of assets and liabilities as of the date of the financial statements, as well as the reported amounts of revenues and expenses during the periods presented. Those estimates and judgments are based on management’s historical experience, the terms of existing agreements, our observation of trends in the industry, information that we obtain from our customers and outside sources, and on various other assumptions that management believes to be reasonable and appropriate under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. To the extent there are material differences between these estimates, judgments or assumptions and actual results, our financial statements will be affected.

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

Accrued Expenses.  As part of the process of preparing financial statements, we are required to estimate accrued expenses. This process involves identifying services that have been performed on our behalf, and estimating the level of service performed and the associated cost incurred for such service as of each balance sheet date in our financial statements. Examples of estimated expenses for which we accrue include: contract service fees such as amounts paid to clinical monitors; data management organizations and investigators in conjunction with clinical trials; fees paid to contract manufacturers in conjunction with the production of clinical materials; marketing; consulting fees; and professional service fees, such as lawyers and accountants. In connection with such service fees, our estimates are most affected by our understanding of the status and timing of services provided relative to the actual levels of services incurred by such service providers. The majority of our service providers invoice us monthly in arrears for services performed. In the event that we do not identify certain costs that have begun to be incurred, or we over- or underestimate the level of services performed or the costs of such services, our reported expenses for such period would be too low or too high. The date on which certain services commence, the level of services performed on or before a given date and the cost of such services are often determined based on subjective judgments. We make these judgments based upon the facts and circumstances known to us in accordance with generally accepted accounting principles.

Stock-Based Compensation.  We have elected to follow Accounting Principles Board (APB), Opinion No. 25, Accounting for Stock Issued to Employees ( APB 25), and related interpretations, in accounting for our stock-based compensation plans, rather than the alternative fair-value method provided for under Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation ( SFAS 123). In the notes to our financial statements, we provide pro forma disclosures in accordance with SFAS 123. We account for transactions in which services are received from non-employees in exchange for equity instruments based on the fair value of such services received or of the equity instruments issued, whichever is more reliably measured, in accordance with SFAS 123 and the Emerging Issues Task Force (EITF) Issue 96-18, Accounting for Equity Instruments That Are Issued to Other than Employees for Acquiring, or in Conjunction with Selling, Goods or Services ( EITF 96-18).

Accounting for equity instruments granted or sold by us under APB 25, SFAS 123 and EITF 96-18 requires fair-value estimates of the equity instrument granted or sold. If our estimates of the fair value of these equity instruments are too high or too low, our expenses may be over- or understated. For equity instruments granted or sold in exchange for the receipt of goods or services, we estimate the fair value of the equity instruments based upon consideration of factors that we deem to be relevant at that time. Because shares of our common stock were not publicly traded prior to the corporate restructuring described in Note 4 to our financial statements, market factors historically considered in valuing stock and stock option grants included comparative values of public companies discounted for the risk and limited liquidity provided for in the shares we are issuing; pricing of private sales of our convertible preferred stock; prior valuations of stock grants and the effect of events that occurred between the time of such grants; economic trends; and the comparative rights and preferences of the security being granted compared to the rights and preferences of our other outstanding equity.

Prior to our corporate restructuring, the fair value of our common stock was determined by our board of directors contemporaneously with the grant. In the absence of a public trading market for

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our common stock, our board of directors considered numerous objective and subjective factors in determining the fair value of our common stock. At the time of option grants and other stock issuances, our board of directors considered the liquidation preferences, dividend rights, voting control and anti-dilution protection attributable to our then-outstanding convertible preferred stock; the status of private and public financial markets; valuations of comparable private and public companies; the likelihood of achieving a liquidity event such as an initial public offering; our existing financial resources; our anticipated continuing operating losses and increased spending levels required to complete our clinical trials; dilution to common stockholders from anticipated future financings; and a general assessment of future business risks.

Results of Operations

Nine Months Ended September 30, 2005 and 2004

Revenue.  Revenue for the nine months ended September 30, 2005 was $12,584 compared to $0 for the nine months ended September 30, 2004 and represented the recognition of a prior year’s deferred revenue on sales of bulk drug samples to facilitate research activities. This revenue represents recognition of the remaining installment due on bulk drug sample sales. In lieu of cash, we accepted research and development services as final payment.

Research and Development.  Research and development expense for the nine months ended September 30, 2005 was $813,716 compared to $223,588 for the nine months ended September 30, 2004. Research and development expense consists of expenses incurred in identifying, developing and testing product candidates, which primarily consist of salaries and related expenses for personnel, fees paid to professional service providers for independent monitoring and analysis of our clinical trials, costs of contract research and manufacturing, and costs of facilities. The $590,128, or 264%, increase in research and development expense was primarily due to increased funding of our preclinical, clinical and contract manufacturing activities, an increase in compensation costs due to an increase in headcount, and an increase in stock-based compensation. The private placement transactions, corporate restructuring and issuance of promissory notes during the nine months ended September 30, 2005 allowed us to engage outside consultants and organizations to further research, develop and test our product candidates.

General and Administrative.  General and administrative expense for the nine months ended September 30, 2005 was $1,018,677 compared to $370,017 for the nine months ended September 30, 2004. General and administrative expense consists primarily of salaries and other related costs for personnel in executive, finance, investor relations, accounting, business development, and human resource functions. Other costs include facility costs not otherwise included in research and development expense, insurance, costs for public and investor relations and professional fees for legal and accounting services. The $648,660, or 175%, increase in general and administrative expense was primarily due to our periodic filing obligations and increases in professional and consulting fees, public and investor relations and public company recordkeeping. We also incurred additional legal and consulting costs during the nine months ended September 30, 2005 in translating and filing our European patent applications. As described in Note 4 to our financial statements, we also recorded a $200,000 expense during the nine months ended September 30, 2005 relating to the late filing of a registration statement associated with our sale of units.

Consulting Revenue.  Consulting revenue for the nine months ended September 30, 2005 was $0 compared to $13,374 for the nine months ended September 30, 2004. Consulting revenue recorded during the nine months ended September 30, 2004 primarily related to one consulting engagement that ended during the quarter ended June 30, 2004.

Interest Income.  Interest income for the nine months ended September 30, 2005 was $9,693 compared to $95 for the nine months ended September 30, 2004. The increase in interest income during the nine months ended September 30, 2005 over the comparable period in 2004 related to higher average cash balances in 2005, as a result of the financings described in Note 4 to our financial statements, being placed in interest-bearing accounts.

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Interest Expense.  Interest expense for the nine months ended September 30, 2005 was $109,102 compared to $154,652 for the nine months ended September 30, 2004. The $45,550, or 29%, decrease was due to lower average debt balances during the 2005 period.

Gain on Forgiveness of Debt.  Gain on forgiveness of debt for the nine months ended September 30, 2005 was $2,087,531 compared to $0 for the nine months ended September 30, 2004. On May 26, 2005, we exchanged indebtedness of $3,139,185 for 586,352 shares of our common stock with an aggregate deemed value of $732,940 and $318,714 in cash, which resulted in forgiveness of debt income of $2,087,531.

Restructuring Expense.  Restructuring expense for the nine months ended September 30, 2005 was $2,521,118 compared to $0 for the nine months ended September 30, 2004. On May 26, 2005, we revised an arrangement that requires us to pay future royalties, which resulted in the issuance of 2,016,894 shares of our common stock with an aggregate deemed value of $2,521,118.

Years Ended December 31, 2004 and 2003

Revenue.  Revenue for the year ended December 31, 2004 was $4,962 compared to $20,737 for the year ended December 31, 2003. The $15,775, or 76%, decrease in revenue was primarily due to reduced sales of bulk drug samples to facilitate research activities and a $9,921 reduction in revenue earned under licensing agreements. Revenue earned under licensing agreements in 2003 consisted of a nonrefundable, up-front license fee related to a marketing and development agreement. The license fee had been deferred and was being amortized into revenue over 21 years, which represented the estimated life of the agreement. The marketing and development agreement was terminated in November 2003 by the other party to the agreement. As of the termination date, neither party had any further obligations under the agreement. Therefore, effective on the termination date, we recognized the unamortized portion of deferred revenue related to this agreement.

Research and Development.  Research and development expense for the year ended December 31, 2004 was $261,768 compared to $207,913 for the year ended December 31, 2003. Research and development expense consists of expenses incurred in identifying, developing and testing product candidates, which primarily consist of salaries and related expenses for personnel, fees paid to professional service providers for independent monitoring and analysis of our clinical trials, costs of contract research and manufacturing, and costs of facilities. The $53,855, or 26%, increase in research and development expense was primarily due to increased consultant costs related to our preclinical, clinical and contract manufacturing activities, offset by decreases in compensation costs and clinical investigator costs.

General and Administrative.  General and administrative expense for the year ended December 31, 2004 was $368,413 compared to $452,446 for the year ended December 31, 2003. General and administrative expense consists primarily of salaries and other related costs for personnel in executive, finance, investor relations, accounting, business development, and human resource functions. Other costs include facility costs not otherwise included in research and development expense, insurance, costs for public and investor relations and professional fees for legal and accounting services. The $84,033, or 19%, decrease in general and administrative expense was primarily due to reduced rent with our move to a smaller space in November 2003, lower patent-related costs, particularly in Europe and the Far East, and lower professional fees, compensation and travel costs. In 2004, due to our lower levels of cash, we reduced spending until additional financing could be raised.

Consulting Revenue.  Consulting revenue for the year ended December 31, 2004 was $13,374 compared to $26,000 for the year ended December 31, 2003. The $12,626, or 49%, decrease in consulting revenue was due to the completion of existing consulting engagements and the decision not to seek additional consulting opportunities and instead focus on our preclinical and clinical activities.

Interest Income.  Interest income for the year ended December 31, 2004 was $95 compared to $231 for the year ended December 31, 2003. The $136, or 59%, decrease in interest income during the year ended December 31, 2004 over the comparable period in 2003 related to lower average cash balances in 2004.

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Interest Expense.  Interest expense for the year ended December 31, 2004 was $208,741 compared to $75,176 for the year ended December 31, 2003. The $133,565, or 178%, increase was due to our higher average balances payable to stockholders pursuant to our promissory notes.

HCA Deferred Revenue.  HCA deferred revenue for the year ended December 31, 2004 was $0 compared to $225,198 for the year ended December 31, 2003. The revenue in 2003 related to the termination of a marketing, development and distribution agreement and the recognition of all remaining revenue that had been deferred under the terms of the agreement.

Miscellaneous Income.  Miscellaneous income for the year ended December 31, 2004 was $5,206 compared to $30,729 for the year ended December 31, 2003. The $25,523, or 83%, decrease in miscellaneous income primarily related to deferred rent adjustments related to our move to a new space in November 2003, offset by a $4,165 increase in rental income from the subleasing of office space.

Liquidity and Capital Resources

We have financed our operations since inception through the sale of equity securities and the issuance of debt. As of September 30, 2005, we had approximately $4,830,000 in unrestricted cash and equivalents.

During the nine months ended September 30, 2005, cash of $1,785,000 was used in operations, primarily due to a net loss of $2,348,000, a $2,088,000 non-cash gain attributable to the forgiveness of debt, a decrease in prepaid expenses and other current assets of $51,000, and a decrease in accounts payable and accrued expenses of $40,000, offset by stock-based compensation expense of $168,000 and non-cash restructuring expenses of $2,521,000.

During the nine months ended September 30, 2005, cash of $223,000 was used in investing activities due to $23,000 in purchases of property and equipment, an increase in restricted cash of $195,000 and an increase in deposits of $5,000.

During the nine months ended September 30, 2005, financing activities provided cash of $6,828,000 consisting of net proceeds of $2,680,000 from the sale of preferred stock, net proceeds of $3,819,000 from the sale of units (each unit initially consisting of 20,000 shares of common stock and a warrant to purchase 10,000 shares of common stock), and $850,000 from the issuance of promissory notes, partially offset by $521,000 in payments on promissory notes payable to stockholders and holders of our long-term debt. On October 3, 2005, we completed a second closing of our Series A preferred stock financing and received net proceeds of $184,000.

We believe that our available cash and cash equivalents will be sufficient to meet our working capital requirements, including operating losses, and capital expenditure requirements until September 2006, assuming that our business plan is implemented successfully.

However, we believe that we will need to raise additional capital within the next twelve months in order to support the planned growth of our business. We may seek additional funding through collaborative arrangements and public or private financings. Additional funding may not be available to us on acceptable terms or at all. In addition, the terms of any financing may adversely affect the holdings or the rights of our stockholders. For example, if we raise additional funds by issuing equity securities, further dilution to our existing stockholders may result. If we are unable to obtain funding on a timely basis, we may be required to significantly curtail one or more of our research or development programs. We also could be required to seek funds through arrangements with collaborators or others that may require us to relinquish rights to some of our technologies, product candidates, or products which we would otherwise pursue on our own.

Even if we are able to raise additional funds in a timely manner, our future capital requirements may vary from what we expect and will depend on many factors, including the following:

	•	the timing, receipt, and amount of milestone and other payments, if any, from collaborators;

	•	the resources required to successfully complete our clinical trials;

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	•	the time and costs involved in obtaining regulatory approvals;

	•	continued progress in our research and development programs, as well as the magnitude of these programs;

	•	the cost of manufacturing activities;

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

	•	our ability to establish and maintain additional collaborative arrangements.

Recently Issued Accounting Pronouncement

On December 16, 2004, the Financial Accounting Standards Board issued SFAS 123 (revised 2004), Share-Based Payment , which is a revision of SFAS 123 (SFAS 123R). SFAS 123R supersedes APB 25 and amends SFAS No. 95, Statement of Cash Flows . Generally, the approach in SFAS 123R is similar to the approach described in SFAS 123, detailed below. However, SFAS 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the statement of operations based on their fair values at the date of grant. Pro forma disclosure is no longer an alternative. In April 2005, the SEC delayed the effective date for adoption to no later than the beginning of the first fiscal year beginning after December 15, 2005. Early adoption will be permitted in periods in which financial statements have not yet been issued. We expect to adopt SFAS 123R on January 1, 2006, the commencement of our first quarter of fiscal 2006.

SFAS 123R permits public companies to adopt its requirements using one of two methods. A ‘‘modified prospective’’ is a method in which compensation cost is recognized beginning with the effective date (a) based on the requirements of SFAS 123R for all share-based payments granted after the effective date and (b) based on the requirements of SFAS 123 for all awards granted to employees prior to the effective date of SFAS 123R that remain unvested on the effective date. A ‘‘modified retrospective’’ is a method which includes the requirements of the modified prospective method described above, but also permits entities to restate based on the amounts previously recognized under SFAS 123 for purposes of pro forma disclosures either of (a) all prior periods presented or (b) prior interim periods of the year of adoption. We have yet to determine which method to use in adopting SFAS 123R.

As permitted by SFAS 123, we currently account for share-based payments to employees using APB 25's intrinsic value method and, as such, generally recognize no compensation cost for employee stock options. Accordingly, the adoption of SFAS 123R's fair-value method may have a significant impact on our reported results of operations, although it will have no impact on our overall financial position. The impact of adoption of SFAS 123R cannot be predicted at this time because it will depend on levels of share-based payments granted in the future. However, had we adopted SFAS 123R in prior periods, the impact of that standard would have approximated the impact of SFAS 123 as described in the disclosure of pro forma net loss and net loss per share in Note 3 to our financial statements. We are currently evaluating the impact of the adoption of SFAS 123R on our financial position and results of operations, including the valuation methods and support for the assumptions that underlie the valuation of the awards.

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BUSINESS

We were incorporated in June 1996 as AVAM International, Inc. In October 1998, Novelos Therapeutics, Inc., a newly incorporated entity, merged into AVAM, and the name of AVAM was changed to Novelos Therapeutics, Inc. In June 2005, we merged with Common Horizons, Inc., a Nevada corporation, and the surviving company was Novelos Therapeutics, Inc.

We are a development stage biotechnology company commercializing two promising oxidized glutathione-based compounds, NOV-002 and NOV-205. We believe these compounds could have clinical value in the treatment of a number of cancers and both hepatitis B and C. Both compounds have completed clinical trials in humans and have been approved for use in the Russian Federation where they were developed. NOV-002, marketed in Russia by ZAO BAM, a company controlled by one of our directors, Mark Balazovsky, under the trade name GLUTOXIM ^® , has been administered to over 5,000 patients, demonstrating clinical efficacy and excellent safety. For more information regarding ZAO BAM, see the section entitled, ‘‘Certain Relationships and Related Transactions.’’ The U.S.-based Phase 1/2 clinical study of NOV-002 in combination with chemotherapy for lung cancer has been completed, with what we believe to be, positive results. A Phase 2B/3 study is expected to commence in 2006. We expect to file an Investigational New Drug Application with the FDA for NOV-205 as a mono-therapy for hepatitis C by year-end 2005 and initiate a U.S.-based Phase 1/2 clinical study in early 2006.

NOV-002, our lead compound, is being developed to treat non-small cell lung cancer. NOV-002 is designed to act as a chemoprotectant and an immunomodulator. In a 1996 to 1998 Russian study, NOV-002 increased the one-year survival rate from 17% to 63% when used in combination with chemotherapy. This result represents an 80% improvement over the U.S. survival rate of 35% that results from the current standard of care. A U.S.-based Phase 1/2 clinical study of NOV-002 has been completed in which treated patients demonstrated improved objective tumor response (defined as greater than 50% tumor shrinkage) and higher tolerance of chemotherapy versus the control group. NOV-002 was well tolerated, thus adding to the compound’s already extensive safety data base.

We are also developing NOV-002 to treat ovarian cancer. In a 1998 Russian study, NOV-002 sensitized previously platinum-resistant ovarian cancer patients to chemotherapy. In combination with NOV-002, 80% of the women responded favorably to the same chemotherapy that they had failed previously.

We are also developing NOV-002 for the treatment of acute radiation injury. Animal models have shown that NOV-002 may provide a significant survival advantage if administered following a catastrophic radiation exposure from, for example, a nuclear weapon, a dirty bomb or an accident at a nuclear power plant.

We are developing NOV-205 to treat chronic hepatitis C in the U.S. NOV-205 is designed to act as a hepatoprotective agent with immunomodulating and antiviral activity. In Russian clinical studies completed in 1999, NOV-205 has been shown to greatly reduce or eliminate viral loads and to vastly improve liver function.

From October 1, 2003 to September 30, 2005, we spent approximately $1,100,000 over the past two years on research and development activities.

Business Strategy

Our primary objective is to fully exploit our proprietary scientific and intellectual property position in glutathione-modulating therapeutics. NOV-002 has demonstrated an excellent safety and efficacy profile in Russia, both in clinical studies and in commercial distribution, as an adjunctive treatment to chemotherapy for a number of different cancers. The Russian data is particularly compelling in non-small cell carcinoma and refractory (resistant to initial chemotherapy) ovarian cancer, and the current as well as projected unmet medical need in these types of cancer is great. Positive results in a controlled U.S-based Phase 1/2 lung cancer study suggests that the Russian experience can be replicated here. Therefore, we are implementing a focused program in each of these indications designed to gain FDA approval in the shortest amount of time with a reasonable amount of expense.

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Likewise, NOV-205 has demonstrated the ability to substantially decrease the viral load of patients with either hepatitis B or C as well as to restore normal liver function. In the U.S., both hepatitis B and C are relatively large markets, but hepatitis B is reasonably well served. Therefore, we will concentrate clinical development efforts on chronic hepatitis C, which should represent a more direct path to regulatory approval as well as providing patients with an improved therapy regimen. We will seek to out-license hepatitis B indication in the Far East where the incidence of the disease is very high.

We also intend to aggressively explore the commercial potential of NOV-002 for treatment of acute radiation injury in the U.S. and abroad to address the growing concern over catastrophic radiation exposure from, for example, a nuclear weapon, a dirty bomb or an accident at a nuclear power plant. Significantly, animals treated with NOV-002 demonstrated an increase of two- to three-fold survival (measured at thirty days) compared to the irradiated control animals. In December 2004, we responded with a Capability Statement to the U.S. Department of Health and Human Services’ Request for Information seeking radiation treatment drugs, and intend to submit a formal proposal in 2006.

For both NOV-002 and NOV-205, we plan to develop the product in the U.S. to the point where initiation of a pivotal trial is possible. At that point, we plan to out-license the drug and indication in Europe and/or Japan and use resources from these arrangements to offset in part the expense of the pivotal trials. In addition, we plan to out-license non-strategic indications, like hepatitis B, in markets like the Far East (including China and India). We further plan to leverage the Small Business Technology Transfer program and U.S. State Department grants, which support Russian scientific employment in the biomedical sciences, to provide additional funding for preclinical development initiatives.

Technology Overview

Glutathione is a naturally occurring substance present in nearly all cells of the body. The glutathione pathway consists of glutathione, oxidized glutathione, the primary component of NOV-002, and associated metabolic enzymes. It is considered to be the most important cellular system for protection against the toxic effects of a variety of cell-damaging molecules. More recently, it has become evident that in addition to this cell protective role, a key function of the glutathione system is to dynamically regulate cell function by reversibly altering the structure of proteins via a process termed glutathionylation. The resulting activation/inhibition of protein function is analogous to the much-studied role of protein phosphorylation as a cellular regulatory mechanism.

Thus, changes in the ratio of intracellular glutathione and oxidized glutathione can trigger glutathionylation, affecting cell signaling pathways that govern a variety of critical cell functions including gene expression, cell proliferation, growth arrest and apoptosis (programmed cell death). Importantly, it has been shown that oxidized glutathione itself is capable of causing protein glutathionylation leading to changes in cell signaling pathway function. Examples of effects of oxidized glutathione on gene expression include regulation of gene transcription factors such as NFkB and AP-1 which have been shown to have pivotal roles in the regulation of many genes involved in immune and inflammatory responses, including cytokines and growth factors. Findings with NOV-002 in animals and man (e.g., cell protection; effects on cytokine production and blood cell proliferation; immune system modulation) are consistent with the hypothesis that it may act, at least in part, by such a mechanism.

Pharmacological manipulation of glutathione and oxidized glutathione (e.g., including protein glutathionylation) can have multiple (and parallel) effects on cells, with the overall impact on cell function being dependent upon the type of cell and its physiological state (i.e., normal or diseased). In light of this complexity, identification of the precise molecular targets of NOV-002, which account for its clinical effects, is the subject of ongoing study.

Products in Development

Our current developmental pipeline of drugs is based on oxidized glutathione, a natural metabolite, that has shown excellent safety as well as preclinical and clinical efficacy in numerous

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cancers, hepatitis B and C, HIV, psoriasis, tuberculosis and certain other diseases. The lead products are believed to act via glutathionylation of critical regulatory molecules that mediate immune function, tumor progression (in combination with chemotherapy), and drug detoxification.

     NOV-002

NOV-002 is an injectable, small-molecule derivative of a natural metabolite that is being developed in combination with chemotherapy for treatment of lung and ovarian cancer.

     NOV-002 for Non-Small Cell Lung Cancer

The drug is approved in Russia for general medicinal usage as an immunostimulant in combination with chemotherapy and antimicrobial therapy, and specifically for indications such as tuberculosis. Active additional trials in Russia are underway for non-small cell lung cancer and psoriasis in order to register the drug for these specific labels. Efficacy and excellent safety has been demonstrated in trials with 340 patients with several types of cancer including: non-small cell lung cancer, colorectal cancer, pancreatic cancer, breast cancer and ovarian cancer. Since the Russian Ministry of Health approval in 1998, NOV-002 has been administered to over 5,000 patients.

According to the American Cancer Society, in 2004, about 1.4 million U.S. men and women were expected to be diagnosed with cancer. In 2004, over 500,000 U.S. cancer patients were expected to die, which makes cancer the second leading cause of death in the U.S., exceeded only by deaths related to heart disease. Lung cancer is the leading cause of cancer death in the U.S. It was expected that in 2004 approximately 175,000 people would be diagnosed with lung cancer and 160,000 would die as a result. According to Needham & Company, the pharmaceutical market for treating lung cancer in the U.S. was approximately $800 million in 2003. Non-small cell lung cancer accounts for more than 80% of lung cancer. Only about 15% of non-small cell lung cancer patients are diagnosed early enough to be eligible for surgery.

Platinum-based chemotherapy regimens are standard first-line treatment for advanced non-small cell lung cancer patients, since these patients are not eligible for surgery. Carboplatin and paclitaxel are the most common combination therapy in the U.S., while cisplatin and gemcitabine are more common in Europe. During treatment, patients continue to be subject to serious adverse effects. According to December 2003 Credit Suisse First Boston and UBS reports, one-year survival rate for first-line therapy is typically only 35%, median survival is 8.5 months and an objective response rate is about 21%. Overall, less than 5% of the patients survive five years. Docetaxel is approved for use as second-line treatment of non-small cell lung cancer. New regimens with existing cytotoxic drugs are expected to provide only incremental improvements in efficacy and/or safety, but are very expensive. Newly emerged targeted biologic therapies, such as Astra Zeneca’s IRESSA ^® , OSI’s TARCEVA ^® and Genentech’s AVASTIN ^® , may offer some limited benefit for certain patients, but overall efficacy has remained low, there are safety concerns and the costs are very high. Thus, there is a lack of effective treatments for non-small cell lung cancer, particularly for late stage patients.

NOV-002, unlike any other marketed drug or product in development, appears to be generally synergistic with chemotherapy in that it allows the patient to safely undergo more regimes of chemotherapy and produces a clinical survival benefit (63% in Russian study versus 35% typical in the U.S.). We expect that NOV-002 will be used in combination with existing and future first- and second-line chemotherapy treatments and may be complementary to certain recently emerging third-line products. Thus, we expect NOV-002 to be used across the entire treatment spectrum for non-small cell lung cancer.

Numerous clinical studies have been concluded in the Russian Federation over the last decade, and NOV-002 was approved as an adjunct to chemotherapy in Russia in 1998. Evidence of clinical safety and efficacy was demonstrated in 340 patients with 13 types of cancers, including non-small cell lung cancer. These clinical studies were also presented to the FDA in the U.S. Investigational New Drug Application, which we filed in 1999. Overall, the studies revealed that NOV-002 could be safely and effectively added to various chemotherapy regimens and the patients tolerated the combination therapy better than standard chemotherapy alone. The patients had a better quality of life and rapid restoration of hematological and immunological indices.

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In St. Petersburg, Russia, a multi-center, randomized, open-label study was conducted to evaluate the safety and efficacy of NOV-002 in patients with non-small cell lung cancer. The overall results of the Russian non-small cell lung cancer study were impressive. NOV-002, used in combination with chemotherapy, dramatically and significantly increased the one year survival rate (63% treated group vs. 17% control). NOV-002 significantly improved the patient’s ability to conduct daily activities and quality of life, increased tolerance to chemotherapy, improved hematologic parameters and improved or normalized kidney/liver toxicity markers. Importantly, no NOV-002 associated adverse effects were observed. In addition, in an independent non-small cell lung cancer study (of similar design) in Moscow, 55% of the patients survived for one year.

The FDA accepted our sponsored Phase 1/2 clinical study in late 1999. An Investigational New Drug Application was supported by the Russian experience, namely clinical safety and efficacy, extensive animal toxicology studies and a comprehensive chemistry and manufacturing package. The aim of the Phase 1/2 clinical study was to demonstrate safety, detect trends towards efficacy, and support initiation of the Phase 2B/3 study.

Forty-four chemotherapy-naive late-stage lung cancer patients who have not received prior chemotherapy were randomized to one of three groups for six months of treatment:

	•	Group A: NOV-002, administered intravenously and intramuscularly, in combination with cytotoxic chemotherapy.

	•	Group B: NOV-002, administered intravenously and subcutaneously, in combination with cytotoxic chemotherapy.

	•	Group C: Cytotoxic chemotherapy alone was administered to this control group.

Based on the study protocol, the intent-to-treat analysis of the best overall objective tumor response (e.g., complete or partial tumor shrinkage) showed that eleven out of sixteen (69%) NOV-002 treated patients in Group B demonstrated greater than 50% tumor shrinkage versus only five out of fifteen (33%) in the control group (C). This difference was statistically significant (p=0.044 in a stratified analysis). Six out of thirteen (46%) patients in Group A demonstrated an objective response.

Further, NOV-002 treated patients better tolerated cytotoxic chemotherapy as evidenced by their ability to receive more cycles of chemotherapy compared to the control group (C). 100% of patients in Group B and 85% in Group A were able to complete four cycles of chemotherapy, while only 50% of control group patients (C) were able to do so. These differences were statistically significant (p=0.004). In addition, NOV-002 was well tolerated in this patient population, adding to NOV-002’s already extensive safety database.

We are scheduled to meet with the FDA in December 2005 to review our positive data from the study and consider our design of a pivotal Phase 3 study of NOV-002 in combination with chemotherapy as treatment for non-small cell lung cancer. We plan to commence this Phase 3 study in 2006.

     NOV-002 for Refractory Ovarian Cancer

According to the American Cancer Society, in 2004, 25,000 U.S. women were expected to be diagnosed with ovarian cancer, and 16,000 women were expected to die from it. According to Needham & Company, the pharmaceutical market for treating ovarian cancer was estimated to be $280 million in 2003. There is a lack of effective treatment, particularly in the case of refractory patients (those that do not respond to chemotherapy). First-line chemotherapy treatment is the same in ovarian cancer as in non-small cell lung cancer.

Standard first-line treatment for ovarian cancer patients is carboplatin and paclitaxel chemotherapy combination. Doxorubicin and topotecan alternate as second− and third-line chemotherapy treatments.

Refractory ovarian cancer patients have a very poor prognosis because they are faced with inadequate therapeutic options. According to a Lehman Brothers report dated September 2002,

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response rates from second-line treatments, such as doxorubicin and topotecan, are typically less than 12%. Re-exposure to cisplatin-based treatment will typically have less than a 15% response rate.

Our clinical data, generated in Russia in 1998, suggests the ability of NOV-002 to sensitize previously platinum-resistant ovarian cancers. A 40% objective response rate (in combination with platinum-based chemotherapy) compares very favorably to current alternatives. Objective response is defined as partial (50% or greater tumor reduction) or complete response; it does not include stabilization of the disease or small reductions in tumor size. Thus, NOV-002 has the potential to be used across the full spectrum of patients with platinum-refractory disease.

In Russia in 1998, 20 ovarian cancer patients were treated for three cycles with standard chemotherapy. All patients were assessed with progressive disease according to qualitative assessments and Cancer Antigen 125. The patients were then treated with NOV-002 for three to four weeks, followed by three more cycles of the same chemotherapy (which they previously failed) in conjunction with NOV-002. None of the patients responded to chemotherapy alone. However, 80% of the patients (16 out of 20) demonstrated a qualitative response to NOV-002. 40% of the patients demonstrated a partial or complete response (8 out 20). Positive results were further substantiated by a significant reduction of Cancer Antigen 125 for NOV-002 treated patients. Thus, NOV-002 has the potential to be used across the full spectrum of patients with platinum-refractory disease.

In the U.S., we formulated an ovarian cancer development strategy. We plan to pursue it via the open Investigational New Drug Application for NOV-002. We plan to submit to the FDA a study design in platinum-refractory ovarian cancer patients, and proceed with a Phase 2 study in the second quarter of 2006.

     NOV-002 for Treatment of Acute Radiation Injury

Significant market opportunity and unmet need exists for a drug that may safely treat the effects of acute radiation injury. In today’s world, there appears to be more concern than ever about an attack by a nuclear weapon, a dirty bomb or an attack or accident at a nuclear power plant. The majority of deaths following such an attack do not result from the explosion itself, but from bone marrow suppression, which in turn leads to neutropenia (severe loss of white blood cells, neutrophils, leaving the body defenseless against infections) and depletion of platelets (key clotting factors that stop bleeding). The window of opportunity to treat radiation injury is short, thus the drug would need to be stockpiled at the local level in high risk areas, such as military bases, major population centers and within a 10-50 mile radius of a nuclear power plant facilities.

Current treatment options are essentially non-existent. Potassium iodide is the only pharmaceutical agent that has been stockpiled in the event of radiation exposure. However, it is only effective in reducing the risk of thyroid cancer, and does not protect the body from acute radiation injury. Similarly, the FDA recently approved pentetate calcium trisodium injection and pentetate zinc trisodium injection, which have already been in use for decades to treat radiation contamination caused by industrial accidents. The goal of treatment with these agents is to help remove the radioactive elements from the body and reduce the risk of the development of illnesses such as cancer that can occur years after exposure, but do not address acute radiation injury.

NOV-002 is a safe, clinically proven product that has the potential to reduce the development of neutropenia, increase bone marrow cells and improve chances of survival when administered at times after acute exposure to radiation. NOV-002 has been safely administered to several thousand Russian patients since the mid-1990s and to a limited number of U.S. persons in a U.S. Phase 1/2 lung cancer study. Further, NOV-002 has already demonstrated the ability to restore hematological parameters and boost immune function in cancer patients receiving chemotherapy.

In Russian preclinical experiments in 2003, groups of mice and rats were irradiated. The animals treated with NOV-002 demonstrated an increase of two- to three-fold survival (measured at thirty days) compared to the irradiated control animals. Moreover, there was a 2.5 times increase in the number of hematopoietic colony-forming units in the spleens of mice receiving NOV-002 after radiation, as compared to those receiving radiation alone. In another experiment, two groups of rats

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were irradiated. The control group received no treatment. The treated group received daily injections of NOV-002. The NOV-002 treated animals did not experience severe neutropenia.

We intend to aggressively explore the commercial potential of NOV-002 for radiation protection in the U.S. and abroad, to address the growing concern over catastrophic radiation exposure from a nuclear weapon, a dirty bomb, or an attack/accident at a nuclear power plant. In December 2004, we submitted a Capability Statement in response to a U.S. Department of Health and Human Services’ Request for Information for Therapeutics to Treat Neutropenia and Thrombocytopenia Associated with the Acute Radiation Syndrome. We are currently planning animal experiments with Shriners Hospitals to confirm the radiation protection results from Russia. We plan to submit a proposal to the Department of Health and Human Services in 2006 for the treatment of patients with NOV-002 after acute exposure to lethal radiation.

     NOV-205

     NOV-205 for Chronic Hepatitis C

NOV-205 is a unique, injectable, small molecule proprietary formulation of oxidized glutathione stabilized with inosine. NOV-205 is being developed in the U.S. for the treatment of chronic hepatitis C.

NOV-205 was approved in Russia by the Ministry of Health in 2001 as a mono-therapy agent to treat hepatitis B and C and has an excellent safety profile. The drug has been effective in safely reducing the viral load and improving the liver function of hepatitis B and C patients. The Russian approval of NOV-205 was supported by a Russian New Drug Application, which included three studies in hepatitis B and three studies in hepatitis C, totaling 90 treated patients. An additional 88 patients were treated in previous anecdotal studies. No NOV-205 related adverse events were reported among any of the 178 patients treated in these studies.

Overall, NOV-205 was effective in reducing the viral load and improving the liver function of hepatitis patients, with relatively short treatment periods of only one to two months. In addition to its efficacy, NOV-205 is very safe in contrast to the currently approved therapies in the U.S., which have limited effectiveness, are expensive and have severe side effects (such as fatigue, fever, headaches, muscle pain), particularly in the case of chronic hepatitis C. Pegylated interferon and ribavirin combinations, on the other hand, have limitations of safety and tolerability (40-65% of treated patients experience fatigue, depression, fever, headaches, muscle pain, anemia).

According to the World Health Organization, chronic hepatitis C affected 170 million people worldwide in 2003, and up to four million people are newly infected each year. Chronic infection can progress to cirrhosis and end-stage liver disease. While there are varying estimates about the size of the global market for hepatitis C drugs, the current market is believed to be in excess of $2 billion per year, growing to $4 billion by 2007 and over $10 billion by 2012. In the U.S., according to the Centers for Disease Control and Prevention, an estimated 3.9 million persons were infected with hepatitis C, and 2.7 million persons in the U.S. had chronic infection in 2003. Hepatitis C infections account for approximately 30,000 new infections and 8,000-10,000 deaths each year in the U.S.

Chronic hepatitis C drugs such as the pegylated interferon and ribavirin combos are difficult to tolerate for many patients. Furthermore, these drugs are only effective in relatively few patients and are very expensive. The new product pipeline is relatively small due to a lack of predictive animal models. While a few are novel approaches in early stage development, most are variations of ribavirin and interferon.

NOV-205 appears to have a number of advantages over the current chronic hepatitis C drugs, including greatly improved safety and side-effect profiles, improved efficacy potential based on data observed to date, and manufacturing cost advantages.

In Russian clinical studies, 40-60% of the chronic hepatitis C patients did not have any measurable viral load, and patients on average experienced a substantial improvement in liver function, during only one to two months of treatment. Significantly, these responses were largely maintained during the one to three months of follow up.

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On the basis of the Russian New Drug Application package submitted to the Russian Ministry of Health in 2001, we expect to submit to the FDA an Investigational New Drug Application by year-end 2005 for mono-therapy in chronic hepatitis C. We expect to begin Phase 2 efficacy studies with NOV-205 in early 2006.

Other Clinical Indications

We have seen encouraging clinical results from Russia in other indications, such as treatment of patients with severe forms of psoriasis with NOV-002 and treatment of patients with hepatitis B as well as HIV with NOV-205. However, we are a small company with limited economic and personnel resources, and thus do not intend to pursue these indications at the present time.

Research and Preclinical Programs

We have a scientific research collaboration with Kenneth Tew, Ph.D., D.Sc., chairman of the department of cell and molecular pharmacology and experimental therapeutics at Medical University of South Carolina. Dr. Tew is also a chairman of our scientific advisory board. A detailed preclinical development plan has been formulated with Dr. Tew. The general objectives of the plan are to add to the understanding of NOV-002 and NOV-205 as drug products to facilitate the: (1) design and execution of clinical studies, (2) interactions with the FDA and (3) interactions with others in the scientific community.

We are also working with Jeffrey Gelfand, M.D., senior advisor for international medical affairs at Partners Healthcare System (Massachusetts General Hospital, Harvard, Dana Farber, Brigham and Women’s) and director of the Center for Integration of Medicine and Innovative Technology, as well as with the U.S. State Department to continue research and development efforts in Russia. Through an ongoing effort, the U.S. State Department has committed over $30 million to convert former Russian bioweapons facilities into research medical institutions with technologies and products suitable for commercialization. We hope to launch several mechanistic and oral formulation experiments as well as host defense animal studies through this effort. We further expect Dr. Gelfand’s new laboratory at Shriners Hospitals to commence a program in animal models to confirm our radiation protection results from Russia.

We intend to continue to collaborate, through ZAO BAM, with leading Russian research institutions in Moscow and St. Petersburg to enhance the basic science of the glutathione pathway, support development of NOV-002 and NOV-205 and develop additional products and product forms. Further, through our contacts in Russia, we continue to have unique access to products and technologies not only developed by ZAO BAM, but also by other research institutions and scientists.

Manufacturing

Our proprietary manufacturing process is well developed according to current Good Manufacturing Principles, simple, inexpensive and scalable. We have used U.S. and Canadian contract manufacturing facilities to support our U.S. development efforts. We do not plan to build manufacturing capability over the next several years. Rather, we plan to continue to employ contract manufacturers.

The active pharmaceutical ingredient of NOV-002 is manufactured in the U.S. in compliance with current GMP at Synthetech (Albany, OR) in a single, very cost effective synthetic step and then lyophilized into a powder at Oregon Freeze Dry (Albany, OR). It is then filled, finished and packaged at Dalton Pharma Services (Toronto, Canada) as a sterile filtered, aseptically processed solution for intravenous, intramuscular and/or subcutaneous use. NOV-002 Clinical Trial Material, API and vials, successfully completed 36-month stability studies.

Similar to NOV-002, NOV-205’s active pharmaceutical ingredient is manufactured in compliance with current GMP in a single, very cost effective, synthetic step at Synthetech and then lyophilized into a powder at Oregon Freeze Dry. It is then filled, finished and packaged at Dalton Pharma Services.

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Intellectual Property

We own all intellectual property rights worldwide (excluding Russia and other states of the former Soviet Union) related to both clinical compounds and other pre-clinical compounds based on oxidized glutathione. We have four patents in the U.S., two in Europe, one in Japan and one in Canada. We have also filed over 30 patent applications worldwide.

Our breadth of intellectual property will allow us to expand our pipeline by claiming and commercializing additional compounds that are based on oxidized glutathione.

Employees

As of November 15, 2005, we had five employees, all of whom are full-time employees. We believe our relationships with our employees are good.

Regulation

The manufacturing and marketing of NOV-002 and NOV-205 and our related research and development activities are subject to regulation for safety, efficacy and quality by numerous governmental authorities in the United States and other countries. We anticipate that these regulations will apply separately to each drug and compound in our drug therapy technology. We believe that complying with these regulations will involve a considerable level of time, expense and uncertainty.

In the United States, drugs are subject to rigorous federal regulation and, to a lesser extent, state regulation. The Federal Food, Drug and Cosmetic Act and other federal and state statutes and regulations govern, among other things, the testing, manufacture, safety, efficacy, labeling, storage, record keeping, approval, advertising and promotion of our drugs. Drug development and approval within this regulatory framework is difficult to predict and will take a number of years and involve the expenditure of substantial resources.

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

	•	Pre-clinical laboratory tests, in vivo pre-clinical studies and formulation studies;

	•	The submission to the FDA of an Investigational New Drug Application for human clinical testing, which must become effective before human clinical trials can commence;

	•	Adequate and well controlled human clinical trials to establish the safety and efficacy of the product;

	•	The submission of a New Drug Application or Biologic Drug License Application to the FDA; and

	•	FDA approval of the New Drug Application or Biologic Drug License Application prior to any commercial sale or shipment of the product.

In addition to obtaining FDA approval for each product, each domestic product manufacturing facility must be registered with, and approved by, the FDA. Domestic manufacturing facilities are subject to biennial inspections by the FDA and must comply with the FDA’s Good Manufacturing Practices for products, drugs and devices.

Whether or not FDA approval has been obtained, approval of a product by regulatory authorities in foreign countries must be obtained prior to the commencement of commercial sales of the drug in such countries. The requirements governing the conduct of clinical trials and drug approvals vary widely from country to country, and the time required for approval may be longer or shorter than that required for FDA approval. Although there are some procedures for unified filings for certain European countries, in general, each country at this time has its own procedures and requirements.

LITIGATION

There are no legal proceedings pending, or to our knowledge, threatened against us.

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PROPERTIES

We lease our executive offices in Newton, Massachusetts. Our office consists of approximately 2,200 square feet for approximately $4,830 per month. This lease expires in August 2006. We believe that our present facilities are adequate to meet our current needs. If new or additional space is required, we believe that adequate facilities are available at competitive prices.

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