10-K

QuickLinks -- Click here to rapidly navigate through this document

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

FORM 10-K

(Mark One)
ý	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2002
or
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                                    to

Commission file number 0-19119

Cephalon, Inc.
(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)	23-2484489 (I.R.S. Employer Identification No.)
145 Brandywine Parkway, West Chester, Pennsylvania (Address of principal executive offices)	19380-4245 (Zip Code)

Registrant's telephone number, including area code: (610) 344-0200

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

Title of each class	Name of each exchange on which registered
None	None

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

Common Stock, par value $.01 per share

(Title of Class)

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

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Act of 1933). Yes ý    No o

The aggregate market value of the voting stock held by non-affiliates of the registrant, as of June 30, 2002, was approximately $2.5 billion. Such aggregate market value was computed by reference to the closing price of the Common Stock as reported on the Nasdaq National Market on June 30, 2002. For purposes of making this calculation only, the registrant has defined affiliates as including all directors and executive officers.

The number of shares of the registrant's Common Stock outstanding as of March 14, 2003 was 55,472,671.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant's definitive proxy statement for its 2003 annual meeting of stockholders are incorporated by reference into Items 10, 11, 12, and 13 of Part III of this Form 10-K.

TABLE OF CONTENTS

		Page
Cautionary Note Regarding Forward Looking Statements		3
PART I
Item 1.	Business	4
Item 2.	Properties	18
Item 3.	Legal Proceedings	18
Item 4.	Submission of Matters to a Vote of Security Holders	19
PART II
Item 5.	Market for Registrant's Common Equity and Related Stockholder Matters	21
Item 6.	Selected Financial Data	22
Item 7.	Management's Discussion and Analysis of Financial Condition and Results of Operations	24
Item 7A.	Quantitative and Qualitative Disclosure About Market Risk	42
Item 8.	Financial Statements and Supplementary Data	43
Item 9.	Changes In and Disagreements with Accountants on Accounting and Financial Disclosure	72
PART III
Item 10.	Directors and Executive Officers of the Registrant	73
Item 11.	Executive Compensation	73
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	73
Item 13.	Certain Relationships and Related Transactions	73
Item 14.	Controls and Procedures	73
PART IV
Item 15.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K	74
SIGNATURES		80
CERTIFICATIONS		81

2

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

        In addition to historical facts or statements of current condition, this report and the documents into which this report is and will be incorporated contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements contained in this report constitute our expectations or forecasts of future events as of the date this report was filed with the SEC and are not statements of historical fact. You can identify these statements by the fact that they do not relate strictly to historical or current facts. Such statements may include words such as "anticipate," "will," "estimate," "expect," "project," "intend," "should," "plan," "believe," "hope," and other words and terms of similar meaning in connection with any discussion of, among other things, future operating or financial performance, strategic initiatives and business strategies, regulatory or competitive environments, our intellectual property and product development. In particular, these forward-looking statements include, among others, statements about:

•

our dependence on sales of PROVIGIL, ACTIQ and GABITRIL and the market prospects and future marketing efforts for these products;



•

any potential expansion of the authorized uses of our existing products;



•

our anticipated scientific progress in our research programs and our development of potential pharmaceutical products including our ongoing or planned clinical trials, and the timing of revenues from these products, if any;



•

the timing and unpredictability of regulatory approvals, including with respect to our planned sNDA submission, and product rollout;



•

our ability to adequately protect our technology and enforce our intellectual property rights and the future expiration of patent and/or regulatory exclusivity on certain of our products;



•

our sales, costs, EBITDA and earnings per share projections and permitted, similar non-GAAP performance measures for 2003 and beyond, including our ability to maintain profitability in the future;



•

our future cash flow and our ability to raise additional funds, if needed; and



•

other statements regarding matters that are not historical facts or statement of current condition.

        Any or all of our forward-looking statements in this report and in the documents we have referred you to may turn out to be wrong. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties. Therefore, you should not place undue reliance on any such forward-looking statements. The factors that could cause actual results to differ from those expressed or implied by our forward-looking statements include, among others:

•

the acceptance of our products by physicians and patients in our current markets and new markets;



•

our ability to obtain regulatory approvals of expanded indications for certain of our products;



•

scientific or regulatory setbacks with respect to research programs, clinical trials and/or our existing products;



•

unanticipated cash requirements to support current operations, expansion of our business or capital expenditures;



•

the inability to adequately protect our key intellectual property rights;



•

the loss of key management or scientific personnel;



•

the activities of our competitors in the industry, including the filing of an ANDA with a Paragraph IV certification for any product containing modafinil;



•

market conditions in the biotechnology industry that make raising capital difficult, expensive or both; and



•

enactment of new government regulations, court decisions, regulatory interpretations or other initiatives that are adverse to us or our interests.

We do not intend to update publicly any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by law. We discuss in more detail the risks that we anticipate in the section above included in Item 7 hereof and entitled "Certain Risks Related to our Business." This discussion is permitted by the Private Securities Litigation Reform Act of 1995.

3

PART I

ITEM 1. BUSINESS

Overview

        Cephalon is an international biopharmaceutical company dedicated to the discovery, development and marketing of products to treat sleep disorders, neurological and psychiatric disorders, cancer and pain. In addition to conducting an active research and development program, we market three products in the United States and a number of products in various countries throughout Europe.

        Our corporate and research and development headquarters are in West Chester, Pennsylvania, and we have offices in Salt Lake City, Utah, France, the United Kingdom, Germany and Switzerland. We operate manufacturing facilities in France for the production of modafinil, which is the active drug substance in PROVIGIL® (modafinil) tablets [C-IV]. We also operate manufacturing facilities in Salt Lake City, Utah for the production of ACTIQ® (oral transmucosal fentanyl citrate) [C-II] for distribution and sale in the European Union and, beginning in the second quarter of 2003, the United States.

        Our three biggest products in terms of product sales, PROVIGIL, ACTIQ and GABITRIL® (tiagabine hydrochloride), comprised approximately 80% of our total worldwide net product sales for the year ended December 31, 2002. The majority of PROVIGIL, ACTIQ and GABITRIL sales are in the U.S. market. Outside the United States, our commercial activities are concentrated primarily in France, the United Kingdom and Germany. The following table summarizes the major markets for our three most significant products:

PRODUCT	BRAND NAME	COUNTRY	INDICATION
Modafinil	PROVIGIL®	United States; Republic of Ireland; Italy	Excessive daytime sleepiness associated with narcolepsy
		United Kingdom	Excessive daytime sleepiness associated with narcolepsy and with obstructive sleep apnea/hypopnea syndrome
	MODIODAL®	France	Narcolepsy with or without cataplexy; idiopathic hypersomnia
	VIGIL®	Germany	Narcolepsy with or without cataplexy
	MODASOMIL®	Austria; Switzerland	Narcolepsy with or without cataplexy
Oral transmucosal fentanyl citrate	ACTIQ®	United States; Germany; Ireland; France; United Kingdom	Management of breakthrough cancer pain in patients with malignancies who are opioid tolerant
Tiagabine hydrochloride	GABITRIL®	United States; France; United Kingdom; Republic of Ireland; Germany; Austria; Switzerland	Partial seizures associated with epilepsy

        In the United States, we market PROVIGIL, ACTIQ and GABITRIL through our specialty sales organization of approximately 330 persons, which includes:

•

an approximately 240-person field sales and sales management and support team that details PROVIGIL and GABITRIL to neurologists, psychiatrists and sleep specialists; and



•

an approximately 90-person field sales and sales management team that details ACTIQ to pain specialists and oncologists.

Outside of the United States, we have a sales organization in France numbering approximately 150 persons detailing products to office-based and hospital-based physicians, and a sales and marketing organization numbering approximately 50 persons that supports our presence in other European countries, principally the United Kingdom and Germany. In territories where we have not established our own sales and marketing groups, we have chosen to market our products through a select group of distribution companies with expertise in the development, marketing and sale of pharmaceuticals in those territories. In most cases, we have granted rights to our distribution partner to market, sell and distribute our products in their respective territories,

4

and we supply finished product for resale in that territory. The revenues and net income generated from these arrangements were not significant to our results of operations for 2002.

        During 2002, we continued to pursue our strategy for PROVIGIL and GABITRIL to broaden the range of clinical uses that are approved by the FDA and European regulatory authorities. For PROVIGIL, we submitted a supplemental new drug application (sNDA) with the FDA in December 2002 requesting marketing approval for the treatment of excessive sleepiness associated with disorders of sleep and wakefulness in adults. The FDA's targeted review period for standard sNDAs is 10 months. Also in December 2002, we announced that we had received marketing approval from the Medicines Control Agency of the United Kingdom to expand the label of PROVIGIL to include the treatment of excessive daytime sleepiness in patients with obstructive sleep apnea/hypopnea syndrome. We plan to apply for a similar label expansion in France and Germany. In 2003, we plan to discuss with the FDA the steps necessary to pursue a label for PROVIGIL for attention deficit/hyperactivity disorder (ADHD) in children, which likely will require us to conduct additional clinical trials. For GABITRIL, we initiated pilot studies during 2002 in three areas: generalized anxiety disorder, neuropathic pain and insomnia. The results of the studies in generalized anxiety disorder and neuropathic pain were analyzed in early 2003 and generally provide support for the potential role of GABITRIL in treating these disorders. As a result, we intend to pursue larger studies in 2003 with GABITRIL in generalized anxiety disorder and post-traumatic stress syndrome. Results from the pilot studies in insomnia are expected later in 2003.

        During the past year, we also continued our strategy of acquiring and consolidating worldwide product rights to PROVIGIL, ACTIQ and GABITRIL. In January 2002, we announced that we had acquired additional product rights to GABITRIL from Sanofi-Synthelabo and Novo Nordisk A/S and now control rights worldwide, excluding Canada, Latin America and Japan. In October 2002, we reacquired rights to ACTIQ in 12 countries, principally in Europe, from Elan Pharma International Limited. In December 2002, we announced that we had reacquired all rights to modafinil (the active drug substance in PROVIGIL) in Germany, Austria, Switzerland and certain countries in Central and Eastern Europe from Merckle GmbH, and in Spain from Cepa Schwarz Pharma. In March 2003, we announced that we had signed a license agreement for Tanabe Seiyaku to commercialize ACTIQ in Japan.

        In addition to clinical programs focused on our marketed products, we have significant research programs that seek to discover and develop treatments for neurological and oncological disorders. Our technology principally focuses on an understanding of kinases and the role they play in cellular survival and proliferation. We have coupled this knowledge with a library of active, selective, small molecule inhibitors of kinases that allows us to intervene in these processes. This technology base has resulted in three molecules that are currently in clinical development. With respect to neurology, we have a program with a molecule, CEP-1347, that has entered into a Phase 2/3 clinical trial for the treatment of patients with early stage Parkinson's disease. In the cancer area, we have a program with a lead molecule, CEP-701, and have completed Phase 2 studies with this molecule to study its effect in patients refractory to other therapies and suffering from prostate cancer, pancreatic cancer and acute myeloid leukemia (AML). In early studies in prostate cancer and AML we observed positive signals from the use of CEP-701, although the treatment effect seen was not sufficient to justify continued studies as monotherapy in refractory patients. We are initiating additional studies with earlier stage patients and in combination with other therapies. Our efforts in pancreatic cancer have been halted due to lack of efficacy. Additionally, we are conducting a Phase 1 clinical study with another molecule, CEP-7055, for the treatment of solid tumors. As part of our corporate strategy, we often seek to share the risk of our research and development activities with corporate partners and, to that end, we have entered into agreements to share the costs of developing and/or commercializing certain of these molecules.

        For the year ended December 31, 2002, our total revenues and income before income taxes were $506.9 million and $62.4 million, respectively. The third quarter of 2001 was our first profitable quarter from commercial operations since inception. Our accumulated deficit at December 31, 2002 was $405.2 million. These accumulated losses have resulted principally from costs incurred in research and development, including clinical trials, and from selling, general and administrative costs associated with our commercial operations. Prior to 2001, we funded our operations principally from the proceeds of private and public sales of our equity and debt securities. While we seek to increase profitability and cash flow from operations, we will need to continue to achieve product sales and other revenue sufficient for us to attain these objectives. The rate of our future growth will depend, in part, upon our ability to obtain additional regulatory approvals for our currently marketed products, or successfully acquire, develop and commercialize new product candidates.

        We are a Delaware corporation with our principal executive offices located at 145 Brandywine Parkway, West Chester, Pennsylvania, 19380. Our telephone number is (610) 344-0200 and our web site address is www.cephalon.com. We make available free of charge through the Investor Relations section of our web site our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission. We include our web site

5

address in this Annual Report on Form 10-K only as an inactive textual reference and do not intend it to be an active link to our web site.

Subsequent Events

        In January 2003, we announced that we had entered into a five-year agreement with MDS Proteomics Inc. (MDSP), a subsidiary of MDS Inc., to utilize MDSP's technologies with the objective of accelerating the clinical development of and broadening the market opportunities for our pipeline of small chemical compounds. MDSP will receive payments upon the successful achievement of specified milestones and will receive royalties on sales of products resulting from the collaboration. As part of the agreement, we purchased from MDSP a $30.0 million 5% convertible note due 2010. The note is convertible into MDSP's common stock at an initial conversion price of $22.00 per share, subject to adjustment if MDSP sells shares of its common stock at a lower price.

        On February 5, 2003, we announced that the FDA had accepted an abbreviated new drug application (ANDA) for a generic form of modafinil, the active ingredient in PROVIGIL. On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies with the FDA. See "—PROVIGIL—Intellectual Property Position" for more information.

        On March 7, 2003, our wholly-owned subsidiary, Cephalon Australia Pty. Limited, formally commenced a takeover bid for SIRTeX Medical Limited (ASX: SRX). SIRTeX markets SIR-Spheres®, a product approved in the United States, Europe, Australia and portions of Asia for the treatment of certain types of liver cancer. Under its bid, Cephalon Australia intends to offer A$4.85 cash for each SIRTeX ordinary share including any SIRTeX shares that are issued on the exercise of SIRTeX options. Cephalon Australia also has obtained an option to acquire shares from SIRTeX's largest shareholder representing up to 19.9 percent of the total issued share capital of SIRTeX at a price of A$4.85 per SIRTeX share. The total bid value is approximately US$161 million. If successful, we intend to fund the bid price using a portion of our existing cash and investment balance. We believe there are a number of risks inherent in SIRTeX's business, post-acquisition. Specifically, we believe that we will need to significantly increase manufacturing capacity to meet projected demand in the U.S. and European markets over the next few years. Increasing capacity in the pharmaceutical industry is expensive, time consuming and requires approval of appropriate regulatory authorities. Until such expansions are complete, there can be no assurance that product will be available to satisfy anticipated demand for SIR-Spheres. We also believe that substantial investment will be necessary in many other aspects of SIRTeX's business, including sales, marketing and distribution, for us to realize the full potential of its technologies.

PROVIGIL

Overview

        Modafinil is the first in a new class of wakefulness-promoting agents. While its exact mechanism of action remains to be fully elucidated, modafinil appears to act selectively in regions of the brain believed to regulate normal sleep and wakefulness. The FDA approved PROVIGIL for the treatment of excessive daytime sleepiness associated with narcolepsy in December 1998 and we launched the product in the United States in February 1999. Modafinil currently is approved in more than 20 countries, including France, the United Kingdom, Ireland, Italy and Germany, for the treatment of excessive daytime sleepiness associated with narcolepsy. In December 2002, we also received approval to market modafinil in the United Kingdom to treat excessive daytime sleepiness in patients with obstructive sleep apnea/hypopnea syndrome.

        In 2002, we marketed PROVIGIL in the United States through an approximately 185-person field sales and sales management team that details the product primarily to neurologists, psychiatrists and sleep specialists. In early 2003, we increased this sales team by approximately 55 persons. Outside the United States, we market modafinil using both our existing European sales force (e.g., in France, the United Kingdom and Germany) and through marketing collaborations with third parties.

        Excessive sleepiness is a common and disabling symptom across many different disease states. Excessive sleepiness may negatively impact daytime functioning, including awareness, judgment, productivity and quality of life. Over the past few years, we have focused significant clinical development efforts on exploring the potential use of PROVIGIL in treating conditions beyond narcolepsy where excessive sleepiness is a significant clinical problem. On December 20, 2002, we filed an sNDA with the FDA requesting marketing approval of PROVIGIL in the United States for the treatment of excessive sleepiness associated with disorders of sleep and wakefulness in adults. This filing represented the achievement of an important milestone for us in our development efforts for PROVIGIL.

6

        While applicable laws and regulations prevent us from promoting our products for uses beyond those contained in the approved label, our analysis of prescription data for PROVIGIL in the United States indicates that some physicians have elected to prescribe the product to treat indications outside its currently labeled indication of excessive daytime sleepiness associated with narcolepsy, including for excessive sleepiness associated with depression or obstructive sleep apnea, fatigue associated with multiple sclerosis and ADHD.

Narcolepsy

        Narcolepsy is a debilitating, lifelong disorder whose symptoms often first arise in late childhood. Its most notable symptom is an uncontrollable propensity to fall asleep during the day. There is no cure for narcolepsy, which is estimated to affect approximately 200,000 people in the United States. Estimates indicate that approximately 35% of this population currently is diagnosed and receiving treatment for narcolepsy. PROVIGIL has been recognized by the American Academy of Sleep Medicine as a standard therapy for the treatment of excessive daytime sleepiness associated with narcolepsy.

        Before we received FDA approval to market PROVIGIL, we conducted many clinical studies, including two Phase 3, double-blind, placebo-controlled, nine-week multi-center studies of PROVIGIL with more than 550 patients who met the American Sleep Disorders Association criteria for narcolepsy. Both studies demonstrated improvement in objective and subjective measures of excessive daytime sleepiness compared to placebo. PROVIGIL was found to be generally well tolerated, with a low incidence of adverse events relative to placebo. The most commonly observed adverse events were headache, infection, nausea, nervousness, anxiety and insomnia.

Market expansion strategies

        Given the efficacy of PROVIGIL in reducing excessive daytime sleepiness associated with narcolepsy and the results of completed clinical trials, it became clear to us that PROVIGIL could be useful in treating excessive sleepiness associated with disorders of sleep and wakefulness beyond narcolepsy. Excessive sleepiness may be caused by a number of clinical conditions in addition to narcolepsy. For example, patients who suffer from obstructive sleep apnea often are tired during the day as a result of disrupted nighttime sleep. In addition, many people receive inadequate sleep due to nighttime work schedules that require them to function at the lowest point of their daily alertness cycle, followed by shortened and fragmented daytime sleep (shift work sleep disorder). Multiple well-controlled, multi-center clinical studies conducted in patients suffering from obstructive sleep apnea and shift work sleep disorder have shown that PROVIGIL may be useful in alleviating the excessive sleepiness experienced by these patients.

        The sNDA that we filed with the FDA in December 2002 was based on positive data from six double-blind, placebo-controlled clinical studies evaluating the safety and efficacy of PROVIGIL versus placebo in more than 1,500 patients with excessive sleepiness associated with a disorder of sleep and wakefulness. Specifically, we submitted clinical data from three patient populations in the sNDA: (1) resubmission of the data submitted in the initial NDA, together with extended follow-up information, from studies of patients suffering from narcolepsy as a model for sleep-wake cycle dysregulation associated with central nervous system disease; (2) data from previously reported studies of patients suffering from obstructive sleep apnea as a model for disrupted sleep; and (3) data from the shift work sleep disorder study reported in late 2002 as a model for circadian rhythm disorders. While each of these clinical studies met their primary endpoints, and we believe that these studies are appropriate models to support a broader label for PROVIGIL, we cannot be sure that we will succeed in obtaining FDA approval for an expanded label. If the FDA does not approve the sNDA, it is not clear what impact this will have on sales and earnings. The FDA's targeted review period for standard sNDAs is 10 months.

        A main focus of our ongoing clinical program continues to be the exploration of the potential use of PROVIGIL in treating excessive sleepiness that may be caused by a variety of clinical conditions. To that end, we have conducted clinical studies in patients suffering from a number of representative disorders of sleep and wakefulness. We also are interested in exploring the utility of PROVIGIL in other areas, including ADHD in children. In September 2002, we announced positive results from an investigational clinical study in children suffering from ADHD. In the four-week, randomized, double-blind, placebo-controlled, parallel design study, 248 children and adolescents between the ages of six and 13 were assigned to one of four daily dose regimens of PROVIGIL or placebo. The primary efficacy endpoint measure was the teacher-completed school version of the ADHD Rating Scale IV. All of the PROVIGIL treated groups showed a reduction in symptoms of ADHD, with certain dosage groups reaching statistical significance compared to placebo (p<0.05) and with the dosage group receiving 300mg of PROVIGIL, once a day, reaching statistical significance at all primary endpoints. PROVIGIL generally was well tolerated with the most commonly reported adverse events in this study consistent with those described in the current product label. We expect that the complete study data will be presented at the American Psychiatric Association meeting in May 2003. We plan to initiate a Phase 3 program in ADHD in 2003.

7

        Finally, an important focus of our PROVIGIL strategy is the development of follow-on compounds. In 2003, we expect to begin human clinical trials with the R-isomer of modafinil. We are hopeful that these trials will, among other things, confirm in humans a longer duration of action of this isomer relative to the current PROVIGIL formulation. If successful, we would seek to launch this new compound in late 2005. In addition, we continue to engage in pre-clinical efforts and have identified second generation new chemical entities designed to provide additional clinical benefits.

Intellectual Property Position

        We own U.S. and foreign patent rights that expire between 2014 and 2015 covering pharmaceutical compositions and uses of modafinil having certain particle sizes. Ultimately, these particle-size patents might be found invalid if challenged by a third party or a potential competitor could develop a competing product or product formulation that avoids infringement of these patents. On February 5, 2003, we announced that the FDA had accepted an abbreviated new drug application, or ANDA, for a pharmaceutical product containing modafinil. Any ANDA for modafinil filed with the FDA prior to December 2003 must contain a Paragraph IV certification in which the ANDA applicant certifies that the U.S. particle-size modafinil patent covering PROVIGIL is either invalid or will not be infringed by the ANDA product.

        While we intend to vigorously defend the validity, and prevent infringement, of our patents, these efforts will be both expensive and time consuming and there can be no assurance that they will be successful. On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies with the FDA. If an ANDA or an NDA is approved, a competitor could begin selling a modafinil-based product upon the expiration of our FDA orphan drug exclusivity, currently in December 2005, which, in the absence of a marketed isomer version of modafinil, would significantly and negatively impact revenues from our current modafinil-based products. We expect to perform an additional clinical study of PROVIGIL in pediatric patients, pursuant to which the FDA could grant us a six-month extension of our orphan drug exclusivity and particle-size patent so that we would retain exclusivity until June 2006. However, we cannot be sure that the FDA will grant such extensions.

        The U.S. composition of matter patent for modafinil expired in 2001. Corresponding patents outside the United States either have expired or will expire in March 2003, except in Italy where a patent extension beyond the original 1998 expiration remains possible.

        We own composition of matter patents directed to the R-isomer of modafinil that is set to expire in May 2007 in the United States and January 2007 outside the United States. Assuming we are successful in attaining FDA approval for this compound in late 2005, we would expect to receive a three year period of marketing exclusivity (until late 2008). Furthermore, assuming this same timetable for approval, we would anticipate that the patent life would be extended until approximately early 2009. If we perform an additional clinical study of this product in pediatric patients, the FDA could grant us a six-month extension of the patent (until mid-2009) and of our marketing exclusivity. We also hold rights to other patents and patent applications directed to further pharmaceutical compositions, manufacturing processes and uses of next generation modafinil. We own rights to various trademarks covering pharmaceutical products containing the active drug substance modafinil.

Manufacturing and Product Supply

        At our manufacturing facilities in France, we produce the active drug substance modafinil. We have two qualified manufacturers, Watson Pharmaceuticals and DSM Pharmaceuticals, for finished commercial supplies of PROVIGIL. Any future change in manufacturers or manufacturing processes requires regulatory approval. We seek to maintain inventories of active drug substance and finished products to protect against supply disruptions.

Competition

        There are several other products used for the treatment of narcolepsy or excessive daytime sleepiness in the United States and in our other licensed territories, including methylphenidate products such as RITALIN® by Novartis, many of which have been available for a number of years and are available in inexpensive generic forms. Under current FDA and European medical authority regulations, we are restricted from promoting the use of PROVIGIL outside its labeled indication of excessive daytime sleepiness associated with narcolepsy.

8

ACTIQ

Overview

        ACTIQ is the only drug approved in the United States for the management of breakthrough cancer pain in opioid tolerant patients. It was approved by the FDA in November 1998 and was launched in the United States in March 1999. Following our acquisition of Anesta Corp. in October 2000, we relaunched ACTIQ in February 2001. In October 2002, we reacquired rights to ACTIQ in twelve countries, principally in Europe, from Elan Pharma International Limited. In 2002, we marketed ACTIQ in the United States through an approximately 60-person field sales and sales management team that detailed the product to pain specialists and oncologists. In early 2003, we increased this team by approximately 30 persons to a total of 90 persons.

        ACTIQ uses our proprietary oral transmucosal delivery system (OTS™) to deliver fentanyl citrate, a powerful, Schedule II opioid analgesic. The OTS delivery system consists of a drug matrix that is mounted on a handle. It is designed to achieve absorption of fentanyl through the oral mucosa (the lining of the mouth) and into the bloodstream. Side effects of ACTIQ are typical of opioid products and include somnolence, nausea, vomiting and dizziness. The greatest risk from improper use of ACTIQ, as with all opioid-based products, is the potential for respiratory depression, which can be life threatening.

Breakthrough Cancer Pain

        One of the most challenging components of cancer pain is breakthrough pain. Breakthrough pain is a flare of moderate to severe pain that "breaks through" the medication patients use to control their persistent pain. Breakthrough pain may be related to a specific activity, or may occur spontaneously and unpredictably.

        Breakthrough cancer pain typically develops rapidly and often reaches maximum intensity in three to five minutes. It has a duration that varies from 30 minutes to several hours and can be extremely painful and debilitating. Cancer patients who suffer from breakthrough pain may suffer a number of episodes every day. Opioid tablets, capsules and elixirs are not optimal to treat breakthrough cancer pain because they typically require 30 minutes or more to produce pain relief. Physicians can attempt to manage breakthrough pain by increasing the dose of the around-the-clock, long-acting opioid analgesic until the patient no longer experiences breakthrough pain. However, this approach frequently takes several days to accomplish and may lead to over-medication and an increase in undesirable side effects such as drowsiness or severe constipation.

        Ideal management of breakthrough pain requires rescue medication that has a rapid onset of action and the ability for dosing to be tailored to the individual characteristics of the breakthrough pain episodes, such as intensity and duration. With ACTIQ, a patient places the product between his or her cheek and gum and moves it from side to side. A portion of the fentanyl citrate is absorbed through the mucosal tissues into the blood stream, while the remaining dose is swallowed and absorbed more slowly through the gastro-intestinal tract. Pain relief may begin within 10 to 15 minutes. ACTIQ is available in six dosage strengths to allow individualization of dosing.

        Other than ACTIQ, the only currently available treatments that adequately match the onset of pain relief to the onset of breakthrough cancer pain are intravenous or subcutaneous infusions or intramuscular injections of potent opioids. In many settings, infusions or injections are unacceptable because they are invasive, uncomfortable, inconvenient for patients and caregivers, and, in a home setting, are more costly than less invasive methods.

        We market ACTIQ under a comprehensive risk management program of educational and safe use messages that inform health care professionals, patients and their families of proper use, storage, handling and disposal of the product.

Intellectual Property Position

        We hold an exclusive license to the U.S. patent covering the currently approved pharmaceutical composition and method for administering fentanyl via this composition that is set to expire in May 2005. We also hold patents to an FDA-approved compressed powder formulation that we expect to begin selling in the United States in the second quarter of 2003. These patents expire in September 2006. The FDA could grant us a six-month extension of these patents when we perform a clinical study in pediatric patients. Corresponding patents in foreign countries expire between 2009 and 2010. The loss of patent protection for any of our products, including ACTIQ, could significantly impact our sales.

        Other issued patents and pending patent applications in the United States and foreign countries that are owned or licensed by us are directed to various formulation processes of manufacturing the product, methods of using the product and disposal containers required by the FDA to be provided as part of the product. We also hold the rights to the ACTIQ trademark covering pharmaceuticals for oral transmucosal delivery containing fentanyl as the active drug substance.

9

Manufacturing and Product Supply

        At our facility in Salt Lake City, Utah, we manufacture ACTIQ for sale in international markets. In February 2003, the FDA approved our sNDA requesting approval for the movement of production of ACTIQ for the United States from our previous supplier, Abbott Laboratories, to our Salt Lake City facility, and our use of a new compressed powder formulation of ACTIQ in the U.S. market. This formulation is the same formulation that has been sold in Europe for a number of years. We recently expanded our internal manufacturing capacity at our Salt Lake City facility and expect to begin selling the new formulation in the United States in the second quarter of 2003.

        Fentanyl, the active ingredient in ACTIQ, is a Schedule II controlled substance under the Controlled Substances Act. Our purchases of fentanyl for use in the production of ACTIQ are subject to quota that are approved by the U.S. Drug Enforcement Administration. Supply disruption could result from delays in obtaining DEA approvals or the receipt of approvals for quantities of fentanyl that are insufficient to meet current or projected product demand. The quota system also limits our ability to build inventories as a method of insuring against possible supply disruptions.

Competition

        The market for opioids used in cancer pain is dominated by three products currently marketed for chronic pain: Johnson & Johnson's DURAGESIC® and Purdue Pharmaceuticals' OXYCONTIN® and MS-CONTIN®. Contrasted with ACTIQ, these products have a slower onset of action and a longer duration of action and therefore do not directly compete with ACTIQ. ACTIQ is intended to be used as adjunctive breakthrough pain therapy for patients using long-acting opioids to treat their persistent pain. Cancer pain also is treated with quick-acting invasive (i.e., intravenous, intramuscular and subcutaneous) opioid delivery systems. While these delivery systems effectively match rapid pain relief to the rapid onset of breakthrough cancer pain, these systems generally are more costly, uncomfortable and inconvenient than ACTIQ's OTS delivery system. We are aware that other companies are developing other technologies for rapidly delivering opioids to treat breakthrough pain. If these technologies are successfully developed and approved over the next few years, they could represent significant competition for ACTIQ.

        To meet future competitive challenges to ACTIQ, we continue to focus our research efforts on developing improved formulations of ACTIQ with enhanced clinical benefits, including a more rapid onset of action and a sugar-free formulation. In addition to providing significant patient benefit, we believe these efforts could yield enhanced intellectual property protection.

GABITRIL

Overview

        GABITRIL is a selective GABA reuptake inhibitor (SGRI) that is approved for use as adjunctive therapy in the treatment of partial seizures in epileptic patients. The FDA approved GABITRIL in September 1997 and it was launched in the United States in 1998 by Abbott. In late 2000, we acquired all U.S. rights to GABITRIL from Abbott in exchange for payments totaling $100 million over five years. We also made an additional payment to Abbott of $10 million when Abbott obtained an extension of the composition patent covering the active drug substance contained in GABITRIL to 2011. In December 2001, we acquired product rights to GABITRIL worldwide, excluding Canada, Latin America and Japan, from Sanofi-Synthelabo and the product inventor, Novo Nordisk A/S. We currently are selling GABITRIL in France, the United Kingdom, Germany, Austria and Switzerland. In 2002, GABITRIL was supported in the United States by our 185-person field sales and sales management and support team that also promoted PROVIGIL. In early 2003, we expanded this sales team to approximately 240 persons.

        While applicable laws and regulations prevent us from promoting our products for uses beyond those contained in the approved label, our analysis of prescription data in the United States for GABITRIL indicates that some physicians have elected to prescribe the product to treat indications outside of its currently labeled indication, including generalized anxiety disorder and neuropathic pain.

Epilepsy

        Epilepsy is a chronic disorder characterized by seizures that cause sudden, involuntary, time-limited alteration in behavior, including changes in motor activities, autonomic functions, consciousness or sensations, and accompanied by an abnormal electrical discharge in the brain. A partial seizure arises from a disorder emanating from a distinct, identifiable region of the brain and produces a given set of symptoms depending on the area of onset. A general seizure arises from a general dysfunction of biochemical mechanisms throughout the brain and may produce different types of convulsions. Epilepsy usually begins in early childhood, but can appear at any time during an individual's lifespan. It is estimated that more than 1 million adult Americans suffer from epilepsy.

10

Market expansion strategies

        GABA (gamma-amino butyric acid) is an important inhibitory transmitter in the central nervous system and is widely distributed in all regions of the brain. An SGRI increases the amount of available GABA in the brain, which can be useful in treating conditions where increasing GABA in the central nervous system may result in clinical benefit. Based upon the putative mechanism of action of GABITRIL established in animal models, and certain preclinical and clinical study results, we believe GABITRIL may eventually prove effective in treating disorders in addition to epilepsy. Therefore, we initiated pilot studies during 2002 in three areas: generalized anxiety disorder, neuropathic pain and insomnia. The results of the studies in generalized anxiety disorder and neuropathic pain were analyzed in early 2003 and generally provide support for the potential role of GABITRIL in treating these disorders. As a result, we intend to pursue larger studies in 2003 with GABITRIL in generalized anxiety disorder and post-traumatic stress syndrome. Results from the pilot studies in insomnia are expected later in 2003.

Intellectual Property Position

        GABITRIL is our trademark that is used in connection with pharmaceuticals containing tiagabine as the active drug substance. This product is covered by U.S. and foreign patents that are held by Novo-Nordisk A/S and that were licensed in the United States exclusively to Abbott Laboratories. We have an exclusive sublicense from Abbott to these patents in the United States and exclusive licenses from Novo-Nordisk to corresponding foreign patents.

        There are three U.S. composition-of-matter patents covering the currently approved product: a patent claiming tiagabine, the active drug substance in GABITRIL; a patent claiming crystalline tiagabine hydrochloride monohydrate and its use as an anti-epileptic agent; and a patent claiming anhydrous crystalline tiagabine hydrochloride and processes for its preparation. These patents currently are set to expire in 2011, 2012 and 2017, respectively. There also is a pharmaceutical composition patent covering the currently approved product and processes for its preparation, which is set to expire in 2016. Supplemental Protection Certificates based upon corresponding foreign patents covering this product are set to expire in 2011.

Manufacturing and Product Supply

        Abbott is required to supply us with GABITRIL for the United States until at least October 2005. Outside of the United States, we have an agreement with Sanofi-Synthelabo to supply us with GABITRIL until December 2004. After these dates, we may have to make other arrangements to provide such supply, which could include the manufacture of GABITRIL in-house for the United States, or establishing supply arrangements with third parties. Any such changes will require regulatory approval.

Competition

        The pharmaceutical market for the treatment of partial seizures in epileptic patients generally is well served with a number of available therapeutics, several of which are recent entrants to the market. The market is dominated by Pfizer's NEURONTIN® (gabapentin). In addition, several treatments for partial seizures are available in inexpensive generic forms. Growth of pharmaceutical products in this market tends to be slow both because of the number of therapies available and also because physicians are unlikely to change the medication of a patient whose condition is well controlled.

OTHER PRODUCTS

        In addition to PROVIGIL, ACTIQ and GABITRIL, we are engaged in the sale and marketing of other of our products and certain third party products in various international markets, principally in France, the United Kingdom and Germany. For the year ended December 31, 2002, aggregate net sales and revenue from these products accounted for approximately 20% of our total

11

revenues, with the majority of this revenue relating to sales of our own products in France. The following is a summary of certain other products we market and sell.

Product		Country	Indication	Third Party	Contract Expiration
Cephalon Products:
	SPASFON® (phloroglucinol)	France	Biliary/urinary tract spasm and irritable bowel syndrome	n/a	n/a
	FONZYLANE® (buflomedil)	France	Cerebral vascular disorders	n/a	n/a
	PROXALYOC® (piroxicam)	France	Non-steroid anti-inflammatory	n/a	n/a
	PARALYOC® (paracetamol)	France	Analgesic	n/a	n/a
Third Party Products:
	APOKINON® (apomorphine hydrochloride)	France	Levadopa therapy fluctuations in Parkinson's Disease	Laboratoire Aguettant S.A.	2007
	OTRASEL® (selegeline hydrochloride)	France	Parkinson's Disease	Elan Pharma International Limited	2015
	TEGRETOL® (carbamezipine)	U.K.	Epilepsy	Novartis Pharma AG	2010
	RITALIN® (methylphenidate)	U.K.	ADHD	Novartis Pharma AG	2010
	LIORESAL® (baclofen)	U.K.	Spasticity	Novartis Pharma AG	2010
	ANAFRAIL® (clomipramine hydrochloride)	U.K.	Depression and obsessive compulsive disorder	Novartis Pharma AG	2010
	XILOPAR® (selegeline hydrochloride)	Germany	Parkinson's Disease	Elan Pharma International Limited	2015
	QUILONUM® (lithium)	Germany	Bipolar disorder	GlaxoSmithKline Inc.	2007

        We manufacture certain of our proprietary products at our manufacturing facilities in Mitry-Mory and Nevers, France. We perform warehousing, packaging and distribution activities for France and other export territories from our facilities in Maisons-Alfort, France. We have a sales organization in France numbering approximately 150 persons detailing our proprietary products to office-based and hospital-based physicians, and a sales and marketing organization numbering approximately 50 persons that supports sales of our products and third party products in other European countries. French government efforts to control healthcare costs may result in the rapid growth of generic competition to our proprietary products in France.

        Our largest product in terms of product sales in France is SPASFON. SPASFON is an antimuscarinic, antispasmodic muscle relaxant indicated for biliary tract spasms, irritable bowel syndrome, urinary tract spasm and the treatment of certain gynecological-related spasms. The product is sold in a variety of formats, including solid oral tablets, fast-dissolve tablets (LYOC) and suppositories.

        In the United Kingdom, we market and sell four neurology products together with PROVIGIL, under an exclusive collaboration arrangement with Novartis Pharma AG established in November 2000. Under this agreement, we exclusively market PROVIGIL, TEGRETOL, RITALIN, ANAFRANIL and LIORESAL. The companies share the earnings from sales of the Novartis products and PROVIGIL in the United Kingdom. We now face competition from generic versions of many of the branded products included in the collaboration. European Union pricing laws also allow the parallel importation of branded drugs between member countries. Due to pricing variations within the European Union, it is possible that our overall margins on our branded drugs could be impacted negatively as a result of the importation of product from relatively lower-margin member countries to relatively higher-margin member countries.

RESEARCH AND DEVELOPMENT

        In addition to our clinical programs focused on our marketed products, our research and development efforts focus primarily on two therapeutic areas: neurodegenerative disorders and cancers. Neurodegenerative disorders are characterized by the death of neurons (i.e., the specialized conducting cells of the nervous system) that results in the loss of certain functions such as memory and motor coordination. Cancers are characterized by the uncontrolled proliferation of cells that may form tumors. Our research has focused on an understanding of kinases and the role they play in cellular survival and proliferation. We have coupled this knowledge with a library of active, selective, small molecule inhibitors of kinases that allows us to intervene in these processes. This technology base has resulted in three active clinical programs in the areas of neurology and oncology.

Neurology

        A growing body of evidence, substantiated by our own research findings, suggests that neuronal death is caused by a series of biochemical events that are themselves precipitated by the activation of intracellular signaling pathways. Our research,

12

and that of others, has demonstrated that one of the initial events involved in the cell death process is the activation of the stress-activated protein kinase pathway. Thus, we believe inhibition of this pathway should lead to neuronal survival and result clinically in the inhibition of the progression of neurodegenerative diseases. We have identified targets within this pathway known as mixed lineage kinases (MLK), whose inhibition in preclinical models results in inactivation of the cell death process. We are pursuing the development of certain potent inhibitors of the MLK for the treatment of Parkinson's disease, as described below.

Parkinson's Disease

        We have discovered several proprietary compounds that are potent MLK inhibitors and that are also efficacious in preclinical models in preventing neuronal death. We are developing one such MLK inhibitor, CEP-1347, for use as a potential treatment for Parkinson's disease. Parkinson's disease is a progressive disorder of the central nervous system affecting over one million Americans. The primary pathology of the disease is the degeneration of the dopamine neurons in the substantia nigra region of the brain, which results in a slowing of spontaneous movements, gait difficulty, postural instability, rigidity and tremor. In a variety of preclinical models of Parkinson's disease, CEP-1347 demonstrated therapeutic potential in inhibiting the progression of Parkinson's Disease. Specifically, in non-human primate models, CEP-1347 protected against loss of dopamine neurons in the regions of the brain affected by Parkinson's disease and prevented the appearance of the associated behavioral symptoms. Our rights to develop and market CEP-1347 in the United States come from our 1992 collaboration with Kyowa Hakko Kogyo Co., Ltd. We entered into a collaborative agreement with H. Lundbeck A/S, a Danish pharmaceutical company, in 1999 to discover, develop and market in Europe products to treat neurodegenerative disorders, such as Parkinson's and Alzheimer's diseases. This collaboration covers the development and marketing of CEP-1347 and other proprietary small molecules that may be useful in treating these diseases.

        In 2002, Cephalon and Lundbeck initiated a North American, randomized, double-blind, placebo-controlled, dose-finding Phase 2/3 clinical trial of CEP-1347 in patients with early stage Parkinson's Disease. The study expects to enroll approximately 800 patients at up to 65 locations in the United States and Canada. The objective of the study is to determine whether or not CEP-1347 may be effective in delaying disability due to progression of Parkinson's Disease. Patients enrolled into the study are expected to be treated for two years and will receive either placebo or CEP-1347. We have a supply agreement with Abbott under which it supplies the key chemical intermediate used for the manufacture of CEP-1347 under contract to Cephalon. Lundbeck uses that intermediate for the manufacture of CEP-1347 for use in clinical trials.

Oncology

        In normal tissues, cellular proliferation is balanced by cellular death, and these processes are governed in part by a class of soluble protein molecules (commonly referred to as growth factors) that serve as communication signals between cells. Cancer is a disease characterized by the uncontrolled proliferation of cells, which may be linked to inappropriate signaling from growth factors. Many of these growth factors bind to cell surface receptors (many of which are kinases) and trigger intracellular signals that maintain cell survival or direct the cell to proliferate. Inhibition of these kinases provides a novel therapeutic strategy for treating a variety of oncological disorders without the undesirable side effects associated with traditional chemotherapeutics.

Receptor Tyrosine Kinase Inhibitors

        We have synthesized a class of small, orally active molecules that are selective inhibitors of the nerve growth factor receptor tyrosine kinase (trk). Trk may play an important role in the development and propagation of prostate and pancreatic cancers; inhibiting trk antagonizes the "survival" signal elicited by this receptor in such tumors. Our lead compound in this area, CEP-701, is administered orally. We have licensed our rights to develop and market CEP-701 from Kyowa Hakko. We have a supply agreement with Abbott under which it supplies the key chemical intermediate found in CEP-701.

        Our scientists have discovered that CEP-701, in addition to its trk activity, is also a potent inhibitor of the flt-3 kinase. Flt-3 kinase has been shown to be mutated in patients suffering from AML who are treatment resistant, which results in a poor prognosis. Thus, inhibition of this kinase may lead to a novel treatment for AML.

        We have completed Phase 2 studies with CEP-701 to study its effect in patients refractory to other therapies and suffering from prostate cancer, pancreatic cancer and AML. Our efforts in pancreatic cancer have been halted due to lack of efficacy. In early studies in prostate cancer and AML we observed positive signals from the use of CEP-701, although the treatment effect seen was not sufficient to justify continued studies as monotherapy in refractory patients. In 2003, we expect to initiate additional studies in earlier stage patients and in combination with other therapies.

13

Angiogenesis Inhibitors

        As cancer cells aggregate and form solid tumors, they secrete growth factors that promote the formation of new blood vessels necessary for providing nutrients to the growing tumor; this process is called angiogenesis. Angiogenesis is promoted by a number of these growth factors but appears to be particularly dependent upon the vascular endothelial growth factor (VEGF). VEGF acts at its receptor kinase to initiate blood vessel growth into the tumor. We believe that inhibition of the receptor kinase for VEGF will result in inhibition of the angiogenesis process thus starving the tumor of needed nutrients. We believe that this approach has potential utility in the treatment of solid tumors.

        We have synthesized a number of proprietary, orally active molecules that are potent and selective inhibitors of the VEGF receptor kinase. These molecules have been shown to slow the growth of a variety of tumors in preclinical models. Our lead compound in this area is CEP-7055. We have filed an Investigational New Drug application (IND) and are conducting Phase 1 clinical trials with CEP-7055. In December 2001, we entered into a collaborative agreement with Sanofi-Synthelabo to discover, develop and market worldwide products that inhibit angiogenesis, excluding nervous system and opthalmic disorders. The collaboration covers the development and marketing of CEP-7055 and other proprietary small molecules.

Drug Delivery Technologies

Oral Transmucosal System (OTS)

        We are continuing to invest in research and development of our OTS technology platform to expand our position within our current therapeutic areas. For example, we currently are pursuing both sugar free and accelerated delivery formulations of ACTIQ that utilize our OTS technology. In addition, we continue to assess the potential uses of our OTS technology, as well as other proprietary buccal delivery systems, in several therapeutic areas in which we focus.

LYOC Delivery System

        We continue to develop our LYOC technology, which is used to create fast-dissolving oral tablets. We currently manufacture and sell several drugs in France using our LYOC technology, including SPASFON LYOC, PARALYOC, PROXALYOC, and are considering other compounds that may be suitable for formulation using this technology.

Neurotrophic Factors

        Under a collaboration with Chiron Corporation that was terminated in February 2001, we conducted clinical trials using IGF-I, also known as MYOTROPHIN® (mecasermin) Injection, in patients in North America and Europe suffering from amyotrophic lateral sclerosis (ALS). ALS is a fatal disorder of the nervous system characterized by the chronic, progressive degeneration of motor neurons, which leads to muscle weakness, muscle atrophy and, eventually, to the patient's death. In February 1997, we submitted a New Drug Application (NDA) to the FDA for approval to market MYOTROPHIN in the United States for the treatment of ALS. In May 1998, the FDA issued a letter stating that the NDA was "potentially approvable," under certain conditions. We do not believe those conditions can be met without conducting an additional Phase 3 clinical study, and we have no plans to conduct such a study at this time. However, certain physicians have obtained governmental and non-governmental funding to be used to conduct such a study. We have agreed with these physicians to allow reference to our IND and have agreed to supply MYOTROPHIN in quantities sufficient for them to conduct the study in exchange for the right to use any clinical data generated by such study in support of FDA approval of our pending NDA. These physicians have indicated to us that they expect to commence the study in the first half of 2003; however, if the study does not progress reasonably rapidly, we may be unable to provide quantities of MYOTROPHIN sufficient to complete the study. Even if this additional study is concluded, the results will not be available for several years and may not be sufficient to obtain regulatory approval to market the product.

Other Discovery Research Efforts

        Since our inception, we have been engaged in research to discover innovative medicines. To date, we have focused our efforts on neurodegenerative diseases and cancer. This research has resulted in the discovery of compounds that could potentially be useful in treating important clinical conditions beyond those for which we have active development programs. In these and other cases, we often seek to establish collaborative partnerships with companies whose clinical development and marketing capabilities will maximize the value of these discoveries.

        In addition to our research programs discussed above, we are pursuing a variety of other innovative discovery research efforts. For example, in June 2002, we announced a multi-year research collaboration with TransTech Pharma, Inc. The

14

collaboration will utilize TransTech's Translational Technology™, a highly automated and fully integrated proprietary drug discovery process, to discover and develop small molecules for up to three therapeutic targets. Also, in early 2003, we entered into a comprehensive collaboration with MDS Proteomics Inc., a subsidiary of MDS Inc., to utilize MDSP's technologies with the objective of accelerating the clinical development of and broadening the market opportunities for our pipeline of small molecule compounds, including the identification and validation of novel targets for the treatment of CNS disorders.

Scientific and Medical Advisory Board

        We maintain a Scientific and Medical Advisory Board consisting of individuals with expertise in neuroscience and oncology research, as well as related fields. Members of the Scientific and Medical Advisory Board advise us on issues concerning long-term scientific planning, research and development, and also periodically evaluate our research programs, clinical development plans and clinical trials. We compensate the members for their services. The current members of our Scientific and Medical Advisory Board are as follows:

Stanley H. Appel, M.D., Baylor College of Medicine	Steven T. DeKosky, M.D., University of Pittsburgh Medical Center
Arthur K. Asbury, M.D., University of Pennsylvania Medical Center	John T. Isaacs, M.D., Johns Hopkins University, Sidney Kimmel Cancer Center
Robert L. Barchi, M.D., Ph.D., University of Pennsylvania Medical Center	Richard Johnson, M.D., Johns Hopkins University School of Medicine
Bruce A. Chabner, M.D., Massachusetts General Hospital	Robert Y. Moore, M.D., Ph.D., University of Pittsburgh
Stanley Cohen, Ph.D., retired, Vanderbilt University School of Medicine	Robert H. Roth, Ph.D., Yale University School of Medicine

OTHER INTELLECTUAL PROPERTY

        We also own issued and pending U.S. patents and applications claiming compositions and/or uses of certain kinase inhibitors, including two novel classes of small molecules referred to as "indolocarbazoles" and "fused pyrrolocarbazoles." We have filed foreign counterparts of these patents in other countries, as appropriate. We also have licensed U.S. and European composition-of-matter and use patents and applications for novel compositions under our collaborative agreement with Kyowa Hakko, including compositions and uses of certain indolocarbazoles for the treatment of pathological conditions of the prostate (including prostate cancer) and for the treatment of neurological disorders. We own issued and pending U.S. and foreign patents and applications claiming compositions and/or uses of inhibitors of certain proteases, including novel classes of small molecules for inhibition of calpain, and novel classes of small molecules for inhibition of the multicatalytic protease.

        Through collaborative agreements with researchers at several academic institutions, we have licenses to or the right to license, generally on an exclusive basis, patents and patent applications issued or filed in the United States and certain other countries arising under or related to such collaborations.

CUSTOMERS

        Our principal customers are wholesale drug distributors. These customers comprise a significant part of the distribution network for pharmaceutical products in the United States. A small number of large wholesale distributors control a significant share of this network. For the year ended December 31, 2002, our three largest U.S. wholesale drug distributors were Cardinal Health, Inc., McKesson Corporation and AmerisourceBergen Corporation. These three distributors, in the aggregate, accounted for 72% of our total gross product sales. The loss or bankruptcy of any of these customers could have an adverse affect on our results of operation and financial condition.

15

COMPETITION

        We face intense competition and rapid technological change in the pharmaceutical marketplace. Large and small companies, academic institutions, governmental agencies, and other public and private research organizations conduct research, seek patent protection and establish collaborative arrangements for product development in competition with us. Products developed by any of these entities may compete directly with those we develop or sell. In addition, many of the companies and institutions that compete against us have substantially greater capital resources, research and development staffs and facilities than we have, and substantially greater experience in conducting clinical trials, obtaining regulatory approvals and manufacturing and marketing pharmaceutical products. These entities represent significant competition for us. In addition, competitors who are developing products for the treatment of neurological or oncological disorders might succeed in developing technologies and products that are more effective than any that we develop or sell or that would render our technology and products obsolete or noncompetitive. Competition and innovation from these or other sources potentially could negatively affect sales of our products or make them obsolete. Advances in current treatment methods also may adversely affect the market for such products. In addition, we may be at a competitive marketing disadvantage against companies that have broader product lines and whose sales personnel are able to offer more complementary products than we can. Any failure to maintain our competitive position could adversely affect our business and results of operations.

        As discussed above, our products face competition in the marketplace. We cannot be sure that we will be able to demonstrate the potential advantages of our products to prescribing physicians and their patients on an absolute basis and/or in comparison to other presently marketed products. We also need to demonstrate to physicians, patients and third party payors that the cost of our products is reasonable and appropriate in the light of their safety and efficacy, the price of competing products and the related health care benefits to the patient.

GOVERNMENT REGULATION

        The manufacture and sale of therapeutics are subject to extensive regulation by U.S. and foreign governmental authorities. In particular, pharmaceutical products are subject to rigorous preclinical and clinical trials and other approval requirements as well as other post-approval requirements by the FDA under the Federal Food, Drug, and Cosmetic Act and by analogous agencies in countries outside the United States.

        As an initial step in the FDA regulatory approval process, preclinical studies are typically conducted in animals to identify potential safety problems and, in some cases, to evaluate potential efficacy. The results of the preclinical studies are submitted to regulatory authorities as a part of an Investigational New Drug Application (INDA) that is filed with regulatory agencies prior to beginning studies in humans. However, for several of our drug candidates, no animal model exists that is potentially predictive of results in humans. As a result, no in vivo indication of efficacy is available until these drug candidates progress to human clinical trials.

        Clinical trials are typically conducted in three sequential phases, although the phases may overlap. Phase 1 typically begins with the initial introduction of the drug into human subjects prior to introduction into patients. In Phase 1, the compound is tested for safety, dosage tolerance, absorption, biodistribution, metabolism, excretion and clinical pharmacology, as well as, if possible, to gain early information on effectiveness. Phase 2 typically involves studies in a small sample of the intended patient population to assess the efficacy of the drug for a specific indication, determine dose tolerance and the optimal dose range, and to gather additional information relating to safety and potential adverse effects. Phase 3 trials are undertaken to further evaluate clinical safety and efficacy in an expanded patient population, generally at multiple study sites, to determine the overall risk-benefit ratio of the drug and to provide an adequate basis for product labeling. Each trial is conducted in accordance with certain standards under protocols that detail the objectives of the study, the parameters to be used to monitor safety and the efficacy criteria to be evaluated. In the United States, each protocol must be submitted to the FDA as part of the IND. Further, one or more independent Institutional Review Boards must evaluate each clinical study. The Institutional Review Board considers, among other things, ethical factors, the safety of the study, the adequacy of informed consent by human subjects and the possible liability of the institution. Similar procedures and requirements must be fulfilled to conduct studies in other countries. The process of completing clinical trials for a new drug is likely to take a number of years and require the expenditure of substantial resources.

        Promising data from preclinical and clinical trials are submitted to the FDA in an NDA for marketing approval and to foreign regulatory authorities under applicable requirements. Preparing an NDA or foreign application involves considerable data collection, verification, analyses and expense, and there can be no assurance that the applicable regulatory authority will accept the application or grant an approval on a timely basis, if at all. The marketing or sale of pharmaceuticals in the United States may not begin without FDA approval. The approval process is affected by a number of factors, including primarily the safety and

16

efficacy demonstrated in clinical trials and the severity of the disease. Regulatory authorities may deny an application if, in their sole discretion, they determine that applicable regulatory criteria have not been satisfied or if, in their judgment, additional testing or information is required to ensure the efficacy and safety of the product. One of the conditions for initial marketing approval, as well as continued post-approval marketing, is that a prospective manufacturer's quality control and manufacturing procedures conform to the current Good Manufacturing Practice regulations of the regulatory authority. In complying with these regulations, a manufacturer must continue to expend time, money and effort in the area of production, quality control and quality assurance to ensure full compliance. Manufacturing establishments, both foreign and domestic, also are subject to inspections by or under the authority of the FDA and by other federal, state, local or foreign agencies. Discovery of previously unknown problems with a product or manufacturer may result in restrictions on such product or manufacturer, including withdrawal of the product from the market.

        Even after regulatory approval has been obtained, further studies, including Phase 4 post-marketing studies, may be required to provide additional data on safety, to validate surrogate efficacy endpoints, or for other reasons, and the failure of such studies can result in a range of regulatory actions, including withdrawal of the product from the market. Further studies will be required to gain approval for the use of a product as a treatment for clinical indications other than those for which the product was initially approved. Results of post-marketing programs may limit or expand the further marketing of the products. Further, if there are any modifications to the drug, including any change in indication, manufacturing process, labeling or manufacturing facility, it may be necessary to submit an application seeking approval of such changes to the FDA or foreign regulatory authority. Finally, the FDA can place restrictions on approval and marketing utilizing its authority under applicable regulations. For example, ACTIQ was approved subject to restrictions that include mandating compliance with a rigorous Risk Management Program. This program gives the FDA authority to pre-approve promotional materials and permits an expedited market withdrawal procedure if issues arise regarding the safe use of ACTIQ. Moreover, marketed products are subject to continued regulatory oversight by the Office of Medical Policy Division of Drug Marketing, Advertising, and Communications, and the failure to comply with applicable regulations could result in marketing restrictions, financial penalties and/or other sanctions.

        Whether or not FDA approval has been obtained, approval of a product by regulatory authorities in foreign countries must be obtained prior to the commencement of commercial sales of the product in such countries. The requirements governing the conduct of clinical trials and product approvals vary widely from country to country, and the time required for approval may be longer or shorter than that required for FDA approval. Although there are procedures for unified filings for most European countries, in general, each country also has its own additional procedures and requirements, especially related to pricing of new pharmaceuticals. Further, the FDA regulates the export of products produced in the United States and, in some circumstances, may prohibit the export even if such products are approved for sale in other countries.

        In the United States, the Orphan Drug Act provides incentives to drug manufacturers to develop and manufacture drugs for the treatment of rare diseases, currently defined as diseases that affect fewer than 200,000 individuals in the United States, or for a disease that affects more than 200,000 individuals in the United States, where the sponsor does not realistically anticipate its product becoming profitable. The FDA has granted PROVIGIL orphan drug status for use in treating excessive daytime sleepiness associated with narcolepsy and has designated MYOTROPHIN as an orphan drug for use in treating ALS, because each indication currently affects fewer than 200,000 individuals in the United States. Under the Orphan Drug Act, a manufacturer of a designated orphan product can seek certain tax benefits, and the holder of the first FDA approval of a designated orphan product will be granted a seven-year period of marketing exclusivity for that product for the orphan indication. While the marketing exclusivity of an orphan drug would prevent other sponsors from obtaining approval of the same drug compound for the same indication unless the subsequent sponsors could demonstrate clinical superiority or a market shortage occurs, it would not prevent other sponsors from obtaining approval of the same compound for other indications or the use of other types of drugs for the same use as the orphan drug. Orphan drug designation generally does not confer any special or preferential treatment in the regulatory review process. The U.S. Congress has considered, and may consider in the future, legislation that would restrict the duration or scope of the market exclusivity of an orphan drug and, thus, we cannot be sure that the benefits of the existing statute will remain in effect. Additionally, we cannot be sure that other governmental regulations applicable to our products will not change.

        In addition to the market exclusivity period under the Orphan Drug Act, the U.S. Drug Price Competition and Patent Term Restoration Act of 1984 permits a sponsor to apply for a maximum five-year extension of the term of a patent for a period of time following the initial FDA approval of an NDA for a New Chemical Entity (NCE). The statute specifically allows a patent owner acting with due diligence to extend the term of the patent for a period equal to one-half the period of time elapsed between the approval of the IND and the filing of the corresponding NDA, plus the period of time between the filing of the NDA and FDA approval, up to a maximum of five years of patent term extension. Any such extension, however, cannot extend the patent term beyond a maximum term of fourteen years following FDA approval and is subject to other restrictions. Additionally,

17

under this statute, five years of marketing exclusivity is granted for the first approval of an NCE. During this period of exclusivity, sponsors generally may not file and the FDA may not approve an abbreviated New Drug Application or a 505(b)(2) application for a drug product equivalent or identical to the NCE. An ANDA is the application form typically used by manufacturers seeking approval of a generic version of an approved drug. There is also a possibility that Congress will revise the underlying statute in the next few years, which may affect these provisions in ways that we cannot foresee. Additionally, the FDA regulates the labeling, storage, record keeping, advertising and promotion of prescription pharmaceuticals. Drug manufacturing establishments must register with the FDA and list their products with the FDA.

        The Controlled Substances Act imposes various registration, record-keeping and reporting requirements, procurement and manufacturing quotas, labeling and packaging requirements, security controls and a restriction on prescription refills on certain pharmaceutical products. A principal factor in determining the particular requirements of this act, if any, applicable to a product is its actual or potential abuse profile. A pharmaceutical product may be listed as a Schedule II, III, IV or V substance, with Schedule II substances considered to present the highest risk of substance abuse and Schedule V substances the lowest. Modafinil, the active drug substance in PROVIGIL, has been scheduled under the Controlled Substances Act as a Schedule IV substance. Schedule IV substances are allowed no more than five prescription refills during a six-month period and are subject to special handling procedures relating to the storage, shipment, inventory control and disposal of the product. Fentanyl, the active ingredient in ACTIQ, is a Schedule II controlled substance. Schedule II substances are subject to even stricter handling and record keeping requirements and prescribing restrictions than Schedule III or IV products. In addition to federal scheduling, both PROVIGIL and ACTIQ are subject to state controlled substance regulation, and may be placed in more restrictive schedules than those determined by the U.S. Drug Enforcement Agency and FDA. However, to date, neither modafinil nor fentanyl has been placed in a more restrictive schedule by any state.

        In addition to the statutes and regulations described above, we also are subject to regulation under the Occupational Safety and Health Act, the Environmental Protection Act, the Toxic Substances Control Act, the Resource Conservation and Recovery Act and other federal, state and local regulations.

EMPLOYEES

        As of December 31, 2002, we had a total of 1,271 full-time employees, of which 706 were employed in the United States and 565 were located at our various facilities in Europe. We believe that we have been successful in attracting skilled and experienced personnel; however, competition for such personnel is intense.

ITEM 2. PROPERTIES

        We own our corporate headquarters which are located in West Chester, Pennsylvania and which consist of approximately 160,000 square feet of administrative offices and research facilities. We also lease approximately 52,000 square feet of administrative offices that are near our owned facilities in West Chester. In Salt Lake City, Utah, we house administrative, research, manufacturing and warehousing operations in approximately 123,000 square feet that we lease. We lease office space for our European operations in England, as well as space for our satellite offices in Switzerland and Germany. In France, we own administrative facilities, an executive and research facility, a manufacturing facility, a packaging facility and various warehouses totaling approximately 285,000 square feet. We also lease the site of our other manufacturing facility in France totaling approximately 29,000 square feet. We believe that our current facilities are adequate for our present purposes, although we are seeking additional facilities necessary to support our anticipated growth over the next several years.

ITEM 3. LEGAL PROCEEDINGS

        On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies seeking FDA approval for a generic equivalent of modafinil. The lawsuit claims infringement of our U.S. Patent No. RE37516, which covers the pharmaceutical compositions and methods of treatment with the form of modafinil contained in PROVIGIL. We intend to vigorously defend the validity, and prevent infringement, of this patent.

        We are a party to certain other litigation in the ordinary course of our business, including, among others, U.S. patent interference proceedings, European patent oppositions, and matters alleging employment discrimination, product liability and breach of commercial contract. We are vigorously defending ourselves in all of these actions and do not believe these matters, even if adversely adjudicated or settled, would have a material adverse effect on our financial condition or results of operations.

18

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

        We did not submit any matters to the vote of security holders during the fourth quarter of fiscal 2002.

Executive Officers of the Registrant

        The names, ages and positions held by our executive officers as of December 31, 2002 are as follows:

Name	Age	Position
Frank Baldino, Jr., Ph.D.	49	Chairman and Chief Executive Officer
Paul Blake, F.R.C.P.	55	Senior Vice President, Clinical Research and Regulatory Affairs
J. Kevin Buchi	47	Senior Vice President and Chief Financial Officer
Peter E. Grebow, Ph.D.	56	Senior Vice President, Worldwide Business Development
John E. Osborn	45	Senior Vice President, General Counsel and Secretary
Robert P. Roche, Jr.	47	Senior Vice President, Pharmaceutical Operations
Carl A. Savini	53	Senior Vice President, Human Resources
Jeffry L. Vaught, Ph.D.	52	Senior Vice President and President, Research and Development

        All executive officers are elected by the Board of Directors to serve in their respective capacities until their successors are elected and qualified or until their earlier resignation or removal.

        Dr. Baldino founded Cephalon and has served as Chief Executive Officer and a director since its inception. He was appointed Chairman of the Board of Directors in December 1999. Dr. Baldino received his Ph.D. degree from Temple University, holds several adjunct academic appointments and is a trustee of Temple University. Dr. Baldino currently serves as a director of Pharmacopeia, Inc., a developer of proprietary technology platforms for pharmaceutical companies, ViroPharma, Inc., a biopharmaceutical company, Acusphere, Inc., a specialty pharmaceutical company, and NicOx S.A., a company engaged in the research, development and commercialization of nitric oxide therapeutics.

        Dr. Blake joined Cephalon in March 2001 as Senior Vice President, Clinical Research and Regulatory Affairs. From 1999 to 2001, Dr. Blake served as Chief Medical Officer for MDS Proteomics Inc., a Canadian health and life sciences company. From 1998-99 Dr. Blake served as President and Chief Executive Officer of Proliance Pharmaceuticals, Inc., a drug development company. Prior to that, he spent six years with SmithKline Beecham Pharmaceuticals (currently known as GlaxoSmithKline), most recently as Senior Vice President and Medical Director. Dr. Blake received his medical degree from London University, Royal Free Hospital and completed his clinical training in Internal Medicine and Cardiology. Dr. Blake is a fellow of the Royal College of Physicians (UK), a fellow of the Faculty of Pharmaceutical Medicine and a fellow of the American College of Clinical Pharmacology.

        Mr. Buchi joined Cephalon as Controller in March 1991 and held several financial positions with the Company prior to being appointed Senior Vice President and Chief Financial Officer in April 1996. Between 1985 and 1991, Mr. Buchi served in a number of financial positions with E.I. du Pont de Nemours and Company. Since February 2003, Mr. Buchi has served as a member of the board of directors of Lorus Therapeutics Inc., a publicly-traded Canadian biotechnology company. Mr. Buchi received his masters of management degree from the J.L. Kellogg Graduate School of Management, Northwestern University, in 1982.

        Dr. Grebow joined Cephalon in January 1991 and served as Senior Vice President, Drug Development prior to holding his current position as Senior Vice President, Business Development. From 1988 to 1990, Dr. Grebow served as Vice President of Drug Development for Rorer Central Research, a division of Rhone-Poulenc Rorer Pharmaceuticals Inc., a pharmaceutical company. Dr. Grebow received his Ph.D. degree in Chemistry from the University of California, Santa Barbara.

        Mr. Osborn joined Cephalon in March 1997 as Vice President, Legal Affairs, was appointed Senior Vice President in September 1998, and has served as Senior Vice President, General Counsel and Secretary since January 1999. From 1992 to 1997, Mr. Osborn served in a number of legal positions with The DuPont Merck Pharmaceutical Company. Prior to that, he served in the George H.W. Bush administration with the U.S. Department of State, practiced corporate law with Hale and Dorr in Boston, and clerked for a U.S. Court of Appeals judge. Mr. Osborn received his law degree from the University of Virginia and holds a masters degree in international studies from The Johns Hopkins University. He also is a visiting fellow in politics at Princeton University and is a member of the Council on Foreign Relations.

        Mr. Roche joined Cephalon in January 1995 and has served as Senior Vice President, Pharmaceutical Operations since November 2000. Prior to that, he was appointed to Senior Vice President of Sales and Marketing in June 1999 and prior to that as Vice President, Sales and Marketing. Previously, Mr. Roche was Director and Vice President, Worldwide Strategic Product Development, for SmithKline Beecham's central nervous system and gastrointestinal products business, and held senior

19

marketing and management positions with that company in the Philippines, Canada and Spain. Mr. Roche graduated from Colgate University and received a master of business administration degree from The Wharton School, University of Pennsylvania.

        Mr. Savini joined Cephalon in June 1993 and has served as Senior Vice President, Human Resources since January 2000. Prior to that he served as Director, Human Resources and was appointed Vice President, Human Resources in January 1995. From 1983 to 1993, Mr. Savini was employed by Bristol-Myers Squibb Company and from 1981 to 1983 he was employed by Johnson & Johnson's McNeil Pharmaceuticals. Mr. Savini graduated from Pennsylvania State University and received a master of business administration degree from La Salle College.

        Dr. Vaught has been responsible for Cephalon's research operations since joining the Company in August 1991, and currently serves as Senior Vice President and President, Research and Development. Prior to joining Cephalon, Dr. Vaught was employed by the R. W. Johnson Pharmaceutical Research Institute, a subsidiary of Johnson & Johnson. Dr. Vaught received his Ph.D. degree from the University of Minnesota.

20

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

        Our common stock is quoted on the NASDAQ National Market under the symbol "CEPH." The following table sets forth the range of high and low sale prices for the common stock as reported on the NASDAQ National Market for the periods indicated below.

		High		Low
2001
	First Quarter	$	64.50	$	36.38
	Second Quarter		72.80		39.50
	Third Quarter		73.92		43.40
	Fourth Quarter		78.40		47.05
2002
	First Quarter	$	78.88	$	52.18
	Second Quarter		66.97		41.40
	Third Quarter		49.00		35.82
	Fourth Quarter		59.20		38.36

        As of March 14, 2003 there were 620 holders of record of our common stock. On March 14, 2003, the last reported sale price of our common stock as reported on the NASDAQ National Market was $44.10 per share.

        We have not paid any dividends on our common stock since our inception and do not anticipate paying any dividends on our common stock in the foreseeable future.

21

ITEM 6. SELECTED FINANCIAL DATA

        In October 2000, we completed a merger with Anesta Corp. under which we acquired all of the outstanding shares of Anesta in a tax-free, stock-for-stock transaction. The merger has been accounted for as a pooling-of-interests and, accordingly, all of our prior period consolidated financial statements have been restated to include the results of operations, financial position, and cash flows of Anesta. Information concerning common stock and per share data has been restated on an equivalent share basis.

        On December 28, 2001, we completed the acquisition of the outstanding shares of capital stock of Group Lafon. This acquisition has been accounted for as a purchase and, accordingly, the estimated fair value of assets acquired and liabilities assumed has been recorded as of the date of the acquisition.

	Year Ended December 31,
Statement of operations data:
	2002			2001			2000			1999			1998
	(In thousands, except per share data)
Product sales	$	465,943		$	226,132		$	91,637		$	27,602		$	921
Other revenues		40,954			35,863			20,153			23,832			15,409
Total revenues		506,897			261,995			111,790			51,434			16,330
Acquired in-process research and development		—			(20,000	)		(22,200	)		—			—
Debt exchange expense		—			(52,444	)		—			—			—
Income tax benefit, net		112,629			—			—			—			—
Income (loss) before cumulative effect of a change in accounting principle	$	175,062		$	(55,484	)	$	(93,744	)	$	(79,432	)	$	(71,124	)
Cumulative effect of a change in accounting principle		(3,534	)		—			(7,434	)		—			—
Net income (loss)		171,528			(55,484	)		(101,178	)		(79,432	)		(71,124	)
Dividends on convertible exchangeable preferred stock		—			(5,664	)		(9,063	)		(3,398	)		—
Net income (loss) applicable to common shares	$	171,528		$	(61,148	)	$	(110,241	)	$	(82,830	)	$	(71,124	)
Basic income (loss) per common share:
Income (loss) before cumulative effect of a change in accounting principle	$	3.17		$	(1.27	)	$	(2.51	)	$	(2.31	)	$	(2.15	)
Cumulative effect of a change in accounting principle		(.06	)		—			(.19	)		—			—
	$	3.11		$	(1.27	)	$	(2.70	)	$	(2.31	)	$	(2.15	)
Diluted income (loss) per common share:
Income (loss) before cumulative effect of a change in accounting principle	$	2.84		$	(1.27	)	$	(2.51	)	$	(2.31	)	$	(2.15	)
Cumulative effect of a change in accounting principle		(.05	)		—			(.19	)		—			—
	$	2.79		$	(1.27	)	$	(2.70	)	$	(2.31	)	$	(2.15	)
Weighted average number of shares outstanding		55,104			48,292			40,893			35,887			33,129
Weighted average number of shares outstanding — assuming dilution		67,442			48,292			40,893			35,887			33,129

22

	As of December 31,
Balance sheet data:
	2002			2001			2000			1999			1998
	(In thousands)
Cash, cash equivalents and investments	$	582,688		$	603,884		$	97,384		$	272,340		$	148,151
Total assets		1,689,090			1,446,408			308,435			312,262			179,802
Long-term debt		860,897			866,589			55,138			15,701			16,596
Accumulated deficit		(405,163	)		(576,691	)		(515,543	)		(405,302	)		(322,472	)
Stockholders' equity		642,584			398,731			165,193			230,783			137,621

Pro Forma Results

        The following data represents pro forma financial results assuming a retroactive adoption of changes in accounting principles.

	Year Ended December 31,
Statement of operations data:
	2000			1999			1998
	(In thousands, except per share data)
Total revenues	$	111,790		$	44,391		$	16,163
Net loss	$	(93,744	)	$	(90,009	)	$	(71,291	)
Dividends on convertible exchangeable preferred stock		(9,063	)		(3,398	)		—
Loss applicable to common shares	$	(102,807	)	$	(93,407	)	$	(71,291	)
Basic and diluted loss per common share	$	(2.51	)	$	(2.60	)	$	(2.15	)
Weighted average number of shares outstanding		40,893			35,887			33,129

23

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

The following discussion should be read in conjunction with our audited financial statements, including the related notes, presented in this Annual Report on Form 10-K.

SUBSEQUENT EVENTS

        Since the end of our fiscal year, we have announced the following events:

        In January 2003, we announced that we had entered into a five-year agreement with MDS Proteomics Inc. (MDSP), a subsidiary of MDS Inc., to utilize MDSP's technologies with the objective of accelerating the clinical development of and broadening the market opportunities for our pipeline of small chemical compounds. MDSP will receive payments upon the successful achievement of specified milestones and will receive royalties on sales of products resulting from the collaboration. As part of the agreement, we purchased from MDSP a $30.0 million 5% convertible note due 2010. The note is convertible into MDSP's common stock at an initial conversion price of $22.00 per share, subject to adjustment if MDSP sells shares of its common stock at a lower price.

        On February 5, 2003, we announced that the FDA had accepted an ANDA for a generic form of modafinil, the active ingredient found in PROVIGIL. On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies seeking FDA approval for a generic equivalent of modafinil. The lawsuit claims infringement of our U.S. Patent No. RE37516, which covers the pharmaceutical compositions and methods of treatment with the form of modafinil contained in PROVIGIL. We intend to vigorously defend the validity, and prevent infringement, of this patent.

        On March 7, 2003, our wholly-owned subsidiary, Cephalon Australia Pty. Limited, formally commenced a takeover bid for SIRTeX Medical Limited (ASX: SRX). SIRTeX markets SIR-Spheres®, a product approved in the United States, Europe, Australia and portions of Asia for the treatment of liver cancer. Under its bid, Cephalon Australia intends to offer A$4.85 cash for each SIRTeX ordinary share including any SIRTeX shares that are issued on the exercise of SIRTeX options. Cephalon Australia also has obtained an option to acquire shares from SIRTeX's largest shareholder representing up to 19.9 percent of the total issued share capital of SIRTeX at a price of A$4.85 per SIRTeX share. The total bid value is approximately US$161.0 million. If successful, we intend to fund the bid price using a portion of our existing cash balance. We believe there are a number of risks inherent in SIRTeX's business, post-acquisition. Specifically, we believe that we will need to significantly increase manufacturing capacity to meet projected demand in the U.S. and European markets over the next few years. Increasing capacity in the pharmaceutical industry is expensive, time consuming and requires approval of appropriate regulatory authorities. Until such expansions are complete, there can be no assurance that product will be available to satisfy anticipated demand for SIR-Spheres. We also believe that substantial investment will be necessary in many other aspects of SIRTeX's business, including sales, marketing and distribution, for us to realize the full potential of its technologies.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

        Management's Discussion and Analysis of Financial Condition and Results of Operations discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, 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. These estimates and assumptions are developed, and challenged periodically, by management based on historical experience and on various other factors that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

        Our significant accounting policies are described in Note 1 to the consolidated financial statements included in Item 8 of this Form 10-K. The SEC defines critical accounting policies as those that are, in management's view, most important to the portrayal of the company's financial condition and results of operations and most demanding of their judgment. Management considers the following policies to be critical to an understanding of our consolidated financial statements and the uncertainties associated with the complex judgments made by us that could impact our results of operations, financial position and cash flows.

Revenue recognition—Product sales are recognized upon the transfer of ownership and risk of loss for the product to the customer and are recorded net of estimated reserves for contractual allowances, discounts and returns. Contractual allowances result from sales under contracts with managed care organizations and government agencies. We determine the reserve for

24

contractual allowances by estimating prescriptions to be filled for individuals covered by government agencies and managed care organizations with which we have contracts. We permit product returns with respect to unused pharmaceuticals based on expiration dating of our product. We determine the reserve for product returns by reviewing the history of each product's returns and by estimating the amount of expected future product returns relating to current product sales. We utilize reports from wholesalers and other external, independent sources that produce prescription data. We review this data to monitor product movement through the supply chain to identify remaining inventory in the supply chain that may result in reserves for contractual allowances or returns. To date, product returns have not been material. We review our reserves for contractual allowances, discounts and returns at each reporting period and adjust these reserves as necessary to reflect data available at that time. To the extent we adjust the reserves, the amount of net product sales revenue recognized will fluctuate.

        Other revenue, which includes revenues from collaborative agreements, consists primarily of up-front fees, ongoing research and development funding, milestone payments and certain payments under co-promotional or managed services agreements. Non-refundable up-front fees are deferred and amortized to revenue over the related performance period. We estimate our performance period based on the specific terms of each collaborative agreement, but, in practice, our actual performance may vary from our estimate. We adjust the performance periods, if appropriate, based upon available facts and circumstances, though our assessment of such facts and circumstances requires us to use our judgment and experience. We recognize periodic payments for research and development activities over the period that we perform the related activities under the terms of the agreements. Revenue resulting from the achievement of milestone events stipulated in the agreements is recognized when the milestone is achieved. Milestones are based upon the occurrence of a substantive element specified in the contract or as a measure of substantive progress towards completion under the contract.

        Payments under co-promotional or managed services agreements are recognized over the period when the products are sold or the promotional activities are performed. The portion of the payments that represent reimbursement of our expenses are recognized as an offset to those expenses in our statement of income.

Inventories—Our inventories are valued at the lower of cost or market, and include the cost of raw materials, labor, overhead and shipping and handling costs. Inventories are valued at standard cost, with variances between standard and actual costs recorded as an adjustment to cost of product sales or, if material, apportioned to inventory and cost of product sales. The majority of our inventories are subject to expiration dating. We regularly evaluate the carrying value of our inventories and when, in our opinion, factors indicate that impairment has occurred, we establish a reserve against the inventories' carrying value. Our determination that a valuation reserve might be required, in addition to the quantification of such reserve, requires us to utilize significant judgment. We base our analysis, in part, on the level of inventories on hand in relation to our estimated forecast of product demand, production requirements over the next 12 months and the expiration dates of raw materials and finished goods. Although we make every effort to ensure the accuracy of forecasts of future product demand, any significant unanticipated decreases in demand could have a material impact on the carrying value of our inventories and our reported operating results. To date, inventory adjustments have not been material.

Valuation of Property and Equipment, Goodwill and Intangible Assets—Our property and equipment has been recorded at cost and is being amortized on a straight-line basis over the estimated useful life of those assets. Our intangible assets (which consist primarily of developed technology, trademarks, and product and marketing rights), are amortized over estimated useful lives which are intended to approximate the estimated pattern of economic benefits generated by the asset. Determining the "estimated pattern of economic benefit" for an intangible asset is a highly subjective and difficult assessment. To the extent that the pattern cannot be reliably determined, a straight line amortization method may be used.

        In conjunction with acquisitions of businesses or product rights, we allocate the purchase price based upon the relative fair values of the assets acquired and liabilities assumed. In certain circumstances, fair value may be assigned to purchased in-process technology and expensed immediately.

        We regularly assess whether intangibles, long-lived assets and goodwill have been impaired and adjust the carrying values of these assets whenever events or changes in circumstances indicate that some or all of the carrying value of the assets may not be recoverable. Our judgments regarding the existence of impairment indicators are based on legal factors, market conditions and operating performances of our businesses and products. Future events could cause us to conclude that impairment indicators exist and that the carrying values of our property and equipment, intangible assets or goodwill are impaired. Any resulting impairment loss could have a material adverse impact on our financial position and results of operations. No impairment losses have been recorded to date.

        We evaluate the recoverability and measure the possible impairment of our goodwill under Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets." The impairment test is a two-step process that begins with the estimation of the fair value of the reporting unit. The first step screens for potential impairment, and the second

25

step measures the amount of the impairment, if any. Our estimate of fair value considers publicly available information regarding the market capitalization of our company, as well as (i) publicly available information regarding comparable publicly-traded companies in the pharmaceutical industry, (ii) the financial projections and future prospects of our business, including our growth opportunities and likely operational improvements, and (iii) comparable sales prices, if available. As part of the first step to assess potential impairment, we compare our estimate of fair value for the company to the book value of our consolidated net assets. If the book value of our consolidated net assets were greater than our estimate of fair value, we would then proceed to the second step to measure the impairment, if any. The second step compares the implied fair value of goodwill with its carrying value. The implied fair value is determined by allocating the fair value of the reporting unit to all of the assets and liabilities of that unit as if the reporting unit had been acquired in a business combination, and the fair value of the reporting unit was the purchase price paid to acquire the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. If the carrying amount of the reporting unit goodwill is greater than its implied fair value, an impairment loss will be recognized in the amount of the excess.

        We performed our annual test of impairment of goodwill as of July 1, 2002. We have only one reporting unit, a pharmaceutical unit, that constitutes our entire business. We compared the fair value of this reporting unit with its carrying value. Our quoted market value at July 1, 2002 was used as the fair value of the reporting unit. Since the fair value of the reporting unit exceeded its carrying value at July 1, 2002, no adjustment to our goodwill for impairment is necessary.

        On a quarterly basis, we perform a review of our business to determine if events or changes in circumstances have occurred that could have a material adverse effect on the fair value of our company and its goodwill. If we determine that such events or changes in circumstances have occurred, we would consult with one or more valuation specialists in estimating the impact of these on our estimate of fair value. We believe the estimation methods are reasonable and reflective of common valuation practices.

Income taxes—We have provided for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes," which requires the recognition of deferred tax assets and liabilities for the expected tax consequences of temporary differences between the tax and financial reporting bases of assets and liabilities.

        Prior to 2002, we had a history of losses from our operations, which generated significant international, federal and state net operating loss and tax credit carryforwards. We record a valuation allowance against deferred tax assets if it is more likely than not that they will not be recovered. Based on our profitability for the year ended December 31, 2002 and projected future results, in the fourth quarter of 2002, we concluded that it was more likely than not that we would be able to realize a significant portion of the deferred tax assets, and therefore, we reversed a significant portion of the valuation allowance. As a result, beginning in 2003, we will begin to provide for income taxes at a rate equal to our estimated combined federal and state effective rates. Subsequent adjustments to our estimates of our ability to recover the deferred tax assets could cause our provision for income taxes to vary from period to period.

RECENT ACCOUNTING PRONOUNCEMENTS

        On January 1, 2002, we adopted the provisions of SFAS 142, "Goodwill and Other Intangible Assets." SFAS 142 no longer requires the amortization of goodwill; rather, goodwill will be subject to a periodic assessment for impairment by applying a fair-value-based test. In addition, an acquired intangible asset should be separately recognized if the benefit of the intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented, or exchanged, regardless of the acquirer's intent to do so. Such acquired intangible assets will be amortized over the period in which the economic benefits of the intangible asset are consumed or otherwise used up. The new criteria for recording intangible assets separate from goodwill did not require us to reclassify any of our intangible assets. We have only recorded goodwill related to our acquisition of Group Lafon.

        In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 143, "Accounting for Asset Retirement Obligations," which requires recognition of the fair value of liabilities associated with the retirement of long-lived assets when a legal obligation to incur such costs arises as a result of the acquisition, construction, development and/or the normal operation of a long-lived asset. SFAS 143 requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset and subsequently allocated to expense over the asset's useful life. SFAS 143 is effective for fiscal years beginning after December 15, 2002. The adoption of this new standard will not have any impact on our current financial statements.

26

        On January 1, 2002, we adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." This Statement provides new guidance on the recognition of impairment losses on long-lived assets to be held and used or to be disposed of and also broadens the definition of what constitutes a discontinued operation and how the results of a discontinued operation are to be measured and presented. The adoption of this new standard has not had a material impact on our current financial statements.

        In April 2002, the FASB issued SFAS No. 145 "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections." This Statement amends or rescinds certain existing authoritative pronouncements including SFAS No. 4, "Reporting Gains and Losses on Extinguishment of Debt," such that the provisions of Accounting Principles Board Opinion (APB) No. 30 "Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions" must now be followed to determine if the early extinguishment of debt should be classified as an extraordinary item. In addition, any gain or loss on extinguishment of debt that was classified as an extraordinary item in prior periods that does not meet the criteria in APB 30 must be reclassified. SFAS 145 is effective for fiscal years beginning after May 15, 2002. We adopted this new standard effective December 31, 2002 and reclassified all gains and losses on early extinguishment of debt as other income and expense, rather than extraordinary items, in our current financial statements.

        In June 2002, the FASB issued SFAS No. 146, "Accounting for Exit or Disposal Activities." This Statement addresses the recognition, measurement and reporting of costs that are associated with exit and disposal activities, including restructuring activities that are currently accounted for pursuant to the guidance in Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." The Statement requires that costs associated with exit or disposal activities be recorded at their fair values when a liability has been incurred. SFAS 146 is effective for disposal activities initiated after December 31, 2002. The adoption of this new standard will not have any impact on our current financial statements.

        In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure." SFAS 148 amends SFAS 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, this Statement amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The alternative methods of transition and additional disclosure requirements of SFAS 148 are effective January 1, 2003.

        In November 2002, the FASB issued FASB Interpretation (FIN) No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees." This Interpretation requires that upon the issuance of a guarantee, the guarantor must recognize a liability for the fair value of the obligation it assumes under that guarantee. FIN 45 is effective for guarantees issued or modified after December 31, 2002. The adoption of this new statement will not have any impact on our current financial statements.

        In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable Interest Entities." This Interpretation addresses consolidation of variable interest entities where an enterprise does not have voting control over the entity but has a controlling financial interest in the entity. FIN 46 is effective for all financial statements issued after September 30, 2003. As a result of the adoption of this standard, Cephalon Clinical Partners, L.P. will be consolidated in our financial statements. This consolidation will not have a material impact on our financial statements.

27

RESULTS OF OPERATIONS

        For the year ended December 31, revenues consisted of the following (in thousands):

		2002		2001		2000
Product sales:
	PROVIGIL	$	196,265	$	150,305	$	72,089
	ACTIQ		126,725		51,197		15,169
	GABITRIL		48,760		24,630		4,379
	Group Lafon products		94,193		—		—
Total product sales			465,943		226,132		91,637
Other revenues:
	H. Lundbeck A/S		10,411		11,941		10,395
	Novartis Pharma AG		3,564		5,780		—
	Sanofi-Synthélabo		20,899		5,052		—
	Other		6,080		13,090		9,758
Total other revenues			40,954		35,863		20,153
Total revenues		$	506,897	$	261,995	$	111,790

Year ended December 31, 2002 compared to year ended December 31, 2001

Revenues—Total product sales in 2002 increased 106% over 2001. The increase is attributable to a number of factors including:

•

Sales of PROVIGIL increased by 31% compared to last year. This increase was the net result of strong underlying demand for PROVIGIL in the U.S. as evidenced by a 59% increase in prescriptions filled over last year and a 5% price increase effective June 1, 2002. These increases were partially offset by the reduction during 2002 of higher than normal inventory levels which existed at certain wholesalers at the end of 2001 due to significant speculative buying.



•

Sales of ACTIQ increased 148% compared to last year. Domestic sales increased 146% driven by a 152% increase in U.S. prescriptions filled. After our merger with Anesta Corp. in October 2000, we established a dedicated sales force for ACTIQ and have made ongoing changes to our marketing approach including hiring additional sales representatives and targeting our marketing efforts to pain specialists, all of which have contributed to sales growth. A domestic price increase of 4.9% effective March 1, 2002 also contributed to higher revenues.



•

Sales of GABITRIL increased 98% compared to last year as a result of: (1) a 73% increase in U.S. market demand driven by an expansion of our sales force and marketing efforts during 2002, (2) a 9.8% average U.S. price increase effective March 1, 2002, and (3) the initiation of our European sales efforts, following the December 2001 acquisition of European rights to GABITRIL, which yielded $6.1 million in 2002 sales.



•

Product sales generated by Group Lafon, which we acquired on December 28, 2001, were $94.2 million during 2002. The most significant product sales during the year were $47.9 million of SPASFON®, used for biliary/urinary tract spasm and irritable bowel syndrome. Sales of MODIODAL, the trade name for modafinil in France, were $10.9 million for 2002.

        Amounts recorded as other revenues consist primarily of amortization of up-front fees, ongoing research and development funding, milestone payments and certain payments under co-promotional or managed services agreements. Total other revenues increased 14% from year to year. The increase is predominantly a result of the recognition of a full year of revenue recorded under our collaboration agreement with Sanofi-Synthelabo which became effective in the fourth quarter of 2001.

Cost of Product Sales—The cost of product sales in 2002 decreased to 16% of product sales from 20% in 2001 principally due to the improvement in PROVIGIL margins as a result of our acquisition of Group Lafon.

Research and Development Expenses—Research and development expenses increased 54% to $128.3 million for 2002 from $83.0 million for 2001. $19.8 million of the increase is the result of research and development expenses incurred at Group Lafon during 2002 for which there are no comparable amounts in 2001. Approximately $15.6 million of this increase is due to higher expenditures on our clinical trials, including Phase 2/3 clinical studies for CEP-1347, studies related to our efforts to expand the label for PROVIGIL and to explore the utility of GABITRIL beyond their respective indications, and increased infrastructure costs to support the growing number of ongoing clinical trials. Approximately $8.0 million of the increase is attributable to expenditures on development costs for compounds that have progressed into later stages of development.

28

Selling, General and Administrative Expenses—Selling, general and administrative expenses increased 80% to $172.8 million for 2002 from $96.2 million for 2001 primarily as a result of $38.8 million of Group Lafon expenses for which there are no comparable amounts in 2001 and $21.4 million associated with the expansion of both our U.S. field sales force and promotional expenses for our products.

Depreciation and Amortization Expenses—Depreciation and amortization expenses increased to $35.5 million during 2002 from $14.4 million during 2001, of which $11.0 million is attributable to amortization of intangible assets acquired in our acquisition of Group Lafon and $4.8 million is attributable to depreciation for property and equipment acquired from Group Lafon and depreciation from capitalized building improvements at our West Chester and Salt Lake City locations. The remainder of the increase is due to amortization expense associated with the capitalization of various payments in 2002 for additional product rights.

Acquired In-Process Research and Development—In connection with our acquisition of Group Lafon in December 2001, we acquired the rights to certain early stage technologies. Based on an independent appraisal of the assets acquired from Group Lafon, the fair value of these technologies of $20.0 million was recorded as acquired in-process research and development expense in 2001 because, at the date of the acquisition, the technologies acquired had not progressed to a stage where they met technological feasibility and there existed a significant amount of uncertainty as to our ability to complete the development of the technologies and achieve market acceptance within a reasonable timeframe. In addition, the acquired in-process technologies did not have an alternative future use to us that had reached technological feasibility.

Interest Income—Interest income increased by $1.9 million from 2001 due to higher average investment balances partially offset by lower average rates of return in 2002.

Interest Expense—Interest expense increased by $17.6 million from 2001 due primarily to a full year of interest recorded on the convertible subordinated notes issued in May and December of 2001.

Debt Exchange Expense—In accordance with Statement of Financial Accounting Standards No. 84 "Induced Conversions of Convertible Debt," we recorded a non-cash charge of $52.4 million in the fourth quarter of 2001 associated with the exchange of $217.0 million of our 5.25% convertible notes for our common stock.

Gain (Charge) on Early Extinguishment of Debt—In December 2001, we formed a joint venture with an unaffiliated third party investor to fund additional commercial activities in support of PROVIGIL and GABITRIL in the United States. In exchange for our transfer to the joint venture of certain intellectual property and other rights related to these two products, we received a Class B interest, representing a 50% interest in the joint venture. In exchange for its contribution of $50.0 million in cash to the joint venture, the investor received Class A interests, also representing a 50% interest in the joint venture. We accounted for this transaction by recording the investor's Class A interest of $50.0 million as long-term debt on our balance sheet at December 31, 2001. On March 29, 2002, we acquired the investor's Class A interests and ended the joint venture by the issuance and sale in a private placement of $55.0 million aggregate principal amount of 3.875% convertible subordinated notes due March 2007. The purchase of the unaffiliated third party investor's Class A interests in connection with the termination of the joint venture resulted in the recognition of an extinguishment of debt charge of $7.1 million during the first quarter of 2002.

        In May 2001, we paid $24.4 million to Novartis Pharma AG for deferred obligations due to them under our November 2000 collaboration agreement. In connection with this payment, we recorded a gain on the early extinguishment of debt during the second quarter of 2001 of $3.0 million.

Other Expense—Other expense primarily represents the effect of changes in the currency exchange value of the pound Sterling (GBP) and the Euro relative to the settlement of transactions in other currencies, and to an increase in the currency exchange value of the GBP relative to our other foreign operations' currencies that are remeasured into the GBP for financial reporting purposes.

Income Tax Benefit, Net—We recorded a net income tax benefit of $112.6 million in 2002. In light of our expectations for continued profitability, we concluded that it was more likely than not that we would realize a portion of the benefit of the accumulated international, federal and state net operating losses, and federal research and development credits. We reduced the valuation allowance against these deferred tax assets accordingly. The recognition of these deferred tax assets had no impact on our 2002 cash flows. This income tax benefit was partially offset by current year income tax expense primarily associated with our Group Lafon operations.

Cumulative Effect of Changing Inventory Costing Method from FIFO to LIFO—Effective January 1, 2002, we changed our method of valuing domestic inventories from the first-in, first-out, or FIFO method, to the last-in, first-out, or LIFO method. We recognized a charge of $3.5 million in the first quarter of 2002 as the cumulative effect of adopting the LIFO inventory costing

29

method. The acquisition of Group Lafon's manufacturing operations and the planned expansion of our internal manufacturing capacity for ACTIQ has reduced and is expected to further reduce our reliance on third party manufacturers. The expansion of our internal manufacturing capabilities should allow us to benefit from efficiencies of scale and lead to lower per unit inventory cost. The LIFO method will reflect these expected changes to manufacturing costs on the statement of operations on a timelier basis, resulting in a better matching of current costs of products sold with product revenues. Cost of product sales under the LIFO inventory costing method was $17.9 million lower in 2002 than it would have been under the FIFO method.

Dividends on Convertible Exchangeable Preferred Stock—As of December 31, 2001, there were no shares of preferred stock outstanding and, therefore, no dividends were recorded in 2002.

Year ended December 31, 2001 compared to year ended December 31, 2000

Revenues—Product sales in 2001 increased 147% over 2000. The increase is attributable to a number of factors including:

•

Sales of PROVIGIL increased 108% from $72.1 million in 2000 to $150.3 million in 2001. The 2001 sales increase was due to higher sales resulting from increased market acceptance, as well as a 5% domestic price increase that took effect in the second quarter of 2001.



•

Sales of ACTIQ increased 238% from $15.2 million in 2000 to $51.2 million in 2001. After our merger with Anesta in October 2000, we established a dedicated sales force for ACTIQ and significantly changed the marketing approach. An average domestic 6.6% price increase in the second quarter of 2001 also contributed to higher recorded sales.



•

Sales of GABITRIL increased from $4.4 million in 2000 to $24.6 million in 2001. We acquired all U.S. rights to GABITRIL from Abbott Laboratories during late 2000 and began selling GABITRIL effective January 1, 2001. Prior to 2001, our GABITRIL revenues represented compensation from Abbott under a collaborative agreement where we received a percentage of GABITRIL sales in excess of a base amount. Additionally, an average increase in domestic prices of 10% in the second quarter of 2001 also contributed to the sales increase.

        Other revenues increased by $15.7 million, or 78%. This increase was due primarily to revenues recognized under our U.K. joint marketing agreement with Novartis Pharma AG, which we entered into in November 2000, and revenues recognized under our licensing, development and marketing collaboration with Sanofi-Synthélabo, which became effective in the fourth quarter of 2001.

Cost of Product Sales—Cost of product sales rose 153% in 2001 to $44.9 million from $17.8 million in 2000 primarily as a result of the increase in 2001 product sales volumes. Aggregate cost of product sales for all three products remained at 20% of product sales for both 2001 and 2000 due to decreased costs for U.S. production of ACTIQ offset by GABITRIL revenues of $4.4 million in 2000 that did not have corresponding cost of product sales since it was being sold under a collaborative agreement with Abbott.

Research and Development Expenses—Research and development expenses increased 22% in 2001 to $83.0 million from $68.1 million in 2000. The increase is attributable to higher expenditures on clinical trials including infrastructure costs to support the growing number of ongoing clinical trials including Phase 2 clinical studies for CEP-1347 and studies of PROVIGIL related to our efforts to expand the label for PROVIGIL beyond its current indication. In addition, research and development expenses also increased because of regulatory and intellectual property fees.

Selling, General and Administrative Expenses—Selling, general and administrative expenses increased 15% in 2001 to $96.2 million from $83.7 million in 2000. The increase is primarily due to increases in expenditures of $13.8 million associated with the growth of our internal sales force to promote and support PROVIGIL, ACTIQ, and GABITRIL in the United States.

Depreciation and Amortization Expenses—Depreciation and amortization expenses increased to $14.4 million in 2001 from $4.0 million in 2000 primarily due to a full year of amortization expense in 2001 on intangible assets acquired during late 2000 relating to both our acquisition of GABITRIL product rights in the United States and our U.K. joint marketing agreement with Novartis.

Certain Charges—In 2000 we recorded $6.6 million representing the final royalty payment associated with the revenue sharing notes and $13.8 million in merger and integration costs as a result of the merger with Anesta.

Acquired In-Process Research and Development—In connection with our acquisition of Group Lafon in December 2001, we acquired the rights to certain early stage technologies. Based on an independent appraisal of the assets acquired from Group Lafon, the fair value of these technologies of $20.0 million was recorded as acquired in-process research and development expense in 2001 because, at the date of the acquisition, the technologies acquired had not progressed to a stage where they

30

met technological feasibility and there existed a significant amount of uncertainty as to our ability to complete the development of the technologies and achieve market acceptance within a reasonable timeframe. In addition, the acquired in-process technologies did not have an alternative future use to us that had reached technological feasibility.

        During 2000, we acquired U.S. marketing rights to GABITRIL in a transaction that resulted in us recording $22.2 million as acquired in-process research and development expense. At the acquisition date, we were committed to completing advanced clinical studies for GABITRIL and developing additional uses for the drug. Ongoing and proposed projects included plans to develop GABITRIL for additional indications including the treatment of general anxiety disorder, post traumatic stress disorder, insomnia and other conditions. At the acquisition date, approximately $5.0 million had been incurred toward completion of the in-process research and development projects, and we expected to spend an additional $79.0 million to complete clinical testing and maintain the product. Multiple projects will be initiated in 2003 to support the development of GABITRIL in additional indications. However, development will continue in these areas for a period of two to three years.

Interest Income—Interest income decreased to $12.2 million in 2001 from $16.9 million in 2000 primarily due to $4.0 million of interest income recorded in 2000 associated with the waiver of an interest rate penalty by the Commonwealth of Pennsylvania on a loan used to finance the purchase of our West Chester facilities. The remaining decrease in interest income is due to lower average interest rates in 2001 as compared to 2000, offset in part by higher average investment balances.

Interest Expense—Interest expense increased in 2001 to $20.6 million from $5.2 million in 2000 due to interest on our convertible subordinated notes issued in May and December of 2001, a $1.5 million fee associated with establishing a line of credit for the Group Lafon acquisition and interest recognized on our obligations to Abbott and Novartis. These increases were partially offset by a decrease in interest expense due to the retirement of revenue-sharing notes in the first quarter of 2000.

Debt Exchange Expense—In accordance with Statement of Financial Accounting Standards No. 84 "Induced Conversions of Convertible Debt," we recorded a non-cash charge of $52.4 million in the fourth quarter of 2001 associated with the exchange of $217.0 million of our 5.25% convertible notes for our common stock.

Gain on Early Extinguishment of Debt—In May 2001, we paid $24.4 million to Novartis Pharma AG for deferred obligations due to them under our continuing November 2000 collaboration agreement. In connection with this payment, we recorded a gain on the early extinguishment of debt of $3.0 million.

Other Expense—Other expense represents an increase in currency exchange value of the pound Sterling (GBP) relative to both the U.S. dollar and to our other foreign operations' currencies that are remeasured into the GBP for financial reporting purposes.

Cumulative Effect of a Change in Accounting Principle—We adopted the U.S. Securities and Exchange Commission's Staff Accounting Bulletin No. 101 (SAB 101) on Revenue Recognition and, as a result, we recorded a charge of $7.4 million in the fourth quarter of 2000 to defer upfront license fees associated with our collaborative alliances that were previously recognized in revenues. These payments will be recognized over the performance periods of the alliances.

Dividends on Convertible Exchangeable Preferred Stock—Preferred dividends in 2001 were less than in 2000 due to the conversion during the second and third quarters of 2001 of all outstanding shares of preferred stock into an aggregate of 6,974,998 shares of our common stock. As of December 31, 2001, there were no shares of preferred stock outstanding.

JOINT VENTURE

        In December 2001, we formed a joint venture with unaffiliated third party investors to fund additional commercial activities in support of PROVIGIL and GABITRIL in the United States. In exchange for our transfer to the joint venture of certain intellectual property and other rights related to these two products, we received a Class B interest, representing a 50% interest in the joint venture. In exchange for its contribution of $50.0 million in cash to the joint venture, the investors received Class A interests, also representing a 50% interest in the joint venture.

        At December 31, 2001, the $50.0 million investors' Class A interest was recorded on our balance sheet as debt, and the joint venture's cash balance of $50.0 million was included in our balance of cash and cash equivalents.

        On March 29, 2002, we acquired the investors' Class A interests and ended the joint venture by issuing to the investors, through a private placement, $55.0 million aggregate principal amount of 3.875% convertible subordinated notes due March 2007. The notes are convertible into our common stock, at the option of the holder, at a price of $70.36 per share. The purchase of the investor's Class A interests in the joint venture resulted in the recognition of a charge of $7.1 million on the early extinguishment of debt during the first quarter of 2002.

31

LIQUIDITY AND CAPITAL RESOURCES

        Cash, cash equivalents and investments at December 31, 2002 were $582.7 million, representing 34% of total assets. Working capital was $666.3 million at December 31, 2002.

Net Cash Provided by Operating Activities

        Net cash provided by operating activities was $102.6 million for the year ended December 31, 2002 as compared to $12.3 million for 2001. The increase in net cash provided by operating activities is primarily the result of higher net income in 2002.

Net Cash (Used for) Provided by Investing Activities

        Net cash used for investing activities was $145.8 million for the year ended December 31, 2002 compared to $475.1 million in 2001. Net cash used for investing activities was higher in 2001 primarily as a result of the 2001 acquisition of Group Lafon, net of cash acquired, for $447.7 million, offset by additional acquisitions of intangible assets during 2002. Specific 2002 intangible asset investments included a payment of $50.0 million for the October 2002 acquisition of ACTIQ marketing rights in certain countries from Elan and a payment of $10.0 million to Abbott pursuant to the extension of the GABITRIL composition of matter patent. Higher property and equipment purchases in 2002 related to the expansion of our manufacturing capacity at our facilities in Salt Lake City, Utah, and France also contributed to the difference.

Net Cash Provided by (Used for) Financing Activities

        Net cash used for financing activities was $28.9 million for the year ended December 31, 2002, as compared to net cash provided by financing activities of $974.6 million in 2001. The period-to-period change is primarily the result of net proceeds received from the May 2001 and December 2001 issuances of convertible subordinated notes.

        During 2001, we also made dividend payments of $6.8 million on the previously outstanding shares of convertible, exchangeable preferred stock. All outstanding preferred shares were converted during the second and third quarters of 2001 into an aggregate of 6,974,998 shares of our common stock.

Commitments and Contingencies

—Legal Proceedings

        On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies seeking FDA approval for a generic equivalent of modafinil. The lawsuit claims infringement of our U.S. Patent No. RE37516, which covers the pharmaceutical compositions and methods of treatment with the form of modafinil contained in PROVIGIL. We intend to vigorously defend the validity, and prevent infringement, of this patent.

        We are a party to certain other litigation in the ordinary course of our business, including, among others, U.S. patent interference proceedings, European patent oppositions, and matters alleging employment discrimination, product liability and breach of commercial contract. We are vigorously defending ourselves in all of the actions against us and do not believe these matters, even if adversely adjudicated or settled, would have a material adverse effect on our financial condition or results of operations.

—Standby Letters of Credit

        As of December 31, 2002, we had a $0.8 million standby letter of credit outstanding.

—Other Commitments and Contingencies

        The following table summarizes our obligations to make future payments under current contracts (in thousands):

	Payments due by period
Contractual obligations	Total		Less than 1 year		1-3 years		4-5 years		More than 5 years
Long-term debt	$	18,543	$	2,875	$	4,747	$	4,511	$	6,410
Capital lease obligations		2,594		2,053		541		—		—
Operating leases		21,042		5,724		7,381		2,970		4,967
Convertible notes		838,000		—		—		838,000		—
Other long-term liabilities on balance sheet		17,162		10,474		6,688		—		—
Total contractual cash obligations	$	897,341	$	21,126	$	19,357	$	845,481	$	11,377

32

        In addition to the above, we have committed to make potential future "milestone" payments to third parties as part of our in-licensing and development programs. Payments under these agreements generally become due and payable only upon the achievement of certain developmental, regulatory and/or commercial milestones. Because the achievement of these milestones is neither probable nor reasonably estimable, we have not recorded a liability on our balance sheet for any such contingencies.

—Cephalon Clinical Partners, L.P.

        In August 1992, we exclusively licensed our rights to MYOTROPHIN for human therapeutic use within the United States, Canada and Europe to Cephalon Clinical Partners, L.P. (CCP). A subsidiary of Cephalon is the sole general partner of CCP. We developed MYOTROPHIN on behalf of CCP under a research and development agreement. Under this agreement, CCP granted an exclusive license to manufacture and market MYOTROPHIN for human therapeutic use within the United States, Canada and Europe, and we agreed to make royalty payments equal to a percentage of product sales and a milestone payment of approximately $16.0 million upon regulatory approval. We have a contractual option, but not an obligation, to purchase all of the limited partnership interests of CCP, which is exercisable upon the occurrence of certain events following the first commercial sale of MYOTROPHIN. If, and only if, we decide to exercise this purchase option, we would make an advance payment of approximately $40.3 million in cash or, at our election, approximately $42.4 million in shares of common stock or a combination thereof. If we discontinue development of MYOTROPHIN, or if we do not exercise this purchase option, our license will terminate and all rights to manufacture or market MYOTROPHIN in the United States, Canada and Europe will revert to CCP, which may then commercialize MYOTROPHIN itself or license or assign its rights to a third party. In that event, we would not receive any benefits from such commercialization, license or assignment of rights.

Outlook

        Cash, cash equivalents and investments at December 31, 2002 were $582.7 million. We expect to use these funds for working capital and general corporate purposes, including the acquisition of businesses, products, product rights, or technologies, the payment of contractual obligations, including scheduled interest payments on our convertible notes, and/or the purchased, redemption or retirement of our convertible notes. Prior to 2001, we had negative cash flows from operations and used the proceeds of public and private placements of our equity and debt securities to fund operations. We expect that projected increases in sales of our three primary marketed products, PROVIGIL, ACTIQ and GABITRIL, in combination with other revenues, will allow us to continue to generate profits and significant positive cash flows from operations in 2003. At this time, however, we cannot accurately predict the effect of certain developments on future product sales such as the degree of market acceptance and exclusivity of our products, competition, the effectiveness of our sales and marketing efforts and the outcome of our efforts to demonstrate the utility of our products in indications beyond those already included in the FDA approved labels.

        Analysis of prescription data for PROVIGIL in the United States indicates physicians have elected to prescribe the product to treat indications outside of its currently labeled indication of excessive daytime sleepiness associated with narcolepsy. Our strategy for PROVIGIL is to broaden the range of clinical uses that are approved by the FDA and European regulatory agencies to include many of its currently prescribed uses. To that end, we have filed an sNDA with the FDA requesting marketing approval of PROVIGIL in the United States for the treatment of excessive sleepiness associated with disorders of sleep and wakefulness in adults. If the FDA does not approve the sNDA, it is not clear what impact, if any, this may have in 2004 and beyond on physicians who currently prescribe PROVIGIL for indications other than narcolepsy. However, without this expanded label, our sales of PROVIGIL in 2004 and beyond may not continue to grow at their current rate.

        Continued sales growth of PROVIGIL beyond the December 2005 expiration of orphan drug exclusivity depends, in part, on our maintaining protection on the modafinil particle-size patent. The FDA also could grant us a six-month extension of this exclusivity if we perform an additional clinical study of PROVIGIL in pediatric patients. Our sales of ACTIQ also depend on our existing patent protection, which will begin to expire in the U.S. in May 2005. In February 2003, we announced that the FDA has accepted an ANDA for a generic form of modafinil. On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies seeking FDA approval for a generic equivalent of modafinil. The lawsuit claims infringement of our U.S. Patent No. RE37516, which covers the pharmaceutical compositions and methods of treatment with the form of modafinil contained in PROVIGIL. We intend to vigorously defend the validity, and prevent infringement, of this patent. However, these efforts will be expensive and ultimately may be unsuccessful. See "Certain Risks Related to Our Business."

        We expect to continue to incur significant expenditures associated with manufacturing, selling and marketing our products and conducting additional clinical studies to explore the utility of these products in treating disorders beyond those currently approved in their respective labels. With respect to PROVIGIL, we plan to conduct pivotal clinical trials in ADHD in 2003. With

33

respect to GABITRIL, we expect to perform larger studies in at least one clinical area in 2003. We also expect to continue to incur significant expenditures to fund research and development activities, including clinical trials, for our other product candidates and for improved formulations for our existing products. In the future, we may desire to mitigate the risk in our research and development programs by seeking sources of funding for a portion of these expenses through collaborative arrangements with third parties. However, we intend to retain a portion of the commercial rights to these programs and, as a result, we still expect to spend significant funds on our share of the cost of these programs, including the costs of research, preclinical development, clinical research and manufacturing.

        We may have significant fluctuations in quarterly results based primarily on the level and timing of:

•

product sales and cost of product sales;



•

inventory stocking or destocking practices of our large customers;



•

achievement and timing of research and development milestones;



•

collaboration revenues;



•

cost and timing of clinical trials;



•

marketing and other expenses; and



•

manufacturing or supply disruptions.

        We recently expanded our internal manufacturing capacity for ACTIQ at our Salt Lake City facility and plan to move production of ACTIQ for the U.S. market to our Salt Lake City facility beginning in the second quarter of 2003. In February 2003, the FDA approved our sNDA requesting this change. Manufacturing ACTIQ for the U.S. market at our Salt Lake City facility should allow us to benefit from efficiencies of scale and lead to lower cost of product sales for ACTIQ in 2003 and beyond.

        In 2001, we completed private placements of $400.0 million of 5.25% convertible subordinated notes due May 2006 and $600.0 million of 2.50% convertible subordinated notes due December 2006. In March 2002, we completed a private placement of $55.0 million of 3.875% convertible notes due March 2007 to acquire all of the joint venture interests of an unaffiliated third party investor. The 5.25% notes, 2.50% notes and 3.875% notes are convertible at the option of the holders into our common stock at per share conversion prices of $74.00, $81.00 and $70.36, respectively. The 5.25% notes and 2.5% notes also are redeemable by us at certain redemption prices beginning in May 2003 and December 2004, respectively. The holders of the 3.875% notes, on March 28, 2005, can elect to require us to redeem all or part of the 3.875% notes at a redemption price of 100% of such principal amount redeemed. In the future, we may agree to exchanges of the notes for shares of our common stock or may determine to use a portion of our existing cash on hand to purchase, redeem or retire all or a portion of the outstanding convertible notes. As of December 31, 2002, there are $838.0 million of convertible notes outstanding. The annual interest payments on the outstanding balance of convertible notes are $26.7 million payable at various dates throughout the year. In early 2003, we entered into an interest rate swap agreement with a financial institution in the aggregate notional amount of $200.0 million. Under the swap, we agreed to pay a variable interest rate on $200.0 million notional amount equal to LIBOR-BBA + .29% (currently 1.65%) in exchange for the financial institution's agreement to pay a fixed rate of 2.5%.

        As part of our business strategy, we plan to consider and, as appropriate, make acquisitions of other businesses, products, product rights or technologies. Our cash reserves and other liquid assets may be inadequate to consummate these acquisitions and it may be necessary for us to raise substantial additional funds in the future to complete these transactions. In addition, these acquisitions may result in significant charges to earnings for acquisition and related expenses that may include merger related costs or acquired in-process research and development charges, among others. On March 7, 2003, our wholly-owned subsidiary formally commenced a cash takeover bid of A$4.85 for each outstanding share of SIRTeX Medical Limited. If our bid is successful, the total consideration for the outstanding SIRTeX shares will be approximately $161.0 million, which will be funded using our existing cash balances. To protect against fluctuations in the A$/US$ exchange rate during the bid period, in 2003, we entered into a foreign currency exchange rate hedge that locked in the U.S. dollar value of the bid. If our bid is successful, we would expect to make a substantial investment in many aspects of SIRTeX's business, particularly in the areas of manufacturing, sales, marketing, and distribution.

        Based on our current level of operations and projected sales of our products combined with other revenues and interest income, we believe that we will be able to service our existing debt and meet our capital expenditure and working capital requirements for the next several years. However, we cannot be sure that our anticipated revenue growth will be realized or that we will continue to generate significant positive cash flow from operations. We may need to obtain additional funding for our

34

operational needs, to repay our outstanding indebtedness or for future significant strategic transactions, and we cannot be certain that funding will be available on terms acceptable to us, or at all.

CERTAIN RISKS RELATED TO OUR BUSINESS

You should carefully consider the risks described below, in addition to the other information contained in this report, before making an investment decision. Our business, financial condition or results of operations could be harmed by any of these risks. The risks and uncertainties described below are not the only ones we face. Additional risks not presently known to us or other factors not perceived by us to present significant risks to our business at this time also may impair our business operations.

A significant portion of our revenues is derived from U.S. sales of our three largest products, and our future success will depend on the continued acceptance and growth of these products.

        For the year ended December 31, 2002, approximately 80% of our total worldwide net product sales were derived from sales of ACTIQ, GABITRIL and PROVIGIL. We cannot be certain that these products will continue to be accepted in their markets. Specifically, the following factors, among others, could affect the level of market acceptance of ACTIQ, GABITRIL and PROVIGIL, including:

•

the perception of the healthcare community of their safety and efficacy, both in an absolute sense and relative to that of competing products;



•

the effectiveness of our sales and marketing efforts;



•

unfavorable publicity regarding these products or similar products;



•

product price relative to other competing drugs or treatments;



•

changes in government and other third-party payer reimbursement policies and practices; and



•

regulatory developments affecting the manufacture, marketing or use of these products.

        Any material adverse developments with respect to the sale or use of ACTIQ, GABITRIL and PROVIGIL could significantly reduce our product revenues and have a material adverse effect on our ability to generate net income and positive net cash flow from operations.

We may be unsuccessful in our efforts to expand the number and scope of authorized uses of PROVIGIL or GABITRIL, which would significantly hamper sales and earnings growth.

        The market for the approved indications of two of our three largest products is relatively small. Analysis of prescription data indicates that a significant portion of our product sales is derived from the use of these products outside of their labeled indications. As such, our future success depends on the expansion of the approved indications for PROVIGIL and GABITRIL.

        We recently completed clinical studies with PROVIGIL and, in the fourth quarter of 2002, submitted to the FDA a sNDA for an expanded label. While the clinical studies met their primary endpoints, we cannot be sure that we will succeed in obtaining FDA approval to market PROVIGIL for a broader indication than that approved in its current label. If the FDA does not approve the sNDA it is not clear what impact this may have on physicians who currently prescribe PROVIGIL. However, the absence of an expanded label will make it significantly more difficult to maintain or accelerate current rates of growth for PROVIGIL.

        We also have initiated pilot studies to examine whether or not GABITRIL is effective and safe when used to treat disorders outside its currently approved use. While the data received from the two pilot studies to date have generally been positive, we will need to conduct additional studies before we can apply to regulatory authorities to expand the authorized uses of this product. We do not know whether these additional studies will demonstrate safety and efficacy, or if they do, whether we will succeed in receiving regulatory approval to market GABITRIL for additional disorders. If the results of some of these additional studies are negative, this could undermine physician and patient comfort with the product, limit its commercial success, and diminish its acceptance. Even if the results of these studies are positive, the impact on sales of GABITRIL may be minimal unless we are able to obtain FDA and foreign medical authority approval to expand the authorized uses of this product. FDA regulations limit our ability to communicate the results of additional clinical studies to patients and physicians without first obtaining regulatory approval for any expanded uses.

35

We may not be able to maintain adequate protection for our intellectual property or market exclusivity for certain of our products and therefore competitors may develop competing products, which could result in a decrease in sales and market share, cause us to reduce prices to compete successfully and limit our commercial success.

        We place considerable importance on obtaining patent protection for new technologies, products and processes. To that end, we file applications for patents covering the compositions or uses of our drug candidates or our proprietary processes. The patent positions of pharmaceutical and biotechnology companies can be highly uncertain and involve complex legal, scientific and factual questions. To date, there has emerged no consistent policy regarding breadth of claims in such companies' patents. Accordingly, the patents and patent applications relating to our products, product candidates and technologies may be challenged, invalidated or circumvented by third parties and might not protect us against competitors with similar products or technology. Patent disputes in our industry are frequent and can preclude commercialization of products. If we ultimately engage in and lose any such disputes, we could be subject to competition or significant liabilities, we could be required to enter into third party licenses or we could be required to cease using the technology or product in dispute. In addition, even if such licenses are available, the terms of any license requested by a third party could be unacceptable to us.

        The U.S. composition of matter patent for modafinil expired in 2001. We own U.S. and foreign patent rights that expire between 2014 and 2015 covering pharmaceutical compositions of modafinil and, more specifically, covering certain particle sizes contained in this pharmaceutical composition. Ultimately, these patents might be found invalid if challenged by a third party, or a potential competitor could develop a competing product or product formulation that avoids infringement of these patents. On February 5, 2003, we announced that the FDA had accepted an abbreviated new drug application, or ANDA, for a pharmaceutical product containing modafinil. Any ANDA for modafinil filed with the FDA prior to December 2003 must contain a Paragraph IV certification in which the ANDA applicant certifies that the U.S. particle-size modafinil patent covering PROVIGIL either is invalid or will not be infringed by the ANDA product. On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies with the FDA. The lawsuit claims infringement of our U.S. Patent No. RE37516. While we intend to vigorously defend the validity of this patent and prevent infringement, these efforts will be both expensive and time consuming and, ultimately, may not be successful. If an ANDA is approved ultimately, a competitor could begin selling a modafinil-based product upon the expiration of our FDA orphan drug exclusivity, currently in December 2005, which would significantly and negatively impact revenues from PROVIGIL. If we perform an additional clinical study of PROVIGIL in pediatric patients, the FDA could grant us a six-month extension of our orphan drug exclusivity (to June 2006) and particle size patent. However, we cannot be sure that the FDA will grant such extension.

        With respect to ACTIQ, we hold an exclusive license to a U.S. patent covering the currently approved pharmaceutical composition and methods for administering fentanyl via this composition that is set to expire in May 2005. We also hold patents to an FDA approved compressed powder formulation that we expect to begin selling in the United States in the second quarter of 2003. These patents expire in September 2006, though the FDA could grant us a six-month extension of these patents if we perform a clinical study in pediatric patients. Corresponding patents in foreign countries are set to expire between 2009 and 2010. The loss of patent protection on ACTIQ, beginning in May 2005 in the United States, could significantly and negatively impact our revenues from the sale of ACTIQ.

        We also rely on trade secrets, know-how and continuing technological advancements to support our competitive position. Although we have entered into confidentiality and invention rights agreements with our employees, consultants, advisors and collaborators, these parties could fail to honor such agreements or we could be unable to effectively protect our rights to our unpatented trade secrets and know-how. Moreover, others could independently develop substantially equivalent proprietary information and techniques or otherwise gain access to our trade secrets and know-how. In addition, many of our scientific and management personnel have been recruited from other biotechnology and pharmaceutical companies where they were conducting research in areas similar to those that we now pursue. As a result, we could be subject to allegations of trade secret violations and other claims.

Manufacturing, supply and distribution problems may create supply disruptions that could result in a reduction of product sales revenue, and damage commercial prospects for our products.

        At our two manufacturing facilities in France, we produce the active drug substance modafinil and certain other commercial products. At our U.S. facility in Salt Lake City, Utah, we manufacture ACTIQ for international markets and, beginning in the second quarter of 2003, for the United States. For the remainder of our products, we solely rely on third parties for product manufacturing. In all cases, we must comply with all applicable regulatory requirements of the FDA and foreign authorities, including current Good Manufacturing Practice regulations. In addition, we must comply with all applicable regulatory requirements of the Drug Enforcement Administration, and analogous foreign authorities for certain products. The facilities used

36

by us and third parties to manufacture, store and distribute our products are subject to inspection by regulatory authorities at any time to determine compliance with regulations. These regulations are complex, and any failure to comply with them could lead to remedial action, civil and criminal penalties and delays in production or distribution of material.

        We rely on third parties to distribute our products, perform customer service activities and accept and process product returns. We also depend upon sole suppliers for active drug substances contained in our products, including our own French plant that manufactures modafinil, Abbott Laboratories to manufacture finished commercial supplies of GABITRIL for the U.S. market and Sanofi-Synthelabo to manufacture GABITRIL for non-U.S. markets. In the second quarter of 2003, we expect to complete the transfer of all manufacturing of ACTIQ for the U.S. market from Abbott to our Salt Lake City facility. We have two qualified manufacturers, Watson Pharmaceuticals, in Copiague, New York and DSM Pharmaceuticals, in Greenville, North Carolina, for finished commercial supplies of PROVIGIL. The process of changing or adding a manufacturer or changing a formulation requires prior FDA and/or European medical authority approval and is very time-consuming. If we are unable to manage this process effectively or if an unforeseen event occurs at any facility, we could face supply disruptions that would result in significant costs and delays, undermine goodwill established with physicians and patients, damage commercial prospects for our products and adversely affect operating results.

As our products are used commercially, unintended side effects, adverse reactions or incidents of misuse may occur that could result in additional regulatory controls and reduced sales of our products.

        During research and development, the use of biopharmaceutical products, such as our products, is limited principally to clinical trial patients under controlled conditions and under the care of expert physicians. The widespread commercial use of our products could produce undesirable or unintended side effects that have not been evident in our clinical trials or the relatively limited commercial use to date of our products. In addition, in patients who take multiple medications, drug interactions could occur that can be difficult to predict. Additionally, incidents of product misuse may occur. These events, among others, could result in additional regulatory controls that could limit the circumstances under which the product is prescribed or even lead to the withdrawal of the product from the market. More specifically, ACTIQ has been approved under regulations concerning drugs with certain safety profiles, under which the FDA has established special restrictions to ensure safe use. Any violation of these special restrictions could lead to the imposition of further restrictions or withdrawal of the product from the market.

We face significant product liability risks, which may have a negative effect on our financial performance.

        The administration of drugs to humans, whether in clinical trials or commercially, can result in product liability claims whether or not the drugs are actually at fault for causing an injury. Furthermore, our products may cause, or may appear to have caused, adverse side effects (including death) or potentially dangerous drug interactions that we may not learn about or understand fully until the drug has been administered to patients for some time. As our products are used more widely and in patients with varying medical conditions, the likelihood of an adverse drug reaction, unintended side effect or incidence of misuse may increase. Product liability claims can be expensive to defend and may result in large judgments or settlements against us, which could have a negative effect on our financial performance. The costs of product liability insurance have increased dramatically in recent years, and the availability of coverage has decreased. Nevertheless, we maintain product liability insurance in amounts we believe to be commercially reasonable. Any claims could easily exceed our coverage limits. Even if a product liability claim is not successful, the adverse publicity and time and expense of defending such a claim may interfere with our business.

Our activities and products are subject to significant government regulations and approvals, which are often costly and could result in adverse consequences to our business if we fail to comply.

        We currently have a number of products that have been approved for sale in the United States, foreign countries or both. All of our approved products are subject to extensive continuing regulations relating to, among other things, testing, manufacturing, quality control, labeling, and promotion. The failure to comply with any rules and regulations of the FDA or any foreign medical authority, or the post-approval discovery of previously unknown problems relating to our products, could result in, among others:

•

fines, recalls or seizures of products;



•

total or partial suspension of product sales;



•

non-approval of product license applications;



•

restrictions on our ability to enter into strategic relationships; and



•

criminal prosecution.

37

        It is both costly and time-consuming for us to comply with these regulations. Additionally, incidents of adverse drug reactions, unintended side effects or misuse relating to our products could result in additional regulatory controls or restrictions, or even lead to withdrawal of the product from the market.

        With respect to our product candidates and for new therapeutic indications for our existing products, we conduct research, preclinical testing and clinical trials. We cannot market these product candidates or these new indications in the United States or other countries without receiving approval from the FDA or the appropriate foreign medical authority. The approval process is highly uncertain and requires substantial time, effort and financial resources. Ultimately, we may never obtain approval in a timely manner, or at all. Without these required approvals, our ability to substantially grow revenues in the future could be adversely affected.

        In addition, because PROVIGIL and ACTIQ contain active ingredients that are controlled substances, we are subject to regulation by the DEA and analogous foreign organizations relating to the manufacture, shipment, sale and use of the applicable products. These regulations also are imposed on prescribing physicians and other third parties, making the storage, transport and use of such products relatively complicated and expensive. With the increased concern for safety by the FDA and the DEA with respect to products containing controlled substances, it is possible that these regulatory agencies could impose additional restrictions on marketing or even withdrawal of regulatory approval for such products. In addition, adverse publicity may bring about rejection of the product by the medical community. If the DEA, FDA or a foreign medical authority withdrew the approval of, or placed additional significant restrictions on the marketing of any of our products, our product sales and ability to promote our products could be substantially affected.

Our product sales and related financial results will fluctuate and these fluctuations may cause our stock price to fall, especially if investors do not anticipate them.

        A number of analysts and investors who follow our stock have developed models to attempt to forecast future product sales and expenses and have established earnings expectations based upon those models. These models, in turn, are based in part on estimates of projected revenue and earnings that we disclose publicly. Forecasting future revenues is difficult, especially when there is little commercial history and when the level of market acceptance of our products is uncertain. Forecasting is further complicated by the difficulties in estimating stocking levels at pharmaceutical wholesalers and at retail pharmacies, the timing of purchases by wholesalers and retailers to replenish stock and the frequency and amount of potential product returns. As a result, it is likely that there will be significant fluctuations in revenues, which may not meet with market expectations and which also may adversely affect our stock price. There are a number of other factors that could cause our financial results to fluctuate unexpectedly, including:

•

the cost of product sales;



•

achievement and timing of research and development milestones;



•

collaboration revenues;



•

cost and timing of clinical trials;



•

marketing and other expenses; and



•

manufacturing or supply disruptions.

We may be unable to service or repay our substantial indebtedness or other contingencies.

        As of December 31, 2002, we had $876.3 million of indebtedness outstanding, including $838.0 million outstanding under convertible notes with a conversion price far in excess of our current stock price. Of the indebtedness outstanding, $785.2 million matures in 2006. During 2002 we incurred interest expenses of $38.2 million on our outstanding indebtedness. These factors, among other things, could make it difficult for us to make payments on or refinance our indebtedness or to obtain additional financing in the future, or limit our future flexibility and make us more vulnerable in the event of a downturn in our business. Unless we are able to generate sufficient cash flow from operations to service our indebtedness, we will be required to raise additional funds. Because the financing markets may be unwilling to provide funding to us or may only be willing to provide funding on terms that we would consider unacceptable, we may not have cash available or be able to obtain funding to permit us to meet our debt service or repayment obligations, thus adversely affecting the market price for our securities.

38

The efforts of government entities and third party payers to contain or reduce the costs of health care may adversely affect our sales and limit the commercial success of our products.

        In certain foreign markets, pricing or profitability of pharmaceutical products is subject to various forms of direct and indirect governmental control, including the control over the amount of reimbursements provided to the patient who is prescribed specific pharmaceutical products. For example, we are aware of government efforts in France to limit or eliminate reimbursement for certain of our products, which could impact revenues from our French operations.

        In the United States, there have been, and we expect there will continue to be, various proposals to implement similar controls. The commercial success of our products could be limited if federal or state governments adopt any such proposals. In addition, in the United States and elsewhere, sales of pharmaceutical products depend in part on the availability of reimbursement to the consumer from third party payers, such as government and private insurance plans. These third party payers increasingly challenge the prices charged for pharmaceutical products and seek to limit reimbursement levels offered to consumers for such products. These third party payers could focus their cost control efforts on our products, especially with respect to prices of and reimbursement levels for products prescribed outside their labeled indications. In these cases, their efforts could negatively impact our product sales and profitability.

We experience intense competition in our fields of interest, which may adversely affect our business.

        Large and small companies, academic institutions, governmental agencies and other public and private research organizations conduct research, seek patent protection and establish collaborative arrangements for product development in competition with us. Products developed by any of these entities may compete directly with those we develop or sell.

        The conditions that our products treat, and some of the other disorders for which we are conducting additional studies, are currently treated with several drugs, many of which have been available for a number of years or are available in inexpensive generic forms. With respect to PROVIGIL, there are several other products used for the treatment of narcolepsy in the United States, including methylphenidate products such as RITALIN® by Novartis, and in our other territories, many of which have been available for a number of years and are available in inexpensive generic forms. With respect to ACTIQ, we face competition from inexpensive oral opioid tablets and more expensive but quick-acting invasive (i.e., intravenous, intramuscular and subcutaneous) opioid delivery systems. Other technologies for rapidly delivering opioids to treat breakthrough pain are being developed, at least one of which is in clinical trials. With respect to GABITRIL, there are several products, including NEURONTIN® (gabapentin) by Pfizer, used as adjunctive therapy for the partial seizure market. Some are well-established therapies that have been on the market for several years while others have recently entered the partial seizure marketplace. In addition, several treatments for partial seizures are available in inexpensive generic forms. Thus, we need to demonstrate to physicians, patients and third party payers that the cost of our products is reasonable and appropriate in the light of their safety and efficacy, the price of competing products and the related health care benefits to the patient.

        In addition, many of our competitors have substantially greater capital resources, research and development staffs and facilities than we have, and substantially greater experience in conducting clinical trials, obtaining regulatory approvals and manufacturing and marketing pharmaceutical products. These entities represent significant competition for us. In addition, competitors who are developing products for the treatment of neurological or oncological disorders might succeed in developing technologies and products that are more effective than any that we develop or sell or that would render our technology and products obsolete or noncompetitive. Competition and innovation from these or other sources, including advances in current treatment methods, could potentially affect sales of our products negatively or make our products obsolete. In addition, we may be at a competitive marketing disadvantage against companies that have broader product lines and whose sales personnel are able to offer more complementary products than we can. Any failure to maintain our competitive position could adversely affect our business and results of operations.

We plan to consider and, as appropriate, make acquisitions of technologies, products and businesses, which may subject us to a number of risks and/or result in us experiencing significant charges to earnings that may adversely affect our stock price, operating results and financial condition.

        We regularly review potential acquisitions of businesses, products, product rights and technologies that are complementary to our business. As part of that review, we conduct business, legal and financial due diligence with the goal of identifying and evaluating material risks involved in any particular transaction. Despite our efforts, we may be unsuccessful in ascertaining or evaluating all such risks and, as a result, we might not realize the intended advantages of any given acquisition. We also must consolidate and integrate any acquired operations with our business. These integration efforts often take a significant amount of time, place a significant strain on our managerial, operational and financial resources and could prove to be more difficult and

39

expensive than we predicted. If we fail to realize the expected benefits from an acquisition, whether as a result of unidentified risks, integration difficulties or otherwise, our business, results of operations and financial condition could be adversely affected.

        In addition, as a result of acquiring businesses or entering into other significant transactions, we have experienced, and will likely continue to experience, significant charges to earnings for merger and related expenses that may include transaction costs, closure costs or acquired in-process research and development charges. These costs may include substantial fees for investment bankers, attorneys, accountants and other advisers, as well as severance and other closure costs associated with the elimination of duplicate operations and facilities. Our incurrence of these charges could adversely affect our results of operations for particular quarterly or annual periods.

The results and timing of our research and development activities, including future clinical trials are difficult to predict, subject to potential future setbacks and, ultimately, may not result in viable pharmaceutical products, which may adversely affect our business.

        In order to sustain our business, we focus substantial resources on the search for new pharmaceutical products. These activities include engaging in discovery research and process development, conducting preclinical and clinical studies and seeking regulatory approval in the United States and abroad. In all of these areas, we have relatively limited resources and compete against larger, multinational pharmaceutical companies. Moreover, even if we undertake these activities in an effective and efficient manner, regulatory approval for the sale of new pharmaceutical products remains highly uncertain because the majority of compounds discovered do not enter clinical studies and the majority of therapeutic candidates fail to show the human safety and efficacy necessary for regulatory approval and successful commercialization.

        Preclinical testing and clinical trials must demonstrate that a product candidate is safe and efficacious. The results from preclinical testing and early clinical trials may not be predictive of results obtained in subsequent clinical trials, and these clinical trials may not demonstrate the safety and efficacy necessary to obtain regulatory approval for any product candidates. A number of companies in the biotechnology and pharmaceutical industries have suffered significant setbacks in advanced clinical trials, even after obtaining promising results in earlier trials. For ethical reasons, certain clinical trials are conducted in patients having the most advanced stages of disease and who have failed treatment with alternative therapies. During the course of treatment, these patients often die or suffer other adverse medical effects for reasons that may not be related to the pharmaceutical agent being tested. Such events can have a negative impact on the statistical analysis of clinical trial results.

        The completion of clinical trials of our product candidates may be delayed by many factors, including the rate of enrollment of patients. Neither we nor our collaborators can control the rate at which patients present themselves for enrollment, and the rate of patient enrollment may not be consistent with our expectations or sufficient to enable clinical trials of our product candidates to be completed in a timely manner or at all. In addition, we may not be permitted by regulatory authorities to undertake additional clinical trials for one or more of our product candidates. Even if such trials are conducted, our product candidates may not prove to be safe and efficacious or receive regulatory approvals. Any significant delays in, or termination of, clinical trials of our product candidates could impact our ability to generate product sales from these product candidates in the future.

Our research and development and marketing efforts are often dependent on corporate collaborators and other third parties who may not devote sufficient time, resources and attention to our programs, and which may limit our efforts to develop and market potential products.

        Because we have limited resources, we have entered into a number of collaboration agreements with other pharmaceutical companies, including Lundbeck with respect to our research efforts in Parkinson's Disease, and with a number of marketing partners for our products in certain countries outside the United States. In some cases, our collaboration agreements call for our partners to control:

•

the supply of bulk or formulated drugs for use in clinical trials or for commercial use;



•

the design and execution of clinical studies;



•

the process of obtaining regulatory approval to market the product; and/or



•

marketing and selling of any approved product.

        In each of these areas, our partners may not support fully our research and commercial interests because our program may compete for time, attention and resources with the internal programs of our corporate collaborators. As such, our program may not move forward as effectively, or advance as rapidly, as it might if we had retained complete control of all research, development, regulatory and commercialization decisions. We also rely on some of these collaborators and other third parties for

40

the production of compounds and the manufacture and supply of pharmaceutical products. Additionally, we may find it necessary from time to time to seek new or additional partners to assist us in commercializing our products, though we might not be successful in establishing any such new or additional relationships.

The price of our common stock has been and may continue to be highly volatile.

        The market price of our common stock is highly volatile, and we expect it to continue to be volatile for the foreseeable future. For example, from January 1, 2002 through March 14, 2003, our common stock traded at a high price of $78.88 and a low price of $36.92. Negative announcements, including, among others:

•

adverse regulatory decisions;



•

disappointing clinical trial results;



•

disputes and other developments concerning patent or other proprietary rights with respect to our products; or



•

operating results that fall below the market's expectations

could trigger significant declines in the price of our common stock. In addition, external events, such as news concerning economic conditions, our competitors, changes in government regulations impacting the biotechnology or pharmaceutical industries or the movement of capital into or out of our industry, also are likely to affect the price of our common stock.

A portion of our product sales and certain balance sheet items are subject to exchange rate fluctuations in the normal course of business that could adversely affect our reported results of operations.

        Historically, a portion of our product sales has been earned in currencies other than the U.S. dollar. As a result of our acquisition of Group Lafon, the portion of our product sales denominated in the euro and other local currencies has and may continue to increase. For the year ended December 31, 2002, approximately 23% of our product sales were denominated in currencies other than the U.S. dollar. We translate revenue earned from product sales into U.S. dollars at the average exchange rate applicable during the relevant period. A strengthening of the U.S. dollar would, therefore, reduce our earnings. Consequently, fluctuations in the rate of exchange between the U.S. dollar and the euro and other currencies may affect period-to-period comparisons of our operating results. Finally, the balance sheet of our foreign operations will be translated into U.S. dollars at the period-end exchange rate. This latter exposure will result in changes to the translated value of assets and liabilities, with the impact of the translation included as a component of stockholders' equity. Historically, we have not hedged our exposure to these fluctuations in exchange rates.

We are involved, or may become involved in the future, in legal proceedings that, if adversely adjudicated or settled, could materially impact our financial condition.

        As a biopharmaceutical company, we are or may become a party to litigation in the ordinary course of our business, including, among others, matters alleging employment discrimination, product liability, patent or other intellectual property rights infringement, patent invalidity or breach of commercial contract. In general, litigation claims can be expensive and time consuming to bring or defend against and could result in settlements or damages that could significantly impact results of operations and financial condition. We currently are vigorously defending ourselves against certain litigation matters. While we currently do not believe that the settlement or adverse adjudication of these lawsuits would materially impact our results of operations or financial condition, the final resolution of these matters and the impact, if any, on our results of operations or financial condition could be material.

Our customer base is highly concentrated.

        Our principal customers are wholesale drug distributors. These customers comprise a significant part of the distribution network for pharmaceutical products in the United States. A small number of large wholesale distributors control a significant share of the market. For the year ended December 31, 2002, our three largest U.S. wholesaler customers were Cardinal Health, Inc., McKesson Corporation and AmerisourceBergen Corporation. These three distributors, in the aggregate, accounted for 72% of our total gross product sales. The loss or bankruptcy of any of these customers could materially and adversely affect our results of operations and financial condition.

Our dependence on key executives and scientists could impact the development and management of our business.

        We are highly dependent upon our ability to attract and retain qualified scientific, technical and managerial personnel. There is intense competition for qualified personnel in the pharmaceutical and biotechnology industries, and we cannot be sure that we

41

will be able to continue to attract and retain the qualified personnel necessary for the development and management of our business. Although we do not believe the loss of one individual would materially harm our business, our research and development programs and our business might be harmed by the loss of the services of multiple existing personnel, as well as the failure to recruit additional key scientific, technical and managerial personnel in a timely manner. Much of the know-how we have developed resides in our scientific and technical personnel and is not readily transferable to other personnel. While we have employment agreements with our key executives, we do not ordinarily enter into employment agreements with our other key scientific, technical and managerial employees. We do not maintain "key man" life insurance on any of our employees.

We may be required to incur significant costs to comply with environmental laws and regulations, and our related compliance may limit any future profitability.

        Our research and development activities involve the controlled use of hazardous, infectious and radioactive materials that could be hazardous to human health and safety or the environment. We store these materials, and various wastes resulting from their use, at our facilities pending ultimate use and disposal. We are subject to a variety of federal, state and local laws and regulations governing the use, generation, manufacture, storage, handling and disposal of these materials and wastes, and we may be required to incur significant costs to comply with related existing and future environmental laws and regulations.

        While we believe that our safety procedures for handling and disposing of these materials comply with foreign, federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of an accident, we could be held liable for any resulting damages, which could include fines and remedial costs. These damages could require payment by us of significant amounts over a number of years, which would be reflected in our results of operations and financial condition.

Anti-takeover provisions may delay or prevent changes in control of our management or deter a third party from acquiring us, limiting our stockholders' ability to profit from such a transaction.

        Our Board of Directors has the authority to issue up to 5,000,000 shares of preferred stock, $0.01 par value, of which 1,000,000 have been reserved for issuance in connection with our stockholder rights plan, and to determine the price, rights, preferences and privileges of those shares without any further vote or action by our stockholders. Our stockholder rights plan could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting stock.

        We are subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which prohibits us from engaging in a "business combination" with an "interested stockholder" for a period of three years after the date of the transaction in which the person becomes an interested stockholder, unless the business combination is approved in a prescribed manner. The application of Section 203 could have the effect of delaying or preventing a change of control of Cephalon. Section 203, the rights plan, and certain provisions of our certificate of incorporation, our bylaws and Delaware corporate law, may have the effect of deterring hostile takeovers, or delaying or preventing changes in control of our management, including transactions in which stockholders might otherwise receive a premium for their shares over then current market prices.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

        At December 31, 2002, we did not hold any derivative financial instruments and did not engage in any speculative or derivative trading activities. Therefore, our market risk exposure is limited to changes in interest rates and foreign currency fluctuations. Our exposure to market risk for a change in interest rates relates to our investment portfolio, since all of our outstanding debt is fixed rate. Our investments are classified as short-term and as "available for sale." We do not believe that short-term fluctuations in interest rates would materially affect the value of our securities.

        We are exposed to foreign currency exchange risk related to our operations in European subsidiaries that have transactions, assets, and liabilities denominated in foreign currencies that are translated into U.S. dollars for consolidated financial reporting purposes. Historically, we have not hedged any of these foreign currency exchange risks. For the year ended December 31, 2002, an average 10% strengthening of the U.S. dollar relative to the currencies in which our European subsidiaries operate would have resulted in a decrease in reported net sales of $11.1 million and a decrease in reported net income of $0.2 million for that period. This sensitivity analysis of the effects of changes in foreign currency exchange rates does not assume any changes in the level of operations of our European subsidiaries.

42

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Shareholders of Cephalon Inc:

In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) on page 74 present fairly, in all material respects, the financial position of Cephalon Inc. and its subsidiaries at December 31, 2002 and 2001, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 15(a)(2) on page 74 presents fairly, in all material respects, the information set forth therein for the years ended December 31, 2002 and 2001 when read in conjunction with the related consolidated financial statements. These financial statements and the financial statement schedule are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. The financial statements and financial statement schedule of Cephalon Inc. as of December 31, 2000 and for the year then ended were audited by other independent accountants who have ceased operations. Those independent accountants expressed an unqualified opinion on those financial statements and financial statement schedule in their reports dated February 11, 2002.

As discussed in Note 1, on January 1, 2002 the Company changed its method of valuing certain inventory and of accounting for business combinations and goodwill.

/s/ PRICEWATERHOUSECOOPERS LLP

Philadelphia, Pennsylvania
March 14, 2003

43

THE FOLLOWING REPORTS ARE COPIES OF PREVIOUSLY ISSUED REPORTS BY ARTHUR ANDERSEN LLP ("ANDERSEN"). THE REPORTS HAVE NOT BEEN REISSUED BY ANDERSEN NOR HAS ANDERSEN CONSENTED TO THEIR INCLUSION IN THIS ANNUAL REPORT ON FORM 10-K. THE ANDERSEN REPORTS REFER TO THE CONSOLIDATED BALANCE SHEET AS OF DECEMBER 31, 2000 AND THE CONSOLIDATED STATEMENTS OF INCOME, SHAREHOLDERS' INVESTMENT AND CASH FLOWS FOR THE YEAR ENDED DECEMBER 31, 1999 WHICH ARE NO LONGER INCLUDED IN THE ACCOMPANYING FINANCIAL STATEMENTS. SUBSEQUENT TO THE DATE OF THESE REPORTS, THE COMPANY'S CONSOLIDATED BALANCE SHEET AS OF DECEMBER 31, 2001 AND THE RELATED CONSOLIDATED STATEMENTS OF OPERATIONS, OF CASH FLOWS, OF CHANGES IN STOCKHOLDERS' EQUITY AND OF THE RELATED FINANCIAL STATEMENT SCHEDULE FOR THE YEAR ENDED DECEMBER 31, 2001 WERE AUDITED BY OTHER INDEPENDENT ACCOUNTANTS WHOSE REPORT APPEARS ON PAGE 43.

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Cephalon, Inc.:

We have audited the accompanying consolidated balance sheets of Cephalon, Inc. (a Delaware corporation) and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2001. 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 audits. We did not audit the financial statements of Anesta Corp., a company acquired during 2000 in a transaction accounted for as a pooling-of-interests, as discussed in Note 2. Such statements are included in the consolidated financial statements of Cephalon, Inc. and reflect total revenues of 13 percent in 1999 of the related consolidated revenues. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to amounts included for Anesta Corp., is based solely upon the report of the other auditors.

We conducted our audits 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 audits and the report of other auditors provide a reasonable basis for our opinion.

In our opinion, based on our audits and the report of the other auditors, the financial statements referred to above present fairly, in all material respects, the financial position of Cephalon, Inc. and subsidiaries as of December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States.

/s/ ARTHUR ANDERSEN LLP

Philadelphia, Pennsylvania
February 11, 2002 (except with
respect to the matter discussed in Note 3,
as to which the date is March 29, 2002)

44

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Cephalon, Inc.:

We have audited, in accordance with auditing standards generally accepted in the United States, the consolidated financial statements of Cephalon, Inc. and subsidiaries and have issued our report thereon dated February 11, 2002 (except with respect to the matter discussed in Note 3, as to which the date is March 29, 2002). Our audit was made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule of valuation and qualifying accounts is presented for purposes of complying with the Securities and Exchange Commissions' rules and is not part of the basic financial statements. This schedule has been subject to the auditing procedures applied in the audit of the basic financial statements and, in our opinion based on our audit and the report of other auditors, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole.

/s/ ARTHUR ANDERSEN LLP

Philadelphia, Pennsylvania
February 11, 2002

45

CEPHALON, INC. AND SUBSIDIARIES    CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

			December 31, 2002			December 31, 2001
ASSETS
CURRENT ASSETS:
	Cash and cash equivalents		$	486,097		$	548,727
	Investments			96,591			55,157
	Receivables, net			83,130			79,847
	Inventory, net			54,299			47,513
	Deferred tax asset			56,070			—
	Other current assets			9,793			7,872
		Total current assets		785,980			739,116
PROPERTY AND EQUIPMENT, net				90,066			64,706
GOODWILL				298,769			301,577
OTHER INTANGIBLE ASSETS, net				351,719			298,269
DEBT ISSUANCE COSTS, net				21,406			26,720
DEFERRED TAX ASSET, net				114,002			—
OTHER ASSETS				27,148			16,020
			$	1,689,090		$	1,446,408
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
	Current portion of long-term debt		$	15,402		$	32,200
	Accounts payable			23,089			24,536
	Accrued expenses			80,444			54,025
	Current portion of deferred revenues			712			824
		Total current liabilities		119,647			111,585
LONG-TERM DEBT				860,897			866,589
DEFERRED REVENUES				1,968			6,042
DEFERRED TAX LIABILITIES				52,666			52,666
OTHER LIABILITIES				11,327			10,795
		Total liabilities		1,046,505			1,047,677
COMMITMENTS AND CONTINGENCIES (Note 11)				—			—
STOCKHOLDERS' EQUITY:
	Preferred stock, $.01 par value, 5,000,000 shares authorized, 2,500,000 shares issued, and none outstanding			—			—
	Common stock, $.01 par value, 200,000,000 shares authorized, 55,425,841 and 54,909,533 shares issued, 55,152,984 and 54,685,792 shares outstanding			554			549
	Additional paid-in capital			1,034,137			982,123
	Treasury stock, 272,857 and 223,741 shares outstanding, at cost			(11,989	)		(9,523	)
	Accumulated deficit			(405,163	)		(576,691	)
	Accumulated other comprehensive income			25,046			2,273
		Total stockholders' equity		642,585			398,731
			$	1,689,090		$	1,446,408

The accompanying notes are an integral part of these consolidated financial statements.

46

CEPHALON, INC. AND SUBSIDIARIES    CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

		Year Ended December 31,
		2002			2001			2000
REVENUES:
	Product sales	$	465,943		$	226,132		$	91,637
	Other revenues		40,954			35,863			20,153
			506,897			261,995			111,790
COSTS AND EXPENSES:
	Cost of product sales		74,237			44,946			17,768
	Research and development		128,276			83,037			68,063
	Selling, general and administrative		172,782			96,179			83,725
	Depreciation and amortization		35,457			14,434			4,008
	Royalty pre-payment on revenue-sharing notes		—			—			6,600
	Merger and integration costs		—			50			13,811
	Acquired in-process research and development		—			20,000			22,200
			410,752			258,646			216,175
INCOME (LOSS) FROM OPERATIONS			96,145			3,349			(104,385	)
OTHER INCOME AND EXPENSE
	Interest income		14,095			12,170			16,903
	Interest expense		(38,215	)		(20,630	)		(5,189	)
	Debt exchange expense		—			(52,444	)		—
	Gain (charge) on early extinguishment of debt		(7,142	)		3,016			—
	Other expense		(2,450	)		(945	)		(1,073	)
			(33,712	)		(58,833	)		10,641
INCOME (LOSS) BEFORE INCOME TAXES			62,433			(55,484	)		(93,744	)
INCOME TAX BENEFIT, NET			112,629			—			—
INCOME (LOSS) BEFORE CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE			175,062			(55,484	)		(93,744	)
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE			(3,534	)		—			(7,434	)
NET INCOME (LOSS)			171,528			(55,484	)		(101,178	)
DIVIDENDS ON CONVERTIBLE EXCHANGEABLE PREFERRED STOCK			—			(5,664	)		(9,063	)
NET INCOME (LOSS) APPLICABLE TO COMMON SHARES		$	171,528		$	(61,148	)	$	(110,241	)
BASIC INCOME (LOSS) PER COMMON SHARE:
	Income (loss) per common share before cumulative effect of a change in accounting principle	$	3.17		$	(1.27	)	$	(2.51	)
	Cumulative effect of a change in accounting principle		(0.06	)		—			(0.19	)
		$	3.11		$	(1.27	)	$	(2.70	)
DILUTED INCOME (LOSS) PER COMMON SHARE:
	Income (loss) per common share before cumulative effect of a change in accounting principle	$	2.84		$	(1.27	)	$	(2.51	)
	Cumulative effect of a change in accounting principle		(0.05	)		—			(0.19	)
		$	2.79		$	(1.27	)	$	(2.70	)
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING			55,104			48,292			40,893
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING—ASSUMING DILUTION			67,442			48,292			40,893

The accompanying notes are an integral part of these consolidated financial statements.

47

CEPHALON, INC. AND SUBSIDIARIES    CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(In thousands, except share data)

								Preferred Stock					Common Stock						Treasury Stock							Accumulated Other Comprehensive Income
		Comprehensive Income (Loss)														Additional Paid-in Capital							Accumulated Deficit
					Total			Shares		Amount			Shares	Amount					Shares	Amount
BALANCE, JANUARY 1, 2000					$	230,783		2,500,000		$	25		38,904,174	$	389	$	636,395		84,633	$	(1,290	)	$	(405,302	)	$	566
	Loss	$	(101,178	)		(101,178	)				—				—		—				—			(101,178	)		—
	Foreign currency translation gain		1,015
	Unrealized investment losses		(180	)
	Other comprehensive income		835			835					—				—		—				—			—			835
	Comprehensive loss	$	(100,343	)
	Employee stock purchase plan					78					—		5,325		—		78				—			—			—
	Stock options exercised					13,615					—		980,999		11		13,604				—			—			—
	Stock purchase warrants exercised					26,436					—		2,418,027		24		26,412				—			—			—
	Restricted stock award plan					5,625					—		146,725		1		5,624				—			—			—
	Employee benefit plan					891					—		22,975		—		891				—			—			—
	Dividends declared on convertible preferred stock					(9,063	)				—				—		—				—			(9,063	)		—
	Treasury stock acquired					(2,829	)				—				—		—		53,550		(2,829	)		—			—
BALANCE, DECEMBER 31, 2000						165,193		2,500,000			25		42,478,225		425		683,004		138,183		(4,119	)		(515,543	)		1,401
	Loss	$	(55,484	)		(55,484	)				—				—		—				—			(55,484	)		—
	Foreign currency translation gain		368
	Unrealized investment gains		504
	Other comprehensive income		872			872					—				—		—				—			—			872
	Comprehensive loss	$	(54,612	)
	Conversion of preferred stock into common stock					—		(2,500,000	)		(25	)	6,974,998		70		(45	)			—			—			—
	Issuance of common stock upon conversion of convertible notes					262,590					—		3,691,705		37		262,553				—			—			—
	Stock options exercised					25,542					—		1,327,303		13		27,304		32,104		(1,775	)		—			—
	Stock purchase warrants exercised					2,679					—		265,800		2		2,677				—			—			—
	Restricted stock award plan					5,349					—		150,650		2		5,347				—			—			—
	Employee benefit plan					1,283					—		20,852		—		1,283				—			—			—
	Dividends declared on convertible preferred stock					(5,664	)				—				—		—				—			(5,664	)		—
	Treasury stock acquired					(3,629	)				—				—		—		53,454		(3,629	)		—			—
BALANCE, DECEMBER 31, 2001						398,731		—			—		54,909,533		549		982,123		223,741		(9,523	)		(576,691	)		2,273
	Income	$	171,528			171,528					—						—				—			171,528			—
	Foreign currency translation gain		20,367
	Unrealized investment gains		2,406
	Other comprehensive income		22,773			22,773					—				—		—				—			—			22,773
	Comprehensive income	$	194,301
	Stock options exercised					5,940					—		347,686		4		6,056		2,055		(120	)		—			—
	Tax benefit from the exercise of stock options					40,998					—				—		40,998				—			—			—
	Restricted stock award plan					2,828					—		129,900		1		2,827				—			—			—
	Employee benefit plan					2,133					—		38,722		—		2,133				—			—			—
	Treasury stock acquired					(2,346	)				—				—		—		47,061		(2,346	)		—			—
BALANCE, DECEMBER 31, 2002					$	642,585		—		$	—		55,425,841	$	554	$	1,034,137		272,857	$	(11,989	)	$	(405,163	)	$	25,046

The accompanying notes are an integral part of these consolidated financial statements.

48

CEPHALON, INC. AND SUBSIDIARIES    CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

				Year Ended December 31,
				2002			2001			2000
CASH FLOWS FROM OPERATING ACTIVITIES:
	Net income (loss)			$	171,528		$	(55,484	)	$	(101,178	)
	Adjustments to reconcile net income (loss) to net cash provided by (used for) operating activities:
		Deferred income taxes			(170,072	)		—			—
		Tax benefit from exercise of stock options			40,998			—			—
		Cumulative effect of adoption of SAB 101			—			—			7,434
		Depreciation and amortization			35,457			14,434			3,945
		Amortization of debt issuance costs			11,071			5,158			—
		Cumulative effect of changing inventory costing method from FIFO to LIFO			3,534			—			—
		Stock-based compensation expense			4,961			6,632			6,516
		In-process research and development expense			—			20,000			—
		Debt exchange expense			—			52,444			—
		Non-cash charge (gain) on early extinguishment of debt			7,142			(3,016	)		—
		Other			—			181			—
		Increase (decrease) in cash due to changes in assets and liabilities, net of effect from acquisition:
			Receivables		3,990			(30,434	)		(13,689	)
			Inventory		(5,821	)		(8,918	)		(15,903	)
			Other assets		(16,756	)		(7,133	)		2,202
			Accounts payable, accrued expenses and deferred revenues		18,303			18,484			8,202
			Other liabilities		(1,714	)		(74	)		(4,021	)
			Net cash provided by (used for) operating activities		102,621			12,274			(106,492	)
CASH FLOWS FROM INVESTING ACTIVITIES:
	Purchases of property and equipment				(27,328	)		(12,481	)		(7,462	)
	Acquistion of Group Lafon, net of cash acquired				—			(447,717	)		—
	Acquistion of intangible assets				(79,409	)		(21,063	)		(56,627	)
	Sales and maturities (purchases) of investments, net				(39,027	)		6,200			186,449
			Net cash (used for) provided by investing activities		(145,764	)		(475,061	)		122,360
CASH FLOWS FROM FINANCING ACTIVITIES:
	Proceeds from exercises of common stock options, warrants and employee stock purchase plan				5,940			28,221			39,448
	Payments to acquire treasury stock				(2,346	)		(3,629	)		(2,829	)
	Net proceeds from issuance of long-term debt				—			1,009,080			—
	Preferred dividends paid				—			(6,797	)		(9,063	)
	Principal payments on and retirements of long-term debt				(32,512	)		(52,300	)		(32,766	)
			Net cash (used for) provided by financing activities		(28,918	)		974,575			(5,210	)
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS					9,431			368			1,015
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS					(62,630	)		512,156			11,673
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR					548,727			36,571			24,898
CASH AND CASH EQUIVALENTS, END OF YEAR				$	486,097		$	548,727		$	36,571
Supplemental disclosures of cash flow information:
	Cash payments for interest				26,593			14,092			4,352
Non-cash investing and financing activities:
	Capital lease additions				788			360			2,067
	Long-term debt				—			—			80,846
	Conversion of convertible notes into common stock				—			217,000			—

The accompanying notes are an integral part of those consolidated financial statements.

49

CEPHALON, INC. AND SUBSIDIARIES    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except share data)

1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Business

        Cephalon is an international biopharmaceutical company dedicated to the discovery, development and marketing of products to treat sleep disorders, neurological and psychiatric disorders, cancer and pain. In addition to conducting an active research and development program, we market three products in the United States and a number of products in various countries throughout Europe.

        Our corporate and research and development headquarters are in West Chester, Pennsylvania, and we have offices in Salt Lake City, Utah, France, the United Kingdom, Germany and Switzerland. We operate manufacturing facilities in France for the production of modafinil, which is the active drug substance in PROVIGIL® (modafinil) tablets [C-IV]. We also operate manufacturing facilities in Salt Lake City, Utah for the production of ACTIQ® (oral transmucosal fentanyl citrate) [C-II] for distribution and sale in the European Union and, beginning in the second quarter of 2003, the United States.

Pervasiveness of Estimates

        The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and 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.

Principles of Consolidation

        The consolidated financial statements include the results of our operations and our wholly owned subsidiaries. Intercompany transactions have been eliminated. In October 2000, we completed a merger with Anesta Corp. in a transaction accounted for as a pooling-of-interests. In December 2001, we acquired all of the outstanding shares of capital stock of Financiere Lafon S.A. and Organisation de Synthese Mondiale Orsymonde S. A. (collectively, Group Lafon) in a transaction accounted for as a purchase. See Note 2.

Foreign Currency

        For foreign operating entities with currencies other than the U.S. Dollar, the local currency is the functional currency and we translate asset and liability balances at exchange rates in effect at the end of the period, and income and expense transactions at the average exchange rates in effect during the period. Resulting translation adjustments are reported as a separate component of accumulated other comprehensive income included in stockholders' equity. Gains and losses from foreign currency transactions are included in the consolidated statements of operations.

        Statement of Financial Accounting Standards (SFAS) No. 95, "Statement of Cash Flows" requires that the effect of exchange rate changes on cash held in foreign currencies be reported as a separate item in the reconciliation of beginning and ending cash and cash equivalents. All other foreign currency cash flows are reported in the applicable line of the consolidated statement of cash flows using an approximation of the exchange rate in effect at the time of the cash flows.

Cash Equivalents and Investments

        Cash equivalents include investments in liquid securities with original maturities of three months or less from the date of purchase. In accordance with SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities," we consider our investments to be "available for sale." We classify these investments as short-term and carry them at fair market value. Unrealized gains and losses have been recorded as a separate component of stockholders' equity. All realized gains and losses on our available for sale securities are recognized in results of operations.

Major Customers and Concentration of Credit Risk

        Trade accounts receivable included three customers, Cardinal Health, Inc., McKesson Corporation and AmerisourceBergen Corporation, that accounted for 76% and 72%, in the aggregate, of total trade accounts receivable at December 31, 2002 and

50

2001, respectively. We sell our products primarily to a limited number of pharmaceutical wholesalers without requiring collateral. These three wholesaler customers accounted for 73%, 92% and 69%, in the aggregate, of our total gross product sales for the years ended December 31, 2002, 2001 and 2000, respectively. We periodically assess the financial strength of these customers and establish allowances for anticipated losses if necessary.

Inventory

        Inventory is stated at the lower of cost or market value. Effective January 1, 2002, we began using the last-in, first-out (LIFO) method for our domestic inventories. We use the first-in, first-out (FIFO) method for the majority of our foreign inventories. See Note 6.

Property and Equipment

        Property and equipment are recorded at cost and depreciated using the straight-line method over the estimated useful lives of the assets, which range from three to forty years. Property and equipment under capital leases are depreciated or amortized over the shorter of the lease term or the expected useful life of the assets. Expenditures for maintenance and repairs are charged to expense as incurred, while major renewals and betterments are capitalized.

Fair Value of Financial Instruments

        The carrying values of cash, cash equivalents, short-term investments, accounts receivable, accounts payable and accrued expenses approximate the respective fair values. The market value of our 2.50% convertible notes was $556.9 million as compared to a carrying value of $600.0 million, and the market value of our 5.25% convertible notes approximated our carrying value of $183.0 million, at December 31, 2002, based on quoted market values. None of our other debt instruments that were outstanding as of December 31, 2002 have readily ascertainable market values; however, management believes that the carrying values approximate the respective fair values.

Goodwill, Intangible Assets and Other Long-Lived Assets

        Goodwill represents the excess of purchase price over net assets acquired. In accordance with SFAS No. 142, "Goodwill and Other Intangible Assets" which we adopted on January 1, 2002, goodwill is not amortized; rather, goodwill is subject to a periodic assessment for impairment by applying a fair-value-based test. We have only recorded goodwill related to our acquisition of Group Lafon effective December 28, 2001 and amortization expense related to goodwill for the period December 28, 2001 to December 31, 2001 was immaterial. On January 1, 2002, our transitional impairment test indicated that there was no impairment of goodwill upon our adoption of SFAS 142. In addition, we performed our annual test of impairment of goodwill as of July 1, 2002. We have only one reporting unit, a pharmaceutical unit, that constitutes our entire commercial business, and we compared the fair value of this reporting unit with its carrying value. Our quoted market value at July 1, 2002 was used as the fair value of the reporting unit. Since the fair value of the reporting unit exceeded its carrying value at July 1, 2002, no adjustment to our goodwill for impairment was necessary.

        In accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," we review amortizable assets for impairment on an annual basis or whenever changes in circumstances indicate the carrying value of the asset may not be recoverable. If impairment is indicated, we measure the amount of such impairment by comparing the carrying value of the assets to the present value of the expected future cash flows associated with the use of the asset. Management believes the future cash flows to be received from the long-lived assets will exceed the assets' carrying value, and, accordingly, we have not recognized any impairment losses through December 31, 2002.

Revenue Recognition

        Product sales are recognized upon the transfer of ownership and risk of loss for the product to the customer and are recorded net of estimated reserves for contractual allowances, discounts and returns. Contractual allowances result from sales under contracts with managed care organizations and government agencies.

        Other revenue, which includes revenues from collaborative agreements, consists primarily of up-front fees, ongoing research and development funding, milestone payments and payments under co-promotional or managed services agreements.

51

Non-refundable up-front fees are deferred and amortized to revenue over the related performance period. We estimate our performance period based on the specific terms of each collaborative agreement. We adjust the performance periods, if appropriate, based upon available facts and circumstances. We recognize periodic payments over the period that we perform the related activities under the terms of the agreements. Revenue resulting from the achievement of milestone events stipulated in the agreements is recognized when the milestone is achieved. Milestones are based upon the occurrence of a substantive element specified in the contract or as a measure of substantive progress towards completion under the contract.

        Reimbursement rates of research and development activities under collaborative agreements vary according to the terms of the individual agreements. Costs incurred related to collaborative agreements and reflected in our operating expenses approximated $44.0 million, $21.8 million and $15.5 million for the years ended December 31, 2002, 2001 and 2000, respectively.

        Payments under co-promotional or managed services agreements are recognized when the products are sold or the promotional activities are performed. The portion of the payments that represents reimbursement of our expenses is recognized as an offset to those expenses in our statement of income.

        As of December 31, 2002, we have recorded $2.7 million of deferred revenues of which $0.7 million is classified as current. These deferred revenues will be recognized over future periods in accordance with the revenue recognition policies described above.

Research and Development

        All research and development costs are charged to expense as incurred.

Acquired In-Process Research and Development

        Purchased in-process research and development represents the estimated fair value assigned to research and development projects acquired in a purchase business combination that have not been completed at the date of acquisition and which have no future alternative use. Accordingly, these costs are charged to expense as of the acquisition date.

Other Comprehensive Income (Loss)

        We follow SFAS No. 130, "Reporting Comprehensive Income." This statement requires the classification of items of other comprehensive income (loss) by their nature and disclosure of the accumulated balance of other comprehensive income (loss), separately within the equity section of the balance sheet. The balance in accumulated other comprehensive income due to foreign currency translation adjustments was $21.9 million and $1.5 million as of December 31, 2002 and 2001, respectively. The balance in accumulated other comprehensive income due to unrealized investment gains was $3.2 million and $0.8 million as of December 31, 2002 and 2001, respectively.

Earnings Per Share

        We compute income (loss) per common share in accordance with SFAS No. 128, "Earnings Per Share." Basic income (loss) per common share is computed based on the weighted average number of common shares outstanding during the period. Diluted income (loss) per common share is computed based on the weighted average shares outstanding and the dilutive impact of common stock equivalents outstanding during the period. The dilutive effect of employee stock options and restricted stock awards is measured using the treasury stock method. The dilutive effect of convertible notes is measured using the "if-converted" method. Common stock equivalents are not included in periods where there is a loss, as they are anti-dilutive.

52

The following is a reconciliation of net income (loss) and weighted average common shares outstanding for purposes of calculating basic and diluted income (loss) per common share:

	Year ended December 31,
	2002			2001			2000
Basic income (loss) per share computation:
Numerator:
Income (loss) before cumulative effect of a change in accounting principle	$	175,062		$	(55,484	)	$	(93,744	)
Cumulative effect of a change in accounting principle		(3,534	)		—			(7,434	)
Net income (loss)		171,528			(55,484	)		(101,178	)
Dividends on convertible exchangeable preferred stock		—			(5,664	)		(9,063	)
Net income (loss) used for basic income (loss) per common share	$	171,528		$	(61,148	)	$	(110,241	)
Denominator:
Weighted average shares used for basic income (loss) per common share		55,104,000			48,292,000			40,893,000
Basic income (loss) per common share:
Income (loss) per common share before cumulative effect of a change in accounting principle	$	3.17		$	(1.27	)	$	(2.51	)
Cumulative effect of a change in accounting principle		(0.06	)		—			(0.19	)
	$	3.11		$	(1.27	)	$	(2.70	)
Diluted income (loss) per share computation:
Numerator:
Income (loss) before cumulative effect of a change in accounting principle	$	175,062		$	(55,484	)	$	(93,744	)
Cumulative effect of a change in accounting principle		(3,534	)		—			(7,434	)
Net income (loss)		171,528			(55,484	)		(101,178	)
Dividends on convertible exchangeable preferred stock		—			(5,664	)		(9,063	)
Net income (loss) used for basic income (loss) per common share		171,528			(61,148	)		(110,241	)
Add: interest on convertible notes (net of tax)		16,259			—			—
Net income (loss) used for diluted income (loss) per common share	$	187,787		$	(61,148	)	$	(110,241	)
Denominator:
Weighted average shares used for basic income (loss) per common share		55,104,000			48,292,000			40,893,000
Effect of dilutive securities:
Convertible notes		10,466,000			—			—
Employee stock options and restricted stock awards		1,872,000			—			—
Weighted average shares used for diluted income (loss) per common share		67,442,000			48,292,000			40,893,000
Diluted income (loss) per common share:
Income (loss) per common share before cumulative effect of a change in accounting principle	$	2.84		$	(1.27	)	$	(2.51	)
Cumulative effect of a change in accounting principle		(0.05	)		—			(0.19	)
	$	2.79		$	(1.27	)	$	(2.70	)

        The weighted average shares used in the calculation of diluted income per common share excludes 2,331,000 shares relating to outstanding employee stock options for the year ended December 31, 2002 as the inclusion of such shares would be anti-dilutive.

Stock-based Compensation

        We account for stock-based compensation in accordance with the provisions of Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees," and related interpretations. Accordingly, compensation cost is not required to be recognized for options granted to employees and directors at the then fair market value. We follow the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation."

53

Income Taxes

        We account for income taxes using the liability method under SFAS No. 109, "Accounting for Income Taxes." This method generally provides that deferred tax assets and liabilities be recognized for temporary differences between the financial reporting basis and the tax basis of the assets and liabilities and expected benefits of utilizing net operating loss and tax credit carryforwards. We record a valuation allowance for certain temporary differences for which it is more likely than not that we will not generate future tax benefits. The impact on deferred taxes of changes in tax rates and laws, if any, are applied to the years during which temporary differences are expected to be settled and reflected in the consolidated financial statements in the period of enactment.

Reclassifications

        Certain reclassifications of prior year amounts have been made to conform to the current year presentation.

Recent Accounting Pronouncements

        On January 1, 2002, we adopted the provisions of SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS 142 no longer requires the amortization of goodwill; rather, goodwill will be subject to a periodic assessment for impairment by applying a fair-value-based test. In addition, an acquired intangible asset should be separately recognized if the benefit of the intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented, or exchanged, regardless of the acquirer's intent to do so. Such acquired intangible assets will be amortized over the period in which the economic benefits of the intangible asset are consumed or otherwise used up. The new criteria for recording intangible assets separate from goodwill did not require us to reclassify any of our intangible assets. We have only recorded goodwill related to our acquisition of Group Lafon.

        In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 143, "Accounting for Asset Retirement Obligations," which requires recognition of the fair value of liabilities associated with the retirement of long-lived assets when a legal obligation to incur such costs arises as a result of the acquisition, construction, development and/or the normal operation of a long-lived asset. SFAS 143 requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset and subsequently allocated to expense over the asset's useful life. SFAS 143 is effective for fiscal years beginning after December 15, 2002. The adoption of this new standard will not have any impact on our current financial statements.

        On January 1, 2002, we adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." This Statement provides new guidance on the recognition of impairment losses on long-lived assets to be held and used or to be disposed of and also broadens the definition of what constitutes a discontinued operation and how the results of a discontinued operation are to be measured and presented. The adoption of this new standard has not had a material impact on our current financial statements.

54

CEPHALON, INC. AND SUBSIDIARIES    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(In thousands, except share data)

        In April 2002, the FASB issued SFAS No. 145 "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections." This Statement amends or rescinds certain existing authoritative pronouncements including SFAS No. 4, "Reporting Gains and Losses on Extinguishment of Debt," such that the provisions of APB No. 30 "Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions" must now be followed to determine if the early extinguishment of debt should be classified as an extraordinary item. In addition, any gain or loss on extinguishment of debt that was classified as an extraordinary item in prior periods that does not meet the criteria in APB 30 must be reclassified. SFAS 145 is effective for fiscal years beginning after May 15, 2002. We adopted this new standard effective December 31, 2002 and reclassified all gains and losses on early extinguishment of debt as other income and expense, rather than extraordinary items, in our current financial statements.

        In June 2002, the FASB issued SFAS No. 146, "Accounting for Exit or Disposal Activities." This Statement addresses the recognition, measurement and reporting of costs that are associated with exit and disposal activities, including restructuring activities that are currently accounted for pursuant to the guidance in Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." The Statement requires that costs associated with exit or disposal activities be recorded at their fair values when a liability has been incurred. SFAS 146 is effective for disposal activities initiated after December 31, 2002. The adoption of this new standard will not have any impact on our current financial statements.

        In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure." SFAS 148 amends SFAS 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, this Statement amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The alternative methods of transition and additional disclosure requirements of SFAS 148 are effective January 1, 2003.

        In November 2002, the FASB issued FASB Interpretation (FIN) No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees." This Interpretation requires that upon the issuance of a guarantee, the guarantor must recognize a liability for the fair value of the obligation it assumes under that guarantee. FIN 45 is effective for guarantees issued or modified after December 31, 2002. The adoption of this new statement will not have any impact on our current financial statements.

        In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable Interest Entities." This Interpretation addresses consolidation of variable interest entities where an enterprise does not have voting control over the entity but has a controlling financial interest in the entity. FIN 46 is effective for all financial statements issued after September 30, 2003. As a result of the adoption of this standard, Cephalon Clinical Partners, L.P. will be consolidated in our financial statements. This consolidation will not have a material impact on our financial statements. See Note 11.

2. MERGERS AND ACQUISITIONS

Anesta Corp.

        On October 10, 2000, we completed a merger with Anesta Corp. under which we acquired all of the outstanding shares of Anesta in a tax-free, stock-for-stock transaction. The merger was accounted for as a pooling-of-interests and, accordingly, all of our consolidated financial statements prior to the merger date were restated to include the results of operations, financial position, and cash flows of Anesta. In connection with the merger, we recorded merger and integration costs of $13.8 million in the fourth quarter of 2000.

Group Lafon

        On December 28, 2001, we completed our acquisition of the outstanding shares of capital stock of Group Lafon. The results of operations for Group Lafon have not been included in our consolidated statements in 2001 since operations between the acquisition date and December 31, 2001 were immaterial.

55

        The purchase price of $454.2 million was funded in part by the proceeds of our December 11, 2001 offering of $600.0 million of 2.50% convertible subordinated notes. Of the purchase price, $450.0 million was paid in cash to the sellers with the remainder primarily representing transaction costs of the acquisition and severance payments to certain Group Lafon employees. The purchase accounting for the acquisition was finalized effective December 31, 2002 and resulted in a $2.8 million decrease in the amount of goodwill originally recorded at the date of acquisition.

        At December 31, 2001, $4.9 million was recorded as a net accrual for transaction costs in our consolidated balance sheet. All such amounts were paid in 2002.

        The following table summarizes the fair values of assets acquired and liabilities assumed at the date of acquisition.

		At December 31, 2002
Current assets		$	63,407
Property, plant and equipment			25,281
Intangible assets			148,000
Acquired in-process research and development			20,000
Goodwill			298,769
Other assets			4,898
	Total assets acquired		560,355
Current liabilities			(38,148	)
Deferred tax liabilities			(52,666	)
Other liabilities			(15,349	)
	Total liabilities assumed		(106,163	)
	Net assets acquired	$	454,192

        Of the $148.0 million of acquired intangible assets, $16.0 million was assigned to trademarks and tradenames with an estimated useful life of 15 years with the remaining $132.0 million assigned to developed technology for existing pharmaceutical products with a weighted average estimated useful life of approximately 14 years. The $298.8 million of goodwill was assigned to the pharmaceutical segment. None of this goodwill is expected to be deductible for income tax purposes.

        In accordance with SFAS 142, goodwill is not amortized, but is subject to a periodic assessment for impairment by applying a fair-value-based test. We performed our annual test of impairment of goodwill as of July 1, 2002. We have only one reporting unit, a pharmaceutical unit, that constitutes our entire commercial business, and we compared the fair value of this reporting unit with its carrying value. Our quoted market value at July 1, 2002 was used as the fair value of the reporting unit. Since the fair value of the reporting unit exceeded its carrying value at July 1, 2002, no adjustment to our goodwill for impairment was necessary.

        In connection with the acquisition of Group Lafon, we allocated approximately $20.0 million of the purchase price to in-process research and development projects. This allocation represented the estimated fair value based on risk-adjusted cash flows related to the incomplete research and development projects. At the date of acquisition, the development of these projects had not yet reached technological feasibility, and the research and development in progress had no alternative future uses. Accordingly, these costs were charged to expense as of the acquisition date.

        At the acquisition date, Group Lafon had spent approximately $10.0 million on the in-process research and development projects ongoing research and development initiatives, including next-generation MODIODAL drug delivery technologies; a Phase IV clinical trial for FONZYLANE; CRL 41789, an anti-depressant drug candidate ready for Phase II clinical trials; and several other ongoing research and development projects. During 2002, the CRL 41789 study was discontinued while work was continued on the MODIODAL and FONZYLANE studies. We still expect that the completion dates for the development work are in the time-frame of 2004 through 2006 and at which time we expect to begin benefiting from these developed technologies. The estimated revenues for the remaining in-process projects are expected to peak within 10-12 years of acquisition.

56

        In determining the purchase price allocation, management considered present value calculations of income, an analysis of project accomplishments and remaining outstanding items, an assessment of overall contributions, as well as project risks. The value assigned to purchased in-process technology was determined by independent appraisal by estimating the costs to develop the acquired technology into commercially viable products, estimating the resulting net cash flows from the projects, and discounting the net cash flows to their present value. The revenue projections used to value the in-process research and development were, in some cases, reduced based on the probability of success in developing a new drug, and considered the relevant market sizes and growth factors, expected trends in technology, and the nature and expected timing of new product introductions by us and our competitors. The resulting net cash flows from such projects are based on management's estimates of cost of sales, operating expenses, and income taxes from such projects.

        The rates utilized to discount the net cash flows to their present value were based on estimated cost of capital calculations. Due to the nature of the forecast and the risks associated with the projected growth and profitability of the developmental projects, discount rates ranging from 25 to 40 percent were considered appropriate for the in-process research and development. These discount rates were commensurate with the projects' stage of development and the uncertainties in the economic estimates described above.

        If these projects are not successfully developed, the sales and profitability of the combined company may be adversely affected in future periods. Additionally, the value of other acquired intangible assets may become impaired. We believed that the foregoing assumptions used in the in-process research and development analysis were reasonable at the time of the acquisition. We cannot be sure, however, that the underlying assumptions used to estimate expected project sales, development costs or profitability, or the events associated with such projects, will transpire as estimated.

        The following unaudited pro forma information shows the results of the our operations for the years ended December 31, 2001 and 2000 as though the acquisition had occurred as of the beginning of the years presented:

		For the years ended December 31,
		2001			2000
Total revenues		$	364,691		$	217,678
Net loss before cumulative effect of accounting change		$	(73,333	)	$	(106,371	)
Net loss		$	(73,333	)	$	(113,805	)
Basic and diluted net loss per common share:
	Before cumulative effect of accounting change	$	(1.52	)	$	(2.60	)
	Net loss	$	(1.52	)	$	(2.78	)

        The pro forma results have been prepared for comparative purposes only and are not necessarily indicative of the actual results of operations had the acquisition taken place as of the beginning of the periods presented, or the results that may occur in the future. Furthermore, the pro forma results do not give effect to all cost savings or incremental costs that may occur as a result of the integration and consolidation of the acquisition.

3. JOINT VENTURE

        In December 2001, we formed a joint venture with unaffiliated third party investors to fund additional commercial activities in support of PROVIGIL and GABITRIL in the United States. In exchange for our transfer to the joint venture of certain intellectual property and other rights related to these two products, we received a Class B interest, representing a 50% interest in the joint venture. In exchange for a contribution of $50.0 million in cash to the joint venture, the investors received Class A interests, also representing a 50% interest in the joint venture. As of December 31, 2001, the $50.0 million investors' Class A interest was recorded on our balance sheet as long-term debt, and the joint venture's cash balance of $50.0 million was included in our balance of cash and cash equivalents.

        On March 29, 2002, we acquired the investors' Class A interests and ended the joint venture by issuing to the investors, through a private placement, $55.0 million aggregate principal amount of 3.875% convertible subordinated notes due March 2007. See Note 10.

57

        The purchase of the investor's Class A interests in the joint venture resulted in the recognition of a charge of $7.1 million on the early extinguishment of debt during the first quarter of 2002. The following table summarizes the calculation of this charge:

Carrying value of the debt as of December 31, 2001		$	50,000
Interest accreted during the first quarter 2002 at 20%			2,500
Carrying value of the debt as of March 29, 2002			52,500
Less: unamortized joint venture formation costs as of March 29, 2002			(4,642	)
			47,858
Fair value of subordinated notes issued on March 29, 2002			(55,000	)
	Charge on early extinguishment of debt	$	(7,142	)

        In addition, our statement of operations for the year ended December 31, 2002 included certain charges related to the operations of the joint venture, as follows:

Selling, general and administrative expenses		$	3,508
Interest expense			3,163
Interest income			(190	)
	Total	$	6,481

4. CASH, CASH EQUIVALENTS AND INVESTMENTS

        At December 31, cash, cash equivalents and investments consisted of the following:

		2002		2001
Cash and cash equivalents:
	Demand deposits	$	486,097	$	4,364
	Repurchase agreements		—		155,817
	U.S. government agency obligations		—		79,985
	Commercial paper		—		245,158
	Asset-backed securities		—		4,636
	Bonds		—		58,767
			486,097		548,727
Short-term investments (at market value):
	U.S. government agency obligations		4,994		8,076
	Commercial paper		—		17,135
	Asset-backed securities		65,796		2,878
	Bonds		25,801		26,068
	Certificates of deposit		—		1,000
			96,591		55,157
		$	582,688	$	603,884

        The contractual maturities of our investments in cash, cash equivalents, and investments at December 31, 2002 are as follows:

Less than one year	$	497,547
Greater than one year but less than two years		51,740
Greater than two years but less than three years		33,401
	$	582,688

        Some of our lease agreements contain covenants that obligate us to maintain a minimum balance in unrestricted cash and investments of $30.0 million or deliver to the lessor an irrevocable letter of credit in the amount of the then outstanding balance

58

due on all equipment leased under the agreements. At December 31, 2002, the balance due under these lease agreements was $1.4 million.

5. RECEIVABLES

        At December 31, receivables consisted of the following:

	2002			2001
Trade receivables	$	63,659		$	40,790
Receivables from collaborations		12,321			16,438
Other receivables		12,251			24,950
		88,231			82,178
Less reserve for sales discounts, returns and allowances		(5,101	)		(2,331	)
	$	83,130		$	79,847

59

CEPHALON, INC. AND SUBSIDIARIES    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(In thousands, except share data)

        At December 31, inventory consisted of the following:

	2002		2001
Raw material	$	28,628	$	19,666
Work-in-process		2,448		7,632
Finished goods		23,223		20,215
	$	54,299	$	47,513

        Effective January 1, 2002, we changed our method of valuing domestic inventories from the first-in, first-out, or FIFO method, to the last-in, first-out, or LIFO method. We recognized a charge of $3.5 million in the first quarter of 2002 as the cumulative effect of adopting the LIFO inventory costing method. The acquisition of Group Lafon's manufacturing operations and the expansion of our internal manufacturing capacity for ACTIQ has reduced our reliance on third party manufacturers and sharpened management's focus on minimizing the cost of manufacturing products. Consistent with this goal, the LIFO method reflects current changes to manufacturing costs on the statement of operations on a more timely basis, resulting in a better matching of currents costs of products sold with product revenues.

        Cost of product sales under the LIFO inventory costing method was $17.9 million lower in 2002 than it would have been under the FIFO method. If we had adopted LIFO effective January 1, 2000, the effect on our statement of operations for 2000 and 2001 would have been immaterial.

7. PROPERTY AND EQUIPMENT

        At December 31, property and equipment consisted of the following:

	Estimated Useful Lives	2002			2001
Land and improvements	—	$	4,612		$	3,370
Buildings and improvements	10-40 years		54,556			39,554
Laboratory, machinery and other equipment	3-10 years		45,335			36,099
Construction in progress	—		18,686			6,736
			123,189			85,759
Less accumulated depreciation and amortization			(33,123	)		(21,053	)
		$	90,066		$	64,706

        Depreciation and amortization expense was $7.8 million, $3.0 million, and $2.3 million for the years ended December 31, 2002, 2001 and 2000, respectively.

60

8. OTHER INTANGIBLE ASSETS, NET

        At December 31, other intangible assets consisted of the following:

	2002			2001
Developed technology acquired from Lafon	$	132,000		$	132,000
Trademarks/tradenames acquired from Lafon		16,000			16,000
GABITRIL product rights		110,749			92,648
Novartis product rights		41,641			41,641
ACTIQ marketing rights		75,465			29,114
Modafinil marketing rights		7,906			—
Other		12,377			—
		396,138			311,403
Less accumulated amortization		(44,419	)		(13,134	)
	$	351,719		$	298,269

        Other intangible assets are amortized over their estimated useful economic life using the straight line method. Amortization expense was $27.7 million, $11.5 million, and $1.7 million for the years ended December 31, 2002, 2001 and 2000, respectively. Estimated amortization expense of intangible assets for each of the next five years is approximately $32.8 million.

9. ACCRUED EXPENSES

        At December 31, accrued expenses consisted of the following:

	2002		2001
Accrued compensation and benefits	$	14,433	$	9,042
Accrued income taxes		13,242		—
Accrued professional and consulting fees		7,476		3,384
Accrued clinical trial fees and related expenses		7,065		8,397
Accrued license fees and royalties		7,985		9,199
Accrued merger and integration expenses		—		6,413
Accrued contractual sales allowances		6,145		4,655
Accrued interest		2,900		2,789
Other accrued expenses		21,198		10,146
	$	80,444	$	54,025

10. LONG-TERM DEBT

        At December 31, long-term debt consisted of the following:

		2002			2001
Capital lease obligations		$	2,594		$	2,852
Mortgage and building improvement loans			10,940			12,085
Joint venture (See Note 3)			—			50,000
Convertible subordinated notes			838,000			783,000
Notes payable/other			7,603			13,460
Due to Abbott Laboratories			17,162			37,392
	Total debt		876,299			898,789
Less current portion			(15,402	)		(32,200	)
	Total long-term debt	$	860,897		$	866,589

61

        Aggregate maturities of long-term debt are as follows:

2003	$	15,402
2004		9,277
2005		2,699
2006		785,223
2007		57,288
2008 and thereafter		6,410
	$	876,299

Capital Lease Obligations

        We currently lease certain property and laboratory, production and computer equipment with a cost of $6.8 million. Under the terms of certain of the lease agreements, we must maintain a minimum balance in unrestricted cash and investments of $30.0 million or deliver to the lessor an irrevocable letter of credit in the amount of the then outstanding balance due on all equipment leased under the agreements. At December 31, 2002, the balance due under these lease agreements was $1.4 million. Our lease agreements provide us with an option to purchase the leased equipment at the conclusion of the lease.

Mortgage and Building Improvement Loans

        In March 1995, we purchased the buildings housing our administrative offices and research facilities in West Chester, Pennsylvania for $11.0 million. We financed the purchase through the assumption of an existing $6.9 million first mortgage and from $11.6 million in state funding provided by the Commonwealth of Pennsylvania. The first mortgage has a 15-year term with an annual interest rate of 9.625%. The state funding has a 15-year term with an annual interest rate of 2%. The state loans contained a provision that would have allowed the rate on the loans to be increased to prime plus 2% if we did not meet targets for hiring new employees in Pennsylvania by the end of 1999. We were accruing interest at this higher rate over the life of the loan. Although we did not meet the hiring target, in April 2000, we and the Commonwealth reached an agreement under which the Commonwealth waived the interest penalty. As a result, we recognized interest income in 2000 for the interest differential of $4.0 million that was previously accrued. The loans require annual aggregate principal and interest payments of $1.8 million. The loans are secured by the buildings and by all our equipment located in Pennsylvania that is otherwise unsecured.

        In November 2002, the Pennsylvania Industrial Development Board (PIDA) authorized the write-off of the outstanding principal balance of a loan granted by PIDA in 1995, contingent upon the commencement of construction of a new headquarters facility in the Commonwealth of Pennsylvania no later than June 30, 2004, unless an extension is approved by the PIDA Board. Until the earlier of the commencement of actual and direct construction of a headquarters facility or June 30, 2004 (or later date if extended), no further interest will accrue on the outstanding balance and no payments are required by PIDA. If the above contingency is not met, interest and principal payments will proceed with the amortization schedule previously established in the original loan agreement. The outstanding loan balance of $5.3 million at December 31, 2002 is reflected in our balance sheets as a long-term liability.

Subordinated Convertible Notes

        In the second quarter of 2001, we completed a private placement of $400.0 million of 5.25% convertible subordinated notes due May 2006. Debt issuance costs of $14.4 million have been capitalized in other assets and are being amortized over the term of the notes. Interest on the notes is payable each May 1 and November 1. The notes are convertible, at the holder's option, into our common stock at a conversion price of $74.00 per share, subject to adjustment in certain circumstances. We may redeem the notes on or after May 5, 2003. Prior to that date, we may redeem the notes if our common stock price exceeds 150% of the conversion price for a specified period of time. Upon early redemption, we are required to pay interest that would have been due up through May 5, 2003. During the fourth quarter of 2001, certain note holders approached us, and we

62

agreed, to exchange $217.0 million of these outstanding notes into 3,691,705 shares of our common stock. We recognized debt exchange expense of $52.4 million in the fourth quarter of 2001 relating to these early exchanges in accordance with SFAS No. 84, "Induced Conversion of Convertible Debt."

        In December 2001, we completed a private placement of $600.0 million of 2.50% convertible subordinated notes due December 2006. Debt issuance costs of $21.3 million have been capitalized in other assets and are being amortized over the term of the notes. Interest on the notes is payable each June 15 and December 15, beginning June 15, 2002. The notes are convertible into our common stock at a conversion price of $81.00 per share, subject to adjustment in certain circumstances. We may redeem the notes on or after December 20, 2004.

        In March 2002, we issued and sold $55.0 million of aggregate principal in a private placement of 3.875% convertible notes due March 2007. These notes were issued in connection with our purchase of the investor's Class A interests in the joint venture and sold to the purchaser in a transaction exempt from registration requirements of the Securities Act of 1933, as amended, because the offer and sale of the notes did not involve a public offering. Interest on the notes is payable at a rate of 3.875% per year on each of April 15 and October 15. The notes also are convertible into our common stock, at the option of the holders, at a price of $70.36 per share, subject to adjustment upon certain events. The holders of these notes may elect to require us to redeem the notes on March 28, 2005 at a redemption price equal to 100% of the principal amount of notes submitted for redemption, plus accrued and unpaid interest. In certain other circumstances, at the option of the holders, we may be required to repurchase the notes at 100% of the principal amount of the notes submitted for repurchase, plus accrued and unpaid interest.

Notes Payable/Other

        In December 2001, we acquired Group Lafon, which included the assumption of $13.5 million of notes payable, bank debt and outstanding amounts under lines of credit. At December 31, 2002, $7.6 million is outstanding with fixed and variable interest rates ranging from 4.2% to 6.0%, such amounts are payable through 2011.

Due to Abbott Laboratories

        In March 2000, we purchased the U.S. marketing rights to ACTIQ from Abbott Laboratories for $29.2 million. At December 31, 2002, $3.6 million is outstanding and payable through 2005.

        In October 2000, we agreed to purchase the product rights to market and sell GABITRIL in the United States from Abbott for $100.0 million due through 2004, of which $40.0 million was paid immediately. We recorded $54.2 million of debt which represented the net present value of the remaining $60.0 million obligation, based on an incremental borrowing rate of 7.5%. We made payments of $24.0 million in 2001 and $21.0 million in 2002. At December 31, 2002, $13.6 million is outstanding and payable through 2004.

Due to Novartis Pharma AG

        In November 2000, we entered into a collaboration agreement with Novartis to consolidate the sales and marketing efforts of four Novartis CNS products with PROVIGIL in the United Kingdom. In connection with this agreement, we agreed to pay Novartis approximately $45.0 million, of which approximately $15.0 million was paid immediately and approximately $30.0 million was due in various installments through 2002. We recognized $26.7 million at December 31, 2000 as the net present value of the remaining payments based on an incremental borrowing rate of 7.5%. In May 2001, we paid $24.4 million to Novartis to satisfy our outstanding obligation and recorded a gain on the early extinguishment of debt of $3.0 million.

63

11. COMMITMENTS AND CONTINGENCIES

Leases

        We lease certain of our offices and automobiles under operating leases in the U.S. and Europe that expire at various times through 2018. Lease expense under all operating leases totaled $4.3 million, $3.3 million, and $2.2 million in 2002, 2001, and 2000, respectively. Estimated lease expense for each of the next five years is as follows:

2003	$	5,724
2004		4,592
2005		2,789
2006		1,747
2007		1,223
2008 and thereafter		4,967
	$	21,042

Cephalon Clinical Partners, L.P.

        In August 1992, we exclusively licensed our rights to MYOTROPHIN for human therapeutic use within the United States, Canada and Europe to Cephalon Clinical Partners, L.P. (CCP). Development and clinical testing of MYOTROPHIN is performed on behalf of CCP under a research and development agreement with CCP.

        CCP has granted us an exclusive license to manufacture and market MYOTROPHIN for human therapeutic use within the United States, Canada and Europe in return for royalty payments equal to a percentage of product sales and a milestone payment of approximately $16.0 million that will be made if MYOTROPHIN receives regulatory approval.

        We have a contractual option, but not an obligation, to purchase all of the limited partnership interests of CCP, which is exercisable upon the occurrence of certain events following the first commercial sale of MYOTROPHIN. If, and only if, we decide to exercise this purchase option, we would make an advance payment of approximately $40.3 million in cash or, at our election, approximately $42.4 million in shares of common stock or a combination thereof. Should we discontinue development of MYOTROPHIN, or if we do not exercise this purchase option, our license will terminate and all rights to manufacture or market MYOTROPHIN in the United States, Canada and Europe will revert to CCP, which may then commercialize MYOTROPHIN itself or license or assign its rights to a third party. In that event, we would not receive any benefits from such commercialization, license or assignment of rights.

Legal Proceedings

        On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies seeking FDA approval for a generic equivalent of modafinil. The lawsuit claims infringement of our U.S. Patent No. RE37516, which covers the pharmaceutical compositions and methods of treatment with the form of modafinil contained in PROVIGIL. We intend to vigorously defend the validity, and prevent infringement, of this patent.

        We are a party to certain other litigation in the ordinary course of our business, including, among others, U.S. patent interference proceedings, European patent oppositions, and matters alleging employment discrimination, product liability and breach of commercial contract. We are vigorously defending ourselves in all of these actions and do not believe these matters, even if adversely adjudicated or settled, would have a material adverse effect on our financial condition or results of operations.

12. STOCKHOLDERS' EQUITY

Convertible Exchangeable Preferred Stock

        During the third quarter of 1999, we completed a private offering to institutional investors of 2,500,000 shares of convertible exchangeable preferred stock at $50 per share. Dividends on the preferred stock were payable quarterly and were cumulative at the annual rate of $3.625 per share. We recognized $5.7 million and $9.1 million of preferred dividends in 2001

64

and 2000, respectively. The preferred stock was convertible into an aggregate of approximately 6,975,000 shares of our common stock at a conversion price of $17.92 per share, subject to adjustment in certain circumstances.

        In May 2001, the holders of 2,344,586 shares of the 2,500,000 shares outstanding of our convertible exchangeable preferred stock converted their preferred shares into an aggregate of 6,541,394 shares of our common stock. As an inducement to the holders to convert their preferred stock prior to August 2001, when we were initially permitted to redeem the preferred stock, we agreed to pay immediately all dividends accrued through the date of conversion as well as all dividends that would have accrued on the converted shares through the August 2001 redemption date. In the second quarter of 2001, we recorded an additional $1.1 million of dividend expense associated with the early conversion. In September 2001, the remaining 155,414 shares of our convertible exchangeable preferred stock were converted into an aggregate of 433,604 shares of our common stock.

Equity Compensation Plans

        We have established equity compensation plans for our employees, directors and certain other individuals. All grants and terms are authorized by the Compensation Committee of our Board of Directors. We may grant non-qualified stock options under the 1995 Equity Compensation Plan and the 2000 Equity Compensation Plan, and also may grant incentive stock options and restricted stock awards under 1995 Plan. The options and restricted stock awards generally become exercisable or vest ratably over four years from the grant date, and the options must be exercised within ten years of the grant date.

        The following tables summarize the aggregate option activity under the plans for the years ended December 31:

		2002				2001				2000
		Shares		Weighted Average Exercise Price		Shares		Weighted Average Exercise Price		Shares		Weighted Average Exercise Price
Outstanding, January 1,		5,607,595		$	45.36	5,253,730		$	28.44	4,601,272		$	17.07
	Granted	2,497,200			51.88	2,035,100			70.32	1,796,200			49.69
	Exercised	(347,686	)		17.43	(1,339,380	)		19.71	(945,023	)		15.16
	Canceled	(180,168	)		50.98	(341,855	)		31.88	(198,719	)		22.76
Outstanding, December 31,		7,576,941		$	48.52	5,607,595		$	45.36	5,253,730		$	28.44
Exercisable at end of year		2,829,136		$	35.16	1,937,125		$	22.91	2,360,358		$	17.95
Weighted average fair value of options granted during the year				$	23.79			$	41.78			$	40.60

65

CEPHALON, INC. AND SUBSIDIARIES    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(In thousands, except share data)

        The fair value of the options granted during 2002, 2001 and 2000 were estimated on the date of grant using the Black-Scholes option-pricing model based on the following assumptions:

	2002		2001		2000
Risk free interest rate	3.30	%	4.89	%	5.04	%
Expected life	6 years		6 years		6 years
Expected volatility	43	%	59	%	103	%
Expected dividend yield	0	%	0	%	0	%

	Options Outstanding				Options Exercisable
Range of Exercise Price	Shares	Weighted Average Remaining Contractual Life (yrs)	Weighted Average Exercise Price		Shares	Weighted Average Exercise Price
$  6.00-$14.99	859,225	5.3	$	9.21	838,575	$	9.18
$15.00-$29.99	785,169	6.1		24.20	645,441		23.72
$30.00-$50.99	298,622	7.0		38.33	136,345		31.16
$51.00-$59.99	3,643,200	9.1		51.92	723,250		52.48
$60.00-$71.96	1,990,725	8.9		70.40	485,525		70.59
	7,576,941	8.0	$	48.52	2,829,136	$	35.16

        In 2002, the 1995 and 2000 Equity Compensation Plans were amended to increase the number of shares subject to the annual grants awarded under all of the plans by 1,200,000 and 1,700,000 shares, respectively. At December 31, 2002, 869,484 shares were available for future grants under all of the plans.

        During 2002, 2001, and 2000, we received net proceeds of $5.9 million, $25.5 million, and $13.6 million, respectively, from the exercise of stock options. During 2002 and 2001, some stock options were exercised by tendering mature shares as consideration for the exercise price, resulting in the recording of treasury stock of $0.1 million and $1.8 million, respectively.

        The following table summarizes restricted stock award activity for the years ended December 31:

		2002			2001			2000
Outstanding, January 1,			268,875			446,850			496,700
	Granted		—			—			119,200
	Vested		(129,900	)		(150,650	)		(146,725	)
	Canceled		(5,700	)		(27,325	)		(22,325	)
Outstanding, December 31,			133,275			268,875			446,850
Compensation expense recognized		$	2,828		$	5,349		$	5,625

        We have opted to disclose only the provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," as they pertain to financial statement recognition of compensation expense attributable to option grants. As such, no compensation cost has been recognized for our stock option plans. If we had elected to recognize compensation cost based on the fair value of

66

stock options as prescribed by SFAS 123, the pro forma income (loss) and income (loss) per share amounts would have been as follows:

		Year ended December 31,
		2002		2001			2000
As reported
	Income (loss) applicable to common shares	$	171,528	$	(61,148	)	$	(110,241	)
	Basic income (loss) per share	$	3.11	$	(1.27	)	$	(2.70	)
	Diluted income (loss) per share	$	2.79	$	(1.27	)	$	(2.70	)
Pro forma
	Income (loss) applicable to common shares	$	136,868	$	(98,450	)	$	(118,234	)
	Basic income (loss) per share	$	2.48	$	(2.04	)	$	(2.89	)
	Diluted income (loss) per share	$	2.03	$	(2.04	)	$	(2.89	)

Warrants

        The following table summarizes warrant activity for the years ended December 31:

		2001		2000
Outstanding, January 1,		265,800		2,779,000
	Granted	—		—
	Exercised	(265,800	)	(2,513,200	)
	Expired	—		—
Outstanding, December 31,		—		265,800

        At December 31, 2001, no warrants to purchase common stock remained outstanding and no warrants were issued during 2002.

Qualified Savings and Investment Plan

        We have a profit sharing plan pursuant to section 401(k) of the Internal Revenue Code whereby eligible employees may contribute up to 15% of their annual salary to the plan, subject to statutory maximums. The plan provides for discretionary matching contributions by us in cash or a combination of cash and shares of our common stock. Our contribution for the years 2000 through 2002 was 100% of the first 6% of employee salaries contributed in the ratio of 50% cash and 50% Cephalon stock. We contributed $3.6 million, $3.0 million, and $1.8 million, in cash and common stock to the plan for the years 2002, 2001, and 2000, respectively. Prior to the merger (see Note 2), Anesta had a 401(k) Plan whereby eligible employees were able to contribute up to 25% of their annual salary to the plan. Anesta had the option of making discretionary contributions equal to 25% of participant contributions up to 6% of participant compensation. Anesta contributed $58,000 for the year 2000.

Employee Stock Purchase Plan

        In November 1993, Anesta adopted the Employee Stock Purchase Plan authorizing the issuance of 250,000 shares pursuant to purchase rights granted to employees of Anesta. Participants could elect to use up to 10% of their compensation to purchase Anesta's common stock at the end of each year at a price equal to 85% of the lower of the beginning or ending stock price in the plan period. This plan terminated in October 2000 upon the merger of Cephalon and Anesta (see Note 2).

Pro forma Aggregate Conversions or Exercises

        At December 31, 2002, the conversion or exercise of all outstanding options and convertible subordinated notes into shares of Cephalon common stock in accordance with their terms would increase the outstanding number of shares of common stock by approximately 18,240,000 shares, or 33%.

67

Preferred Share Purchase Rights

        In November 1993, our Board of Directors declared a dividend distribution of one right for each outstanding share of common stock. In addition, a right attaches to and trades with each new issue of our common stock. Each right entitles each registered holder, upon the occurrence of certain events, to purchase from us a unit consisting of one one-hundredth of a share of our Series A Junior Participating Preferred Stock, or a combination of securities and assets of equivalent value, at a purchase price of $90.00 per unit, subject to adjustment.

13. INCOME TAXES

        The components of total income (loss) from operations before income taxes and the cumulative effect of a change in accounting principle were:

	2002			2001			2000
United States	$	70,562		$	(34,589	)	$	(88,042	)
Foreign		(8,129	)		(20,895	)		(5,702	)
Total	$	62,433		$	(55,484	)	$	(93,744	)

        The components of the provision (benefit) for income taxes are as follows:

		2002			2001			2000
Current taxes:
	United States	$	19,997		$	—		$	—
	Foreign		13,041			—			—
	State		1,067			—			—
			34,105			—			—
Deferred taxes:
	United States		9,224			(19,004	)		(32,828	)
	Foreign		2,138			(5,949	)		(1,711	)
	State		3,182			(19,657	)		(8,214	)
			14,544			(44,610	)		(42,753	)
Change in valuation allowance			(161,278	)		44,610			42,753
			(146,734	)		—			—
Total		$	(112,629	)	$	—		$	—

        A reconciliation of the United States Federal statutory rate to our effective tax rate is as follows:

	2002		2001		2000
U.S. Federal statutory rate—expense (benefit)	35.0	%	(35.0	)%	(35.0	)%
Non-deductible expenses	6.8		1.7		0.5
Debt conversion expense	—		33.1		—
Revision of prior years' estimates	—		(27.1	)	(7.4	)
State income taxes, net of U.S. federal tax benefit	1.7		—		—
Tax rate differential on foreign income	13.6		2.2		0.3
Change in valuation allowance	(236.5	)	25.4		41.6
Other	(1.0	)	(0.3	)	—
Consolidated effective tax rate	(180.4	)%	—	%	—	%

68

        The tax benefits associated with employee exercises of non-qualified stock options and disqualifying dispositions of stock acquired with incentive stock options reduce taxes payable. A tax benefit of $5.2 million associated with the exercise of employee stock options was recorded to additional paid-in capital in 2002. The 2002 tax benefit from the reduction in the valuation allowance also includes a portion attributable to all prior years' tax benefits associated with the exercise of employee stock options, the tax benefits of which were previously not likely to be realized. Consequently, $35.8 million of the reduction in the valuation allowance was recognized as an increase to additional paid-in capital.

        Net unremitted deficit of foreign subsidiaries at December 31, 2002 amounted to approximately $28 million. To the extent a subsidiary has unremitted earnings, such amounts have been included in the consolidated financial statements without giving effect to deferred taxes since it is management's intent to reinvest such earnings in foreign operations.

        Deferred income taxes reflect the tax effects of temporary differences between the bases of assets and liabilities recognized for financial reporting purposes and tax purposes, and net operating loss and tax credit carryforwards. Significant components of net deferred tax assets and deferred tax liabilities as of December 31 are as follows:

		2002			2001
	Net operating loss carryforwards	$	120,610		$	140,536
	Capitalized research and development expenditures		52,479			69,505
	Research and development tax credits		17,354			12,833
	Acquired product rights and intangible assets		11,921			7,544
	Reserves and accrued expenses		6,072			2,776
	Deferred revenue		1,028			2,783
	Other, net		5,376			5,901
	Total deferred tax assets		214,840			241,878
	Valuation allowance		(44,768	)		(241,878	)
Net deferred tax assets		$	170,072		$	—
Deferred tax liabilities:
	Purchase accounting adjustments for foreign acquisition	$	52,666		$	52,666
	Other		173			173
Total deferred tax liabilities		$	52,839		$	52,839

69

CEPHALON, INC. AND SUBSIDIARIES    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(In thousands, except share data)

        Other deferred tax liabilities are classified as accrued expenses in the accompanying balance sheets. At December 31, 2002, we had net operating loss carryforwards for U.S. federal income tax purposes of approximately $306.7 million that will begin to expire in 2003, and state net operating losses of approximately $256 million that will expire in varying years starting in 2003. We also have international net operating loss carryforwards of approximately $2.2 million with indefinite expiration dates. The net operating loss carryforwards differ from the accumulated deficit principally due to differences in the recognition of certain research and development expenses for financial and federal income tax reporting. Federal research tax credits of $17.3 million are available to offset future tax liabilities, and begin to expire in 2003. The amount of U.S. federal net operating loss carryforwards which can be utilized in any one period will be limited by federal income tax regulations since a change in ownership as defined in Section 382 of the Internal Revenue Code occurred in the prior years. We do not believe that such limitation will have a material adverse impact on the utilization of the net operating loss carryforwards, but we do believe it will affect utilization of tax credit carryforwards.

        In the fourth quarter of 2002, we determined that all of our domestic net operating loss carryforwards, portions of international operating loss carryforwards, and certain other deferred tax assets were more likely than not to be recovered. The remaining valuation allowance of $44.8 million at December 31, 2002 relates to certain tax credits, international operating loss carryforwards and temporary differences that we believe are not likely to be recovered.

14. SELECTED CONSOLIDATED QUARTERLY FINANCIAL DATA (UNAUDITED)

		2002 Quarter Ended
		December 31,		September 30,		June 30,		March 31,
Statement of Operations Data:
	Total revenues	$	144,306	$	130,363	$	120,727	$	111,501
	Income before cumulative effect of a change in accounting principle		139,994		19,976		14,429		663
	Cumulative effect of a change in accounting principle		—		—		—		(3,534	)
	Net income (loss) applicable to common shares	$	139,994	$	19,976	$	14,429	$	(2,871	)
	Basic income (loss) per common share:
	Income per common share before cumulative effect of a change in accounting principle	$	2.53	$	0.36	$	0.26	$	0.01
	Cumulative effect of a change in accounting principle		—		—		—		(0.06	)
		$	2.53	$	0.36	$	0.26	$	(0.05	)
	Weighted average number of shares outstanding		55,250,000		55,128,000		55,071,000		54,963,000
Diluted income (loss) per common share:
	Income per common share before cumulative effect of a change in accounting principle	$	2.13	$	0.35	$	0.25	$	0.01
	Cumulative effect of a change in accounting principle		—		—		—		(0.06	)
		$	2.13	$	0.35	$	0.25	$	(0.05	)
Weighted average number of shares outstanding-assuming dilution			67,619,000		56,730,000		57,033,000		54,963,000

70

		2001 Quarter Ended
		December 31,			September 30,			June 30,			March 31,
Statement of Operations Data:
	Total revenues	$	74,902		$	83,822		$	56,199		$	47,072
	Net income (loss)		(64,545	)		21,577			(2,974	)		(9,542	)
	Dividends on convertible exchangeable preferred stock		—			(70	)		(3,328	)		(2,266	)
Net income (loss) applicable to common shares		$	(64,545	)	$	21,507		$	(6,302	)	$	(11,808	)
	Basic income (loss) per common share	$	(1.23	)	$	0.43		$	(0.13	)	$	(0.28	)
	Weighted average number of shares outstanding		52,422,000			50,269,000			47,725,000			42,732,000
	Diluted income (loss) per common share	$	(1.23	)	$	0.40		$	(0.13	)	$	(0.28	)
	Weighted average number of shares outstanding-assuming dilution		52,422,000			53,412,000			47,725,000			42,732,000

15. SEGMENT AND SUBSIDIARY INFORMATION

        On December 28, 2001, we completed our acquisition of Group Lafon. As a result, we now have significant sales, manufacturing, and research operations conducted by several subsidiaries located in Europe. Prior to 2002, our European operations were immaterial.

        Although we now have significant European operations, we have determined that all of our operations have similar economic characteristics and may be aggregated with our United States operations into a single operational segment for reporting purposes. Summarized revenue and long-lived asset information by geographic region is provided below:

        Revenues for the year ended December 31:

	2002
United States	$	395,738
Europe		111,159
Total	$	506,897

        Long-lived assets:

	At December 31,
	2002		2001
United States	$	383,768	$	206,697
Europe		519,342		500,595
Total	$	903,110	$	707,292

16. SUBSEQUENT EVENTS

        In January 2003, we announced that we had entered into a five-year agreement with MDS Proteomics Inc. (MDSP), a subsidiary of MDS Inc., to utilize MDSP's technologies with the objective of accelerating the clinical development of and broadening the market opportunities for our pipeline of small chemical compounds. MDSP will receive payments upon the successful achievement of specified milestones and will receive royalties on sales of products resulting from the collaboration. As part of the agreement, we purchased from MDSP a $30.0 million 5% convertible note due 2010. The note is convertible into MDSP's common stock at an initial conversion price of $22.00 per share, subject to adjustment if MDSP sells shares of its common stock at a lower price.

71

        On February 5, 2003, we announced that the FDA had accepted an abbreviated new drug application (ANDA) for a generic form of modafinil, the active ingredient in PROVIGIL. On March 28, 2003, we filed a patent infringement lawsuit in U.S. District Court in New Jersey against Teva Pharmaceuticals USA, Inc., Mylan Pharmaceuticals Inc., Ranbaxy Pharmaceuticals Inc., and Barr Laboratories, Inc. based upon the ANDAs filed by each of these companies seeking FDA approval for a generic equivalent of modafinil. The lawsuit claims infringement of our U.S. Patent No. RE37516, which covers the pharmaceutical compositions and methods of treatment with the form of modafinil contained in PROVIGIL. We intend to vigorously defend the validity, and prevent infringement, of this patent.

        On March 7, 2003, our wholly-owned subsidiary, Cephalon Australia Pty. Limited, formally commenced a takeover bid for SIRTeX Medical Limited (ASX: SRX). SIRTeX markets SIR-Spheres®, a product approved in the United States, Europe, Australia and portions of Asia for the treatment of certain types of liver cancer. Under its bid, Cephalon Australia intends to offer A$4.85 cash for each SIRTeX ordinary share including any SIRTeX shares that are issued on the exercise of SIRTeX options. Cephalon Australia also has obtained an option to acquire shares from SIRTeX's largest shareholder representing up to 19.9 percent of the total issued share capital of SIRTeX at a price of A$4.85 per SIRTeX share. The total bid value is approximately US$161 million. If successful, we intend to fund the bid price using a portion of our existing cash and investment balance.

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

        None.

72

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Directors

        The information required by Item 10 is incorporated herein by reference to the information contained under the caption "Proposal 1—Election of Directors" in our definitive proxy statement related to the 2003 annual meeting of stockholders.

Executive Officers

        The information concerning our executive officers required by this Item 10 in provided under the caption "Executive Officers of the Registrant" in Part I hereof.

Section 16(a) Beneficial Ownership Reporting Compliance

        The information concerning Section 16(a) Beneficial Ownership Reporting Compliance by our directors and executive officers is incorporated by reference to the information contained under the caption "Section 16(a) Beneficial Ownership Reporting Compliance" in our definitive proxy statement related to the 2003 annual meeting of stockholders.

ITEM 11. EXECUTIVE COMPENSATION

        The information required by this Item 11 is incorporated by reference to the information contained in our definitive proxy statement for the 2003 annual meeting of stockholders.

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

        The information required by Item 12 is incorporated by reference to the information contained in our definitive proxy statement for the 2003 annual meeting of stockholders.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

        The information required by Item 13 is incorporated by reference to the information contained in our definitive proxy statement for the 2003 annual meeting of stockholders.

ITEM 14. CONTROLS AND PROCEDURES

        We maintain a set of disclosure controls and procedures that are designed to ensure that information required to be disclosed by us in the reports filed by us under the Securities Exchange Act of 1934, as amended ("Exchange Act") is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. Within the 90 days prior to the filing date of this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chairman and Chief Executive Officer and Senior Vice President and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rule 13a-14(c)). Based on that evaluation, our Chairman and Chief Executive Officer and Senior Vice President and Chief Financial Officer concluded that our disclosure controls and procedures are effective. A controls system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within any company have been detected.

        There have been no significant changes in our internal controls or other factors that could significantly affect those controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

73

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)DOCUMENTS FILED AS PART OF THIS REPORT

        The following is a list of our consolidated financial statements and our subsidiaries and supplementary data included in this report under Item 8 of Part II hereof:

1.    FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA

        Reports of Independent Public Accountants.

        Consolidated Balance Sheets as of December 31, 2002 and 2001.

        Consolidated Statements of Operations for the years ended December 31, 2002, 2001 and 2000.

        Consolidated Statements of Stockholders' Equity for the years ended December 31, 2002, 2001
    and 2000.

        Consolidated Statements of Cash Flows for the years ended December 31, 2002, 2001 and 2000.

        Notes to Consolidated Financial Statements.

2.    FINANCIAL STATEMENT SCHEDULES

        Schedule II—Valuation and Qualifying Accounts

        Schedules, other than those listed above, are omitted because they are not applicable or are not required, or because the required information is included in the consolidated financial statements or notes thereto.

(b)REPORTS ON FORM 8-K

        During the fiscal quarter ended December 31, 2002, we filed Current Reports on Form 8-K as follows:

•

On October 4, 2002, we filed a Form 8-K that included a press release dated October 3, 2002 announcing that we had reacquired rights to our cancer pain product ACTIQ® (oral transmucosal fentanyl citrate) [C-II] in 12 countries, principally in Europe, from Elan Pharma International Limited, a subsidiary of Elan Corporation, plc.



•

On October 31, 2002, we filed a Form 8-K that included a press release dated October 23, 2002 announcing results of our clinical study evaluating PROVIGIL(R) (modafinil) C-IV in patients with shift work sleep disorder.

(c)EXHIBITS

        The following is a list of exhibits filed as part of this annual report on Form 10-K. Where so indicated by footnote, exhibits that were previously filed are incorporated by reference. For exhibits incorporated by reference, the location of the exhibit in the previous filing is indicated.

Exhibit No.	Description
3.1(a)	Restated Certificate of Incorporation, as amended, filed as Exhibit 3.1 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1996.
3.1(b)	Certificate of Amendment of Restated Certificate of Incorporation, filed as Exhibit 3.1 to the Company's Quarterly Report on Form 10-Q for the period ending June 30, 2002.
3.2	Bylaws of the Registrant, as amended and restated, filed as Exhibit 3.2 to the Company's Quarterly Report on Form 10-Q for the period ending June 30, 2002.
4.1	Specimen copy of stock certificate for shares of Common Stock of the Registrant, filed as Exhibit 4.1 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1993.
4.2(a)	Amended and Restated Rights Agreement, dated as of January 1, 1999 between Cephalon, Inc. and StockTrans, Inc. as Rights Agent, filed as Exhibit 1 to the Company's Form 8-A/A (12G) filed January 20, 1999.

74

4.2(b)	First Amendment to Amended and Restated Rights Agreement, dated July 31, 2000 between Cephalon, Inc. and StockTrans, Inc. as Rights Agent, filed as Exhibit 1 to the Company's Form 8-A/12G filed on August 2, 2000.
4.3(a)	Specimen Preferred Stock Certificate of Cephalon, Inc., filed as Exhibit 4.1 to the Company's Registration Statement on Form S-3 (Registration No. 333-88985) filed October 14, 1999.
4.3(b)	Certificate of the Powers, Designations, Preferences and Rights of the $3.625 Convertible Exchangeable Preferred Stock filed August 17, 1999, filed as Exhibit 4.2 to the Company's Registration Statement on Form S-3 (Registration No. 333-88985) filed October 14, 1999.
4.3(c)	Indenture, dated as of August 18, 1999 between Cephalon, Inc. and State Street Bank and Trust Company, as Trustee, filed as Exhibit 4.3 to the Company's Registration Statement on Form S-3 (Registration No. 333-88985) filed October 14, 1999.
4.3(d)	Form of Series A Warrant to purchasers of Units including a limited partnership interest in Cephalon Clinical Partners, L.P., filed as Exhibit 10.4 to the Company's Registration Statement on Form S-3 (Registration No. 333-56816) filed on January 7, 1993.
4.3(e)	Form of Series B Warrant to purchasers of Units including a limited partnership interest in Cephalon Clinical Partners, L.P., filed as Exhibit 10.5 to the Company's Registration Statement on Form S-3 (Registration No. 333-56816) filed on January 7, 1993.
4.3(f)	Incentive Warrant to purchase 115,050 shares of Common Stock of Cephalon, Inc. issues to PaineWebber Incorporated, filed as Exhibit 10.6 to the Company's Registration Statement on Form S-3 (Registration No. 333-56816) filed on January 7, 1993.
4.3(g)	Fund Warrant to purchase 19,950 shares of Common Stock of Cephalon, Inc. issued to PaineWebber R&D Partners III, L.P., filed as Exhibit 10.7 to the Company's Registration Statement on Form S-3 (Registration No. 333-56816) filed on January 7, 1993.
4.4(a)	Indenture, dated as of May 7, 2001 between Cephalon, Inc. and State Street Bank and Trust Company, as Trustee, filed as Exhibit 4.1 to the Company's Registration Statement on Form S-3 (Registration No. 333-62234) filed June 4, 2001.
4.4(b)	Registration Rights Agreement, dated May 7, 2001 between Cephalon, Inc. and Robertson Stephens, Inc., Adams, Harkness & Hill, Inc., Banc of America Securities LLC, CIBC World Markets Corp., SG Cowen Securities Corporation, UBS Warburg LLC, and U.S. Bancorp Piper Jaffray Inc., as Purchasers, filed as Exhibit 4.2 to the Company's Registration Statement on Form S-3 (Registration No. 333-62234) filed June 4, 2001.
4.5(a)	Indenture, dated as of December 11, 2001 between Cephalon, Inc. and State Street Bank and Trust Company, as Trustee, filed as Exhibit 4.1 to the Company's Registration Statement on Form S-3 (Registration No. 333-82788) filed on February 14, 2002.
4.5(b)	Registration Rights Agreement, dated as of December 11, 2001 between Cephalon, Inc. and Credit Suisse First Boston Corporation, Robertson Stephens, Inc., CIBC World Markets Corp., SG Cowen Securities Corporation, UBS Warburg LLC, U.S. Bancorp Piper Jaffray Inc., Adams Harkness & Hill, Inc. and Banc of America Securities, as the Initial Purchasers, filed as Exhibit 4.2 to the Company Registration Statement on Form S-3 (Registration No. 333-82788) filed on February 14, 2002.
4.6(a)	Form of 37/8% Convertible Promissory Note Due March 29, 2007, filed as Exhibit 4.1 to the Company's Quarterly Report on Form 10-Q for the period ended March 31, 2002.
4.6(b)	Registration Rights Agreement between Cephalon, Inc. and Anthem Investors, LLC dated March 29, 2002, filed as Exhibit 4.2 to the Company's Quarterly Report on Form 10-Q for the period ended March 31, 2002.
10.1	Letter agreement, dated March 22, 1995 between Cephalon, Inc. and the Salk Institute for Biotechnology Industrial Associates, Inc., filed as Exhibit 99.1 to the Company's Registration Statement on Amendment No. 1 to Form S-3 (Registration No. 33-93964) filed on June 30, 1995.
†10.2(a)	Executive Severance Agreement between Frank Baldino, Jr. and Cephalon, Inc. dated July 25, 2002, filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the period ending June 30, 2002.
†10.2(b)	Form of Executive Severance Agreement between Certain Executives and Cephalon, Inc. dated July 25, 2002, filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the period ending June 30, 2002.
†10.3(a)	Consulting Agreement dated October 1, 2001 between Cephalon, Inc. and Martyn D. Greenacre, filed as Exhibit 10.18 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2001.

75

†10.3(b)	Amendment to Consulting Agreement between Cephalon, Inc. and Martyn D. Greenacre dated April 1, 2002, filed as Exhibit 10.18(b) to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2002.
*†10.3(c)	Second Amendment to Consulting Agreement between Cephalon, Inc. and Martyn D. Greenacre dated December 10, 2002.
10.4(a)	License Agreement, dated May 15, 1992 between Cephalon, Inc. and Kyowa Hakko Kogyo Co., Ltd., filed as Exhibit 10.6 to the Transition Report on Form 10-K for transition period January 1, 1991 to December 31, 1991, as amended by Amendment No. 1 filed on September 4, 1992 on Form 8.
10.4(b)	Letter agreement, dated March 6, 1995 amending the License Agreement between Cephalon, Inc. and Kyowa Hakko Kogyo Co., Ltd., filed as Exhibit 10.4(b) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1994.
10.4(c)	Letter agreement, dated May 11, 1999 amending the License Agreement between Cephalon, Inc. and Kyowa Hakko Kogyo Co., Ltd., filed as Exhibit 10.4(c) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1999. (1)
†10.5(a)	Cephalon, Inc. Amended and Restated 1987 Stock Option Plan, filed as Exhibit 10.7 to the Transition Report on Form 10-K for transition period January 1, 1991 to December 31, 1991, as amended by Amendment No. 1 filed on September 4, 1992.
†10.5(b)	Cephalon, Inc. Equity Compensation Plan, as amended and restated, effective as of February 1, 2002, filed as Exhibit 99.1 to the Company's Registration Statement on Form S-8 (Registration No. 333-89230) filed on May 28, 2002.
†10.5(c)	Cephalon, Inc. Non-Qualified Deferred Compensation Plan, filed as Exhibit 10.6(b) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1993.
†10.5(d)	Cephalon, Inc. 2000 Equity Compensation Plan for Employees and Key Advisors, as amended and restated, effective as of May 15, 2002, filed as Exhibit 99.1 to the Company's Registration Statement on Form S-8 (Registration No. 333-89228) filed on May 28, 2002.
10.6(a)	Amended and Restated Agreement of Limited Partnership, dated as of June 22, 1992 by and among Cephalon Development Corporation, as general partner, and each of the limited partners of Cephalon Clinical Partners, L.P., filed as Exhibit 10.1 to the Company's Registration Statement on Form S-3 (Registration No. 33-56816) on January 7, 1993.
10.6(b)	Amended and Restated Product Development Agreement, dated as of August 11, 1992 between Cephalon, Inc. and Cephalon Clinical Partners, L.P., filed as Exhibit 10.2 to the Company's Registration Statement on Form S-3 (Registration No. 33-56816) filed on January 7, 1993.
10.6(c)	Purchase Agreement, dated as of August 11, 1992 by and between Cephalon, Inc. and each of the limited partners of Cephalon Clinical Partners, L.P., filed as Exhibit 10.3 to the Company's Registration Statement on Form S-3 (Registration No. 33-56816) filed on January 7, 1993.
10.6(d)	Pledge Agreement, dated as of August 11, 1992 by and between Cephalon, Inc. and Cephalon Clinical Partners, L.P., filed as Exhibit 10.8 to the Company's Registration Statement on Form S-3 (Registration No. 33-56816) filed on January 7, 1993.
10.6(e)	Promissory Note, dated as of August 11, 1992 issued by Cephalon Clinical Partners, L.P. to Cephalon, Inc., filed as Exhibit 10.9 to the Company's Registration Statement on Form S-3 (Registration No. 33-56816) filed on January 7, 1993.
10.6(f)	Form of Promissory Note, issued by each of the limited partners of Cephalon Clinical partners, L.P. to Cephalon Clinical Partners, L.P., filed as Exhibit 10.10 to the Company's Registration Statement on Form S-3 (Registration No. 33-56816) filed on January 7, 1993.
10.7	Supply, Distribution and License Agreement, dated as of July 27, 1993 between Kyowa Hakko Kogyo Co., Ltd. and Cephalon, Inc., filed as Exhibit 10.3 to the Company's Registration Statement on Form S-3 (Registration No. 33-73896) filed on January 10, 1994. (1)
10.8	Toll Manufacturing and Packaging Agreement, dated February 24, 1998 between Cephalon, Inc. and Circa Pharmaceuticals, Inc. (now Watson Pharmaceuticals), filed as Exhibit 10.12 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998. (1)

76

10.9(a)	GABITRIL Product Agreement, dated October 31, 2000 between Cephalon, Inc. and Abbott Laboratories, filed as Exhibit 10.13(b) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. (1)
10.9(b)	Toll Manufacturing and Packaging Agreement, dated October 31, 2000 between Cephalon, Inc. and Abbott Laboratories, filed as Exhibit 10.13(c) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. (1)
10.10	Joint Research, Development and License Agreement, dated May 28, 1999 between Cephalon, Inc. and H. Lundbeck A/S, filed as Exhibit 10.14 to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 1999. (1)
10.11(a)	Managed Services Agreement, dated November 27, 2000 between Cephalon (UK) Limited and Novartis Pharmaceuticals UK Limited, filed as Exhibit 10.17(a) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. (1)
10.11(b)	License Agreement, dated November 27, 2000 between Cephalon, Inc. and Novartis AG, filed as Exhibit 10.17(b) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. (1)
10.11(c)	Collaboration Agreement, dated November 27, 2000 between Cephalon, Inc. and Novartis AG, filed as Exhibit 10.17(c) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. (1)
10.11(d)	Distribution Agreement, dated November 27, 2000 between Cephalon, Inc. and Novartis AG, filed as Exhibit 10.17(d) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. (1)
10.12(a)	Agreement and Plan of Merger, dated July 14, 2000 by and among Cephalon, Inc., Anesta Corp. and C Merger Sub, Inc., filed as Exhibit 99.1 to the Company's Current Report on Form 8-K filed July 21, 2000.
10.12(b)	Distribution, License and Supply Agreement, dated December 7, 1999, between Anesta Corp. and Elan Pharma International Limited, filed as Exhibit 10.18 to Anesta Corp.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1999. (1)
10.12(c)	Intellectual Property Sale, Amendment and Termination Agreement dated October 2, 2002, amending the Distribution, License and Supply Agreement, dated as of December 7, 1999, and as amended from time to time thereafter, by and between Anesta Corp. and Elan Pharma International Limited, filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the period ending September 30, 2002.
10.12(d)	Termination and Asset Sale and Purchase Agreement, dated March 13, 2000 between Abbott Laboratories, Inc. and Anesta Corp., filed as Exhibit 10.19 to Anesta Corp.'s Quarterly Report on Form 10-Q for the period ending March 31, 2000. (1)
10.12(e)	Technology License Agreement, dated September 16, 1985, as amended through December 3, 1993 between Anesta Corp. and the University of Utah Research Foundation, filed as Exhibit 10.6 to Anesta Corp.'s Registration Statement on Form S-1 (File No. 33-72608) filed May 31, 1996. (1)
10.12(f)	Wiley Post Plaza Lease, dated December 7, 1994 between Anesta Corp. and Asset Management Services, filed as Exhibit 10.13 to Anesta Corp.'s Annual Report on Form 10-K (File No. 0-23160) for the fiscal year ended December 31, 1994.
10.13(a)	Toll Manufacturing and Packaging Agreement, dated August 24, 1999 between Cephalon, Inc. and Catalytica Pharmaceuticals, Inc. (now DSM Pharmaceuticals, Inc.), filed as Exhibit 10.16(a) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2001. (1)
10.13(b)	Amendment No. 1 to the Toll Manufacturing and Packaging Agreement, dated July 3, 2001 between Cephalon, Inc. and Catalytica Pharmaceuticals, Inc. (now DSM Pharmaceuticals, Inc.), filed as Exhibit 10.16(b) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2001. (1)
10.13(c)	Amendment No. 2 to Toll Manufacturing and Packaging Agreement, dated October 9, 2001 between Cephalon, Inc. and Catalytica Pharmaceuticals, Inc. (now DSM Pharmaceuticals, Inc.), filed as Exhibit 10.16(c) to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2001. (1)
*10.13(d)	Amendment No. 3 to Toll Manufacturing and Packaging Agreement, dated June 21, 2002 between Cephalon, Inc. and DSM Pharmaceuticals, Inc. (2)
*10.14(a)	5% Secured Convertible Note due January 7, 2010 by MDS Proteomics Inc. in favor of Cephalon, Inc.
*10.14(b)	Security Agreement dated January 7, 2003 between MDS Proteomics Inc. and Cephalon, Inc.

77

*21	List of Subsidiaries
*23.1	Consent of Pricewaterhouse Coopers LLP
*23.2	Information Regarding Arthur Andersen Consent.
*99.1	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
*99.2	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

*

Filed herewith.

† Compensation plans and arrangements for executives and others.

(1)

Portions of the Exhibit have been omitted and have been filed separately pursuant to an application for confidential treatment granted by the Securities and Exchange Commission.

(2)

Portions of the Exhibit have been omitted and have been filed separately pursuant to an application for confidential treatment filed with the Securities and Exchange Commission pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.

78

CEPHALON, INC. AND SUBSIDIARIES

SCHEDULE II—VALUATION AND QUALIFYING ACCOUNTS

(In thousands)

Year Ended December 31,		Balance at Beginning of the Year		Additions (Deductions)(1)			Additions(2)		Other Deductions		Balance at End of the Year
Reserve for sales discounts, returns and allowances:
	2002	$	2,331	$	12,243		$	—	$	9,473	$	5,101
	2001	$	1,136	$	6,663		$	160	$	5,628	$	2,331
	2000	$	5,843	$	(2,491	)	$	—	$	2,216	$	1,136
Reserve for inventories:
	2002	$	1,188	$	2,609		$	—	$	—	$	3,797
	2001	$	—	$	3		$	1,185	$	—	$	1,188
	2000	$	—	$	—		$	—	$	—	$	—

(1)

Amounts represent charges and reductions to expenses and revenue.

(2)

Amounts represent additions from the acquisition of Group Lafon.

79

SIGNATURES

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.

Date: March 31, 2003

CEPHALON, INC.
By:	/s/  FRANK BALDINO, JR.Frank Baldino, Jr., Ph.D. Chairman and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.

Signature	Title	Date
/s/  FRANK BALDINO, JR.Frank Baldino, Jr., Ph.D.	Chairman and Chief Executive Officer (Principal executive officer)	March 31, 2003
/s/  J. KEVIN BUCHIJ. Kevin Buchi	Sr. Vice President and Chief Financial Officer (Principal financial and accounting officer)	March 31, 2003
/s/  WILLIAM P. EGANWilliam P. Egan	Director	March 31, 2003
/s/  ROBERT J. FEENEYRobert J. Feeney, Ph.D.	Director	March 31, 2003
Martyn D. Greenacre	Director
/s/  CHARLES A. SANDERSCharles A. Sanders, M.D.	Director	March 31, 2003
Gail R. Wilensky, Ph.D.	Director
/s/  HORST WITZELHorst Witzel, Dr.-Ing.	Director	March 31, 2003

80

CERTIFICATIONS

I, Frank Baldino, Jr., certify that:

1.

I have reviewed this annual report on Form 10-K of Cephalon, 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 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 persons performing the equivalent functions):

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 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.

Date: March 31, 2003

/s/ Frank Baldino, Jr.

Frank Baldino, Jr., Ph.D.
Chairman and Chief Executive Officer

81

I, J. Kevin Buchi, certify that:

1.

I have reviewed this annual report on Form 10-K of Cephalon, 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 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 persons performing the equivalent functions):

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 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.

Date: March 31, 2003

/s/ J. Kevin Buchi

J. Kevin Buchi
Senior Vice President and Chief Financial Officer

82

QuickLinks

TABLE OF CONTENTS
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
PART I
PART II
REPORT OF INDEPENDENT ACCOUNTANTS
CEPHALON, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
CEPHALON, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)
CEPHALON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share data)
CEPHALON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (In thousands, except share data)
CEPHALON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (In thousands, except share data)
CEPHALON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (In thousands, except share data)
CEPHALON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (In thousands, except share data)
PART III
PART IV
CEPHALON, INC. AND SUBSIDIARIES SCHEDULE II—VALUATION AND QUALIFYING ACCOUNTS (In thousands)
SIGNATURES
CERTIFICATIONS

EX-10.3(C)

Exhibit 10.3(c)

Second Amendment to Consulting Agreement

        This Second Amendment to Consulting Agreement (the "Second Amendment") is entered into as of December 10, 2002, by and between Cephalon, Inc., a Delaware corporation ("Cephalon") and Martyn D. Greenacre ("Consultant").

        WHEREAS, Cephalon and Consultant have previously entered into a Consulting Agreement (the "Consulting Agreement") dated as of October 1, 2001;

        WHEREAS, Cephalon and Consultant have previously amended the Consulting Agreement dated as of April 1, 2002 (the "Amendment") to extend the term through December 31, 2002;

        WHEREAS, it is deemed to be in the best interests of both parties that the Consulting Agreement continue beyond the December 31, 2002 expiration date.

        NOW, THEREFORE, in consideration of the mutual promises set forth herein, and intending to be bound legally hereby, Cephalon and Consultant hereby agree as follows:

1.    Amendments.    The Consulting Agreement is hereby amended as follows, effective as of the date set forth above:

1.1.    Section 2.    Section 2 is replaced in its entirety with the following language: "The term of this Agreement shall continue in effect until either party gives the other 30 days' prior written notice of termination pursuant to paragraph 6 below."

2.    Other Matters.

2.1    Except as amended hereby, the Consulting Agreement shall remain in full force and effect.

2.2    This Second Amendment shall be binding on the parties and their respective successors and assigns.

2.3    This Second Amendment shall be governed and interpreted in accordance with the laws of the State of Delaware, without giving effect to any conflict of laws provisions.

        IN WITNESS WHEREOF, the undersigned have executed this Second Amendment as of the date first written above.

CEPHALON, INC.
By:
	/s/  FRANK BALDINO, JR. Name:  Frank Baldino, Jr., Ph.D. Title:    Chairman and Chief Executive officer
MARTYN D. GREENACRE
/s/  MARTYN D. GREENACRE

2

EX-10.13(D)

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 10.13(d)

June 21, 2002

Ms. Trudy Briley
DSM Pharmaceuticals, Inc.
P.O. Box 1887
Greenville, NC 27835-1887

        Re:    Amendment No. 3 to Toll Manufacturing and Packaging Agreement

Dear Ms. Briley:

        This letter is to confirm our understanding concerning an amendment to be made with respect to the Toll Manufacturing and Packaging Agreement dated as of August 24, 1999, as amended by Amendment No.1 dated July 3, 2001, and as further amended by Amendment No. 2 dated October 9, 2001 (the "Agreement"), between Cephalon, Inc. ("Cephalon") and DSM Pharmaceuticals, Inc. ("DSM"). All terms not otherwise defined herein are used as defined in the Agreement.

        The purpose of this Amendment is to increase the minimum annual quantities of Product to be purchased by Cephalon and to increase the manufacturing capacity reserved by Catalytica for the remainder of the Initial Term of the Agreement. The Agreement is hereby amended as follows:

1.

Existing Schedule F of the Agreement relating to Minimum Quantities shall be deleted in its entirety and replaced with the attached revised Schedule F.



2.

Except as amended hereby, the Agreement remains in full force and effect.

        If the foregoing accurately reflects your understanding as to these matters, please indicate your agreement in the space provided below, and return one fully-executed original to me.

Very truly yours,

/s/  ROBERT URBAN Robert Urban
Vice President, Technical Operations

Acknowledged and agreed to by:
DSM PHARMACEUTICALS, INC.
By:	/s/  WES WHEELER Name: Wes Wheeler Title: President & CEO

**

Certain portions of this document have been omitted based upon a request for Confidential Treatment that has been filed with the Commission. The omitted portions have been filed separately with the Commission.

Schedule F

Minimum Quantities

The minimum annual quantities to be purchased by CEPHALON and capacity to be reserved by DSM, are as follows for the remainder of the Initial Term of this Agreement:

Year	Quantity
2003	[**]
2004 (until 8/24/04)	[**]

Pursuant to Section 3.1, if the actual annual quantity exceeds the minimum annual quantity in any year by [**] percent [**] or less, this excess will reduce the minimum annual quantity in the following year

**

Certain portions of this document have been omitted based upon a request for Confidential Treatment that has been filed with the Commission. The omitted portions have been filed separately with the Commission.

A-2

QuickLinks

Schedule F Minimum Quantities

EX-10.14(A)

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 10.14(a)

THIS NOTE AND THE SECURITIES REPRESENTED BY THIS NOTE HAVE BEEN ACQUIRED FOR INVESTMENT PURPOSES ONLY AND HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "ACT"), OR UNDER ANY APPLICABLE STATE SECURITIES LAWS. NEITHER THIS NOTE, NOR ANY PORTION THEREOF, NOR ANY INTEREST THEREIN, NOR THE SECURITIES UNDERLYING THIS NOTE, MAY BE OFFERED OR SOLD EXCEPT PURSUANT TO (I) AN EFFECTIVE REGISTRATION STATEMENT UNDER THE ACT AND APPLICABLE STATE SECURITIES LAWS, OR (II) AN AVAILABLE EXEMPTION FROM REGISTRATION UNDER THE ACT AND SUCH STATE LAWS.

UNLESS PERMITTED UNDER THE SECURITIES LAWS, THE HOLDER OF THE SECURITIES SHALL NOT TRADE THE SECURITIES REPRESENTED HEREBY OR ISSUABLE UPON CONVERSION THEREOF BEFORE THE EARLIER OF (I) THE DATE THAT IS 12 MONTHS AND A DAY AFTER THE DATE THE ISSUER FIRST BECAME A REPORTING ISSUER IN ANY OF ALBERTA, BRITISH COLUMBIA, MANITOBA, NOVA SCOTIA, ONTARIO, QUEBEC AND SASKATCHEWAN, IF THE ISSUER IS A SEDAR FILER; AND (II) THE DATE THAT IS 12 MONTHS AND A DAY AFTER THE LATER OF (A) THE DISTRIBUTION DATE, AND (B) THE DATE THE ISSUER BECAME A REPORTING ISSUER IN THE LOCAL JURISDICTION OF THE PURCHASER OF THE SECURITIES THAT ARE THE SUBJECT OF THE TRADE.

5% SECURED CONVERTIBLE NOTE DUE JANUARY 7, 2010

US$30,000,000 Date of Issuance: January 7, 2003

        FOR VALUE RECEIVED, MDS Proteomics Inc., a company governed by the laws of Canada (the "Company"), hereby promises to pay to the order of Cephalon, Inc., a Delaware corporation, or its successors or assigns ("Cephalon"), the principal amount of Thirty Million United States Dollars (US$30,000,000) on January 7, 2010 (the "Maturity Date"), together with interest as set forth below, unless this Note is converted or otherwise becomes due on an earlier date in accordance with the terms hereof. Interest shall accrue during the term of this Note and be payable annually on the anniversary of the date of issuance (and on the date of conversion, if converted) (an "Interest Payment Date") at the rate of five percent (5%) per annum (computed on the basis of a 365-day year and the actual number of days elapsed) ("Interest Rate"). The Company acknowledges that the rate of interest applicable to the Principal Amount (as herein defined) is computed on the basis of a year of 365 days and paid for the actual number of days elapsed. For purposes of the Interest Act (Canada), such rate, expressed as an annual rate, is calculated as (i) five percent, (ii) multiplied by the actual number of days in the calendar year in which the period for such interest is payable (or compounded) ends, and (iii) divided by 365.

        The recording by Cephalon in its accounts of the Principal Amount, Deferred Interest (as defined), accrued interest and repayments shall, in the absence of manifest mathematical error, be prima facia evidence of the same; provided that the failure of Cephalon to record the same shall not affect the obligations of the Company to pay such amounts to Cephalon. Except as otherwise provided herein, the principal and interest of this Note shall be payable by wire transfer of immediately available funds or by certified check payable to Cephalon at the address of Cephalon as set forth herein or such other address as shall be designated in writing by Cephalon to the Company; provided, however, that notwithstanding the foregoing the Company, at its option and in its sole discretion, by written notice to Cephalon, no later than two business days prior to the date such interest is due, may defer the payment of interest then due on any Interest Payment Date ("Deferred Interest") by electing to deliver additional shares (the "Interest Common Stock") of the Company's Class A Common Shares, (the "Common Stock"), to Cephalon on the date of conversion of this Note (the "Conversion Date") in accordance with Section 4 hereof, which number of Interest Common Stock shares shall be calculated by dividing the aggregate value of any Deferred Interest as of the Conversion Date by the Conversion Price in effect on the Conversion Date. In the event the Note is not converted on or prior to the Maturity Date, or such earlier date as the Principal Amount and all other obligations hereunder become due and payable, any Deferred Interest shall be due and payable to Cephalon on the Maturity Date or such

earlier date in accordance with the terms hereof and shall be payable by wire transfer of immediately available funds or by certified check.

        Section 1.    Prepayment.

        (a)    If the Company desires to prepay any amount due hereunder (the "Prepayment Amount") prior to the Maturity Date, then the Company shall provide Cephalon with written notice thereof (the "Prepayment Notice"). For a period of ten (10) days following receipt of the Prepayment Notice, Cephalon shall have the option of converting such Prepayment Amount pursuant to Section 4 hereof. If Cephalon does not elect to convert such Prepayment Amount within the timeframe provided, then the Company shall be permitted to pay the Prepayment Amount, provided that the Company also pays to Cephalon at such time an amount equal to five percent (5%) of such Prepayment Amount. The Prepayment Amount, excluding such five percent payment amount, shall be applied first to costs and expenses due hereunder, then to accrued but unpaid interest, and thereafter to the Principal Amount hereof. The original Principal Amount as reduced from time to time for all Prepayment Amounts, if any, shall be referred to in this Note as the "Principal Amount."

        (b)    If any Change of Control Event (as defined below) occurs within six (6) months following payment of a Prepayment Amount, which, if Cephalon had converted the Prepayment Amount and participated in the Change of Control Event as a shareholder, would have resulted in a larger payment to Cephalon in respect of the Common Stock received on the conversion of the Prepayment Amount as compared to the Prepayment Amount, then the Company shall pay Cephalon on the date the Change of Control Event is consummated, an additional make-whole amount equal to (i) the amount Cephalon would have been entitled to receive had Cephalon converted the Prepayment Amount in accordance with Section 4 hereof as of the date such Change of Control Event was consummated and had Cephalon been required to fully participate in the Change of Control Event, less (ii) the Prepayment Amount. The term "Change of Control Event" as used herein, shall mean (x) the liquidation, dissolution or winding up of the Company, (y) a sale, lease or transfer of all or substantially all of the assets of the Company, or (z) any consolidation, merger, amalgamation, plan of arrangement or share exchange of the Company in which the holders of the Company's voting capital stock outstanding immediately prior to such consolidation, merger, amalgamation, plan of arrangement or share exchange do not, in the aggregate, hold a majority of the voting capital stock of the surviving or resulting entity outstanding immediately following such consolidation, merger, amalgamation, plan of arrangement or share exchange.

        Section 2.    Secured Note; Ranking.    This Note is the Note referred to in and is executed and delivered in connection with that certain Security Agreement, dated the date hereof, between the Company and Cephalon (as the same may from time to time be amended, supplemented, modified or supplemented or restated, the "Security Agreement"). The full amount of this Note (including, without limitation, all principal, interest and expenses) is secured by the collateral identified and described in the Security Agreement and is guaranteed by certain wholly-owned subsidiaries of the Company (the "Subsidiaries"), pursuant to an Unconditional Guaranty, dated the date hereof (as the same may from time to time be amended, supplemented, modified or supplemented or restated, the "Guaranty"), which Guaranty is secured pursuant to those certain Guarantor Pledge and Security Agreements, dated the date hereof, between Cephalon and certain of the Subsidiaries (as the same may from time to time be amended, supplemented, modified or supplemented or restated, the "Guarantor Security Agreements," together with the Guaranty and the Security Agreement, the "Security Documents"). Additional rights of Cephalon are set forth in the Security Documents.

        Section 3.    Change of Control Event.    Without limiting Cephalon's rights under Section 5(a)(xv):

        (a)    The Company shall deliver to Cephalon, at least fifteen (15) days prior to the consummation of a Change of Control Event, a notice setting forth the date on which such Change of Control Event

2

is expected to become effective and the type and amount of anticipated proceeds per share of capital stock of the Company to be distributed with respect thereto.

        (b)    In the event of an impending Change of Control Event, Cephalon shall have the right to convert the Principal Amount, plus all accrued but unpaid interest thereon (subject to the provisions of Section 4) at any time prior to the consummation of any Change of Control Event.

        Section 4.    Conversion.    Cephalon and the Company shall have conversion rights as follows (the "Conversion Rights"):

        (a)    Optional Conversion.    The Principal Amount (plus all accrued and unpaid interest thereon including, as applicable, all Deferred Interest) shall be convertible, in whole or in part, at the option of Cephalon, at any time after the Date of Issuance but prior to 5:00 p.m. EST on the Maturity Date, at the office of the Company, into such number of fully paid and non-assessable shares of Common Stock as is determined by dividing the sum of the Principal Amount being converted (plus all accrued and unpaid interest thereon including, as applicable, all Deferred Interest), by the Conversion Price (as defined herein) then in effect. Such conversion, to the extent permitted by law, shall be deemed to have been effected as of the close of business on the later of the date on which such Note shall have been surrendered or the Conversion Notice shall have been received. At the effective time of conversion, Cephalon's rights as a holder of the Note to the extent converted shall cease and Cephalon shall be deemed to have become holder of the Converted Shares. The "Conversion Price" shall initially be US$22.00 per share of Common Stock; provided, however, that such Conversion Price shall be subject to adjustment as provided in Section 4(d) herein.

        (b)    Conversion by Company or Cephalon.    At the option of the Company or Cephalon, the Principal Amount (plus all accrued and unpaid interest thereon including, as applicable, all Deferred Interest) shall be convertible into shares of Common Stock at the Conversion Price then in effect upon the earlier of (i) the closing of the Company's sale of its Common Stock in a firm commitment, underwritten public offering registered under the Securities Act of 1933, as amended, or qualified for distribution under Canadian Securities Laws (as herein defined) with aggregate proceeds (before deducting underwriting discounts, expenses and commissions) of at least US$50,000,000 (a "Qualified Public Offering") or (ii) the date of the consent of two-thirds of the holders of such Principal Amount to such conversion. At the effective time of conversion, Cephalon's rights as a holder of the Note to the extent converted shall cease and Cephalon shall be deemed to have become holder of the Converted Shares. "Canadian Securities Laws" shall mean all applicable Canadian securities laws, the respective regulations, rules, instruments and orders made thereunder, and all applicable policies and notices issued by the securities regulatory authorities in each of the Provinces and Territories in Canada.

        (c)    Mechanics of Conversion.    Each conversion of Principal Amount into Common Stock of the Company, including conversion by Cephalon pursuant to Section 4(b) hereof, shall be effected by the surrender of the original Note at the principal office of the Company (or such other office or agency of the Company as the Company may designate by notice in writing to Cephalon) at any time during its usual business hours, by delivery of a letter by Cephalon substantially in the form set forth on Schedule A hereto and as provided by Section 4(m) hereof, and, if the conversion is pursuant to Section 4(a) hereof, by delivery of written notice (a "Conversion Notice") by Cephalon (i) stating that Cephalon desires to convert all or a portion of the Principal Amount (plus any accrued and unpaid interest applicable thereto including, as applicable, any Deferred Interest applicable thereto) evidenced by the Note into shares of Common Stock of the Company (the "Converted Shares"), and (ii) giving the name(s) (with addresses) and denominations in which the certificate(s) evidencing the Converted Shares shall be issued, and instructions for the delivery thereof. Upon receipt of the Conversion Notice (as applicable), together with the original Note, the Company shall be obligated to, and shall, issue and deliver in accordance with such instructions the certificate(s) evidencing the Converted Shares issuable

3

upon such conversion. If a portion of the Principal Amount is not converted, each Conversion Notice shall form part of the records of Cephalon as to the Principal Amount outstanding from time to time. If at the time of any transfer, assignment or conversion of the Note, there remain trading restrictions on the Note or any Converted Shares under any applicable laws, the Company may, upon the advice of counsel, endorse any certificates representing the Note or such Converted Shares to such effect.

        (d)    Adjustments to Conversion Price for Certain Diluting Issues.

        (i)    Special Definitions.    For purposes of this Section 4(d), the following definitions shall apply:

        (1)    "Options" shall mean rights, options, subscriptions, calls, puts, commitments, agreements or warrants (including special warrants) to subscribe for, purchase or otherwise acquire shares of Common Stock.

        (2)    "Convertible Securities" shall mean any Options, evidence of indebtedness, shares (other than shares of Common Stock) or other securities convertible into or exchangeable for shares of Common Stock.

        (3)    "Additional Common Stock" shall mean all shares of Common Stock issued (or, pursuant to Section 4(d)(iii), deemed to be issued) by the Company, other than:

        (A)    Common Stock or Options issued after the Date of Issuance to officers, employees, consultants, advisors or directors of the Company (and any Common Stock issued upon exercise of any such Options), pursuant to any stock option or stock purchase agreement, plan or other compensatory arrangement approved by the Board of Directors of the Company;

        (B)    Common Stock issued after the Date of Issuance as a stock dividend or distribution, or upon any subdivision or combination of shares of Common Stock; and

        (C)    Common Stock issued after the Date of Issuance upon conversion or exercise of any Convertible Securities of the Company outstanding on the date hereof.

        (ii)    No Adjustment of Conversion Price.    No adjustment in the applicable Conversion Price shall be made in respect of the issuance of Additional Common Stock unless the consideration per share (determined pursuant to Section 4(d)(v)) for an Additional Common Share issued or deemed to be issued by the Company is less than the Conversion Price in effect on the date of, and immediately prior to, such issue.

        (iii)    Deemed Issue of Additional Common Stock.    In the event the Company at any time or from time to time after the Date of Issuance shall issue any Convertible Securities or shall fix a record date for the determination of holders of any class of securities then entitled to receive any such Convertible Securities, then the maximum number of shares of Common Stock (as set forth in the instrument relating thereto without regard to any provisions contained therein designed to protect against dilution) issuable upon the exercise of such Options or, in the case of Convertible Securities and Options therefor, the conversion or exchange of such Convertible Securities, shall be deemed to be Additional Common Stock, subject to the limitations of Section 4(d)(i)(3)(A) though (F), issued as of the time of such issue or, in case such a record date shall have been fixed, as of the close of business on such record date, provided that Additional Common Stock shall not be deemed to have been issued unless the consideration per share (determined pursuant to Section 4(d)(v)) of such Additional Common Stock would be less than the Conversion Price in effect on the date of and immediately prior to such issue, or such record date, as the case may be,

4

and provided further that in any such case in which Additional Common Stock are deemed to be issued:

        (1)    no further adjustments in the Conversion Price shall be made upon the subsequent issue of Convertible Securities or shares of Common Stock upon the exercise of such Options or conversion or exchange of such Convertible Securities;

        (2)    if such Convertible Securities by their terms provide, with the passage of time or otherwise, for any increase or decrease in the consideration payable to the Company, or decrease or increase in the number of shares of Common Stock issuable, upon the exercise, conversion or exchange thereof, the Conversion Price computed upon the original issue thereof (or upon the occurrence of a record date with respect thereto), and any subsequent adjustments based thereon, shall, upon any such increase or decrease becoming effective, be recomputed to reflect such increase or decrease insofar as it affects such Options or the rights of conversion or exchange under such Convertible Securities;

        (3)    Upon the expiration of any Options or any rights of conversion or exchange under such Convertible Securities which shall not have been exercised, the Conversion Price computed upon the original issue thereof (or upon the occurrence of a record date with respect thereto), and any subsequent adjustments based thereon, shall, upon such expiration, be recomputed as if:

        (A)    in the case of Convertible Securities or Options for shares of Common Stock, the only Additional Common Stock issued were the shares of Common Stock, if any, actually issued upon the exercise of such Options or the conversion or exchange of such Convertible Securities and the consideration received therefor was the consideration actually received by the Company for the issue of all such Options, whether or not exercised, plus the consideration actually received by the Company upon such exercise, or for the issue of all such Convertible Securities which were actually converted or exchanged, plus the additional consideration, if any, actually received by the Company upon such conversion or exchange, and

        (B)    in the case of Options for Convertible Securities, only the Convertible Securities, if any, actually issued upon the exercise thereof were issued at the time of issue of such Options, and the consideration received by the Company for the Additional Common Stock deemed to have been then issued was the consideration actually received by the Company for the issue of all such Options, whether or not exercised, plus the consideration deemed to have been received by the Company (determined pursuant to Section 4(d)(v)(2)) upon the issue of the Convertible Securities with respect to which such Options were actually exercised;

        (4)    no readjustment pursuant to clause (2) or (3) above shall have the effect of increasing the applicable Conversion Price to an amount which exceeds the lower of (a) such Conversion Price on the original adjustment date, or (b) such Conversion Price that would have resulted from any issuance of Additional Common Stock between the original adjustment date and such readjustment date; and

        (5)    in the case of any Options which expire by their terms not more than 90 days after the date of issue thereof, no adjustment of a Conversion Price shall be made until the expiration or exercise of all such Options, whereupon such adjustment shall be made in the same manner provided in clause (3) above.

        (iv)    Adjustment of Conversion Price Upon Issuance of Additional Common Stock.    In the event the Company at any time after the Date of Issuance shall issue Additional Common Stock (including Additional Common Stock deemed to be issued pursuant to Section 4(d)(iii)) without

5

consideration or for a consideration per share less than US$22.00, then and in such event the Conversion Price shall be reduced, concurrently with such issue, to equal the price per share paid for such Additional Common Stock.

        (v)    Determination of Consideration.    For purposes of this Section 4(d), the consideration received by the Company for the issue of any Additional Common Stock shall be computed as follows:

        (1)    Cash and Property.    Such consideration shall:

        (A)    insofar as it consists of cash, be computed at the aggregate amount of cash received by the Company excluding amounts paid or payable for accrued interest or accrued dividends;

        (B)    insofar as it consists of property other than cash, including securities other than the Common Stock, be computed at the fair market value thereof at the time of such issue, as determined in good faith by the Board of Directors; and

        (C)    in the event Additional Common Stock is issued together with other shares or securities or other assets of the Company for consideration which covers both, be the proportion of such consideration so received, computed as provided in clauses (A) and (B) above, as determined in good faith by the Board of Directors.

        (2)    Convertible Securities.    The consideration per share received by the Company for Additional Common Stock deemed to have been issued pursuant to Section 4(d)(iii), relating to Convertible Securities shall be determined by dividing:

        (A)    the total amount received or receivable by the Company as consideration for the issue of such Convertible Securities, plus the minimum aggregate amount of additional consideration (as set forth in the instruments relating thereto, without regard to any provision contained therein designed to protect against dilution) payable to the Company upon the exercise, conversion or exchange of such Convertible Securities, or in the case of Options for Convertible Securities, the exercise of such Options for Convertible Securities and the conversion or exchange of such Convertible Securities; by

        (B)    the maximum number of shares of Common Stock (as set forth in the instruments relating thereto, without regard to any provision contained therein designed to protect against dilution) issuable upon the exercise, conversion or exchange of such Convertible Securities.

        (e)    Conversion Price Adjustments for Subdivisions, Combinations or Consolidations of Common Stock.

        (i)    In the event the Company should at any time or from time to time after the date hereof fix a record date for the effectuation of a split or subdivision of the outstanding Common Stock or the determination of holders of Common Stock entitled to receive a dividend or other distribution payable in additional Common Stock or other securities or rights convertible into, or entitling the holder thereof to receive directly or indirectly, additional Common Stock ("Common Share Equivalents"), without payment of any consideration by such holder for the additional Common Stock or the Common Share Equivalents (including the additional Common Stock issuable upon conversion or exercise thereof), then, as of such record date (or the date of such dividend distribution, split or subdivision if no record date is fixed), the applicable Conversion Price shall be appropriately decreased so that the number of shares of Common Stock issuable on conversion shall be increased in proportion to such increase of outstanding Common Stock and shares issuable with respect to Common Share Equivalents.

6

        (ii)    If the number of shares of Common Stock outstanding at any time after the date hereof is decreased by a combination or consolidation of the outstanding Common Stock, then, following the record date of such combination or consolidation, the applicable Conversion Price shall be appropriately increased so that the number of shares of Common Stock issuable on conversion shall be decreased in proportion to such decrease of outstanding Common Stock.

        (f)    Recapitalization.    If at any time or from time to time there shall be a recapitalization of the shares of Common Stock (other than a subdivision, combination, consolidation or merger, amalgamation, plan of arrangement or sale of assets transaction provided for elsewhere in Section 2 or in this Section 4), provision shall be made so that Cephalon shall thereafter be entitled to receive upon conversion of all or a portion of the Principal Amount the number of shares of stock or other securities or property of the Company to which a holder of Common Stock deliverable upon conversion would have been entitled on such recapitalization. However, in no event may the Company undertake such recapitalization if to do so would entitle Cephalon to receive on the exercise of its right to convert the Note any property that is not a "prescribed security" as defined in Regulation 6208(1) of the Income Tax Act (Canada). In any such case, appropriate adjustment shall be made in the application of the provisions of this Section 4 with respect to the rights of Cephalon after the recapitalization to the end that the provisions of this Section 4 (including adjustment of the applicable Conversion Price then in effect and the number of shares issuable upon conversion of any Principal Amount) shall be applicable after that event as nearly equivalent as may be practicable.

        (g)    No Impairment.    The Company will not, by further amendment of its constating documents or through any reorganization, recapitalization, transfer of assets, consolidation, merger, amalgamation, plan of arrangement, dissolution, issue or sale of securities or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms to be observed or performed hereunder by the Company, but will at all times in good faith assist in the carrying out of all the provisions of this Section 4 and in the taking of all such actions as may be necessary or appropriate in order to protect the Conversion Rights of Cephalon against impairment.

        (h)    No Fractional Shares and Certificate as to Adjustments.

        (i)    No fractional shares shall be issued on a conversion. In lieu of any fractional shares, the Company shall pay to Cephalon a cash amount equal to such fraction multiplied by the fair market value of one share of Common Stock on the date of conversion, as determined by the Board of Directors of the Company.

        (ii)    Upon the occurrence of each adjustment or readjustment of the applicable Conversion Price pursuant to this Section 4, the Company, at its expense, shall promptly compute such adjustment or readjustment in accordance with the terms hereof and prepare and furnish to Cephalon a certificate setting forth such adjustment or readjustment and showing in detail the facts upon which such adjustment or readjustment is based. The Company shall at its expense, upon the reasonable written request of Cephalon at any time, furnish or cause to be furnished to such holder a like certificate setting forth (A) such historical adjustment(s) and readjustment(s), (B) the applicable Conversion Price at the time in effect, and (C) the number of shares of Common Stock and the amount, if any, of other property which at the time would be received upon the conversion of any Principal Amount.

        (i)    Notices of Record Date.    In the event that the Company shall propose at any time to: (1) declare any dividend or distribution upon any class or series of its capital stock, whether in cash, property, stock or other securities, (2) effect any reclassification or recapitalization of its Common Stock outstanding, or (3) merge, amalgamate or consolidate with or into any other corporation, or to

7

sell, lease or convey all or substantially all of its property or business, or to liquidate, dissolve or wind up; then, in connection with each such event, the Company shall deliver to Cephalon:

        (A)    at least twenty (20) days' prior written notice of the date on which a record shall be taken for such dividend or distribution (and specifying the date on which the holders of the affected class or series of capital stock shall be entitled thereto) or for determining the rights to vote, if any, in respect of the matters referred to in clauses (2) and (3) above; and

        (ii)    in the case of the matters referred to in clauses (2) and (3) above, written notice of such impending transaction not later than twenty (20) days prior to the shareholders' meeting called to approve such transaction, or twenty (20) days prior to the closing of such transaction, whichever is earlier, and shall also notify such holder in writing of the final approval of such transaction. The first of such notices shall describe the material terms and conditions of the impending transaction (and specify the date on which the holders of Common Stock shall be entitled to exchange their Common Stock for securities or other property deliverable upon the occurrence of such event) and the Company shall thereafter give such holders prompt notice of any material changes. The transaction shall in no event take place sooner than twenty (20) days after the Company has given the first notice provided for herein or sooner than ten (10) days after the Company has given notice of any material changes provided for herein.

        (j)    Reservation of Stock Issuable Upon Conversion.    The Company shall at all times reserve and keep available out of its authorized but unissued Common Stock solely for the purpose of effecting the conversion of the Principal Amount and any accrued but unpaid interest such number of its shares of Common Stock as shall from time to time be sufficient to effect the conversion of all of the Principal Amount; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect the conversion of all the Principal Amount, in addition to such other remedies as shall be available to Cephalon, the Company will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purposes.

        (k)    Notices.

        (i)    All notices and other communications hereunder shall be in writing and shall be deemed given if delivered personally or by commercial delivery service, or mailed by registered or certified mail (return receipt requested) or sent via facsimile (with confirmation of receipt) as follows:

if to the Company:

MDS Proteomics Inc.
251 Attwell Drive
Toronto, Ontario M9W 7H4
Telecopier: (416) 649-6359
Telephone: (416) 644-5100
Attention: Executive Vice President & Chief Financial Officer

with a copy to:

Telecopier: (416) 644-5111
Telephone: (416) 644-5130
Attention: Vice President, General Counsel & Secretary

if to Cephalon or any assignee:

Cephalon, Inc.
145 Brandywine Parkway
West Chester, PA 19380

8

Telecopier: (610) 738-6590
Telephone: (610) 344-0200 Attention: General Counsel

or to the most current address and fax number set forth on the register of holders of Notes

with a copy to:

Morgan, Lewis & Bockius LLP
1701 Market Street Philadelphia, PA 19103
Phone: (215) 963-5000
Fax: (215) 963-5299
Attn: Richard A. Silfen, Esq.


        (ii)    Notice given by facsimile shall be confirmed by appropriate answer back and shall be effective upon actual receipt if received during the recipient's normal business hours, or at the beginning of the recipient's next business day after receipt if not received during the recipient's normal business hours. All notices by facsimile shall be confirmed promptly after transmission in writing by certified mail, commercial delivery service or personal delivery. Any party may change any address to which notice is to be given to it by giving notice as provided above of such change of address.

        (l)    Restrictive Legends on Common Stock.    Upon the original issuance thereof, and until such time as the same is no longer required under applicable securities laws, certificates representing Common Stock issued upon the conversion of the Principal Amount and any accrued but unpaid interest, and all certificates issued in exchange therefor or in substitution thereof, shall bear the restrictive legend set forth at the top of the first page of this Note; provided, that such legend may be removed by delivery to the Company of an opinion of counsel, of recognized standing reasonably satisfactory to the Company, that such legend is no longer required under applicable securities laws.

        (m)    U.S. Securities Law Matters.    The Company shall not issue Common Stock to Cephalon upon the conversion of the Principal Amount, any accrued and unpaid interest and any Deferred Interest unless Cephalon shall have previously signed and delivered to the Company a letter substantially in the form attached hereto as Schedule A.

        (n)    Taxes and Costs.

        (i)    The issuance and delivery of certificates evidencing shares of Common Stock upon conversion of any Principal Amount, any accrued and unpaid interest thereon and any Deferred Interest shall be made without charge to the holders of such shares for any Taxes (as defined) and Other Taxes (as defined) in respect thereof or other cost incurred by the Company in connection with such conversion; provided, however, the Company shall not be required to pay any Taxes and Other Taxes that may be payable in respect of any transfer involved in the issuance and delivery of any certificate in a name other than that of Cephalon. All payments to Cephalon by the Company under or in respect of this Note, whether in the form of cash or Common Stock, shall be made free and clear of and without deduction or withholding for any and all taxes, levies, imposts, deductions, charges or withholdings and all liabilities with respect thereto (all such taxes, levies, imposts, deductions, charges, withholdings and liabilities being referred to as "Taxes") imposed by Canada or the United States of America or any other relevant jurisdiction (or any political subdivision or taxing authority of it), unless such Taxes are required by applicable law to be deducted or withheld. If the Company shall be required by applicable law to deduct or withhold any such Taxes from or in respect of any amount payable under or in respect of this Note (A) the amount payable shall be increased as may be necessary so that after making all required deductions or withholdings (including deductions or withholdings applicable to any additional amounts paid under this Section 4(n)), Cephalon receives a net amount equal to the amount they

9

would have received if no such deduction or withholding had been made, (B) the Company shall make such deductions or withholdings, and (C) the Company shall immediately pay the full amount deducted or withheld to the relevant Governmental Entity (as defined) in accordance with applicable law. For the purposes of this Note, "Government Entity" means (i) any multinational, federal, provincial, state, municipal, local or other government, governmental or public department, central bank, court, commission, board, bureau, agency or instrumentality, domestic or foreign, (ii) any subdivision or authority of any of the foregoing, or (iii) any quasi-governmental or private body exercising any regulatory, expropriation or taxing authority under or for the account of any of the above.

        (ii)    The Company agrees to immediately pay any present or future stamp or documentary taxes or any other excise or property taxes, charges, financial institutions duties, debits taxes or similar levies (all such taxes, charges, duties and levies being referred to as "Other Taxes") which arise from any payment made by the Company under or in respect of this Note whether in the form of cash or Common Stock or from the execution, delivery or registration of, or otherwise with respect to, this Note.

        (iii)    The Company shall indemnify Cephalon for the full amount of Taxes or Other Taxes (including, without limitation, any Taxes or Other Taxes imposed by any jurisdiction on amounts payable by the Company under this Section 4(n)) paid by Cephalon and any liability (including penalties, interest and expenses) arising from or with respect to such Taxes or Other Taxes, whether or not they were correctly or legally asserted. Except for any Taxes or Other Taxes imposed on Cephalon in respect of amounts payable by the Company under this Section 4(n), the Company will not be required to indemnify Cephalon for any Taxes or Other Taxes imposed by reason of Cephalon being connected with Canada, the United States or any relevant jurisdiction otherwise than merely by Cephalon holding the Note. Payment under this indemnification shall be made within 30 days from the date Cephalon makes written demand for it. A certificate as to the amount of such Taxes or Other Taxes submitted to the Company or Cephalon shall be conclusive evidence, absent manifest error, of the amount due from the Company to Cephalon.

        (iv)    If the Company makes an additional payment under Sections 4(n)(i)(A) or 4(n)(iii) (each, a "Tax Indemnity Amount") and Cephalon receives a refund of Taxes, reduction in Taxes, or Tax credit or any refund or payment of interest and penalties in respect thereof (each a "Tax Refund"), then Cephalon shall reimburse the Company such amount that is the proportion of the Tax Refund as Cephalon, acting reasonably, considers allocable to such Tax Indemnity Amount as will leave Cephalon, after the reimbursement, in no better or worse position that it would have been if payment of the Taxes in respect of the Tax Indemnity Amount had not been required. Cephalon shall use its reasonable efforts, having regard to all of Cephalon's dealings giving rise to similar Tax Refunds in relation to the same tax period and to the cost of obtaining the same, to claim any Tax Refund to which it may be entitled in respect of Taxes paid on account of a Tax Indemnity Amount. Nothing contained in this Section 4(n)(iv) shall interfere with the right of Cephalon to arrange its tax affairs in whatever manner it deems fit and, in particular, Cephalon shall be under no obligation to claim a Tax Refund in respect of a Tax Indemnity Amount in priority to any other relief, claims, credits or deductions available to it and under no circumstances shall Cephalon be obligated to disclose to the Company or any other person any information regarding its tax affairs, tax computations or otherwise.

        (v)    At the reasonable written request of Cephalon, the Company shall furnish to Cephalon a certified copy of a receipt evidencing payment of Taxes or Other Taxes made by the Company.

        (vi)    The provisions of this Section 4 shall survive the termination of the Note and the repayment of all amounts due hereunder.

10

        (o)    Further Assurances.    In the event that this Note is convertible or converted (in full) at any time under Sections 4(a) or 4(b) into more than 18% of the outstanding Common Stock of the Company at any time, upon Cephalon's request, the Company and Cephalon agree to negotiate in good faith reasonable modifications to the terms and conditions of the Note or the execution of such other agreement, including, for example, an irrevocable proxy on such shares of Common Stock in excess of 18%, provided, however, that in no event shall the Company be required to agree to any modification to the Note or agree to enter into any document or agreement that it determines, in its sole and absolute discretion, could have any adverse impact on the Company.

        Section 5.    Defaults.

        (a)    Definitions.    The following events shall each constitute an "Event of Default":

        (i)    if a default occurs in the payment of:

        (a)    any installment of principal payable hereunder whether at the due date thereof or upon the acceleration thereof; or

        (b)    any interest or other amounts payable hereunder or other material obligation with respect to this Note (other than principal), whether at the due date thereof or upon acceleration thereof which has not been cured within ten (10) business days thereafter;

        (ii)    if the Company shall (1) discontinue its business, (2) make or proposes to make any sale of its assets in bulk or any material sale out of the usual course of business, (3) apply for or consent to the appointment of a receiver, administrator, manager, receiver-manager of interim receiver, trustee, custodian or liquidator of it or any of its property, (4) become insolvent or generally not able to pay its debts as they mature, (5) admit in writing its inability to pay its debts as they mature, (6) make a general assignment for the benefit of creditors, (7) file a voluntary petition in bankruptcy, or a petition or an answer seeking reorganization or an arrangement with creditors, or to take advantage of any bankruptcy, reorganization, insolvency, readjustment of debt, dissolution or liquidation laws or statutes, or an answer admitting the material allegations of a petition filed against it in any proceeding under any such law; or (8) take any corporate action to authorize any of the foregoing actions;

        (iii)    there shall be filed against the Company an involuntary petition or proceeding seeking reorganization of the Company or the appointment of a receiver, administrator, manager, receiver-manager of interim receiver, trustee, custodian or liquidator of the Company or a substantial part of its assets, or an involuntary petition under any bankruptcy, reorganization or insolvency law of any jurisdiction, whether now or hereafter in effect (any of the foregoing petitions being hereinafter referred to as an "Involuntary Petition") and such Involuntary Petition shall not have been dismissed within sixty (60) days after it was filed or a receiver, administrator or receiver-manager, trustee or custodian is appointed for it or any substantial part of its properties and assets;

        (iv)    the Company or any Subsidiary breaches or defaults in the performance of any material covenant or obligation (which by its terms is capable of being cured or remedied by the Company or any Subsidiary) under this Note, the Purchase Agreement or any of the Security Documents or any other Related Document (each as defined in the Security Agreement dated as of the date hereof between the Company and Cephalon) that is not so remedied within ten (10) business days after the date of such breach or default;

        (v)    if any proposal is made or any petition is filed by or against the Company under any law having for its purpose the extension of time for payment, composition or compromise of the liabilities of the Company or other reorganization or arrangement respecting its liabilities or if the Company gives notice of its intention to make or file any such proposal or petition including an

11

application to any court to stay or suspend any proceedings of creditors pending the making or filing of any such proposal or petition;

        (vi)    any representation or warranty made by the Company, MDS Inc., or any Subsidiary under this Note, any Security Document, in any other Related Document or in any certificate, statement or report furnished by the Company to Cephalon, whether in connection with any of the foregoing agreements or otherwise, shall have been false, incorrect or misleading in any material respect when made;

        (vii)    either (1) the occurrence of a breach or default by the Company or any Subsidiary under any lease, loan or other agreement or obligation and such lease, loan or other agreement represents a commitment of an amount in excess of US$300,000, or (2) the entry of a judgment(s) or arbitration award in an amount in excess of US$300,000 shall be rendered against the Company or any Subsidiary that has not been bonded or stayed pending appeal within thirty (30) days of entry or granting;

        (viii)    to the extent not covered by (vii), if an event of default occurs in payment of an amount in excess of US$300,000 or performance of any material obligation in favor of any person from whom the Company or any Subsidiary has borrowed money which would entitle the holder to accelerate repayment of the borrowed money, and such default is not waived in writing or otherwise cured by the Company or any Subsidiary with the time periods so permitted by such holder;

        (ix)    if any act, matter or thing is done toward terminating, or any action or proceeding is launched or taken to terminate, the corporate existence of the Company, whether by winding-up, surrender of charter or otherwise;

        (xi)    if any balance sheet or other financial statement provided by the Company to Cephalon pursuant to the provisions hereof or otherwise is false or misleading in any material respect as of the date of or periods covered by such financial statement;

        (xii)    if any action is taken or power or right be exercised by any governmental body which may have a material adverse affect on the Company, its business or operations, its properties or its prospects;

        (xiii)    if Abgenix, Inc. ("Abgenix") delivers to the Company a valid "Rescission Notice," as that term is defined in Section 7.2(a) of the Special Warrant Purchase Agreement dated June 28, 2001 between Abgenix and the Company (the "Abgenix Agreement"); provided, however, that such event shall not be an Event of Default if either: (A) MDS Inc. agrees to indemnify and hold harmless Cephalon against any direct losses, claims, damages, liabilities, cost or expense suffered or incurred by Cephalon arising out of or based on the right of rescission exercised by Abgenix pursuant to Section 7.2 of the Abgenix Agreement (the "Rescission Right") and MDS Inc. executes and delivers to Cephalon a letter agreement to that effect (the "Indemnity Agreement") by no later than ten (10) days after the date that the Company receives the Rescission Notice from Abgenix, (B) the Rescission Right is terminated in accordance with the provisions of the Abgenix Agreement and the Company delivers all such documentation to Cephalon evidencing this termination or (C) the Rescission Right terminates as a result of the expiration of the applicable statute of limitations and the Company delivers to Cephalon a legal opinion to that effect from a nationally recognized United States law firm in form and substance satisfactory to Cephalon, acting reasonably; provided, further, however, that the Company herein covenants to and agrees with Cephalon to: (i) immediately notify Cephalon of the delivery of any "Rescission Notice" from Abgenix and (ii) use its reasonable efforts to solicit from MDS Inc. the Indemnity Agreement if, by the date that is three (3) months following the original issuance date of this Note, the Company

12

has not secured the termination of the Rescission Right in accordance with the provisions of the Abgenix Agreement.

        (xiv)    if any event occurs with respect to any Subsidiary which, if a like event had occurred with respect to the Company, would have constituted an Event of Default; or

        (xv)    the occurrence of a Change of Control Event,

then, upon each and every such Event of Default and at any time thereafter during the continuance of such Event of Default, at the election of Cephalon, all unpaid principal, accrued interest and other amounts owing hereunder and any and all other indebtedness of the Company to Cephalon shall immediately become due and payable without presentment, demand, or protest, all of which are hereby expressly waived, anything contained herein or in the Note or other evidence of such indebtedness to the contrary notwithstanding (except in the case of an Event of Default under clauses (ii) or (iii) of this Section 5(a), in which event such indebtedness shall automatically become due and payable).

        (b)    Remedies on Default.    In case any one or more Events of Default shall occur and be continuing and acceleration of the Note or any other indebtedness of the Company to Cephalon shall have occurred, Cephalon may, inter alia, (i) proceed to protect and enforce their rights by an action at law, suit in equity or other appropriate proceeding, whether for the specific performance of any agreement contained in this Note, or for an injunction against a violation of any of the terms hereof or thereof or in and of the exercise of any power granted hereby or thereby or by law, and (ii) exercise any and all rights and remedies it may have under any of the Security Documents or under applicable law. No right conferred upon Cephalon hereby or by the Note shall be exclusive of any other right referred to herein or therein or available at law, in equity, by statute or otherwise.

        Section 6.    Defenses.    The obligations of the Company under this Note shall not be subject to reduction, limitation, impairment, termination, defense, set-off, counterclaim or recoupment for any reason. Upon receipt by the Company of evidence satisfactory to it of the loss, theft, destruction, or mutilation of this Note and (in the case of loss, theft or destruction) of an indemnity reasonably satisfactory to it, and upon surrender and cancellation of this Note, if mutilated, the Company will deliver a new Note of like tenor in lieu of this Note. Any Note delivered in accordance with the provisions of this Section 6 shall be dated as of the date of this Note.

        Section 7.    Extension of Maturity.    Should the principal of or interest on this Note become due and payable on other than a business day, the Maturity Date thereof shall be extended to the next succeeding business day, and, in the case of principal, interest shall be payable thereon at the rate per annum herein specified during such extension.

        Section 8.    Attorneys' and Collection Fees.    The Company agrees to pay, in addition to principal and interest due and payable hereon, all reasonable costs of collection, including reasonable attorneys' fees and expenses, incurred by Cephalon in collecting or enforcing this Note.

        Section 9.    Waivers.

        (a)    Waivers by the Company.    The Company hereby waives presentment, demand for payment, notice of dishonor, notice of protest and all other notices or demands in connection with the delivery, acceptance, performance or default of this Note.

        (b)    Actions of Cephalon not a Waiver.    No waiver whatsoever or modification of the terms hereof shall be valid unless set forth in writing by Cephalon and then only to the extent set forth therein.

        Section 10.    Amendments and Waivers.    No provision of this Note may be amended or waived without the express written consent of both the Company and Cephalon.

        Section 11.    Severability.    If one or more provisions of this Note are held to be unenforceable under applicable law, such provision shall be excluded from this Note and the balance of the Note shall

13

be interpreted as if such provision were so excluded and shall be enforceable in accordance with its terms.

        Section 12.    Governing Law.    The construction, validity and interpretation of this Note will be governed by the laws of the Province of Ontario. The parties hereto consent to the non-exclusive personal and subject matter jurisdiction and venue of the courts of the Province of Ontario with respect to any claim relating to this Note.

        Section 13.    Successors and Assigns.    Except as otherwise provided herein, the terms and conditions of this Note shall inure to the benefit of and be binding upon the respective successors and assigns of the parties hereto. Nothing in this Note, express or implied, is intended to confer upon any party other than the parties hereto or their respective successors and assigns any rights, remedies, obligations, or liabilities under or by reason of this Agreement, except as expressly provided in this Note. The Note evidenced hereby and any Common Stock issued upon the conversion hereof may only be transferred in accordance with applicable securities laws, the rules of any stock exchanges on which the securities of the Company become listed and in compliance with the reasonable requirements of the Company, including the execution of a suitable transfer form and the payment of all stamp taxes or governmental or other like charges arising by reason of such transfer, and, subject thereto, may be transferred on the register maintained by the Company by the holder hereof or the holder's legal representative or attorney duly appointed by an instrument in writing in form and execution satisfactory to the Company. Notwithstanding anything in this Note, the Company shall not be required to register a transfer if it has, based on the opinion of counsel, reasonable grounds for believing such transfer would not be in accordance with all applicable laws.

        Section 14.    WAIVER OF JURY TRIAL.    THE COMPANY AND CEPHALON HEREBY WAIVE ANY RIGHT THAT EITHER OF THEM MAY HAVE TO A JURY TRIAL IN CONNECTION WITH ANY ACTION, SUIT OR PROCEEDING ARISING OUT OF OR RELATED IN ANY WAY TO THIS NOTE, THE NOTE PURCHASE AGREEMENT OR ANY OTHER DOCUMENT EXECUTED IN CONNECTION THEREWITH.

        Section 15.    Further Assurances.    From time to time after the date hereof, each party shall, at the request of any other party, execute and deliver such additional conveyances, transfers and other assurances as may be reasonably required to carry out the intent of this Note.

        Section 16.    Authorship.    The parties hereto agree that the terms and language of this Note were the results of negotiations between the parties and, as a result, there shall be no presumption that any ambiguity in this Note shall be resolved against either party.

        Section 17.    Time.    Time is of the essence with respect to this Note.

        Section 18.    Currency.    All references in this Note to dollars, unless otherwise specifically indicated, are expressed in United States dollars.

        Section 19.    No Recourse Against Others.    No director, officer, employee or shareholder, as such, of the Company shall have any liability for any obligations of the Company under the Note or for any claim based on, in respect of or by reason of such obligations or their creation. By accepting this Note, Cephalon shall waive and release all such liability and such waiver and release shall be part of the consideration for the issue of the Note.

[SIGNATURE ON FOLLOWING PAGE]

14

        IN WITNESS WHEREOF, the Company has caused this Note to be duly executed by its duly authorized officer as of the date of issuance first written above.

MDS PROTEOMICS INC.
By:	/s/  ANIL AMLANI Name:  Anil Amlani Title:    Executive Vice President &             Chief Financial Officer
By:	/s/  DAVID T. PATTERSON Name:  David T. Patterson Title:    Vice President, General Counsel & Secretary

15

SCHEDULE "A"

Form of Letter to be Delivered by
Cephalon upon Conversion of Note

MDS Proteomics Inc.
251 Attwell Drive
Toronto, Ontario M9W 7H4

Dear Sirs:

        We are delivering this letter in connection with the issuance of Class A Common Shares (the "Shares") of MDS Proteomics Inc. (the "Company"), a corporation existing under the laws of Canada, upon the conversion of a 5% Secured Convertible Note Due January    •    , 2010 issued under the Note Purchase Agreement, dated January     •    , 2003, between the Company and Cephalon, Inc.

        We hereby confirm that:

        (a)  we are an institutional "accredited investor" within the meaning of Rule 501 (a)(1),(2),(3) or (7) of Regulation D under the United States Securities Act of 1933 (the "U.S. Securities Act");

        (b)  we are acquiring the Shares for our own account;

        (c)  we have such knowledge and experience in financial and business matters that we are capable of evaluating the merits and risks of acquiring the Shares;

        (d)  we are not acquiring the Shares with a view to distribution thereof or with any present intention of offering or selling any of the Shares, except (A) to the Company, (B) outside the United States in accordance with Rule 904 under the U.S. Securities Act or (C) inside the United States in accordance with Rule 144 under the U.S. Securities Act, if applicable, and in compliance with applicable state securities laws;

        (e)  we acknowledge that we have had access to such financial and other information as we deem necessary in connection with our decision to acquire the Shares; and

        (f)    we acknowledge that we are not acquiring the Shares as a result of any general solicitation or general advertising, including advertisements, articles, notices or other communications published in any newspaper, magazine or similar media or broadcast over radio, television, or any seminar or meeting whose attendees have been invited by general solicitation or general advertising.

        We understand that the Shares are being acquired in a transaction not involving any public offering within the United States within the meaning of U.S. Securities Act and that the Shares have not been registered under the U.S. Securities Act. We further understand that any Shares acquired by us will be in the form of definitive physical certificates and that such certificates will bear a legend reflecting the substance of paragraph (d) above.

        We acknowledge that you will rely upon our confirmations, acknowledgements and agreements set forth herein, and we agree to notify you promptly in writing if any of our representations or warranties herein ceases to be accurate or complete.

CEPHALON, INC.
By:
	Name: Title:

QuickLinks

Form of Letter to be Delivered by Cephalon upon Conversion of Note

EX-10.14(B)

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 10.14(b)

MDS PROTEOMICS INC.

as Company

and

CEPHALON, INC.

as Lender

SECURITY AGREEMENT

January 7, 2003

STIKEMAN ELLIOTT

TABLE OF CONTENTS

ARTICLE 1
INTERPRETATION

Section 1.1	Terms Incorporated by Reference	1
Section 1.2	Definitions	1
Section 1.3	Statutes	4
Section 1.4	Agreements	4
Section 1.5	Certain Phrases, etc	4
Section 1.6	Gender and Number	5
Section 1.7	Headings, etc.	5
Section 1.8	Schedules	5
ARTICLE 2 SECURITY
Section 2.1	Grant of Security	5
Section 2.2	Obligations Secured	6
Section 2.3	Attachment	6
Section 2.4	Scope of Security Interest	7
Section 2.5	Grant of Licence to Use Intellectual Property	8
Section 2.6	Care and Custody of Collateral	8
Section 2.7	Amalgamation	8
Section 2.8	Dealing with the Securities, etc.	8
Section 2.9	Rights of the Company	9
ARTICLE 3 REPRESENTATIONS AND WARRANTIES
Section 3.1	Other Financing Statements	9
Section 3.2	Ownership of Collateral	10
Section 3.3	Locations	10
Section 3.4	Authorization; Consent	10
Section 3.5	Accounts	10
Section 3.6	Equity Interests and Instruments	11
Section 3.7	Specified Contracts	11
Section 3.8	Documents of Title	12
Section 3.9	Intellectual Property	12
ARTICLE 4 COVENANTS
Section 4.1	Use and Disposition of Collateral	12
Section 4.2	Change of Name, Locations, etc	13
Section 4.3	Records; Inspection	13
Section 4.4	Accounts	14
Section 4.5	Instruments	14
Section 4.6	Equipment	14
Section 4.7	Location of Inventory	14
Section 4.8	Contracts	15
Section 4.9	Taxes	15
Section 4.10	Insurance	15

(i)

Section 4.11	Collateral in Possession of Third Party; Delivery of Collateral	16
Section 4.12	Perfection and Protection of Security Interest	16
Section 4.13	Intellectual Property	17
ARTICLE 5 ENFORCEMENT
Section 5.1	Enforcement	18
Section 5.2	Remedies	18
Section 5.3	Additional Rights	19
Section 5.4	Receiver's Powers	20
Section 5.5	Appointment of Attorney	20
Section 5.6	Realization on Partnership Interests and ULC/LLC Interests	20
Section 5.7	Dealing with the Collateral	20
Section 5.8	Standards of Sale	21
Section 5.9	Dealings by Third Parties	21
Section 5.10	Application of Proceeds	21
ARTICLE 6 GENERAL
Section 6.1	Discharge	22
Section 6.2	Amendments, etc.	22
Section 6.3	Waivers	22
Section 6.4	No Merger	22
Section 6.5	Further Assurances	22
Section 6.6	Supplemental Security	22
Section 6.7	Notices	23
Section 6.8	Successors and Assigns	23
Section 6.9	Severability	23
Section 6.10	Lender Not A Partner Or Member Etc	23
Section 6.11	Governing Law	24
Section 6.12	Confidentiality	24

(ii)

SECURITY AGREEMENT

        Security Agreement dated January 7, 2003 made by MDS Proteomics Inc., a company governed by the laws of Canada (the "Company") to and in favour of Cephalon, Inc., a Delaware Corporation (the "Lender").

RECITALS:

(a)

The Lender has agreed to purchase a 5% secured convertible note due January 7, 2010 in the principal amount of US$30,000,000.00 (such 5% secured convertible note as it may at any time or from time to time be amended, supplemented, restated or replaced the "Note") from the Company upon the terms and conditions contained in a note purchase agreement between the Company and the Lender dated as of January 7, 2003 (such note purchase agreement as it may at any time or from time to time be amended, supplemented, restated or replaced, the "Purchase Agreement"); and



(b)

The Company has agreed to execute and deliver this security agreement to and in favour of the Lender as security for the payment and performance of the Company's obligations to the Lender under the Note and the Purchase Agreement and the other Related Documents (as herein defined).

        In consideration of the foregoing and other good and valuable consideration (the receipt and adequacy of which are acknowledged), the Company agrees as follows:

ARTICLE 1
INTERPRETATION

Section 1.1    Terms Incorporated by Reference.

        Terms defined in the Personal Property Security Act (Ontario) (as amended from time to time, the "PPSA") and used in this security agreement shall have the same meanings herein as in the PPSA. All capitalized terms used herein and not otherwise defined herein have the meanings given to them in the Purchase Agreement.

Section 1.2    Definitions.

        When used in this security agreement, the following terms shall have the following meanings:

        "Accounts" means, collectively:

(a)

any "account" as such term is defined in the PPSA as in effect on the date hereof and any right to payment for goods sold or leased or services performed whether now in existence or arising from time to time hereafter, including any right evidenced by an account, note, contract, security agreement, chattel paper or other evidence of indebtedness or security; and



(b)

all (i) security pledged, assigned, hypothecated or granted to or held by the Company to secure the accounts and rights described in paragraph (a); (ii) right, title and interest in and to any goods, the sale of which gave rise to the accounts and rights described in paragraph (a); (iii) guarantees, endorsements and indemnifications on, or of, any of the accounts and rights described in paragraph (a); (iv) powers of attorney for the execution of any evidence of indebtedness or security or other writing in connection with the accounts and rights described in paragraph (a); (v) books, records, ledger cards, and invoices relating to the accounts and rights described in paragraph (a); (vi) evidences of the filing of financing statements and other statements and the registration of other instruments in connection with the accounts and rights described in paragraph (a) and amendments to the accounts and rights described in paragraph (a), notices to other creditors or secured parties, and certificates from filing or other registration officers; (vii) credit information, reports and memoranda relating to the accounts and rights described in paragraph (a); and (viii) other writings related in any way to the accounts and rights described in paragraph (a) and this paragraph (b).

"Collateral" has the meaning specified in Section 2.1.

"Copyrights" shall mean, collectively, all of the Company's copyrights, copyright registrations and applications for copyright registration, whether under the laws of Canada or any other country or jurisdiction, including all recordings, supplemental registrations and derivative or collective work registrations, and all renewals and extensions thereof, in each case whether now owned or existing or hereafter acquired or arising.

"Contracts" means all contracts and agreements between the Company and one or more additional parties (including any and all Investment Agreements and licensing agreements) and all amendments, modifications, extensions and renewals of such contracts and agreements and all rights of the Company thereunder.

"Domain Name" shall mean the combination of words and abbreviations that represents a uniquely identifiable internet protocol address of a World Wide Web internet location.

"Equity Interests" means Securities, Partnership Interests and ULC/LLC Interests.

"Event of Default" has the meaning specified in the Note.

"Expenses" has the meaning specified in Section 2.2(2).

"Intellectual Property" has the meaning specified in Section 2.1(g).

"Instruments" means, (i) a bill, note or cheque within the meaning of the Bills of Exchange Act (Canada) or any other writing that evidences a right to the payment of money and is of a type that in the ordinary course of business is transferred by delivery with any necessary endorsement or assignment, or (ii) a letter of credit and an advice of credit if the letter or advice states that it must be surrendered upon claiming payment thereunder, or (iii) chattel paper or any other writing that evidences both a monetary obligation and a security interest in or a lease of specific goods, or (iv) documents of title or any other writing that purports to be issued by or addressed to a bailee and purports to cover such goods in the bailee's possession as are identified or fungible portions of an identified mass, and that in the ordinary course of business is treated as establishing that the person in possession of it is entitled to receive, hold and dispose of the document and the goods it covers, or (v) any document or writing commonly known as an instrument.

"Intangibles" has the meaning specified in Section 2.1(g).

"Investment Agreements" means any partnership agreement, joint venture agreement, limited liability company operating agreement, shareholders' agreement or other agreement creating, governing or evidencing any Equity Interests and to which the Company is now or hereafter becomes a party.

"IP License" shall mean any agreement now or hereafter in effect granting any right to any third party under any Intellectual Property now or hereafter owned by the Company or which the Company otherwise has the right to license, or any right to make, use or sell any invention on which a Patent, now or hereafter owned by the Company or which the Company otherwise has the right to license, is in existence, or granting any right to the Company under any property of the type described in the definitions of Copyrights or Trademarks herein now or hereafter owned by any third party, or granting to the Company any right to make, use or sell any invention on which property of the type described in the definition of Patents herein, now or hereafter owned by any third party, is in existence, and all rights of the Company under any such agreement.

"Lien" means any mortgage, charge, pledge, hypothecation, security interest, assignment, encumbrance, lien (statutory or otherwise), title retention agreement or arrangement, restrictive covenant or other encumbrance of any nature or any other arrangement or condition that in substance secures payment or performance of an obligation.

2

"Loan Documents" means the Purchase Agreement, the Note and the "Related Documents" as such term is defined in the Purchase Agreement, and any other documents and instruments delivered to the Lender in connection with or pursuant to such documents.

"Material Adverse Effect" means (i) a material adverse effect upon the business, operations, properties, assets or condition (financial or otherwise) of the Company and its Subsidiaries, on a consolidated basis, or (ii) the impairment of the ability of the Company to perform its obligations under the Loan Documents or of the Lender to enforce any Loan Document or collect any of the Secured Obligations. In determining whether or not any individual event could reasonably be expected to have a Material Adverse Effect, notwithstanding that such event does not of itself have such effect, a Material Adverse Effect shall be deemed to have occurred if the cumulative effect of such event and all other then existing events could reasonably be expected to have a Material Adverse Effect.

"Mobile Goods" shall mean, collectively, all of the Company's motor vehicles, tractors, trailers, aircraft, rolling stock and other like property, in each case whether now owned or existing or hereafter acquired.

"Negotiable Collateral" has the meaning specified in Section 2.3(3).

"Partnership Interest" means any interest in any general partnership, limited partnership or limited liability partnership.

"Patents" shall mean, collectively, all of the Company's letters patent, whether under the laws of Canada or any other country or jurisdiction, all recordings and registrations thereof and applications therefor, including without limitation the inventions described therein, all reissues, continuations, divisions, renewals, extensions, continuations-in-part thereof, in each case whether now owned or existing or hereafter acquired or arising.

"Permitted Liens" means the following:

(i)

Liens for taxes, assessments or other governmental charges not yet due and payable or as to which the period of grace (not to exceed thirty (30) days), if any, related thereto has not expired unless the same are being diligently contested in good faith and by appropriate proceedings and then only if and to the extent that adequate reserves therefor are maintained in accordance with GAAP;



(ii)

Inchoate or statutory Liens of contractors, subcontractors, mechanics, workers, suppliers, materialmen, carriers and others in respect of construction, maintenance, repair or operation of assets of the Person which are incurred in the ordinary course of business for sums not more than thirty (30) days delinquent or which are being contested in good faith;



(iii)

easements, rights of way, servitudes, restrictions and other similar charges or encumbrances which in the aggregate are not substantial in amount and which do not, in any case, materially detract from the value of such property or impair the use thereof in the ordinary conduct of the business of the Company or its Subsidiaries;



(iv)

Liens in favour of the Lender;



(v)

Liens securing purchase money security agreements and capital leases, provided that such Liens are created substantially simultaneously with the acquisition or lease of the related asset, do not encumber any property other than the items purchased with the proceeds of such indebtedness or leased pursuant to such indebtedness and such Liens do not secure any amounts other than amounts necessary to purchase or lease such items;



(vi)

Liens listed and described in Schedule B; and

3

(vii)

Liens that are subordinate to the Security Interest.

"Person" means a natural person, partnership, limited liability partnership, corporation, joint stock company, trust, unincorporated association, joint venture or other entity or governmental entity or authority.

"Restricted Asset" has the meaning specified in Section 2.4(1).

"Secured Obligations" has the meaning specified in Section 2.2(1).

"Securities" means a document that is, (i) issued in bearer, order or registered form, (ii) of a type commonly dealt in upon securities exchanges or markets or commonly recognized in any area in which it is issued or dealt in as a medium for investments, (iii) one of a class or series or by its terms is divisible into a class or series of documents, and (iv) evidence of a share, participation or other interest in property or in an enterprise or is evidence of an obligation of the issuer, and includes an uncertificated security, but does not include a Partnership Interest or a ULC/LLC Interest.

"Security Interest" has the meaning specified in Section 2.2(1).

"Specified Contract" has the meaning specified in Section 3.7.

"Subsidiary" or "Subsidiaries" means, with respect to any Person, any corporation, partnership, association or other business entity of which fifty percent (50%) or more of the total voting power of shares of stock (or equivalent ownership or controlling interest) entitled (without regard to the occurrence of any contingency) to vote in the election of directors, managers or trustees thereof is at the time owned or controlled, directly or indirectly, by that Person or one or more of the other Subsidiaries of that Person or a combination thereof.

"Trademarks" shall mean, collectively, all of the Company's trademarks, service marks, trade names, corporate and company names, business names, logos, trade dress, trade styles, other source or business identifiers, designs and general intangibles of a similar nature, whether under the laws of Canada or any other country or jurisdiction, all recordings and registrations thereof and applications therefor, all renewals and extensions thereof, all rights corresponding thereto, and all goodwill associated therewith or symbolized thereby, in each case whether now owned or existing or hereafter acquired or arising.

"ULC/LLC Interest" means any interest in an unlimited liability company or a limited liability company owned or otherwise held by a Person pursuant to which such Person may become liable for the debts or any portion of the debts of such unlimited liability company or such limited liability company.

Section 1.3    Statutes.

        Unless specified otherwise, reference in this security agreement to a statute refers to that statute as it may be amended, or to any restated or successor legislation of comparable effect.

Section 1.4    Agreements.

        Unless specified otherwise, reference in this security agreement to any agreement refers to that agreement as it may be amended, supplemented, restated, modified or replaced from time to time.

Section 1.5    Certain Phrases, etc.

        In this security agreement the words "including" and "includes" mean "including (or includes) without limitation".

4

Section 1.6    Gender and Number.

        Any reference in this security agreement to gender shall include all genders and words importing the singular number only shall include the plural and vice versa.

Section 1.7    Headings, etc.

        The division of this security agreement into Articles and Sections and the insertion of headings are for convenient reference only and are not to affect its interpretation. The expressions "Article" and "Section" followed by a number mean and refer to the specified Articles or Section of this security agreement.

Section 1.8    Schedules.

        The Schedules attached to this security agreement shall, for all purposes of this security agreement, form an integral part of it.

ARTICLE 2
SECURITY

Section 2.1    Grant of Security.

        Subject to Section 2.4, the Company grants to the Lender a security interest in all the Company's right, title and interest in and to the property, assets and undertaking of the Company now owned or hereafter acquired (collectively, the "Collateral") including, without limitation, any and all of the Company's:

(a)

inventory including goods held for sale, lease or resale, goods furnished or to be furnished to third parties under contracts of lease, consignment or service, goods which are raw materials or work in process, goods used in or procured for packing and materials used or consumed in the business of the Company;



(b)

equipment, machinery, furniture, fixtures, plants, vehicles and other goods of every kind and description and all licences and other rights and all records, files, charts, plans, drawings, specifications, manuals and documents relating thereto;



(c)

Accounts;



(d)

money, documents of title, chattel paper;



(e)

all Securities and Instruments including the Securities and Instruments listed in Schedule A but excluding any Securities in ProFold Inc. or Zyomyx, Inc. for so long as the Company owns less than 100% of the issued and outstanding shares of such Person;



(f)

all Partnership Interests and ULC/LLC Interests including the Partnership Interests and ULC/LLC Interests listed in Schedule A;



(g)

intangibles including all security interests, goodwill, choses in action and other contractual benefits and all Copyrights, Patents, Trademarks and Domain Names and other intellectual property (collectively, the "Intellectual Property");



(h)

substitutions and replacements of and increases, additions and, where applicable, accessions to the property described in Section 2.1(a)—Section 2.1(g) inclusive; and



(i)

proceeds in any form derived directly or indirectly from any dealing with all or any part of the property described in Section 2.1(a)—Section 2.1(h) inclusive of the proceeds of such proceeds.

5

Section 2.2    Obligations Secured.

(1)

The security interest granted hereby (the "Security Interest") secures the payment and performance of all debts, liabilities and obligations including all charges and fees of the Lender whether present or future, direct or indirect, absolute or contingent, matured or unmatured, at any time or from time to time due or accruing due and owing by or otherwise payable by the Company to the Lender, however or wherever incurred, and in any currency, and whether incurred by the Company alone or with another or others and whether as principal or surety due from the Company to the Lender pursuant to or in connection with the Purchase Agreement or the Note or any other Loan Document and all Expenses (the "Secured Obligations").

(2)

The Company shall be liable for all expenses, costs and charges incurred by or on behalf of the Lender, in connection with this security agreement from and after date of this security agreement, the Security Interest or the Collateral (the "Expenses"), including all reasonable legal fees, court costs, receiver's or agent's remuneration and other expenses of taking possession of, repairing, protecting, insuring, preparing for disposition, realizing, collecting, selling, transferring, delivering or obtaining payment of the Collateral or other lawful exercises of the powers conferred by the Purchase Agreement or the Note or any other Loan Document, and of taking, defending or participating in any action or proceeding in connection with any of the foregoing matters or otherwise in connection with the Lender's interest in any Collateral, whether or not directly relating to the enforcement of this security agreement or the Purchase Agreement or the Note or any other Loan Document.

Section 2.3    Attachment.

(1)

The Company acknowledges that (i) value has been given, (ii) it has rights in the Collateral (other than after-acquired Collateral), (iii) it has not agreed to postpone the time of attachment of the Security Interest, and (iv) it has received a duplicate original copy of this security agreement.

6

(2)

If any Security or Instrument is now or at any time hereafter becomes evidenced, in whole or in part, by uncertificated securities registered or recorded in records maintained by or on behalf of the issuer thereof in the name of a clearing agency or a custodian or of a nominee of either, the Company shall, at the request of the Lender, cause the Security Interest to be entered in the records of the clearing agency or custodian and provide evidence of such notation to the Lender.

(3)

The Company hereby deposits with the Lender any and all certificates evidencing the Equity Interests listed in Schedule A, (i) duly endorsed for transfer in blank in the case of Securities, and (ii) delivered with a power of attorney duly endorsed for transfer in blank in the case of ULC/LLC Interests or Partnership Interests. If the Company acquires any Instrument, Security or negotiable document of title constituting Collateral, other than ULC/LLC Interests or Partnership Interests, (collectively, "Negotiable Collateral"), the Company will, within 10 Business Days after receipt, notify the Lender thereof, and upon request by the Lender will promptly deliver to the Lender the Negotiable Collateral as security for the Secured Obligations and shall, at the reasonable request of the Lender (i) cause the transfer of the Negotiable Collateral to the Lender to be registered wherever, in the reasonable opinion of the Lender, such registration may be required or advisable, (ii) duly endorse the same for transfer in blank or as the Lender may reasonably direct, and (iii) upon request of the Lender, use commercially reasonable efforts to deliver to the Lender any and all powers of attorney or consents or other documents which may be necessary to effect the transfer of the Negotiable Collateral to the Lender or any third party. If the Company acquires any ULC/LLC Interests or Partnership Interests, the Company will within 10 Business Days after receipt, notify the Lender thereof, and upon written request by the Lender will promptly deliver to the Lender the certificates evidencing the ULC/LLC Interests or Partnership Interests as security for the Secured Obligations and shall, at the reasonable request of the Lender use commercially reasonable efforts to deliver to the Lender any and all powers of attorney duly endorsed for transfer of the ULC/LLC Interests or Partnership Interests in blank.

(4)

The Company will promptly inform the Lender in writing of the acquisition by the Company of any personal property of the type described in Schedule A to this security agreement and which is not adequately described therein, and the Company will execute and deliver, at its own expense, from time to time, amendments to this security agreement and its schedules or additional security agreements or schedules as may be reasonably required by the Lender.

Section 2.4    Scope of Security Interest.

(1)

To the extent that the creation of the Security Interest would constitute a breach or permit the acceleration or termination of any Contract, licence or permit of the Company which constitutes Collateral (each, a "Restricted Asset"), the Security Interest created hereunder will constitute a trust created in favour of the Lender pursuant to which the Company shall hold as trustee its interest in all proceeds arising under or in connection with the Restricted Asset in trust for the Lender on the following basis:

(i)

until the Security Interest has become enforceable, the Company shall be entitled to receive all such proceeds; and

(ii)

whenever the Security Interest has become enforceable, all rights of the Company to receive such proceeds shall cease, the Company shall at the request of the Lender take all such actions to collect and enforce payment and other rights arising under the Restricted Asset in accordance with the instructions of the Lender and all such proceeds arising under or in connection with the Restricted Asset shall be immediately paid over to the Lender.

Other than in the normal course of the Company's business, the Company shall not exercise any rights of set-off with respect to amounts payable under or in connection with any Restricted Asset.

7

(2)

Until the Security Interest shall have become enforceable, the grant of the Security Interest in the Intellectual Property shall not affect in any way the Company's rights to commercially exploit the Intellectual Property (including but not limited to the licensing or disposition thereof), defend it, enforce the Company's rights in it or with respect to it against third parties in any court or claim and be entitled to receive any damages with respect to any infringement of it, provided that such action is not in breach of this security agreement or the Purchase Agreement, or the Note or any other Loan Document.

(3)

The Security Interest shall not extend to consumer goods.

(4)

The Security Interest shall not extend or apply to the last day of the term of any lease or sublease or any agreement for a lease or sublease, now held or hereafter acquired by the Company in respect of real property, but the Company shall stand possessed of any such last day upon trust to assign and dispose of it as the Lender may direct.

Section 2.5    Grant of Licence to Use Intellectual Property.

        At such time as the Lender shall be lawfully entitled to exercise its rights and remedies and for purposes of enabling the Lender to exercise its rights and remedies pursuant to Article 5 and for no other purpose, the Company grants to the Lender an irrevocable, nonexclusive licence (exercisable without payment of royalty or other compensation to the Company) to use, assign or sublicense any of the Intellectual Property wherever the same may be located, including in such licence access to (i) all media in which any of the licensed items may be recorded or stored, and (ii) all computer programs used for compilation or print-out.

Section 2.6    Care and Custody of Collateral.

(1)

The Lender shall have no obligation to keep Collateral in its possession identifiable.

(2)

The Lender may, after the Security Interest shall have become enforceable, (i) notify any person obligated on an account or on chattel paper or any obligor on an instrument to make payments to the Lender whether or not the Company was previously making collections on such accounts, chattel paper or instruments, and (ii) assume control of any proceeds arising from the Collateral.

Section 2.7    Amalgamation.

        The Company acknowledges and agrees that if it amalgamates or merges with or into any other corporation or corporations, then (i) the term "Company" shall extend to and include the continuing corporation from such amalgamation or merger, (ii) the term "Secured Obligations" will extend to and include the Secured Obligations of each of the amalgamating or merging corporations at the time of such amalgamation or merger arising thereafter, and (iii) the Collateral hereby secured and the Security Interests over the Collateral of the Company will extend to and include all of the property, assets and undertakings of each of the amalgamating or merging corporations at the time of such amalgamation or merger and any and all property, assets and undertakings of the continuing corporation from such amalgamation or merger thereafter owned or acquired by such continuing corporation.

Section 2.8    Dealing with the Securities, etc.

        The Lender need not see to the collection of dividends or distributions on, or exercise any option or right in connection with, the Securities, ULC/LLC Interests and Instruments that are Collateral hereunder and need not protect or preserve them from depreciating in value or becoming worthless and is released from all responsibility for any loss of value save and except where it is wholly attributable to the gross negligence or wilful misconduct of the Lender. The Lender shall be bound to

8

exercise in the physical keeping of such Collateral only the same degree of care as would a prudent lender exercise with respect to securities in its safekeeping.

Section 2.9    Rights of the Company.

(1)

Until the Security Interest has become enforceable, the Company shall be entitled to vote the Securities and to receive all cash dividends and distributions. To the extent necessary to allow the Company to vote the Securities, the Lender shall from time to time, at the request and the expense of the Company, (i) execute valid proxies appointing proxyholders to attend and act at meetings of shareholders or partners, and (ii) execute resolutions in writing, all pursuant to the relevant provisions of the issuer's governing legislation. Whenever the Security Interest has become enforceable, all rights of the Company to vote (under any proxy given by the Lender (or its nominee) in connection herewith or otherwise) or to receive dividends and distributions shall cease and all such rights shall become vested solely and absolutely in the Lender.

(2)

The Company is the owner of the ULC/LLC Interests and as such, for greater certainty, the Company shall continue to be a member or partner, as applicable, of the relevant unlimited company or limited liability company or partnership and shall retain all rights as a member or partner, as applicable, of the relevant unlimited company or limited liability company or partnership including without limitation the right to vote its shares or units as a member of the relevant unlimited company or limited liability company or partnership, the right to receive dividends or property or other distributions on its shares or units as a member of the relevant unlimited company or limited liability company or partnership and the right to attend meetings of the relevant unlimited company or limited liability company or partnership. The Company agrees that no vote shall be cast or any consent, waiver or ratification given or any action taken or omitted to be taken which would violate or be inconsistent with any of the terms of this security agreement, the Note, the Purchase Agreement and the other Related Documents. Whenever the Security Interest in the ULC/LLC Interests or Partnership Interests has become enforceable and the Lender has exercised realization and enforcement rights pursuant to Section 5.6 of this security agreement, all rights of the Company to exercise voting rights or to receive dividends or property or other distributions or to attend meetings as a member or partner of the relevant unlimited company or limited liability company or Partnership shall cease.

(3)

Any dividends or distributions received by the Company on Securities contrary to Section 2.9(1) or any other moneys or property which may be received by the Company after the Security Interest has become enforceable for, or in respect of, the Collateral (other than the ULC/LLC Interests and the Partnership Interests) shall be received as trustee for the Lender and shall be immediately paid over to the Lender.

(4)

Any moneys, dividends or distributions or other property which may be received by the Company after the exercise of the Lender's rights of enforcement against ULC/LLC Interests or Partnership Interests in accordance with Section 5.6 of this security agreement shall be received as trustee for the Lender and shall be immediately paid over to the Lender.

ARTICLE 3
REPRESENTATIONS AND WARRANTIES

Section 3.1    Other Financing Statements.

        As of the date hereof, there is no financing statement (or similar statement or instrument of registration under the law of any jurisdiction) covering or purporting to cover any interest of any kind in the Collateral except as disclosed in Schedule B, and the Company will not enter into any agreement which would give rise to the right of another Person to file in any public office any financing statement (or similar statement or instrument of registration under the law of any jurisdiction) or statements

9

relating to the Collateral, except financing statements filed or to be filed in respect of and covering the security interests granted hereby and by the other Loan Documents to which the Company is a party or as permitted by this security agreement or in connection with Permitted Liens.

Section 3.2    Ownership of Collateral.

        The Company owns, or has valid rights as a lessee or licensee with respect to, all Collateral purported to be pledged by it hereunder, free and clear of any Liens except for the liens granted hereunder and except for other Permitted Liens.

Section 3.3    Locations.

        Schedule C lists, as to the Company, (i) its exact legal name, (ii) the jurisdiction of its incorporation or organization, (iii) the addresses of its chief executive office and each other place of business, (iv) the address of each location of all original invoices, ledgers, chattel paper, instruments and other records or information evidencing or relating to the Collateral, and (v) the address of each location at which any equipment or inventory (other than Mobile Goods and goods in transit) owned by the Company is kept or maintained, in each instance except for any new locations established in accordance with the provisions of Section 4.2. Except as may be otherwise noted therein, all locations identified in Schedule C are owned or leased by the Company. The Company does not presently conduct business under any prior or other corporate or company name or under any trade or fictitious names, except as indicated beneath its name on Schedule C, and the Company has not entered into any contract or granted any Lien within the past five years from the date hereof under any name other than its legal corporate name or a trade or fictitious name indicated on Schedule C.

Section 3.4    Authorization; Consent.

        No authorization, consent or approval of, or declaration or filing with, any Governmental Entity (including without limitation any notice filing with state tax or revenue authorities required to be made by account creditors in order to enforce any Accounts in any jurisdiction) is required for the valid execution, delivery and performance by the Company of this security agreement, the grant by it of the Lien and security interest in favour of the Lender provided for herein, except for (i) the filings described in Section 3.2, (ii) in the case of Accounts owing from any federal Governmental Entity, the filing by the Lender of a notice of assignment in accordance with the Financial Administration Act (Canada), (iii) in the case of Equity Interests, such filings and approvals as may be required in connection with a disposition of any such Collateral by laws affecting the offering and sale of securities generally and (iv) any assignment or transfer of control of any license required in connection with the exercise of the remedies provided for herein.

Section 3.5    Accounts.

        Each Account is, or at the time it arises will be: (i) a bona fide, valid and legally enforceable indebtedness of the account debtor according to its terms, arising out of or in connection with the sale, lease or performance of goods or services by the Company,(ii) subject to no material offsets, discounts, counterclaims, contra accounts or any other defense of any kind and character, other than warranties and discounts customarily given by the Company in the ordinary course of business and warranties provided by applicable law, (iii) to the extent listed on any schedule of Accounts at any time furnished to the Lender, a true and correct statement of the amount actually and unconditionally owing thereunder, maturing as stated in such schedule and in the invoice covering the transaction creating such Account, and (iv) not evidenced by any chattel paper or other instrument; or if so, any such chattel paper or other instrument (other than invoices and related correspondence and supporting documentation) shall promptly be duly endorsed to the order of the Lender and delivered to the Lender to be held as Collateral hereunder. To the knowledge of the Company, there are no facts, events or occurrences that would in any way materially impair the validity or enforcement of any Accounts except as set forth above.

10

Section 3.6 Equity Interests and Instruments.

(1)

As of the date hereof, the Equity Interests required to be pledged hereunder by the Company consist of the number and type of shares of capital stock (in the case of Securities) or the percentage and type of other equity interests (in the case of Partnership Interests and ULC/LLC Interests) described beneath the Company's name in Schedule A. The Company is the legal and beneficial owner of, and it has good and marketable title to all Collateral consisting of one or more Securities, ULC/LLC Interests and Partnership Interests and it has sufficient interest in all Collateral in which a security interest is purported to be created hereunder for such security interest to attach (subject, in each case, to no Lien, option or adverse claim whatsoever, except the Security Interest created by this security agreement and Permitted Liens);

(2)

Except as disclosed by the Company to the Lender in the Purchase Agreement, no person, firm or corporation has or will have any written or oral option, warrant, right, call, commitment, conversion right, right of exchange or other agreement or any right or privilege (whether by law, pre-emptive or contractual) capable of becoming an option, warrant, right, call, commitment, conversion right, right of exchange or other agreement to acquire any right or interest in any of the Collateral consisting of Securities, ULC/LLC Interests or Instruments;

(3)

The Company has full power, authority and legal right to pledge all the Collateral consisting of Securities, ULC/LLC Interests, Partnership Interests and Instruments pledged by it pursuant to this security agreement;

(4)

All of the Collateral consisting of Securities, ULC/LLC Interests and Instruments has been duly and validly issued and acquired, is fully paid and non-assessable and is not subject to any capital call or other additional capital requirement, other than insofar as ULC/LLC Interests are assessable on winding up or bankruptcy of an unlimited company or a limited liability company;

(5)

Each of the Instruments pledged hereunder, constitutes, or when executed by the obligor thereof will to the knowledge of the Company constitute, the legal, valid and binding obligation of such obligor, enforceable in accordance with its terms, except to the extent that the enforceability thereof may be limited by applicable bankruptcy, insolvency, reorganization, moratorium or other similar laws generally affecting creditors' rights and by equitable principles (regardless of whether enforcement is sought in equity or at law);

(6)

the pledge, collateral assignment and delivery to the Lender of the Collateral consisting of certificated Securities pursuant to this security agreement creates a valid and perfected first priority security interest in such certificated Securities, and the proceeds thereof, subject to no prior Lien or to any agreement purporting to grant to any third party a Lien on the property or assets of such the Company which would include the Securities (other than Permitted Liens) and the Lender is entitled to all the rights, priorities and benefits afforded by the PPSA or other relevant personal property securities legislation as enacted in any relevant jurisdiction to perfect security interests in respect of such Collateral; and

(7)

"possession" (within the meaning of the PPSA) has been obtained by the Lender over all Collateral consisting of Securities and Instruments.

Section 3.7    Specified Contracts.

        As to (i) each Investment Agreement and (ii) each material Contract to which the Company is now a party (the foregoing, collectively, "Specified Contracts") and listed on Schedule 3.17 of the Purchase Agreement, (w) the Company is not in default in any material respect under such Specified Contract, and to the knowledge of the Company, none of the other parties to such Specified Contract is in default in any material respect thereunder (except as shall have been disclosed in writing to the Lender), (x) such Specified Contract is, or at the time of execution will be, the legal, valid and binding

11

obligation of the Company, enforceable against the Company in accordance with the respective terms thereof, subject to applicable bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors' rights generally, and to equitable principles (regardless of whether enforcement is sought in equity or at law), and no defense, offset, deduction or counterclaim will exist thereunder in favour of any such party, and (y) the performance by the Company of its obligations under such Specified Contract in accordance with its terms will not contravene any requirement of law or any contractual restriction binding on or affecting the Company or any of its properties, and will not result in or require the creation of any Lien upon or with respect to any of its properties (except for Permitted Liens) and such violations or Liens which could not reasonably be expected to have a Material Adverse Effect, and (z) the Company has furnished the Lender with a correct and complete copy of each Specified Contract to which it is a party as then in effect, other than those Specified Contracts specifically identified as not having been provided in Schedule 3.17 of the Purchase Agreement.

Section 3.8    Documents of Title.

        As of the date hereof, no bill of lading, warehouse receipt or other document or instrument of title is outstanding with respect to any Collateral other than Mobile Goods and inventory in transit in the ordinary course of business to a location set forth on Schedule C or to a customer of the Company.

Section 3.9    Intellectual Property.

        Schedule D correctly set forth all Intellectual Property owned by the Company as of the date hereof. Except to the extent such failure could not reasonably be expected to have a Material Adverse Effect, (i) subject to any third party(s) right or claim, the Company owns or possesses the valid right to use all Intellectual Property; (ii) all registrations therefor have been validly issued under applicable law and are in full force and effect; (iii) all applicable maintenance fees, affidavits and other filings or payments associated therewith are current and shall remain current throughout the duration of this security agreement; (iv) no claim has been made in writing or, to the knowledge of the Company, orally, that any of such Intellectual Property is invalid or unenforceable or materially violates or infringes the rights of any other Person, and, to the knowledge of the Company, there is no such material violation or infringement in existence; (v) and to the knowledge of the Company, no other Person is presently infringing upon the rights of the Company with regard to any of such Intellectual Property.

ARTICLE 4
COVENANTS

Section 4.1    Use and Disposition of Collateral.

        The Company will not sell or otherwise dispose of, lease, grant any option with respect to, or mortgage, pledge, grant any Lien with respect to or otherwise encumber (in this Section 4.1 such actions are referred to as "transfers") any of the Collateral or any interest therein: (i) except for the security interest created in favour of the Lender hereunder; (ii) except for Permitted Liens; and (iii) provided however that so long as no Event of Default shall have occurred and be continuing, the Company may, in any lawful manner (A) make bona fide transfers of Collateral in the ordinary course of business at fair market value; (B) make transfers of Collateral that have no material or economic value in the business of the Company or are obsolete or are otherwise not required by the Company to conduct its business provided the value of the Collateral in connection with any such latter transfer does not exceed $500,000; and (C) otherwise, in a manner consistent with and not contrary to (A) and (B) above, use, control, transfer and manage the Collateral in the operation of its businesses, and receive and use the income, revenue and profits arising therefrom and the proceeds thereof, in the same manner and with the same effect as if this security agreement had not been made.

12

Section 4.2    Change of Name, Locations, etc.

        The Company will not (i) change its name, identity or the nature of its constitution, (ii) change its chief executive office from the location thereof listed on Schedule C, (iii) except as otherwise permitted by this security agreement change the jurisdiction of its incorporation or organization from the jurisdiction listed on Schedule C (whether by merger or otherwise), or (iii) remove any Collateral (other than Mobile Goods and goods in transit), or any books, records or other information relating to Collateral, from the applicable location thereof listed on Schedule C, or keep or maintain any Collateral at a location not listed on Schedule C, unless in each case the Company has (A) given ten (10) business days' prior written notice to the Lender of its intention to do so, together with information regarding any such new location and such other information in connection with such proposed action as the Lender may reasonably request, and (B) delivered to the Lender ten (10) business days prior to any such change or removal such documents, instruments and financing statements as may be reasonably required by the Lender, all in form and substance reasonably satisfactory to the Lender, paid all necessary filing and recording fees and taxes, and taken all other actions reasonably requested by the Lender (including, at the reasonable request of the Lender, delivery of opinions of counsel reasonably satisfactory to the Lender to the effect that all such actions have been taken), in order to perfect and maintain the Lien upon and security interest in the Collateral provided for herein.

Section 4.3    Records; Inspection.

(1)

The Company will keep and maintain at its own cost and expense satisfactory and complete records of the Accounts and all other Collateral, including without limitation records of all payments received, all credits granted thereon, all merchandise returned and all other documentation relating thereto, and will furnish to the Lender from time to time such statements, schedules and reports (including without limitation accounts receivable aging schedules) with regard to the Collateral as the Lender may reasonably request.

(2)

The Company will permit any authorized representatives of the Lender (i) to visit and inspect any of the properties of the Company, including its financial and accounting records, and to make copies and take extracts therefrom, and (ii) to discuss its affairs, finances and business with its officers, employees and certified public accountants, at such reasonable times during normal business hours and as often as may be reasonably requested. Without in any way limiting the foregoing, the Company will participate and will cause its key management to participate in a meeting with the Lender at least once during each year, which meeting shall be held at such time and such place in Toronto, Ontario as may be reasonably requested by the Lender and consented to by the Company, which consent shall not be unreasonably withheld. The Company and the Lender shall be responsible for the payment of their respective expenses in connection with any such meeting.

(3)

In addition to the rights of inspection of the Lender under Section 4.3(2), the Company shall, from time to time at such times as may be reasonably requested by the Lender and upon reasonable notice, (i) make available to the Lender for inspection and review (pursuant to Section 4.3(2)) at the Company's offices copies of all invoices and other documents and information relating to the Collateral (including without limitation itemized schedules of all collections of Accounts, showing the name of each account debtor, the amount of each payment and such other information as the Lender shall reasonably request), (ii) during any such inspection pursuant to Section 4.3(2), permit the Lender or its representatives to visit its offices or the premises upon which any Collateral may be located, inspect its books and records and make copies and memoranda thereof, (iii) during any such inspection pursuant to Section 4.3(2) hereof, permit the Lender to inspect the Collateral (including without limitation Inventory), and (iv) permit the Lender to discuss its finances and affairs with its officers and independent accountants and take any other actions reasonably

13

necessary for the protection of the interests of the Lender in the Collateral. At the reasonable request of the Lender, the Company will legend, in form and manner reasonably satisfactory to the Lender, the books, records and materials evidencing or relating to the Collateral with an appropriate reference to the fact that the Collateral has been assigned to the Lender and that the Lender has a security interest therein. During the period in which an Event of Default shall have occurred and be continuing, the Lender shall have the right to make test verifications of Accounts in any reasonable manner and through any reasonable medium, and the Company agrees to furnish all such reasonable assistance and information as the Lender may reasonably require in connection therewith.

Section 4.4    Accounts.

        Unless notified otherwise by the Lender in accordance with the terms hereof, the Company shall endeavour to the extent commercially reasonable to collect its Accounts and all amounts owing to it thereunder and shall apply forthwith upon receipt thereof all such amounts as are so collected to the outstanding balances thereof, and in connection therewith shall, at the reasonable request of the Lender, take such action as the Lender may deem reasonably necessary or advisable (within applicable laws) to enforce such collection. The Company shall not, except to the extent done in the ordinary course of its business consistent with past practice and in accordance with sound business judgment and provided that no Event of Default shall have occurred and be continuing, (i) grant any extension of the time for payment of any Account, (ii) compromise or settle any Account for less than the full amount thereof, (iii) release, in whole or in part, any Person or property liable for the payment of any Account, or (iv) allow any credit or discount on any Account. The Company shall promptly inform the Lender of any disputes with any account debtor or obligor and of any claimed offset and counterclaim that may be asserted with respect thereto involving, in each case, US$250,000, or more, where the Company reasonably believes that the likelihood of payment by such account debtor is materially impaired, indicating in detail the reason for the dispute, all claims relating thereto and the amount in controversy.

Section 4.5    Instruments.

        The Company agrees that if any intercompany obligations, Accounts or other Collateral shall at any time be evidenced by a promissory note, chattel paper, electronic chattel paper or other Instrument, any such promissory note, chattel paper, electronic chattel paper or other Instrument shall be in form suitable for transfer by delivery and shall be promptly delivered to the Lender to be held as Collateral hereunder, together with appropriate endorsements or other necessary instruments of registration, transfer or assignment, duly executed and in form and substance reasonably satisfactory to the Lender, and in each case together with such other instruments or documents as the Lender may reasonably request from time to time.

Section 4.6    Equipment.

        Except as conducted in the ordinary course of business, the Company shall not knowingly permit any Equipment to become a fixture to any real property.

Section 4.7    Location of Inventory.

        The Company agrees that it shall not permit an amount of inventory exceeding US$100,000 to be in the possession of any bailee, warehouseman, agent or processor at any time unless such bailee, warehouseman, agent or processor shall have been notified of the security interest created by this security agreement and the Company shall have exercised commercially reasonably efforts to obtain, at the Company's sole cost and expense, a written agreement to hold such inventory subject to the security interest created by this security agreement and the reasonable instructions of the Lender and

14

to waive and release any Lien (whether arising by operation of law or otherwise) it may have with respect to such inventory, such agreement to be in form and substance reasonably satisfactory to the Lender.

Section 4.8    Contracts.

        Except to an extent that could not reasonably be expected to have a Material Adverse Effect, the Company (i) will, at its expense, at all times perform and comply with all terms and provisions of each Specified Contract to which it is or hereafter becomes a party required to be performed or complied with by it and enforce the material terms and provisions thereof in accordance with its material terms, and (ii) will not waive, amend or modify any material provision thereof in any manner other than in the ordinary course of business of such the Company in accordance with past practice (provided that in no event may any waiver, amendment or modification be made that would materially adversely affect the interests of the Lender under the Loan Documents). The Company has delivered copies of each Specified Contract to which it is a party other than those Specified Contracts specifically identified as not having been provided on Schedule 3.17 of the Purchase Agreement and will deliver each amendment or modification thereof to the Lender promptly upon the execution and delivery thereof if such amendment or modification could reasonably be expected to have a Material Adverse Effect unless confidentiality obligations imposed pursuant to the Specified Contract or the amendment thereto prohibit providing a copy to the Lender. The Company will use commercially reasonable efforts not to enter into any Specified Contract that by its terms prohibits the assignment of the Company's rights and interest thereunder in the manner contemplated by this security agreement. As to all real estate leased by the Company after the date hereof having annual rental payments in excess of US$250,000 located in a jurisdiction which provides for liens of landlords imposed by statute, other than leases for retail locations, the Company shall use commercially reasonable efforts to obtain waivers from the landlords of all such real estate, substantially in the form of Exhibit A hereto or in such other form as shall be reasonably acceptable to the Lender. The Company will notify the Lender promptly in writing upon written notice of (i) any termination of any Specified Contract, in whole or in part, or (ii) any material breach, default or event of default by any party thereunder, in each case, if any of the foregoing could be reasonably expected to have a Material Adverse Effect.

Section 4.9    Taxes.

        The Company will pay and discharge (i) all taxes, assessments and governmental charges or levies imposed upon it, upon its income or profits or upon any of its properties, prior to the date on which penalties would attach thereto, and (ii) all lawful claims that, if unpaid, might become a Lien upon any of its properties; provided, however, that the Company shall not be required to pay any such tax, assessment, charge, levy or claim that is being contested in good faith and by proper proceedings and as to which the Company has maintained adequate reserves with respect thereto in accordance with GAAP unless and until any Lien resulting therefrom attaches to any material part of Collateral.

Section 4.10    Insurance.

(1)

If the Company fails to obtain and maintain the type and level of insurance obtained by companies in industries similar to the Company or to pay any premium in whole or in part, the Lender may, without waiving or releasing any obligation or Event of Default, at the Company's expense, but without any obligation to do so, procure such policies or pay such premiums. All sums so disbursed by the Lender, including attorneys' fees, court costs, expenses and other charges related thereto, shall be payable by the Company to the Lender on demand and shall be additional Secured Obligations hereunder, secured by the Collateral.

(2)

Not less than 30 days prior to the expiration date of the insurance policies required to be maintained by the Company, the Company will deliver to the Lender, at the Lender's request, one

15

or more certificates of insurance evidencing renewal of the insurance coverage required hereunder plus such other evidence of payment of premiums therefor as the Lender may reasonably request. Upon the reasonable request of the Lender from time to time, the Company will deliver to the Lender evidence that the insurance required to be maintained pursuant to this Section is in effect.

Section 4.11    Collateral in Possession of Third Party; Delivery of Collateral

        Without limiting the generality of any other provision of this security agreement, the Company agrees that it shall not permit any Collateral valued in excess of US$250,000 to be in the possession of any bailee, warehouseman, agent, processor or other third party at any time unless such bailee or other Person shall have been notified of the security interest created by this security agreement (or, if required under applicable law in order to perfect the Lender's security interest in such Collateral, such bailee or other Person shall have acknowledged to the Lender in writing that it is holding such Collateral for the benefit of the Lender and subject to such security interest and to the instructions of the Lender) and the Company shall have exercised commercially reasonable efforts to obtain from such bailee or other Person, at the Company's sole cost and expense, the written acknowledgement described above (if not already required by applicable law to perfect the Lender's security interest) and to waive and release any Lien (whether arising by operation of law or otherwise) it may have with respect to such Collateral, such agreement to be in form and substance reasonably satisfactory to the Lender. All certificates or instruments representing or evidencing any intercompany obligations or Securities shall be delivered to and held by the Company or on behalf of the Lender pursuant hereto, shall be in form suitable for transfer by delivery and, at the Lender's reasonable request, shall be delivered together with undated stock powers or other instruments of assignment, as applicable, duly executed in blank, appropriate endorsements or other necessary instruments of registration, transfer or assignment, duly executed and in form and substance reasonably satisfactory to the Lender, and in each case such other instruments or documents as the Lender reasonably may request. All certificates or instruments representing or evidencing any ULC/LLC Interests or Partnership Interests shall be held by the Company or on behalf of the Lender, with powers of attorney duly endorsed for transfer of the ULC/LLC Interests or Partnership Interests in blank.

Section 4.12    Perfection and Protection of Security Interest.

        The Company agrees that it shall perform, execute and deliver all acts, agreements, and other documents as may be reasonably requested by the Lender at any time to register, file, signify, publish, perfect, maintain, protect, and enforce the Security Interest including (i) executing, recording and filing of this security agreement and any other Loan Documents and financing or continuation statements in connection therewith, in form and substance satisfactory to the Lender, acting reasonably, and pay all taxes, fees and other charges payable in connection therewith, (ii) delivering to the Lender the originals of all instruments, documents and chattel paper and all other Collateral of which the Lender reasonably determines it should have physical possession in order to perfect and protect the Security Interest, duly endorsed or assigned to the Lender, other than certificates or instruments representing or evidencing any ULC/LLC Interests or Partnership Interests which shall be delivered with powers of attorney duly endorsed for transfer in blank but shall not be endorsed or assigned until the Security Interest in the ULC/LLC Interests has become enforceable and the Lender has exercised realization and enforcement rights pursuant to Section 5.6 of this security agreement, (iii) delivering to the Lender warehouse receipts covering any portion of the Collateral located in warehouses and for which warehouse receipts are listed, (iv) placing notations on its books of account to disclose the Security Interest, (v) delivering to the Lender all letters of credit on which the Company is named beneficiary, and (vi) taking such other steps as are deemed necessary by the Lender, acting reasonably, to maintain the Security Interest.

16

Section 4.13    Intellectual Property.

(1)

On a quarterly basis, the Company shall inform the Lender as to whether the Company has acquired any registered Copyrights, Patents or Trademarks or effected any registration of any Copyrights, Patents or Trademarks, or filed any application for registration thereof, whether within Canada or any other country or jurisdiction, together with information sufficient to permit the Lender, upon its receipt of such notice, to (and the Company hereby authorizes the Lender to) modify this security agreement, as appropriate, by amending Schedule D hereto or to add additional schedules hereto to include any such Copyrights, Patents or Trademarks that becomes part of the Collateral under this security agreement, and the Company shall additionally, at its own expense, execute and deliver with regard to any such Copyrights, Patents or Trademarks, fully completed grants of security interest in the form acceptable to the Lender, together in all instances with any other agreements, instruments and documents that Lender may reasonably request from time to time to further effect and confirm the assignment and grant of security interest created by this security agreement in such Copyrights, Patents or Trademarks.

(2)

Subject to Section 4.1, the Company (either itself or through its licensees or its sublicensees) shall, for each material Trademark used in the conduct of its business, use commercially reasonable efforts to (i) maintain such Trademark in full force and effect, free from any claim of abandonment or invalidity for non-use, (ii) maintain the quality of products and services offered under such Trademark, (iii) display such Trademark with notice of registration to the extent required by applicable law (iv) take all commercially reasonable steps to police and defend such Trademark and prevent or arrest infringement, dilution or other harm to such Trademark and (v) not knowingly use or knowingly permit the use of such Trademark in violation of any third-party rights.

(3)

Subject to Section 4.1, the Company (either itself or through its licensees or sublicensees) will refrain from committing any act, or omitting any act, whereby any material Patent used in the conduct of the Company's business may become invalidated or dedicated to the public, and shall continue to mark any products covered by such a Patent with the relevant patent number as required by applicable patent laws.

(4)

Subject to Section 4.1, the Company (either itself or through its licensees or sublicensees) will, for each work covered by a material Copyright, continue to publish, reproduce, display, adopt and distribute the work with appropriate copyright notice as required under applicable copyright laws.

(5)

The Company shall notify the Lender immediately if it knows or has reason to know that any material Copyright, Patent or Trademark used in the conduct of its business may become abandoned or dedicated to the public, or of any material adverse determination or development (including the institution of, or any such determination or development in, any proceeding in the Canadian Intellectual Property Office or any court) regarding the Company's ownership of any material Copyright, Patent or Trademark, its right to register the same, or to keep and maintain the same.

(6)

Subject to Section 4.1, the Company will take all commercially reasonable steps in any proceeding before the Canadian Intellectual Property Office or any other office or agency in any political subdivision of Canada or in any other country or any political subdivision thereof, to maintain and pursue each application relating to any material Copyright, Patent or Trademark useful for its business (and to obtain the relevant grant or registration) and to maintain each registration of any material Copyright, Patent or Trademark useful for its business, including the filing of applications for renewal, affidavits of use, affidavits of incontestability and maintenance fees, and, if consistent with sound business judgment, to initiate opposition, interference and cancellation proceedings against third parties.

17

(7)

Subject to Section 4.1, in the event that any Collateral consisting of a material Copyright, Patent or Trademark useful in the conduct of the Company's business is believed infringed, misappropriated or diluted by a third party, the Company shall notify Lender promptly after it learns thereof and shall, if consistent with sound business judgment, promptly sue for infringement, misappropriation or dilution and to recover any and all damages for such infringement, misappropriation or dilution, and take such other actions as are appropriate under the circumstances to protect such Collateral.

(8)

Upon the occurrence and during the continuance of an Event of Default, the Company shall use commercially reasonably efforts to obtain all requisite consents or approvals from the licensor of each material IP License used in the conduct of its business included within the Collateral to effect the assignment of all of the Company's right, title and interest thereunder to the Lender or its designee.

ARTICLE 5
ENFORCEMENT

Section 5.1    Enforcement.

        The Security Interest shall be and become enforceable against the Company upon the occurrence and during the continuance of an Event of Default and in the case of the Partnership Interests or ULC/LLC Interests, in addition to the foregoing, when notice shall have been given as set out in Section 5.6. Any reference herein to "whenever the Security Interest has become enforceable", shall mean, with respect to and in the case of any Security Interest in ULC/LLC Interests, after notice has been given as set out in Section 5.6.

Section 5.2    Remedies.

(1)

Whenever the Security Interest has become enforceable, the Lender may realize upon the Collateral and enforce its rights by:

(a)

entry onto any premises where Collateral consisting of tangible personal property may be located;

(b)

entry into possession of the Collateral by any method permitted by law;

(c)

sale or lease of all or any part of the Collateral;

(d)

collection of any proceeds arising in respect of the Collateral;

(e)

exercise and enforce all rights and remedies of a holder of the Securities and Instruments as if the Lender were the absolute owner thereof (including, if necessary, causing the Collateral to be registered in the name of the Lender or its nominee if not already done);

(f)

instruction to all banks which have entered into a control agreement with the Lender to transfer all moneys, Equity Interests and Instruments held by such depositary bank to an account maintained with or by the Lender;

(g)

collection, realization or sale of, or other dealing with, the Accounts;

(h)

appointment by instrument in writing of a receiver (which term as used in this security agreement includes a receiver and manager) or agent of all or any part of the Collateral and removal or replacement from time to time of any receiver or agent;

(i)

institution of proceedings in any court of competent jurisdiction for the appointment of a receiver of all or any part of the Collateral;

(j)

institution of proceedings in any court of competent jurisdiction for sale or foreclosure of all or any part of the Collateral;

18

(k)

filing of proofs of claim and other documents to establish claims to the Collateral in any proceeding relating to the Company; and



(l)

any other remedy or proceeding authorized or permitted under the PPSA or otherwise by law or equity.

(2)

Such remedies may be exercised from time to time separately or in combination and are in addition to, and not in substitution for, any other rights of the Lender however created. The Lender shall not be bound to exercise any right or remedy, and the exercise of any rights and remedies shall be without prejudice to the rights of the Lender in respect of the Secured Obligations including the right to claim for any deficiency.

Section 5.3    Additional Rights.

        In addition to the remedies set forth in Section 5.2, the Lender may, whenever the Security Interest has become enforceable:

(a)

require the Company, at the Company's expense, to assemble the Collateral at a place or places designated by notice in writing and the Company agrees to so assemble the Collateral;



(b)

require the Company, by notice in writing, to disclose to the Lender the location or locations of the Collateral and the Company agrees to make such disclosure when so required;



(c)

repair, process, modify, complete or otherwise deal with the Collateral and prepare for the disposition of the Collateral, whether on the premises of the Company or otherwise;



(d)

carry on all or any part of the business of the Company and, to the exclusion of all others including the Company, enter upon, occupy and use all or any of the premises, buildings, and other property of or used by the Company for such time as the Lender sees fit, free of charge, and the Lender shall not be liable to the Company for any act, omission or negligence (other than arising from the Lender's wilful misconduct or gross negligence) in so doing or for any rent, charges, depreciation or damages incurred in connection with or resulting from such action;



(e)

require the Company to engage a consultant or consultants of the Lender's choice, or engage a consultant or consultants on behalf of the Lender, such consultant to receive the full cooperation and support of the Company and its officers and employees, including unrestricted access to the premises and books and records of the Company; all reasonable fees and expenses of any such consultant shall be for the account of the Company and the Company hereby authorizes any such consultant to report directly to the Lender and to disclose to the Lender any and all information obtained by such consultant;



(f)

borrow for the purpose of carrying on the business of the Company or for the maintenance, preservation or protection of the Collateral and grant a security interest in the Collateral, whether or not in priority to the Security Interest, to secure repayment; and



(g)

commence, continue or defend any judicial or administrative proceedings for the purpose of protecting, seizing, collecting, realizing or obtaining possession or payment of the Collateral, and give good and valid receipts and discharges in respect of the Collateral and compromise or give time for the payment or performance of all or any part of the accounts or any other obligation of any third party to the Company.

19

Section 5.4    Receiver's Powers.

(1)

Any receiver appointed by the Lender shall be vested with the rights and remedies which could have been exercised by the Lender in respect of the Company or the Collateral and such other powers and discretions as are granted in the instrument of appointment and any supplemental instruments. The identity of the receiver, its replacement and its remuneration shall be within the sole and unfettered discretion of the Lender.

(2)

Any receiver appointed by the Lender shall act as agent for the Lender for the purposes of taking possession of the Collateral, but otherwise and for all other purposes (except as provided below), as agent for the Company. The receiver may sell, lease, or otherwise dispose of Collateral as agent for the Company or as agent for the Lender as the Lender may determine in its discretion. The Company agrees to ratify and confirm all actions of the receiver acting as agent for the Company, and to release and indemnify the receiver in respect of all such actions.

(3)

The Lender, in appointing or refraining from appointing any receiver, shall not incur liability to the receiver, the Company or otherwise and shall not be responsible for any misconduct or negligence of the receiver (other than liability arising from the wilful misconduct or gross negligence of the receiver).

Section 5.5    Appointment of Attorney.

        The Company irrevocably appoints the Lender (and any of its officers) as attorney of the Company (with full power of substitution) to do, make and execute, in the name of and on behalf of the Company, whenever the Security Interest has become enforceable, all such further acts, documents, matters and things which the Lender, acting reasonably, may deem necessary or advisable to accomplish the purposes of this security agreement including the execution, endorsement and delivery of documents and any notices, receipts, assignments or verifications of the accounts. All acts of the attorney are ratified and approved, and the attorney shall not be liable for any act, failure to act or any other matter or thing, except for its own gross negligence or wilful misconduct.

Section 5.6    Realization on Partnership Interests and ULC/LLC Interests.

        The Security Interest shall not be or become enforceable with respect to Collateral that is Partnership Interests or ULC/LLC Interests unless written notice is provided to the Company by the Lender in accordance with Section 5.1 that, (i) specifically identifies this security agreement, (ii) refers to this Section 5.6, and (iii) stating that the Security Interest has become enforceable with respect to the Partnership Interests and ULC/LLC Interests specifically identified in such notice. The parties hereto agree that, unless the Lender has become the absolute owner of Collateral consisting of Partnership Interests or ULC/LLC Interests by exercising realization and enforcement rights pursuant to this Section 5.6, this security agreement shall not be construed to make the Lender liable as a member of any limited liability company, unlimited liability company or partnership and the Lender by virtue of this security agreement or otherwise shall not have any of the duties, obligations or liabilities of a member of any limited liability company, unlimited liability company or partnership.

Section 5.7    Dealing with the Collateral.

(1)

The Lender shall not be obliged to exhaust its recourse against the Company or any other person or against any other security it may hold in respect of the Secured Obligations before realizing upon or otherwise dealing with the Collateral in such manner as the Lender may consider desirable.

(2)

The Lender may grant extensions or other indulgences, take and give up securities, accept compositions, grant releases and discharges and otherwise deal with the Company and with other

20

persons, sureties or securities as it may see fit without prejudice to the Secured Obligations, the liability of the Company or the rights of the Lender in respect of the Collateral.

(3)

Except as otherwise provided by law or this security agreement, the Lender shall not be (i) liable or accountable for any failure to collect, realize or obtain payment in respect of the Collateral, (ii) bound to institute proceedings for the purpose of collecting, enforcing, realizing or obtaining payment of the Collateral or for the purpose of preserving any rights of any persons in respect of the Collateral, (iii) responsible for any loss occasioned by any sale or other dealing with the Collateral or by the retention of or failure to sell or otherwise deal with the Collateral, or (iv) bound to protect the Collateral from depreciating in value or becoming worthless.

Section 5.8    Standards of Sale.

        Without prejudice to the ability of the Lender to dispose of the Collateral in any manner which is commercially reasonable, the Company acknowledges that:

(a)

Collateral may be disposed of in whole or in part;



(b)

Collateral may be disposed of by public auction, public tender or private contract, with or without advertising and without any other formality;



(c)

any assignee of such Collateral may be a customer of the Lender;



(d)

a disposition of Collateral may be on such terms and conditions as to credit or otherwise as the Lender, in its sole discretion, may deem advantageous; and



(e)

the Lender may establish an upset or reserve bid or price in respect of Collateral.

Section 5.9    Dealings by Third Parties.

(1)

No person dealing with the Lender or an agent or receiver shall be required to determine (i) whether the Security Interest has become enforceable, (ii) whether the powers which such person is purporting to exercise have become exercisable, (iii) whether any money remains due to the Lender by the Company, (iv) the necessity or expediency of the stipulations and conditions subject to which any sale or lease is made, (v) the propriety or regularity of any sale or other dealing by the Lender with the Collateral, or (vi) how any money paid to the Lender has been applied.

(2)

Any purchaser of all or any part of the Collateral from the Lender or a receiver or agent shall hold the Collateral absolutely, free from any claim or right of whatever kind, including any equity of redemption, of the Company, which it specifically waives (to the fullest extent permitted by law) as against any such purchaser together with all rights of redemption, stay or appraisal which the Company has or may have under any rule of law or statute now existing or hereafter adopted.

Section 5.10    Application of Proceeds.

        All Proceeds collected by Lender upon any sale, other disposition of or realization upon any of the Collateral, together with all other moneys received by Lender hereunder, shall be applied as follows:

(a)

first, to the payment of all costs and expenses of such sale, disposition or other realization, including the costs and expenses of Lender and the fees and expenses of its agents and counsel, all amounts advanced by Lender for the account of the Company, and all other amounts payable to Lender under Section 2.2(2);



(b)

second, after payment in full of the amounts specified in clause (i) above, to the payment of all Secured Obligations owing to Lender; and

21

(c)

third, after payment in full of the amounts specified in clauses (i) and (ii) above, and following the termination of this security agreement, to the Company or any other Person lawfully entitled to receive such surplus.

ARTICLE 6
GENERAL

Section 6.1    Discharge.

        The Security Interest shall be discharged upon, but only upon, (i) full payment and performance of the Secured Obligations, and (ii) the Lender having no obligations under the Loan Documents or otherwise. Upon discharge of the Security Interest and at the request and expense of the Company, the Lender shall execute and deliver to the Company such releases and discharges as the Company may reasonably require.

Section 6.2    Amendments, etc.

        No amendment or waiver of any provision of this security agreement, nor consent to any departure by the Company from such provisions, is effective unless in writing and approved by the Lender. Any amendment, waiver or consent is effective only in the specific instance and for the specific purpose for which it was given.

Section 6.3    Waivers.

        No failure on the part of the Lender to exercise, and no delay in exercising, any right under this security agreement shall operate as a waiver of such right; nor shall any single or partial exercise of any right under this security agreement preclude any other or further exercise of such right or the exercise of any other right.

Section 6.4    No Merger.

        This security agreement shall not operate by way of merger of any of the Secured Obligations and no judgment recovered by the Lender shall operate by way of merger of, or in any way affect, the Security Interest, which is in addition to, and not in substitution for, any other security now or hereafter held by the Lender in respect of the Secured Obligations.

Section 6.5    Further Assurances.

        The Company shall from time to time, whether before or after the Security Interest shall have become enforceable, do all acts and things and execute and deliver all transfers, assignments and instruments as the Lender may reasonably require for (i) protecting the Collateral, (ii) perfecting the Security Interest, and (iii) exercising all powers, authorities and discretions conferred upon the Lender. The Company shall, from time to time after the Security Interest has become enforceable, do all acts and things and execute and deliver all transfers, assignments and instruments as the Lender may reasonably require for facilitating the sale or other disposition of the Collateral in connection with its realization.

Section 6.6    Supplemental Security.

        This security agreement is in addition and without prejudice to and supplemental all other security now held or which may hereafter be held by the Lender.

22

Section 6.7    Notices.

        Any notices, directions or other communications provided for in this security agreement shall be in writing and given in accordance with the provisions of the Purchase Agreement.

Section 6.8    Successors and Assigns.

        This security agreement shall be binding upon the Company, its successors and assigns, and shall enure to the benefit of the Lender and its successors and assigns. All rights of the Lender shall be assignable.

Section 6.9    Severability.

        If any provision of this security agreement shall be deemed by any court of competent jurisdiction to be invalid or void or to otherwise render the Lender subject to the status, duties, obligations, or liabilities of a member or partner of an unlimited company or a limited liability company or a partnership described in Section 2.9(2) hereto, other than by the exercise of realization and enforcement rights pursuant to Section 5.6 of this security agreement, then the provision or provisions shall be severed from this security agreement and the remaining provisions shall remain in full force and effect.

Section 6.10    Lender Not A Partner Or Member Etc.

(1)

Nothing herein shall be construed to make the Lender liable as a member of any limited liability company or any unlimited company or as a partner of any partnership and the Lender shall not have any of the duties, obligations or liabilities of a member of any limited liability company or any unlimited liability company or of a partner of any partnership by virtue of this security agreement (except as referred to in the following sentence). The parties hereto expressly agree that, unless the Lender shall become the absolute owner of Collateral consisting of any ULC/LLC Interests or Partnership Interests pursuant to Section 5.6 hereto, this security agreement shall not be construed as making the Lender a member of any limited liability company or any unlimited liability company or of a partner of any partnership or creating a partnership or joint venture among the Lender and/or the Company and/or any other Person.

(2)

Except as provided in the last sentence of Section 6.10(1), the Lender by accepting this security agreement, did not intend to become a member of any limited liability company or any unlimited liability company or a partner of any partnership or otherwise be deemed to be a co-venturer with respect to the Company, any limited liability company, unlimited company, partnership and/or any other Person either before or after an Event of Default shall have occurred. The Lender shall have only those powers set forth herein and shall assume none of the duties, obligations or liabilities of a member of any limited liability company or any unlimited liability company or as a partner of any partnership except as provided in the last sentence of Section 6.10(1).

(3)

The Lender shall not be obligated to perform or discharge any obligation of the Company as a result of the security interest in ULC/LLC Interests and Partnership Interests hereby effected.

(4)

The acceptance by the Lender of this security agreement, with all the rights, powers, privilege and authority so created, shall not at any time or in any event obligate the Lender to appear in or defend any action or proceeding relating to the ULC/LLC Interests or Partnership Interests to which it is not a party, or to take any action hereunder or thereunder, or to expend any money or incur any expenses or perform or discharge any obligation, duty or liability in connection with the ULC/LLC Interests or Partnership Interests.

23

Section 6.11    Governing Law.

        This security agreement shall be governed by and interpreted and enforced in accordance with the laws of the Province of Ontario and the laws of Canada applicable therein.

Section 6.12    Confidentiality.

        Except to the extent expressly authorized by this security agreement or otherwise agreed in writing, the Parties agree that the receiving Party shall keep confidential and shall not publish or otherwise disclose or use for any purpose other than as permitted under this security agreement any Confidential Information (as defined below), in whole or in part, of the disclosing Party, except to the extent that it can be established by the receiving Party that such Confidential Information:

(1)

was already known to the receiving Party, other than under an obligation of confidentiality, at the time of disclosure by the other Party;

(2)

was generally available to the public or otherwise part of the public domain at the time of its disclosure to the receiving Party;

(3)

became generally available to the public or otherwise part of the public domain after its disclosure and other than through any act or omission of the receiving Party in breach of this security agreement;

(4)

was disclosed to the receiving Party, other than under an obligation of confidentiality, by a third party who had no obligation to the disclosing Party not to disclose such information to others; or

(5)

was subsequently developed by the receiving Party without use of the Confidential Information as demonstrated by competent written records.

        The receiving Party shall protect the confidentiality of the disclosing Party's Confidential Information with the same degree of care that it exercises with respect to its own information of a like nature, but in no event less than reasonable care. Access to the disclosing Party's Confidential Information shall be restricted to the employees, advisors, consultants and agents of the receiving Party and its Subsidiaries, who, in each case, need to have access to carry out a permitted use and are bound in writing to maintain the confidentiality of such Confidential Information. The Confidential Information, and all copies of part or all thereof, shall be and remain the exclusive property of the disclosing Party, and the receiving Party shall acquire only such rights as are expressly set forth in this security agreement and only for as long as such rights are in effect.

        For purposes of this security agreement, the term "Confidential Information" shall mean (i) all tangible materials (including all chemical and biological materials), and (ii) all ideas and information of any kind, whether in written, oral, graphical, machine-readable or other form, whether or not marked or identified as confidential or proprietary, which are transferred, disclosed or made available by either Party to the other; and the term "Party" means a party to this security agreement.

IN WITNESS WHEREOF the Company has executed this security agreement.

MDS PROTEOMICS
By:	/s/  AMIL AMLANI Authorized Signing Officer
By:	/s/  DAVID T. PATTERSON Authorized Signing Officer

24

EXHIBIT A

FORM OF
LANDLORD'S WAIVER AND CONSENT

LANDLORD'S WAIVER AND CONSENT dated as of                        ,            , is made by                        the ("Landlord"), for the benefit of Cephalon, Inc., having an office at 145 Brandywine Parkway, West Chester, PA 19380, Attn: General Counsel (the "Lender").

        Subject to and in accordance with the terms and conditions of a certain Note Purchase Agreement, dated January 7, 2003 (the "Purchase Agreement"), the Lender has extended a loan to MDS Proteomics Inc. (the "Borrower") and secured in whole or in part pursuant to one or more agreements, instruments and other documents (collectively, the "Security Agreements") granting security interests in and liens on, among other things, all presently owned and hereafter acquired personal property (collectively, the "Collateral") of the Borrower and certain of its subsidiaries, (the Borrower and such subsidiaries, if any, are referred to herein collectively as the "Debtors" and each is referred to herein as a "Debtor").

        Any or all of the Collateral is or may be installed or kept at the premises owned by the Landlord and leased to a Debtor located at                        , (the "Premises").

        In order to induce the Lender to make the loan to the Borrower described in the Purchase Agreement, the Landlord has agreed to execute and deliver this Agreement in favour of Lender.

        NOW THEREFORE, the Landlord, for good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, hereby agrees as follows:

1.

The Landlord (i) consents to the installation or location of the Collateral in or on the Premises, (ii) agrees that any right, claim, title, interest or lien in respect of any of the Collateral (including without limitation any right of distraint, levy, execution or sale) that the Landlord may have or acquire for any reason or in any manner (including by reason of the Collateral being installed in or on, attached to or located in or on the Premises, or otherwise), whether arising under any agreement, instrument or law now or hereafter in effect, is hereby made fully subordinate, subject and inferior to every right, claim, title, interest and lien in respect of the Collateral in favour of the Lender to the full extent that the same secures or may hereafter secure any and all obligations and indebtedness of every kind, now existing or hereafter arising, of the Debtors, or any of them, to Lender, and (iii) further agrees that the Collateral is and will remain personal property and will not become part of the Premises.



2.

The Landlord hereby agrees that so long as this Agreement is in effect, the Landlord shall not exercise or attempt to exercise any right, assert any claim, title or interest in or lien upon, or take any action or institute any proceedings with respect to, the Collateral. The Landlord agrees to use commercially reasonable efforts to give Lender written notice of any event which, with or without the giving of notice or passage of time or both, could result in the creation of the right of the Landlord to terminate any lease ("Lease") covering all or any part of the Premises or to accelerate any rent due thereunder. The Landlord, simultaneously with the giving by the Landlord of any notice of default to the then tenant under a Lease, shall send by registered or certified mail, return receipt requested, or by a reputable overnight courier, to Lender a photostat or xerox copy of such notice of default.



3.

The Lender and its agents, representatives and designees may, at any time and from time to time upon prior notice to the Landlord (which may be oral), enter the Premises without the consent of the Landlord and remove and take possession of the Collateral, provided that such parties restore any parts of the Premises physically damaged by them in the course of removal to the condition such parts were in prior to such entry and removal of the Collateral (but the foregoing shall not impose any liability upon Lender for any damage by fire or other insurable casualty). The rights, claims, interests and liens of Lender to the Collateral located on the

Premises shall be senior to the rights, claims, interests and liens of the Landlord with respect to such Collateral.

4.

The provisions hereof shall be irrevocable and remain in full force and effect until each Debtor has fully paid and performed all of obligations to Lender under and in accordance with the terms of all present and future agreements, instruments and documents evidencing such obligations and all present and future Security Agreements (in each case including any extensions, modifications and renewals thereof or substitutions therefor at any time made), and until all obligations, if any, of Lender to extend loans, advances, or provide other financial accommodations to the Debtors (including any commitment to lend or issue or confirm or participate in letters of credit) shall be terminated.



5.

This Agreement shall be binding upon the Landlord and its successors and assigns and shall inure to the benefit of Lender and its successors, assigns, and designees. The Landlord agrees to make this Agreement known to any transferee of the Premises and any person who may have an interest or right in the Premises. The Landlord acknowledges and agrees that the provisions set forth in this Agreement are, and are intended to be, an inducement and consideration to Lender to make, or permit to remain outstanding, loans, advances and financial accommodations to the Debtors, and Lender shall be deemed conclusively to have relied upon such provisions in making, or permitting, to remain outstanding, such loans, advances and financial accommodations, and Lender is made an obligee hereunder and may directly enforce the provisions hereof.

2

IN WITNESS WHEREOF, the Landlord has duly executed this Agreement as of the date and year first above written.

[Name of Landlord]
By:	Authorized Signing Officer
By:	Authorized Signing Officer

3

QuickLinks

TABLE OF CONTENTS
SECURITY AGREEMENT
ARTICLE 1 INTERPRETATION
ARTICLE 2 SECURITY
ARTICLE 6 GENERAL
EXHIBIT A FORM OF LANDLORD'S WAIVER AND CONSENT

EX-21

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 21

Cephalon, Inc.
Subsidiaries

Name	Jurisdiction of Incorporation
Anesta Corp.	Delaware
Anesta GmbH	Switzerland
Anesta Investments, Inc.	Delaware
Anesta Technology, Inc.	Delaware
Anesta UK Limited	United Kingdom
Cephalon Australia Pty Limited	Australia
Cephalon (Bermuda) Limited	Bermuda
Cephalon Development Corporation	Delaware
Cephalon Financiere Luxembourg S.a.r.l.	Luxembourg
Cephalon France SA	France
Cephalon France Holdings SAS	France
Cephalon GmbH	Germany
Cephalon International Holdings, Inc.	Delaware
Cephalon Investments, Inc.	Delaware
Cephalon Luxembourg S.a.r.l	Luxembourg
Cephalon Technologies Partners, Inc.	Delaware
Cephalon Technology, Inc.	Delaware
Cephalon Titrisation	France
Cephalon (UK) Limited	England and Wales
Cephalon Ventures, Inc.	Delaware
Farmalyoc	France
Financiere Lafon	France
Genelco SA	Switzerland
Lafon Pharma SA	France
Organisation de Synthese Mondiale Orsymonde	France
Societe Civile Immobiliere Martigny	France

QuickLinks

Cephalon, Inc. Subsidiaries

EX-23.1

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 23.1

CONSENT OF INDEPENDENT ACCOUNTANTS

        We hereby consent to the incorporation by reference in the previously filed Registration Statements on Forms S-3 (Nos. 33-74320, 333-20321, 333-75281, 333-88985, 333-94219, 333-62234, 333-59410, 333-82788, 333-89224) and Forms S-8 (Nos. 33-43716, 33-71920, 333-02888, 333-69591, 333-89909, 333-87421, 333-52640, 333-43104, 333-89228, 333-89230) of Cephalon, Inc. of our report dated March 14, 2003, relating to the financial statements and financial statement schedule, which appears in Cephalon Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 2002.

PricewaterhouseCoopers LLP

Philadelphia, Pennsylvania
March 31, 2003

QuickLinks

CONSENT OF INDEPENDENT ACCOUNTANTS

EX-23.2

QuickLinks -- Click here to rapidly navigate through this document

EXHIBIT 23.2

INFORMATION REGARDING CONSENT OF ARTHUR ANDERSEN LLP

        Section 11(a) of the Securities Act of 1933, as amended (the "Securities Act"), provides that if part of a registration statement at the time it becomes effective contains an untrue statement of a material fact, or omits a material fact required to be stated therein or necessary to make the statements therein not misleading, any person acquiring a security pursuant to such registration statement (unless it is proved that at the time of such acquisition such person knew of such untruth or omission) may assert a claim against, among others, an accountant who has consented to be named as having certified any part of the registration statement or as having prepared any report for use in connection with the registration statement.

        In June of 2002, Arthur Andersen LLP ("Andersen") was convicted of obstructing justice, which is a felony offense. The SEC prohibits firms convicted of a felony from auditing public companies. Andersen is thus unable to consent to the incorporation by reference of the Company's previously filed Registration Statements File No. 33-43716, No. 33-71920, No. 33-74320, No. 333-02888, No. 333-20321, No. 333-69591, No. 333-89909, No. 333-75281, No. 333-87421, No. 333-88985, No. 333-94219, No. 333-52640, No. 333-43104, No. 333-62234 and No. 333-59410 and Andersen's audit report with respect to Cephalon, Inc.'s consolidated financial statements as of December 31, 2001 and for the two years in the period then ended. Under these circumstances, Rule 437a under the Securities Act permits Cephalon, Inc. to file this Annual Report on Form 10-K, which is incorporated by reference into the above referenced Registration Statements, without a written consent from Andersen. As a result, with respect to transactions in Cephalon, Inc. securities pursuant to the Registration Statements that occur subsequent to the date this Annual Report on Form 10-K is filed with the Securities and Exchange Commission, Andersen will not have any liability under Section 11(a) of the Securities Act for any untrue statements of a material fact contained in the financial statements audited by Andersen or any omissions of a material fact required to be stated therein. Accordingly, you would be unable to assert a claim against Andersen under Section 11(a) of the Securities Act.

QuickLinks

INFORMATION REGARDING CONSENT OF ARTHUR ANDERSEN LLP

EX-99.1

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 99.1

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002*

        In connection with the Annual Report of Cephalon, Inc. (the "Company") on Form 10-K for the fiscal year ended December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Frank Baldino, Jr., Chairman and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, based on my knowledge, that:

        (1)  The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

        (2)  The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

/s/  FRANK BALDINO, JR. Frank Baldino, Jr., Ph.D.
Chairman and Chief Executive Officer

March 31, 2003

*

A signed original of this written statement required by Section 906 has been provided to Cephalon, Inc. and will be retained by Cephalon, Inc. and furnished to the Securities and Exchange Commission or its staff upon request.

QuickLinks

CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

EX-99.2

QuickLinks -- Click here to rapidly navigate through this document

Exhibit 99.2

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002*

        In connection with the Annual Report of Cephalon, Inc. (the "Company") on Form 10-K for the fiscal year ended December 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, J. Kevin Buchi, Sr. Vice President and Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, based on my knowledge, that:

        (1)  The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

        (2)  The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

/s/  J. KEVIN BUCHI

J. Kevin Buchi
Sr. Vice President and Chief Financial Officer

March 31, 2003

*

A signed original of this written statement required by Section 906 has been provided to Cephalon, Inc. and will be retained by Cephalon, Inc. and furnished to the Securities and Exchange Commission or its staff upon request.

QuickLinks

CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002