Plan shall be required to abide by all policies of the Company in effect at the time of such acquisition and thereafter with respect to the ownership and trading of the Company's securities. 13.5. Additional Incentive Arrangements. Nothing contained in the Plan shall prevent the Board from adopting such other or additional incentive arrangements as it may deem desirable, including, but not limited to, the granting of Stock Options and the awarding of Common Stock and cash otherwise than under the Plan; and such arrangements may be either generally applicable or applicable only in specific cases. 13.6. Withholding Taxes. Not later than the date as of which an amount must first be included in the gross income of the Holder for Federal income tax purposes with respect to any Stock Option or other award under the Plan, the Holder shall pay to the Company, or make arrangements satisfactory to the Committee regarding the payment of, any Federal, state and local taxes of any kind required by law to be withheld or paid with respect to such amount. If permitted by the Committee, tax withholding or payment obligations may be settled with Common Stock, including Common Stock that is part of the award that gives rise to the withholding requirement. The obligations of the Company under the Plan shall be conditioned upon such payment or arrangements and the 16 Company or the Holder's employer (if not the Company) shall, to the extent permitted by law, have the right to deduct any such taxes from any payment of any kind otherwise due to the Holder from the Company or any Subsidiary. 13.7. Governing Law. The Plan and all awards made and actions taken thereunder shall be governed by and construed in accordance with the laws of the State of Delaware (without regard to choice of law provisions). 13.8. Other Benefit Plans. Any award granted under the Plan shall not be deemed compensation for purposes of computing benefits under any retirement plan of the Company or any Subsidiary and shall not affect any benefits under any other benefit plan now or subsequently in effect under which the availability or amount of benefits is related to the level of compensation (unless required by specific reference in any such other plan to awards under this Plan). 13.9. Non-Transferability. Except as otherwise expressly provided in the Plan or the Agreement, no right or benefit under the Plan may be alienated, sold, assigned, hypothecated, pledged, exchanged, transferred, encumbranced or charged, and any attempt to alienate, sell, assign, hypothecate, pledge, exchange, transfer, encumber or charge the same shall be void. 13.10. Applicable Laws. The obligations of the Company with respect to all Stock Options and awards under the Plan shall be subject to (i) all applicable laws, rules and regulations and such approvals by any governmental agencies as may be required, including, without limitation, the Securities Act of 1933 (the "Securities Act"), as amended, and (ii) the rules and regulations of any securities exchange on which the Common Stock may be listed. 13.11. Conflicts. If any of the terms or provisions of the Plan or an Agreement conflict with the requirements of Section 422 of the Code, then such terms or provisions shall be deemed inoperative to the extent they so conflict with such requirements. Additionally, if this Plan or any Agreement does not contain any provision required to be included herein under Section 422 of the Code, such provision shall be deemed to be incorporated herein and therein with the same force and effect as if such provision had been set out at length herein and therein. If any of the terms or provisions of any Agreement conflict with any terms or provisions of the Plan, then such terms or provisions shall be deemed inoperative to the extent they so conflict with the requirements of the Plan. Additionally, if any Agreement does not contain any provision required to be included therein under the Plan, such provision shall be deemed to be incorporated therein with the same force and effect as if such provision had been set out at length therein. [END OF DOCUMENT] 17 EX-10.4 5 p67608exv10w4.txt EX-10.4 EXHIBIT 10.4 INDEMNIFICATION AGREEMENT This Indemnification Agreement ("Agreement") is entered into effective as of [__________________], by and between Lipid Sciences, Inc., a Delaware corporation (the "Company"), and [_______________] ("Indemnitee"). WHEREAS, the Company and Indemnitee recognize that there has been a substantial increase in corporate litigation in general, subjecting directors, officers, employees, agents and fiduciaries to expensive litigation risks at the same time as the availability and coverage of liability insurance has been severely limited; WHEREAS, Indemnitee does not regard the current protection available as adequate under the present circumstances, and the Indemnitee and other directors, officers, employees, agents and fiduciaries of the Company may not be willing to continue to serve in such capacities without additional protection; WHEREAS, the Company desires to attract and retain the services of highly qualified individuals, such as Indemnitee, to serve the Company and, in part, in order to induce Indemnitee to continue to provide services to the Company, wishes to provide for the indemnification and advancing of expenses to Indemnitee to the maximum extent permitted by law; and WHEREAS, in view of the considerations set forth above, the Company desires that effective upon the date referred to above, Indemnitee shall be indemnified by the Company as set forth herein. NOW, THEREFORE, the Company and Indemnitee hereby agree as follows: 1. Indemnification. (a) Indemnification of Expenses. The Company shall indemnify Indemnitee to the fullest extent permitted by law if Indemnitee was or is or becomes a party to or witness or other participant in, or is threatened to be made a party to or witness or other participant in, a Claim by reason of (or arising in part out of) an Indemnifiable Event against any and all Expenses, including all interest, assessments and other charges paid or payable in connection with or in respect of such Expenses. Such payment of Expenses shall be made by the Company as soon as practicable but in any event no later than five (5) days after written demand by Indemnitee therefor is presented to the Company. (b) Reviewing Party. (i) The obligations of the Company under Section l(a) shall be subject to the condition that the Reviewing Party shall not have determined (in a written opinion, in any case in which the Independent Legal Counsel referred to in Section l(c) hereof is involved) that Indemnitee would not be permitted to be indemnified under applicable law. The obligation of the Company to make a reimbursement payment of Expenses to Indemnitee pursuant to Section 2(a) (an "Expense Reimbursement") shall be subject to the condition that, if, when and to the extent that the Reviewing Party determines that Indemnitee should not have been permitted to be so indemnified under applicable law, the Company shall be entitled to be reimbursed by Indemnitee (who hereby agrees to reimburse the Company) for all such amounts theretofore paid. (ii) Notwithstanding the foregoing paragraph (b)(i), if Indemnitee has commenced or thereafter commences legal proceedings in a court of competent jurisdiction to secure a determination that Indemnitee should be indemnified under applicable law, any determination made by the Reviewing Party that Indemnitee would not be permitted to be indemnified under applicable law shall not be binding, and Indemnitee shall not be required to reimburse the Company for any Expense Reimbursement, until final judicial determination is made with respect thereto (as to which all rights of appeal therefrom have been exhausted or lapsed). (iii) Indemnitee's obligation to reimburse the Company for any Expense Reimbursement shall be unsecured and no interest shall be charged thereon. (iv) If there has not been a Change in Control, the Reviewing Party shall be selected by the Board of Directors, and if there has been such a Change in Control (other than a Change in Control which has been approved by a majority of the Company's Board of Directors who were directors immediately prior to such Change in Control), the Reviewing Party shall be the Independent Legal Counsel referred to in Section l(c) hereof. (v) If there has been no determination by the Reviewing Party or if the Reviewing Party determines that Indemnitee substantively would not be permitted to be indemnified in whole or in part under applicable law, Indemnitee shall have the right to commence litigation seeking an initial determination by the court or challenging any such determination by the Reviewing Party or any aspect thereof, including the legal or factual bases therefor, and the Company hereby consents to service of process and to appear in any such proceeding. Any determination by the Reviewing Party otherwise shall be conclusive and binding on the Company and Indemnitee. 2 (c) Change in Control. The Company agrees that if there is a Change in Control of the Company (other than a Change in Control which has been approved by a majority of the Company's Board of Directors who were directors immediately prior to such Change in Control) then with respect to all matters thereafter arising concerning the rights of Indemnitee to payments of Expenses and Expense Reimbursements under this Agreement or any other agreement or under the Company's Restated Certificate of Incorporation or By-laws as now or hereafter in effect, the Company shall seek legal advice only from legal counsel selected by Indemnitee and approved by the Company (which approval shall not be unreasonably withheld) ("Independent Legal Counsel"). Such counsel, among other things, shall render its written opinion to the Company and Indemnitee as to whether and to what extent Indemnitee would be permitted to be indemnified under applicable law. The Company agrees to pay the reasonable fees of the Independent Legal Counsel referred to above and to fully indemnify such counsel against any and all expenses (including attorneys' fees), claims, liabilities and damages arising out of or relating to this Agreement or its engagement pursuant hereto. (d) Mandatory Payment of Expenses. Notwithstanding any other provision of this Agreement other than Section 9 hereof, to the extent that Indemnitee has been successful on the merits or otherwise, including, without limitation, the dismissal of an action without prejudice, in defense of any action, suit, proceeding, inquiry or investigation referred to in Section l(a) hereof or in the defense of any claim, issue or matter therein, Indemnitee shall be indemnified against all Expenses incurred by Indemnitee in connection therewith. 2. Expenses; Indemnification Procedure. (a) Reimbursement of Expenses. The Company shall reimburse all Expenses incurred by Indemnitee. The reimbursements to be made hereunder shall be paid by the Company to Indemnitee as soon as practicable but in any event no later than five (5) days after written demand by Indemnitee therefor to the Company. (b) Notice/Cooperation by Indemnitee. Indemnitee shall, as a condition precedent to Indemnitee's right to be indemnified under this Agreement, give the Company notice in writing as soon as practicable of any Claim made against Indemnitee for which indemnification will or could be sought under this Agreement. Notice to the Company shall be directed to the Chief Executive Officer of the Company, or the Company's highest ranking executive officer, with a copy to the Company's Secretary, at the address shown on the signature page of this Agreement (or such other address as the Company shall designate in writing to Indemnitee). In addition, Indemnitee shall give the Company such information and cooperation as it may reasonably require and as shall be within Indemnitee's power. Promptly after receipt by Indemnitee, or the Company, of any notice or document respecting the commencement of a Claim naming or involving Indemnitee and relating to an Indemnifiable Event with respect to which Indemnitee may be entitled to indemnification or an Expense Reimbursement pursuant to this Agreement, 3 the party receiving the same shall notify the other party promptly of such receipt. (c) No Presumptions; Burden of Proof. For purposes of this Agreement, the termination of any Claim by judgment, order, settlement (whether with or without court approval) or conviction, or upon a plea of nolo contendere, or its equivalent, shall not create a presumption that Indemnitee did not meet any particular standard of conduct or have any particular belief or that a court has determined that indemnification is not permitted by applicable law. In addition, neither the failure of the Reviewing Party to have made a determination as to whether Indemnitee has met any particular standard of conduct or had any particular belief, nor an actual determination by the Reviewing Party that Indemnitee has not met such standard of conduct or did not have such belief, prior to the commencement of legal proceedings by Indemnitee to secure a judicial determination that Indemnitee should be indemnified under applicable law, shall be a defense to Indemnitee's claim or create a presumption that Indemnitee has not met any particular standard of conduct or did not have any particular belief. In connection with any determination by the Reviewing Party or otherwise as to whether the Indemnitee is entitled to be indemnified hereunder, the burden of proof shall be on the Company to establish that Indemnitee is not so entitled. (d) Notice to Insurers. If, at the time of the receipt by the Company of a notice of a Claim pursuant to Section 2(b) hereof, the Company, or any affiliate of the Company, has liability insurance in effect which may cover such Claim, the Company shall give prompt notice of the commencement of such Claim to the insurers in accordance with the procedures set forth in the respective policies. The Company shall thereafter take all necessary or desirable action to cause such insurers to pay, on behalf of the Indemnitee, all amounts payable as a result of such action, suit, proceeding, inquiry or investigation in accordance with the terms of such policies. (e) Selection of Counsel. In the event the Company shall be obligated hereunder to pay the Expenses of any Claim, the Company, if appropriate, shall be entitled to assume the defense of such Claim, with counsel approved by Indemnitee ("Retained Counsel"), upon the delivery to Indemnitee of written notice of its election so to do. After delivery of such notice, approval of Retained Counsel by Indemnitee and the retention of Retained Counsel by the Company, the Company will not be liable to Indemnitee under this Agreement for any fees of separate counsel ("Separate Counsel") subsequently incurred by Indemnitee with respect to the same Claim; provided that, (i) Indemnitee shall have the right to employ Separate Counsel in any such Claim at Indemnitee's expense and (ii) if (A) the employment of Separate Counsel by Indemnitee has been previously authorized by the Company, (B) Indemnitee shall have reasonably concluded that there may be a conflict of interest between the Company and Indemnitee in the conduct of any such defense, or (C) the Company shall not continue to retain Retained Counsel to defend such Claim, then the fees and expenses of Indemnitee's Separate Counsel shall be at the expense of the Company. 4 3. Additional Indemnification Rights; Nonexclusivity. (a) Scope. The Company hereby agrees to indemnify the Indemnitee to the fullest extent permitted by law, notwithstanding that such indemnification is not specifically authorized by the other provisions of this Agreement, the Company's Restated Certificate of Incorporation, the Company's By-laws or by statute. In the event of any change after the date of this Agreement in any applicable law, statute or rule which expands the right of a Delaware corporation to indemnify a member of its board of directors or an officer, employee, agent or fiduciary, it is the intent of the parties hereto that Indemnitee shall enjoy by this Agreement the greater benefits afforded by such change. In the event of any change in any applicable law, statute or rule which narrows the right of a Delaware corporation to indemnify a member of its board of directors or an officer, employee, agent or fiduciary, such change, to the extent not otherwise required by such law, statute or rule to be applied to this Agreement, shall have no effect on this Agreement or the parties' rights and obligations hereunder, except as set forth in Section 8(a) hereof. (b) Nonexclusivity. The indemnification provided by this Agreement shall be in addition to any rights to which Indemnitee may be entitled under the Company's Restated Certificate of Incorporation, its By-laws, any other agreement, any vote of stockholders or disinterested directors, the General Corporation Law of the State of Delaware, or otherwise. The indemnification provided under this Agreement shall continue as to Indemnitee for any action taken or not taken while serving at the request of the Company in an indemnified capacity even though Indemnitee may have ceased to serve in such capacity. 4. No Duplication of Payments. The Company shall not be liable under this Agreement to make any payment in connection with any Claim made against Indemnitee to the extent Indemnitee has otherwise actually received payment (under any insurance policy, certificate of incorporation, by-law or otherwise) of the amounts otherwise indemnifiable hereunder. 5. Partial Indemnification. If Indemnitee is entitled under any provision of this Agreement to indemnification by the Company for some or a portion of Expenses incurred in connection with any Claim, but not, however, for all of the total amount thereof, the Company shall nevertheless indemnify Indemnitee for the portion of such Expenses to which Indemnitee is entitled. 6. Mutual Acknowledgment. Both the Company and Indemnitee acknowledge that in certain instances, Federal law or applicable public policy may prohibit the Company from indemnifying its directors, officers, employees, agents or fiduciaries under this Agreement or otherwise. Indemnitee understands and acknowledges that the Company has undertaken or may be required in the future to undertake with the Securities and Exchange Commission to submit the question of indemnification to a court in certain circumstances for a determination of the Company's right under public policy to 5 indemnify Indemnitee. 7. Liability Insurance. To the extent the Company maintains liability insurance applicable to directors, officers, employees, agents or fiduciaries, Indemnitee shall be covered by such policies in such a manner as to provide Indemnitee the same rights and benefits as are accorded to the most favorably insured of the Company's directors, if Indemnitee is a director; or of the Company's officers, if Indemnitee is not a director of the Company but is an officer; or of the Company's key employees, agents or fiduciaries, if Indemnitee is not an officer or director but is a key employee, agent or fiduciary. 8. Exceptions. Any other provision herein to the contrary notwithstanding, the Company shall not be obligated pursuant to the terms of this Agreement: (a) Excluded Action or Omissions. To indemnify Indemnitee for acts, omissions or transactions from which Indemnitee may not be relieved of liability under applicable law. (b) Claims Initiated by Indemnitee. To indemnify or reimburse Expenses to Indemnitee with respect to Claims initiated or brought voluntarily by Indemnitee and not by way of defense, except (i) with respect to actions or proceedings brought to establish or enforce a right to indemnification under this Agreement or any other agreement or insurance policy or under the Company's Restated Certificate of Incorporation or By-laws now or hereafter in effect relating to Claims for Indemnifiable Events, (ii) in specific cases if the Board of Directors has approved the initiation or bringing of such Claim, or (iii) as otherwise as required under Section 145 of the Delaware General Corporation Law, regardless of whether Indemnitee ultimately is determined to be entitled to such indemnification, reimbursement of expenses or insurance recovery, as the case may be. (c) Lack of Good Faith. To indemnify Indemnitee for any expenses incurred by the Indemnitee with respect to any proceeding instituted by Indemnitee to enforce or interpret this Agreement, if a court of competent jurisdiction determines that each of the material assertions made by the Indemnitee in such proceeding was not made in good faith or was frivolous. (d) Claims Under Section 16. To indemnify Indemnitee for expenses and the payment of profits arising from the purchase and sale by Indemnitee of securities in violation of Section 16 of the Securities Exchange Act of 1934, as amended, or the rules and regulations promulgated thereunder, or any similar successor statute, rules or regulations. 9. Period of Limitations. No legal action shall be brought and no cause of action shall be asserted by or in the right of the Company against Indemnitee, Indemnitee's estate, spouse, heirs, executors or personal or legal representatives after the expiration of two years from the date of accrual of such cause of action, and any claim or cause of 6 action of the Company shall be extinguished and deemed released unless asserted by the timely filing of a legal action within such two-year period; provided, however, that if any shorter period of limitations is otherwise applicable to any such cause of action, such shorter period shall govern. 10. Definitions. For the purposes of this Agreement, the following terms shall have the meaning assigned to them hereunder: (a) Change in Control shall mean any event in which: (i) any "person" (as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, as amended), other than (i) Silicon Graphics, Inc. or any of its subsidiaries (other than the Company), (ii) a trustee or other fiduciary (acting in such capacity) holding securities under an employee benefit plan of the Company, or (iii) a corporation owned directly or indirectly by the stockholders of the Company in substantially the same proportions as their ownership of stock of the Company, is or becomes the "beneficial owner" (as defined in Rule 13d-3 under said Act), directly or indirectly, of securities of the Company representing more than 15% of the total voting power of the Company's then outstanding Voting Securities. (ii) during any period of two consecutive years commencing immediately after the disposition by Silicon Graphics, Inc. of all of its beneficial ownership interest in the Company, individuals who at the beginning of such period constitute the Board of Directors of the Company and any new directors whose election by the Board of Directors or nomination for election by the Company's stockholders was approved by a vote of at least two thirds (2/3) of the directors then still in office who either were directors at the beginning of the period or whose election or nomination for election was previously so approved, cease for any reason to constitute a majority thereof; or (iii) the stockholders of the Company approve a merger or consolidation of the Company with any other corporation other than a merger or consolidation which would result in the Voting Securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into Voting Securities of the surviving entity) at least 80% of the total voting power represented by the Voting Securities of the Company or such surviving entity outstanding immediately after such merger or consolidation, or the stockholders of the Company approve a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of (in one transaction or a series of related transactions) all or substantially all of the Company's assets. (b) Claim shall mean any threatened, pending or completed action, suit, 7 proceeding, arbitration, or alternative dispute resolution mechanism, or any hearing, inquiry or investigation that Indemnitee in good faith believes might lead to the institution of any action, suit, proceeding, arbitration or alternative dispute resolution mechanism, whether civil, criminal, administrative, investigative or otherwise. (c) Company shall mean and include, in addition to the Company and any successor corporation, any constituent corporation (including any constituent of a constituent) absorbed in a consolidation or merger which, if its separate existence were continued, would have had power and authority to indemnify its directors, officers, employees, agents or fiduciaries, so that if Indemnitee is or was a director, officer, employee, agent or fiduciary of such constituent corporation, or is or was serving at the request of such constituent corporation as a director, officer, employee, agent or fiduciary of another corporation, partnership, joint venture, employee benefit plan, trust or other enterprise, Indemnitee shall stand in the same position under the provisions of this Agreement with respect to the resulting or surviving corporation as Indemnitee would have with respect to such constituent corporation if its separate existence had continued. (d) Expenses shall mean and include any and all expenses, including attorneys' fees and all other costs, expenses and obligations incurred in connection with investigating, defending, being a witness in or participating in (including on appeal), or preparing to defend, be a witness in or participate in, any action, suit, proceeding, arbitration, alternative dispute resolution mechanism, hearing, inquiry or investigation, and any and all judgments, fines, penalties and amounts paid in settlement (if such settlement is approved in advance by the Company, which approval shall not be unreasonably withheld) of any Claim and any federal, state, local or foreign taxes imposed on the Indemnitee as a result of the actual or deemed receipt of any payments under this Agreement. (e) Indemnifiable Event shall mean any event or occurrence related to the fact that Indemnitee is or was a director, officer, partner, employee, trustee, agent or fiduciary of the Company, or any subsidiary of the Company, or is or was serving at the request of the Company as a director, officer, partner, employee, trustee, agent or fiduciary of any other corporation, partnership, joint venture, trust or other enterprise, which imposes duties on, or involves services by, such director, officer, employee, agent or fiduciary while serving in such capacity, or by reason of any action or inaction on the part of Indemnitee in such capacity. (f) Reviewing Party shall mean any appropriate person or body consisting of a member or members of the Company's Board of Directors or any other person or body appointed by the Board of Directors who is not a party to the particular Claim for which Indemnitee is seeking indemnification, or Independent Legal Counsel. (g) Voting Securities shall mean any securities of the Company the holders of which are entitled to elect a majority of the Company's directors. 8 11. Counterparts. This Agreement may be executed in one or more counterparts, each of which shall constitute an original. 12. Binding Effect; Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of and be enforceable by the parties hereto and their respective successors, assigns, including any direct or indirect successor by purchase, merger, consolidation or otherwise to all or substantially all of the business and/or assets of the Company, spouses, heirs, and personal and legal representatives. The Company shall require and cause any successor (whether direct or indirect by purchase, merger, consolidation or otherwise) to all, substantially all, or a substantial part, of the business and/or assets of the Company, by written agreement in form and substance satisfactory to Indemnitee, expressly to assume and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform if no such succession had taken place. This Agreement shall continue in effect regardless of whether Indemnitee continues to serve as a director, officer, employee, agent or fiduciary (as applicable) of the Company or of any other enterprise at the Company's request. 13. Attorneys' Fees. In the event that any action is instituted by Indemnitee under this Agreement or under any liability insurance policies maintained by the Company to enforce or interpret any of the terms hereof or thereof, Indemnitee shall be entitled to be paid all Expenses incurred by Indemnitee with respect to such action, regardless of whether Indemnitee is ultimately successful in such action, and shall be entitled to the reimbursement of Expenses with respect to such action, unless as a part of such action a court of competent jurisdiction over such action determines that each of the material assertions made by Indemnitee as a basis for such action were not made in good faith or were frivolous. In the event of an action instituted by or in the name of the Company under this Agreement to enforce or interpret any of the terms of this Agreement, Indemnitee shall be entitled to be paid all Expenses incurred by Indemnitee in defense of such action (including costs and expenses incurred with respect to Indemnitee's counterclaims and cross-claims made in such action), and shall be entitled to the reimbursement of Expenses with respect to such action, unless as a part of such action a court having jurisdiction over such action determines that each of Indemnitee's material defenses to such action were made in bad faith or were frivolous. 14. Notice. All notices, requests, demands and other communications under this Agreement shall be in writing and shall be deemed duly given (i) if delivered by hand and signed for by the addressee, on the date of such receipt, or (ii) if mailed by domestic certified or registered mail with postage prepaid, on the third business day after the date postmarked. Addresses for notice to either party are as shown on the signature page of this Agreement, or as subsequently modified by written notice. 15. Consent to Jurisdiction. The Company and Indemnitee each hereby irrevocably consent to the jurisdiction of the courts of the State of Delaware for all 9 purposes in connection with any action or proceeding which arises out of or relates to this Agreement and agree that any action instituted under this Agreement shall be commenced, prosecuted and continued only in the Court of Chancery of the State of Delaware in and for New Castle County, which shall be the exclusive and only proper forum for adjudicating such a claim. 16. Severability. The provisions of this Agreement shall be severable in the event that any of the provisions hereof (including any provision within a single section, paragraph or sentence) are held by a court of competent jurisdiction to be invalid, void or otherwise unenforceable, and the remaining provisions shall remain enforceable to the fullest extent permitted by law. Furthermore, to the fullest extent possible, the provisions of this Agreement (including, without limitations, each portion of this Agreement containing any provision held to be invalid, void or otherwise unenforceable, that is not itself invalid, void or unenforceable) shall be construed so as to give effect to the intent manifested by the provision held invalid, illegal or unenforceable. 17. Choice of Law. This Agreement shall be governed by and its provisions construed and enforced in accordance with the laws of the State of Delaware, as applied to contracts between Delaware residents, entered into and to be performed entirely within the State of Delaware, without regard to the conflict of laws principles thereof. 18. Subrogation. In the event of payment under this Agreement, the Company shall be subrogated to the extent of such payment to all of the rights of recovery of Indemnitee, who shall execute all documents required and shall do all acts that may be necessary to secure such rights and to enable the Company effectively to bring suit to enforce such rights. 19. Amendment and Termination. No amendment, modification, termination or cancellation of this Agreement shall be effective unless it is in writing signed by both the parties hereto. No waiver of any of the provisions of this Agreement shall be deemed or shall constitute a waiver of any other provisions hereof (whether or not similar) nor shall such waiver constitute a continuing waiver. 20. Integration and Entire Agreement. This Agreement sets forth the entire understanding between the parties hereto and supersedes and merges all previous written and oral negotiations, commitments, understandings and agreements relating to the subject matter hereof between the parties hereto. 21. No Construction as Employment Agreement. Nothing contained in this Agreement shall be construed as giving Indemnitee any right to be retained in the employ of the Company or any of its subsidiaries. 10 IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first above written. LIPID SCIENCES, INC. By: ____________________________________ Name: Title: Address: 7068 Koll Center Parkway, Suite 401 Pleasanton, CA 94566 AGREED TO AND ACCEPTED: INDEMNITEE: By: ______________________________ Name: Title: Address: 11 EX-10.23 6 p67608exv10w23.txt EX-10.23 EXHIBIT 10.23 EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (the "Agreement"), which is effective as of February 1, 2001 is between Lipid Sciences, Inc., a Delaware corporation (the "Company"), and Sandra Gardiner ("Executive"), who agree as follows. The Company and Executive are hereinafter collectively referred to as the "Parties," and may individually be referred to as a "Party." RECITALS A. The Company desires assurance of the association and services of Executive in order to retain Executive's experience, skills, abilities, background and knowledge, and is willing to engage Executive's services on the terms and conditions set forth in this Agreement; and B. Executive desires to be in the employ of the Company and is willing to accept this employment on the terms and conditions set forth in this Agreement. AGREEMENT 1. EMPLOYMENT. 1.1 The Company will employ Executive, and Executive hereby accepts employment by the Company, upon the terms and conditions set forth in this Agreement, effective as of the date first set forth above ("Effective Date"), for the term of one year from the Effective Date. This agreement will automatically be renewed for the term of one year unless either party gives notice to the other at least 60 days prior to the expiration of the then current term of employment of such party's intention not to renew. 1.2 Executive will be the Controller, Director of Administration and corporate Secretary. Executive will report to the President/CEO. 1.3 Executive will do and perform all services, acts or things necessary or advisable to mange and conduct the administrative functions and financial reporting needs of the Company, provided, however, that at all times during her employment Executive will be subject to the direction of the President/CEO. Executive's duties will include, but not limited to, participation in the creation and management of (1) the overall aspects of the Company's financial plan, (2) its administrative organization, (3) the human resources needs, (4) the Company's training programs as well as the preparation of the annual budget for her department. Unless the Parties otherwise agree in writing, prior to Executive's termination in accordance with this Agreement, Executive will perform the services she is required to perform in accordance with the terms of this Agreement, reporting to the Company's offices and the President/CEO. 1 2. LOYAL AND CONSCIENTIOUS PERFORMANCE; NONCOMPETITION. 2.1 During her employment by the Company, Executive will devote her full business employment, interest, abilities and productive time to the proper and efficient performance of her duties under this Agreement. Executive may not be employed by another company or receive compensation for employment from any other sources. 2.2 During her employment by the Company, Executive may not engage in competition with the Company, either directly or indirectly, in any manner or capacity, as adviser, principal, agent, partner, officer, director, employee, member of any association or otherwise, in any phase of the business of developing, manufacturing and marketing of products that are in the same field of use or which otherwise directly compete with the products or proposed products of the Company. 3. COMPENSATION OF EXECUTIVE. 3.1 The Company will pay Executive a salary of One Hundred Forty Thousand Dollars ($140,000.00) per year ("Base Salary"), payable in regular periodic payments in accordance with Company policy. Such salary will be prorated for any partial year of employment on the basis of a 365-day fiscal year. 3.2 Executive's compensation may be changed from time to time by mutual agreement of Executive the CEO and Board of Directors. 3.3 All of Executive's compensation is subject to customary withholding taxes and any other employment taxes as are commonly required to be collected or withheld by the Company. 3.4 Executive will, in the discretion of the Board and in accordance with Company policy, be entitled to participate in benefits under any employee benefit plan or arrangement made available by the Company now or in the future to its executives and key management employees. 3.5 Executive's performance will be reviewed by the CEO on a periodic basis (not less than once each fiscal year). The CEO with approval of the Board may, in their sole discretion, award bonuses to Executive as will be appropriate or desirable based on Executive's performance. Executive will be reviewed within twelve months of commencing employment hereunder. 3.6 Executive will be granted options to purchase the Company's common stock. The number of options to be granted has been determined by the parties and will be set forth in a separate stock option agreement, attached as EXHIBIT A. As of the Effective Date of this Agreement, the Company will grant Executive an option to purchase up to fifty thousand (50,000) shares of the Company's common stock. The exercise price per share of these options (the "Options") will be equal to $5.00 per share. Options will vest over four years at the rate of 1/48nd per month employed of the total 50,000 shares. 2 3.7 Executive is entitled to receive prompt reimbursement of all reasonable expenses incurred by Executive in performing Company services, including expenses related to travel, entertainment, parking, and business meetings. These expenses will be accounted for in accordance with the policies and procedures established by the Company. 4. TERMINATION: Either party may terminate this Agreement and Executive's employment without cause, upon thirty (30) days written notice. Upon termination, the Company will be released from any and all obligations under this Agreement, except in the event the Executive's employment is involuntarily terminated by the Company for other than "good cause," then Executive will resign from all positions with the Company, and enter into a consulting arrangement for four (4) months commencing immediately after the termination date. In consideration for such consulting arrangement, Executive will continue to be paid salary and benefits for four (4) months. However, if Executive obtains new full time employment during such four (4) month period, any salary paid pursuant to such arrangement will be offset from amounts due under this Letter Agreement. Executive's obligations under Paragraph 5 of this Agreement will continue beyond her termination of employment. 5. CONFIDENTIAL INFORMATION; NONSOLICITATION. 5.1 Executive recognizes that her employment with the Company will involve contact with information of substantial value to the Company, which is not old and generally known in the trade, and which gives the Company an advantage over its competitors who do not know or use it, including but not limited to, techniques, designs, drawings, processes, inventions, developments, equipment, prototypes, sales and customer information, and business and financial information relating to the business, products, practices and techniques of the Company (hereinafter referred to as "Confidential Information"). Executive will at all times regard and preserve as confidential such Confidential Information obtained by Executive from whatever source and will not, either during her employment with the Company or thereafter, publish or disclose any part of such Confidential Information in any manner at any time, or use the same except on behalf of the Company, without the prior written consent of the Company; provided, however, that Executive may disclose Confidential Information in the best interest of the Company with properly executed Company confidentiality or secrecy agreements with the third party. As a condition of this Agreement, the Executive will sign and return a copy of the Company's Proprietary Information and Inventions Agreement, attached as EXHIBIT B. 5.2 While employed by the Company and for one (1) year thereafter, in order to protect the Company's confidential and proprietary information from unauthorized use, Executive may not, either directly or through others, (i) solicit or attempt to solicit any employee, consultant or independent contractor of the Company to terminate her or her relationship with the Company in order to become an employee, consultant or independent contractor to or for any other person or business entity; or (ii) solicit or attempt to solicit the business of any customer, vendor or distributor of the Company which, at the time of termination or one (1) year immediately prior thereto, was listed on the Company's customer, vendor or distributor list. 6. SUCCESSORS. The Company will require any successor (whether direct or indirect, by purchase, merger, or consolidation) to all or substantially all of the business and/or assets of the Company, by agreement in form and substance reasonably satisfactory to the 3 Executive, to expressly assume and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place. 7. ASSIGNMENT AND BINDING EFFECT. This Agreement is binding on and inures to the benefit of Executive and Executive's heirs, executors, personal representatives, assigns, administrators and legal representatives. Because of the unique and personal nature of Executive's duties under this Agreement, neither this Agreement nor any rights or obligations under this Agreement are assignable by Executive. This Agreement is binding on and inures to the benefit of the Company and its successors, assigns and legal representatives. 8. NOTICES. All notices or demands of any kind required or permitted to be given by the Company or Executive under this Agreement will be given in writing and will be personally delivered (and receipted for) or mailed by certified mail, return receipt requested, postage prepaid. 9. CHOICE OF LAW. This Agreement will be construed and interpreted in accordance with the laws of the State of California, without regard to the conflict of laws provision thereof. 10. INTEGRATION. This Agreement contains the complete, final and exclusive agreement of the Parties relating to the subject matter of this Agreement, and supersedes all prior oral and written employment agreements or arrangements between the Parties. 11. AMENDMENT. This Agreement may not be amended or modified except by a written agreement signed by Executive and the Company. 12. WAIVER. No term, covenant or condition of this Agreement or any breach thereof will be deemed waived, except with the written consent of the Party against whom the waiver in claimed, and any waiver or any such term, covenant, condition or breach will not be deemed to be a waiver of any preceding or succeeding breach of the same or any other term, covenant, condition or breach. 13. SEVERABILITY. The finding by a court of competent jurisdiction of the unenforceability, invalidity or illegality of any provision of this Agreement will not render any other provision of this Agreement unenforceable, invalid or illegal. Such court will have the authority to modify or replace the invalid or unenforceable term or provision with a valid and enforceable term or provision which most accurately represents the parties' intention with respect to the invalid or unenforceable term or provision. 14. INTERPRETATION; CONSTRUCTION. The headings set forth in this Agreement are for convenience of reference only and will not be used in interpreting this Agreement. Executive has been encouraged, and has consulted with, her own independent counsel and tax advisors with respect to the terms of this Agreement. The Parties acknowledge that each Party and its counsel has reviewed and revised, or had an opportunity to review and revise, this Agreement, and the normal rule of construction to the effect that any ambiguities are to be resolved against the drafting party will not be employed in the interpretation of this Agreement. 4 15. REPRESENTATIONS AND WARRANTIES. Executive represents and warrants that, to the best of Executive's knowledge, she is not restricted or prohibited, contractually or otherwise, from entering into and performing each of the terms and covenants contained in this Agreement, and that her execution and performance of this Agreement will not violate or breach any other agreements between Executive and any other person or entity. 16. COUNTERPARTS. This Agreement may be executed in two counterparts, each of which will be deemed an original, all of which together will contribute one and the same instrument. 17. ARBITRATION. If any dispute arises regarding the application, interpretation, or enforcement of this Agreement, including fraud in the inducement, the dispute will be resolved by final and binding arbitration before one arbitrator at the Judicial Arbitration and Mediation Service in Los Angeles, California. The decision of the arbitrator will be final and may not be appealed by either of the Parties. 18. ATTORNEYS' FEES AND COSTS. The prevailing party in any dispute arising out of this Agreement, will be entitled to reimbursement by the losing party of all of its or her attorneys' fees and costs including, but not limited to, arbitrator's fees and expert's fees. IN WITNESS WHEREOF, the Parties have executed this Agreement as of the date first above written. THE COMPANY: LIPID SCIENCES, INC. By: /s/ Phil Radlick -------------------------------------- Phil Radlick, Ph.D. President/CEO EXECUTIVE: By: /s/ Sandra Gardiner -------------------------------------- Sandra Gardiner 5 EX-10.24 7 p67608exv10w24.txt EX-10.24 EXHIBIT 10.24 AGREEMENT THIS AGREEMENT, dated as of October 15, 2002 (the "Agreement"), by and between Lipid Sciences, Inc., a Delaware corporation (the "Company"), and Phillip C. Radlick, Ph.D. ("Dr. Radlick"). WHEREAS, the Company and Dr. Radlick have agreed to Dr. Radlick's resignation effective as of the Resignation Date (as hereinafter defined); and WHEREAS, the Company believes that it is in the best interest of the shareholders to have Dr. Radlick perform services for the Company as a consultant following his resignation, and Dr. Radlick has agreed to serve in such capacity; and WHEREAS, the parties intend that this Agreement shall set forth the terms of their agreement with respect to the foregoing and that this Agreement shall supercede all prior agreements between the Company and Dr. Radlick, excluding that certain agreement dated as of June 1, 2000 entitled the Employee Confidential Information and Inventions Agreement (the "Confidentiality Agreement") and that certain agreement dated as of November 29, 2001 entitled Indemnification Agreement (the "Indemnification Agreement"). NOW, THEREFORE, in consideration of the covenants and agreements hereinafter set forth in this Agreement, the parties hereto hereby agree as follows: 1. Resignation. (a) Effective as of the date of this Agreement (the "Resignation Date"), Dr. Radlick hereby resigns from his position as President and Chief Executive Officer of the Company, as a member of the Board of Directors of the Company (the "Board") and from each and every other position as an employee, officer or director of the Company, its subsidiaries or affiliated companies. (b) On the Resignation Date, or if the Resignation Date is not a business day, on the business day immediately following the Resignation Date, the Company shall pay to Dr. Radlick an amount equal to $22,295.25, less applicable deductions and withholdings, representing 185.5 hours of vacation that Dr. Radlick has accrued but not used as of the Resignation Date. 2. Advising Arrangement. Commencing on the Resignation Date and ending on February 28, 2003, or such earlier date as contemplated in Section 5 below (the "Advising Period"), Dr. Radlick shall serve as an advisor, shall make himself available to assist and cooperate with the Company, its subsidiaries and affiliates, in connection with any matters relating to the business or affairs of the Company, its subsidiaries and affiliates, and any pending or future governmental or regulatory investigation, civil or administrative proceeding, litigation or arbitration related to the business of the Company, its subsidiaries and affiliates or to Dr. Radlick's services as an officer, director or employee of the Company, its subsidiaries and affiliates. Dr. Radlick shall in good faith provide such assistance and cooperation at such time and place and in such manner as may be requested in good faith from time to time by the Board or a designee thereof; provided, however, that the Company shall use its best efforts to accommodate Dr. Radlick's professional obligations when requesting the assistance and cooperation contemplated by this Section 2. During the Advising Period, Dr. Radlick shall not engage or take part in any activity that is in conflict with any obligations under this Agreement and the Confidentiality Agreement. Notwithstanding anything to the contrary in this Section 2, this Agreement shall not preclude Dr. Radlick from performing services for any other entity that is not in conflict with the Confidentiality Agreement. 3. Independent Contractor. Dr. Radlick acknowledges that during the Advising Period he will be acting as an independent contractor, that he is solely responsible for his actions or inactions, and that nothing in this Agreement shall be construed to create an employment relationship between the Company and Dr. Radlick. During the Advising Period, Dr. Radlick shall not have the authority to enter into contracts or agreements on behalf of the Company or to otherwise create obligations of the Company to third parties. Dr. Radlick shall be responsible for and shall maintain adequate records of expenses he shall incur in the course of performing services during the Advising Period and shall be solely responsible for and shall file on a timely basis tax returns and payments and payments required to be filed with or made to any federal or state or local tax authority with respect to his performance of services during the Advising Period. No federal, state or local income tax of any kind shall be withheld or paid by the Company with respect to any amount paid to Dr. Radlick during the Advising Period. Dr. Radlick agrees that he shall be responsible for payment of all applicable state and federal income and employment taxes, including workers' compensation, disability benefits and unemployment insurance. The Company shall issue Dr. Radlick forms 1099 with respect to payments of the Advising Fees. 4. Payments and Benefits. In consideration of the foregoing, and Dr. Radlick's execution and delivery of a Release Agreement in the form set forth as Exhibit A hereto (the "Release") on the Resignation Date and Dr. Radlick's execution and delivery of a general release on the last day of the Advising Period (the "Second Release"), the Company shall provide Dr. Radlick with the following payments and benefits: (a) Severance Payment. Upon the expiration of the Revocation Period (as defined in the Release), the Company shall pay Dr. Radlick by check a lump sum severance payment equal to $125,000, less applicable deductions and withholdings. (b) Advising Fee. Commencing on the first day after the expiration of the Revocation Period (as defined in the Release) continuing through the last day of the Advising Period, the Company shall pay Dr. Radlick an amount equal to $125,000, in equal installments, which shall be payable by check twice monthly on the fifteenth day and the last day of each month during the Advising Period; provided, however, that payment of the last installment of Advising Fees shall be subject to Dr. Radlick's execution and delivery of the Second Release. (c) COBRA Costs. In the event Dr. Radlick elects to receive COBRA continuation coverage for medical and dental benefits (the "COBRA Coverage") following the Resignation Date, the Company shall pay the cost of the COBRA Coverage during the Advising Period for Dr. Radlick and the number of dependants with respect to which Dr. Radlick was receiving benefits under the Company's medical and dental plans as of the Resignation Date. The parties acknowledge that Dr. Radlick's previous health care insurer provider, Lifeguard, has recently become insolvent and the healthcare insurer is now Aetna Insurance Company 2 (d) Term Life Insurance. The Company shall reimburse Dr. Radlick for the cost of the premium for term life insurance on the life of Dr. Radlick with his wife as named beneficiary for a one-year period immediately following his current life insurance policy that is due to expire on or about November 2002 (the "Current Policy"), in an amount that in no event shall exceed the amount the Company paid on behalf of Dr. Radlick for a one-year period with respect to the Current Policy. (e) Expense Advances. During the Advising Period, upon request by Dr. Radlick, the Company shall advance all expenses that the Company requests Dr. Radlick to incur in the course of providing services as a Consultant. 5. Early Termination of Advising Period. Any other provision of this Agreement to the contrary notwithstanding, in the event that the Board in good faith finds that (i) Dr. Radlick breached in any material respect the terms and conditions of this Agreement or the terms of the Release, (ii) in the course of the performance of his duties with the Company prior to the Resignation Date, Dr. Radlick committed gross negligence, committed an intentional act of fraud, embezzlement, theft, or other material dishonest act or engaged in willful misconduct with respect to the Company, or (iii) in the course of the performance of his duties to the Company during the Advising Period, Dr. Radlick committed gross negligence, committed an intentional act of fraud, embezzlement, theft or a material dishonest act or engages in willful misconduct with respect to the Company, the Advising Period shall be immediately terminated, Dr. Radlick's status as a consultant of the Company shall be immediately terminated and Dr. Radlick shall not be entitled to any further payments hereunder. 6. No Other Payments or Benefits. Except as otherwise expressly provided in this Agreement or as required by applicable law, Dr. Radlick acknowledges and agrees that he is not entitled to any payment, compensation or benefits (whether statutorily or otherwise) from the Company in connection with this Agreement or with his termination of his employment with the Company and that, except as expressly set forth herein, he is not entitled to any severance or similar benefits under any agreement, plan, program, policy or arrangement, whether formal or informal, written or unwritten, of the Company. 7. Non-Disparagement. Dr. Radlick shall not, nor shall he cause another person to, directly or indirectly, make any statement that disparages or is derogatory of the Company or its subsidiaries and affiliates and any of their respective directors or officers in any communications with any person. The Company shall not, nor shall it cause another person to, directly or indirectly, make any statement that disparages or is derogatory of Dr. Radlick in any communications with any person. 8. Severability. Each provision of this Agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement is held to be prohibited by or invalid under applicable law, such provision shall be ineffective only to the extent of such prohibition or invalidity, without invalidating the remainder of such provision or the remaining provisions of this Agreement. If any of the provisions contained in this Agreement shall be determined by a court of competent jurisdiction or an arbitration to be excessively broad as to duration, activity, geographic application or subject matter, such 3 provision shall be construed, by limiting or reducing it to the extent legally permitted, so as to make such provision enforceable to the extent compatible with then-applicable law. 9. Cooperation. Dr. Radlick agrees that, during the twelve-month period immediately following the last day of the Advising Period, he shall in good faith make himself available to assist and cooperate with the Company, its subsidiaries and affiliates, in connection with any pending or future governmental or regulatory investigation, civil or administrative proceeding, litigation or arbitration related to the business of the Company, its subsidiaries and affiliates or to Dr. Radlick's services as an officer, director or employee of the Company, its subsidiaries and affiliates. Dr. Radlick shall provide such assistance and cooperation at such time and place and in such manner as may be requested in good faith from time to time, provided that the Company shall use its best efforts to accommodate Dr. Radlick's professional obligations when scheduling appearances contemplated by this Section 9. The Company shall pay Dr. Radlick a per diem fee based on the higher of his then-current annual salary or his annual salary in effect on the Resignation Date in the event compliance with this Section 9 requires Dr. Radlick to spend a substantial amount of time and the Company shall advance all expenses that the Company requests Dr. Radlick to incur in connection with complying with this Section 9. 10. Notices. For the purpose of this Agreement, notices, demands and all other communications provided for in this Agreement shall be in writing and shall be sent by messenger, overnight courier, certified or registered mail, postage prepaid and return receipt requested, by first-class mail, postage prepaid (when mailed first class to the address set forth below), or by facsimile transmission to the parties at their respective addresses and fax numbers set forth below or to such other address or fax number as to which notice is given. If to the Company: Lipid Sciences, Inc. 7068 Koll Center Parkway, Suite 401 Pleasanton, CA 94566 Facsimile: (925) 249-4040 Attn: Barry Michaels With a copy to: Shearman & Sterling 1080 Marsh Road Menlo Park, CA 94025-1022 Facsimile: (650) 838-3699 Attn: James B. Bucher, Esq. If to Dr. Radlick: Phillip C. Radlick, Ph.D. 1022 McCauley Road Danville, CA 94526 Facsimile: (925) 820-9623 4 Notices, demands and other communications shall be deemed given on delivery thereof, or in the case of delivery by first-class mail, notice shall be effective five days after deposit in a U.S. Postal Service office or mailbox. 11. Restrictive Covenants. (a) No Interference. During the Advising Period and for one year thereafter, Dr. Radlick shall not, either himself or through any agent, whether for his own account or for the account of any other individual, partnership, firm, corporation or other business organization, intentionally solicit, endeavor to entice away from the Company, its subsidiaries and affiliates, or otherwise interfere with the relationship of the Company, its subsidiaries and affiliates with, any individual who is employed by or otherwise engaged to perform services for the Company, its subsidiaries and affiliates as of the last day of the Advising Period. (b) Secrecy. Dr. Radlick recognizes that the services that he has performed for the Company and that are to be performed by him hereunder are special, unique and extraordinary in that, by reason of his employment with the Company, he may acquire confidential information and trade secrets concerning the operation of the Company, the use or disclosure of which could cause the Company substantial losses and damages that could not be readily calculated and for which no remedy at law would be adequate. Accordingly, Dr. Radlick covenants and agrees with the Company that he will not at any time, except in performance of his obligations hereunder or with the prior written consent of the Company, directly or indirectly disclose to any person any secret or confidential information that he may learn or has learned by reason of his association with the Company. The term "confidential information" means any information not previously disclosed or otherwise available to the public or to the trade with respect to the products, facilities and methods, trade secrets and other intellectual property, systems, procedures, manuals, confidential reports, product price lists, customer lists, financial information, business plans, prospects or opportunities of the Company, its subsidiaries and affiliates. 12. Entire Agreement. This Agreement, the Release, the Second Release, the Indemnification Agreement and the Confidentiality Agreement represent the entire agreement of the parties concerning the subject matter of this Agreement and shall supersede any and all previous contracts, arrangements or understandings with respect to such subject matter between the Company and Dr. Radlick. 13. Amendment. This Agreement may be amended at any time by mutual written agreement of the parties hereto. 14. Governing Law. The provisions of this Agreement shall be construed in accordance with, and governed by, the laws of the State of California, without regard to principles of conflict of laws. 15. Counterparts. This Agreement may be executed in one or more counterparts, each of which shall be deemed to be an original but all of which together will constitute one and the same instrument. 5 16. Acknowledgement. Dr. Radlick has executed this Agreement and the Release having had the benefit of independent legal advice. 17. Attorneys' Fees. In the event that any action is instituted by any party hereto under this Agreement to enforce or interpret any of the terms hereof, the prevailing party shall be entitled to be paid all reasonable costs and expenses, including reasonable attorneys' fees, incurred by the prevailing party with respect to such action. 18. Indemnification. The parties hereto acknowledge that Dr. Radlick will be deemed an agent of the Company for purposes of the Indemnification Agreement to the extent Dr. Radlick is engaged in activities at the request of the Company during the Advising Period and during the period he is providing services to the Company pursuant to Section 9 hereof . IN WITNESS WHEREOF, the Company and Dr. Radlick, intending to be legally bound have executed this Agreement on the day and year first above written. LIPID SCIENCES, INC. By: /s/ Barry Michaels ------------------------------------- Name: Barry Michaels Title: Chief Financial Officer PHILLIP C. RADLICK, Ph.D. /s/ Phillip C. Radlick ---------------------------------------- 6 EXHIBIT A RELEASE AGREEMENT THIS RELEASE AGREEMENT (the "Release") is made as of this October 15, 2002, by and between Phillip C. Radlick, Ph.D. (the "Employee"), and Lipid Sciences, Inc. (the "Company"). In consideration of the mutual agreements set forth below, the Employee and the Company hereby agree as follows: 1. RELEASE OF CLAIMS AGAINST THE COMPANY: For good and valuable consideration, including the payments and benefits set forth in the Agreement, dated October 15, 2002 (the "Agreement"), of which this Release forms a part, which includes special enhancements to which the Employee would not otherwise be entitled under current company policies, plans, and guidelines, the Employee hereby knowingly, voluntarily, and willingly releases, discharges, and covenants not to sue the Company and its direct and indirect parents, subsidiaries, affiliates and related companies, past and present, as well as each of its and their directors, officers, employees, agents of the foregoing, representatives, advisers, including, members of the Scientific Advisory Board and Viral Advisory Board of the Company, attorneys, trustees, insurers, assigns, successors, and agents, past and present (collectively hereinafter referred to as the "Released Parties"), from and with respect to any and all actions, claims, or lawsuits, whether known or unknown, suspected or unsuspected, in law or in equity, which the Employee, and his heirs, executors, administrators, successors, assigns, dependents, descendants, and attorneys ever had, now have, or hereafter can, shall or may have against the Released Parties, arising out of or in any way relating to the Employee's employment by the Company and its subsidiaries and affiliates, his separation from that employment, including, without limitation, the following: a. any and all claims arising out of contract (whether oral or written, express or implied), statute (including, without limitation, the Unfair Dismissals Act 1977-1993, the Redundancy Payments Act 1967-1991, the Minimum Notice and Terms of Employment Acts, 1973-1991, the Organization of Working Time Act 1997, and the Employment Equality Act 1998), common law or otherwise; b. any and all claims arising under the Employee Retirement Income Security Act of 1974, the Civil Rights Acts of 1866 and 1867, Title VII of the Civil Rights Act of 1964, as amended, the Civil Rights and Women's Equity Act of 1991, Sections 1981 through 1988 of Title 42 of the United States Code, as amended, the Occupational Safety and Health Act of 1970, the Consolidated Omnibus Budget Reconciliation Act of 1985, the Family and Medical Leave Act of 1993, the Worker Adjustment and Retraining Notification Act of 1988, the Vocational Rehabilitation Act of 1973, the Equal Pay Act of 1963, the Americans with Disabilities Act, the Fair Labor Standards Act and the National Labor Relations Act, as amended, the California Fair Employment and Housing Act, the California Unruh Civil Rights Act, the California Equal Pay Law, any other federal or state anti-discrimination law or any local or municipal ordinance relating to discrimination in employment or human rights and under the common law; or c. any and all claims for salary, bonus, severance pay, pension, vacation pay, life insurance, health or medical insurance, or any other fringe benefits, other than the payments and benefits provided for in or in accordance with the Agreement. The Employee acknowledges that he may hereafter discover claims or facts in addition to or different from those which he now knows or believes to exist with respect to the subject matter of this Release and which, if known or suspected at the time of executing this Release, may have materially affected this Release or his decision to enter into it. Nevertheless, the Employee hereby waives any right, claim, or cause of action that might arise as a result of such different or additional claims or facts and Employee hereby expressly waives any and all rights and benefits conferred upon Employee by the provisions of Section 1542 of the Civil Code of the State of California, which provides as follows: "A general release does not extend to claims which the creditor does not know or suspect to exist in his favor at the time of executing the release, which if known by him must have materially affected his settlement with the debtor." 2. ADEA RELEASE: In recognition of the consideration provided in the Agreement, the Employee hereby releases and discharges the Released Parties from any and all claims, actions and causes of action that he may have against the Released Parties arising under the U.S. Age Discrimination in Employment Act of 1967, as amended, and the applicable rules and regulations promulgated thereunder ("ADEA"). The Employee acknowledges that he understands that ADEA is a federal statute that prohibits discrimination on the basis of age in employment, benefits and benefit plans. By signing this Release, the Employee hereby acknowledges and confirms the following: (a) He is providing the release and discharge set forth in this Section 2 in exchange for consideration in addition to anything of value to which he is already entitled. (b) He was hereby advised by the Company in writing to consult with an attorney of his choice prior to signing this Release and to have such attorney explain to his the terms of this Release including, without limitation, the terms relating to his release of claims arising under ADEA. (c) He has read this Release carefully and completely and understands each of the terms thereof. (d) He is aware that he has twenty-one days in which to consider the terms of this Release, which the Employee has knowingly and voluntarily waived by accepting the terms of the offer as described herein. For a period of seven days following his acceptance hereof, the Employee has the right to revoke the release contained in this Section 2 (the "Revocation Period") commencing immediately following the date he signs and delivers this Release A-2 to the Company. The Revocation Period shall expire at 5:00 p.m. E.S.T. on the last day of the Revocation Period; provided, however, that if such seventh day is not a business day, the Revocation Period shall extend to 5:00 p.m. on the next succeeding business day. No such revocation by shall be effective unless it is in writing and signed by the Employee and received by the Company prior to the expiration of the Revocation Period. The Employee further understands that this right to revoke the release contained in this Section 2 relates only to this section and does not act as a revocation of any other term of the Agreement and the Release. 3. CONTINUING OBLIGATIONS: This Release shall not supersede any continuing obligations the Employee has under the terms of the Agreement or the Employee Information and Inventions Agreement dated as of June 1, 2000 between the Company and Dr. Radlick. Both of the parties agree that nothing in this Release shall in any way be construed to affect either party's rights under any applicable indemnification agreement or insurance policy and nothing contained herein shall be interpreted in an applicable manner so as to violate any provision of such agreement or policy. 4. CHOICE OF LAW: This Release and the rights and obligations of the parties hereunder shall be governed by and construed and enforced in accordance with the laws of the State of California, without regard to principles of conflict of laws. IN WITNESS WHEREOF, the Company and the Employee, intending to be legally bound, have executed this Release on the day and year first above written. LIPID SCIENCES, INC. By: /s/ Barry Michaels ------------------------------------- Name: Barry Michaels Title: Chief Financial Officer PHILLIP C. RADLICK, Ph.D. /s/ Phillip C. Radlick ---------------------------------------- A-3 EXHIBIT B RELEASE AGREEMENT THIS RELEASE AGREEMENT (the "Release") is made as of this October 15, 2003, by and between Phillip C. Radlick, Ph.D. ("Dr. Radlick"), and Lipid Sciences, Inc. (the "Company"). In consideration of the mutual agreements set forth below, Dr. Radlick and the Company hereby agree as follows: 1. RELEASE OF CLAIMS AGAINST THE COMPANY: For good and valuable consideration, including the payments and benefits set forth in the Agreement, dated October 15, 2002 (the "Agreement"), of which this Release forms a part, which includes special enhancements to which Dr. Radlick would not otherwise be entitled under current company policies, plans, and guidelines, Dr. Radlick hereby knowingly, voluntarily, and willingly releases, discharges, and covenants not to sue the Company and its direct and indirect parents, subsidiaries, affiliates and related companies, past and present, as well as each of its and their directors, officers, employees, agents of the foregoing, representatives, advisers, including, members of the Scientific Advisory Board and Viral Advisory Board of the Company, attorneys, trustees, insurers, assigns, successors, and agents, past and present (collectively hereinafter referred to as the "Released Parties"), from and with respect to any and all actions, claims, or lawsuits, whether known or unknown, suspected or unsuspected, in law or in equity, which Dr. Radlick, and his heirs, executors, administrators, successors, assigns, dependents, descendants, and attorneys ever had, now have, or hereafter can, shall or may have against the Released Parties 2. WAIVER. Dr. Radlick acknowledges that he may hereafter discover claims or facts in addition to or different from those which he now knows or believes to exist with respect to the subject matter of this Release and which, if known or suspected at the time of executing this Release, may have materially affected this Release or his decision to enter into it. Nevertheless, Dr. Radlick hereby waives any right, claim, or cause of action that might arise as a result of such different or additional claims or facts and Dr. Radlick hereby expressly waives any and all rights and benefits conferred upon Dr. Radlick by the provisions of Section 1542 of the Civil Code of the State of California, which provides as follows: "A general release does not extend to claims which the creditor does not know or suspect to exist in his favor at the time of executing the release, which if known by him must have materially affected his settlement with the debtor." 3. CONTINUING OBLIGATIONS: This Release shall not supersede any continuing obligations Dr. Radlick has under the terms of the Agreement, Dr. Radlick Confidential Information and Inventions Agreement dated as of June 1, 2000 between the Company and Dr. Radlick or the Release Agreement dated as of October 15, 2002 between the Company and Dr. Radlick. Both of the parties agree that nothing in this Release shall in any way be construed to affect either party's rights under any applicable indemnification agreement or insurance policy and nothing contained herein shall be interpreted in an applicable manner so as to violate any provision of such agreement or policy. 4. CHOICE OF LAW: This Release and the rights and obligations of the parties hereunder shall be governed by and construed and enforced in accordance with the laws of the State of California, without regard to principles of conflict of laws. IN WITNESS WHEREOF, the Company and Dr. Radlick, intending to be legally bound, have executed this Release on the day and year first above written. LIPID SCIENCES, INC. By: /s/ Barry Michaels ------------------------------------- Name: Barry Michaels Title: Chief Financial Officer PHILLIP C. RADLICK, Ph.D. /s/ Phillip C. Radlick ---------------------------------------- B-2 EX-10.25 8 p67608exv10w25.txt EX-10.25 EXHIBIT 10.25 CONFIDENTIAL SEPARATION AGREEMENT AND GENERAL RELEASE This Confidential Separation Agreement and General Release (this "Agreement") between Lipid Sciences, Inc., a Delaware corporation (the "Company"), and Barry D. Michaels (the "Employee") dated as of January 28, 2003 sets forth the understanding and agreement between the Company and the Employee regarding the terms and conditions of the Employee's separation of employment with the Company. THE EMPLOYEE IS HEREBY ADVISED TO CONSULT WITH AN ATTORNEY BEFORE SIGNING THIS AGREEMENT. In consideration of the mutual promises and commitments made in this Agreement, and intending to be legally bound, the Company on the one hand, and the Employee on the other hand, agree to the terms set forth in this Agreement. 1. Termination of Service. Effective as of the date of this Agreement (the "Termination Date"), pursuant to Section 4 of the Employment Agreement dated March 4, 2002 between the Company and the Employee (the "Employment Agreement"), the Employment Agreement is hereby terminated and the Employee's employment and positions, including his position as Chief Financial Officer, and other relationships of any kind and in any capacity with the Company, its parent, subsidiaries and related corporations, and their predecessors and successors (the "Related Organizations") are hereby terminated. The Employee agrees and acknowledges that as of the Termination Date the Employee's employment relationship with the Company and any of its Related Organizations has ended, and that neither the Company nor any of its Related Organizations has any obligation to hire, rehire or employ the Employee. 2. Accrued Amounts. On the Termination Date the Company shall pay to the Employee a gross amount equal to $23,093.42, representing 72 hours of accrued but unpaid salary and 141.5 hours of accrued but unused paid time off, both of the foregoing as of the Termination Date, less applicable payroll withholding deductions for taxes (including federal, FICA, Medicare, state, local and unemployment compensation). 3. Severance Payments and Benefits. (a) The Company shall continue to pay to the Employee his salary, at the rate in effect as of the Termination Date, for a period of thirteen (13) months commencing on the date that next follows the expiration of the Revocation Period (as defined below) (the "Severance Period") in accordance with the payroll practices of the Company then in effect (the "Severance Payments"). From the gross amount of the Severance Payments, the Company will determine and withhold payroll deductions for taxes (federal, FICA, Medicare, state, local and unemployment compensation). (b) Commencing on the date that next follows the expiration of the Revocation Period the Employee shall be entitled to continue participation in the Company's employee benefit plans and programs at the Company's cost, at the level the Employee participated in the plans and programs as of the Termination Date for a period that shall end on the earlier of the last day of the Severance Period and the day that the Employee is entitled to comparable employee benefits in the aggregate under plans or programs of a subsequent employer. (c) The Employee shall have the right to exercise until April 2, 2011 the option that the Company granted to the Employee pursuant to the Incentive Stock Option Agreement dated April 2, 2001 (the "Option") with respect to 142,910 shares, which the parties hereto acknowledge is the number of shares that will have vested and be exercisable as of thirty (30) days following the Termination Date (termination of service date for purposes of the Option). The parties hereto acknowledge and agree that the remaining shares subject to the Option that are not vested as of the Termination Date shall be forfeited as of such date. (d) The first Severance Payment shall include an amount representing paid time off that would have accrued during the thirty (30)-day period following the Termination Date (amount equal to 13 hours of paid time off). (e) The Employee acknowledges and agrees that the Company's obligations under Section 3 arise under this Agreement, are in consideration for the Employee's signing of this Agreement, and constitute consideration to which the Employee is not otherwise entitled. 4. General Release. (a) When used in this Agreement, the term "Released Parties" means the Company, any and all of its past and present, direct or indirect parents, subsidiaries and affiliated corporations, companies, partnerships, joint ventures, compensation plans, benefit plans and other entities, and its past and present directors, trustees, advisers, including, members of the Scientific Advisory Board and Viral Advisory Board of the Company, officers, managers, partners, supervisors, employees, attorneys, members, agents and consultants, and their predecessors, successors and assigns, and all persons or entities acting by, with, through, under or in concert with any of them. (b) When used in this Agreement, the word "Claims" means: (i) each and every claim, complaint, cause of action, grievance, demand, allegation, or accusation, whether known or unknown, whether suspected or unsuspected, and whether fixed, vested or contingent, and (ii) each and every promise, assurance, contract, representation, obligation, guarantee, warranty, liability, right and commitment of any kind, whether known or unknown, whether suspected or unsuspected, and whether fixed, vested or contingent, and (iii) all forms of relief, including, but not limited to, all costs, expenses, losses, damages, debts, attorneys' fees, litigation costs and expenses and experts' fees, whether known or unknown, whether suspected or unsuspected, and whether fixed, vested or contingent. (c) By signing this Agreement, the Employee expressly waives all rights (to the extent the Employee has any rights) afforded by any statute in any jurisdiction that limits the effect of a release with respect to unknown Claims. The foregoing does not mean or imply that the Employee has, or would have, any rights under any such statute in the absence of this waiver. The Employee understands the significance of the Employee's release of unknown Claims. Without limiting the scope of the foregoing, the Employee also agrees, understands and recognizes that, by executing this Agreement, the Employee hereby expressly waives any and all rights and benefits conferred upon the Employee by the provisions of Section 1542 of the Civil Code of the State of California, which provides as follows: 2 "A general release does not extend to claims which the creditor does not know or suspect to exist in his favor at the time of executing the release, which if known by him must have materially affected his settlement with the debtor." THIS MEANS THAT (EXCEPT AS EXPRESSLY PROVIDED HEREIN) BY SIGNING THIS AGREEMENT, THE EMPLOYEE WILL HAVE WAIVED ANY RIGHT THE EMPLOYEE MAY HAVE HAD TO INITIATE ANY LEGAL ACTION OR MAKE ANY CLAIM AGAINST THE RELEASED PARTIES BASED ON ANY ACTS OR OMISSIONS OF THE RELEASED PARTIES UP TO THE DATE OF SIGNING OF THE AGREEMENT. (d) In consideration of the promises of the Company set forth in this Agreement, and intending to be legally bound, the Employee hereby irrevocably releases and forever discharges all Released Parties of and from any and all Claims that the Employee (on behalf of either the Employee or any other person or persons) ever had or now has against any and all of the Released Parties, or which the Employee (or the Employee's heirs, executors, administrators or assigns or any of them) hereafter can, shall or may have against any and all of the Released Parties, for or by reason of any cause, matter, thing, omission, occurrence or event whatsoever from the date of the Employee's birth to the date the Employee has signed this Agreement. The Employee acknowledges and agrees that the Claims released under this Agreement include, but are not limited to, (i) any and all Claims based on any law, statute, or constitution or based on contract or in tort or on common law, including, but not limited to, all Claims based on or arising under Title VII of the Civil Rights Act of 1964, the Rehabilitation Act of 1973, the Americans With Disability Act of 1990, the Civil Rights Act of 1866, the Civil Rights Act of 1991, the Employee Retirement Income Security Act of 1974, the Family Medical Leave Act of 1993, the California Fair Employment and Housing Act, the California Workers' Compensation Act, the California Unruh and Ralph Civil Rights Laws, the California Alcohol and Drug Rehabilitation Law, as each of the foregoing is amended from time to time, and (ii) any and all Claims under any grievance of complaint procedure of any kind, and (iii) any and all Claims based on or arising out of or related to the Employee's recruitment by, employment with, the termination of the Employee's employment with, the Employee's performance of any services in any capacity for, or any business transaction with, each or any of the Released Parties, and (iv) any and all Claims in connection with, or arising from, any lawsuit or proceeding brought by any person or entity other than the Employee (including, but not limited to, Claims brought by any administrative agency, department or commission). 5. ADEA Release. In consideration of the promises of the Company set forth in this Agreement, the Employee hereby releases and discharges the Released Parties from any and all Claims that the Employee may have against the Released Parties arising under the U.S. Age Discrimination in Employment Act of 1967, as amended, and the applicable rules and regulations promulgated thereunder ("ADEA"). The Employee acknowledges that the Employee understands that the ADEA is a federal statute that prohibits discrimination on the basis of age in employment, benefits and benefit plans. The Employee also understands that, by signing this Agreement, the Employee is waiving all Claims against any and all of the Released Parties released by this Agreement. 3 By signing this Release, the Employee hereby acknowledges and confirms the following: (a) The Employee is providing the release and discharge set forth in this Agreement in exchange for consideration in addition to anything of value to which the Employee is already entitled. (b) The Employee was hereby advised by the Company in writing to consult with an attorney of the Employee's choice prior to signing this Agreement and to have such attorney explain to the Employee the terms of this Agreement including, without limitation, the terms relating to his release of claims arising under the ADEA. (c) The Employee has read this Agreement carefully and completely and understands each of the terms thereof. (d) The Employee is aware that he has twenty-one (21) days in which to consider the terms of the release contained in this Agreement. To the extent the Employee has executed this Agreement within less than twenty-one (21) days after its delivery to the Employee, the Employee hereby acknowledges that the Employee's decision to execute this Agreement prior to the expiration of such twenty-one (21)-day period was entirely voluntary. For a period of seven days following the Employee's execution and delivery of this Agreement, the Employee has the right to revoke the release contained in this Agreement (the "Revocation Period") commencing immediately following the date the Employee signs and delivers this Agreement to the Company. The Revocation Period shall expire at 5:00 p.m. California time on the last day of the Revocation Period; provided, however, that if such seventh day is not a business day, the Revocation Period shall extend to 5:00 p.m. on the next succeeding business day. No such revocation by the Employee shall be effective unless it is in writing and signed by the Employee and received by the Company prior to the expiration of the Revocation Period. (e) As set forth in section 7(f)(1)(C) of the ADEA, as added by the Older Workers Benefit Protection Act of 1990, the Employee understands that the Employee is not waiving any rights or Claims provided under ADEA that may arise after this Agreement is executed by the Employee. 6. Confidential Information. As used in this Agreement, the term "Affiliated Companies" means the Company's clients, subcontractors and other companies or individuals with which the Company carries on business or joint enterprises. As used in this Agreement, the term "Confidential Information" means any and all information disclosed, acquired or known to the Employee as a result of employment with the Company or any of the Affiliated Companies, 4 including, without limitation, any information gathered or developed by the Employee and relating to the business of the Company or any of the Affiliated Companies. Confidential Information includes, without limitation, all documents pertaining to the business of the Company or any of the Affiliated Companies, including trade secrets, technical and financial information, data, designs, systems drawings, proposals, client lists, client records, economic and financial analysis, financial data, customer contracts, notes, memoranda, books, correspondence, manuals, reports or research, whether developed by the Company or any of the Affiliated Companies or developed by the Employee acting alone or jointly with the Company or any of the Affiliated Companies, any product development and ideas, apparatus as well as all other information, written, oral, graphic or computerized relating to the business of the Company or any of the Affiliated Companies, provided that such information was not publicly disclosed by the Company or any of the Affiliated Companies or known to the Employee before employment with the Company. The Employee represents and warrants that the Employee shall at all times, including following the termination of the Employee's employment with the Company, keep secret and retain in strictest confidence all Confidential Information, and except as the Employee may be authorized by the Company or Affiliated Companies in writing, the Employee agrees not to publish or disclose to any person or entity, or use in any manner, such Confidential Information. The Employee's obligations under this Section 6 supplement, and do not limit or replace, any other obligations that the Employee may have including, but not limited to, obligations under statute, common law or contract. 7. Return of Property to Company. The Employee represents and warrants that the Employee has returned to the Company all written, descriptive or tangible matter containing Confidential Information, including all copies thereof, which was developed or compiled by the Employee or made available to the Employee in the course of employment with the Company, including without limitation, drawings, blueprints, tapes, disks, codes, descriptions or other papers, documents or materials that contain any such Confidential Information. Furthermore, the Employee represents and warrants that the Employee has returned all Company property including, without limitation, all computer (hardware and software) and business equipment, drawings, designs, specifications, tapes, disks, codes, notes, memoranda or data made available or furnished to the Employee by, or obtained by the Employee from, the Company or any of the Affiliated Companies, and any copies thereof, whether or not they contain Confidential Information. 8. Full Satisfaction. (a) The Employee acknowledges and agrees that, upon satisfaction by the Company of its obligations under Section 3 of this Agreement and except as forth in Section 8(b), the Employee has received all compensation and other payments to which the Employee is or may be entitled by reason of the Employee's employment or termination of employment with the Company and/or any of its Related Organizations. (b) Notwithstanding anything in this Agreement to the contrary, the parties are not waiving or changing any rights, claims, conditions, requirements, or defenses in connection with the following matters: (i) the Employee's 401(k) account and; (ii) the reimbursement to the Employee of reasonable and necessary business expenses incurred by the Employee on or before the Termination Date, on behalf of the Company, and reported and 5 properly documented on expense reports, in accordance with and subject to the requirements of the Company's expense reimbursement practices. (c) The Employee warrants and agrees that no promise, other than the promises in this Agreement, has been made to the Employee. The Employee warrants and agrees that by signing this Agreement the Employee is not relying upon any statement or representation made by or on behalf of the Released Parties and each or any of them concerning the merits or value of any Claims or concerning any other thing or matter. The Employee warrants and agrees that the Employee is relying solely upon the Employee's own judgment and that before signing this Agreement the Employee has read it. 9. No Disclosure of Agreement. The Employee agrees to keep the terms of this Agreement confidential. The Employee shall not disclose or publicize the terms of this Agreement and the amount paid or agreed to be paid pursuant to this Agreement to any person or entity, except to the Employee's spouse, attorney, accountant, financial advisor and/or to a government agency for the purpose of payment or collection of taxes or application for unemployment compensation benefits. The parties hereto acknowledge that this provision shall not in any way prevent either party from making truthful statements that are required by applicable law or government regulations or required in connection with legal or judicial proceedings. 10. Non-Disparagement. The Employee covenants and agrees that the Employee shall not make any statement, written or oral, in disparagement of the Company or any of its officers, shareholders, directors, employees, agents, or associates (including, but not limited to, negative references to each or any of the Company's products, services, or corporate policies) to the general public and/or the Company's employees, potential employees, customers, suppliers, potential suppliers, business partners, and/or potential business partners. The Company shall not make any statement, written or oral, in disparagement of the Employee to the general public or employers or prospective employers, or business partners or prospective business partners, of the Employee. The parties hereto acknowledge that this provision shall not in any way prevent either party from making truthful statements that are required by applicable law or government regulations or required in connection with legal or judicial proceedings. 11. No Admission. The Employee acknowledges and agrees that neither the offer of this Agreement, nor the acceptance of this Agreement, nor the Agreement itself is an admission, or shall be construed to be an admission, or any wrongdoing or liability by each or any of the Released Parties; moreover, any such liability or wrongdoing is denied by the Released Parties and each or any of them. Neither the offer of this Agreement, nor any of its terms, shall be admissible as evidence of any liability or wrongdoing by each or any of the Released Parties in any judicial, administrative or other proceeding now pending or hereafter instituted by any person or entity. 12. Enforcement; Severability. All provisions and portions of this Agreement are severable. If any provision or portion of this Agreement or the application of any provision or portion of this Agreement to any person, to any circumstance, or to any Claims, are determined to be invalid, void, voidable or unenforceable to any extent for any reason, (a) the application of such provision or portion of this Agreement to any other person, to any other 6 circumstance, or to any other Claims shall be unaffected thereby, and the remaining provisions and portions of this Agreement also shall be unaffected thereby; (b) all other provisions and portions of this Agreement shall remain in full force and shall continue to be enforceable to the fullest and greatest extent permitted by law; and (c) any provision or part of the Agreement found by any Court with jurisdiction to be invalid, void, voidable or unenforceable, may be construed or changed by the Court to the extent reasonably necessary to make the provision or part (as construed or changed), valid, enforceable and binding. The Employee acknowledges that a breach of any of the covenants contained in Sections 6, 7, 9 and 10 will result in material irreparable injury to the Company or any Related Organization for which there is no adequate remedy at law, that it will not be possible to measure damages for such injuries precisely and that, in the event of such a breach, the Employee agrees to promptly forfeit and return to the Company the entire consideration provided to the Employee under this Agreement and the Company shall be entitled to obtain a temporary restraining order and/or a preliminary or permanent injunction without bond or other security, restraining the Employee from engaging in activities prohibited by the applicable Sections or such other relief as may be required to specifically enforce any of the covenants in the applicable Section. The Employee agrees to and hereby submits to in personam jurisdiction before each and every relevant court as determined by the Company for that purpose. 13. Cooperation. The Employee agrees that, during the twelve-month period immediately following the Termination Date, he shall in good faith make himself available on a limited basis to assist, and cooperate with, the Company or any Related Organization, in connection with any matters relating to the business or affairs of the Company, its subsidiaries and affiliates, and any future governmental or regulatory investigation, civil or administrative proceeding, litigation or arbitration related to the business of the Company or any Related Organization or to the Employee's services as an officer, director or employee of the Company or any Related Organization. The Employee shall provide such assistance and cooperation at such time and place and in such manner as may be reasonably required by the Company from time to time. The Company shall promptly reimburse the Employee for reasonable expenses incurred by the Employee in connection with providing services contemplated under this Section 13 upon submission by the Employee of receipts documenting the expenses. 14. Governing Law. This Agreement is made and entered into by the Company in the State of California. The Agreement shall in all respects be governed by and interpreted under and in accordance with the laws of the State of California. The breach of any promise in this Agreement by any party shall not invalidate the Agreement or the release and shall not be a defense to the enforcement of the Agreement against any party. 15. Final Agreement. This Agreement and the Indemnification Agreement dated November 29, 2001 between the Company and the Employee (the "Indemnification Agreement") constitute a complete and final agreement between the parties and supersede and replace all prior or contemporaneous agreements, negotiations, or discussions relating to the subject matter of this Agreement, including, without limitation, the Employment Agreement. This Agreement shall not be modified or changed except by written instrument executed by all parties. 7 16. No Attorney Fees or Expenses. The Employee acknowledges and agrees that the Company is not obligated to pay any of the Employee's attorneys' fees, costs or expenses relating to this Agreement and that the release set forth in this Agreement releases all Claims for attorneys' fees, costs and expenses including, but not limited to experts' fees and all litigation costs and expenses. The parties hereto acknowledge that nothing in this Section 16 shall impair the Employee's rights under the Indemnification Agreement. 17. Photocopies; Counterparts. All executed copies of this Agreement and photocopies thereof shall have the same force and effect and shall be as legally binding and enforceable as the original. This Agreement may be executed in counterparts, each of which shall constitute a single instrument. 18. Acceptance of Agreement. The Employee may accept this Agreement by executing it and returning it to: Ms. Sandy Gardiner - Chief Accounting Officer, Lipid Sciences, Inc., 7068 Koll Center Parkway, Suite 401, Pleasanton, California 94566. The offer of this Agreement will be accepted by the Employee upon actual receipt by the Company of the executed Agreement. 19. Successors. This Agreement shall inure to the benefit of the Company and its predecessors, successors and assigns, and to the benefit of the Employee and the Employee's heirs, administrators and executors. 20. This Agreement is being signed by the Employee and for the Company with the intent to be legally bound. Dated: January 28, 2003 /s/ Barry Michaels ---------------------------------------- Barry Michaels Dated: January 28, 2003 LIPID SCIENCES, INC. BY: /s/ Sandra Gardiner ------------------------------------ Sandra Gardiner Chief Accounting Officer 8 EX-23.1 9 p67608exv23w1.txt EX-23.1 EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in Registration Statement Nos. 333-44017 and 333-88530 on Form S-8 of Lipid Sciences, Inc. of our report dated March 14, 2003, appearing in this Annual Report on Form 10-K of Lipid Sciences, Inc. for the year ended December 31, 2002. DELOITTE & TOUCHE LLP San Francisco, California March 27, 2003 EX-23.2 10 p67608exv23w2.txt EX-23.2 EXHIBIT 23.2 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the incorporation by reference in Post Effective Amendment No. 1 to the Registration Statements (Form S-8 Nos. 333-88530 and 333-44017) pertaining to the New Mexico and Arizona Land Company 1997 Stock Incentive Plan, the Lipid Sciences, Inc. 2001 Performance Equity Plan, the Lipid Sciences, Inc. 2000 Stock Option Plan, as amended, and Individual Non-Qualified Stock Option Agreements with certain consultants and a director of Lipid Sciences, Inc., of our report dated March 13, 2001, with respect to the 2000 financial statements of Lipid Sciences, Inc. (Pre-Merger Lipid), included in this Annual Report (Form 10-K) of Lipid Sciences, Inc. for the year ended December 31, 2002 filed with the Securities and Exchange Commission. /s/ Ernst & Young LLP Palo Alto, California March 27, 2003 EX-99.1 11 p67608exv99w1.htm EX-99.1 exv99w1


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

		For the fiscal year ended December 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


Delaware		43-0433090
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)


EXPLANATORY NOTE
FORWARD-LOOKING STATEMENTS
PART I
	ITEM 1. BUSINESS
	ITEM 2: PROPERTIES
	ITEM 3. LEGAL PROCEEDINGS
	ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
PART II
	ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS
	ITEM 6. SELECTED FINANCIAL DATA
	ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
	ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
	ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
	ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
PART III
	ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
	ITEM 11. EXECUTIVE COMPENSATION
	ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
	ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
	ITEM 14. CONTROLS AND PROCEDURES
PART IV
	ITEM 15. EXHIBITS AND REPORTS ON FORM 8-K
SIGNATURES
CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
CERTIFICATION OF CHIEF ACCOUNTING OFFICER
INDEX TO EXHIBITS
EX-4.1
EX-10.1
EX-10.4
EX-10.23
EX-10.24
EX-10.25
EX-23.1
EX-23.2
EX-99.1
EX-99.2


			Page
			No.

EXPLANATORY NOTE				i
FORWARD LOOKING STATEMENTS				ii
PART I				1
	ITEM 1.	Business		1
	ITEM 2.	Properties		17
	ITEM 3.	Legal Proceedings		17
	ITEM 4.	Submission of Matters to a Vote of Security Holders		17
PART II				18
	ITEM 5.	Market for Registrant’s Common Equity and Related Stockholder Matters		18
	ITEM 6.	Selected Financial Data		19
	ITEM 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		20
	ITEM 7A.	Quantitative and Qualitative Disclosures About Market Risk		28
	ITEM 8.	Financial Statements and Supplementary Data		F-1
	ITEM 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure		29
PART III				30
	ITEM 10.	Directors and Executive Officers of the Registrant		30
	ITEM 11.	Executive Compensation		30
	ITEM 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholders Matters		30
	ITEM 13.	Certain Relationships and Related Transactions		30
	ITEM 14.	Controls and Procedures		30
PART IV				31
	ITEM 15.	Exhibits and Reports on Form 8-K		31
SIGNATURES				32
CERTIFICATIONS				33
INDEX TO EXHIBITS				35



	2002				2001				2000

	High		Low		High		Low		High		Low

First Quarter	$	8.080	$	5.500	$	4.000	$	3.125	$	5.625	$	4.875
Second Quarter		6.740		3.460		5.550		3.700		5.375		4.875
Third Quarter		4.960		2.600		9.960		4.400		5.000		4.250
Fourth Quarter		3.010		1.020		9.610		6.850		4.688		2.938


	*If we are unable to obtain adequate funds, we may not be able to develop and market our potential products.*


	Our technology is only in the clinical development stage, may not prove to be safe or effective, and may never receive regulatory approval, which would significantly harm our business prospects.


	*Our future clinical studies may be delayed or unsuccessful.*


	*We depend on our license agreement with Aruba International Pty. Ltd. that may, if terminated, significantly harm our business.*


	We intend to rely on collaborations in order to further develop our products. If these collaborations are unsuccessful, the development of our products could be adversely affected and we may incur significant unexpected costs.


	*If we fail to secure and then enforce patents and other intellectual property rights underlying our technologies, we may be unable to compete effectively.*


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


	*We depend on key personnel and need to fill the vacancy in the position of Chief Executive Officer and President.*


	An economic downturn in the real estate market could adversely affect our ability to complete the disposal of assets included in the discontinued operations plan and generate funds for our continuing operations.


	*Our stock price may be volatile and there may not be an active trading market for our common stock.*


ITEM 1.	BUSINESS


ITEM 3.	LEGAL PROCEEDINGS


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


ITEM 6.	SELECTED FINANCIAL DATA


	*Existing stockholders may experience substantial dilution.*


ITEM 5.	MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS


Years Ended December 31, 2002, December 31, 2001 and
Period From Inception (May 21, 1999) to December 31, 2000⁽¹⁾	2002			2001⁽²⁾			2000⁽³⁾


	(In thousands, except per share data)
Consolidated Statement of Operations Data:
Gross Revenue from continuing operations	$	—		$	—		$	—
Net Loss from continuing operations		(15,403	)		(13,691	)		(2,993	)
Net loss per share from continuing operations	$	(0.73	)	$	(0.87	)	$	(0.34	)
Weighted average number of shares used in computing basic and diluted earnings per share		21,152			15,801			8,877


ITEM 7.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS


ITEM 7A.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK


ITEM 9.	CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE


ITEM 10.	DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT


ITEM 12.	SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS


ITEM 13.	CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS


	Page
	No.

Independent Auditors’ Report — Deloitte & Touche LLP		F-1
Report of Ernst & Young LLP, Independent Auditors		F-2
Consolidated Balance Sheets at December 31, 2002 and 2001		F-3
Consolidated Statements of Operations for the years ended December 31, 2002 and 2001, period from Inception (May 21, 1999) to December 31, 2000 and cumulative period from Inception (May 21, 1999) to December 31, 2002		F-4
Consolidated Statements of Stockholders’ Equity for the period from Inception (May 21, 1999) to December 31, 2000 and for the years ended December 31, 2001 and 2002		F-5
Consolidated Statements of Cash Flows for the years ended December 31, 2002 and 2001, period from Inception (May 21, 1999) to December 31, 2000 and cumulative period from Inception (May 21, 1999) to December 31, 2002		F-6
Notes to Consolidated Financial Statements		F-8



			December 31,

			2002			2001


			(In thousands, except
			share amounts)
ASSETS
	Current assets:
	Cash and cash equivalents		$	18,552		$	12,811
	Short-term investments			2,000			—
	Prepaid expenses and other current assets			537			111
	Income tax receivable			—			516
	Current deferred tax asset			—			497
	Other current assets			36			—
	Current assets of discontinued operations			16,908			19,810

Total current assets				38,033			33,745

	Property and equipment			1,175			786
	Restricted cash			316			527
	Non-current deferred tax asset			—			1,544
	Non-current assets of discontinued operations			—			42,630

Total assets			$	39,524		$	79,232


LIABILITIES AND STOCKHOLDERS’ EQUITY
	Current liabilities:
		Accounts payable and accrued liabilities	$	2,226		$	1,783
		Related party payables		825			2,000
		Accrued royalties		250			250
		Accrued compensation		370			235
		Income taxes payable		39			—
		Other current liabilities		—			—
		Current liabilities of discontinued operations		172			1,089

	Total current liabilities			3,882			5,357

	Deferred rent			36			25
	Long-term liabilities of discontinued operations			—			22,573

	Total long-term liabilities			36			22,598

Commitments and contingencies (Notes 5, 6, 7, 8, and 9)
Stockholders’ equity:
	Preferred stock, $0.001 par value; 10,000,000 shares authorized and issuable; no shares outstanding			—			—
	Common stock, $0.001 par value; 75,000,000 shares authorized 21,141,455 and 21,246,222 shares issued and outstanding at December 31, 2002 and 2001, respectively			21			67,947
	Additional paid in capital			67,049			—
	Deficit accumulated in the development stage			(31,464	)		(16,670	)

Total stockholders’ equity				35,606			51,277

Total liabilities and stockholders’ equity			$	39,524		$	79,232


							Period from			Period from
							Inception			Inception
							(May 21,			(May 21,
	Year Ended			Year Ended			1999) to			1999) to
	December 31,			December 31,			December 31,			December 31,
	2002			2001			2000			2002


	(In thousands, except per share amounts)
Revenue	$	—		$	—		$	—		$	—
Operating expenses:
Research and development		15,094			11,799			2,212			29,105
Selling, general and administrative		6,630			4,405			1,188			12,223

Total operating expenses		21,724			16,204			3,400			41,328

Operating loss		(21,724	)		(16,204	)		(3,400	)		(41,328	)
Interest and other income		240			356			407			1,003

Loss from continuing operations		(21,484	)		(15,848	)		(2,993	)		(40,325	)
Income tax benefit		6,081			2,157			—			8,238

Net loss from continuing operations		(15,403	)		(13,691	)		(2,993	)		(32,087	)

Discontinued operations:
Income/(loss) from discontinued operations		973			(2	)		—			971
Income tax (expense)/benefit		(364	)		16			—			(348	)

Income from discontinued operations — net		609			14			—			623

Net loss	$	(14,794	)	$	(13,677	)	$	(2,993	)	$	(31,464	)

Earnings/(loss) per share — basic and diluted:
Net (loss) per share continuing operations	$	(0.73	)	$	(0.87	)	$	(0.34	)
Earnings per share discontinued operations	$	0.03		$	0.00		$	—
Net loss	$	(0.70	)	$	(0.87	)	$	(0.34	)
Weighted average number of common shares outstanding — basic and diluted		21,152			15,801			8,877


										Deficit
										Accumulated
	Common Stock									During the			Total
							Additional			Development			Stockholders’
	Shares			Amounts			Paid-in Capital			Stage			Equity


	(In thousands, except share and per share amounts)
Issuance of common stock for cash		3,000,000		$	30		$	220		$	—		$	250
Issuance of common stock for technology rights		3,000,000			30			220			—			250
Issuance of common stock for cash		3,180,949			32			10,991			—			11,023
Issuance of common stock for royalties		42,858			1			149			—			150
Issuance of common stock for services		32,000			—			160			—			160
Compensation associated with issuance of options to purchase common stock to consultants and advisors for services		—			—			567			—			567
Issuance of warrants to purchase common stock to consultant for services		—			—			216			—			216
Net loss		—			—			—			(2,993	)		(2,993	)

Balances, December 31, 2000		9,255,807			93			12,523			(2,993	)		9,623
Issuance of common stock for services		21,700			—			108			—			108
Issuance of common stock for cash		943,394			9			6,186			—			6,195
Compensation associated with issuance of options to purchase common stock to consultants and advisors for services		—			—			2,936			—			2,936
Issuance of warrants to purchase common stock in exchange for development services		—			—			848			—			848
Acquisition of common stock related to merger, net of $3,665 issuance costs, including repurchase of 1,505,402 shares of common stock in November 2001		5,311,534			45,244			—			—			45,244
Issuance of 1.55902 shares of common stock to Pre-Merger Lipid stockholders for every 1.0 shares of Pre-Merger Lipid common stock owned in connection with merger in November 2001		5,713,787			—			—			—			—
Merger adjustments to reclassify equity accounts to conform with capital structure of no par value		—			22,601			(22,601	)		—			—
Net loss		—			—			—			(13,677	)		(13,677	)

Balances, December 31, 2001		21,246,222			67,947			—			(16,670	)		51,277
Repurchase 104,767 shares at $7.00 for dissenters rights		(104,767	)		(470	)		—			—			(470	)
Additional issuance costs of merger		—			(248	)		—			—			(248	)
Compensation associated with issuance of options to purchase common stock to consultants and advisors for services		—			—			(159	)		—			(159	)
Adjustments to reclassify equity accounts to conform with Delaware capital structure, $0.001 par value		—			(67,208	)		67,208			—			—
Net Loss		—			—			—			(14,794	)		(14,794	)

Balance at December 31, 2002		21,141,455		$	21		$	67,049		$	(31,464	)	$	35,606


		(In thousands)
Current assets		$	21,706
Property and equipment			30,193
Commercial real estate loans			16,335
Notes and notes receivables			15,166
Investments in joint ventures			2,343

	Total assets acquired		85,743

Current liabilities			1,947
Long-term debt			14,908
Long-term deferred taxes			7,936

	Total liabilities assumed		24,791

	Net assets acquired	$	60,952



		Year Ended December 31,

		2002			2001			2000

Reported net loss		$	(14,794	)	$	(13,677	)	$	(2,993	)
	Compensation expense for stock options		(2,601	)		(1,671	)		(393	)
Pro forma net loss		$	(17,395	)	$	(15,348	)	$	(3,386	)
Basic EPS:
	As reported	$	(0.70	)	$	(0.87	)	$	(0.34	)
	Pro forma	$	(0.82	)	$	(0.97	)	$	(0.38	)
Diluted EPS:
	As reported	$	(0.70	)	$	(0.87	)	$	(0.34	)
	Pro forma	$	(0.82	)	$	(0.97	)	$	(0.38	)



	At December 31,

	2002		2001		2000

Stock options		5,738,963		4,546,087		2,775,060
Warrants to purchase common stock		1,091,314		1,091,314		935,412
Contingently issuable shares pursuant to stock rights		3,060,340		—		—

		9,890,617		5,637,401		3,710,472


In thousands at December 31,	2002			2001

Equipment	$	1,112		$	612
Leasehold improvements		368			232

		1,480			844
Less accumulated depreciation and amortization		(305	)		(58	)

	$	1,175		$	786


		Severance &			Lease
		Related Benefits			Termination

Accrual as of December 31, 2001		$	705,000		$	180,000
Amount paid during 2002			(86,000	)		—

	Accrued balance as of December 31, 2002	$	619,000		$	180,000



				Outstanding Options

							Weighted-
							Average
	Shares Available			Number of			Exercise
	for Grant			Shares			Price

Shares authorized		3,118,040			—		$	—
Options granted		(2,034,523	)		2,034,523			2.47

Balance at December 31, 2000		1,083,517			2,034,523			2.47
Additional shares authorized		5,000,000			—			—
Options granted		(1,127,175	)		1,127,175			4.16
Options forfeited		109,257			(109,257	)		3.21
Options assumed during merger		271,614			628,386			9.53

Balance at December 31, 2001		5,337,213			3,680,827			4.17
Additional shares authorized		500,000			—			—
Options granted		(1,297,894	)		1,297,894			5.34
Options forfeited		105,020			(105,020	)		4.66

Balance at December 31, 2002		4,644,339			4,873,701		$	4.47



	Options Outstanding						Options Exercisable

			Weighted-
			Average
			Remaining		Weighted-				Weighted-
	Number of		Contractual		Average		Number of		Average
	Shares		Life (In		Exercise		Shares		Exercise
Range of Exercise Prices	Outstanding		Years)		Price		Exercisable		Price

$ 1.55 - $ 3.21		2,217,212		7.53	$	2.53		1,153,675	$	2.56
3.50 - 5.13		1,289,929		8.06		4.38		547,824		4.48
6.00 - 9.67		1,074,960		8.72		6.62		514,673		7.29
10.46 - 13.11		291,600		6.96		11.76		291,600		11.76

$ 1.55 - $13.11		4,873,701		7.90	$	4.47		2,507,772	$	5.02