CYGNUS INC /DE/, 424B5, 1998-02-04

CYGNUS INC /DE/
424B5, 1998-02-04
PHARMACEUTICAL PREPARATIONS

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PROSPECTUS SUPPLEMENT
(TO PROSPECTUS DATED NOVEMBER 12, 1997)

$43,000,000

CYGNUS, INC.

4% Senior Subordinated Convertible Notes due 2005

-------------------------

The 4% Senior Subordinated Convertible Notes due 2005 (the "Notes") of
Cygnus, Inc. (the "Company" or "Cygnus") offered hereby will mature on
February 1, 2005. Interest on the Notes will be paid annually on December
15, commencing December 15, 1998. Subject to the provisions of the Notes,
interest may be paid in whole or in part in fully-paid and nonassessable
shares of common stock of the Company, par value $.001 per share (the "Common
Stock"). The Notes will be convertible at the option of the Holders of the
Notes in two tranches, unless previously redeemed or repurchased, into shares
of Common Stock, in the case of any Tranch 1 Note, from and after the issance
and then at any time on or prior to the date such note is paid in full and in
the case of any Tranch 2 Note, from and after the date which is 121 days
after issuance and then at any date on or prior to the date such Note is paid
in full. In each case, the Notes may be converted all or from time to time
any part of the outstanding and unpaid principal amount of such Note, equal
to $25,000 or such lesser amount as shall remain unpaid at the time of the
conversion or may be permitted from time to time by the Company in its
discretion, and accrued and unpaid interest on the principal amount to be
converted and on any such interest into, fully paid and nonassessable shares of
Common Stock. Such conversion shall occur at the price that is, for any date,
the arithmetic average of the lowest daily per share Trading Prices during
the applicable Measurement Period for such date (the "Conversion Price");
provided, however, that in no event shall the Conversion Price for any date
be less than the Minimum Conversion Price applicable to such date regardless
of the Conversion Price otherwise determined as set forth above; provided
further, however, that in the case of any Conversion Date on or after
February 1, 2000, the Conversion Price shall be the greater of (x) $150.00 and
(y) an amount equal to 150% of the arithmetic average of the Market Price of
the Common Stock for the period of 20 consecutive Trading Days ending one
Trading Day prior to February 1, 2000. The Holders, subject to certain
conditions, may require their repurchase. See "Description of Notes --
Redemption" and see "Description of Notes--Conversion Rights." On January 30,
1998, the last reported sale price of the Common Stock as quoted on the
Nasdaq National Market (symbol "CYGN") was $18.375 per share. See "Price
Range of Common Stock." The Company does not expect that a market for the
Notes will develop.

On or after February 1, 1999, the Notes are redeemable at the option of
the Company, in whole or in part on one occasion, at a Redemption Price (as
defined herein) equal to 100% of the outstanding principal amount plus
accrued and unpaid interest to the date of redemption, if the Market Price
(as defined herein) of the Common Stock for any period of 20 consecutive
Trading Days (as defined herein) ending on or after February 1, 1999 is at
lease equal to 150% of the Maximum Conversion Price (as defined herein) in
effect at such time. In addition, the Notes are redeemable at the option of
the Company at any time on or after February 1, 1999 at the Minimum
Conversion Price Redemption Price (as defined herein) equal to 110% of the
outstanding principal amount plus accrued and unpaid interest to the Minimum
Conversion Price Redemption Date (plus any Default Interest (as defined
herein) thereon) if the Conversion Price on or after February 1, 1999 is less
than 12.50 per share of the Common Stock, subject to certain adjustments.
The Notes are redeemable at the option of the Company on three Trading Days'
notice at any time on or after February 1, 2000 at 100% of the outstanding
principal amount plus accrued but unpaid interest (plus any Default Interest
thereon). See "Description of Notes--Optional Redemption." In addition,
upon the occurrence of a Repurchase Event (as defined herein) on or prior to
February 1, 2000, Holders of the Notes will have the right, subject to
certain restrictions and conditions, to require the Company to repurchase the
Holder's Notes, in whole or in part, at the repurchase prices set forth
herein. See "Description of Notes--Repurchase of Notes at the Option of
Holders Upon a Repurchase Event." The Notes are subject to defeasance,
subject to certain conditions, at any time. See "Description of Notes -
Defeasance."

The Notes are unsecured obligations of the Company and are subordinated to
all existing and future Senior Debt. The Indenture (as supplemented) contains
covenants restricting the ability to incur Indebtedness (as defined herein)
other than Permitted Indebtedness (as defined herein). Permitted Indebtedness
includes, among other things, bank debt, lease lines and purpose credits for
commercialization of the Company's products. As of December 31, 1997, the
Company had approximately $19.1 million of indebtedness outstanding that would
have constituted Senior Debt and Permitted Indebtedness. See "Description of
Notes--Subordination."

Without the Company's consent, the Notes may be transferred only to
Permitted Transferees (as defined herein). See "Description of Notes --
Transfer" and shall be issued in definitive form.

Cygnus and the Cygnus logo are registered trademarks of the Company and
GlucoWatch and AutoSensor are trademarks of the Company. FemPatch is a
registered trademark of the Warner-Lambert Company and Nicotrol is a registered
trademark of Pharmacia & Upjohn. All other trademarks included in this
Prospectus Supplement are the property of their respective holders.

-------------------------

SEE "RISK FACTORS" BEGINNING ON PAGE S-9 HEREIN FOR CERTAIN INFORMATION
THAT SHOULD BECONSIDERED BY PROSPECTIVE INVESTORS.

-------------------------

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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS
THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF
THIS PROSPECTUS SUPPLEMENT. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.

-------------------------

The date of this Prospectus Supplement is February 4, 1998.

S-2
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SUMMARY

THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND FINANCIAL STATEMENTS AND RELATED NOTES INCORPORATED BY REFERENCE
HEREIN AND IN THE ACCOMPANYING PROSPECTUS. AS USED IN THIS PROSPECTUS
SUPPLEMENT, UNLESS OTHERWISE INDICATED, REFERENCES TO THE "COMPANY" AND "CYGNUS"
ARE TO CYGNUS, INC. AND ITS CONSOLIDATED SUBSIDIARIES. THE TERMS GLUCOWATCH AND
GLUCOWATCH SYSTEM ARE USED INTERCHANGEABLY.

IN ADDITION TO THE HISTORICAL INFORMATION CONTAINED HEREIN, THE DISCUSSION
IN THIS PROSPECTUS SUPPLEMENT CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS,
WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED (THE
"SECURITIES ACT") AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS
AMENDED (THE "EXCHANGE ACT"), THAT INVOLVE RISKS AND UNCERTAINTIES, SUCH AS
STATEMENTS OF THE COMPANY'S PLANS, OBJECTIVES, EXPECTATIONS AND INTENTIONS. THE
CAUTIONARY STATEMENTS MADE IN THIS PROSPECTUS SUPPLEMENT SHOULD BE READ AS BEING
APPLICABLE TO ALL RELATED FORWARD-LOOKING STATEMENTS WHEREVER THEY APPEAR IN
THIS PROSPECTUS SUPPLEMENT. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY
FROM THOSE DISCUSSED HEREIN. FACTORS THAT COULD CAUSE OR CONTRIBUTE TO SUCH
DIFFERENCES INCLUDE THOSE DISCUSSED BELOW AS WELL AS THOSE CAUTIONARY STATEMENTS
AND OTHER FACTORS SET FORTH ELSEWHERE OR INCORPORATED BY REFERENCE HEREIN.

THE COMPANY

Cygnus is engaged in the development and manufacture of diagnostic and drug
delivery systems, utilizing proprietary technologies to satisfy unmet medical
needs cost-effectively. The Company's current efforts are primarily focused on
two core areas: a painless, bloodless and automatic glucose monitoring device
(the GlucoWatch system) and transdermal drug delivery systems.

THE GLUCOWATCH SYSTEM

The Company's GlucoWatch system represents a potential advance in diabetes
care technology as compared to the currently prevailing "finger stab" blood
monitoring method. The GlucoWatch is designed to measure glucose painlessly,
bloodlessly and automatically through the ease and convenience of a device worn
like a wristwatch. Worldwide sales of blood glucose self-monitoring products
were approximately $2.5 billion in 1996, which represented an increase of
approximately 14% over 1995 levels. It is estimated that more than 40 million
people in North America, Europe, Japan and Korea have diabetes. In the U.S.
alone, more than ten million people have been diagnosed with another five
million believed to have the condition. The number of people with diabetes is
expected to continue to grow with the aging of the population, while the number
of diagnosed cases is also expected to increase with changes in diagnostic
standards and new diagnostic technologies. Clinical studies sponsored by the
National Institutes of Health indicate that better management of glucose levels
through more frequent testing would enable people with diabetes to reduce or
significantly delay many serious diabetes-related health complications. However,
largely due to the pain of repetitive finger stabbing and the associated
disruption of daily life, the Company believes most people with diabetes
currently test their glucose levels less than half as often as recommended. As a
result of the drawbacks of the finger stab method, the Company believes that
there is a significant unmet demand for a painless, bloodless, automatic
glucose-monitoring device.

To address this unmet demand, the Company is developing the GlucoWatch,
which is expected to reduce or eliminate significant drawbacks of the finger
stab testing technique. The device, which is worn like a wristwatch, is designed
to automatically extract and measure glucose levels painlessly through intact
skin every twenty or thirty minutes. The extracted glucose is collected in a
consumable transdermal pad called the AutoSensor, which is attached to the back
of the device and replaced approximately every twelve hours. The GlucoWatch
system is intended to offer a combination of features not available in currently
marketed devices, such as: an electronic memory to store and display glucose
levels; the ability to download stored information to personal computers to
analyze glucose data and trends; alarms indicating hypo- and hyperglycemic
conditions; and event markers which record factors that affect glucose levels.
The GlucoWatch is designed to be worn during the day and night for continuous
glucose monitoring. The Company believes the GlucoWatch system will provide the
frequent testing and

S-3
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trend analysis of glucose levels necessary to enable people with diabetes to
better manage their condition and eliminate the pain and inconvenience
associated with repetitively stabbing the finger to test the blood. The Company
believes this unique combination of features will result in better control of
glucose levels, improved quality of life and more cost-effective healthcare.

In developing the GlucoWatch, the Company has sought to design a device
that would offer the above features and be substantially equivalent to finger
stab blood glucose monitoring in terms of accuracy and precision. Test results
from a clinical study using a prototype of the GlucoWatch, which were published
in NATURE MEDICINE (November 1995), indicated a level of accuracy and precision
that the Company believes is comparable to those associated with finger stab
blood glucose monitoring devices. In 1997, Cygnus completed extensive research
clinical studies using a version of the GlucoWatch designed for commercial sale.
The results of these studies demonstrated that the GlucoWatch is able to measure
glucose levels with statistically significant accuracy and precision across a
variety of conditions. Based on the Company's research clinical studies and
published performance data for certain currently marketed finger stab monitoring
devices, the Company believes the GlucoWatch is capable of a level of accuracy
and precision comparable to such devices. There can be no assurance that the
Company will be able to successfully develop the GlucoWatch or that it will
obtain clearance or approval from the FDA. See "Risk Factors -- Dependence on
New Products; Underwriting of Market Acceptance" and "Risk Factors -- Regulatory
Approvals Uncertain".

REGULATORY APPROVAL

To prepare a submission to the United States Food and Drug Administration
(the "FDA") for approval of the GlucoWatch, the Company has initiated
registration clinical trials. Based on discussions with the FDA, the Company
believes that the submission will be in the form of a 510(k) notification,
although the final determination will not be made until the FDA receives the
submission. The Company anticipates submitting a 510(k) notification in the
second quarter of 1998, although the potential exists for this filing to be
deferred to the second half of 1998.

Although the Company believes its clinical results to date are encouraging,
to seek FDA approval for the GlucoWatch system, the Company will need to conduct
registration clinical trials. No assurance can be given that data generated in
such trials will be as favorable as data generated in clinical trials to date or
that, even if such data are as favorable, such data will provide a sufficient
basis for the approval of the GlucoWatch system by the FDA.

In 1996, Cygnus entered into collaborations with Becton Dickinson & Company
("Becton Dickinson") and Yamanouchi Pharmaceutical Co., Ltd. ("Yamanouchi") for
the commercialization of the GlucoWatch. Under the Becton Dickinson agreement,
the Company has granted Becton Dickinson exclusive worldwide marketing and
distribution rights, with the exception of Japan and Korea. Under this
agreement, the Company has primary responsibility for product development,
regulatory approvals, manufacturing and customer support, and retains the option
to participate in sales and marketing. The Company also entered into an
agreement with Yamanouchi for the marketing and distribution of the GlucoWatch
in Japan and Korea. Under these agreements, Cygnus is eligible to receive
up-front and milestone payments totaling $30 million prior to commercialization
and to receive a percentage of the product's future commercial success. In
June 1997, Cygnus granted Becton Dickinson worldwide marketing rights, with the
exception of Japan and Korea, for the Company's second generation glucose
monitor. Becton Dickinson has agreed to fund, in part, the development of the
product. In the past some of the Company's licensees, distributors and
collaborators have approached the Company requesting modification of the terms
of existing agreements. Becton Dickinson has recently approached the Company to
discuss modifying the non-compete terms of the existing agreement. The Company
is unable to predict the outcome of these discussions.

TRANSDERMAL DRUG DELIVERY SYSTEMS

S-4

<PAGE>

drug administration, including enhanced efficacy, increased safety, greater
convenience and improved patient compliance. By delivering a steady flow of
drugs into the bloodstream over an extended period of time, transdermal systems
can avoid the "peak and valley" effect of oral or injectable therapy and can
enable more controlled, effective treatment. By avoiding first pass metabolism
through the gastrointestinal tract and the liver, the therapeutically equivalent
dosage for the transdermal delivery of certain compounds can be significantly
less than the corresponding oral dosage, potentially reducing dosage-related
side-effects.

The Company's transdermal product line is focused on contraception, hormone
replacement therapy and smoking cessation. The Company has two marketed
products, the Nicotrol nicotine patch and the FemPatch estrogen hormone
replacement patch. The Company has strategic collaborations for its transdermal
products with Ortho Pharmaceutical Corporation, a subsidiary of Johnson &
Johnson (contraception), American Home Products Corporation, Sanofi, S.A. and
the Warner-Lambert Company (hormone replacement therapy), and Pharmacia & Upjohn
(smoking cessation).

-------------------------

RECENT OPERATING RESULTS AND DEVELOPMENTS

The Company's revenues for the fiscal year ended December 31, 1997 were
$29.5 million, as compared to $36.2 million for the year ended December 31,
1996. The Company's net loss for fiscal year 1997 was $50.5 million, or $2.67
per share, as compared to a net loss of $11.1 million, or $0.60 per share, in
fiscal 1996. In the fourth quarter of fiscal 1997, the Company's revenues were
$6.5 million and its net loss was $5.2 million, or $0.27 per share, compared to
revenues of $12.6 million and a net loss of $1.0 million, or $0.05 per share,
for the same period in fiscal 1996.

On February 4, 1998, the Company completed a direct public offering of its
Common Stock for total proceeds to the Company of approximately $13.8
million. The Common Stock was sold at a discount from the market price
pursuant to a shelf registration statement on Form S-3 filed with the
Securities and Exchange Commission which is the same registration statement
under which the Notes are registered. A Prospectus Supplement was filed with
the Securities and Exchange Commission in connection with such sale of Common
Stock.

S-5

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THE OFFERING

Securities Offered . . . . . . $43,000,000 aggregate principal amount of 4%
Senior Subordinated Convertible Notes due
2005.

Interest Payment Dates . . . . December 15 of each year, commencing December
15, 1998.

Maturity Date. . . . . . . . . February 1, 2005.

Conversion Rights. . . . . . . The Notes will be convertible in two tranches
on or prior to maturity, unless previously
redeemed or repurchased, into shares of
Common Stock at the Conversion Price. See
"Description of Notes-Conversion Rights."

Subordination. . . . . . . . . The Notes are unsecured obligations of the
Company and are subordinated to all existing
and future Senior Debt. As of December 31,
1997, the Company had approximately
$19.1 million of outstanding indebtedness
that would have constituted Senior Debt. The
Indenture restricts the incurrence of
Indebtedness other than Permitted
Indebtedness by the Company or any
subsidiary. See "Description of
Notes--Subordination."

Optional Redemption. . . . . . On or after February 1, 1999, the Notes are
redeemable at the option of the Company, in
whole or in part on one occasion, at a
Redemption Price (as defined herein) equal to
100% of the outstanding principal amount plus
accrued and unpaid interest to the date of
redemption, if the Market Price (as defined
herein) of the Common Stock for any period of
20 consecutive Trading Days (as defined
herein) ending on or after February 1, 1999
is at least equal to 150% of the Maximum
Conversion Price (as defined herein) in
effect at such time. In addition, the Notes
are redeemable at the option of the Company
at any time on or after February 1, 1999 at
the Minimum Conversion Price Redemption Price
(as defined herein) equal to 110%
of the outstanding principal amount plus
accrued and unpaid interest to the Minimum
Conversion Price Redemption Date (plus any
Default Interest (as defined herein) thereon
if the Conversion Price is less than 12.50
per share of Common Stock. The Notes are
redeemable at the option of the Company on
three Trading Days' notice at any time on or
after February 1, 2000 at 100% of the
outstanding principal amount plus accrued but
unpaid interest (plus Default Interest
thereon). See "Description of
Notes--Optional Redemption."

Mandatory Redemption . . . . . Should the Notes cease to be convertible into
Common Stock, the Notes may, in certain
cases, at the option of the Holders, be
subject to mandatory redemption in whole or
in part.

Repurchase Event . . . . . . . In the event of a Repurchase Event, each
Holder of Notes may, subject to certain
restrictions and limitations, require the
Company to repurchase its Notes, in whole or
in part, at the repurchase price set forth
herein which includes accrued and unpaid
interest, if any, to the date of repurchase.
See "Description of Notes-Repurchase of Notes
at the Option of Holders Upon a Repurchase
Event."

S-6

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Use of Proceeds. . . . . . . . The Company will use the net proceeds of this
offering for (i) capital expenditures for
equipment and commercialization expenses
related to the GlucoWatch, and
(ii) additional working capital, additional
capital expenditures and general corporate
purposes. See "Use of Proceeds."

Listing. . . . . . . . . . . . The Common Stock is quoted on the Nasdaq
National Market under the symbol "CYGN." No
application has been made for listing or
quotation of the Notes on any securities
exchange or securities market.

SUMMARY CONSOLIDATED FINANCIAL DATA

The summary consolidated financial data presented below is qualified in its
entirety by, and should be read in conjunction with, the Company's consolidated
financial statements and notes thereto incorporated by reference herein.

Nine Months Ended
Year Ended December 31, September 30,
--------------------------------------- ----------------------
1994 1995 1996 1996 1997
-------- ------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Revenues:
Product revenues . . . . . . . . . . . . . . $ 1,917 $ 3,704 $ 17,211 $12,442 $ 3,470
Contract revenues. . . . . . . . . . . . . . . 14,533 12,579 13,085 10,330 10,984
Royalty and other revenues . . . . . . . . . . .4,820 2,723 5,907 790 8,516
-------- -------- --------- ------- --------
Total revenues. . . . . . . . . . . . . . 21,270 19,006 36,203 23,562 22,970
-------- -------- --------- ------- --------

Costs and expenses:
Costs of products sold . . . . . . . . . . . . .3,293 4,746 16,659 11,052 7,071
Research and development . . . . . . . . . . . 21,605 20,029 23,165 16,881 16,353
Purchase of in-process research. . . . . . . . .9,000 -- -- -- --
Marketing, general and administrative. . . . . .5,491 7,369 9,296 6,876 6,103
Arbitration settlement . . . . . . . . . . . . . . -- -- -- -- 39,633
-------- -------- --------- ------- --------
Total costs and expenses. . . . . . . . . 39,389 32,144 49,120 34,809 69,160
-------- -------- --------- ------- --------
Loss from operations . . . . . . . . . . . . . (18,119) (13,138) (12,917) (11,247) (46,190)
Interest and other income, net . . . . . . . . . . .759 296 1,865 1,202 910
-------- -------- --------- ------- --------
Net loss . . . . . . . . . . . . . . . . . . .$(17,360) $(12,842) $(11,052) $(10,045) $(45,280)
-------- -------- --------- ------- --------
-------- -------- --------- ------- --------

Net loss per share . . . . . . . . . . . . . .$ (1.24) $ (0.79) $ (0.60) $ (0.54) $ (2.41)
Shares used in computation
of net loss per share. . . . . . . . . . . . 13,947 16,265 18,544 18,506 18,818

</TABLE>

S-7

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DECEMBER 31, SEPTEMBER 30, 1997
1996 Actual As Adjusted(1)
------------ ------------- --------------
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and short-term investments(2) . . . . . $49,434 $39,201 $79,201
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . .68,798 54,048 97,048
Short-term obligations, including current portion of
long-term obligations(3). . . . . . . . . . . . . . . . . .24,148 29,656 29,656
Long-term obligations, less current portion(4) . . . . . . . . .13,437 34,184 77,184
Stockholders' equity (net capital deficiency). . . . . . . . . .31,213 (9,792) (9,792)

</TABLE>

(1) Adjusted to reflect the issuance and sale of the Notes offered hereby and
the application of the net proceeds therefrom. Does not reflect the
approximately $13.8 million in proceeds from the Company's sale of Common
Stock. See "Prospectus Summary -- Recent Events," "Use of Proceeds" and
"Capitalization."
(2) September 30, 1997 data does not reflect $14.0 million paid on January 2,
1998 under an arbitration settlement. See "Business--Legal Proceedings."
(3) September 30, 1997 data includes $16.6 million related to an arbitration
settlement. See "Business--Legal Proceedings."
(4) September 30, 1997 data includes $23.0 million related to an arbitration
settlement. See "Business--Legal Proceedings."

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RISK FACTORS

AN INVESTMENT IN THE SECURITIES OFFERED HEREBY INVOLVES A HIGH DEGREE OF
RISK. THE FOLLOWING RISK FACTORS SHOULD BE CONSIDERED CAREFULLY IN ADDITION TO
THE OTHER INFORMATION CONTAINED OR INCORPORATED BY REFERENCE IN THIS PROSPECTUS
SUPPLEMENT AND ACCOMPANYING PROSPECTUS BEFORE PURCHASING THE SECURITIES OFFERED
HEREBY. IN ADDITION TO THE HISTORICAL INFORMATION CONTAINED HEREIN, THE
DISCUSSION IN THIS PROSPECTUS SUPPLEMENT CONTAINS CERTAIN FORWARD-LOOKING
STATEMENTS, WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT AND SECTION
21E OF THE EXCHANGE ACT, THAT INVOLVE RISKS AND UNCERTAINTIES, SUCH AS
STATEMENTS OF THE COMPANY'S PLANS, OBJECTIVES, EXPECTATIONS AND INTENTIONS. THE
CAUTIONARY STATEMENTS MADE IN THIS PROSPECTUS SUPPLEMENT SHOULD BE READ AS BEING
APPLICABLE TO ALL RELATED FORWARD-LOOKING STATEMENTS WHEREVER THEY APPEAR IN
THIS PROSPECTUS SUPPLEMENT. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY
FROM THOSE DISCUSSED HEREIN. FACTORS THAT COULD CAUSE OR CONTRIBUTE TO SUCH
DIFFERENCES INCLUDE THOSE DISCUSSED BELOW AS WELL AS THOSE CAUTIONARY STATEMENTS
AND OTHER FACTORS SET FORTH ELSEWHERE OR INCORPORATED BY REFERENCE HEREIN.

DEPENDENCE ON NEW PRODUCTS; UNCERTAINTY OF MARKET ACCEPTANCE

For the Company to be successful, it will need to develop, license, or
acquire new products. Several products based on the Company's technologies are
currently under development by Cygnus and its licensees. Many of these products
(including the GlucoWatch) will require significant additional development and
investment, including preclinical and clinical testing, prior to their
commercialization and are not expected to be commercially available for several
years, if at all. From time to time the Company has experienced delays or
setbacks in the development of certain of its products. For example, the Company
experienced development delays in the miniaturization of the GlucoWatch system.
There can be no assurance that such products or future products (including the
GlucoWatch) can or will be successfully developed, prove to be safe and
effective in clinical trials, meet applicable regulatory standards, be capable
of being manufactured in commercial quantities at reasonable cost or be marketed
successfully. Product development efforts can be terminated by the Company or
its licensees and there can be no assurance that initial product development
efforts or third party collaborations will be successful. See "--Dependence on
Licensees, Distributors and Collaborative Arrangements."

Before the Company can market the GlucoWatch, it must first conduct
registration clinical trials using a version of the product designed for
commercial sale, prepare a submission to the FDA and obtain clearance or
approval from the FDA. Approval from other U.S. or foreign government regulatory
agencies may also be required. Each of these stages will involve certain risks
and challenges. The Company has completed research clinical studies using a
commercial version of the product and has initiated registration clinical trials
for submission to the FDA. There can be no assurance that the commercial product
will produce results that are substantially equivalent to FDA-approved glucose
monitoring products or that will support the necessary regulatory filings and
approvals. In addition, if the Company receives the necessary regulatory
approvals for the GlucoWatch, there can be no assurance that unforeseen problems
will not occur in product manufacturing and commercial scale up or marketing or
product distribution. Any such occurrence could significantly delay the
commercialization of the GlucoWatch or prevent its market introduction entirely.
Furthermore, if the GlucoWatch is successfully developed, the commercial success
of the GlucoWatch will depend on its acceptance in the market.

The Company's revenues to date have been derived primarily from
manufacturing and royalty revenue from Nicotrol and from product development and
licensing fees related to its products under development. Pharmacia & Upjohn
("Pharmacia"), the worldwide licensee for Nicotrol, has exercised its option to
manufacture Nicotrol for North America. Thus, the Company will no longer receive
manufacturing revenue from Nicotrol, although Cygnus will continue to receive
royalties on the worldwide sales of Nicotrol. It is anticipated that total
revenues received from Nicotrol will be less in the future than the Company has
received in the past. The Company expects that a substantial portion of its
future revenues will be derived from the sale of the recently commercialized
FemPatch transdermal patch and, if regulatory approvals are obtained, sales of
the GlucoWatch and other products currently under development.

S-9
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HISTORY OF OPERATING LOSSES; FUTURE CAPITAL REQUIREMENTS

The Company reported a loss from operations of $51.6 million (including a
$39.6 million charge for the settlement of its litigation with Sanofi, S.A.
("Sanofi") further described in "Business--Legal Proceedings") for the year
ended December 31, 1997, and has experienced annual operating losses since
inception. At December 31, 1997, the Company had an accumulated deficit of
$136.5 million. The Company expects to continue to incur operating losses at
least until significant sales, if any, of the GlucoWatch commence. There can be
no assurance that the Company will generate significant revenues or achieve
profitability. The Company has, and expects to have, fluctuations in quarterly
results based on recognition of collaborative and contract revenues and
expenses. Some of these fluctuations could be significant.

The Company believes that its existing cash, cash equivalents and
short-term investments, when coupled with cash from operations and investments
and the net proceeds from the offering hereby, will be sufficient to meet its
operating expenses and capital expenditure requirements at least through the end
of 1998. The amounts and timing of expenditures will depend on the progress of
ongoing research and development, the results of preclinical testing and
clinical trials, the rate at which operating losses are incurred, the execution
of any development and licensing agreements with corporate partners, the
Company's development of products, the FDA regulatory process and other factors,
many of which are beyond the Company's control.

The development of the Company's products will require the commitment of
substantial resources to conduct the research, preclinical development and
clinical trials necessary to bring such products to market and to establish
production and marketing capabilities. The Company may seek additional funding
through public or private financings, including debt or equity financings, and
through other arrangements, including collaborative arrangements. Any additional
equity financings may be dilutive to stockholders and debt financing, if
available, may involve restrictions on dividends and other restrictions on the
Company. Adequate funds, whether through financial markets or collaborative or
other arrangements with corporate partners or from other sources, may not be
available when needed or, if available, on terms acceptable to the Company. Lack
of sufficient additional funds may require the Company to delay, scale back or
eliminate some or all of its research and product development programs or to
license others to commercialize products or technologies that the Company would
otherwise seek to develop itself. See "Use of Proceeds."

REGULATORY APPROVALS UNCERTAIN

The Company's products require the approval of the FDA before they can be
marketed in the U.S. In addition, approvals are required from regulatory
agencies in most foreign countries before the Company's products can be marketed
in such countries. To date, the Company has two products which have received FDA
approval, Nicotrol and FemPatch. Before a regulatory submission can be filed
with the FDA, a product must undergo extensive clinical trials. The Company's
drug delivery systems require the filing of a New Drug Application ("NDA") with
the FDA, and the FDA's approval of the NDA. Devices such as the GlucoWatch under
development by the Company will require the filing and FDA clearance or approval
of a medical device submission. The time required for regulatory approval of the
Company's products after a filing is uncertain. There can be no assurance that
problems will not arise that could delay or prevent the commercialization of the
Company's products or that the FDA and foreign regulatory agencies will be
satisfied with the results of clinical trials or approve the marketing of any
products. Moreover, even if regulatory approval is granted, such approval may
include significant limitations on indicated uses for which any such products
could be marketed.

The Company believes that the submission to the FDA for the GlucoWatch will
be in the form of a premarket notification (a "510(k) notification"), although
the final determination of the type of submission will not be made until FDA
submission. There can be no assurance that a 510(k) notification will be
accepted by the FDA. If a 510(k) notification is not accepted by the FDA, the
Company will be required to submit a pre-market approval application ("PMA") for
this product. The FDA approval process for a PMA is typically more involved and
requires more time than a 510(k) notification and could materially delay the
introduction of the GlucoWatch. There can be no assurance as to FDA acceptance
or approval of the form or timing of a 510(k) notification, a PMA or any similar

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FDA submission, that the results of the registration clinical trials for
submission to the FDA will be approved by the FDA nor that the results will be
comparable to the results obtained in the research clinical studies performed to
date. Delays or failure to receive clearance following a 510(k) notification or
approval of a PMA application could have a significant adverse effect on the
Company's business, financial condition and results of operations.

A drug or medical device and its manufacturer are subject to continual
review after approval, and later discovery of previously unknown problems with a
product or the manufacturing process may result in restrictions on such product
or the manufacturer, including withdrawal of the product or products from the
market. Failure to comply with applicable regulatory requirements may, among
other things, result in fines, suspensions of regulatory approvals, product
recalls, operating restrictions and criminal prosecution. In addition, new
government regulations may be established that could delay or prevent regulatory
approval of the Company's potential products. Cygnus is also subject to
regulation under federal, state and local regulations regarding work place
safety, environmental protection and hazardous and controlled substance
controls, among others.

DEPENDENCE ON LICENSEES, DISTRIBUTORS AND COLLABORATIVE ARRANGEMENTS

Cygnus depends on its licensees and distributors to fund a significant
portion of product development costs, to conduct clinical testing, to obtain
regulatory approvals and to market products. The Company is dependent on
Pharmacia and its sublicensee, Johnson & Johnson, for the marketing of Nicotrol.
The Company is also dependent upon Sanofi and its sublicensee, Warner-Lambert
Company ("Warner-Lambert"), for the marketing of FemPatch. If the GlucoWatch is
commercialized the Company will be dependent upon Becton Dickinson and
Yamanouchi for marketing and distribution. The Company's licensees and
distributors generally have the right to terminate the development funding or
marketing arrangements for a product at any time prior to regulatory approval
for any reason without significant penalty. Licensees have exercised this right
in the past, and there can be no assurance that current and future licensees or
distributors will not exercise this right in the future. In the past some of
the Company's licensees, distributors and collaborators have approached the
Company requesting modification of the terms of existing agreements. Becton
Dickinson has recently approached the Company to discuss modifying the
non-compete terms of the existing agreement. The Company is unable to predict
the outcome of these discussions.

The resources and attention a licensee or distributor devotes to a product
are not within the Company's control. As a result, there may be delays in
clinical testing, the preparation and processing of regulatory filings and
commercialization efforts conducted by the Company's licensees or distributors.
Certain of the Company's licensees may also be permitted to offer products that
are competitive with those of the Company, which could interfere with their
efforts on behalf of the Company. The Company's ability to develop and
commercialize products in the future will also depend on its ability to enter
into collaborative arrangements. There can be no assurance that the Company will
be able to enter into new collaborative arrangements or renew existing
collaborative arrangements. Additionally, there can be no assurance that
existing or future collaborative arrangements will be successful.

Since all payments to the Company under its licensing and distribution
agreements following their execution are contingent on the occurrence of future
events or sales levels, and the agreements are terminable by the licensee or
distributor, no assurance can be given as to whether the Company will receive
any particular payment thereunder or as to the amount or timing of any such
payment. The Company may choose to self-fund certain research and development
projects or sales and marketing efforts in order to exploit its technologies.
Any increase in Company-sponsored research and development or sales and
marketing activities will have an immediate adverse effect on the Company's
results of operations.

COMPETING PRODUCTS AND CHANGES IN TECHNOLOGY

A large number of companies are involved or are becoming involved in the
development and commercialization of products incorporating diagnostic and drug
delivery systems. This field is highly competitive, and Cygnus believes that
competition will substantially increase in the future. A number of companies
have invested, and are continuing to invest, significant resources in the
development of diagnostic and drug delivery systems. Many of these companies
have greater financial, research and development and other resources than
Cygnus, as well as

S-11

<PAGE>

more experience than Cygnus in commercializing diagnostic and transdermal drug
delivery products. Such companies may improve existing drug formulations and
products more efficiently than Cygnus or may design and develop new diagnostic
and transdermal drug delivery products which are more accepted in the
marketplace than the Company's products.

The Company's primary competitors in the glucose monitoring industry are
expected to be companies that currently market finger stab method products.
These companies have established products and distribution channels. In
addition, a number of companies are engaged in the development of products using
technology which is different than that used by Cygnus, but that are also
intended to permit less painful or painless glucose monitoring. These
technologies include infrared spectroscopy, which uses radiation to measure
glucose levels, and a variety of methods (including, in one case, transdermal
technology) to extract interstitial fluid and measure the glucose concentration
therein. The Company is not aware of any products under development that offer
the range of benefits of the GlucoWatch. However, there can be no assurance that
these products will not be more accepted in the marketplace than the GlucoWatch
or will not render the Company's glucose monitor uncompetitive or obsolete. In
addition, a number of companies have developed or are seeking to develop new
drugs to treat diabetes which could reduce demand for glucose monitoring
systems. In addition, many of the Company's competitors and potential
competitors have substantially greater resources, research and development
staffs and facilities than the Company and have significantly greater experience
than the Company in developing, manufacturing and marketing glucose monitoring
devices. Competition within the glucose monitoring industry could also result in
price reductions for glucose monitoring devices such that the Company may not be
able to sell the GlucoWatch at a price level adequate for the Company to realize
a return on its investment.

The drug delivery industry is a rapidly evolving field. A number of other
companies, including major pharmaceutical companies, are also developing and
marketing transdermal and other similar systems for the controlled delivery of
drugs. Products currently on the market or under development by competitors
deliver the same drugs, or other drugs to treat the same indications as many of
the products under development by the Company. The first pharmaceutical product
to reach the market in a therapeutic area often obtains and maintains
significant market share relative to later entrants to the market. The Company's
transdermal products will also compete with drugs marketed not only in similar
drug delivery systems but also in traditional dosage forms such as oral
administration, bolus injection and continuous infusion. New drugs, new
therapeutic approaches or future developments in alternative drug delivery
technologies, such as time-release capsules, liposomes and implants, may provide
therapeutic or cost advantages over the drug delivery systems being developed by
the Company.

THIRD-PARTY REIMBURSEMENT

Successful commercialization of certain of the Company's products may
depend in part on the availability of reimbursement from third-party health care
payors, such as private insurance plans and the government. There can be no
assurance that such reimbursement will be available. Third-party payors are
increasingly attempting to contain health care costs by limiting both coverage
and the level of reimbursement for new therapeutic and diagnostic products.
There can be no assurance that adequate levels of reimbursement will be
available to enable the Company to achieve market acceptance of the GlucoWatch
or other new products under development or to maintain price levels sufficient
to realize an appropriate return on its investment. In certain international
countries, the period of time needed to obtain such reimbursement can be
lengthy. The Company may delay the launch of its products into certain countries
until eligibility for reimbursement is established. This could potentially have
an adverse effect on the Company.

PRODUCT LIABILITY

The design, development, manufacture and use of the Company's products
involve an inherent risk of product liability claims and associated adverse
publicity. Producers of medical products may face substantial liability for
damages in the event of product failure or if it is alleged the product caused
harm. The Company currently maintains product liability insurance. Such
insurance is expensive, difficult to obtain and may not be available in the
future on acceptable terms or at all. There can be no assurance, however, that
the Company will not be subject

S-12

<PAGE>

to product liability claims, that the Company's current insurance would cover
such claims, or that adequate insurance will continue to be available on
acceptable terms to the Company in the future. In the event the Company is held
liable for damages in excess of the limits of its insurance coverage, or if any
claim or product recall results in significant adverse publicity against the
Company, the Company's business, financial condition and results of operations
could be materially and adversely affected.

INTELLECTUAL PROPERTY

The Company's success depends in large part on its ability to obtain patent
protection for its products, preserve its trade secrets and operate without
infringing the proprietary rights of others, both in the U.S. and in other
countries. Patent applications in the U.S. are maintained in secrecy until
patents issue, and since publication of discoveries in the scientific or patent
literature tends to lag behind actual discovery by several months, Cygnus cannot
be certain that it was the first to file patent applications on such inventions.
No assurance can be made that patents will issue with respect to any of the
Company's patent applications or that any patents will provide competitive
advantages for its products or will not be challenged or circumvented by
competitors. Cygnus also relies on trade secrets and proprietary know-how that
it seeks to protect, in part, by confidentiality agreements with its licensees,
employees and consultants. There can be no assurance that these agreements will
not be breached, that the Company would have adequate remedies for any breach or
that the Company's trade secrets will not otherwise become known or be
independently developed by its competitors.

Any litigation, in the U.S. or abroad, as well as foreign opposition and/or
domestic interference proceedings could result in substantial expense to the
Company and significant diversion of effort by the Company's technical and
management personnel. Litigation may be necessary to enforce patents issued to
the Company or to protect trade secrets or know-how owned by the Company. A
negative determination in such proceedings in which the Company is a party could
subject the Company to significant liabilities to third parties or require the
Company to seek licenses from third parties. Although patent and intellectual
property disputes in the pharmaceutical product area have often been settled
through licensing or similar arrangements, costs associated with such
arrangements may be substantial and could include ongoing royalties.
Furthermore, there can be no assurance that necessary licenses would be
available to the Company on satisfactory terms if at all. Accordingly, an
adverse determination in a judicial or administrative proceeding or failure to
obtain necessary licenses could prevent the Company from manufacturing and
selling certain of its products which would have a material adverse effect on
the Company. See "Business--Intellectual Property."

MANUFACTURING; DEPENDENCE ON THIRD PARTY SUPPLIERS

Cygnus generally retains manufacturing rights for its products. The
Company's products are manufactured using several proprietary materials and
production technologies developed by Cygnus in conjunction with equipment and
material suppliers. Production of diagnostic and transdermal drug delivery
systems requires specialized skills in several areas, such as polymer chemistry
and adhesive technology.

The manufacture of the Company's products is subject to current good
manufacturing practices ("CGMP") requirements prescribed by the FDA or other
standards prescribed by the appropriate regulatory agency in the country of use.
Additionally, the Company's agreements with licensees either specify pricing
formulas for products manufactured and sold by Cygnus to its licensees or
specify that prices will be negotiated in the future. There can be no assurance
that prices for the Company's products will cover the manufacturing costs for
these products in light of the Company's limited manufacturing experience and
general supply and demand conditions in the marketplace.

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<PAGE>

yields, quality control and assurance and shortages of personnel. In the past,
the Company has experienced these problems in scaling up its products for
commercial launch. There can be no assurance that similar problems will not be
encountered in the future. In addition, there can be no assurance that the
Company will be able to achieve and maintain product performance quality and
reliability if and when producing the GlucoWatch in the quantities required for
commercialization, nor that the Glucowatch can be assembled and manufactured at
an acceptable cost. See "Business--Manufacturing."

The GlucoWatch will be manufactured from components to be purchased from
outside suppliers, most of which are the Company's single source for such
components. In the event the Company is unable to obtain these components from
its suppliers, the Company would be required to obtain components from alternate
suppliers. Any interruption in the supply of GlucoWatch components could have a
material adverse effect on the Company's business, financial condition and
results of operations.

Several materials used in the Company's transdermal products are currently
obtained from single sources. Although the Company has not experienced
difficulty acquiring these materials for the manufacture of its products for
sale or clinical trials, there can be no assurance that supply interruptions
will not occur or that the Company will not have to obtain substitute vendors,
if such vendors are available, which could require additional regulatory
submissions and approvals. Any such interruption of supplies could have a
material adverse effect on the Company's ability to develop, manufacture and
sell its transdermal products.

ATTRACTING AND RETAINING KEY EMPLOYEES

The successful development and commercialization of the Company's products
depends upon, among other things, skilled employees. In some cases, the market
for these skilled employees is highly competitive, which makes it difficult to
attract and retain key employees. There can be no assurance that the Company can
attract or retain key employees. The inability to do so could materially and
adversely affect the Company's business, financial condition and results of
operations.

LEVERAGE; SUBORDINATION OF NOTES; ABSENCE OF FINANCIAL COVENANTS

In connection with the sale of the Notes, the Company will incur
approximately $43.0 million of indebtedness which will result in a ratio of
long-term debt to total capitalization at December 31, 1997 of approximately
122% on an as-adjusted basis. As a result of this indebtedness, the Company's
principal and interest obligations will increase substantially. The degree to
which the Company is leveraged could materially adversely affect the Company's
ability to obtain financing for working capital, acquisitions or other purposes
and could make it more vulnerable to industry downturns and competitive
pressures. The Company's ability to meet its debt service obligations will be
dependent upon the Company's future performance, which will be subject to
financial, business and other factors affecting the operations of the Company,
many of which are beyond its control. The Notes are subordinate in right of
payment to all existing and future Senior Debt (as defined in the accompanying
Prospectus) of the Company. By reason of such subordination of the Notes, in the
event of insolvency, bankruptcy, liquidation, reorganization, dissolution or
winding up of the business of the Company or upon default in payment with
respect to any Senior Debt of the Company or an event of default with respect to
such indebtedness resulting in the acceleration thereof, the assets of the
Company will be available to pay the amounts due on the Notes only after all
Senior Debt of the Company has been paid in full. Moreover, holders of Common
Stock would only receive the assets remaining after payment of all indebtedness
and preferred stock, if any. See "Description of Notes."

The Notes are obligations exclusively of the Company. Although the Company
does not currently conduct operations through subsidiaries, it may elect to do
so as products become commercialized. In such event, the cash flow and the
consequent ability to service debt, including the Notes, of the Company, will be
partially dependent upon the earnings of its subsidiaries and the distribution
of those earnings to, or upon loans or other payments of funds by those
subsidiaries to, the Company. The payment of dividends and the making of loans
and advances to the Company by its subsidiaries would be subject to statutory or
contractual restrictions, would be dependent upon the earnings of those
subsidiaries and would be subject to various business considerations. Any right
of the Company

S-14

<PAGE>

to receive assets of any of its subsidiaries upon their liquidation or
reorganization (and the consequent right of the Holders of the Notes to
participate in those assets) would be effectively subordinated to the claims of
that subsidiary's creditors (including trade creditors), except to the extent
that the Company is itself recognized as a creditor of such subsidiary, in which
case the claims of the Company would still be subordinate to any security
interests in the assets of such subsidiary and any indebtedness of such
subsidiary senior to that held by the Company.

As a result of the arbitration settlement, and other financial
considerations, the Company will, for a time, have a net capital deficiency. The
Company currently has a bank loan and lease lines which contain a variety of
covenants which could be compromised by the net capital deficiency. As a result
of the arbitration settlement, the Company is in violation of certain of such
covenants. The Company has been informed that such violations will be cured by
the sale of the Notes.

LIMITATIONS ON REPURCHASE UPON A REPURCHASE EVENT

Under certain circumstances each Holder of Notes will have the right, at
the Holder's option, to require the Company to repurchase all or a portion of
such Holder's Notes at a purchase price equal to 110% of the principal amount
thereof plus accrued interest thereon to the repurchase date. The Company's
ability to repurchase the Notes upon a Repurchase Event may be limited by the
terms of the Company's Senior Debt and the subordination provisions of the
Indenture. Further, the ability of the Company to repurchase the Notes upon a
Repurchase Event will be dependent on the availability of sufficient funds and
compliance with applicable securities and corporate laws. Accordingly, there can
be no assurance that the Company will be able to repurchase the Notes upon a
Repurchase Event. The term "Repurchase Event" is limited to certain specified
transactions and may not include other events that might adversely affect the
financial condition of the Company or result in a downgrade of the credit rating
(if any) of the Notes nor would the requirement that the Company offer to
repurchase the Notes upon a Repurchase Event necessarily afford Holders of the
Notes protection in the event of a highly leveraged reorganization, merger or
similar transaction involving the Company. See "Description of Notes--Repurchase
of Notes at the Option of Holders Upon a Repurchase Event."

RESTRICTIONS ON TRANSFERS OF NOTES

The Notes will not be listed on any stock exchange or stock market. In
addition, unless a Holder shall have obtained the prior written consent of the
Company, such Holder may not sell, assign or otherwise transfer such Holder's
Note other than (i) to a Permitted Transferee (as defined herein) or (ii) in
connection with a bona fide pledge to a financial institution.

POSSIBLE VOLATILITY OF STOCK PRICE

The trading price of the Company's Common Stock could be subject to
substantial fluctuations in response to factors such as announcements by the
Company or its competitors of results of regulatory approval filings or clinical
trials or testing, developments or disputes governing proprietary rights,
technological innovations or new commercial products, government regulatory
action, general conditions in the medical technology industry, changes

S-15

<PAGE>

in securities analysts' recommendations, or other events or factors, many of
which are beyond the Company's control. In addition, the stock market in general
has experienced extreme price and volume fluctuations in recent years, which
have particularly affected the market prices of many medical technology
companies and which have been unrelated to the operating performance of such
companies. Fluctuations or decreases in the trading price of the Company's
Common Stock may adversely affect the market for the Company's Common Stock. In
the past, following periods of volatility in the market price for a company's
securities, securities class action litigation often has been instituted. Such
litigation could result in substantial costs and a diversion of management
attention and resources, which could have a material adverse effect on the
Company's business, financial condition and operating results.

ABSENCE OF DIVIDENDS

The Company has never declared or paid cash dividends on its Common Stock.
The Company's current bank term loan precludes it from paying dividends to
stockholders. The Company currently intends to retain any earnings for use in
its business and therefore does not anticipate paying any dividends in the
future.

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<PAGE>

USE OF PROCEEDS

The net proceeds to the Company from the sale of the Notes offered hereby
are estimated to be approximately $41.0 million, after deducting fees and
estimated expenses of the offering. The Company anticipates that approximately
$13.0 million of such net proceeds will be used towards capital expenditures for
GlucoWatch production equipment, and approximately $20.0 million of such net
proceeds will be used for the commercialization of the GlucoWatch. The balance
of the proceeds will be used for additional working capital, additional capital
expenditures and general corporate purposes, including research and development
efforts. The Company has agreed to pay an advisory fee to Diaz & Altschul
Capital, LLC of $2.1 million, plus expenses in connection with this offering.

The Company's management will have broad discretion with respect to the
specific working capital requirements to which the proceeds will be applied, and
there can be no assurance that the proceeds will be applied to any specific
working capital requirement. Pending utilization as described above, the
proceeds will be invested in short-term, investment-grade, interest-bearing
securities.

PRICE RANGE OF COMMON STOCK

The Company's Common Stock is quoted on the Nasdaq National Market under
the symbol "CYGN." The following table sets forth, for the periods indicated,
the high and low last reported sale prices per share of the Common Stock as
quoted on the Nasdaq National Market.

HIGH LOW
---- ---
1996:
First Quarter . . . . . . . . . . . . . . . $ 24.500 $19.375
Second Quarter. . . . . . . . . . . . . . . 23.000 15.000
Third Quarter . . . . . . . . . . . . . . . 17.250 11.000
Fourth Quarter. . . . . . . . . . . . . . . 16.875 12.000
1997:
First Quarter . . . . . . . . . . . . . . . $ 16.625 $ 13.375
Second Quarter. . . . . . . . . . . . . . . 17.250 10.625
Third Quarter . . . . . . . . . . . . . . . 19.750 16.000
Fourth Quarter. . . . . . . . . . . . . . . 25.000 18.250
1998:
First Quarter through February 3, 1998. . . $21.000 $16.625

On February 3, 1998, the last reported sale price for the Common Stock as
quoted on the Nasdaq National Market was $19.8125 per share. As of January 26,
1998, there were approximately 550 holders of record of the Common Stock.

DIVIDEND POLICY

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CAPITALIZATION

The following table sets forth the actual cash, cash equivalents and
short-term investments, short-term obligations and capitalization of the Company
at September 30, 1997, and as adjusted to reflect this Offering and the
application of the estimated net proceeds therefrom. See "Use of Proceeds." This
table should be read in conjunction with the consolidated financial statements
and the notes thereto which are incorporated by reference herein.

September 30, 1997
-------------------------
ACTUAL AS ADJUSTED(1)
--------- --------------
(IN THOUSANDS, EXCEPT
FOR SHARE AMOUNTS)

Cash, cash equivalents, and short-term
investments(2) . . . . . . . . . . . . . . . . $ 39,201 $ 79,201
-------- --------
-------- --------
Short-term obligations, including current
portion of long-term obligations(3). . . . . . $ 29,656 $ 29,656
-------- --------
-------- --------

Long-term obligations, less current portion:
Term debt . . . . . . . . . . . . . . . . . $ 4,615 $ 4,615
Notes offered hereby. . . . . . . . . . . . -- 43,000
Capital lease obligation. . . . . . . . . . 600 600
Arbitration settlement. . . . . . . . . . . 23,000 23,000
Other . . . . . . . . . . . . . . . . . . . 5,969 5,969
-------- --------

Total long-term obligations. . . . . . . 34,184 77,184
-------- --------

Stockholders' equity:
Preferred stock, $.001 par value;
5,000,000 shares authorized; none issued
and outstanding . . . . . . . . . . . . . -- --
Common stock, $.001 par value; 30,000,000
shares authorized; 19,193,559 shares
issued and outstanding(4) . . . . . . . . 121,557 121,557
Accumulated deficit . . . . . . . . . . . . (131,349) (131,349)
-------- --------

Total stockholders' equity (net
capital deficiency). . . . . . . . . . (9,792) (9,792)
-------- --------

Total capitalization . . . . . . . . . . . . . . $ 24,392 $ 67,392

- ---------------
(1) Adjusted to reflect the issuance and sale of the Notes offered hereby and
the application of the net proceeds therefrom. Does not reflect the
approximately $13.8 million proceeds from the sale of the Company's sale of
Common Stock. See "Prospectus Summary--Recent Events" and "Use of
Proceeds."
(2) September 30, 1997 data excludes $14.0 million paid on January 2, 1998
under the arbitration settlement. See "Business--Legal Proceedings."
(3) Short-term obligations include $16.6 million related to an arbitration
settlement. See "Business--Legal Proceedings."
(4) Excludes (i) 3,918,955 shares of Common Stock reserved for issuance under
the Company's Stock Option Plan, under which options to purchase 3,296,573
shares were outstanding as of September 30, 1997, (ii) 276,179 shares
issuable upon the conversion of the note payable under the arbitration
settlement; (iii) 127,719 shares reserved for issuance under the Company's
Employee Stock Purchase Plan as of September 30, 1997; and (iv) the shares
of Common Stock issuable upon conversion of the Notes offered hereby.

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<PAGE>

BUSINESS

OVERVIEW

Cygnus is engaged in the development and manufacture of diagnostic and drug
delivery systems, utilizing its proprietary technologies to satisfy unmet
medical needs cost-effectively. The Company's current efforts are primarily
focused on two core areas: a painless, bloodless and automatic glucose
monitoring device (the GlucoWatch system) and transdermal drug delivery systems.

THE GLUCOWATCH SYSTEM

The Company's GlucoWatch system represents a potential advance in diabetes
care technology as compared to the currently prevailing "finger stab" blood
monitoring method. The GlucoWatch is designed to measure glucose painlessly,
bloodlessly and automatically through the ease and convenience of a device worn
like a wristwatch. Worldwide sales of blood glucose self-monitoring products
were approximately $2.5 billion in 1996, which represented an increase of
approximately 14% over 1995 levels. It is estimated that more than 40 million
people in North America, Europe, Japan and Korea have diabetes. In the U.S.
alone, more than ten million people have been diagnosed with another five
million believed to have the condition. The number of people with diabetes is
expected to continue to grow with the aging of the population, while the number
of diagnosed cases is also expected to increase with changes in diagnostic
standards and new diagnostic technologies. Clinical studies sponsored by the
National Institutes of Health ("NIH") indicate that better management of glucose
levels through more frequent testing would enable people with diabetes to reduce
or significantly delay many serious diabetes-related health complications.
However, largely due to the pain of repetitive finger stabbing and the
associated disruption of daily life, the Company believes most people with
diabetes currently test their glucose levels less than half as often as
recommended. As a result of the drawbacks of the finger stab method, the Company
believes that there is a significant unmet demand for a painless, bloodless,
automatic glucose-monitoring device.

To address this unmet demand, the Company is developing the GlucoWatch
which is expected to reduce or eliminate significant drawbacks of the finger
stab testing technique. The device, which is worn like a wristwatch, is designed
to automatically extract and measure glucose levels painlessly through intact
skin every twenty or thirty minutes. The extracted glucose is collected in a
consumable transdermal pad called the AutoSensor, which is attached to the back
of the device and replaced approximately every twelve hours. The GlucoWatch
system is intended to offer a combination of features not available in currently
marketed devices, such as: an electronic memory to store and display glucose
levels; the ability to download stored information to personal computers to
analyze glucose data and trends; alarms indicating hypo- and hyperglycemic
conditions; and event markers which record factors that affect glucose levels.
The GlucoWatch is designed to be worn during the day and night for continuous
glucose monitoring. The Company believes the GlucoWatch system will provide the
frequent testing and trend analysis of glucose levels necessary to enable people
with diabetes to better manage their condition and eliminate the pain and
inconvenience associated with repetitively stabbing the finger to test the
blood. The Company believes this unique combination of features will result in
better control of glucose levels, improved quality of life and more
cost-effective healthcare.

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<PAGE>

- -- Dependence on New Products; Uncertainty of Market Acceptance" and "Risk
Factors -- Regulatory Approvals Uncertain."

To prepare a submission to the FDA for approval of the GlucoWatch, the
Company has initiated registration clinical trials. Based on discussions with
the FDA, the Company believes that the submission will be in the form of a
510(k) notification, although the final determination will not be made until the
FDA receives the submission. The Company anticipates submitting a 510(k)
notification in the second quarter of 1998, although the potential exists for
this filing to be deferred to the second half of 1998.

In 1996, Cygnus entered into collaborations with Becton Dickinson and
Yamanouchi for the commercialization of the GlucoWatch. Under the Becton
Dickinson agreement, the Company has granted Becton Dickinson exclusive
worldwide marketing and distribution rights, with the exception of Japan and
Korea. Under this agreement, the Company has primary responsibility for product
development, regulatory approvals, manufacturing and customer support, and
retains the option to participate in sales and marketing. The Company also
entered into an agreement with Yamanouchi for the marketing and distribution of
the GlucoWatch in Japan and Korea. Under these agreements, Cygnus is eligible to
receive up-front and milestone payments totaling $30 million prior to
commercialization and to receive a percentage of the product's future commercial
success. In June 1997, Cygnus granted Becton Dickinson worldwide marketing
rights, with the exception of Japan and Korea, for the Company's second
generation glucose monitor. Becton Dickinson has agreed to fund, in part, the
development of the product. In the past some of the Company's licensees,
distributors and collaborators have approached the Company requesting
modification of the terms of existing agreements. Becton Dickinson has recently
approached the Company to discuss modifying the non-compete terms of the
existing agreement. The Company is unable to predict the outcome of these
discussions.

TRANSDERMAL DRUG DELIVERY SYSTEMS

Transdermal drug delivery systems provide for the controlled release of
drugs directly into the bloodstream through intact skin. The Company's
transdermal drug delivery products are thin multilayer systems, in the form of
small adhesive patches. Transdermal delivery can provide a number of advantages
over conventional methods of drug administration, including enhanced efficacy,
increased safety, greater convenience and improved patient compliance. By
delivering a steady flow of drugs into the bloodstream over an extended period
of time, transdermal systems can avoid the "peak and valley" effect of oral or
injectable therapy and can enable more controlled, effective treatment. By
avoiding first pass metabolism through the gastrointestinal tract and the liver,
the therapeutically equivalent dosage for the transdermal delivery of certain
compounds can be significantly less than the corresponding oral dosage,
potentially reducing dosage-related side-effects.

The Company's transdermal product line is focused on contraception, hormone
replacement therapy and smoking cessation. The Company has two marketed
products, the Nicotrol nicotine patch and the FemPatch estrogen hormone
replacement patch. The Company has strategic collaborations for its transdermal
products with Ortho Pharmaceutical Corporation, a subsidiary of Johnson &
Johnson (contraception), American Home Products Corporation, Sanofi and
Warner-Lambert (hormone replacement therapy), and Pharmacia (smoking cessation).

PAINLESS, BLOODLESS AND AUTOMATIC GLUCOSE MONITORING

MARKET OPPORTUNITY

People with diabetes measure blood glucose levels to adjust their diet and
insulin use to better control their glucose levels to prevent diabetes-related
complications. Currently, to measure their glucose levels, people with

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diabetes must stab their fingers with a lancet, draw blood and place a drop of
blood on a glucose reagent strip inserted in an instrument which provides a
glucose reading. Each day of testing can involve numerous stabs and the complete
procedure is not only painful but disruptive to daily life. As a result of this
pain and disruption, the Company believes most people with diabetes monitor
their blood glucose levels less than twice per day, instead of the recommended
four to seven times per day. Even at this level of testing, the market for
products for self-monitoring of glucose levels by people with diabetes is quite
substantial.

Worldwide sales of products for the self-monitoring of blood glucose levels
were approximately $2.5 billion in 1996, which represented an increase of
approximately 14% over 1995 levels. The Company believes that approximately 80%
to 90% of the sales were related to disposable glucose reagent strips for finger
stab monitoring. In the U.S., a relatively small segment of people with diabetes
who measure their glucose level account for the majority of testing: for
example, of these people, just 22% (about 1.7 million) account for 68% of the
tests performed and 37% (about 2.9 million) account for 87% of tests performed.
It is estimated that more than 40 million people in North America, Europe, Japan
and Korea have diabetes. In the U.S. alone, more than ten million people have
been diagnosed with diabetes with another five million believed to be
undiagnosed. The number of people diagnosed with diabetes has been growing and
is expected to continue to grow due to the aging of the population, changes in
diagnostic standards and new diagnostic technologies. Specifically, the
diagnostic standards in the U.S. have been changed such that a fasting plasma
glucose value of greater than or equal to 126 mg/dL now indicates a diagnosis of
diabetes, whereas such diagnosis previously required a value of greater than or
equal to 140 mg/dL. Diabetes can lead to severe complications over time,
including blindness, loss of kidney function and peripheral neuropathy, causing
circulation problems to the arms and legs and pain and potential amputation. The
American Diabetes Association estimated that the complications arising from
diabetes cost the U.S. healthcare system in excess of $45 billion in 1992. These
complications are largely a consequence of years of poor management of glucose
levels by people with diabetes. Results of the Diabetes Control and Complication
Trial, a major clinical trial sponsored by the NIH and published in 1993, showed
that more frequently monitored blood glucose levels and rigid adherence to a
program of diet, exercise and insulin injections could prevent or significantly
delay the onset of many of the long-term complications of diabetes.

THE GLUCOWATCH SYSTEM

The Company believes that there is an unmet demand for painless, bloodless
and automatic glucose monitoring. To address this unmet demand, the Company is
developing the GlucoWatch, which is worn like a wristwatch and automatically
extracts and measures glucose levels painlessly through intact skin every twenty
or thirty minutes. The GlucoWatch then displays and stores current and past
glucose levels and trend data. The extracted glucose is collected in a
consumable transdermal pad called the AutoSensor, which is attached to the back
of the device and replaced approximately every twelve hours. The GlucoWatch
system is designed to offer a combination of features not available in currently
marketed devices, in a portable and discreet device. These include frequent data
collection, electronic memory to store and display glucose levels, personal
computer downloading for trend analysis, alarms indicating hypo- and
hyperglycemic conditions and event markers which record factors that affect
glucose levels. The GlucoWatch is designed to be worn day and night for
continuous glucose monitoring. The GlucoWatch is expected to reduce or eliminate
significant drawbacks of the finger stab technique, such as the pain of
repetitive stabbing and the disruption of normal activities caused by
indiscreet, cumbersome procedures. The Company believes the GlucoWatch can lead
to improved disease management, enabling people with diabetes to prevent or
delay severe complications associated with the condition.

The GlucoWatch extracts glucose molecules through intact skin utilizing a
patented proprietary process called electroosmosis, which uses low levels of
electric current. Glucose molecules are collected in the AutoSensor, which
adheres to the skin, contains a biosensor and is attached to the back of the
GlucoWatch. The collected glucose triggers an electro-chemical reaction in the
AutoSensor, generating electrons. The biosensor measures the electrons and an
application specific integrated circuit ("ASIC") in the GlucoWatch equates the
number of electrons to a concentration of glucose in the blood. The GlucoWatch
automatically measures glucose levels at frequent intervals. The GlucoWatch
displays the most recent readings and trends at the push of a button. Its
electronic memory

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capabilities permit the retrieval and downloading of data, allowing longer-term
trend analysis for better disease management.

The GlucoWatch system was designed to be simple and easy to use. Each day
the rechargeable battery is replaced and a new AutoSensor is attached on the
back of the GlucoWatch. A finger stab blood glucose measurement is input into
the GlucoWatch for calibration. Measurements will then be generated
automatically by the GlucoWatch system, providing up to thirty-six glucose
measurements over a twelve hour period.

The Company believes approximately 80% to 90% of current sales in the
glucose monitoring market come from the consumable test strips on which a drop
of blood is placed and inserted into a meter. The GlucoWatch uses a similar
approach. The "watch device" is designed to function for a number of years while
the consumable AutoSensor is designed to last for approximately twelve hours.

REGULATORY APPROVAL

COMPETITION

The glucose monitoring market is highly competitive. Currently the market
is dominated by finger stab blood glucose monitoring products. This monitoring
technique presents a number of barriers to generating more frequent blood
glucose measurements, including the pain of repetitive finger lancing and the
disruption of normal activities as people with diabetes typically do not want to
go through the finger stab process in public. Several companies are attempting
to develop non-invasive or less invasive methods to monitor glucose levels. One
technology that a number of companies are pursuing is the use of infrared
spectroscopy, which uses radiation to measure glucose levels. Other companies
are attempting to develop a variety of methods to extract interstitial fluid and
measure the glucose concentration therein. The Company believes that none of
the currently marketed finger stab products nor other products in development
have the range of features and benefits offered by the GlucoWatch to address the
unmet needs of this category. See "Risk Factors--Competing Products and Changes
in Technology."

TRANSDERMAL DRUG DELIVERY SYSTEMS

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Cygnus has established a comprehensive, integrated approach to the
development of transdermal delivery systems. Cygnus develops a unique product
profile for each transdermal product based on an evaluation of several key
variables that change with each drug and therapeutic indication. Based on its
assessment of the product profile and the interrelationship between the drug and
the physical and biological characteristics of the skin, Cygnus formulates the
appropriate materials and designs the structure of the transdermal system to
achieve desired product characteristics such as comfort, extended wear, delayed
or enhanced onset and controlled release.

CONTRACEPTION

The contraceptive market is estimated to have had 1996 worldwide sales of
$2.4 billion. The market is dominated by oral contraceptive pills. There are no
transdermal patches currently marketed. The Company believes a seven day
contraceptive patch could lead to improved dosing compliance and is developing
such a product under an agreement with Ortho Pharmaceutical Corporation
("Ortho"), a subsidiary of Johnson & Johnson. Ortho has exclusive worldwide
marketing rights to the product. Cygnus received up-front payments and will
receive milestone payments as well as a percentage of net sales, and is
responsible for the development and manufacture of the product. This product is
currently in Phase 3 clinical trials.

HORMONE REPLACEMENT

The hormone replacement market is large, with $1.75 billion in sales
worldwide in 1996, and is expected to grow as more women reach the age of
menopause. The Company believes that its transdermal hormone replacement
products have a competitive advantage over certain transdermal hormone
replacement products as a result of their seven-day extended delivery systems
and superior patient comfort profile. Many hormone replacement products under
development by competitors last for only 3.5 days. The Company believes, based
in part on its market research, that patients and physicians prefer 7-day
systems to 3.5 day systems because of increased convenience and comfort, which
could also lead to improved compliance.

The Company has three hormone replacement products. FemPatch, a 7-day
estrogen patch launched in 1997, was developed under an agreement with Sanofi.
Warner-Lambert, which is Sanofi's sublicensee, is marketing FemPatch in North
America. For a discussion of the Company's recent arbitration settlement with
Sanofi, see "Business--Legal Proceedings." Cygnus' two other hormone replacement
products, a 7-day estrogen patch, and an estrogen/progestin combination patch
are currently in Phase 3 clinical trials. These products are being developed
under an agreement with American Home Products. Under the terms of the
agreement, American Home Products has worldwide marketing rights with respect to
the products resulting from the collaboration. Cygnus received up-front fees and
is entitled to receive milestone payments as well as a percentage of net sales
on all products to be manufactured by Cygnus for the worldwide market. In
addition, American Home Products will pay for all clinical trial expenses.
Cygnus is otherwise responsible for financing the development and manufacture of
the products. Cygnus will pay Sanofi a percentage of net sales on the two
products licensed to American Home Products.

SMOKING CESSATION

The smoking cessation market is estimated to have had 1996 worldwide sales
of $450 million. The Company's Nicotrol product was initially introduced in the
U.S. as a prescription product in 1992 and subsequently approved for
over-the-counter sale in the U.S. in 1996. Nicotrol is currently marketed in
North America by Johnson & Johnson and in many European countries by Pharmacia.
Cygnus receives royalties on the worldwide sales of Nicotrol. The Company is
developing a second generation nicotine patch designed to address currently
unsatisfied patient needs. These products are being developed to match the
nicotine dosing level with the patient's level of addiction. Phase 2 clinical
trials have been completed and the Company is seeking a marketing collaboration
to fund further work on this product. The Company believes that the number of
people who wish to stop smoking will increase, which could positively affect the
smoking cessation category.

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MANUFACTURING

The Company's GlucoWatch has not yet been manufactured for commercial sale.
To successfully commercialize the GlucoWatch, the device will have to be
manufactured in compliance with regulatory requirements, in a timely manner and
in sufficient quantities while maintaining product performance, quality and
acceptable manufacturing costs. The Company is responsible for all aspects of
manufacturing the GlucoWatch system, although the "watch device" will be
manufactured by an outside supplier. Manufacturers often encounter difficulties
in scaling up production of new products, including problems involving product
performance, production yields, quality control and assurance and shortages of
personnel. In the past, the Company has experienced these problems in scaling up
its products for commercial launch. There is no assurance that similar problems
will not be encountered in the future. Also, there can be no assurance that the
Company will be able to achieve and maintain product performance, quality and
reliability if and when producing the GlucoWatch in the quantities required for
commercialization, nor that the Glucowatch can be assembled and manufactured at
an acceptable cost.

The Company recently received ISO 9002 certification. Subsequently, the
Company will seek approval for the use of the "CE" mark for sales of its
products in Europe. There can be no assurance that the Company will be
successful in being granted a CE mark for sales of its products.

The Company's transdermal products are manufactured using several
proprietary materials and production technologies developed by Cygnus in
conjunction with equipment and material suppliers. Since the Company designs
a unique transdermal system for each drug, Cygnus' process development
engineers become involved early in the product design process. The Company
believes that close interaction with its suppliers at the design stage
permits development of efficient manufacturing techniques. In addition,
Cygnus performs analytical testing in-house for each aspect of the
manufacturing process, from raw material studies to final product
characterization. The Company has developed proprietary assays to measure
patch characteristics such as drug release rate, drug and solvent residues,
and product stability. The Company has patented certain aspects of its
manufacturing processes.

Several materials used in the Company's drug delivery products are
currently obtained from single sources. Although the Company has not experienced
difficulty acquiring these materials for the manufacture of its products for
sale or clinical trials, there can be no assurance that supply interruptions
will not occur or that the Company will not have to obtain substitute vendors,
if such vendors are available, which would require additional regulatory
submissions and approvals. Any such interruption of supplies could have a
material adverse effect on the Company's ability to develop, manufacture and
sell its products.

The Company leases a 21,000 square foot manufacturing facility used in the
commercial production of FemPatch and the clinical supply of other products. The
Company believes this facility will have sufficient capacity to support the
planned market introduction of its current drug delivery products. The Company
is currently establishing its commercial AutoSensor manufacturing operations in
an existing third-party facility. Each of the foregoing facilities complies with
applicable regulatory requirements. See "Risk Factors--Manufacturing; Dependence
on Third Party Suppliers."

INTELLECTUAL PROPERTY

It is the Company's policy to aggressively protect its investments in
technology and marketing by filing patent and trademark applications in the U.S.
and key foreign countries. The Company also relies on trade secrets, know-how,
licensing opportunities, and collaborative relationships to develop and maintain
its competitive position.

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As of December 1997, the Company had approximately 40 U.S. patents and more
than 80 foreign patents issued or allowed. These patents cover various aspects
of transdermal technology including transdermal patch formulations (such as
those used in hormone replacement therapy, contraception, and nicotine
dependence therapy) and glucose monitoring systems. The Company has numerous
additional patent applications pending worldwide.

The Company's GlucoWatch system incorporates technology developed in-house
as well as technology licensed exclusively to the Company by the Regents of the
University of California ("Regents"). Regents holds several U.S. patents
covering technology for transdermal extraction of glucose and other analytes.
Corresponding foreign patent applications are also pending. The Company has an
exclusive license worldwide under these patents. See "Risk Factors--Intellectual
Property."

GOVERNMENT REGULATION

The development, manufacture and marketing of drug delivery systems and
diagnostic devices are subject to regulation by the FDA and other U.S. and
foreign federal, state and local entities. These entities regulate, among other
things, research and development activities and the testing, manufacture,
safety, effectiveness, labeling, storage, record keeping, approval, advertising
and promotion of the Company's products. Sales of the Company's products outside
the U.S. are subject to comparable regulatory requirements. These requirements
vary widely from country to country.

FDA permission to market and distribute a new device can be obtained in one
of two ways. If a new or significantly modified device is "substantially
equivalent" to an existing legally marketed device, the new device can be
commercially introduced after submission of a 510(k) notification to the FDA,
and after the subsequent clearance or approval by the FDA. Changes to existing
devices that do not significantly affect safety or effectiveness can be made by
the Company without a 510(k) notification.

The second, more comprehensive approval process applies to a new device
that is not substantially equivalent to an existing product. First, the Company
must conduct clinical trials in compliance with testing protocols approved by an
Institutional Review Board ("IRB") for the participating research institution
and the FDA's investigational device exemption regulations. Second, the Company
must submit a PMA application that contains, among other things, the results of
the clinical trials. The PMA application also contains other information
required under the Federal Food, Drug, and Cosmetic Act, such as a full
description of the device and its components, a full description of the methods,
facilities and controls used for manufacturing and proposed labeling. Finally,
the manufacturing site for the product subject to the PMA must operate using
cGMp and pass an FDA Pre-Approval Inspection ("PAI") before product approvals.

The process required by the FDA before a drug delivery system may be
marketed in the U.S. depends on whether the compound has existing approval for
use in other dosage forms. If the drug is a new chemical entity that has not
been approved, then the process includes (i) pre-clinical laboratory and animal
tests, (ii) the filing of an Investigational New Drug ("IND") application,
(iii) adequate and controlled human clinical trials to establish the safety and
efficacy of the drug in its intended indication and (iv) FDA approval of an NDA.
If the drug has been previously approved, then the approval process is similar,
except that certain toxicity tests normally required for the IND and NDA
applications may not be necessary. In addition to the foregoing, the FDA
requires proof that the drug delivery system delivers sufficient quantities of
the drug to the bloodstream to produce the desired therapeutic result.

The results of preclinical studies and clinical studies are submitted to
the FDA in a submission for approval or clearance of the marketing and
commercial shipment of a drug delivery or diagnostic system. The FDA may deny a
clearance or approval if applicable regulatory criteria are not satisfied, or
may require additional clinical testing. Even if such data are submitted, the
FDA may ultimately decide that the submission does not satisfy the criteria for
clearance or approval. Product approvals may be withdrawn if compliance with
regulatory standards is not maintained or if problems occur after the product
reaches the market. The FDA may require testing in addition to

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surveillance programs to monitor the effect of products that have been
commercialized, and it has the power to prevent or limit further marketing of
the product based on the results of these post-marketing programs.

Cygnus' drug delivery product licensees historically have been responsible
for the clinical and regulatory approval procedures. Cygnus has participated in
this process by submitting to the licensee portions of the Drug Master File
maintained by Cygnus and data concerning the manufacturing process for the drug
delivery system. Cygnus' ability to manufacture and sell products developed
under contract depends upon the licensee's completing satisfactory clinical
trials and obtaining the foregoing approvals or clearances. Cygnus may prepare
and submit an IND application, or obtain Non-Significant Risk device
investigation status from an IRB, and perform initial clinical studies before
licensing the product for marketing. The Company is increasingly taking a more
active role with its collaborative partners in the clinical trials and
regulatory processes of its products.

There can be no assurance that problems will not arise that could delay or
prevent the commercialization of the Company's products, or that the FDA, state
and foreign regulatory agencies will be satisfied with the results of the
clinical trials and approve the marketing of any products. See "Risk
Factors--Regulatory Approvals Uncertain."

LEGAL PROCEEDINGS

On June 30, 1994, Sanofi filed a request for arbitration against Cygnus
with the International Court of Arbitration. In its request for arbitration,
Sanofi alleged that Cygnus breached its existing contract with Sanofi by,
among other things, entering into a product development agreement with
another company for the development of transdermal systems in the field of
hormone replacement therapy (which agreements pertain to each of the
Company's hormone replacement products other than FemPatch). Sanofi, in the
original filing, sought to recover from Cygnus in excess of $60.0 million for
damages attributable to the alleged breach. International Chambers of
Commerce (the "Tribunal") announced an interim award in the arbitration
proceedings in October 1996. The Tribunal found that two transdermal products
for hormone replacement therapy licensed by Cygnus to another company fall
within the scope of an exclusive license previously granted to Sanofi.

In September, 1997, the Company and Sanofi agreed to a settlement of the
arbitration dispute. Under the terms of the settlement, Cygnus (i) paid Sanofi
$14.0 million in cash in January 1998, (ii) will make royalty payments of
between 6.5% and 8.5% of any and all net sales of two products, which are
subject to minimum payments in an aggregate amount equal to $17.0 million,
commencing in 2001 and ending in 2005, whether or not any net sales of the two
products have occurred, and (iii) issued a convertible promissory note in the
principal amount of $6.0 million, payable in full at the end of four years and
bearing interest at 6.5% per annum. The note is convertible into the Company's
Common Stock at Sanofi's option, exercisable at any time during the four year
term, at a conversion rate of $21.725 per share. Overall, Cygnus' non-recurring
expenses attributable to the arbitration settlement recorded in the quarter
ended September 30, 1997 totaled $39.6 million, of which $23 million is
long-term.

In May 1997 Cygnus reported it had initiated arbitration proceedings
against Pharmacia & Upjohn ("Pharmacia") relating to Nicotrol, Cygnus' smoking
cessation patch. In March of this year, Cygnus announced that Pharmacia
exercised its option to purchase the U.S. manufacturing rights of Nicotrol. The
agreement between Cygnus and Pharmacia provided that Pharmacia would be
obligated to pay Cygnus for, among other things, existing inventory costs and
for certain purchase order commitments. Pharmacia disputes their obligations
regarding certain purchase order commitments. The arbitration is intended to
resolve these matters. Separately, Cygnus and Pharmacia are not in agreement
regarding certain royalty calculations for 1996 and 1997, if this issue is
unable to be resolved by the two companies, it could become part of the
arbitration proceedings. However, the Company does not believe the resolution
of this issue could have a material adverse effect on its financial position.

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EMPLOYEES

As of December 31, 1997, the Company had 157 full time employees. Of this
total number of employees, 66 were engaged in research and development,
including process development, 26 in scientific affairs and quality assurance,
25 in general administrative, and 40 in operations. None of the Company's
employees is represented by a labor union. Cygnus has experienced no work
stoppages and it believes its employee relations are good.

The Company's success will depend in large part on the continued services
of its scientific, managerial and manufacturing personnel. The loss of a
significant group of key personnel could have a material adverse effect on the
Company. The Company's success also depends upon its ability to continue to
attract and retain other highly qualified scientific, managerial and
manufacturing personnel. Competition for such personnel is intense. In this
respect, the Company competes with numerous pharmaceutical and health care
companies, as well as universities and nonprofit research organizations. There
can be no assurance that the Company will continue to be able to attract and
retain sufficient qualified personnel.

PROPERTIES

Cygnus leases approximately 92,000 square feet in four buildings. Three are
located in Redwood City, California and the fourth is located in Menlo Park,
California. The headquarters building, approximately 38,000 square feet, is used
for laboratories and administrative offices. The manufacturing building,
approximately 21,000 square feet, is wholly dedicated to manufacturing and
support. The third facility, also in Redwood City, California, has approximately
11,000 square feet of which approximately 8,000 square feet are utilized for
additional administrative offices and the remainder is reserved for expansion
purposes. The fourth facility, which is located in Menlo Park, has approximately
22,000 square feet, and is used for storage of manufacturing materials and final
products.

The three facilities in Redwood City are leased through 1998 with an option
to renew at the then fair market value through 2003. The facility in Menlo Park
is leased over a three year period ending in 1999.

The manufacturing facility was designed and constructed to comply with cGMp
standards. Cygnus has received licenses from the California Department of Health
Services and the United States Drug Enforcement Agency for the manufacture of
drug products in this facility, and has filed a Drug Master File for the
facility with the FDA. The Company believes that this manufacturing facility has
sufficient capacity to meet operating requirements and satisfy foreseeable
future demands for its current commercial products. To the extent that the
manufacturing facility is not used for commercial production, the Company
intends to maintain a minimum level of staffing and utilize the excess capacity
for producing clinical supplies and process improvement.

As the Company completes the development of its hormone replacement
products, it will begin evaluating its existing manufacturing plans under which
a new manufacturing site may become necessary.

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DESCRIPTION OF NOTES

The Notes will be issued under the Indenture dated as of February 3,
1998 (the "Subordinated Indenture") as supplemented by the First Supplemental
Indenture dated as of February 3, 1998 (the "Supplemental Indenture" together
with the Subordinated Indenture, are hereinafter referred to as the
"Indenture"). The following discussion includes a summary description of
material terms of the Indenture and the Notes (which represent a series of,
and are referred to in the accompanying Prospectus as, "Debt Securities").
The following description of the terms of the Notes offered hereby
supplements, and should be read in conjunction with, the statements under
"Description of Debt Securities" in the accompanying Prospectus. The
following summary does not purport to be complete and is subject to, and is
qualified in its entirety by reference to, all of the provisions of the
Indenture. Capitalized terms used and not defined herein have the meanings
given to them in the Indenture. The forms of Subordinated Indenture and
Supplemental Indenture have been filed as exhibits to the Registration
Statement of which the Prospectus forms a part and are hereby incorporated by
reference and the following description is qualified by reference to the
Subordinated Indenture and the Supplemental Indenture. As used in this
Description of Notes, the "Company" refers only to Cygnus, Inc. and does not,
unless the context otherwise indicates, include any of its subsidiaries.

GENERAL

The Notes will be unsecured subordinated obligations of the Company, will
be limited to $43,000,000 aggregate principal amount and will mature on February
1, 2005. The Notes will bear interest at 4% per annum from the date of original
issuance of the Notes, or from the most recent date to which interest has been
paid or provided for, payable annually commencing on December 15, 1998 to
Holders of record of the Notes on the business day immediately preceding
December 15. Subject to the provisions of the Notes, interest may be paid in
whole or in part in fully paid and nonassessable shares of Common Stock.
Interest will be computed on the basis of a 360-day year comprised of twelve
30-day months.

The Notes are unsecured subordinated obligations of the Company that
rank in right of payment in parity with all other subordinated obligations of
the Company for indebtedness for borrowed money or the purchase price of
property other than obligations which, by their terms, may be subordinated to
the Notes. The terms of the Indenture restrict the incurrence of Indebtedness
other than Permitted Indebtedness by the Company or its subsidiaries. The
Notes will be effectively subordinated in right of payment to all Senior Debt
of the Company's subsidiaries.

The Notes will be convertible in the case of any Tranch 1 Note, from and
after the Issuance Date and then at any time on or prior to the date such
note is paid in full, and in the case of any Tranche 2 Note, from and after
the date which is 121 days after the Issuance Date and then at any time into
Common Stock at the Conversion Price and subject to adjustment upon the
occurrence of certain events as described below under "--Conversion Rights,"
at any time on or after issuance of the Notes and prior to the close of
business on the maturity date, unless previously redeemed or repurchased.

FORM AND TRANSFER

The Notes will be issued in registered form, without coupons, and in
denominations of $1,000 and integral multiples thereof.

Unless a Holder shall have obtained the prior written consent of the
Company, such Holder may not sell, assign or otherwise transfer such Holder's
Note other than (i) Permitted Transferee or (ii) in connection with a bona
fide pledge to a financial institution. The term "Permitted Transferee"
means any Person who is (i) a holder (provided that such holder is an
authorized holder thereof pursuant to the Indenture), (ii) an Affiliate of
the holder, and (iii) any Person who has the same principal investment
adviser as, or whose principal investment adviser is an Affiliate of the
principal investment adviser to, the buyer of the Notes or any Person
identified in the preceding clauses (i) through (ii), and in any such case to
whom Notes are being transferred which have a principal amount equal to at
least 20% of the principal amount of the Notes outstanding on the date of
such transfer, but in no event less than $1,500,000 (or equal to such lesser
principal amount of the Notes held by the buyer of the notes at the time of
such transfer).

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CONVERSION RIGHTS

Upon original issuance of Notes, Notes having a principal amount equal to
one-half of the aggregate principal amount issued to each Holder shall be
designated as Tranche 1 Notes and Notes having a principal amount equal to
one-half of the aggregate principal amount issued to each Holder shall be
designated as Tranche 2 Notes.

Each Holder of Notes shall have the right (x) in the case of any Tranche 1
Note, from and after issuance and then at any time on or prior to the date such
Note is paid in full and (y) in the case of any Tranche 2 Note, from and after
the date which is 121 days after issuance and then at any date on or prior to
the date such Note is paid in full, in each such case to convert all or from
time to time any part of the outstanding and unpaid principal amount of such
Note, equal to $25,000 or such lesser amount as shall remain unpaid at the time
of the conversion or may be permitted from time to time by the Company in its
discretion, and accrued and unpaid interest on the principal amount to be
converted and on any such interest, into fully paid and nonassessable shares of
Common Stock. Such conversion shall occur at the price that is, for any date,
the arithmetic average of the lowest daily per share Trading Prices during the
applicable Measurement Period for such date (the "Conversion Price"); provided,
however, that in no event shall the Conversion Price for any date be less than
the Minimum Conversion Price applicable to such date regardless of the
Conversion Price otherwise determined as set forth above; provided further,
however, that in the case of any Conversion Date on or after February 1, 2000,
the Conversion Price shall be the greater of (x) $150.00 and (y) an amount equal
to 150% of the arithmetic average of the Market Price of the Common Stock for
the period of 20 consecutive Trading Days ending one Trading Day prior to
February 1, 2000.

Holders may exercise their right of conversion by delivering to the
Transfer Agent a conversion notice. Such conversion notice can be obtained at
the office of any Conversion Agent. The conversion date will be the date on
which the duly signed notice of conversion are so delivered. Within three
Trading Days after the conversion date, the Company will issue and deliver or
cause to be delivered a certificate or certificates for the number of full
shares of Common Stock issuable upon conversion, either rounded-up or
together with payment of cash in lieu of any fraction of a share. All shares
of Common Stock issuable upon conversion of the Notes, in accordance with the
provisions of the Indenture, will be fully paid and nonassessable and will
rank PARI PASSU with the other shares of Common Stock of the Company
outstanding from time to time. In connection with an offering of Common Stock
solely for the account of the Company, the Company has the right, if required
by the underwriter(s) of such offering, to require Holders to refrain from
publicly selling shares of Common Stock acquired upon conversion of Notes for
a specific period of time.

The Conversion Price is subject to adjustment on terms determined in good
faith by the Company's Board of Directors (provided such adjustment is not
reasonably objected to by Majority Holders within 10 days after the giving of
written notice of such adjustment) upon the occurrence of the following events:
(i) the Company shall declare or pay a dividend or make a distribution to all
holders of the outstanding Common Stock in shares of Common Stock; (ii) the
Company shall issue rights or warrants to all holders of its outstanding shares
of Common Stock, which rights or warrants entitle such holders (for a period
expiring within forty-five (45) days after the date fixed for the determination
of stockholders entitled to receive such rights or warrants) to subscribe for or
purchase shares of Common Stock at a price per share less than price; (iii) the
outstanding shares of Common Stock shall be subdivided into a greater number of
shares of Common Stock, or the outstanding shares of Common Stock shall be
combined into a smaller number of shares of Common Stock; (iv) the Company
shall, by dividend or otherwise, distribute to all holders of its Common Stock
shares of any class of capital stock of the Company (other than any dividends or
distributions to which clause (i) of Section 9.15(a) of the Supplemental
Indenture applies) or evidences of its indebtedness, cash or other assets
(including securities, but excluding any rights or warrants referred to in
clause (ii) of Section 9.15(a) of the Supplemental Indenture and dividends and
distributions paid exclusively in cash and excluding any capital stock,
evidences of indebtedness, cash or assets distributed upon a merger or
consolidation); (v) the Company or any Subsidiary shall (x) by dividend or
otherwise, distribute to all holders of the Common Stock cash in, or (y)
repurchase or reacquire shares of the Common Stock for, in either case, an
aggregate amount that, combined with (1) the aggregate amount of any other such
distributions to all holders of the Common Stock made exclusively in cash within
the twelve months preceding the date of payment of such distribution, and in
respect of which no adjustment pursuant to this clause (v) has been made, (2)
the aggregate

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amount of any cash plus the fair market value (as determined in good faith by
a resolution of the Board of Directors of the Company) of consideration paid
in respect of any repurchase or other reacquisition by the Company or any
Subsidiary of any shares of Common Stock made within the twelve months
preceding the date of payment of such distribution or making of such
repurchase or reacquisition, as the case may be, and in respect of which no
adjustment pursuant to this clause (v) has been made, and (3) the aggregate
of any cash plus the fair market value (as determined in good faith by a
resolution of the Board of Directors of the Company) of consideration payable
in respect of any Tender Offer (as defined in the Supplemental Indenture) by
the Company or any Subsidiary for all or any portion of the Common Stock
concluded within the twelve months preceding the date of payment of such
distribution or completion of such repurchase or reacquisition, as the case
may be, and in respect of which no adjustment pursuant to clause (vi) of
Section 9.15(a) of the Supplemental Indenture has been made, exceeds 10% of
the product of the Market Price (determined without regard to Section 9.15(a)
of the Supplemental Indenture) on the date of the determination pursuant
hereto TIMES the number of shares of Common Stock outstanding on such date;
or (vi) a Tender Offer made by the Company or any Subsidiary for all or any
portion of the Common Stock shall expire and such Tender Offer (as amended
upon the expiration thereof) shall require the payment to stockholders of the
Company (based on the acceptance (up to any maximum specified in the terms of
such Tender Offer) of shares of Common Stock to be purchased in such Tender
Offer) of an aggregate consideration having a fair market value (as
determined in good faith by resolution of the Board of Directors of the
Company) that combined together with (1) the aggregate of the cash plus the
fair market value (as determined in good faith by a resolution of the Board
of Directors of the Company), as of the expiration of such Tender Offer, of
consideration payable in respect of any other Tender Offers, by the Company
or any Subsidiary for all or any portion of the Common Stock expiring within
the twelve months preceding the expiration of such Tender Offer and in
respect of which no adjustment pursuant to this clause (vi) has been made,
(2) the aggregate amount of any cash plus the fair market value (as
determined in good faith by a resolution of the Board of Directors of the
Company) of consideration paid in respect of any repurchase or other
reacquisition by the Company or any subsidiary of the Company of any shares
of Common Stock made within the twelve months preceding the expiration of
such tender offer and in respect of which no adjustment pursuant to this
clause (vi) has been made, and (3) the aggregate amount of any distributions
to all holders of the Common Stock made exclusively in cash within twelve
months preceding the expiration of such Tender Offer and in respect of which
no adjustment pursuant to clause (v) of this proviso has been made, exceeds
10% of the product of the Market price (determined without regard to this
proviso) on the date of the determination pursuant hereto TIMES the number of
shares of Common Stock outstanding on such day; PROVIDED, HOWEVER, that no
adjustment shall be made pursuant to this clause (vi) which would increase
such price.

In the event of a taxable distribution to holders of Common Stock (or other
transaction) that results in any adjustment of the Conversion Price, the Holders
of Notes may, in certain circumstances, be deemed to have received a
distribution subject to United States income tax as a dividend; in certain other
circumstances, the absence of such an adjustment may result in a taxable
dividend to the holders of Common Stock. See "Certain United States Federal
Income Tax Consequences."

In case of any consolidation or merger of the Company with any other
corporation (other than a wholly owned subsidiary of the Company) in which the
Company is not the surviving corporation, or in case of any sale or transfer of
all or substantially all of the assets of the Company, or in the case of any
share exchange pursuant to which all of the outstanding shares of Common Stock
are converted into other securities or property, in any such case which occurs
on or prior to February 1, 2000, the Company shall make appropriate provision or
cause appropriate provision to be made so that the Holders of the Notes shall
have the right thereafter to convert the Notes into the kind of shares of stock
and other securities and property receivable upon such consolidation, merger,
sale, transfer or share exchange by the Persons who were holders of Common Stock
immediately prior to the effective date of such consolidation, merger, sale,
transfer or share exchange and on a basis which preserves the economic benefits
of the conversion rights of the Holders of the Notes on a basis as nearly as
practical as such rights existed prior to such consolidation, merger, sale,
transfer or share exchange. If, in connection with any such consolidation,
merger, sale, transfer or share exchange each holder of shares of Common Stock
is entitled to elect to receive either securities, cash or other assets upon
completion of such transaction, the Company shall provide or cause to be
provided to the Holders of the Notes the right to elect prior to completion of
such transaction the securities, cash or other assets into which such Holder's
Notes shall be convertible after completion of any such transaction on the

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same terms and subject to the same conditions applicable to holders of the
Common Stock (including, without limitation, notice of the right to elect,
limitations on the period in which such election shall be made, and that the
effect of failing to exercise the election will be deemed to be an election of
the same alternative as that for holders of Common Stock who fail to make an
election). The Company shall not effect any such transaction unless the
provisions of this paragraph have been complied with. The above provisions
similarly apply to successive consolidations, mergers, sales, transfers or share
exchanges.

Whenever the Company shall propose to take any of the actions
specified in the above paragraph, the Company shall cause a notice to be mailed
to the Holders at least 20 days prior to the date on which the books of the
Company will close or on which the securityholders entitled to participate in
such action is to be determined. Such notice shall specify the action proposed
to be taken by the Company and the date as of which holders of record of the
Common Stock shall participate in any such actions or be entitled to exchange
their Common Stock for securities or other property, as the case may be.

SUBORDINATION

The payment of the principal of, premium, if any, and interest on the Notes
and any amounts payable upon the redemption or the repurchase of the Notes are
unsecured and will be subordinated in right of payment to the extent set forth
in the Indenture to the prior payment in full of the principal of, premium, if
any, interest and other amounts in respect of all Senior Debt of the Company.
See "Description of Debt Securities--Subordination of Subordinated Debt
Securities" in the accompanying Prospectus.

The Notes will be structurally subordinated to all indebtedness and other
liabilities (including trade payables) of the Company's subsidiaries, as any
right of the Company to receive any assets of its subsidiaries upon their
liquidation or reorganization (and the consequent right of the Holders of the
Notes to participate in those assets) will be effectively subordinated to the
claims of the subsidiary's creditors (including trade creditors), except to the
extent that the Company itself is recognized as a creditor of such subsidiary,
in which case the claims of the Company would still be subordinate to any
security interest in the assets of such subsidiary and any indebtedness of such
subsidiary senior to that held by the Company.

"Permitted Indebtedness" means (i) Indebtedness which is outstanding and
which would be reflected on consolidated balance sheet of the Company as of
the Issuance Date prepared in accordance with generally accepted accounting
principles; (ii) Indebtedness owed to any bank or any non-bank Affiliate (as
defined in the Supplemental Indenture) of a bank, which Affiliate is engaged
in the financing business; (iii) Indebtedness under any lease lines or other
lease financing or conditional sale arrangement; (iv) Indebtedness
representing any financing of the purchase or improvement of any real
property or equipment or interest in real property or equipment; (v)
Indebtedness which is subordinated to the Notes on terms no more favorable to
the holder of such subordinated debt than those on which the Notes are
subordinated to Senior Debt; (vi) Indebtedness which the Board of Directors
determines, as set forth in a Board Resolution, is necessary or appropriate
to finance the costs of manufacturing, marketing or commercialization of the
Company's products; (vii) Obligations of the Company or its Subsidiaries with
respect to letters of credit, banker's acceptances and similar facilities
(including reimbursement obligations); (viii) Obligations of the Company or
its Subsidiaries with respect to interest rate, and currency swaps, caps,
floors, collars, forward contracts and other hedging instruments; (ix)
Obligations with respect to the deferred purchase price of property and
services (including trade payables); and (x) Obligations of the nature listed
in (1) to (9) above of another Person which are guaranteed by or otherwise a
contingent obligation of the Company and the Subsidiaries.

As of December 31, 1997, the Company had approximately $19.1 million of
indebtedness and other liabilities (including the $6.0 million note issued to
Sanofi in connection with the Company's arbitration settlement described in
"Business--Legal Proceedings") that would have constituted Senior Debt. As of
September 30, 1997, the Company's subsidiaries had no indebtedness or other
liabilities as to which the Notes would have been effectively subordinated. The
Indenture does not limit the Company's or its subsidiaries' ability to incur,
create, assume or guarantee Senior Debt or any other Permitted Indebtedness or
liabilities. The Company expects from time

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<PAGE>

to time to incur, create, assume or guarantee additional Permitted Indebtedness
and other liabilities, including Senior Debt. See "Risk Factors--Leverage;
Subordination of Notes; Absence of Financial Covenants."

OPTIONAL REDEMPTION

The Notes are not entitled to any sinking fund. The Notes are not
redeemable by the Company prior to February 1, 1999. On or after February 1,
1999, the Notes are redeemable so long as

(x) for a period of 20 consecutive Trading Days, the Market Price of
the Common Stock on each such Trading Day shall have been at least equal to
150% of the Maximum Conversion Price in effect on such Trading Day; and

(y) on the date the Redemption Notice is given, no Event of Default
shall have occurred and be continuing, on the Redemption Date no
Inconvertibility Day shall have occurred since the date the Redemption
Notice was given and on the Redemption Date no Repurchase Event shall
have occurred with respect to which any Holder shall have the right
to require repurchase of any Note pursuant to the Supplemental Indenture
or with respect to which any Holder shall have exercised such right and
the Company shall not have paid the Repurchase Price.

The Company shall have the right on one occasion only, at its election,
to redeem all or any part of the Notes (other than the Inconvertible Portion
of Notes as to which a Holder Redemption Election has been given and which
are thereby required to be redeemed pursuant to the Indenture and other than
Notes or the portion thereof as to which a Holder Notice has been given in
accordance with the Indenture) at the Redemption Price. In order to exercise
its right of redemption as described above, the Company shall, not later than
ten Trading Days after the last Trading Day in the 20-day period giving rise
to the Company's right to redeem the Notes, give a Redemption Notice to each
Holder not less than 25 days or more than 35 days prior to the Redemption
Date. On the Redemption Date, the Company shall pay to or upon the order of
each Holder by wire transfer of immediately available funds to such account
as shall be specified for such purpose by each Holder an amount equal to the
Redemption Price of the Notes to be redeemed from such Holder on the
Redemption Date.

Notwithstanding the giving of a Redemption Notice, each Holder shall be
entitled to convert in accordance with the terms of such Holder's Notes all or
any portion thereof by giving a Conversion Notice at any time prior to (1) the
Redemption Date or (2) if the Company fails to pay the Redemption Price of such
Notes on the applicable Redemption Date, the date on which the Company pays the
Redemption Price of such Notes.

In addition, at any time on or after February 1, 1999 (as extended as
provided in the Supplemental Indenture), if the Conversion Price in effect on
any date is less than $12.50 (subject to adjustment as provided in the
Supplemental Indenture), then so long as:

(x) on the date the Minimum Conversion Price Redemption Notice is
given as provided in the Indenture and on the Minimum Conversion Price
Redemption Date, no Event of Default has occurred and is continuing and no
Repurchase Event shall have occurred with respect to which any Holder shall
have the right to require repurchase of any Note pursuant to the Indenture
or with respect to which any Holder shall have exercised such right and the
Company shall not have paid the Repurchase Price;

(y) on the Minimum Conversion Price Redemption Date, the Company
shall be in compliance in all material respects with its obligations to the
Holders (including, without limitation, its obligations under the Note
Purchase Agreements, the Indenture, the Conversion Agent Agreement and the
Notes); and

(z) on the date the Company gives a Minimum Conversion Price
Redemption Notice, the Company has cash resources available for payment of
the Minimum Conversion Price Redemption Price of all the Notes to be
redeemed;

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the Company shall have the right to redeem at any time all, or from time to time
any part, of the Notes (other than Notes which are required to be redeemed
pursuant to the Indenture) at the Minimum Conversion Price Redemption Price. In
order to exercise its right of redemption, the Company shall, within five
Trading Days after the date on which the Conversion Price entitled the Company
to exercise redemption rights, give a Minimum Conversion Price Redemption
Notice. On the Minimum Conversion Price Redemption Date, the Company shall pay,
to or upon the order of each Holder, by wire transfer of immediately available
funds to such account as shall be specified for such purpose by such Holder, an
amount equal to the Minimum Conversion Price Redemption Price of the Notes held
by such Holder on the Minimum Conversion Price Redemption Date.

Notwithstanding the giving of a Minimum Conversion Price Redemption
Notice, each Holder shall be entitled to convert in accordance with the terms
of such Holder's Notes all or any portion thereof not in excess of the
Redemption-Free Conversion Amount (as defined in the Indenture) thereof by
giving a Conversion Notice at any time prior to (1) the close of business on
the Trading Day prior to the Minimum Conversion Price Redemption Date or (2)
if the Company fails to pay the Minimum Conversion Price Redemption Price on
the Minimum Conversion Price Redemption Date, the date on which the Company
pays the Minimum Conversion Price Redemption Price.

If at any time the Company shall have become entitled to exercise its right
to redeem the Notes and the Company shall not exercise such right in accordance
with the Indenture, then thereafter the Company shall not be entitled to
exercise its right to redeem the Notes unless the requirements of the Indenture
shall be satisfied on a date which is more than 90 days after the date the
Company became so entitled to exercise its right to redeem the Notes.

At any time on or after February 1, 2000, the Company shall have the right
to redeem the Notes in whole at any time, or in part from time to time, on three
Business Days' notice to the Holders, at a redemption price equal to the
outstanding principal amount of the Notes being redeemed plus accrued interest
to the redemption date.

REPURCHASE OF NOTES AT THE OPTION OF HOLDERS UPON A REPURCHASE EVENT

The Indenture provides that, in the event a Repurchase Event (as defined
below) occurs on or prior to February 1, 2000, each Holder will have the
right, at such Holder's option, to require the Company to repurchase all or
any part of such Holder's Notes (provided, that the minimum principal amount
of such Notes must be $100,000 or an integral multiple thereof) on the date
that is five Business Days after the date of a Holder Notice delivered with
respect to such Repurchase Event. Each Holder of Notes shall have the right
to require the Company to repurchase such Holder's Notes if a Repurchase
Event occurs at any time while any portion of the principal amount of such
Notes is outstanding and prior to February 1, 2000 at a price equal to the
Repurchase Price. The "Repurchase Price" of such Notes shall be the sum of
(i) the product obtained by multiplying (A) the outstanding principal amount
of the Note to be repurchased times (B) 110% plus (ii) accrued and unpaid
interest on such principal amount to the date of such repurchase plus (iii)
accrued and unpaid Default Interest, if any, on the amount in clause (ii) at
the rate provided in the Notes to the Repurchase Date.

The Indenture provides that a "Repurchase Event" means the occurrence of
any one or more of the following events:

(a) For any period of seven consecutive Trading Days following the
date of issuance of the Notes there shall be no reported sale price of the
Common Stock on any of Nasdaq, the NYSE or the AMEX;

(b) Any consolidation or merger of the Company or any Subsidiary of
the Company with or into another entity or other business combination
transaction involving the Company or any Subsidiary (other than a merger or
consolidation of a Subsidiary into the Company or a wholly owned
Subsidiary) where the stockholders of the Company immediately prior to such
transaction do not, immediately following such transaction, collectively
own at least 51% of the outstanding voting securities of the surviving
corporation of such consolidation or merger or

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other business combination transaction (of at least 51% of the
outstanding voting securities of the Company in the case of any such
consolidation, merger or transaction in which a Subsidiary is merging or
consolidating entity and the Company is not a merging or consolidating
entity; or the sale of all or substantially all of the assets of the
Company and the Subsidiaries;

(c) The adoption of any amendment to the Company's Certificate of
Incorporation (other than any certificate designating a series of preferred
stock of the Company) which materially and adversely affects the rights of
the Holders of the Notes in respect of its interest in the Common Stock in
a different and more adverse manner than it affects the rights of holders
of Common Stock generally or the taking of any other action which
materially and adversely affects the rights of the Holders of the Notes; or

(d) The occurrence of any Event of Default as specified in Article
Four of the Supplemental Indenture if an Event of Default is continuing
on the day a Holder Notice is given.

If the Company fails to pay the applicable Repurchase Price to a Holder of
Notes entitled thereto on the applicable repurchase date for any Note (or
portion hereof) as to which the repurchase right has been properly exercised
pursuant to Article Seven, then the Repurchase Price for the portion
(which, if applicable, may be all) of the Note which is required to have been so
repurchased shall bear interest to the extent not prohibited by applicable law
from the applicable repurchase date until paid in full at the Default Rate.

The phrase "all or substantially all" of the assets of the Company is
likely to be interpreted by reference to applicable state law at the relevant
time, and will be dependent on the facts and circumstances existing at such
time. As a result, there may be a degree of uncertainty in ascertaining whether
a sale or transfer of "all or substantially all" of the assets of the Company
has occurred. In addition, no assurances can be given that the Company will be
able to acquire the Notes tendered upon the occurrence of a Repurchase Event.

The repurchase option upon a Repurchase Event may in certain circumstances
make more difficult or discourage a takeover of the Company and, thus, the
removal of incumbent management. The Repurchase Event repurchase feature,
however, is not the result of management's knowledge of any specific effort to
accumulate the Company's stock or to obtain control of the Company by means of a
merger, tender offer, solicitation or otherwise, or part of a plan by management
to adopt a series of anti-takeover provisions. Management has no present
intention to engage in a transaction involving a Repurchase Event, although it
is possible the Company could decide to do so in the future. Subject to the
limitations on mergers, consolidations and sale of assets described herein, the
Company could, in the future, enter into certain transactions, including
acquisitions, refinancings, restructurings or other recapitalizations, that
would not constitute a Repurchase Event under the Indenture, but that could
increase the amount of indebtedness (including Senior Debt) outstanding at such
time or otherwise affect the Company's capital structure or credit ratings. The
payment of the Repurchase Price in the event of a Repurchase Event is
subordinated to the prior payment of Senior Debt as described under
"--Subordination."

To the extent applicable and if required by law, the Company will comply
with Section 14 of the Exchange Act and the provisions of Regulation 14E and
any other tender offer rules under the Exchange Act and any other securities
laws, rules and regulations that may then be applicable to the repurchase
rights of the Holders arising in connection with a Repurchase Event.

If a Repurchase Event were to occur, there can be no assurance that the
Company would have sufficient financial resources, or would be able to
arrange financing to pay the repurchase price for all Notes tendered by the
Holders thereof to be repurchased. The Company's ability to repurchase the
Notes may also be limited or prohibited by the terms of its then-existing
borrowing arrangements to the extent such arrangements include lawful
provisions regarding such limitations or prohibitions. Moreover, any future
credit agreements or other agreements relating to other indebtedness
(including Senior Debt) to which the Company becomes a party may contain
restrictions on or prohibitions of the repurchase of the Notes by the Company
to the extent such agreements include lawful provisions regarding such
restrictions or prohibitions. In the event a Repurchase Event occurs at a
time when the Company is prohibited from repurchasing Notes, the Company
could seek the consent of its lenders to the repurchase of the Notes or could
attempt to refinance the borrowings that contain such prohibition. If the
Company does not obtain such a consent or repay such borrowings, the Company
would remain prohibited from repurchasing the Notes. In such case, the
Company's failure to repurchase the Notes would constitute an Event of
Default under the Indenture, whether or not payment of the repurchase price
is permitted by the subordination provisions of the Indenture. Any such
default may, in turn, cause a default under Senior Debt of

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the Company. Moreover, the occurrence of a Repurchase Event in and of itself may
constitute an event of default under Senior Debt of the Company. As a result, in
either case, payment of the repurchase price of the Notes with cash would,
absent a waiver, be prohibited under the subordination provisions of the
Indenture until the Senior Debt is paid in full. See "--Subordination."

DEFEASANCE AND COVENANT DEFEASANCE

In connection with the exercise by the Company of its rights under
Article XIII of the Original Indenture (see "Description of Debt
Securities--Defeasance and Covenant Defeasance" in the accompanying
Prospectus), the amount deposited by the Company with the Trustee to defease the
Notes shall, in addition to any amounts required to be so deposited in respect
of interest accruing on the Notes, deposit in respect of the principal amount of
the Notes an amount at least equal to (i) in the case of cash, 112% of the
principal amount of the Notes Outstanding, (ii) in the case of U.S. Government
Obligations, U.S. Government Obligations which have a maturity of less than one
year at the time of deposit and which have an aggregate principal amount at
least equal to 112% of the principal amount of the Notes Outstanding or
(iii) any combination of (i) and (ii).

EVENTS OF DEFAULT

The following matters will constitute an Event of Default under the
Indenture with respect to the Notes, if such matters occur on or prior to
February 1, 2000: (i) default in the payment of any interest upon any Note
when it becomes due and payable and continuance of such default for a period
of 15 days; or (ii) any representation or warranty of the Company made in the
Note Purchase Agreements, the Notes, the Original Indenture or this
Supplemental Indenture or in any agreement, statement or certificate given in
writing pursuant thereto or hereto or in connection therewith or herewith
shall have been false or misleading in any material respect when made; or
(iii) default in the performance, or breach, of any covenant or warranty of
the Company in Article Eight of this Supplemental Indenture, which, in the
case of the Company's failure to deliver shares of Common Stock upon
conversion of any Note shall mean a failure to deliver such shares within
seven days after a Conversion Date, or default in the performance, or breach,
of any covenant or warranty of the Company or the Conversion Agent contained
in the Conversion Agent Agreement; or (iv) default in the performance, or
breach, of any covenant or warranty of the Company in Section 901, 902, 1003
or 1005 of the Original Indenture or Section 3.01, Article Five, or Section
6.01 of the Supplemental Indenture, and the continuance of such default or
breach for a period of ten days after there has been given, by telephone line
facsimile transmission or registered or certified mail, to the Company by the
Trustee or to the Company and the Trustee by the Holders of at least 25% in
principal amount of the Outstanding Securities of this series a written
notice specifying such default or breach and requiring it to be remedied and
stating that such notice is a "Notice of Default" under the Indenture; or (v)
default in the performance, or breach, of any covenant or warranty of the
Company in the Original Indenture or this Supplemental Indenture (other than
a covenant or warranty a default in the performance or breach of which is
elsewhere in this Section specifically dealt with or which has expressly been
included in the Original Indenture solely for the benefit of a series of
Securities other than the Notes), and continuance of such default or breach
for a period of 30 days after there has been given, by registered or
certified mail, to the Company by the Trustee or to the Company and the
Trustee by the Holders of at least 25% in principal amount of the Outstanding
Securities of this series a written notice specifying such default or breach
and requiring it to be remedied and stating that such notice is a "Notice of
Default" under the Indenture; or (vi) any court of competent jurisdiction
shall enter one or more final judgments against the Company or any Subsidiary
or any of their respective properties or other assets in an aggregate amount
in excess of $1,000,000, which is not vacated, bonded, stayed, discharged,
satisfied or waived for a period of thirty consecutive days; or (vii) any
Indebtedness of the Company or any Subsidiary which has an outstanding
principal amount in excess of $1,500,000 in the aggregate shall, in
accordance with its terms, be declared to be due and payable, or be required
to be prepaid or redeemed, other than by a regularly scheduled or required
payment, prior to the stated maturity thereof; or (viii) the Common Stock
shall cease to be listed on any of Nasdaq, the NYSE or the AMEX; or (ix) any
Event of Default specified in Section 501(2), 501(5) or 501(6) of the
Original Indenture.

The Events of Default provided in Sections 501(1) and 501(4) of the
Original Indenture shall be superseded with respect to the Notes by the Events
of Default provided in Sections 4.01(1), 4.01(4) and 4.01(5) of this

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Supplemental Indenture with regard to any events which occur on or prior to
February 1, 2000. "Event of Default," whenever used in the Original Indenture
or this Supplemental Indenture with respect to the Notes for any occurrence
after February 1, 2000 shall mean the Events of Default specified in Section
501(1), 501(2), 501(5), and 501(6) of the Original Indenture.

TRANSFER AND EXCHANGE

The Company has initially appointed the Trustee as security registrar
and transfer agent, acting through its Corporate Trust Department. The
Company reserves the right to vary or terminate the appointment of the
security registrar or of any transfer agent or conversion agent or to appoint
additional or other transfer agents or conversion agents or to approve any
change in the office through which any security registrar or any transfer
agent or conversion agent acts.

The Company has initially appointed ChaseMellon Shareholder Services,
L.L.C. as the conversion agent to provide for conversion of the Notes in
accordance with their terms and the terms of the Indenture to provide for
timely issuance of Common Stock upon conversion of the Notes.

CANCELLATION

All Notes surrendered for payment, redemption, repurchase, registration of
transfer or exchange or conversion shall, if surrendered to any Person other
than the Trustee, be delivered to the Trustee. All Notes so delivered to the
Trustee shall be canceled promptly by the Trustee. No Notes shall be
authenticated in lieu of or in exchange for any Notes canceled as provided in
the Indenture.

REPLACEMENT OF NOTES

Notes that become mutilated, destroyed, stolen or lost will be replaced by
the Company at the expense of the Holder upon delivery to the Trustee of the
mutilated Notes or evidence of the loss, theft or destruction thereof
satisfactory to the Company and the Trustee. In the case of a lost, stolen or
destroyed Note, indemnity satisfactory to the Trustee and the Company may be
required at the expense of the Holder of such Note before a replacement Note
will be issued.

GOVERNING LAW

The Indenture and the Notes will be governed by and construed in accordance
with the laws of the State of New York.

THE TRUSTEE

In case an Event of Default shall occur (and shall not be cured), the
Trustee will be required to use the degree of care of a prudent person in the
conduct of his own affairs in the exercise of its powers. Subject to such
provisions, the Trustee will be under no obligation to exercise any of its
rights or powers under the Indenture at the request of any of the Holders of
Notes, unless they shall have offered to the Trustee reasonable security or
indemnity.

S-36
<PAGE>

CERTAIN UNITED STATES FEDERAL INCOME TAX CONSEQUENCES

The following is a general discussion of certain United States federal
income tax considerations to holders of the Notes and the Common Stock into
which the Notes may be converted. This discussion is based upon the Internal
Revenue Code of 1986, as amended (the "Code"), Treasury Regulations, Internal
Revenue Service ("IRS") rulings, and judicial decisions now in effect, all of
which are subject to change (possibly with retroactive effect) or different
interpretations.

This discussion does not deal with all aspects of United States federal
income taxation that may be important to holders of the Notes or the Common
Stock into which the Notes may be converted and does not deal with tax
consequences arising under the laws of any foreign, state or local jurisdiction.
This discussion is for general information only, and does not purport to address
all tax consequences that may be important to particular purchasers in light of
their personal circumstances, or to certain types of purchasers (such as certain
financial institutions, insurance companies, tax-exempt entities, dealers in
securities or persons who hold the Notes or the Common Stock in connection with
a straddle) that may be subject to special rules. This discussion assumes that
each holder holds the Notes and the Common Stock into which the Notes may be
converted as capital assets.

The term "U.S. Holder" means (i) a citizen or resident of the United
States, (ii) a corporation, partnership or other entity created or organized
under the laws of the United States or any state thereof, (iii) an estate the
income of which is subject to federal income tax regardless of its source, or
(iv) a trust with respect to which (a) a United States court may exercise
primary supervision over its administration and (b) one or more U.S. Holders
have the authority to control all substantial decisions.

PROSPECTIVE PURCHASERS ARE URGED TO CONSULT THEIR OWN TAX ADVISORS
REGARDING THE FEDERAL, STATE, LOCAL AND FOREIGN TAX CONSEQUENCES OF THEIR
PURCHASE, OWNERSHIP AND DISPOSITION OF THE NOTES, INCLUDING CONVERSION OF THE
NOTES, AND THE OWNERSHIP AND DISPOSITION OF THE COMMON STOCK INTO WHICH THE
NOTES MAY BE CONVERTED.

UNITED STATES HOLDERS

INTEREST ON NOTES. Stated interest on the Notes will be taxable to a U.S.
Holder as ordinary interest income at the time such interest is received or
accrued, in accordance with such holder's regular method of accounting for
United States federal income tax purposes. The Company expects that the Notes
will not be issued with original issue discount ("OID") within the meaning of
the Code. The Company intends to take the position that a repurchase upon a
Repurchase Event, as described under "Description of Notes--Repurchase of Notes
at the Option of Holders Upon a Repurchase Event", is remote under applicable
Treasury Regulations and does not intend to treat the possibility of such a
repurchase as affecting the yield to maturity of the Notes.

CONSTRUCTIVE DIVIDEND. Certain corporate transactions, such as
distributions of assets to holders of Common Stock, may cause a deemed
distribution to the holders of the Notes if the Conversion Price of the Notes is
adjusted to reflect such corporate transaction. Such deemed distributions will
be taxable as a dividend, return of capital, or capital gain in accordance with
the earnings and profits rules discussed under "Dividends on Common Stock." U.S.
Holders therefore could have taxable income as a result of an event to which the
holder received no cash or property.

CONVERSION OF NOTES. A U.S. Holder of Notes will not recognize gain or
loss on the conversion of the Notes into Common Stock. The U.S. Holder's tax
basis in the Common Stock received upon conversion of the Notes will be equal to
the holder's aggregate basis in the Notes exchanged therefor (less any portion
thereof allocable to cash received in lieu of a fractional share). The holding
period of the Common Stock received by the holder upon conversion of the Notes
will generally include the period during which the holder held the Notes prior
to the conversion.

S-37
<PAGE>

Cash received in lieu of a fractional share of Common Stock should be
treated as a payment in exchange for such fractional share rather than as a
dividend. Gain or loss recognized on the receipt of cash paid in lieu of such
fractional share generally will equal the difference between the amount of cash
received and the amount of tax basis allocable to the fractional share.

DIVIDENDS ON COMMON STOCK. Distributions, if any, paid on the Common Stock
will constitute dividends for United States federal income tax purposes to the
extent of current or accumulated earnings and profits of the Company as
determined under United States federal income tax principles. Dividends paid to
corporations may qualify for the dividends-received deduction.

To the extent, if any, that a U.S. Holder receives distributions on the
Common Stock that would otherwise constitute dividends for United States federal
income tax purposes but that exceed current and accumulated earnings and profits
of the Company, such distributions will be treated first as a non-taxable return
of capital reducing the holder's basis in the Common Stock. Any such
distributions in excess of the U.S. Holder's basis in the Common Stock will be
treated as capital gain.

SALE OR EXCHANGE OF NOTES OR COMMON STOCK. In general, subject to the
market discount rules discussed below, a U.S. Holder of Notes will recognize
capital gain or loss upon the sale, redemption, retirement or other disposition
of the Notes or shares measured by the difference between the amount of cash and
the fair market value of any property received (except to the extent
attributable to the payment of accrued interest not previously included in
income, which will be taxable as ordinary interest income) and the Holder's
adjusted tax basis in the Notes. A U.S. Holder's tax basis in Notes generally
will equal the cost of the Notes to the U.S. Holder increased by the amount of
market discount, if any, previously included in income by the holder or
decreased by any bond premium theretofore amortized by the holder with respect
to the Notes. In general, subject to the market discount rules discussed below,
each U.S. Holder of Common Stock into which the Notes have been converted will
recognize capital gain or loss upon the sale, exchange, redemption or other
disposition of the Common Stock. However, special rules may apply to redemptions
of Common Stock which may result in the amount paid being treated as a dividend.
With respect to U.S. Holders who are individuals, trusts or estates, the
Taxpayer Relief Act of 1997 (the "Act") provides a maximum tax rate of 20% on
net capital gains derived from securities held for more than 18 months and
provides a maximum tax rate of 28% on net capital gains derived from securities
held for more than one year and for not more than 18 months ("mid-term gains").
Net gain recognized by such U.S. Holders on securities held for one year or less
in excess of net long-term capital loss continues to be short-term capital gain
subject to tax at ordinary income rates. The Act generally does not affect the
taxation of capital gains to corporations. (For the basis and holding period of
the Common Stock, see "Conversion of Notes.")

MARKET DISCOUNT. The resale of Notes may be affected by the "market
discount" provisions of the Code. For this purpose, the market discount on a
Note will generally be equal to the amount, if any, by which the stated
redemption price at maturity of the Note immediately after its acquisition
exceeds the holder's tax basis in the Note. Subject to a de minimis exception,
these provisions generally require a holder of a Note acquired at a market
discount to treat as ordinary income any gain recognized on the disposition of
such Note to the extent of the "accrued market discount" on such Note at the
time of disposition, unless the holder elects to include accrued market discount
in income currently. In general, market discount on a Note will be treated as
accruing on a straight-line basis over the term of such Note, or, at the
election of the holder, under a constant yield method. A holder of a Note
acquired at a market discount who does not elect to include accrued market
discount in income currently may be required to defer the deduction of a portion
of the interest on any indebtedness incurred or maintained to purchase or carry
the Note until the Note is disposed of in a taxable transaction. If a holder
acquires a Note at a market discount and receives Common Stock upon conversion
of the Note, the amount of accrued market discount not previously included in
income with respect to the converted Note through the date of conversion will be
treated as ordinary income upon the disposition of the Common Stock.

S-38
<PAGE>

NON-U.S. HOLDERS

INTEREST ON NOTES. Generally, interest paid on the Notes to a Non-U.S.
Holder will not be subject to United States federal income tax or withholding
tax if: (i) such interest is not effectively connected with the conduct of a
trade or business within the United States by such Non-U.S. Holder; (ii) the
Non-U.S. Holder does not actually or constructively own 10% or more of the total
voting power of all classes of stock of the Company entitled to vote and is not
a controlled foreign corporation with respect to which the Company is a "related
person" within the meaning of the Code; and (iii) the beneficial owner, under
penalty of perjury, certifies that the owner is not a "United States person"
within the meaning of the Code and provides the owner's name and address. If
certain requirements are satisfied, the certification described in clause
(iii) above may be provided by a securities clearing organization, a bank, or
other financial institution that holds customers' securities in the ordinary
course of its trade or business. For this purpose, the holder of Notes would be
deemed to own constructively the Common Stock into which it could be converted.
A holder that is not exempt from tax under these rules will be subject to United
States federal income tax withholding at a rate of 30% (or lower treaty rate)
unless the interest is effectively connected with the conduct of a United States
trade or business, in which case the interest will be subject to the United
States federal income tax on net income that applies to United States persons
generally. Non-U.S. Holders should consult applicable income tax treaties, which
may provide different rules.

CONVERSION OF NOTES. A Non-U.S. Holder generally will not be subject to
United States federal income tax on the conversion of a Note into Common Stock.
To the extent a Non-U.S. Holder receives cash in lieu of a fractional share on
conversion, such cash may give rise to gain that would be subject to the
rules described below with respect to the sale or exchange of the Notes or the
Common Stock.

DIVIDENDS ON COMMON STOCK. Generally, any distribution on the Common Stock
to a Non-U.S. Holder will be subject to United States federal income tax
withholding at a rate of 30% unless the dividend is effectively connected with
the conduct of trade or business within the United States by the Non-U.S.
Holder, in which case the dividend will be subject to the United States federal
income tax on net income that applies to United States persons generally (and,
with respect to corporate holders and under certain circumstances, the branch
profits tax). Non-U.S. Holders should consult any applicable income tax
treaties, which may provide for a lower rate of withholding or other rules
different from those described above. A Non-U.S. Holder may be required to
satisfy certain certification requirements in order to claim a reduction of or
exemption from withholding under the foregoing rules.

SALES OR EXCHANGE OF NOTES OR COMMON STOCK. A Non-U.S. Holder generally
will not be subject to United States federal income tax on gain recognized upon
the sale or other disposition of the Notes or the Common Stock unless (i) the
gain is effectively connected with the conduct of a trade or business within the
United States by the Non-U.S. Holder, or (ii) in the case of a Non-U.S. Holder
who is a nonresident alien individual and holds the Notes or shares of Common
Stock as a capital asset, such holder is present in the United States for 183 or
more days in the taxable year and certain other circumstances are present.
Non-U.S. Holders should consult applicable income tax treaties, which may
provide different rules.

If the Company is a "United States real property holding corporation"
("USRPHC") (which the Company does not believe that it is or is likely to
become), a Non-U.S. Holder may be subject to United States federal income tax
with respect to gain realized on the disposition of such Notes or Common Stock
as if it were effectively connected with a United States trade or business and
the amount realized will be subject to withholding at the rate of 10%. The
amount withheld pursuant to these rules will be creditable against such Non-U.S.
Holder's United States federal income tax liability and may entitle such
Non-U.S. Holder to a refund upon furnishing the required information to the IRS.
However, a Non-U.S. Holder will not be subject to these rules, even if the
Company were a USRPHC, as long as Common Stock is regularly traded on NASDAQ or
another established securities market, provided that such holder did not during
a specified five-year period actually or constructively own more than 5% of the
Common Stock of the Company (including any Common Stock that may be received on
the conversion of the Notes).

S-39
<PAGE>

INFORMATION REPORTING AND BACKUP WITHHOLDING

U.S. HOLDERS. Information reporting and backup withholding may apply to
payments of interest or dividends on or the proceeds from the sale or other
disposition of the Notes or the Common Stock made by the Company with respect to
certain non-corporate U.S. Holders. Such U.S. Holders generally will be subject
to backup withholding at a rate of 31% unless the recipient of such payment
supplies a taxpayer identification number, certified under penalties of perjury,
as well as certain other information, or otherwise establishes, in the manner
prescribed by law, an exemption from backup withholding. Any amount withheld
under backup withholding is allowable as a credit against the U.S. Holder's
federal income tax, upon furnishing the required information.

NON-U.S. HOLDERS. Generally, information reporting and backup withholding
of United States federal income tax at a rate of 31% may apply to payments of
principal, interest and premium (if any) on the Notes to Non-U.S. Holders if the
payee fails to certify that the holder is a Non-U.S. person or if the Company or
its paying agent has actual knowledge that the payee is a United States person.
The 31% backup withholding tax generally will not apply to dividends paid to
foreign holders outside the United States that are subject to 30% withholding as
discussed above or that are subject to a tax treaty that reduces such
withholding.

The payment of the proceeds from the disposition of the Notes or the Common
Stock to or through the United States office of a United States or foreign
broker will be subject to information reporting and backup withholding unless
the owner provides the certification described above or otherwise establishes an
exemption.

On October 6, 1997, the IRS issued final regulations relating to
withholding, backup withholding and information reporting that unify current
certification procedures and forms and clarify reliance standards (the "Final
Regulations"). The Final Regulations will generally be effective for payments
made after December 31, 1998.

S-40
<PAGE>

PLAN OF DISTRIBUTION

The Notes offered hereby are being offered for sale directly by the
Company to certain institutional investors. The termination date of this
offering is February 4, 1998, subject to extension by mutual agreement by the
Company and the institutional buyers. The sale of the Notes to such
institutional buyers will be effected pursuant to Note Purchase Agreements.

LEGAL MATTERS

Certain legal matters with respect to the legality of the Notes and the
validity of the securities offered hereby are being passed upon for the Company
by Brobeck, Phleger & Harrison LLP, Palo Alto, California.

S-41
<PAGE>
PROSPECTUS

$90,000,000

CYGNUS, INC.

DEBT SECURITIES AND COMMON STOCK
------------------------

Cygnus, Inc. ("Cygnus" or the "Company") may from time to time offer,
together or separately, its (i) debt securities (the "Debt Securities"), which
may be either senior debt securities (the "Senior Debt Securities") or
subordinated debt securities (the "Subordinated Debt Securities") and (ii)
shares of its Common Stock, $.001 par value per share (the "Common Stock"). The
Debt Securities and the Common Stock are collectively referred to herein as the
"Securities".

The Securities offered pursuant to this Prospectus may be issued in one or
more series or issuances and will be limited to $90,000,000 aggregate public
offering price (or its equivalent (based on the applicable exchange rate at the
time of the sale) in one or more foreign currencies, currency units or composite
currencies as shall be designated by the Company). Certain specific terms of the
particular Securities in respect of which this Prospectus is being delivered are
set forth in the accompanying Prospectus Supplement (the "Prospectus
Supplement"), including, where applicable, (i) in the case of Debt Securities,
the specific title, aggregate principal amount, the denomination, whether such
Debt Securities are secured or unsecured obligations, whether such Debt
Securities are senior or subordinated, maturity, premium, if any, the interest
rate or rates (which may be fixed, floating or adjustable), the time and method
of calculating payment of interest, if any, the place or places where principal
of (and premium, if any) and interest, if any, on such Debt Securities will be
payable, the currency in which principal of (and premium, if any) and interest,
if any, on such Debt Securities will be payable, any terms of redemption at the
option of the Company or the Holder, any sinking fund provisions, terms for any
conversion into other Securities, the initial public offering price and other
special terms and (ii) in the case of Common Stock, the number of shares offered
for sale by the Company and the initial public offering price or method of
determining the initial public offering price. If so specified in the applicable
Prospectus Supplement, Debt Securities of a series may be issued in whole or in
part in the form of one or more temporary or permanent global securities. The
Company's Common Stock is listed on the Nasdaq National Market under the symbol
"CYGN." Any Common Stock sold pursuant to a Prospectus Supplement will be listed
for quotation on such market.

Unless otherwise specified in a Prospectus Supplement, the Senior Debt
Securities, when issued, will be unsecured and will rank equally with all other
unsecured and unsubordinated indebtedness of the Company. The Subordinated Debt
Securities, when issued, will be subordinated in right of payment to all Senior
Debt (as defined) of the Company, including any outstanding Senior Debt
Securities. See "Description of Debt Securities--Subordination of Subordinated
Debt Securities."

The Prospectus Supplement may contain information concerning U.S. federal
income tax considerations, if applicable to the Securities offered.

The Securities may be sold directly, through agents, underwriters or dealers
as designated from time to time, or through a combination of such methods. See
"Plan of Distribution." If agents of the Company or any dealers or underwriters
are involved in the sale of the Securities in respect of which the Prospectus is
being delivered, the names of such agents, dealers or underwriters and any
applicable commissions or discounts, if any, are set forth in or may be
calculated from the Prospectus Supplement with respect to such Securities.

This Prospectus may not be used to consummate sales of Securities unless
accompanied by a Prospectus Supplement. Any statement contained in this
Prospectus will be deemed to be modified or superseded by any inconsistent
statement contained in the accompanying Prospectus Supplement.

SEE "RISK FACTORS" ON PAGE 3 OF THIS PROSPECTUS FOR A DESCRIPTION OF CERTAIN
FACTORS THAT SHOULD BE CONSIDERED IN CONNECTION WITH AN INVESTMENT IN THE
SECURITIES.
------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF
THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
------------------------
THE DATE OF THIS PROSPECTUS IS NOVEMBER 12, 1997.
<PAGE>
AVAILABLE INFORMATION

The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith files reports, proxy statements and other information with the
Securities and Exchange Commission (the "Commission"). Such reports, proxy
statements and other information filed by the Company can be inspected and
copied at the public reference facilities maintained by the Commission at Room
1024, 450 Fifth Street, NW, Washington, D.C. 20549, and at the Commission's
Regional Offices located at Citicorp Center, 500 West Madison Street, Suite
1400, Chicago, Illinois 60661 and 7 World Trade Center, Suite 1300, New York,
New York 10048. Copies of such material can be obtained from the Public
Reference Section of the Commission, 450 Fifth Street, NW, Washington, D.C.
20549, at prescribed rates. The Commission maintains a World Wide Web site that
contains reports, proxy and information statements and other information
regarding registrants that file electronically with the Commission. The address
of the World Wide Web site is http://www.sec.gov. The Common Stock is listed for
quotation on the Nasdaq National Market under the symbol "CYGN." Reports and
other information concerning the Company may be inspected at the offices of the
Nasdaq Stock Market at 1735 K Street, Washington, D.C. 20006.

The Company has filed with the Commission a registration statement on Form
S-3 (herein, together with all amendments and exhibits, referred to as the
"Registration Statement") under the Securities Act of 1933, as amended (the
"Securities Act"), with respect to the Securities. This Prospectus which
constitutes part of the Registration Statement does not contain all of the
information set forth in the Registration Statement, certain parts of which are
omitted in accordance with the rules and regulations of the Commission. For
further information with respect to the Company and the securities offered
hereby, reference is made to the Registration Statement.

Statements contained in this Prospectus as to the contents of any contract
or other document are not necessarily complete, and in each instance, reference
is made to the copy of such contract or document filed as an exhibit to the
Registration Statement, each such statement being qualified in all respects by
such reference.

INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE

The following documents have been filed with the Commission and are
incorporated herein by reference:

(a) The Company's Annual Report on Form 10-K for the year ended December
31, 1996;

(b) The Company's Quarterly Reports on Form 10-Q for the quarters ended
March 31 and June 30, 1997; and

(c) The description of the Company's Common Stock contained in the
Company's Registration Statement on Form 8-A for such securities, including
any amendments or reports filed for the purpose of updating such
description.

All documents filed by the Company pursuant to Sections 13(a), 13(c), 14 or
15(d) of the Exchange Act after the date of this Registration Statement of which
this Prospectus forms a part and prior to the termination of the offering of the
Securities offered hereby shall be deemed to be incorporated by reference into
this Prospectus and be a part hereof from the dates of filing of such documents.

Any statement contained in a document incorporated or deemed to be
incorporated by reference herein shall be deemed to be modified or superseded
for purposes of the Registration Statement or this Prospectus to the extent that
a statement contained herein, in a Prospectus Supplement or in any other
document subsequently filed with the Commission which also is or is deemed to be
incorporated by reference herein modifies or supersedes such statement. Any such
statement so modified or superseded

2
<PAGE>
shall not be deemed, except as so modified or superseded, to constitute a part
of the Registration Statement or this Prospectus.

The Company will furnish without charge to each person, including any
beneficial owner, to whom this Prospectus is delivered, on the written or oral
request of such person, a copy of any or all of the documents incorporated by
reference, other than exhibits to such documents. Requests should be directed to
Corporate Marketing, Cygnus, Inc., at the principal executive offices of the
Company. Cygnus, Inc., 400 Penobscot Drive, Redwood City, California 94063-4719,
telephone: (650) 369-4300.

THE COMPANY

Cygnus, Inc. ("Cygnus" or the "Company") is engaged in the development of
diagnostic and drug delivery systems, designed to satisfy unmet medical needs
cost-effectively. The Company's current efforts are primarily focused on two
technological platforms: a painless, bloodless and automatic glucose monitoring
device and transdermal drug delivery systems. The Company's products in the most
advanced stages of development include two in the market
(Nicotrol-Registered Trademark- and FemPatch-Registered Trademark-) and several
in different stages of clinical trials.

Cygnus, the Cygnus logo, GlucoWatch and AutoSensor are trademarks of the
Company. FemPatch is a registered trademark of Warner-Lambert and Nicotrol is a
registered trademark of Pharmacia & Upjohn. All other trademarks included in
this Prospectus are the property of their respective holders.

The Company was incorporated in the State of California in 1985, and
reincorporated in the State of Delaware in 1994. The Company's corporate
headquarters and principal executive offices are located at 400 Penobscot Drive,
Redwood City, California 94063-4719, telephone number (650) 369-4300.

RECENT DEVELOPMENTS

On June 30, 1994, Sanofi, S.A. ("Sanofi") filed a request for arbitration
against Cygnus with the International Court of Arbitration. In its request for
arbitration, Sanofi alleged that Cygnus breached its existing contract with
Sanofi by, among other things, entering into a product development agreement
with another company for the development of transdermal systems in the field of
hormone replacement therapy. The International Chambers of Commerce (the
"Tribunal") announced an interim award in the arbitration proceedings in October
1996. The Tribunal found that two transdermal products for hormone replacement
therapy licensed by Cygnus to another company fall within the scope of an
exclusive license previously granted to Sanofi. In September 1997, the Company
and Sanofi agreed to a settlement of the arbitration dispute. Under the terms of
the settlement, Cygnus (i) will pay Sanofi $14.0 million in cash, (ii) will make
royalty payments of between 6.5% to 8.5% of any and all net sales of two
specific products, which are subject to minimum payments in an aggregate amount
equal to $17.0 million, commencing in 2001 and ending in 2005, whether or not
any net sales of the two related products have occurred, and (iii) will issue a
convertible promissory note in the principal amount of $6.0 million payable in
full at the end of four years and bearing interest at 6.5% per annum. The note
will be convertible into the Company's Common Stock at Sanofi's option,
exercisable at any time during the four year term, at a conversion rate of
$21.725 per share. Overall, Cygnus' non-recurring expenses attributable to the
arbitration settlement recorded in the quarter ended September 30, 1997 totalled
approximately $39.6 million, of which $23.0 million is long-term.

RISK FACTORS

Prior to making an investment decision with respect to the Securities
offered hereby, prospective investors should carefully consider the specific
factors set forth under the caption "Risk Factors" in the applicable Prospectus
Supplement pertaining thereto, together with all of the other information
appearing herein or therein or incorporated by reference herein, in light of
their particular investment objectives and financial circumstances.

3
<PAGE>
USE OF PROCEEDS

Unless otherwise indicated in an accompanying Prospectus Supplement, the net
proceeds to be received by the Company from the sale of the Securities will be
used for general corporate purposes, including capital expenditures and to meet
working capital needs. Pending such uses, the Company will invest the net
proceeds in interest-bearing securities.

RATIO OF EARNINGS TO FIXED CHARGES

The Company has a history of operating and net losses, and therefore no
earnings have been available to cover fixed charges. Fixed charges consist of
interest, whether expensed or capitalized, and totalled $307,222, $449,383,
$291,964, $548,387, $744,311 and $718,730 for each of the five years in the
period ended December 31, 1996 and for the nine months ended September 30, 1997,
respectively.

DESCRIPTION OF DEBT SECURITIES

The Senior Debt Securities are to be issued under an Indenture (the "Senior
Indenture"), between the Company, as Issuer, and State Street Bank and Trust
Company of California, N.A., as Trustee (the "Trustee"). The Subordinated Debt
Securities are to be issued under a separate Indenture (the "Subordinated
Indenture"), also between the Company, as issuer, and State Street Bank and
Trust Company of California, N.A., as Trustee. The Senior Indenture and the
Subordinated Indenture are sometimes referred to collectively as the
"Indentures." A copy of the form of each Indenture is filed as an exhibit to the
Registration Statement of which this Prospectus is a part. The Debt Securities
may be issued from time to time in one or more series. The particular terms of
each series, or of Debt Securities forming a part of a series, which are offered
by a Prospectus Supplement will be described in such Prospectus Supplement.

The following summaries of certain provisions of the Indentures do not
purport to be complete and are subject, and are qualified in their entirety by
reference, to all the provisions of the Indentures, including the definitions
therein of certain terms, and, with respect to any particular Debt Securities,
to the description of the terms thereof included in the Prospectus Supplement
relating thereto. Wherever particular Sections or defined terms of the
Indentures are referred to herein or in a Prospectus Supplement, such Sections
or defined terms are incorporated by reference herein or therein, as the case
may be.

GENERAL

The Indentures will provide that Debt Securities in separate series may be
issued thereunder from time to time without limitation as to aggregate principal
amount. The Company may specify a maximum aggregate principal amount for the
Debt Securities of any series. (Section 301) The Debt Securities are to have
such terms and provisions which are not inconsistent with the Indentures,
including as to maturity, principal and interest, as the Company may determine.
Unless otherwise specified in the applicable Prospectus Supplement, the Senior
Debt Securities when issued will be unsecured and unsubordinated obligations of
the Company and will rank on a parity with all other unsecured and
unsubordinated indebtedness of the Company. The Subordinated Debt Securities
when issued will be subordinated in right of payment to the prior payment in
full of all Senior Debt of the Company, including any outstanding Senior Debt
Securities, as described under "Subordination of Subordinated Debt Securities"
and in the applicable Prospectus Supplement.

The applicable Prospectus Supplement will set forth whether the Debt
Securities offered shall be Senior Debt Securities or Subordinated Debt
Securities, and the price or prices at which the Debt Securities to be offered
will be issued, and will describe the following terms of such Debt Securities:
(1) the title of such Debt Securities; (2) any limit on the aggregate principal
amount of such Debt Securities or the series of which they are a part; (3) the
Person to whom any interest on a Debt Security shall be payable, if other than
the Person in whose name that Debt Security (or one or more predecessor Debt
Securities) is registered at the close of business on the Regular Record Date
for such interest; (4) the date or dates on

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which the principal of any of such Debt Securities will be payable; (5) the rate
or rates at which any of such Debt Securities will bear interest, if any, the
date or dates from which any such interest will accrue, the Interest Payment
Dates on which any such interest will be payable and the Regular Record Date for
any such interest payable on any Interest Payment Date; (6) the place or places
where the principal of and any premium and interest on any of such Debt
Securities will be payable; (7) the period or periods within which, the price or
prices at which and the terms and conditions on which any of such Debt
Securities may be redeemed, in whole or in part, at the option of the Company;
(8) the obligation, if any, of the Company to redeem or purchase any of such
Debt Securities pursuant to any sinking fund or analogous provision or at the
option of the Holder thereof, and the period or periods within which, the price
or prices at which and the terms and conditions on which any of such Debt
Securities will be redeemed or purchased, in whole or in part, pursuant to any
such obligation; (9) the denominations in which any of such Debt Securities will
be issuable, if other than denominations of $1,000 and any integral multiple
thereof; (10) if the amount of principal of or any premium or interest on any of
such Debt Securities may be determined with reference to an index or pursuant to
a formula, the manner in which such amounts will be determined; (11) if other
than the currency of the United States of America, the currency, currencies or
currency units in which the principal of or any premium or interest on any of
such Debt Securities will be payable (and the manner in which the equivalent of
the principal amount thereof in the currency of the United States of America is
to be determined for any purpose, including for the purpose of determining the
principal amount deemed to be Outstanding at any time); (12) if the principal of
or any premium or interest on any of such Debt Securities is to be payable, at
the election of the Company or the Holder thereof, in one or more currencies or
currency units other than those in which such Debt Securities are stated to be
payable, the currency, currencies or currency units in which payment of any such
amount as to which such election is made will be payable, the periods within
which and the terms and conditions upon which such election is to be made and
the amount so payable (or the manner in which such amount is to be determined);
(13) if other than the entire principal amount thereof, the portion of the
principal amount of any of such Debt Securities which will be payable upon
declaration of acceleration of the Maturity thereof; (14) if the principal
amount payable at the Stated Maturity of any of such Debt Securities will not be
determinable as of any one or more dates prior to the Stated Maturity, the
amount which will be deemed to be such principal amount as of any such date for
any purpose, including the principal amount thereof which will be due and
payable upon any Maturity other than the Stated Maturity or which will be deemed
to be Outstanding as of any such date (or, in any such case, the manner in which
such deemed principal amount is to be determined); (15) if applicable, that such
Debt Securities, in whole or any specified part, are defeasible pusuant to the
provisions of the Indentures described under "Defeasance and Covenant
Defeasance--Defeasance and Discharge" or "Defeasance and Covenant
Defeasance--Defeasance of Certain Covenants," or under both such captions; (16)
if applicable, the terms of any right to convert Debt Securities into shares of
Common Stock of the Company or other securities or property; (17) whether any of
such Debt Securities will be issuable in whole or in part in the form of one or
more Global Securities and, if so, the respective Depositaries for such Global
Securities, the form of any legend or legends to be borne by any such Global
Security in addition to or in lieu of the legends referred to under "Form,
Exchange and Transfer" or "Global Securities" and, if different from those
described under such captions, any circumstances under which any such Global
Security may be exchanged in whole or in part for Securities registered, and any
transfer of such Global Security in whole or in part may be registered, in the
names of Persons other than the Depositary for such Global Security or its
nominee; (18) any addition to or change in the Events of Default applicable to
any of such Debt Securities and any change in the right of the Trustee or the
Holders to declare the principal amount of any of such Debt Securities due and
payable; (19) any addition to or change in the covenants in the Indentures
described under "Restrictive Covenants" applicable to any of such Debt
Securities; and (20) any other terms of such Debt Securities not inconsistent
with the provisions of the relevant Indenture. (Section 301)

Debt Securities, including Original Issue Discount Securities, may be sold
at a substantial discount below their principal amount. Certain special United
States federal income tax considerations (if any)

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applicable to Debt Securities sold at an original issue discount will be
described in the applicable Prospectus Supplement under "United States
Taxation." In addition, certain special United States federal income tax or
other considerations (if any) applicable to any Debt Securities which are
denominated in a currency or currency unit other than United States dollars will
be described in the applicable Prospectus Supplement.

CONVERSION RIGHTS

The terms on which Debt Securities of any series are convertible into Common
Stock or other securities or property will be set forth in the Prospectus
Supplement relating thereto. Such terms shall include provisions as to whether
conversion is mandatory or at the option of the Holder and may include
provisions pursuant to which the number of shares of Common Stock or other
securities or property to be received by the Holders of Debt Securities upon
conversion would be calculated according to the market price of Common Stock or
other securities or property as of a time stated in the applicable Prospectus
Supplement. (Article Fourteen)

SUBORDINATION OF SUBORDINATED DEBT SECURITIES

Unless otherwise indicated in the Prospectus Supplement, the following
provisions will apply to the Subordinated Debt Securities.

The Subordinated Debt Securities will, to the extent set forth in the
Subordinated Indenture, be subordinate in right of payment to the prior payment
in full of all Senior Debt, including the Senior Debt Securities. In the event
of any insolvency or bankruptcy case or proceeding, or any receivership,
liquidation, reorganization, debt restructuring or other similar case or
proceeding in connection therewith, relative to the Company or to its creditors,
as such, or to its assets, or any liquidation, dissolution or other winding up
of the Company, whether voluntary or involuntary and whether or not involving
insolvency or bankruptcy, or any assignment for the benefit of creditors or any
other marshaling of assets and liabilities of the Company, the holders of Senior
Debt will be entitled to receive payment in full of all amounts due or to become
due on or in respect of all Senior Debt in cash or other payment satisfactory to
the holders of Senior Debt before the Holders of the Subordinated Debt
Securities are entitled to receive any payment on account of principal of or any
premium or interest on the Subordinated Debt Securities or on account of the
purchase, redemption or other acquisition of Subordinated Debt Securities or
before the Company may make any sinking fund or defeasance payment to the
Trustee or any Paying Agent in accordance with the Subordinated Indenture.
Notwithstanding the foregoing, any amounts previously deposited by the Company
with the Trustee or Paying Agent in accordance with the subordination provisions
of Article Fifteen of the Subordinated Indenture at the time of such deposit may
be paid to the Holders of Subordinated Debt Securities ("Defeased Payments").
(Section 1502)

By reason of such subordination, in the event of liquidation or insolvency,
creditors of the Company who are not holders of Senior Debt may recover less,
ratably, than holders of Senior Debt and may recover more, ratably, than the
Holders of the Subordinated Debt Securities.

In the event that any Subordinated Debt Securities are declared due and
payable before their Stated Maturity as a result of an Event of Default, the
holders of the Senior Debt outstanding at the time such Subordinated Debt
Securities so become due and payable will be entitled to receive payment in full
of all amounts due or to become due on or in respect of all Senior Debt in cash
or other payment satisfactory to the holders of Senior Debt before the Holders
of the Subordinated Debt Securities are entitled to receive any payment by the
Company on account of the principal of or any premium or interest on the
Subordinated Debt Securities or on account of the purchase, redemption or other
acquisition of Subordinated Debt Securities or before the Company may make any
sinking fund or defeasance payment to the Trustee or any Payment Agent in
accordance with the Subordinated Indenture (other than Defeased Payments). If
the payment of Subordinated Debt Securities is accelerated because of an Event
of Default,

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the Company and the Trustee are required under the Subordinated Indenture to
promptly notify holders of Senior Debt of the acceleration. (Section 1503)

The Company may not make any payment of principal (or premium, if any) or
interest, if any, in respect of the Subordinated Debt Securities or on account
of the purchase, redemption or other acquisition of Subordinated Debt Securities
or any payment constituting a sinking fund or defeasance payment to the Trustee
or Paying Agent in accordance with the Subordinated Indenture (other than
Defeased Payments) if (i) a default in the payment of principal, premium, if
any, or interest (including a default under any repurchase or redemption
obligation) or other amounts with respect to any Senior Debt occurs and is
continuing beyond the applicable grace period or (ii) any other event of default
occurs and is continuing with respect to Designated Senior Debt (as defined)
that permits the holders thereof or their representatives to accelerate the
maturity thereof, and the Trustee under the Subordinated Indenture receives a
notice of such default (a "Payment Blockage Notice") from the Company, a holder
of such Designated Senior Debt or other person permitted to give such notice
under the Subordinated Indenture. The Company may and shall resume payments on
the Subordinated Debt Securities and may purchase, redeem or otherwise acquire
the Subordinated Debt Securities and may make a sinking fund or defeasance
payment to the Trustee or Paying Agent in accordance with the Subordinated
Indenture (a) in the case of a payment default, upon the date on which such
default is cured or waived or ceases to exist and (b) in the case of a
nonpayment default, the earlier of the date on which such nonpayment default is
cured or waived or ceases to exist or 179 days after the date on which the
applicable Payment Blockage Notice is received (unless the subordination
provisions of Article Fifteen of the Indenture prohibit the payment, purchase,
redemption, acquisition, sinking fund payment or defeasance payment at the time
of such payment, purchase, redemption, acquisition, sinking fund payment or
defeasance payment (including, without limitation, in the case of a nonpayment
referred to in clase (ii) above, as a result of a payment default with respect
to applicable Senior Debt as a consequence of the acceleration of the maturity
thereof or otherwise)). No new period of payment blockage may be commenced
unless and until 365 days have elapsed since the effectiveness of the
immediately prior Payment Blockage Notice. No nonpayment default that existed or
was continuing on the date of delivery of any Payment Blockage Notice to the
Trustee under the Subordinated Indenture shall be, or be made, the basis for a
subsequent Payment Blockage Notice. (Section 1504) In the case of Subordinated
Debt Securities that are convertible at the option of the Holder, the payment,
issuance and delivery of cash, property or securities (other than stock and
certain subordinated securities of the Company) upon conversion of a
Subordinated Debt Security will be deemed to constitute payment on account of
the principal of such Subordinated Debt Security. (Section 1515)

"Senior Debt" is defined in the Indenture to mean: the principal of (and
premium, if any) and interest, if any (including interest accruing on or after
the filing of any petition in bankruptcy or for reorganization relating to the
Company whether or not such claim for post-petition interest is allowed in such
proceeding), on, rent with respect to, and all fees and other amounts payable in
connection with, the following, whether absolute or contingent, secured or
unsecured, due or to become due, outstanding on the date of the Subordinated
Indenture or thereafter created, incurred or assumed: (a) indebtedness for
borrowed money of the Company evidenced by a credit or loan agreement, note,
bond, debenture or other written obligation, (b) all other obligations of the
Company for money borrowed, (c) all obligations of the Company evidenced by a
note or similar instrument given in connection with the acquisition of any
businesses, properties or assets of any kind, (d) obligations of the Company (i)
as lessee under leases required to be capitalized on the balance sheet of the
lessee under generally accepted accounting principles, (ii) as lessee under
other leases for facilities, equipment or related assets, whether or not
capitalized, entered into or leased after the date of the Subordinated Indenture
for financing purposes (as determined by the Company) or (iii) under any lease
or related document (including a purchase agreement) that provides that the
Company is contractually obligated to purchase or cause a third party to
purchase the leased property and the obligations of the Company under such lease
or related document to purchase or to cause a third party to purchase such
leased property, (e) all obligations of the Company under interest rate and
currency swaps, caps, floors, collars, hedge agreements, forward contracts, or

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similar agreements or arrangements, (f) all obligations of the Company with
respect to letters of credit, bankers' acceptances or similar facilities
(including reimbursement obligations with respect to any of the foregoing), (g)
all obligations of the Company issued or assumed as the deferred purchase price
of property or services (but excluding trade accounts payable arising in the
ordinary course of business), (h) all obligations of the type referred to in
clauses (a) through (g) above of another Person and all dividends of another
Person, the payment of which, in either case, the Company has assumed or
guaranteed (or in effect guaranteed through an agreement to purchase or
otherwise (including, without limitation, "take or pay" and similar
arrangements)), or for which the Company is responsible or liable, directly or
indirectly, jointly or severally, as obligor, guarantor, or otherwise, or which
is secured by a lien on property of the Company, and all obligations of the
Company with respect thereto, and (i) renewals, extensions, modifications,
replacements, restatements and refundings of, or any indebtedness or obligation
issued in exchange for, any such indebtedness or obligation described in clauses
(a) through (h) of this paragraph; provided, however, that Senior Debt shall not
include the Subordinated Debt Securities or any such indebtedness or obligation
if the terms of such indebtedness or obligation (or the terms of the instrument
under which, or pursuant to which it is issued) expressly provide that such
indebtedness or obligation is not superior in right of payment to the
Subordinated Debt Securities.

"Designated Senior Debt" means certain existing Senior Debt (including the
Company's obligations under its existing bank term loan agreement) and the
Company's obligations under any other particular Senior Debt having an
outstanding principal amount or commitment in excess of $10.0 million in which
the instrument creating or evidencing the same or the assumption or guarantee
thereof (or related agreements or documents to which the Company is a party)
expressly provides that such Senior Debt shall be "Designated Senior Debt" for
purposes of the Subordinated Indenture and any Senior Debt so designated as
Designated Senior Debt by the Company in the applicable Prospectus Supplement
(provided that such instrument, agreement or other document may place
limitations and conditions on the right of such Senior Debt to exercise the
rights of Designated Senior Debt).

The Subordinated Indenture does not limit or prohibit the incurrence of
additional Senior Debt, which may include indebtedness that is senior to the
Subordinated Debt Securities, but subordinate to other obligations of the
Company. The Senior Debt Securities, when issued, will constitute Senior Debt.

The Prospectus Supplement may further describe the provisions, if any,
applicable to the subordination of the Subordinated Debt Securities of a
particular series.

FORM, EXCHANGE AND TRANSFER

The Debt Securities of each series will be issuable only in fully registered
form, without coupons, and, unless otherwise specified in the applicable
Prospectus Supplement, only in denominations of $1,000 and integral multiples
thereof. (Section 302)

At the option of the Holder, subject to the terms of the Indentures and the
limitations applicable to Global Securities, Debt Securities of each series will
be exchangeable for other Debt Securities of the same series of any authorized
denomination and of a like tenor and aggregate principal amount. (Section 305)

Subject to the terms of the Indentures and the limitations applicable to
Global Securities, Debt Securities may be presented for exchange as provided
above or for registration of transfer (duly endorsed or with the form of
transfer endorsed thereon duly executed) at the office of the Security Registrar
or at the office of any transfer agent designated by the Company for such
purposes. No service charge will be made for any registration or transfer or
exchange of Debt Securities, but the Company may require payment of a sum
sufficient to cover any tax or other governmental charge payable in connection
therewith. Such transfer or exchange will be effected upon the Security
Registrar or such transfer agent, as the case may be, being satisfied with the
documents of title and identity of the person making the request. The Company
has appointed the Trustee as Security Registrar. Any transfer agent (in addition
to the

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Security Registrar) initially designated by the Company for any Debt Securities
will be named in the applicable Prospectus Supplement. (Section 305) The Company
may at any time designate additional transfer agents or rescind the designation
of any transfer agent or approve a change in the office through which any
transfer agent acts, except that the Company will be required to maintain a
transfer agent in each Place of Payment for the Debt Securities of each series.
(Section 1002)

If the Debt Securities of any series (or of any series and specified tenor)
are to be redeemed in part, the Company will not be required to (i) issue,
register the transfer of or exchange any Debt Security of that series (or of
that series and specified tenor, as the case may be) during a period beginning
at the opening of business 15 days before the day of mailing of a notice of
redemption of any such Debt Security that may be selected for redemption and
ending at the close of business on the day of such mailing or (ii) register the
transfer of or exchange any Debt Security so selected for redemption, in whole
or in part, except the unredeemed portion of any such Debt Security being
redeemed in part. (Section 305)

GLOBAL SECURITIES

Some or all of the Debt Securities of any series may be represented, in
whole or in part, by one or more global securities which will have an aggregate
principal amount equal to that of the Debt Securities represented thereby (a
"Global Security"). Each Global Security will be registered in the name of a
depositary (the "Depositary") or a nominee thereof identified in the applicable
Prospectus Supplement, will be deposited with such Depositary or nominee or a
custodian therefor and will bear a legend regarding the restrictions on
exchanges and registration of transfer thereof referred to below and any such
other matters as may be provided for pursuant to the Indentures.

Notwithstanding any provision of the Indentures or any Debt Security
described herein, no Global Security may be exchanged in whole or in part for
Debt Securities registered, and no transfer of a Global Security in whole or in
part may be registered, in the name of any Person other than the Depositary for
such Global Security or any nominee of such Depositary unless (i) the Depositary
has notified the Company that it is unwilling or unable to continue as
Depositary for such Global Security or has ceased to be qualified to act as such
as required by the Indentures, (ii) there shall have occurred and be continuing
an Event of Default with respect to the Debt Securities represented by such
Global Security or (iii) there shall exist such circumstances, if any, in
addition to or in lieu of those described above as may be described in the
applicable Prospectus Supplement. All securities issued in exchange for a Global
Security or any portion thereof will be registered in such names as the
Depositary may direct. (Sections 204 and 305)

As long as the Depositary, or its nominee, is the registered Holder of a
Global Security, the Depositary or such nominee, as the case may be, will be
considered the sole owner and Holder of such Global Security and the Debt
Securities represented thereby for all purposes under the Debt Securities and
the Indentures. Except in the limited circumstances referred to above, owners of
beneficial interests in a Global Security will not be entitled to have such
Global Security or any Debt Securities represented thereby registered in their
names, will not receive or be entitled to receive physical delivery of
certificated Debt Securities in exchange therefor and will not be considered to
be the owners or Holders of such Global Security or any Debt Securities
represented thereby for any purpose under the Debt Securities or the Indentures.
All payments of principal of and any premium and interest on a Global Security
will be made to the Depositary or its nominee, as the case may be, as the Holder
thereof. The laws of some jurisdictions require that certain purchasers of
securities take physical delivery of such securities in definitive form. Those
laws may impair the ability to transfer beneficial interests in a Global
Security.

Ownership of beneficial interests in a Global Security will be limited to
institutions that have accounts with the Depositary or its nominee
("participants") and to persons that may hold beneficial interests through
participants. In connection with the issuance of any Global Security, the
Depositary will credit, on its book-entry registration and transfer system, the
respective principal amounts of Debt Securities represented by the Global
Security to the accounts of its participants. Ownership of beneficial interests
in a

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Global Security will be shown only on, and the transfer of those ownership
interests will be effected only through, records maintained by the Depositary
(with respect to participants' interests) or any such participant (with respect
to interests of persons held by such participants on their behalf). Payments,
transfers, exchanges and other matters relating to beneficial interests in a
Global Security may be subject to various policies and procedures adopted by the
Depositary from time to time. None of the Company, the Trustee or any agent of
the Company or the Trustee will have any responsibility or liability for any
aspect of the Depositary's or any participant's records relating to, or for
payments made on account of, beneficial interests in a Global Security, or for
maintaining, supervising or reviewing any records relating to such beneficial
interests.

PAYMENT AND PAYING AGENTS

Unless otherwise indicated in the applicable Prospectus Supplement, payment
of interest on a Debt Security on any Interest Payment Date will be made to the
Person in whose name such Debt Security (or one or more Predecessor Debt
Securities) is registered at the close of business on the Regular Record Date
for such interest. (Section 307)

Unless otherwise indicated in the applicable Prospectus Supplement,
principal of and any premium and interest on the Debt Securities of a particular
series will be payable at the office of such Paying Agent or Paying Agents as
the Company may designate for such purpose from time to time, except that at the
option of the Company payment of any interest may be made by check mailed to the
address of the Person entitled thereto as such address appears in the Security
Register. Unless otherwise indicated in the applicable Prospectus Supplement,
the Corporate Trust Office of the Trustee will be designated as the Company's
sole Paying Agent for payments with respect to Debt Securities of each series.
Any other Paying Agents initially designated by the Company for the Debt
Securities of a particular series will be named in the applicable Prospectus
Supplement. The Company may at any time designate additional Paying Agents or
rescind the designation of any Paying Agent or approve a change in the office
through which any Paying Agent acts, except that the Company will be required to
maintain a Paying Agent in each Place of Payment for the Debt Securities of a
particular series. (Section 1002)

All moneys paid by the Company to a Paying Agent for the payment of the
principal of or any premium or interest on any Debt Security which remain
unclaimed for a period ending the earlier of 10 business days prior to the date
such money would escheat to the State or at the end of two years after such
principal, premium or interest has become due and payable will be repaid in the
Company, and the Holder of such Debt Security thereafter may look only to the
Company for payment thereof. (Section 1003)

RESTRICTIVE COVENANTS

Unless otherwise indicated in the applicable Prospectus Supplement, the
following provisions will apply to the Senior Debt Securities.

LIMITATIONS ON LIENS

The Senior Indenture will provide that the Company will not issue, incur,
create, assume or guarantee, and will not permit any Restricted Subsidiary (as
defined below) to issue, incur, create, assume or guarantee, any debt for
borrowed money secured by a mortgage, security interest, pledge, lien, charge or
other encumbrance ("mortgages") upon any Principal Property (as defined below)
of the Company or any Restricted Subsidiary or upon any shares of stock or
indebtedness of any Restricted Subsidiary (whether such Principal Property,
shares or indebtedness are now existing or owned or hereafter created or
acquired) without in any such case effectively providing concurrently with the
issuance, incurrence, creation, assumption or guarantee of any such secured
debt, or the grant of a mortgage with respect to any such indebtedness, that the
Senior Debt Securities (together with, if the Company shall so determine, any
other indebtedness of or guarantee by the Company or such Restricted Subsidiary
ranking equally with the

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Senior Debt Securities) shall be secured equally and ratably with (or, at the
option of the Company, prior to) such secured debt. The foregoing restriction,
however, will not apply to: (a) mortgages on property existing at the time of
acquisition thereof by the Company or any Subsidiary, provided that such
mortgages were in existence prior to the contemplation of such acquisition, (b)
mortgages on property, shares of stock or indebtedness or other assets of any
corporation existing at the time such corporation becomes a Restricted
Subsidiary, provided that such mortgages are not incurred in anticipation of
such corporation becoming a Restricted Subsidiary; (c) mortgages on property,
shares of stock or indebtedness existing at the time of acquisition thereof by
the Company or a Restricted Subsidiary or mortgages thereon to secure the
payment of all or any part of the purchase price thereof, or mortgages on
property, shares of stock or indebtedness to secure any indebtedness for
borrowed money incurred prior to, at the time of, or within 270 days after, the
latest of the acquisition thereof, or, in the case of property, the completion
of construction, the completion of improvements, or the commencement of
substantial commercial operation of such property for the purpose of financing
all or any part of the purchase price thereof, such construction, or the making
of such improvements; (d) mortgages to secure indebtedness owing to the Company
or to a Restricted Subsidiary; (e) mortgages existing at the date of the Senior
Indenture; (f) mortgages on property of a corporation existing at the time such
corporation is merged into or consolidated with the Company or a Restricted
Subsidiary or at the time of a sale, lease or other disposition of the
properties of a corporation as an entirety or substantially as an entirety to
the Company or a Restricted Subsidiary, provided that such mortgage was not
incurred in anticipation of such merger or consolidation or sale, lease or other
disposition; (g) mortgages in favor of the United States or any State, territory
or possession thereof (or the District of Columbia), or any department, agency,
instrumentality or political subdivision of the United States or any State,
territory or possession thereof (or the District of Columbia), to secure
partial, progress, advance or other payments pursuant to any contract or statute
or to secure any indebtedness incurred for the purpose of financing all or any
part of the purchase price or the cost of constructing or improving the property
subject to such mortgages; (h) mortgages created in connection with the
acquisition of assets or a project financed with, and created to secure, a
Nonrecourse Obligation (as defined below); and (i) extensions, renewals,
refinancings or replacements of any mortgage referred to in the foregoing
clauses (a), (b), (c), (d), (e), (f), (g), and (h), provided, however, that any
mortgages permitted by any of the foregoing clauses (a), (b), (c), (d), (e),
(f), (g), and (h) shall not extend to or cover any property of the Company or
such Restricted Subsidiary, as the case may be, other than the property, if any,
specified in such clauses and improvements thereto, and provided further that
any refinancing or replacement of any mortgages permitted by the foregoing
clauses (g) and (h) shall be of the type referred to in such clauses (g) or (h),
as the case may be.

Notwithstanding the restrictions described in the preceding paragraph, the
Company or any Restricted Subsidiary will be permitted to issue, incur, create,
assume or guarantee debt secured by a mortgage which would otherwise be subject
to such restrictions, without equally and ratably securing the Senior Debt
Securities, provided that after giving effect thereto, the aggregate amount of
all debt so secured by mortgages (not including mortgages permitted under
clauses (a) through (i) above) does not exceed 15% of the Consolidated Net
Tangible Assets (as defined below) of the Company as most recently determined on
or prior to such date.

LIMITATIONS ON SALE AND LEASE BACK TRANSACTIONS

The Senior Indenture will provide that the Company will not, nor will it
permit any Restricted Subsidiary to, enter into any Sale and Lease-Back
Transaction (as defined below) with respect to any Principal Property, other
than any such transaction involving a lease for a term of not more than three
years or any such transaction between the Company and a Restricted Subsidiary or
between Restricted Subsidiaries, unless (a) the Company or such Restricted
Subsidiary would be entitled to incur indebtedness secured by a mortgage on the
Principal Property involved in such transaction at least equal in amount to the
Attributable Debt (as defined below) with respect to such Sale and Lease-Back
Transaction, without equally and ratably securing the Senior Debt Securities,
pursuant to the limitation on liens in the Senior

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Indenture; or (b) the Company shall apply an amount equal to the greater of the
net proceeds of such sale or the Attributable Debt with respect to such Sale and
Lease-Back Transaction within 180 days of such sale to either (or a combination
of) the retirement (other than any mandatory retirement, mandatory prepayment or
sinking fund payment or by payment at maturity) of debt for borrowed money of
the Company or a Restricted Subsidiary that matures more than 12 months after
the creation of such indebtedness or the purchase, construction or development
of other comparable property.

CERTAIN DEFINITIONS APPLICABLE TO COVENANTS

The term "Attributable Debt" when used in connection with a Sale and
Lease-Back Transaction involving a Principal Property shall mean, at the time of
determination, the lesser of: (a) the fair value of such property (as determined
in good faith by the Board of Directors of the Company); or (b) the present
value of the total net amount of rent required to be paid under such lease
during the remaining term thereof (including any renewal term or period for
which such lease has been extended), discounted at the rate of interest set
forth or implicit in the terms of such lease or if not practicable to determine
such rate, the weighted average interest rate per annum (in the case of Original
Issue Discount Securities, the imputed interest rate) borne by the Senior Debt
Securities of each series outstanding pursuant to the Indenture compounded
semi-annually. For purposes of the foregoing definition, rent shall not include
amounts required to be paid by the lessee, whether or not designated as rent or
additional rent, on account of or contingent upon maintenance and repairs,
insurance, taxes, assessments, water rates and similar charges. In the case of
any lease which is terminable by the lessee upon the payment of a penalty, such
net amount shall be the lesser of the net amount determined assuming termination
upon the first date such lease may be terminated (in which case the net amount
shall also include the amount of the penalty, but no rent shall be considered as
required to be paid under such lease subsequent to the first date upon which it
may be so terminated) and the net amount determined assuming no such
termination.

The term "Consolidated Net Tangible Assets" shall mean, as of any particular
time, total assets (excluding applicable reserves and other properly deductible
items) less: (a) total current liabilities, except for (1) notes and loans
payable, (2) current maturities of long-term debt and (3) current maturities of
obligations under capital leases; and (b) goodwill, patents and trademarks, to
the extent included in total assets; all as set forth on the most recent
consolidated balance sheet of the Company and its Restricted Subsidiaries and
computed in accordance with generally accepted accounting principles.

The term "Nonrecourse Obligation" means indebtedness or other obligations
substantially related to (i) the acquisition of assets not previously owned by
the Company or any Restricted Subsidiary or (ii) the financing of a project
involving the development or expansion of properties of the Company or any
Restricted Subsidiary, as to which the obligee with respect to such indebtedness
or obligation has no recourse to the Company or any Restricted Subsidiary or any
assets of the Company or any Restricted Subsidiary other than the assets which
were acquired with the proceeds of such transaction or the project financed with
the proceeds of such transaction (and the proceeds thereof).

The term "Principal Property" shall mean the land, land improvements,
buildings and fixtures (to the extent they constitute real property interests,
including any leasehold interest therein) constituting the principal corporate
office, any manufacturing facility or any distribution center (whether now owned
or hereafter acquired) which: (a) is owned by the Company or any Subsidiary; (b)
is located within any of the present 50 states of the United States (or the
District of Columbia); (c) has not been determined in good faith by the Board of
Directors of the Company not to be materially important to the total business
conducted by the Company and its Subsidiaries taken as a whole; and (d) has a
market value on the date as of which the determination is being made in excess
of 2.0% of Consolidated Net Tangible Assets of the Company as most recently
determined on or prior to such date.

The term "Restricted Subsidiary" shall mean any Subsidiary that owns any
Principal Property; provided, however, that the term "Restricted Subsidiary"
shall not include (a) any Subsidiary which is

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principally engaged in financing receivables, or which is principally engaged in
financing the Company's operations outside the United States of America or (b)
any Subsidiary less than 80% of the voting stock of which is owned, directly or
indirectly, by the Company or by one or more other Subsidiaries, or by the
Company and one or more other Subsidiaries if the common stock of such
Subsidiary is traded on any national securities exchange or quoted on the Nasdaq
National Market or other over-the-counter market.

The term "Sale and Lease-Back Transaction" shall mean any arrangement with
any person providing for the leasing by the Company or any Restricted Subsidiary
of any Principal Property which property has been or is to be sold or
transferred by the Company or such Restricted Subsidiary to such person.

The term "Subsidiary" shall mean any corporation of which at least a
majority of the outstanding voting stock having the power to elect a majority of
the board of directors of such corporation is at the time owned, directly or
indirectly, by the Company or by one or more other Subsidiaries, or by the
Company and one or more other Subsidiaries, and the accounts of which are
consolidated with those of the Company in its most recent consolidated financial
statement in accordance with generally accepted accounting principles. For the
purposes of this definition, "voting stock" means stock which ordinarily has
voting power for the election of directors, whether at all times or only so long
as no senior class of stock has such voting power by reason of any contingency.

CONSOLIDATION, MERGER AND SALE OF ASSETS

The Indentures will provide that the Company may not consolidate with or
merge into any other Person (in a transaction in which the Company is not the
surviving corporation), or convey, transfer or lease its properties and assets
substantially as an entirety to, any Person (a "Successor Person"), unless (i)
the Successor Person (if any) is a corporation, limited liability company,
partnership, trust or other entity organized and existing under the laws of any
domestic jurisdiction and assumes the Company's obligations on the Debt
Securities and under the Indentures, (ii) immediately after giving effect to the
transaction, and treating any indebtedness which becomes an obligation of the
Company or any Subsidiary as a result of the transaction as having been incurred
by it at the time of the transaction, no Event of Default, and no event which,
after notice or lapse of time or both, would become an Event of Default, shall
have occurred and be continuing and (iii) certain other conditions are met.
(Section 801)

EVENTS OF DEFAULT

Each of the following will constitute an Event of Default under the
Indentures with respect to Debt Securities of any series: (a) failure to pay
principal of or any premium on any Debt Security of that series when due,
whether or not such payment is prohibited by the subordination provisions of the
Subordinated Indenture; (b) failure to pay any interest on any Debt Securities
of that series when due, continued for 30 days, whether or not such payment is
prohibited by the subordination provisions of the Subordinated Indenture; (c)
failure to deposit any sinking fund payment, when due, in respect of any Debt
Security of that series, whether or not such deposit is prohibited by the
subordination provisions of the Subordinated Indenture; (d) failure to perform
any other covenant of the Company in the Indentures (other than a covenant
included in the Indentures solely for the benefit of a series other than that
series), continued for 60 days after written notice has been given by the
Trustee, or the Holders of at least 25% in aggregate principal amount of the
Outstanding Securities of that series, as provided in the Indentures; (e)
certain events in bankruptcy, insolvency or reorganization with respect to the
Company; and (f) any other Event of Default specified in the applicable
Prospectus Supplement. (Section 501)

The Indentures will provide that, if an Event of Default (other than an
Event of Default described in clause (e) above) with respect to the Debt
Securities of any series at the time Outstanding shall occur and be continuing,
either the Trustee or the Holders of at least 25% in aggregate principal amount
of the Outstanding Securities of that series by notice as provided in the
Indentures may declare the principal amount of the debt securities of that
series (or, in the case of any Debt Security that is an Original Issue

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Discount Security or the principal amount of which is not then determinable,
such portion of the principal amount of such Debt Security, or such other amount
in lieu of such principal amount, as may be specified in the terms of such Debt
Security) to be due and payable immediately. If an Event of Default described in
clause (e) above with respect to the Debt Securities of any series at the time
Outstanding shall occur, the principal amount of all the Debt Securities of that
series (or, in the case of any such Original Issue Discount Security or other
Debt Security, such specified amount) will automatically, and without any action
by the Trustee or any Holder, become immediately due and payable. Any payment by
the Company on the Subordinated Debt Securities following any such acceleration
will be subject to the subordination provisions of Article Fifteen of the
Subordinated Indenture. After any such acceleration, but before a judgment or
decree based on acceleration, the Holders of a majority in aggregate principal
amount of the Outstanding Securities of that series may, under certain
circumstances, rescind and annul such acceleration if all Events of Default,
other than the non-payment of accelerated principal (or other specified amount),
have been cured or waived as provided in the Indentures. (Section 502) For
information as to waiver of defaults, see "Modification and Waiver."

Subject to the provisions of the Indentures relating to the duties of the
Trustee in case an Event of Default shall occur and be continuing, the Trustee
will be under no obligation to exercise any of its rights or powers under the
Indentures at the request or direction of any of the Holders, unless such
Holders shall have offered to the Trustee reasonable indemnity. (Section 603)
Subject to such provisions of the indemnification of the Trustee, the Holders of
a majority in aggregate principal amount of the Outstanding Securities of any
series will have the right to direct the time, method and place of conducting
any proceeding for any remedy available to the Trustee or exercising any trust
or power conferred on the Trustee with respect to the Debt Securities of that
series. (Section 512)

No holder of a Debt Security of any series will have any right to institute
any proceeding with respect to the Indentures, or for the appointment of a
receiver or trustee, or for any other remedy thereunder, unless (i) such Holder
has previously given to the Trustee written notice of a continuing Event of
Default with respect to the Debt Securities of that series, (ii) the Holders of
at least 25% in aggregate principal amount of the Outstanding Securities of that
series have made a written request, and such Holder or Holders have offered
reasonable indemnity, to the Trustee to institute such proceeding as trustee and
(iii) the Trustee has failed to institute such proceeding, and has not received
from the Holders of a majority in aggregate principal amount of the Outstanding
Securities of that series a direction inconsistent with such request, within 60
days after such notice, request and offer. (Section 507) However, such
limitations do not apply to a suit instituted by a Holder of a Debt Security for
the enforcement of payment of the principal of or any premium or interest on
such Debt Security on or after the applicable due date specified in such Debt
Security. (Section 508)

The Indentures will include a covenant requiring the Company to furnish to
the Trustee annually a statement by certain of its officers as to whether or not
the Company, to their knowledge, is in default in the performance or observance
of any of the terms, provisions and conditions of the Indentures and, if so,
specifying all such known defaults. (Section 1004)

MODIFICATION AND WAIVER

Modifications and amendments of the Indentures may be made by the Company
and the Trustee with the consent of the Holders of a majority in aggregate
principal amount of the Outstanding Securities of each series affected by such
modification or amendment; provided, however, that no such modification or
amendment may, without the consent of the Holder of each Outstanding Security
affected thereby, (a) change the Stated Maturity of the principal of, or any
installment of principal of or interest on, any Debt Security, (b) reduce the
principal amount of, or any premium or interest on, any Debt Security, (c)
reduce the amount of principal of an Original Issue Discount Security or any
other Debt Security payable upon acceleration of the Maturity thereof, (d)
change the place or currency of payment of principal of, or any premium or
interest on, any Debt Security, (e) impair the right to institute suit for the

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enforcement of any payment on or with respect to any Debt Security, (f) in the
case of Subordinated Debt Securities, modify the subordination provisions in a
manner materially adverse to the Holders of the Subordinated Debt Securities,
(g) reduce the percentage in principal amount of Outstanding Securities of any
series, the consent of whose Holders is required for modification or amendment
of the Indentures, (h) reduce the percentage in principal amount of Outstanding
Securities of any series necessary for waiver of compliance with certain
provisions of the Indentures or for waiver of certain defaults or (i) modify
such provisions with respect to modification and waiver. (Section 902)

The Indentures will provide that the Holders of a majority in aggregate
principal amount of the Outstanding Securities of any series may waive, on
behalf of the Holders of all Debt Securities of such series, compliance by the
Company with certain restrictive provisions of the Indentures. (Sections 1010
and 1008 of the Senior Indenture and the Subordinated Indenture, respectively).
The Holders of a majority in principal amount of the Outstanding Securities of
any series may waive any past default under the Indentures, except a default in
the payment of principal, premium or interest and certain covenants and
provisions of the Indentures which cannot be amended without the consent of the
Holder of each Outstanding Security of such series affected. (Section 513)

The Indentures will provide that in determining whether the Holders of the
requisite principal amount of the Outstanding Securities have given or taken any
direction, notice, consent, waiver or other action under the Indentures as of
any date, (i) the principal amount of an Original Issue Discount Security that
will be deemed to be Outstanding will be the amount of the principal thereof
that would be due and payable as of such date upon acceleration of the Maturity
thereof to such date, (ii) if, as of such date, the principal amount payable at
the Stated Maturity of a Debt Security is not determinable (for example, because
it is based on an Index), the principal amount of such Debt Security deemed to
be Outstanding as of such date will be an amount determined in the manner
prescribed for such Debt Security and (iii) the principal amount of a Debt
Security denominated in one or more foreign currencies or currency units that
will be deemed to be Outstanding will be the U.S. dollar equivalent, determined
as of such date in the manner prescribed for such Debt Security, of the
principal amount of such Debt Security (or, in the case of a Debt Security
described in clause (i) or (ii) above, of the amount described in such clause).
Certain Debt Securities, including those for whose payment or redemption money
has been deposited or set aside in trust for the Holders and those that have
been fully defeased pursuant to Section 1302, will not be deemed to be
Outstanding. (Section 101)

Except in certain limited circumstances, the Company will be entitled to set
any day as a record date for the purpose of determining the Holders of
Outstanding Securities of any series entitled to give or take any direction,
notice, consent, waiver or other action under the Indentures, in the manner and
subject to the limitations provided in the Indentures. In certain limited
circumstances, the Trustee will be entitled to set a record date for action by
Holders. If a record date is set for any action to be taken by Holders of a
particular series, such action may be taken only by persons who are Holders of
Outstanding Securities of that series on the record date. To be effective, such
action must be taken by Holders of the requisite principal amount of such Debt
Securities within a specified period following the record date. For any
particular record date, this period will be 180 days or such other shorter
period as may be specified by the Company (or the Trustee, if it set the record
date), and may be shortened or lengthened (but not beyond 180 days) from time to
time. (Section 104)

DEFEASANCE AND COVENANT DEFEASANCE

If and to the extent indicated in the applicable Prospectus Supplement, and
subject to such other conditions and limitations as may be set forth in the
applicable Prospectus Supplement, the Company may elect, at its option at any
time, to have the provisions of Section 1302, relating to defeasance and
discharge of indebtedness, or Section 1303, relating to defeasance of certain
restrictive covenants in the Indenture, applied to the Debt Securities of any
series, or to any specified part of a series. (Section 1301)

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DEFEASANCE AND DISCHARGE. The Indentures will provide that, upon the
Company's exercise of its option (if any) to have Section 1302 applied to any
Subordinated Debt Securities, the provisions of Article Fifteen of the
Subordinated Indenture relating to subordination will cease to be effective and,
with respect to any Debt Securities, the Company will be discharged from all its
obligations with respect thereto (except for certain obligations to exchange or
register the transfer of Debt Securities, to replace stolen, lost or mutilated
Debt Securities, to maintain paying agencies, to hold moneys for payment in
trust and, if applicable, to effect conversions of Debt Securities) upon the
deposit in trust for the benefit of the Holders of such Debt Securities of money
or U.S. Government Obligations, or both, which, through the payment of principal
and interest in respect thereof in accordance with their terms, will provide
money in an amount sufficient to pay the principal of and any premium and
interest on such Debt Securities on the respective Stated Maturities in
accordance with the terms of the Indentures and such Debt Securities. Such
defeasance or discharge may occur only if, among other things, the Company has
delivered to the Trustee an Opinion of Counsel to the effect that the Company
has received from, or there has been published by, the United States Internal
Revenue Service a ruling, or there has been a change in tax law, in either case
to the effect that Holders of such Debt Securities will not recognize gain or
loss for federal income tax purposes as a result of such deposit, defeasance and
discharge and will be subject to federal income tax on the same amount, in the
same manner and at the same times as would have been the case if such deposit,
defeasance and discharge were not to occur. (Sections 1302 and 1304)

DEFEASANCE OF CERTAIN COVENANTS. The Indentures will provide that, upon the
Company's exercise of its option (if any) to have Section 1303 applied to any
Debt Securities, the Company may omit to comply with certain restrictive
covenants, including those described under "Restrictive Covenants" and any that
may be described in the applicable Prospectus Supplement, and the occurrence of
certain Events of Default, which are described above in clause (d) (with respect
to such restrictive covenants) under "Events of Default" and any that may be
described in the applicable Prospectus Supplement, will be deemed not to be or
result in an Event of Default, in each case with respect to such Debt
Securities, and, in the case of the Subordinated Indenture, the provisions of
Article Fifteen relating to subordination will cease to be effective with
respect to any Subordinated Debt Securities. The Company, in order to exercise
such option, will be required to deposit, in trust for the benefits of the
Holders of such Debt Securities, money or U.S. Government Obligations, or both,
which, through the payment of principal and interest in respect thereof in
accordance with their terms, will provide money in an amount sufficient to pay
the principal of and any premium and interest on such Debt Securities on the
respective Stated Maturities in accordance with the terms of the Indentures and
such Debt Securities. The Company will also be required, among other things, to
deliver to the Trustee an Opinion of Counsel to the effect that Holders of such
Debt Securities will not recognize gain or loss for federal income tax purposes
as a result of such deposit and defeasance of certain obligations and will be
subject to federal income tax on the same amount, in the same manner and at the
same times as would have been the case if such deposit and defeasance were not
to occur. In the event the Company exercised this option with respect to any
Debt Securities and such Debt Securities were declared due and payable because
of the occurrence of any Event of Default, the amount of money and U.S.
Government Obligations so deposited in trust would be sufficient to pay amounts
due on such Debt Securities at the time of their respective Stated Maturities
but may not be sufficient to pay amounts due on such Debt Securities upon any
acceleration resulting from such Event of Default, in such case, the Company
would remain liable for such payments. (Sections 1303 and 1304)

The Company may, at its option, satisfy and discharge each of the Indentures
(except for certain obligations of the Company and the Trustee, (including,
among others, the obligations to apply money held in trust) when (i) either (a)
all Debt Securities under such Indenture previously authenticated and delivered
(other than (1) Debt Securities that were destroyed, lost or stolen and that
have been replaced or paid and (2) Debt Securities for the payment of which
money has been deposited in trust or segregated and held in trust by the Company
and thereafter repaid to the Company or discharged from such trust) have been
delivered to the Trustee for cancellation or discharge from such trust) have
been delivered to the Trustee for cancellation or (b) all such Debt Securities
under such Indenture not theretofore delivered to

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the Trustee for cancellation (1) have become due and payable, (2) will become
due and payable at their Stated Maturity within one year, or (3) are to be
called for redemption within one year under arrangements satisfactory to the
Trustee for the giving of notice of redemption by the Trustee in the name and at
the expense of the Company, and the Company has deposited or caused to be
deposited with the Trustee as trust funds in trust for such purpose an amount
sufficient to pay and discharge the entire indebtedness on such Debt Securities
under such Indenture not previously delivered to the Trustee for cancellation,
for principal and any premium and interest to the date of such deposit (in the
case of Debt Securities under such Indenture which have become due and payable)
or to the Stated Maturity or redemption date as the case may be, (ii) the
Company has paid or caused to be paid all other sums payable under such
Indenture by the Company, and (iii) the Company has delivered to the Trustee an
Officer's Certificate and an Opinion of Counsel, each to the effect that all
conditions precedent relating to the satisfaction and discharge of such
Indenture have been satisfied.

NOTICES

Notices to Holders of Debt Securities will be given by mail to the addresses
of such Holders as they may appear in the Security Register. (Sections 101 and
106)

TITLE

The Company, the Trustee and any agent of the Company or the Trustee may
treat the Person in whose name a Debt Security is registered as the absolute
owner thereof (whether or not such Debt Security may be overdue) for the purpose
of making payment and for all other purposes. (Section 308)

GOVERNING LAW

The Indentures and the Debt Securities will be governed by, and construed in
accordance with, the law of the State of New York. (Section 112)

REGARDING THE TRUSTEE

The Indentures contain certain limitations on the right of the Trustee,
should it become a creditor of the Company, to obtain payment of claims in
certain cases or to realize for its own account on certain property received in
respect of any such claim as security or otherwise. (Section 613) The Trustee is
permitted to engage in certain other transactions; however, if it acquires any
conflicting interest and there is a default under the Securities of any series
for which the Trustee serves as trustee, the Trustee must eliminate such
conflict or resign. (Section 608)

DESCRIPTION OF CAPITAL STOCK

The Company's Certificate of Incorporation authorizes capital stock
consisting of 30,000,000 shares of Common Stock, $0.001 par value per share, of
which 18,934,609 shares were outstanding as of September 30, 1997, and 5,000,000
shares of preferred stock, $0.001 par value per share, none of which is
outstanding. The following summary is qualified in its entirety by reference to
the Company's Amended and Restated Certificate of Incorporation and Bylaws.

COMMON STOCK

The holders of Common Stock are entitled to one vote per share on all
matters submitted to a vote of the stockholders, including the election of
directors, and are entitled to receive ratably such dividends, if any, as may be
declared from time to time by the Board of Directors out of funds legally
available therefor. The Company's Amended and Restated Certificate of
Incorporation does not provide for cumulative voting with respect to the
election of directors. As a result, the holders of a majority of the shares
voting in the election of directors can elect all of the directors then standing
for election. In the event of liquidation

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or dissolution of the Company, the holders of Common Stock are entitled to
receive all assets available for distribution to the stockholders, subject to
any preferential rights of any preferred stock then outstanding. The holders of
Common Stock have no preemptive or other subscription rights, and there are no
conversion rights or redemption or sinking fund provisions with respect to the
Common Stock. All outstanding shares of Common Stock are fully paid and
nonassessable.

PREFERRED STOCK

The Company is authorized to issue 5,000,000 shares of "blank check"
preferred stock that may be issued from time to time in one or more series upon
authorization by the Company's Board of Directors. The Board of Directors,
without further approval of the stockholders, is authorized to fix the dividend
rights and terms, conversion rights, voting rights, redemption rights and terms,
liquidation preferences, and any other rights, preferences, privileges and
restrictions applicable to each series of preferred stock. The issuance of
preferred stock, while providing flexibility in connection with possible
acquisitions and other corporate purposes could, among other things, adversely
affect the voting power of the holders of Common Stock and, under certain
circumstances, make it more difficult for a third party to gain control of the
Company, discourage bids for the Company's Common Stock at a premium or
otherwise adversely affect the market price of the Common Stock. The Company has
no current plans to issue any preferred stock.

LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS

The Company's Amended and Restated Certificate of Incorporation limits the
liability of directors to the maximum extent permitted by Delaware law. Delaware
law provides that directors of a corporation will not be personally liable for
monetary damages for breach of their fiduciary duties as directors, except for
liability (i) for any breach of their duty of loyalty to the corporation or its
stockholders, (ii) for acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of law, (iii) for unlawful
payments of dividends or unlawful stock repurchases or redemptions as provided
in Section 174 of the Delaware General Corporation Law, or (iv) for any
transaction from which the director derived an improper personal benefit.

The Company's Bylaws provide that the Company shall indemnify its directors
and may indemnify its officers and employees and other agents to the fullest
extent permitted by law. The Company believes that indemnification under its
Bylaws covers at least negligence and gross negligence on the part of
indemnified parties. The Company's Bylaws also permit it to secure insurance on
behalf of any officer, director, employee or other agent for any liability
arising out of his actions in such capacity, regardless of whether the Bylaws
would permit indemnification.

The Company has entered into agreements to indemnify its directors and
executive officers, in addition to indemnification provided for in the Company's
Bylaws and Amended and Restated Certificate of Incorporation. These agreements,
among other things, indemnify the Company's directors and executive officers for
certain expenses (including attorneys' fees), judgments, fines and settlement
amounts incurred by any such person in any action or proceeding, including any
action by or in the right of the Company, arising out of such person's services
as a director or executive officer of the Company, any subsidiary of the Company
or any other company or enterprise to which the person provides services at the
request of the Company. The Company believes that these provisions and
agreements are necessary to attract and retain qualified persons as directors
and executive officers.

At present, there is no pending litigation or proceeding involving any
director, officer, employee or agent of the Company where indemnification will
be required or permitted. The Company is not aware of any threatened litigation
or proceeding that might result in a claim for such indemnification.

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DELAWARE ANTI-TAKEOVER LAW AND CERTAIN CHARTER PROVISIONS

The Company is subject to the provisions of Section 203 of the Delaware
General Corporation Law. In general, Section 203 prohibits a publicly held
Delaware corporation from engaging in a "business combination" transaction with
any "interested stockholder" for a period of three years after the date of the
transaction in which the person became an "interested stockholder," unless the
business combination is approved in a prescribed manner. For purposes of Section
203, a "business combination" includes a merger, asset sale or other transaction
resulting in a financial benefit to the interested stockholder, and an
"interested stockholder" is a person who, together with affiliates and
associates, owns (or within three years, did own) 15% or more of a corporation's
voting stock. By virtue of the Company's decision not to elect out of the
statute's provisions, the statute applies to the Company. The statute could
prohibit or delay the accomplishment of mergers or other takeover or change in
control attempts with respect to the Company and, accordingly, may discourage
attempts to acquire the Company.

Stockholders who are officers and directors or their affiliates may be able
to significantly influence the election of the Company's directors and the
determination of the outcome of corporate actions requiring stockholder
approval, such as mergers and acquisitions. This may have a significant effect
in delaying, deferring or preventing a change in control of the Company and may
adversely affect the voting and other rights of other holders of Common Stock.
Certain provisions of the Company's Certificate of Incorporation, Bylaws and
equity compensation plans and Delaware law may also discourage certain
transactions involving a change in control of the Company. This may, when
combined with the Company's classified Board of Directors and the ability of the
Board of Directors to issue blank check Preferred Stock without further
stockholder approval, have the effect of delaying, deferring or preventing a
change in control of the Company and may adversely affect the voting and other
rights of other holders of Common Stock.

TRANSFER AGENT AND REGISTRAR

The transfer agent and registrar for the Common Stock is ChaseMellon
Shareholder Services, L.L.C. Its telephone number is (415) 743-1424.

PLAN OF DISTRIBUTION

The Company may sell the Securities separately or together, (i) to one or
more underwriters or dealers for public offering and sale by them and (ii) to
investors directly or through agents. The distribution of the Securities may be
effected from time to time in one or more transactions at a fixed price or
prices (which may be changed from time to time), at market prices prevailing at
the time of sale, at prices related to such prevailing market prices or at
negotiated prices. Each Prospectus Supplement will describe the method of
distribution of the Securities offered thereby.

In connection with the sale of the Securities, underwriters, dealers or
agents may receive compensation from the Company or from purchasers of the
Securities for whom they may act as agents, in the form of discounts,
concessions or commissions. The underwriters, dealers or agents which
participate in the distribution of the Securities may be deemed to be
underwriters under the Securities Act and any discounts or commissions received
by them and any profit on the resale of the Securities received by them may be
deemed to be underwriting discounts and commissions thereunder. Any such
underwriter, dealer or agent will be identified and any such compensation
received from the Company will be described in the Prospectus Supplement. Any
initial public offering price and any discounts or concessions allowed or
reallowed or paid to dealers may be changed from time to time.

Under agreements that may be entered into with the Company, underwriters,
dealers and agents may be entitled to indemnification by the Company against
certain civil liabilities, including liabilities under the Securities Act, or to
contribution with respect to payments which the underwriters, dealers or agents
may be required to make in respect thereof.

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The Company may grant underwriters who participate in the distribution of
Securities an option to purchase additional Securities to cover over-allotments,
if any.

All Debt Securities will be new issues of securities with no established
trading market. Any underwriters to whom Debt Securities are sold by the Company
for public offering and sale may make a market in such securities, but such
underwriters will not be obligated to do so and may discontinue any market
making at any time without notice. No assurance can be given as to the liquidity
of the trading market for any Debt Securities.

Certain of the underwriters or agents and their associates may be customers
of, engage in transactions with or perform services for the Company in the
ordinary course of business.

LEGAL OPINIONS

The validity of the Securities is being passed upon for the Company by
Brobeck, Phleger & Harrison LLP, Palo Alto, California.

EXPERTS

The consolidated financial statements of Cygnus Inc. incorporated by
reference in the Cygnus, Inc. Annual Report on Form 10-K for the year ended
December 31, 1996 have been audited by Ernst & Young LLP, independent auditors,
as set forth in their report thereon incorporated by reference therein and
incorporated herein by reference. Such consolidated financial statements are
incorporated herein by reference in reliance upon such report, given on the
authority of such firm as experts in accounting and auditing.

20
<PAGE>

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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS IN CONNECTION WITH THIS OFFERING OTHER THAN THOSE CONTAINED IN
THIS PROSPECTUS SUPPLEMENT OR THE ACCOMPANYING PROSPECTUS, AND, IF GIVEN OR
MADE, SUCH OTHER INFORMATION AND REPRESENTATIONS MUST NOT BE RELIED UPON AS
HAVING BEEN AUTHORIZED BY THE COMPANY. NEITHER THE DELIVERY OF THIS PROSPECTUS
SUPPLEMENT AND THE ACCOMPANYING PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL,
UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN
THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THAT THE INFORMATION
CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO ITS DATE. THIS
PROSPECTUS SUPPLEMENT AND THE ACCOMPANYING PROSPECTUS DO NOT CONSTITUTE AN OFFER
TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY SECURITIES OTHER THAN THE
REGISTERED SECURITIES TO WHICH IT RELATES. THIS PROSPECTUS SUPPLEMENT AND THE
ACCOMPANYING PROSPECTUS DO NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF
AN OFFER TO BUY SUCH SECURITIES IN ANY CIRCUMSTANCES IN WHICH SUCH OFFER OR
SOLICITATION IS UNLAWFUL.

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TABLE OF CONTENTS

PAGE

Prospectus Supplement
Summary. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Use of Proceeds. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Price Range of Common Stock. . . . . . . . . . . . . . . . . . . . . . . . .
Dividend Policy. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Capitalization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Description of Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Certain United States Federal Income Tax Consequences. . . . . . . . . . . .
Plan of Distribution . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Legal Matters. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Prospectus
Available Information. . . . . . . . . . . . . . . . . . . . . . . . . . . .
Incorporation of Certain Documents by Reference. . . . . . . . . . . . . . .
The Company. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Recent Developments. . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Use of Proceeds. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Ratio of Earnings to Fixed Charges . . . . . . . . . . . . . . . . . . . . .
Description of Debt Securities . . . . . . . . . . . . . . . . . . . . . . .
Description of Capital Stock . . . . . . . . . . . . . . . . . . . . . . . .
Plan of Distribution . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Legal Opinions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Experts. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

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$43,000,000

CYGNUS, INC.

4% Senior Subordinated
Convertible Notes due 2005

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PROSPECTUS
SUPPLEMENT

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February 4, 1998

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