10-Q 1 d13527_10q.htm

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

_________________

FORM 10-Q
_________________

(Mark One)

|X|

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

For the quarterly period ended September 30, 2003

|_|

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: 0-28272

AVIGEN, INC.
(Exact name of registrant as specified in its charter)

Delaware		13-3647113
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

1301 Harbor Bay Parkway
Alameda, California 94502
(Address of principal executive offices and zip code)

(510) 748-7150
(Registrant’s telephone number,
including area code)

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

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

As of November 6, 2003, the number of outstanding shares of the registrant’s Common Stock, $.001 par value, was 20,195,881.

AVIGEN, INC.
FORM 10-Q
Quarter Ended September 30, 2003

INDEX

	PART I. FINANCIAL INFORMATION
Item 1	Financial Statements (unaudited)
	Condensed Balance Sheets at September 30, 2003 and December 31, 2002	3
	Condensed Statements of Operations	4
	Three and nine months ended September 30, 2003 and 2002 and the period
	from October 22, 1992 (inception) through September 30, 2003
	Condensed Statements of Cash Flows	5
	Nine months ended September 30, 2003 and 2002 and the period from
	October 22, 1992 (inception) through September 30, 2003
	Notes to Condensed Financial Statements	6
Item 2	Management’s Discussion and Analysis of Financial Condition and Results
	of Operations	11
Item 3	Quantitative and Qualitative Disclosures About Market Risk	32
Item 4	Controls and Procedures	33
	PART II. OTHER INFORMATION
Item 1	Legal Proceedings	33
Item 2	Changes in Securities and Use of Proceeds	33
Item 3	Defaults upon Senior Securities	34
Item 4	Submission of Matters to a Vote of Security Holders	34
Item 5	Other Information	34
Item 6	Exhibits and Reports on Form 8-K	35
SIGNATURES

Coagulin-B^® is a registered trademark of Avigen, Inc.
Coagulin-A™ is a trademark of Avigen, Inc.

Item 1.

Financial Statements

AVIGEN, INC.
(a development stage company)

CONDENSED BALANCE SHEETS
(in thousands, except share and per share information)

	September 30, 2003		December 31, 2002
	(Unaudited)		(Note 1)
ASSETS
Current Assets:
Cash and cash equivalents	$ 6,246		$ 7,879
Available-for-sale securities	87,100		99,845
Accrued interest	957		993
Prepaid expenses and other current assets	684		458

Total current assets	94,987		109,175
Restricted investments	11,928		11,500
Property and equipment, net	16,131		18,726
Deposits and other assets	912		1,285

Total assets	$ 123,958		$ 140,686

LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable and other accrued liabilities	$ 1,748		$ 1,156
Accrued compensation and related expenses	520		621
Deferred revenue — current	500		—

Total current liabilities	2,768		1,777
Long-term loan payable	8,000		8,000
Deferred rent	927		852
Deferred revenue	1,750		—
Stockholders’ equity:
Preferred Stock, $0.001 par value, 5,000,000 shares
authorized, none issued and outstanding	—		—
Common Stock, $0.001 par value, 50,000,000 shares
authorized, 20,164,009 and 20,100,546 shares issued and
outstanding at September 30, 2003 and December 31, 2002,
respectively	20		20
Additional paid-in capital	235,562		235,337
Accumulated other comprehensive income	757		1,582
Deficit accumulated during development stage	(125,826	)	(106,882	)

Total stockholders’ equity	110,513		130,057

Total liabilities and stockholders’ equity	$ 123,958		$ 140,686

See accompanying notes.

AVIGEN, INC.
(a development stage company)

CONDENSED STATEMENTS OF OPERATIONS
(in thousands, except for share and per share information)
(unaudited)

	Three months ended September 30,				Nine months ended September 30,				Period from October 22, 1992 (inception) through September 30, 2003
	2003		2002		2003		2002
Revenue	$ 140		$ 13		$ 298		$ 29		$ 1,085
Operating expenses:
Research and development	5,594		6,329		15,985		19,456		102,341
General and administrative	2,084		2,144		5,635		5,726		42,059
In-license fees	—		—		—		—		5,034

Total operating expenses	7,678		8,473		21,620		25,182		149,434

Loss from operations	(7,538	)	(8,460	)	(21,322	)	(25,153	)	(148,349	)
Interest expense	(54	)	(44	)	(173	)	(190	)	(2,094	)
Interest income	699		1,414		2,602		4,239		24,725
Other expense, net	(16	)	(20	)	(51	)	(117	)	(108	)

Net loss	$ (6,909	)	$ (7,110	)	$ (18,944	)	$ (21,221	)	$(125,826	)

Basic and diluted net loss per common share	$ (0.34	)	$ (0.35	)	$ (0.94	)	$ (1.06	)

Shares used in basic and diluted net
loss per common share calculation	20,143,101		20,091,283		20,129,479		20,077,505

See accompanying notes.

AVIGEN, INC.
(a development stage company)

CONDENSED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)

	Nine months ended September 30,				Period from October 22, 1992 (inception) through September 30, 2003
	2003		2002
Operating Activities
Net cash used in operating activities	$(12,985	)	$(18,957	)	$(104,528	)

Investing Activities

Purchases of property and equipment	(309	)	(4,755	)	(27,465	)
Increase in restricted investments	(428	)	(1,500	)	(11,928	)
Purchase of available-for-sale securities	(58,072	)	(52,676	)	(598,653	)
Maturities of available-for-sale securities	69,993		71,764		512,313

Net cash provided by (used in) investing activities	11,184		12,833		(125,733	)

Financing Activities

Proceeds from long-term obligations	—		—		10,133
Payments on capital lease obligations	—		—		(2,154	)
Proceeds from warrants and options exercised	168		826		13,001
Proceeds from issuance of common stock, net of
issuance costs and repurchases	—		—		205,619
Other financing activities	—		—		9,908

Net cash provided by financing activities	168		826		236,507
Net (decrease) increase in cash and cash
equivalents	(1,633	)	(5,298	)	6,246
Cash and cash equivalents, beginning of period	7,879		13,211		—

Cash and cash equivalents, end of period	$ 6,246		$ 7,913		$ 6,246

Supplemental disclosure
Issuance of warrants in connection with building
lease extension	$ —		$ —		$ 1,738
Cash paid for interest	$ 173		$ 190		$ 1,601

See accompanying notes.

AVIGEN, INC.
(a development stage company)

NOTES TO CONDENSED FINANCIAL STATEMENTS

1. Interim Financial Statements

Our accompanying unaudited condensed financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments, consisting only of normal recurring adjustments and accruals, considered necessary for a fair presentation of the results for the interim periods presented have been included. Operating results reported for the three and nine months ended September 30, 2003 are not necessarily indicative of the results that may be expected for the entire year ending December 31, 2003. These unaudited interim financial statements should be read in conjunction with our audited financial statements and the notes thereto included in our Annual Report on Form 10-K for the period ended December 31, 2002, filed with the Securities and Exchange Commission.

The balance sheet at December 31, 2002 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.

We have reclassified certain prior year amounts to conform to our current year’s presentation of restricted investments as a long-term asset. The reclassification had no impact on our results of operations.

2. Stock-Based Compensation

The information regarding net loss and loss per share as required by FAS 123 “Accounting for Stock-Based Compensation” has been determined as if we had accounted for our employee stock options under the fair value method prescribed by FAS 123. The resulting effect on net loss and loss per share pursuant to FAS 123 is not likely to be representative of the effects on net loss and loss per share pursuant to FAS 123 in future years, since future years are likely to include additional grants and the irregular impact of future years’ vesting.

No stock-based employee compensation is reflected in our net loss as all options granted had an exercise price equal to the market value of our underlying common stock on the date of grant. The following table illustrates the effect on our net loss and loss per share if we had applied the fair value recognition provisions of FAS 123 to our stock-based employee compensation (in thousands, except for per share data):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2003		2002		2003		2002
Net Loss — as reported	$(6,909	)	$(7,110	)	$(18,944	)	$(21,221	)
Add: Stock-based employee compensation
included in reported Net Loss	—		—		28		—
Less: Total stock-based employee
compensation expense determined under the
fair-value-base method for all awards	(2,890	)	(3,742	)	(9,523	)	(11,598	)

Net loss — pro forma	$(9,799	)	$(10,852	)	$(28,439	)	$(32,819	)

Net loss per common share basic and diluted — as reported	$(0.34	)	$ (0.35	)	$ (0.94	)	$ (1.06	)

Net loss per common share basic and diluted — pro forma	$(0.49	)	$ (0.54	)	$ (1.41	)	$ (1.63	)

For purposes of disclosure pursuant to FAS 123, as amended by FAS 148, the estimated fair value of our employee stock options is amortized to expense over the vesting period of the options. We use the Black-Scholes option valuation model to estimate the fair value of our options on the date of grant. Options that were granted during the three and nine months ended September 30, 2003 and 2002 were valued with the following weighted average assumptions:

	Three Months Ended September 30,		Nine Months Ended September 30,
	2003	2002	2003	2002
Expected volatility	1.991	2.0901	2.0043	2.0901
Risk free interest rate	3.0%	4.00%	3.0%	4.00%
Expected life of options in years	5	5	5	5
Expected dividend yield	—	—	—	—

For equity awards to non-employees, including lenders, lessors and consultants, we apply the Black-Scholes method to determine the fair value of such investments. The options and warrants granted to non-employees are re-measured as they vest and the resulting value is recognized as an expense over the period of services received or the term of the related financing.

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options and warrants that have no vesting restrictions and are fully transferable. In addition, option valuation models, including Black-Scholes, require the input of highly subjective assumptions, including the expected stock price volatility. Because our stock options are not traded, they have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in our opinion, the existing option valuation models, including Black-Scholes, do not necessarily provide a reliable single measure of the fair value of our stock options.

3. Cash and Cash Equivalents, Available-for-sale Securities, and Restricted Investments

Cash and Cash Equivalents

We consider all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. These amounts are recorded at cost, which approximates fair market value.

Available-for-sale Securities

We invest our excess cash balances in marketable securities, primarily corporate debt securities, federal agency obligations, asset-backed securities, and municipal bonds, with the primary investment objectives of preservation of principal, a high degree of liquidity, and maximum total return. In accordance with Statement of Financial Accounting Standards No. 115, “Accounting for Certain Investments in Debt and Equity Securities,” we have classified our investments in marketable securities as available-for-sale. Available-for-sale securities are reported at market value and unrealized holding gains and losses, net of the related tax effect, if any, are excluded from earnings and are reported in other comprehensive income and as a separate component of stockholders’ equity until realized. A decline in the market value of a security below its cost that is deemed other than temporary is charged to earnings, and would result in the establishment of a new cost basis for the security.

Our available-for-sale securities consist principally of obligations with a minimum short-term rating of A1/P1 and a minimum long-term rating of A– and with effective maturities of less than three years. The cost of securities sold is based on the specific identification method. Interest on securities classified as available-for-sale is included in interest income.

Restricted Investments

In June 2000, we entered into a financing arrangement to support construction related activities. Under this arrangement, we have pledged $10.0 million of our portfolio of available-for-sale securities to secure this long-term obligation.

In January 2002, we entered into equipment operating leases for certain research and development equipment. Under the terms of these leases, we have pledged $1.5 million of our portfolio of available-for-sale securities to secure these equipment operating leases.

In May 2003, we secured two letters of credit to serve as security deposits in connection with a building lease that became effective July 1, 2003. This building lease was executed in February 2000 and replaced our previous building lease and sublease on the same premises that expired September 30, 2003 under the original terms of the agreements. Under the terms of these letters of credit, we have pledged $428,000 of our portfolio of available-for-sale securities to secure these letters of credit.

At September 30, 2003 and December 31, 2002, $11.9 million and $11.5 million, respectively, were classified as restricted investments in long-term assets, representing the combined aggregate portion of our portfolio for available-for-sale securities that was pledged in connection with these three long-term liabilities.

The following is a summary of cash, restricted investments, and available-for-sale securities as of September 30, 2003 (in thousands):

	Cost	Gross Unrealized Gains	Gross Unrealized Losses		Fair Value
Cash	$ 2,204	$ —	$—		$ 2,204
Corporate debt securities	49,336	369	(2	)	49,703
Federal agency obligations	28,467	173	—		28,640
Asset-backed and other securities	20,164	221	(4	)	20,381
Short-term municipals	2,700	—	—		2,700
Treasury obligations	1,646	1	(1	)	1,646

Total	104,517	764	(7	)	105,274
Amounts reported as:
Cash and cash equivalents	6,246	—	—		6,246
Restricted Investments	11,928	—	—		11,928

Available for sale securities	$ 86,343	$764	$(7	)	$ 87,100

The weighted average maturity of our investment portfolio at September 30, 2003 was 418 days, with $47.5 million carrying a weighted average maturity of less than twelve months, and $57.8 million carrying a weighted average maturity of between one and three years.

The following is a summary of cash, restricted investments, and available-for-sale securities as of December 31, 2002 (in thousands):

	Cost	Gross Unrealized Gains	Gross Unrealized Losses		Fair Value
Cash	$ 3,578	$ —	$ —		$ 3,578
Corporate debt securities	47,780	437	(11	)	48,206
Federal agency obligations	42,977	855	—		43,832
Asset-backed and other securities	23,307	301	—		23,608
Short-term municipals	—	—	—		—
Treasury obligations	—	—	—		—

Total	117,642	1,593	(11	)	119,224
Amounts reported as:
Cash and cash equivalents	7,879	—	—		7,879
Restricted Investments	11,500	—	—		11,500

Available for sale securities	$ 98,263	$1,593	$(11	)	$ 99,845

The weighted average maturity of investments held at December 31, 2002 was 421 days, with $56.3 million carrying a weighted average maturity of less than twelve months, and $62.9 million carrying a weighted average maturity of between one and three years.

4. Deferred Revenue

In March 2003, we received a $2.5 million payment from Bayer Corporation under the terms of our collaboration agreement for the development of Coagulin-B, our product candidate for the treatment of hemophilia B. This amount was recorded as deferred revenue and is being recognized as revenue in our statements of operations ratably over the estimated remaining development period for this product of five years, or approximately $125,000 per quarter.

5. Comprehensive Loss

Comprehensive loss is comprised of net loss and unrealized holding gains and losses on available-for-sale securities, in accordance with Statement of Financial Accounting Standards No. 130, “Reporting Comprehensive Income.”

(Amounts in thousands)	Three Months Ended September 30,				Nine Months Ended September 30,
	2003		2002		2003		2002
Net Loss	$(6,909	)	$(7,110	)	$(18,944	)	$(21,221	)
Net unrealized gain (loss) on
available-for-sale securities	(388	)	334		(825	)	(283	)

Comprehensive loss	$(7,297	)	$(6,776	)	$(19,769	)	$(21,504	)

6. Basic and Diluted Net Loss Per Share

Basic net loss per share is computed using the weighted-average number of common shares outstanding during the year. Securities that could potentially dilute basic earnings per share in the future, have been excluded from the diluted net loss per share computation because their inclusion would have been anti-dilutive, and were as follows:

	September 30,
	2003	2002
Stock options outstanding	4,424,064	4,273,991
Warrants to purchase common stock	1,222,568	1,324,322

	5,646,632	5,598,313

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

The following discussion may be understood more fully by reference to the financial statements, notes to the financial statements, and management’s discussion and analysis of financial conditions and results of operations contained in our Annual Report on Form 10-K for the year ended December 31, 2002, filed with the Securities and Exchange Commission on March 31, 2003.

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements include, but are not limited to, statements about future events and results regarding our drug development programs, clinical trials, receipt of regulatory approval, expense savings and cash burn rate resulting from the implementation of our revised strategic plan, capital needs, intellectual property, and other events. In some cases, you can identify forward-looking statements by such terms as “may,” “will,” “should,” “could,” “believe,” “anticipate,” “expect,” “intend,” and similar expressions intended to identify these statements as forward-looking statements. These statements involve known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Factors that might cause or contribute to such differences include uncertainties and delays in obtaining regulatory approval to proceed with clinical trials or to market products, the occurrence of extraordinary transactions or events and other factors discussed under the caption “Risk Factors” below and elsewhere in this report.

Overview

Since our inception in 1992, we have focused on the development of adeno-associated virus-based gene therapy products for the treatment of serious, chronic diseases. We have developed a proprietary gene delivery platform technology based on adeno-associated virus vectors, known as “AAV vectors”. We have assembled a broad base of proprietary intellectual property covering methods of transferring genes into cells, high-yield processes to manufacture contaminant-free AAV vectors, specific genes of interest and other proprietary technologies and processes. In addition, we have built the manufacturing capacity necessary to produce clinical-grade AAV vectors for our lead product candidates through commercial launch. We have also established expertise in preclinical research, manufacturing and manufacturing process scale-up, quality control, quality assurance, regulatory affairs and clinical trial design and implementation.

Our proposed gene delivery products are designed for the direct administration of DNA into the cells of patients in order to achieve expression of therapeutic proteins within the body as an alternative to existing pharmaceutical and surgical treatments. Traditional medicine primarily focuses on treating the symptoms of disease. We believe that our gene-based products, by targeting the root cause of the disease at the fundamental cellular level, have the potential to treat a wide variety of diseases and conditions that are not adequately addressed by current medical science.

Solving complex biological responses in the developing field of human genetics makes product development challenging; however, we believe that our AAV vectors have the potential to effectively deliver genes that will promote therapeutic responses in patients suffering from many types of diseases. Our efforts are primarily focused on our two lead product candidates. We are conducting a phase I clinical trial for our first lead product candidate, Coagulin-B, for the treatment of hemophilia B, with our collaborators at Stanford, the Children’s Hospital of Philadelphia, and the University of Pittsburgh.

We have enrolled six subjects in this trial, all of them were treated prior to December 2002. During the first nine months of 2003, we gathered and analyzed additional interim data from these subjects, with the primary focus on evaluating the cause of the unexpected response from one of the subjects which was reported in December 2002. That subject had demonstrated therapeutic circulating levels of factor IX for approximately four weeks, before experiencing a temporary elevation in the levels of two liver enzymes and a sudden decline in the effectiveness of the Coagulin-B treatment. As a result of this analysis, and after considering any potential health risks to future subjects, we submitted modifications to our clinical trial protocol to the Food and Drug Administration (FDA) to enhance subject monitoring and add dose cohorts. As of September 30, 2003, we had received approval from both the FDA and the Institutional Review Boards at both The Children’s Hospital of Philadelphia and Stanford University Medical Center to resume treating subjects.

In October 2003, we presented a proposed clinical protocol for our second lead product candidate, AV201, for the treatment of advanced Parkinson’s disease at a meeting of the National Institutes of Health (NIH) Recombinant DNA Advisory Committee (RAC). The RAC is charged with reviewing all human gene transfer clinical trials to be performed in U.S. clinical sites in which NIH funding is involved directly or indirectly, and all protocols that contain unique or novel issues. We incorporated the feedback from the RAC meeting and submitted an investigational new drug (IND) application to the FDA in early November 2003, along with a final plan for a clinical trial for AV201.

Our other programs include a second hemophilia product candidate for the treatment of hemophilia A, Coagulin-A, which is currently in preclinical development. The timing of any IND submission to the FDA for Coagulin-A will be based on the degree of later stage success of our Coagulin-B trial. We also have a number of other active research programs underway to explore additional potential neurologic, metabolic and cardiac disease targets.

Since our inception, we have devoted substantially all of our resources to research and development activities. We are a development stage company and have not received any revenue from the sale of products or any significant revenue from collaboration agreements. We do not anticipate generating revenue from the sale of products in the foreseeable future. We expect our source of revenue, if any, for the next several years to consist of payments under collaborative arrangements, government grants, and license fees. We have incurred losses since our inception and expect to continue to incur substantial losses at least over the next several years due to the lack of any substantial revenue and ongoing and planned research and development efforts, including preclinical studies and clinical trials. There can be no assurance that we will successfully develop, commercialize, manufacture, or market our products or ever achieve or sustain product revenues or profitability. At September 30, 2003, we had an accumulated deficit of $125.8 million and cash, cash equivalents, available-for-sale securities, and restricted investments of approximately $105.3 million. We believe that our capital resources at September 30, 2003 will be adequate to fund our current operating needs over the next three to four years.

Critical Accounting Policies

The preparation of our financial statements in conformity with accounting principles generally accepted in the United States requires management to make judgments, assumptions and estimates that affect the reported amounts of assets and liabilities 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 materially from those estimates. We believe the following accounting policies to be critical.

Revenue recognition

Revenue associated with up-front license, technology access and research and development funding payments under collaborative agreements is recognized ratably over the relevant periods specified in the agreements, generally the development phase. This development phase can be defined as a specified period of time, however, in certain cases, the collaborative agreement specifies a development phase that culminates with milestone objectives but does not have a fixed date and requires us to estimate the time period over which to recognize this revenue. Our estimated time periods are based on management’s estimate of the time required to achieve a particular development milestone considering our past experience with similar objectives, level of effort, and stage of development. If our estimate of the development phase time period increases, the amount of revenue we recognize related to up-front license and technology access fees for a given period would decrease.

Grant revenue is recorded in the period in which the revenue is earned as defined by the grant agreement and primarily includes amounts earned pursuant to reimbursements under government grants.

Royalty revenue from license agreements is recorded as earned in accordance with the contract terms when third-party results can be reliably determined and receipt of payment is reasonably assured.

Non-refundable product license fees, including fees associated with research license agreements, for which we have no further performance obligations, and no continuing involvement requirements, are recognized on the earlier of when the payments are received or when collection is assured.

Valuation of investments in financial instruments

Investments in financial instruments are carried at fair value with unrealized gains and losses included in accumulated other comprehensive income or loss in stockholders’ equity. Our investment portfolio does not include equity securities or derivative financial instruments that could subject us to material market risk; however, we do invest in corporate obligations that subject us to varying levels of credit risk. If the fair value of a financial instrument has declined below its carrying value for a period in excess of six consecutive months or if the decline is due to a significant adverse event, such that the carrying amount of these investments may not be fully recoverable, the impairment is considered other-than-temporary. An other-than-temporary decline in fair value of a financial instrument would be subject to write-down with a charge in net loss. The determination of whether a decline in fair value is other-than-temporary requires significant judgment, and could have a material impact on our balance sheet and results of operations. Our management reviews the securities within our portfolio for other-than-temporary declines in value with our investment advisors on a regular basis. For the nine months ended September 30, 2003, we did not have any write down as a result of our determinations that declines in fair value of financial instruments were other-than-temporary.

Impairment of property and equipment

We have invested significant amounts on construction for improvements to our research and development facilities, with the largest portion of our spending made to modify manufacturing facilities that are intended to comply with requirements of government mandated manufacturing rules for pharmaceutical production. These assets could be subject to write-down for impairment in the event that our facilities are deemed to fail to comply with these government mandated policies and procedures or if the product for which the manufacturing facilities have been constructed do not receive regulatory approval. These assets could also be subject to write-down to the extent that facilities could be idled due to the adoption of operating efficiencies for an other than a temporary period, resulting in excess capacity. The determination of whether an impairment in use is other-than-temporary requires significant judgment, and could have a material effect on our balance sheet and our results of operations. For the nine months ended September 30, 2003, we did not write down the value of any of our property and equipment for impairments in fair value.

Valuation allowance for net deferred tax assets

To date we have incurred significant tax losses that have resulted in deferred tax assets. Due to our history of losses and the uncertainty of generating taxable profits in the future, management has determined that a valuation allowance should be provided against the full amount of the net deferred tax assets. If the uncertainty regarding our ability to generate taxable income in the future changes, a reduction in the level of the valuation allowance may be required.

Research and development expenses

Our research and development expenses include salaries and benefits costs, fees for contractors and consultants, fees to collaborators for preclinical research studies, patient treatment costs related to clinical trials and related clinical manufacturing costs, license fees for use of third-party intellectual property rights, and an allocation of facilities and overhead costs.

Research and development expenses consist of costs incurred for drug and product development, manufacturing, clinical activities, discovery research, screening and identification of drug candidates, and preclinical studies. All such costs are charged to research and development expenses as incurred, with the costs of materials and other supplies charged to research and development expense upon receipt. The progress and timing of activities associated with our research and development efforts in the future may cause variability in the future level of our research and development spending.

Results of Operations

Three Months Ended September 30, 2003 and 2002

Revenue

Revenue was $140,000 for the three months ended September 30, 2003, compared to $13,000 for the same period in 2002. Revenue for the three months ended September 30, 2003 consisted of $2,000 in royalties, $13,000 in research license origination fees, and the recognition of $125,000 of deferred revenue from the $2.5 million payment received from Bayer in March 2003. This payment from Bayer is being recognized ratably over the estimated remaining development period of our hemophilia B product, which was estimated at five years from the date of the payment, resulting in revenue recognition of $125,000 per quarter beginning with the second quarter of 2003. Revenue for the three months ended September 30, 2002 consisted of $3,000 in royalties and $10,000 in research license origination fees. Research license agreements allow the licensee to make or use products using our patented AAV technologies for research purposes only, and do not allow for the use of our technologies in products for commercial sale. These licenses usually include initiation fees and annual maintenance fees. Royalty revenue is from a single royalty license, which allows for the development, manufacture, use and commercial sale of products using our patented AAV technologies. We entered into this license agreement in July 2000.

In the event that we enter a phase II/III clinical trial with our Coagulin-B product, we expect to earn additional revenues in connection with our collaboration agreement with Bayer, however, we cannot be certain when or if we will enter a phase II/III clinical trial. We do not expect to earn any other significant revenues for the foreseeable future.

Research and Development Expenses

Our research and development expenses totaled $5.6 million for the three months ended September 30, 2003, compared to $6.3 million for the same period in 2002. The decrease was primarily the result of strategic steps we took in the second half of 2002 to focus the work of our research and development organizations on our lead product development programs. This included a reduction in staff in October 2002 and the implementation of other operational efficiencies without limiting our production capabilities. Our staff count dedicated to research and development activities totaled 77 at September 30, 2003 compared to 139 at September 30, 2002, or a decrease of approximately 45%. In addition, during the last 12 months, we have limited our clinical manufacturing schedule to match the immediate needs of our trials and implemented new manufacturing efficiencies that have decreased our consumption and related expense for materials used to produce our AAV vector and to perform our in-house research. As a result of these changes, personnel-related expenses and expenses for materials used to produce our AAV vector and perform our in-house research for the three months ended September 30, 2003 decreased by approximately $725,000 and $650,000, respectively, from the same period in 2002. In addition, research and development expenses for the three months ended September 30, 2003 compared to the same period in 2002 decreased as expenditures to third-party collaborators associated with our clinical trial decreased by approximately $240,000, due to the fact that the last new subject that was treated in our trial was in November 2002, and expenses for consulting services decreased by approximately $215,000, primarily related to validation services for new facilities and other process improvements that were completed in 2002. These aggregate declines in comparable year-over-year research and development expenses were partially offset by higher expenses for services from third-party collaborators associated with our preclinical animal studies of approximately $950,000, primarily related to our work with Parkinson’s disease, and higher depreciation and other facilities-related expenses of approximately $240,000 for the three months ended September 30, 2003 compared to the same period in 2002.

We expect total research and development spending for the year ending December 31, 2003 to remain below the levels reported for the full year of 2002 due to the benefits from the cost reductions associated with the strategic steps we took in the second half of 2002, as described above, as well as from expected further efficiencies in our vector production processes. We also expect that total research and development spending in 2004 will begin to increase from our 2003 levels as we continue to conduct our hemophilia B clinical trial, which as of September 30, 2003 had received approval from the FDA and clinical site Institutional Review Boards to resume treating subjects, begin a new Parkinson’s Disease clinical trial, which we expect to begin in 2004 once we receive the approval of our IND filing with the FDA, and to the extent we enhance our manufacturing capabilities and expand our research and development programs for additional gene therapy applications.

General and Administrative Expenses

General and administrative expenses totaled $2.1 million for each of the three months ended September 30, 2003 and 2002. General and administrative expenses were slightly lower in the third quarter of 2003 compared to the same quarter in 2002 due to lower bonus accruals and decreases in other personnel-related costs of approximately $130,000, which was partially offset by higher patent-related legal fees and facilities-related expenses of approximately $90,000. We expect our general and administrative expenses for the year ending December 31, 2003 to approximate the levels reported for the 2002 year and to remain steady or increase slightly in subsequent years from the 2003 full-year levels.

Interest Income

Interest income totaled $699,000 for the three months ended September 30, 2003, down from $1.4 million for the three months ended September 30, 2002. Almost all of our interest income is generated from our investments in high-grade marketable securities of government and corporate debt.

The decrease in interest income for the quarter ended September 30, 2003 as compared to the same period in 2002 was primarily due to the decline in market interest rates between the two periods, as well as the decrease in outstanding cash and securities balances as resources were used to fund our on-going operations.

Nine Months Ended September 30, 2003 and 2002

Revenue

Revenue was $298,000 for the nine months ended September 30, 2003 compared to $29,000 for the nine months ended September 30, 2002. Revenue for the 2003 period included the recognition of $250,000 of deferred revenue from the $2.5 million payment received from Bayer in March 2003, as described above. Revenue for the 2003 period also consisted of $7,000 in royalties and $41,000 in new and annual maintenance research license fees. Revenue for the 2002 period consisted of $16,000 in royalties and $13,000 in new and annual maintenance research license fees.

Research and Development Expenses

Our research and development expenses totaled $16.0 million for the nine months ended September 30, 2003, compared to $19.5 million for the same period in 2002. The decrease was primarily the result of the strategic steps we took in the second half of 2002, as discussed above, which reduced our staff levels, the reduction in 2003 of our clinical manufacturing schedule to match the immediate needs of our trials, as well as the implementation of operational efficiencies over the last 12 months which have significantly reduced our consumption of materials used to produce our AAV vector. As a result of these changes, personnel-related expenses for the nine months ended September 30, 2003 decreased by approximately $1.9 million from the same period in 2002, and expenses for materials used to produce our AAV vector and to perform our in-house research decreased by approximately $2.1 million for the nine months ended September 30, 2003 compared to the same period in 2002. In addition, research and development expenses for the nine months ended September 30, 2003 decreased due to lower expenditures to third-party collaborators associated with our clinical trial of approximately $340,000, and for consulting services of approximately $840,000 from the same period in 2002. These aggregate declines in year-over-year research and development expenses were partially offset by higher expenses for services from third-party collaborators associated with our preclinical animal studies of approximately $510,000, primarily related to our work with Parkinson’s disease, higher depreciation and other facilities-related expenses of approximately $840,000, and higher costs for severance and relocation expenses, primarily related to executive level positions, of approximately $430,000 for the nine months ended September 30, 2003 as compared to the same period in 2002.

General and Administrative Expenses

General and administrative expenses totaled $5.6 million for the nine months ended September 30, 2003, compared to $5.7 million for the same period in 2002. General and administrative expenses were slightly lower in the first nine months of 2003 compared to the same period in 2002 due to decreased litigation-related legal fees of approximately $180,000, primarily related to the settlement of our lawsuit with Research Corporation Technologies, Inc., and decreased personnel-related and facilities related costs of approximately $200,000, partially offset by higher patent-related legal fees and other professional and information services of approximately $280,000.

Interest Income

Interest income totaled $2.6 million for the nine months ended September 30, 2003, down from $4.2 million for the nine months ended September 30, 2002. The decrease in interest income was primarily due to the general decline in market interest rates between the two periods, as well as the decrease in outstanding cash and securities balances due to resources having been used to fund our on-going operations.

Research and development expenses

Our research and development expenses can be divided into two primary functions, costs to support research and preclinical development and costs to support preparation for and implementation of human clinical trials. Research and preclinical development costs include activities associated with general research and exploration, animal studies, production of vector for use by external collaborators in general research and exploration, and development of processes to translate research achievements into commercial scale capabilities. During the nine-month periods ended September 30, 2003 and 2002, our programs in the research and preclinical phase were directed primarily at our targeted potential treatments for hemophilia, Parkinson’s disease and other neurobiological targets. Clinical development costs include activities associated with preparing for regulatory approvals, maintaining regulated and controlled processes, manufacturing vector for use in human clinical trials, and supporting patient enrollment and patient administration within clinical trials. During the nine-month periods ended September 30, 2003 and 2002, our programs in the clinical development phase were directed at our targeted potential treatments for hemophilia B and Parkinson’s disease.

We estimate that the split in costs associated with these two categories approximate the following (in thousands):

	Three months ended September 30,		Nine months ended September 30,
	2003	2002	2003	2002
Research and preclinical development	$3,765	$3,496	$10,317	$10,933
Clinical development	1,829	2,833	5,668	8,523

Total research and development expenses	$5,594	$6,329	$15,985	$19,456

Because a significant percentage of our research and development resources are dedicated to activities that focus on fundamental AAV vector characteristics and production and administration techniques, which are considered platform technologies that may be used in many different product applications, the majority of our costs are not directly attributed to individual projects. Decisions regarding our project management and resource allocation are primarily based on interpretations of scientific data, rather than cost allocations. Our estimates of costs between research and preclinical development and clinical development are primarily based on staffing roles within our research and development departments. As such, costs allocated to specific projects may not necessarily reflect the actual costs of those efforts and, therefore, we do not generally evaluate actual costs incurred on a project-by-project basis. In addition, we are unable to estimate the future costs to complete any specific projects.

Three Months Ended September 30, 2003 and 2002

The increase of $268,000 in our research and preclinical development expenses for the three months ended September 30, 2003, compared to the same period in 2002, was primarily due to changes in costs for the following:

•

higher expenditures for services from third-party collaborators associated with our preclinical animal studies of $900,000, primarily related to our work with Parkinson’s disease,

•

lower personnel-related costs of $400,000, primarily reflecting the impact of a staff reduction that occurred in October 2002, and

•

lower materials expenses of $350,000 as a result of decreased consumption of materials from implemented operating efficiencies for the production of our AAV vectors.

The decrease of $1.0 million in our clinical development expenses for the three months ended September 30, 2003, compared to the same period in 2002, was primarily due to changes in costs for the following:

•

lower personnel-related costs of $300,000, primarily reflecting the impact of a staff reduction that occurred in October 2002,

•

lower materials expenses of $300,000 as a result of decreased consumption of materials due to reductions in our clinical manufacturing schedule to match the needs of our trials and from implementations of manufacturing efficiencies for the production of our AAV vectors,

•

lower expenditures to third-party collaborators associated with treating and monitoring subjects in our clinical trial of $250,000, and

•

lower consulting and validation services expenses of $200,000, primarily related to new facilities and other process improvements completed in 2002.

Nine Months Ended September 30, 2003 and 2002

The decrease of $617,000 in our research and preclinical development expenses for the nine months ended September 30, 2003, compared to the same period in 2002, was primarily due to changes in costs for the following:

•

lower personnel-related expenses of $900,000, primarily reflecting the impact of a staff reduction that occurred in October 2002,

•

lower materials expenses of $825,000 as a result of decreased consumption of materials from implemented operating efficiencies for the production of our AAV vectors,

•

higher expenditures for services from third-party collaborators associated with our preclinical animal studies of $325,000, primarily related to our work with Parkinson’s disease,

•

higher depreciation and other facilities-related expenses of $400,000, due to new facilities placed in service in the second half of 2002, and

•

higher costs for severance and relocation expenses of $325,000, primarily involving executive level positions.

The decrease of $2.9 million in our clinical development expenses for the nine months ended September 30, 2003, compared to the same period of 2002, was primarily due to changes in costs for the following:

•

lower personnel-related costs of $1.0 million, primarily reflecting the impact of a staff reduction that occurred in October 2002,

•

lower materials expenses of $1.3 million as a result of decreased consumption of materials due to reductions in our clinical manufacturing schedule to match the needs of our trials and from implementations of manufacturing efficiencies for the production of our AAV vectors,

•

lower expenditures to third-party collaborators associated with treating and monitoring subjects in our clinical trial of $350,000,

•

lower consulting and validation services expenses of $650,000, primarily related to new facilities and other process improvements completed in 2002, and

•

higher depreciation and other facilities-related expenses of $425,000, due to new facilities placed in service in the second half of 2002.

Liquidity and Capital Resources

Since our inception in 1992, we have funded our operations primarily through public offerings and private placements of our equity securities. Since our initial public offering in May 1996, we have completed private placements and two public offerings of equity securities raising net proceeds of approximately $186.3 million, including a sale of common stock to Bayer AG in February 2001 pursuant to a collaboration agreement that raised net proceeds of $15.0 million. Also, during the period since May 1996, as a result of exercises of warrants and options to purchase our common stock, we raised an additional $13.0 million. The timing of and amounts realized from the exercise of these warrants and options are determined by the decisions of the respective warrant and option holders, and are not controlled by us. Therefore, funds raised from exercises of stock options and warrants in past periods should not be considered an indication of additional funds to be raised in the future periods.

In addition to funding our operations through sales of our common stock, we have attempted to contain costs and reduce cash flow requirements by renting scientific equipment and facilities, contracting with third parties to conduct research and development and using consultants, where appropriate. We expect to incur additional future expenses, resulting in significant additional cash expenditures, as we continue to expand our research and development activities and undertake additional preclinical studies and clinical trials of our gene therapy product candidates. We also expect to incur substantial additional expenses relating to the filing, prosecution, maintenance, defense and enforcement of patent and other intellectual property claims.

At September 30, 2003, we had cash, cash equivalents, available-for-sale securities, and restricted investments of approximately $105.3 million, compared to approximately $119.2 million at December 31, 2002. At September 30, 2003 and December 31, 2002, $11.9 million and $11.5 million, respectively, was pledged to secure certain long-term liabilities. These long-term liabilities include $10.0 million for our line of credit, $1.5 million for equipment operating leases, and approximately $428,000 for letters of credit that we entered into in May 2003 which serve as security deposits on our building lease. Our restricted investments are reported as a long-term asset and would not be considered a current source of additional liquidity.

The following are contractual commitments at September 30, 2003 associated with debt obligations, lease obligations, and contractual commitments to fund third-party research (in thousands):

		Payments Due by Period
Contractual Commitment	Total	Less Than 1 Year	1-3 Years	4-5 Years	After 5 Years
Revolving line of credit	$ 8,000	$ —	$ 8,000	$ —	$ —
Operating leases	16,159	2,485	5,256	4,857	3,561
Research funding for third parties	1,567	1,567	—	—	—

Total Contractual Commitments	$25,726	$4,052	$13,256	$4,857	$3,561

We enter into commitments to fund collaborative research and clinical work performed by third parties. While these contracts are cancelable by either party, we expect the research studies and clinical work to be completed as defined in the terms of the agreements, and all amounts paid when due. Payments scheduled under these contracts are included in the table above under research funding for third parties.

During the nine months ended September 30, 2003, net cash used in operating activities was $13.0 million compared to $19.0 million for the same period in 2002. This change in cash used in operating activities between the two periods was primarily due to the lower net loss of $18.9 million in 2003 compared to the $21.2 million in 2002, the receipt of a $2.5 million payment from Bayer Corporation in March 2003 which was recorded as deferred revenue, and higher payables of $491,000 due to the increase in preclinical animal studies.

During the nine months ended September 30, 2003, $11.2 million and $168,000 was provided by investing and financing activities, respectively. The cash provided by investing activities consisted of maturities, net of purchases, of available-for-sale securities of $11.9 million, offset in part by purchases of property and equipment of $309,000 and increases in restricted investments of $428,000. The cash provided by financing activities consisted of proceeds from the exercise of stock options and warrants during the year.

During the nine months ended September 30, 2002, $12.8 million and $826,000 was provided by investing and financing activities, respectively. The cash provided by investing activities consisted of maturities, net of purchases, of available-for-sale securities of $19.1 million, offset in part by purchases of property and equipment of $4.8 million for research and development facilities that were completed near the end of 2002 and increases in restricted investments of $1.5 million. The cash provided by financing activities consisted of proceeds from the exercise of stock options and warrants during the year.

We believe we will continue to require substantial additional funding in order to complete the clinical and research and development activities currently contemplated and to commercialize our proposed products. We believe that our capital resources at September 30, 2003 will be adequate to fund our current operating needs over the next three to four years. However, this forward-looking statement is based upon our current plans and assumptions regarding our future operating and capital requirements, which may change. Our future operating and capital requirements will depend on many factors, including:

continued scientific progress in research and development programs;

the scope and results of preclinical studies and clinical trials;

the time and costs involved in obtaining regulatory approvals;

the costs involved in filing, prosecuting and enforcing patent claims and other intellectual property rights;

competing technological developments;

the cost of manufacturing scale-up;

the cost of commercialization activities; and

other factors which may not be within our control.

We intend to continue to seek additional funding through public or private equity or debt financing, when market conditions allow, or through additional collaborative arrangements with corporate partners. If we raise additional funds by issuing equity securities, there may be further dilution to existing stockholders. We cannot assure our investors that we will be able to enter into such financing arrangements on acceptable terms or at all. Without such additional funding, we may be required to delay, reduce the scope of, or eliminate one or more of our research or development programs.

RISK FACTORS

This section discusses certain risks that should be considered by stockholders and prospective investors in Avigen. Some of these risks are discussed in other contexts in other sections of this report.

We expect to continue to operate at a loss and we may never achieve profitability

Since our inception in 1992, we have not been profitable, and we cannot be certain that we will ever achieve or sustain profitability. To date, we have been engaged in research and development activities and have not generated any revenues from product sales or any significant revenues from collaboration agreements. As of September 30, 2003, we had an accumulated deficit of $125.8 million. Developing our products will require significant additional research and development, preclinical testing and clinical trials, as well as regulatory approval. We expect these activities, together with our general and administrative expenses, to result in operating losses for the foreseeable future. Our ability to achieve profitability will depend, in part, on our ability to successfully complete development of our proposed products, obtain required regulatory approvals and manufacture and market our products directly or through business partners.

Our clinical trials to date for Coagulin-B for the treatment of hemophilia B have been conducted with a small number of patients over a short period of time, and the results reported may not be indicative of future results in a larger number of patients or have lasting effects

Our current Coagulin-B clinical trial studies are based upon the evaluations of very small groups of patients and any reported progress or results may not be indicative of subsequent progress or results achieved from larger populations. As our Coagulin-B clinical trial is still in a very early stage, we do not yet know if any favorable results achieved will have a lasting effect. If a larger population of patients does not experience positive results, or any favorable results do not demonstrate a lasting effect, this product candidate may not receive approval from the FDA for further studies or commercialization. If we are not able to proceed with or decide to abandon our Coagulin-B development program, our business prospects would be substantially impaired.

The success of our technology in animal models does not guarantee that the same results will be replicated in humans

Even though our product candidates have shown successful results in mouse, dog, and non-human primate models, animals are different than humans and results in animal models may not be replicated in our clinical trials with humans. For example, while the results of our gene therapy treatment for hemophilia B were favorable and demonstrated sustained long-term expression in both dogs and mice for multiple years, one human subject who demonstrated therapeutic levels of circulating factor IX when given a comparable dose size to that used in the successful animal studies was not able to sustain steady factor IX expression beyond five weeks. In addition, this human subject experienced a mild, temporary elevation of two liver enzymes, which was not seen in any of the animal models. Consequently, you should not rely on the results in any of our animal models as being predictive of the results that we will see in our clinical trials with humans.

Adverse events in the field of gene therapy may negatively impact regulatory approval or public perception of our potential products

The commercial success of our potential products will depend in part on public acceptance of the use of gene therapy for the prevention or treatment of human diseases. Public attitudes may be influenced by claims that gene therapy is unsafe, and consequently our products may not gain the acceptance of the public or the medical community. Negative public reaction to gene therapy in general could result in greater government regulation and stricter labeling requirements of gene therapy products, including any of our products, and could cause a decrease in the demand for any products we may develop.

Our stock price is also influenced by public perception. For example, in January 2003, a report of serious adverse events in a retroviral trial for infants with severe combined immune deficiency (SCID) in France and subsequent FDA actions putting related trials on hold in the United States had a significant impact on the public perception and stock price of all companies involved in gene therapy. Avigen’s stock declined despite the fact that we do not work with retroviruses or with infants with SCIDS and our clinical trial was not affected by the FDA’s actions in this case.

Other potential adverse events in the field of gene therapy may occur in the future that could result in greater governmental regulation of our potential products and potential regulatory delays relating to the testing or approval of our potential products.

AAV technology is new and developing rapidly; there is limited clinical data and new information may arise which may cause delays in designing our protocols, submitting applications that satisfy all necessary regulatory review requirements, and ultimately completing the clinical trials of our products

Clinical trials are governed by regulations enforced by the FDA. Our technology is fairly new, and we have limited historical data from preclinical studies or clinical trials that are often necessary to satisfy the FDA’s regulatory review process. In addition, as new information about the technology becomes available, it may change perceptions of previously accepted data, which could require additional periods of time to review and interpret these data. For example, while animals in preclinical studies do not appear to develop antibodies to the AAV vector or the expressed protein, it remains to be seen whether our product candidates cause patients to develop antibodies to these potential products or the proteins produced by these potential products. Such antibodies could make our product ineffective or lead to unwanted side effects. In addition, as previously discussed, one human subject in our clinical trial experienced a mild, temporary elevation of two liver enzymes, which was not seen in any of the animal models, and was not able to sustain steady factor IX expression beyond five weeks. Consequently, we may encounter deficiencies in the design or application stages while developing our clinical trial studies, or in the subsequent implementation stages of such studies, which could cause us or the FDA to delay, suspend or terminate our trials at any time.

Because our product candidates are in an early state of development, there is a high risk that they may never be commercialized

All of our product candidates are in early stages of development. We do not have any product candidates that have received regulatory approval for commercial sale, and we face the risk that none of our product candidates will ever receive regulatory approval. We have only one product candidate, Coagulin-B for the treatment of hemophilia B, in clinical trials, and this product candidate is only in phase I of the clinical trial process. We are not aware of any other gene therapy products of other companies that have received regulatory approval for commercial sale, and do not expect any of our prospective products, including Coagulin-B, to be commercially available for at least several years. As results of future stages of clinical trials become available and are evaluated, we may decide at any time to discontinue any further development of one or more of our product candidates.

The testing of our potential products relies heavily on the voluntary participation of patients in our clinical trials, which is not within our control, and could substantially delay or prevent us from completing development of such products

The development of our potential products is dependent upon collecting sufficient data from human clinical trials to demonstrate safe and effective results. At times, we have experienced delays in enrolling patients in our clinical trials for treatment at sub-therapeutic dose levels. We may experience similar difficulties in the future. Any delay or failure to recruit sufficient numbers of patients to satisfy the level of data required to be collected under our clinical trial protocols could prevent us from developing any products we may target.

Our potential products must undergo rigorous clinical testing and regulatory approvals, which could substantially delay or prevent us from marketing any products

Prior to marketing in the United States, any product developed by us must undergo rigorous preclinical testing and clinical trials as well as an extensive regulatory approval process implemented by the FDA. This process is lengthy, complex and expensive, and approval is never certain. Positive results from preclinical studies and early clinical trials do not ensure positive results will be demonstrated in clinical trials designed to permit application for regulatory approval.

Potential problems we may encounter in the implementation stages of our studies include the chance that we may not be able to conduct clinical trials at preferred sites, obtain sufficient test subjects or begin or successfully complete clinical trials in a timely fashion, if at all. Furthermore, the FDA may temporarily suspend clinical trials at any time if it believes the subjects participating in trials are being exposed to unacceptable health risks, if it finds deficiencies in the clinical trial process or conduct of the investigation, or to better analyze data surrounding any unexpected developments. For example, progress in our current Coagulin-B clinical trial has been interrupted twice to better analyze data from unexpected observations. These included the identification of vector fragments in the seminal fluid of two early patients beyond an expected timeframe and the development reported in December 2002 of a temporary elevation in the levels of two liver enzymes in one patient treated with a higher dose.

Because of the risks and uncertainties in biopharmaceutical development, our gene therapy products could take a significantly longer time to gain regulatory approval than we expect or may never gain FDA approval. If we do not receive these necessary approvals from the FDA, we will not be able to generate substantial revenues and will not become profitable.

Failure to comply with applicable FDA or other regulatory requirements may result in criminal prosecution, civil penalties and other actions that would seriously impair our ability to conduct our business. Even if regulatory approval is granted for a product, this approval will be limited to those disease states and conditions for which the product is proven to be useful, as demonstrated through clinical trials.

We may not be successful in obtaining required foreign regulatory approvals, which would prevent us from marketing our products internationally

We cannot be certain that we will obtain any regulatory approvals in other countries. In order to market our products outside of the United States, we must comply with numerous and varying foreign regulatory requirements implemented by foreign regulatory authorities. The approval procedure varies among countries and can involve additional testing. The time required to obtain approval may differ from that required to obtain FDA approval. The foreign regulatory approval process includes all of the risks associated with obtaining FDA approval set forth above, and approval by the FDA does not ensure approval by the regulatory authorities of any other country.

Our success is dependent upon our ability to effectively protect our patents and proprietary rights, which we may not be able to do

Our success will depend to a significant degree on our ability to obtain patents and licenses to patent rights, preserve trade secrets, and to operate without infringing on the proprietary rights of others. If we are not successful in these endeavors, our business will be substantially impaired.

To date, we have filed a number of patent applications in the United States relating to technologies we have developed or co-developed. In addition, we have acquired exclusive and non-exclusive licenses to certain issued patents and pending patent applications. We cannot guarantee that patents will issue from these applications or that any patent will issue on technology arising from additional research or, if patents do issue, that claims allowed will be sufficient to protect our technologies.

The patent application process takes several years and entails considerable expense. The failure to obtain patent protection on the technologies underlying our proposed products may have a material adverse effect on our competitive position and business prospects. Important legal issues remain to be resolved as to the scope of patent protection for biotechnology products, and we expect that administrative proceedings, litigation or both may be necessary to determine the validity and scope of our and others’ biotechnology patents. These proceedings or litigation may require a significant commitment of our resources in the future.

If patents can be obtained, we cannot assure you that any of these patents will provide us with any competitive advantage. For example, others may independently develop similar technologies or duplicate any technology developed by us, and patents may be invalidated in litigation.

In addition, several of our patents and patent applications are co-owned with co-inventors or institutions. To date, we have negotiated exclusive licenses for many of our co-invented technologies. However, if we cannot negotiate exclusive rights to other co-owned technology, each co-inventor may have rights to independently make, use, offer to sell or sell the patented technology. Commercialization, assignment or licensing of the technology by a co-inventor could harm our business.

We also rely on a combination of trade secret and copyright laws, employee and third-party nondisclosure agreements and other protective measures to protect intellectual property rights pertaining to our products and technologies. We cannot be certain that these measures will provide meaningful protection of our trade secrets, know-how or other proprietary information. In addition, the laws of certain foreign countries do not protect our intellectual property rights to the same extent as do the laws of the United States. We cannot assure you that we will be able to protect our intellectual property successfully.

Other persons may assert rights to our proprietary technology, which could be costly to contest or settle

Third parties may assert patent or other intellectual property infringement claims against us with respect to our products, technologies, or other matters. Any claims against us, with or without merit, as well as claims initiated by us against third parties, can be time-consuming and expensive to defend or prosecute and resolve. There may be third-party patents and other intellectual property relevant to our products and technology which are not known to us. We have not been accused of infringing any third party’s patent rights or other intellectual property, but we cannot assure you that litigation asserting claims will not be initiated, that we would prevail in any litigation, or that we would be able to obtain any necessary licenses on reasonable terms, if at all. If our competitors prepare and file patent applications in the United States that claim technology also claimed by us, we may have to participate in interference proceedings declared by the Patent and Trademark Office to determine priority of invention, which could result in substantial cost to us, even if the outcome is favorable to us. In addition, to the extent outside collaborators apply technological information developed independently by them or by others to our product development programs or apply our technologies to other projects, disputes may arise as to the ownership of proprietary rights to these technologies.

We may be required to obtain rights to proprietary genes and other technologies to further develop our business, which may not be available or may be costly

We currently investigate and use certain gene sequences or proteins encoded by those sequences, including the factor VIII gene, and manufacturing processes that are or may become patented by others. As a result, we may be required to obtain licenses to these gene sequences or proteins or other technology in order to test, use or market products. We may not be able to obtain these licenses on terms favorable to us, if at all. In connection with our efforts to obtain rights to these gene sequences or proteins or other technology, we may find it necessary to convey rights to our technology to others. Some of our gene therapy products may require the use of multiple proprietary technologies. Consequently, we may be required to make cumulative royalty payments to several third parties. These cumulative royalties could become commercially prohibitive. We may not be able to successfully negotiate these royalty adjustments to a cost effective level, if at all.

If we do not achieve certain milestones, we may not be able to retain certain licenses to our intellectual property

We have entered into license agreements with third parties for technologies related to our gene therapy product development programs. Some of these license agreements provide for the achievement of development milestones. If we fail to achieve these milestones or to obtain extensions, the licensor may terminate these license agreements with relatively short notice to us. Termination of any of our license agreements could harm our business.

If Research Corporation Technologies is able to enforce patent protection for certain formulation technologies, the rights to which were previously licensed to us, the commercializing of our Coagulin-B proposed product may be prevented or delayed

In May 1992, we entered into a license agreement with Research Corporation Technologies, Inc. (RCT) for rights to an invention related to a cell-specific promotor in AAV vectors. The invention was the subject of a pending U.S. patent application at the time the license agreement was entered into. Two U.S. patents relating to the invention subsequently issued: U.S. Patent Nos. 5,252,479 and 6,261,834. In February 2002, we filed a complaint against RCT for breach of contract in connection with the license agreement and exercised our right to terminate the license agreement. In our complaint, we sought financial damages and a determination by the court that RCT’s actions rendered U.S. Patent No. 6,261,834 unenforceable and that this was a breach of the terms of the license agreement. RCT then filed a counter-claim alleging our failure to pay royalties under the license agreement and seeking $100,000 in damages. In February 2003, we entered into an agreement with RCT resulting in the dismissal of both our complaint and RCT’s counterclaim; however, this agreement and dismissal do not affect our rights to assert unenforceability and/or invalidity of any of RCT’s patents in any future proceedings or suit. If RCT is successful in enforcing these patent rights against us in the future, we may be forced to develop alternative technologies to replace the functions of the technologies covered by the RCT patents. Any requirements to modify the formulation of our Coagulin-B proposed product from what is being tested in clinical trials could cause substantial delays in our current and future clinical trials, which would delay our ability to market our Coagulin-B proposed product. In addition, if we are unable to develop alternative technologies to replace the functions of the technologies covered by the RCT patents, we may be forced to seek a new license from RCT to market our Coagulin-B proposed product, which we may not be able to do, or may only be able to do on unfavorable terms.

If we are able to bring our potential products to market, we continue to face a number of risks including our inexperience in marketing or selling our potential products, the acceptance of AAV gene therapy products by physicians and insurers, our ability to price our products effectively and to obtain adequate reimbursement for sales of our products.

Even if we are able to develop our potential products and obtain necessary regulatory approvals, we have no experience in marketing or selling any of our proposed products. We intend to enter into distribution and marketing agreements with other companies for our products and do not anticipate establishing our own sales and marketing capabilities for any of our potential products in the foreseeable future. For example, we have entered into an exclusive worldwide marketing and distribution agreement with Bayer Corporation for our Coagulin-B proposed product. However, if Bayer Corporation does not perform under this agreement, we would need to market this product ourselves, and we may not be able to establish adequate marketing capabilities for this product. Similarly, we may not be able to develop adequate marketing capabilities for our other potential products, either on our own or through other third parties.

Our success is dependent on acceptance of our gene therapy products. We cannot assure you that our products will achieve significant market acceptance among patients, physicians or third-party payors, even if we obtain necessary regulatory and reimbursement approvals. Failure to achieve significant market acceptance will harm our business. In addition, we cannot assure you that these products will be considered cost-effective and that reimbursement to the consumer will be available or will be sufficient to allow us to sell our products on a profitable basis. In both the United States and elsewhere, sales of medical products and treatments are dependent, in part, on the availability of reimbursement to the consumer from third-party payors, such as government and private insurance plans. Third-party payors are increasingly challenging the prices charged for medical products and services. We cannot predict whether any legislative or regulatory proposals will be adopted or the effect of such potential proposals or managed care efforts may have on our business.

We expect that we will face intense competition, which may limit our ability to become profitable

Our competitors may develop more effective or more affordable products, or commercialize products earlier than we do, which would limit the prices that we could charge for the products that we are able to market, and prevent us from becoming profitable. We expect increased competition from fully integrated pharmaceutical companies and more established biotechnology companies. Most of these companies have significantly greater financial resources and expertise than we do in research and development, preclinical studies, clinical trials, obtaining regulatory approvals, manufacturing, and marketing and distribution.

Smaller companies may also prove to be significant competitors, particularly through collaborative arrangements with large pharmaceutical companies. Academic institutions, government agencies and other public and private research organizations also conduct research, seek patent protection and establish collaborative arrangements for product development and marketing. In addition, these companies and institutions compete with us in recruiting and retaining highly qualified scientific and management personnel.

We are aware that other companies are conducting preclinical studies and clinical trials for viral and non-viral gene therapy products that could compete with products we are developing.

We have limited experience in manufacturing our potential products at a commercial scale, which raises uncertainty about our ability to manufacture our potential products cost-effectively

Even if we are able to develop our potential products and obtain necessary regulatory approvals, we have limited experience in manufacturing any of our proposed products on a commercial basis. If we are unable to manufacture our products in a cost-effective manner, we are not likely to become profitable. We have not yet received a license from the FDA for our manufacturing facilities, and cannot apply for one until we submit our product for commercial approval. Even if we do receive a manufacturing license, we may fail to maintain adequate compliance with the FDA’s regulations concerning current good manufacturing practices (cGMP), in which case the license, and our authorization to manufacture product, could be revoked.

We may lose access to critical materials from single source suppliers, which is not within our control and could delay us from manufacturing vector needed to support our clinical trials or future commercialization

We obtain materials used in the manufacture of our clinical vector products from a number of suppliers, some of whom are our sole qualified source of these materials. We qualify the suppliers of our clinical materials according to cGMP regulations. If we were to lose access to critical materials from any of these sole-source suppliers, we would be required to obtain a new source of the materials. It could take us several months to qualify new suppliers before we could use their materials in the manufacture of our clinical vector products.

We may be unable to attract and retain the qualified employees, consultants and advisors we need to be successful

We are highly dependent on key members of our senior management and scientific staff. The loss of any of these persons could substantially impair our research and development efforts and impede our ability to develop and commercialize any of our products. Recruiting and retaining qualified scientific, technical and managerial personnel will also be critical to our success. Biotechnology personnel with these skills are in high demand. As a result, competition for and retention of personnel, particularly for employees with technical expertise, is intense and the turnover rate for these people can be high.

In addition, we rely on consultants and advisors to assist us in formulating our research and development strategy. A majority of our scientific advisors are engaged by us on a consulting basis and are employed on a full-time basis by others. We have limited control over the activities of these scientific collaborators which often limit their availability to us. Failure of any of these persons to devote sufficient time and resources to our programs could delay our progress and harm our business. In addition, some of these collaborators may have consulting or other advisory arrangements with other entities that may conflict or compete with their obligations to us.

We may need to secure additional financing to complete the development and commercialization of our products

We anticipate that our existing capital resources as of September 30, 2003, will be adequate to fund our needs for at least the next three to four years. However, we may require additional funding to complete the research and development activities currently contemplated and to commercialize our products. Our future capital requirements will depend on many factors, including:

continued scientific progress in research and development programs;

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the scope and results of preclinical studies and clinical trials;

the time and costs involved in obtaining regulatory approvals;

the costs involved in filing, prosecuting and enforcing patent claims;

the cost of manufacturing scale-up;

the cost of commercialization activities; and

other factors which may not be within our control.

We face the risk of liability claims which may exceed the scope or amount of our insurance coverage

The manufacture and sale of medical products entail significant risk of liability claims. We currently carry liability insurance; however, we cannot assure you that this coverage will remain in place or that this coverage will be adequate to protect us from all liabilities which we might incur in connection with the use of our products in clinical trials or the future use or sale of our products upon commercialization. In addition, we may require increased liability coverage as additional products are used in clinical trials and commercialized. This insurance is expensive and may not be available on acceptable terms in the future, if at all. A successful liability claim or series of claims brought against us in excess of our insurance coverage could harm our business. We must indemnify certain of our licensors against any liability claims brought against them arising out of products developed by us under these licenses.

Our use of hazardous materials exposes us to the risk of environmental liabilities, and we may incur substantial additional costs to comply with environmental laws in connection with the operation of our research and manufacturing facilities

We use radioactive materials and other hazardous substances in our research and development and manufacturing operations. As a result, we are potentially subject to substantial liabilities related to personal injuries or property damages they may cause. In addition, clean up costs associated with radioactivity or other hazardous substances, and related damages or liabilities could be significant and could harm our business. We are required to comply with increasingly stringent laws and regulations governing environmental protection and workplace safety which could impose substantial fines and criminal sanctions for violations. Maintaining compliance with these laws and regulations could require substantial additional capital.

Risks Related to Our Stock

Anti-takeover effects of certain charter provisions and Delaware law may negatively affect the ability of a potential buyer to purchase some or all of our stock at an otherwise advantageous price, which may limit the price investors are willing to pay for our common stock

Certain provisions of our charter and Delaware law may negatively affect the ability of a potential buyer to attempt a takeover of Avigen, which may have a negative effect on the price investors are willing to pay for our common stock. For example, our board of directors has the authority to issue up to 5,000,000 shares of preferred stock and to determine the price, rights, preferences, and privileges of those shares without any further vote or action by the stockholders. This would enable the Board of Directors to establish a shareholder rights plan, commonly referred to as a “poison pill,” which would have the effect of making it more difficult for a third party to acquire a majority of the outstanding voting stock of Avigen. In addition, our board of directors is divided into three classes, and each year on a rotating basis the directors of one class are elected for a three-year term. This provision could have the effect of making it less likely that a third party would attempt to obtain control of Avigen through Board representation. Furthermore, certain other provisions of our charter may have the effect of delaying or preventing changes in control or management, which could adversely affect the market price of our common stock. In addition, we are subject to the provisions of Section 203 of the Delaware General Corporation Law, an anti-takeover law.

Our stock price is volatile, and as a result investing in our common stock is very risky

From September 30, 2001 to October 31, 2003, our stock price has fluctuated between a range of $14.77 and $2.75 per share. We believe that various factors may cause the market price of our common stock to continue to fluctuate, perhaps substantially, including announcements of:

technological innovations or regulatory approvals;

results of clinical trials;

new products by us or our competitors;

developments or disputes concerning patents or proprietary rights;

achieving or failing to achieve certain developmental milestones;

public concern as to the safety of gene therapy, recombinant biotech or traditional pharmaceutical products;

health care or reimbursement policy changes by governments or insurance companies;

developments in relationships with corporate partners; or

a change in financial estimates or securities analysts’ recommendations.

In addition, in recent years, the stock market in general, and the shares of biotechnology and health care companies in particular, have experienced extreme price fluctuations. These broad market and industry fluctuations may cause the market price of our common stock to decline dramatically.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

Our exposure to market rate risk for changes in interest rates relates primarily to our investment portfolio and our long-term debt. We do not hold derivative financial investments, derivative commodity investments or other financial investments or engage in foreign currency hedging or other transactions that expose us to other market risks. None of our investments are held for trading purposes. Our investment objectives are focused on preservation of principal and liquidity. By policy, we manage our exposure to market risks by limiting our investments to high quality issuers and highly liquid instruments with effective maturities of less than three years, and an average aggregate portfolio duration of approximately one year. Our entire portfolio is classified as available-for-sale and, as of September 30, 2003, consisted of approximately 92% fixed-rate securities and 8% variable-rate securities.

We have evaluated the risk associated with our portfolios of investments in marketable securities and have deemed this market risk to be immaterial. If market interest rates were to increase by 100 basis points, or 1%, from their September 30, 2003 levels, we estimate that the fair value of our securities portfolio would decline by approximately $1.2 million. Our estimated exposure at September 30, 2003 is lower than our estimated $1.3 million exposure at December 31, 2002 due to the reduction is size of our overall portfolio, and is lower than our estimated $1.8 million exposure at December 31, 2001 due to the reduction in size of the overall portfolio and the reduction in average aggregate duration of the instruments. The modeling technique used measures duration risk sensitivity to estimate the potential change in fair value arising from an immediate hypothetical shift in market rates and quantifies the ending fair market value including principal and accrued interest.

Our long-term debt includes a $10.0 million revolving line of credit due September 1, 2005, of which we have drawn down $8.0 million in cash that will need to be repaid. Interest charged on the borrowing is based on LIBOR and is reset in three-month increments based on the date of each original drawdown. As of September 30, 2003, the average annual rate of interest charged on the borrowing was approximately 2.72%.

Item 4. Controls and Procedures

Evaluation of disclosure controls and procedures. Our management, with the participation of our chief executive officer and chief financial officer, has evaluated our disclosure controls and procedures (as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e)) as of September 30, 2003 and concluded that they were effective to provide a reasonable assurance that the information required to be disclosed by us in this Quarterly Report on Form 10-Q was recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and Form 10-Q.

Changes in internal controls. There were no changes in our internal controls over financial reporting during the quarter ended September 30, 2003 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

As of October 31, 2003, we were not involved in any material legal proceedings.

Item 2. Changes in Securities and Use of Proceeds

On August 15, 2003, Avigen issued a total of 34,244 shares of its common stock at an aggregate purchase price of $88,769 upon the exercise of warrants previously sold in a private placement. These shares were issued to Union d’etudes et d’investissement in reliance on Section 4(2) under the Securities Act, in that they were issued to the original purchaser of the warrants. These purchaser represented, in connection with such purchase of the warrants, that they were accredited investors as defined in the Regulation D under the Securities Act.

Item 3. Defaults Upon Senior Securities

None.

Item 4. Submission of Matters to a Vote of Security Holders

None.

Item 5. Other Information

Consistent with Section 10A(i)(2) of the Securities Exchange Act of 1934, as added by Section 202 of the Sarbanes-Oxley Act of 2002, we are responsible for listing the non-audit services approved by our Audit Committee to be performed by Ernst & Young LLP, our external auditor. Non-audit services are defined as services other than those provided in connection with an audit or a review of our financial statements. The Audit Committee has approved our recurring engagements of Ernst & Young LLP for the following non-audit services: (1) preparation of tax returns, and tax advice in preparing for and in connection with such filings; (2) all work required to be performed by Ernst & Young LLP in connection with preparing and giving consents required to be given in connection with our filings with the Securities and Exchange Commission; and (3) advice in preparing for the internal control documentation requirements of Section 404 of the Sarbanes-Oxley Act of 2002.

Item 6. Exhibits and Reports on Form 8-K

(a) The following exhibits are included herein:

Exhibit No.		Description
3.1*		Amended and Restated Certificate of Incorporation
3.1.1**		Certificate of Amendment to Certificate of Incorporation
3.2*		Restated Bylaws of the Registrant
4.1*		Specimen Common Stock Certificate
31.1		CEO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		CFO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Certification of CEO and CFO Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

______________________________________

Filed as an exhibit to Avigen’s Registration Statement on Form S-1 (No. 333-3220) and incorporated herein by reference.

Incorporated by reference from such document filed with the SEC as an exhibit to Avigen’s Quarterly Report on Form 10-Q for the quarter ended December 31, 2000 (Commission file number 0-28272), as filed with the SEC on September 27, 2000.

(b) Reports on Form 8-K

On July 30, 2003, we filed a current report on Form 8-K to furnish the announcement of our financial results for the second quarter of fiscal year 2003, which announcement included our consolidated statements of operations and consolidated balance sheets for the period.

SIGNATURES

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

AVIGEN, INC.

Date: November 6, 2003	By:	/s/ JOHN MONAHAN

		John Monahan Chief Executive Officer and President

Date: November 6, 2003	By:	/s/ THOMAS J. PAULSON

		Thomas J. Paulson Vice President Finance, Chief Financial and Accounting Officer, and Secretary

EXHIBIT INDEX

Exhibit No.		Description
3.1*		Amended and Restated Certificate of Incorporation
3.1.1**		Certificate of Amendment to Certificate of Incorporation
3.2*		Restated Bylaws of the Registrant
4.1*		Specimen Common Stock Certificate
31.1		CEO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		CFO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Certification of CEO and CFO Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

______________________________________

Filed as an exhibit to Avigen’s Registration Statement on Form S-1 (No. 333-3220) and incorporated herein by reference.