CEPHALON INC, 10-Q, 2000-05-15

CEPHALON INC
10-Q, 2000-05-15
PHARMACEUTICAL PREPARATIONS

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<PAGE>

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the Quarterly Period Ended March 31, 2000
----------------

[_] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the Transition Period from ______________ to _______________

Commission File Number 0-19119
-----------

CEPHALON, INC.
------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)

<TABLE>
<CAPTION>
Delaware 23-2484489
--------------------------------------------- ---------------------------------------
<S> <C>
(State Other Jurisdiction of Incorporation or (I.R.S. Employer Identification Number)
Organization)
</TABLE>

145 Brandywine Parkway, West Chester, PA 19380-4245
- ------------------------------------------ ------------------------
(Address of Principal Executive Offices) (Zip Code)

Registrant's Telephone Number, Including Area Code (610) 344-0200
------------------------

Not Applicable
- --------------------------------------------------------------------------------
Former Name, Former Address and Former Fiscal Year, If Changed Since Last Report

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

Applicable only to corporate issuers:

Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.

Class Outstanding as of May 8, 2000
---------------------------- -----------------------------
Common Stock, par value $.01 33,932,359 Shares

This Report Includes a Total of 26 Pages
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CEPHALON, INC. and SUBSIDIARIES
-------------------------------

INDEX
-----

<TABLE>
<CAPTION>
Page No.
--------
<S> <C>
PART I - FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

Consolidated Balance Sheets -
March 31, 2000 and December 31, 1999 3

Consolidated Statements of Operations -
Three months ended March 31, 2000 and 1999 4

Consolidated Statements of Cash Flows -
Three months ended March 31, 2000 and 1999 5

Notes to Consolidated Financial Statements 6

Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10

PART II - OTHER INFORMATION

Item 1. Legal Proceedings 25

Item 6. Exhibits and Reports on Form 8-K 25

SIGNATURES 26
</TABLE>

2
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CEPHALON, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
---------------------------
(Unaudited)

<TABLE>
<CAPTION>
March 31, December 31,
2000 1999
------------- -------------
<S> <C> <C>
ASSETS
------
CURRENT ASSETS:
Cash and cash equivalents $ 14,281,000 $ 13,152,000
Short-term investments 140,821,000 188,410,000
Receivables, net 5,908,000 5,578,000
Inventory (Note 2) 11,747,000 4,258,000
Other 1,480,000 988,000
------------- -------------
Total current assets 174,237,000 212,386,000

PROPERTY AND EQUIPMENT, net of accumulated
depreciation and amortization of $15,609,000 and $15,192,000 20,478,000 20,001,000
OTHER 1,684,000 1,666,000
------------- -------------
$ 196,399,000 $ 234,053,000
============= =============

LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------

CURRENT LIABILITIES:
Accounts payable $ 2,969,000 $ 6,221,000
Accrued expenses 15,372,000 19,328,000
Current portion of long-term debt (Note 3) 1,879,000 31,906,000
------------- -------------
Total current liabilities 20,220,000 57,455,000

LONG-TERM DEBT 13,519,000 14,034,000
OTHER 4,207,000 4,207,000
------------- -------------
Total liabilities 37,946,000 75,696,000
------------- -------------

COMMITMENTS AND CONTINGENCIES (Note 5)

STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value, 5,000,000 shares authorized,
2,500,000 shares issued and outstanding 25,000 25,000
Common stock, $.01 par value, 100,000,000 shares authorized,
33,917,813 and 32,560,938 shares issued and outstanding 339,000 326,000
Additional paid-in capital 518,200,000 505,702,000
Treasury stock (1,323,000) (1,290,000)
Accumulated deficit (358,972,000) (347,135,000)
Accumulated other comprehensive income 184,000 729,000
------------- -------------
Total stockholders' equity 158,453,000 158,357,000
------------- -------------
$ 196,399,000 $ 234,053,000
============= =============
</TABLE>

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

3
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CEPHALON, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
-------------------------------------
(Unaudited)

<TABLE>
<CAPTION>
Three Months Ended,
March 31,
------------------------------
2000 1999
------------- -------------
<S> <C> <C>
REVENUES: (Note 6)
Product sales - PROVIGIL $ 13,463,000 $ 1,730,000
Other revenues 4,833,000 2,500,000
------------- -------------
18,296,000 4,230,000
------------- -------------
COSTS AND EXPENSES:
Cost of product sales - PROVIGIL 1,792,000 188,000
Research and development 12,902,000 9,972,000
Selling, general and administrative 14,983,000 13,614,000
------------- -------------
29,677,000 23,774,000
------------- -------------

LOSS FROM OPERATIONS (11,381,000) (19,544,000)
------------- -------------

INTEREST:
Income 3,022,000 878,000
Expense (1,212,000) (1,275,000)
------------- -------------
1,810,000 (397,000)
------------- -------------

LOSS (9,571,000) (19,941,000)

Dividends on preferred stock (2,266,000) --
------------- -------------

LOSS APPLICABLE TO COMMON SHARES $ (11,837,000) $ (19,941,000)
============= =============

BASIC AND DILUTED LOSS PER COMMON SHARE $ (0.36) $ (0.69)
============= =============
WEIGHTED AVERAGE NUMBER
OF COMMON SHARES OUTSTANDING 32,780,390 28,819,187
============= =============
</TABLE>

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

4
<PAGE>

CEPHALON, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
-------------------------------------
(Unaudited)

<TABLE>
<CAPTION>
Three Months Ended
March 31,
-----------------------------
2000 1999
------------ ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Loss $ (9,571,000) $(19,941,000)
Adjustments to reconcile loss to net cash
used for operating activities:
Depreciation and amortization 417,000 927,000
Noncash compensation expense 1,465,000 424,000
Other (497,000) 538,000
(Increase) decrease in operating assets:
Receivables 168,000 (779,000)
Inventory (7,489,000) (157,000)
Other current assets (635,000) (214,000)
Other long-term assets (18,000) (1,936,000)
Increase (decrease) in operating liabilities:
Accounts payable (3,252,000) (881,000)
Accrued expenses (3,956,000) 3,368,000
Other long-term liabilities -- 205,000
------------ ------------

Net cash used for operating activities (23,368,000) (18,446,000)
------------ ------------

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (894,000) (23,000)
Sales and maturities (purchases) of investments, net 46,897,000 (10,018,000)
------------ ------------

Net cash provided by (used for) investing activities 46,003,000 (10,041,000)
------------ ------------

CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from exercises of common stock options and warrants 11,092,000 20,000
Proceeds from issuance of long-term debt -- 30,000,000
Dividend payments on preferred stock (2,266,000) --
Principal payments on and retirements of long-term debt (30,480,000) (482,000)
------------ ------------

Net cash (used for) provided by financing activities (21,654,000) 29,538,000
------------ ------------

EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS 148,000 92,000
------------ ------------

NET INCREASE IN CASH AND CASH EQUIVALENTS 1,129,000 1,143,000

CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 13,152,000 3,975,000
------------ ------------

CASH AND CASH EQUIVALENTS, END OF PERIOD $ 14,281,000 $ 5,118,000
============ ============
</TABLE>

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

5
<PAGE>

CEPHALON, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Business

Cephalon, Inc., headquartered in West Chester, PA, is a biopharmaceutical
company dedicated to the discovery, development and marketing of products to
treat neurological disorders and cancer. We have had negative cash flow from
operations since inception and have funded our operations primarily from the
proceeds of public and private placements of our securities. Sales of
PROVIGIL(R) (modafinil) Tablets [C-IV] were initiated in the United Kingdom in
March 1998 and in the United States and the Republic of Ireland in February
1999. In June 1999, we began promoting and marketing PROVIGIL in Austria.
PROVIGIL is approved in those countries for use by those suffering from
excessive daytime sleepiness associated with narcolepsy. In January, 2000, we
amended the license agreement and supply agreement with Laboratoire L. Lafon to
expand the territories in which we have the rights to develop and market
PROVIGIL to include Central and South America, South Korea and Taiwan. We
entered into a collaborative agreement with Abbott Laboratories in June 1999 to
market and further develop GABITRIL(R) (tiagabine hydrochloride), an adjunctive
treatment for partial seizures associated with epilepsy, in the United States.

Our business is subject to a number of significant risks, including the
risks inherent in pharmaceutical research and development activities. We are
highly dependent upon the commercial success of PROVIGIL but there is no
assurance that we will achieve profitability solely on sales of PROVIGIL.

Basis of Presentation

The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnote disclosures required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation have been included. These financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
included in our annual report on Form 10-K, filed with the Securities and
Exchange Commission, which includes financial statements as of December 31, 1999
and 1998 and for each of the three years in the period ended December 31, 1999.
The results of our operations for any interim period are not necessarily
indicative of the results of our operations for any other interim period or for
a full year.

Concentrations of Credit Risk

At March 31, 2000, four pharmaceutical wholesalers represented 86% of U.S.
trade accounts receivable. We control credit risk through credit approvals,
credit limits and by performing ongoing credit evaluations of our customers.

Recent Accounting Pronouncements

In December 1999, the Securities and Exchange Commission issued Staff
Bulletin No. 101, "Revenue Recognition in Financial Statements" (SAB 101) which
is effective for fiscal years beginning after December 15, 1999. The bulletin
draws on existing accounting rules and provides specific guidance on how those
accounting rules should be applied, and specifically addresses revenue
recognition for non-refundable technology access fees in the biotechnology
industry. We expect that we will be required to defer non-refundable technology
fees recorded in 1999 and recognize the related revenue over future periods. The
SEC is requiring adoption of SAB 101 no later than the second quarter of 2000.
In accordance with SAB 101, we expect to report a change in accounting principle
and to record the impact of this change as a cumulative effect in our statement
of operations.

6
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CEPHALON, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)

2. INVENTORY

Inventory consists solely of PROVIGIL and is stated at the lower of cost or
market value using the first-in, first-out method:

<TABLE>
<CAPTION>
March 31, December 31,
2000 1999
---- ----
<S> <C> <C>
Raw material................................ $ 4,694,000 $1,570,000
Work-in-process............................. 4,428,000 1,616,000
Finished goods.............................. 2,625,000 1,072,000
----------- ----------
$11,747,000 $4,258,000
=========== ==========
</TABLE>

3. DEBT

Revenue Sharing Notes

In February 1999, we completed a private placement of $30,000,000 of
revenue-sharing notes. The notes were retired in the first quarter of 2000 for
an aggregate cash payment of $35,500,000. The former holders of the notes will
continue to receive a payment of 6% of net sales of PROVIGIL in the United
States through December 31, 2001.

4. LEGAL PROCEEDINGS

In November 1999, we received a federal grand jury subpoena in connection
with an investigation under the supervision of the Office of Consumer Litigation
of the U.S. Department of Justice. The grand jury also issued subpoenas to
certain of our former and current employees. We believe that the investigation
relates to the release of certain lots of MYOTROPHIN(R) (mecasermin) Injection
used in clinical trials and related reports filed with the FDA during the period
1994-96. We have not been identified as a target of the investigation, and we
are cooperating with the inquiry. We cannot predict the outcome of the
investigation.

In August 1999, the U.S. District Court for the Eastern District of
Pennsylvania entered a final order approving the settlement of a class action
alleging that statements made about the results of certain clinical studies of
MYOTROPHIN were misleading. A related complaint has been filed with the Court by
a small number of plaintiffs who decided not to participate in the settlement.
This related complaint alleges that we are liable under common law for
misrepresentations concerning the results of the MYOTROPHIN clinical trials, and
that we and certain of our current and former officers and directors are liable
for the actions of persons who allegedly traded in our common stock on the basis
of material inside information. We believe that we have valid defenses to all
claims raised in this action and we have filed a motion to dismiss these claims,
which is pending with the Court. Moreover, even if there is a judgment against
us, we do not believe it will have a material negative effect on our financial
condition or results of operations.

5. COMMITMENTS AND CONTINGENCIES

Related party

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

7
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CEPHALON, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)

CCP has granted us an exclusive license to manufacture and market
MYOTROPHIN for human therapeutic use within the United States, Canada and Europe
in return for royalty payments equal to a percentage of product sales and a
milestone payment of approximately $16,000,000 that will be made if MYOTROPHIN
receives regulatory approval.

We have a contractual option to purchase all of the limited partnership
interests of CCP. To exercise this purchase option, we are required to make an
advance payment of $40,275,000 in cash or, at our election, $42,369,000 in
shares of common stock or a combination thereof. The purchase option will become
exercisable upon the occurrence of certain events once sales activity commences.
Should we discontinue development of MYOTROPHIN or if we do not exercise the
purchase option, our license will terminate and all rights to manufacture or
market MYOTROPHIN in the United States, Canada and Europe will revert to CCP,
which may then commercialize MYOTROPHIN itself or license or assign its rights
to a third party. In that event, we would not receive any benefits from such
commercialization, license or assignment of rights.

6. REVENUE

Product sales

Product sales are recognized upon shipment of product and are recorded net
of reserves for returns and allowances. Sales of PROVIGIL were initiated in the
United Kingdom in March 1998 and in the United States and the Republic of
Ireland in February 1999. In June 1999, we began promoting and marketing
PROVIGIL in Austria. For the three months ended March 31, 2000, shipments of
PROVIGIL to customers were $14,052,000 and $589,000 was recorded for returns and
allowances, resulting in net product sales of $13,463,000. Four pharmaceutical
wholesalers accounted for 88% of U.S. gross product sales in the first quarter
of 2000. For the three months ended March 31, 1999, shipments of PROVIGIL to
customers were $5,788,000, and $4,058,000 was recorded for returns and
allowances, resulting in net product sales of $1,730,000.

At March 31, 2000 the balance in the reserve for returns and allowances was
$5,677,000 of which $5,169,000 was for product returns. At each reporting
period, we monitor inventory levels at the wholesalers and at the retail
pharmacies, as well as reorder history. Should this information indicate a
steady stream of the product moving through the supply chain or a significant
reduction in wholesaler and retailer inventory, which would indicate that
returns are less likely to occur, the product reserve balance would be reduced,
resulting in the recognition of additional revenue.

Other revenues

The major sources of other revenues include reimbursement of research and
development costs under our collaborative agreements with Lundbeck and TAP, and
reimbursement under our copromotion agreement with Abbott for sales of GABITRIL.

7. SUBSEQUENT EVENT

In March 1995, we purchased the buildings housing our administrative
offices and research facilities in West Chester, Pennsylvania for $11,000,000.
We financed the purchase through the assumption of an existing $6,900,000 first
mortgage and from $11,600,000 in funding provided by the Commonwealth of
Pennsylvania. This funding has a 15-year term with an annual interest rate of 2%
which was to be increased to prime plus 2% if we failed to hire a specified
number of new employees in Chester County, Pennsylvania by the end of 1999. We
have been paying at the 2% rate and accruing interest at the higher rate. The
Commonwealth of Pennsylvania has waived the interest penalty, and in our
statement of
8
<PAGE>

CEPHALON, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
(Unaudited)

operations for the second quarter of 2000, we expect to recognize interest
income for the interest differential of $4,008,000 that was previously accrued.

9
<PAGE>

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Certain Risks Related to Cephalon's Business

During the next several years we will be very dependent on the commercial
success of PROVIGIL, and we may be unable to attain profitability on sales of
PROVIGIL.

In December 1998, the FDA approved PROVIGIL for use by those suffering from
excessive daytime sleepiness associated with narcolepsy, and, in February 1999,
we commenced selling PROVIGIL in the United States. At our present level of
operations, we may not be able to attain profitability if physicians prescribe
PROVIGIL only for those who are diagnosed with narcolepsy. Under current FDA
regulations, we are limited in our ability to promote PROVIGIL outside this
approved use. The market for use of PROVIGIL in narcolepsy patients is
relatively small; it is limited to approximately 125,000 persons in the United
States, of which we estimate approximately 45,000 currently are seeking
treatment from a physician.

We have initiated clinical studies to examine whether or not PROVIGIL is
effective and safe when used to treat disorders other than narcolepsy. Although
some study data has been positive, we do not know whether all of these studies
will demonstrate safety and efficacy, or if they do, whether we will succeed in
receiving regulatory approval to market PROVIGIL for additional disorders. If
the results of some of these studies are negative, or if adverse experiences are
reported in these clinical studies or otherwise in connection with the use of
PROVIGIL by patients, this could undermine physician and patient comfort with
the product, limit the commercial success of the product and impact the
acceptance of PROVIGIL in the narcolepsy market. Even if the results of these
studies are positive, the impact on sales of PROVIGIL may be minimal unless we
are able to obtain FDA approval to expand the authorized use of PROVIGIL. FDA
regulations restrict our ability to communicate the results of additional
clinical studies to patients and physicians without first obtaining approval
from the FDA to expand the authorized uses for this product.

In addition, the following factors could limit the rate and level of market
acceptance of PROVIGIL:

. the effectiveness of our sales and marketing efforts relative to
those of our competitors;

. the availability and level of reimbursement for PROVIGIL by third-
party payors, including federal, state and foreign government
agencies; and

. the occurrence of any side effects, adverse reactions or misuse (or
unfavorable publicity relating thereto) stemming from the use of
PROVIGIL.

We have described these and other factors in more detail below.

. Our lack of experience selling our own pharmaceutical products,
together with significant competition, may impact our ability to
effectively market and sell PROVIGIL in the United States.

In the United States and elsewhere, PROVIGIL faces significant competition
in the marketplace. Narcolepsy is currently treated with several drugs, all of
which have been available for a number of years and many of which are available
in inexpensive generic forms. Thus, we will need to demonstrate to physicians,
patients and third party payors that the cost of PROVIGIL is reasonable and
appropriate in light of the safety and efficacy of the product, the price of
competing products and the related health care benefits to the patient.

. As PROVIGIL is used commercially, unintended side effects, adverse
reactions or incidents of misuse may occur which could result in
additional regulatory controls, and reduce sales of PROVIGIL.

10
<PAGE>

Prior to 1999, the use of PROVIGIL had been limited principally to clinical
trial patients under controlled conditions and under the care of expert
physicians. We cannot predict whether the widespread commercial use of PROVIGIL
will produce undesirable or unintended side effects that have not been evident
in our clinical trials or the relatively limited broader use to date. As
PROVIGIL becomes more widely utilized by significant numbers of patients who
could take multiple medications, adverse drug interactions could occur that are
difficult to predict. Additionally, incidents of product misuse may occur. These
events, among others, could result in additional regulatory controls, including
withdrawal of the product from the market.

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

In certain foreign markets, pricing or profitability of pharmaceutical
products is subject to governmental control. In the United States, there have
been, and we expect there will continue to be, various federal and state
proposals to implement similar government controls. The commercial success of
PROVIGIL could be limited if federal or state governments adopt any such
proposals. In addition, in the United States and elsewhere, sales of
pharmaceutical products depend in part on the availability of reimbursement to
the consumer from third party payors, such as government and private insurance
plans. Third party payors increasingly challenge the prices charged for
products, and limit reimbursement levels offered to consumers for such products.
If third party payors focus their cost control efforts on PROVIGIL, this could
limit the commercial success of the product.

. We may not be able to maintain market exclusivity for PROVIGIL, and
therefore potential competitors may develop competing products,
which could result in a decrease in sales and market share, cause
us to reduce prices to compete successfully, and prevent PROVIGIL
from being a commercial success.

We hold exclusive license rights to a composition-of-matter patent covering
modafinil as the active drug substance in PROVIGIL; this patent was to have
expired in 1998 in the United States, but we have applied for a patent extension
that, if granted, would extend the term of this patent until November 18, 2001.
In addition, we own a U.S. patent covering the particle size of modafinil that
issued in 1997 and expires on October 6, 2014. However, we may not succeed in
obtaining any extension for the composition-of-matter patent, and we cannot
guarantee that any of our patents will be found to be valid if their validity is
challenged by a third party, or that these patents (or any other patent owned or
licensed by us) would prevent a potential competitor from developing competing
products or product formulations that avoid infringement.

In the United States, the Orphan Drug Act provides incentives to drug
manufacturers to develop and manufacture drugs for the treatment of rare
disorders. The FDA has granted orphan drug status to PROVIGIL for its use in the
treatment of excessive daytime sleepiness associated with narcolepsy. The grant
of orphan drug status to PROVIGIL allows us a seven-year period of marketing
exclusivity for the product in that indication. While the marketing exclusivity
provided by the orphan drug law should prevent other sponsors from obtaining
approval of the same compound for the same indication (unless the other sponsor
can demonstrate clinical superiority or we are unable to provide or obtain
adequate supplies of PROVIGIL), it would not prevent approval of the compound
for other indications that otherwise are non-exclusive, or approval of other
kinds of compounds for the same indication.

. Manufacturing, supply and distribution problems could create supply
disruptions that would damage commercial prospects for PROVIGIL.

We depend upon Laboratoire L. Lafon as our sole supplier of bulk modafinil
compound, the active drug substance contained in PROVIGIL. Moreover, we depend
upon a single manufacturer that is qualified to manufacture finished PROVIGIL
for commercial purposes. We maintain an inventory of modafinil compound to
protect against supply disruptions and are qualifying an additional manufacturer
of finished product.

We must comply with all applicable regulatory requirements of the FDA and
foreign authorities, including current Good Manufacturing Practice, or cGMP,
regulations. The facilities used to manufacture, store and

11
<PAGE>

distribute our products are subject to inspection by regulatory authorities at
any time to determine compliance with regulations. The cGMP regulations are
complex, and failure to be in compliance could lead to remedial action, civil
and criminal penalties and delays in production of material.

A non-active ingredient used in PROVIGIL is no longer manufactured or
commercially available. At anticipated levels of demand, we have several years
supply of this ingredient. We have prepared a new formulation of PROVIGIL that
does not include the now unavailable ingredient; however, the introduction of
any such new formulation requires regulatory approval. If we are unable to
obtain approval for a new formulation, or if demand for the product were to
significantly exceed expectations, we could face supply disruptions that would
result in significant costs and delays, undermine goodwill established with
physicians and patients, and damage commercial prospects for PROVIGIL.

We rely on several third parties in the United States to distribute,
provide customer service activities and accept and process returns. Although we
employ a small number of persons to coordinate and manage the activities
undertaken by these third parties, we have relatively limited experience in this
regard. Any disruption in these activities could impede our ability to sell
PROVIGIL and could reduce sales revenue.

Our sales of PROVIGIL and related financial results will fluctuate and these
fluctuations may adversely affect our stock price.

A number of analysts and investors who follow our stock have developed
models to attempt to forecast future PROVIGIL sales and have established
earnings expectations based upon those models. Forecasting revenue growth is
difficult; especially when there is little commercial history and when the level
of market acceptance of the product is uncertain. Forecasting is further
complicated by the difficulties in estimating stocking levels at pharmaceutical
wholesalers and at retail pharmacies and in estimating potential product
returns. As a result it is likely that there will be significant fluctuations in
revenues, which may not meet with market expectations and which may adversely
affect our stock price. Other factors which may cause our financial results to
fluctuate include the cost of PROVIGIL sales, achievement and timing of research
and development milestones, co-promotion and other collaboration revenues, cost
and timing of clinical trials, marketing and other expenses and manufacturing or
supply disruption.

We anticipate that we will incur additional losses.

To date, we have not been profitable and our accumulated deficit was
approximately $359 million at March 31, 2000. Our losses have resulted
principally from costs incurred in research and development, including clinical
trials, and from selling, general and administrative costs associated with our
operations. We expect to continue to incur losses until such time as product
revenue from PROVIGIL or other products and product candidates exceed expenses
of operating our business. While we seek to attain profitability, we cannot be
sure that we will ever achieve product revenues from PROVIGIL or from any of our
other product candidates sufficient for us to attain this objective. We cannot
be sure that our collaborators or we will obtain required regulatory approvals,
or successfully develop, commercialize, manufacture and market any other product
candidates.

The results and timing of future clinical trials cannot be predicted and future
setbacks may materially affect our business.

We must demonstrate through preclinical testing and clinical trials that a
product candidate is safe and efficacious. The results from preclinical testing
and early clinical trials may not be predictive of results obtained in
subsequent clinical trials, and we cannot be sure that these clinical trials
will demonstrate the safety and efficacy necessary to obtain regulatory approval
for any product candidates.

12
<PAGE>

A number of companies in the biotechnology and pharmaceutical industries
have suffered significant setbacks in advanced clinical trials, even after
obtaining promising results in earlier trials. In addition, certain clinical
trials are conducted with patients having the most advanced stages of disease.
During the course of treatment, these patients often die or suffer other adverse
medical effects for reasons that may not be related to the pharmaceutical agent
being tested. Such events can have a negative impact on the statistical analysis
of clinical trial results.

The completion of clinical trials of our product candidates may be delayed
by many factors. One such factor is the rate of enrollment of patients. Neither
we nor our collaborators can control the rate at which patients present
themselves for enrollment, and we cannot be sure that the rate of patient
enrollment will be consistent with our expectations or be sufficient to enable
clinical trials of our product candidates to be completed in a timely manner or
at all. Any significant delays in, or termination of, clinical trials of our
product candidates may have a material adverse effect on our business.

We cannot be sure that we will be permitted by regulatory authorities to
undertake additional clinical trials for any of our product candidates, or that
if such trials are conducted, any of our product candidates will prove to be
safe and efficacious or will receive regulatory approvals. Any delays in or
termination of these clinical trial efforts may have a material adverse effect
on our business.

Our research and development activities may not result in any additional
pharmaceutical products, which may adversely affect our business.

We are highly focused on the research and development of potential
pharmaceutical products. These activities include engaging in discovery research
and process development, conducting preclinical and clinical studies, and
seeking regulatory approval in the United States and abroad. In all of these
areas, we have relatively limited resources and compete against larger
multinational pharmaceutical companies. Moreover, even if we undertake these
activities in an effective and efficient manner, regulatory approval for the
sale of new pharmaceutical products remains highly uncertain since, in our
industry, the majority of compounds fail to enter clinical studies and the
majority of therapeutic candidates entering clinical studies fail to be
commercialized.

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

Because we have limited resources, we have entered into a number of
agreements with other pharmaceutical companies. These agreements may call for
our partner to control:

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

. the design and execution of clinical studies;

. the process of obtaining regulatory approval to market the product;
and

. the marketing and selling of any approved product.

In each of these areas, our partners may not support fully our research and
commercial interests since our program may compete for time, attention and
resources with the internal programs of our corporate collaborators. As such, we
cannot be sure that our corporate collaborators will share our perspectives on
the relative importance of our program, that they will commit sufficient
resources to our program to move it forward effectively, or that the program
will advance as rapidly as it might if we had retained complete control of all
research, development, regulatory and commercialization decisions.

13
<PAGE>

We also rely on several of these collaborators and other third parties for
the production of compounds and the manufacture and supply of pharmaceutical
products. One of our collaborators, Kyowa Hakko, has agreed with us to modify
the related supply agreement so that we will be responsible for supplying the
compounds under development. We have selected another manufacturer to produce
these compounds, transferred the applicable manufacturing technology to this
third party and are working to improve and scale-up the production process. We
cannot be certain that this new manufacturer will be able to manufacture such
compounds or products in sufficient quantities, at reasonable prices, and in
accordance with cGMP requirements established by the FDA and other regulatory
authorities.

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

Large and small companies, academic institutions, governmental agencies,
and other public and private research organizations conduct research, seek
patent protection, and establish collaborative arrangements for product
development in competition with us. Products developed by any of these entities
may compete directly with those we develop or sell. Many of these companies and
institutions have substantially greater capital resources, research and
development staffs and facilities than us, and substantially greater experience
in conducting clinical trials, obtaining regulatory approvals and manufacturing
and marketing pharmaceutical products. These entities represent significant
competition for us. In addition, competitors who are developing products for the
treatment of neurological or oncological disorders might succeed in developing
technologies and products that are more effective than any that we develop or
sell or that would render our technology and products obsolete or
noncompetitive. Competition and innovation from these or other sources
potentially could materially adversely affect any sales of products that might
be developed or are currently being sold by us or make them obsolete. Advances
in current treatment methods also may adversely affect the market for such
products.

We may not be able to obtain adequate patent protection either in the United
States or abroad, which could impact our ability to compete effectively.

We place considerable importance on obtaining patent and trade secret
protection for new technologies, products and processes. We file applications
for patents covering the composition of matter or uses of our drug candidates or
our proprietary processes. We also rely on trade secrets, know-how and
continuing technological advancements to support our competitive position.
Although we have entered into confidentiality and invention rights agreements
with our employees, consultants, advisors and collaborators, we cannot be sure
that such agreements will be honored or that we will be able to effectively
protect our rights to our unpatented trade secrets and know-how. Moreover, we
cannot be sure that others will not independently develop substantially
equivalent proprietary information and techniques or otherwise gain access to
our trade secrets and know-how. In addition, many of our scientific and
management personnel have been recruited from other biotechnology and
pharmaceutical companies where they were conducting research in areas similar to
those that we now pursue. As a result, we could be subject to allegations of
trade secret violations and other claims.

We also could incur substantial costs in defending any patent infringement
suits or in asserting any patent rights, including those licensed to us by third
parties, and in defending suits against us or our employees relating to
ownership of or rights to intellectual property. Such disputes could
substantially delay our drug development or commercialization. The U.S. Patent
and Trademark Office, or PTO, or a private party could institute an interference
proceeding involving us in connection with one or more of our patents or patent
applications. Such proceedings could result in an adverse decision as to
priority of invention, in which case we would not be entitled to a patent on the
invention at issue in the interference proceeding. The PTO or a private party
could also institute reexamination proceedings involving us in connection with
one or more of our patents, and such proceedings could result in an adverse
decision as to the validity or scope of the patents.

14
<PAGE>

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

In November 1999, we received a federal grand jury subpoena in connection
with an investigation under the supervision of the Office of Consumer Litigation
of the U.S. Department of Justice. The grand jury also issued subpoenas to
certain of our former and current employees. We believe that the investigation
relates to the release of certain lots of MYOTROPHIN used in clinical trials and
related reports filed with the FDA during the period 1994-96. We have not been
identified as a target of the investigation, and we are cooperating with this
inquiry. We cannot predict the outcome of the investigation.

In August 1999, the U.S. District Court for the Eastern District of
Pennsylvania entered a final order approving the settlement of a class action in
which plaintiffs alleged that statements made about the results of certain
clinical studies of MYOTROPHIN were misleading. A related complaint has been
filed with the Court by a small number of plaintiffs who decided not to
participate in the settlement. This related complaint alleges that we are liable
under common law for misrepresentations concerning the results of the MYOTROPHIN
clinical trials, and that we and certain of our current and former officers and
directors are liable for the actions of persons who allegedly traded in our
common stock on the basis of material inside information. We believe that we
have valid defenses to all claims raised in this action, and we have filed a
motion to dismiss these claims which is pending with the Court. Moreover, even
if there is a judgment against us, we do not believe it will have a material
negative effect on our financial condition or results of operations.

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

The administration of drugs to humans, whether in clinical trials or
commercially, can result in product liability claims even if our drugs or a
collaborator's drugs are not actually at fault for causing an injury.
Furthermore, our products may cause, or may appear to have caused, adverse side
effects or potentially dangerous drug interactions that we may not learn about
or understand fully until the drug has been administered to patients for some
time. As the product is used more widely and in patients with varying medical
conditions, the likelihood of an adverse drug reaction may increase. Product
liability claims can be expensive to defend and may result in large judgments or
settlements against us, which could have a negative effect on our financial
performance. We maintain product liability insurance at a relatively limited
level, and as such, claims could exceed our coverage. Furthermore, we cannot be
certain that we will always be able to purchase sufficient insurance at an
affordable price. Even if a product liability claim is not successful, the
adverse publicity and time and expense of defending such a claim may interfere
with our business.

We may never obtain approval to market MYOTROPHIN, it may not be cost-effective
to pursue MYOTROPHIN for other indications, and therefore we may never derive
revenue from MYOTROPHIN.

The prospects for regulatory approval of MYOTROPHIN continue to be very
uncertain in the United States. We do not believe that the conditions for
regulatory approval imposed by the FDA can be met without conducting an
additional Phase III study, and we do not intend to conduct such a study. Even
if we chose to conduct an additional study, the results of a new study may not
be sufficient to obtain regulatory approval. We have discussed with Kyowa Hakko
the preliminary results of the clinical study being conducted in Japan and,
based upon these discussions, do not believe that the final results of the study
will support FDA approval of our pending NDA. If MYOTROPHIN is not approved for
the treatment of ALS, then it is unlikely that we would pursue approval for the
use of MYOTROPHIN to treat other indications. Additionally, if we do not obtain
approval of MYOTROPHIN for ALS or pursue approval for other indications, rights
to the product may revert back to CCP.

15
<PAGE>

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

The market price of our common stock is volatile, and we expect it to
continue to be volatile for the foreseeable future. For example, during the
period January 1, 1999 through May 8, 2000, our common stock traded at a high
closing price of $72.31 and a low closing price of $7.50. Negative announcements
(such as adverse regulatory decisions, disputes concerning patent or other
proprietary rights, or operating results that fall below the market's
expectations) could trigger significant declines in the price of our common
stock. In addition, external events, such as news concerning our competitors,
changes in government regulations that may impact the biotechnology or
pharmaceutical industries or flows of investor funds into or out of our
industry, also are likely to affect the price of our common stock.

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

We are highly dependent upon our ability to attract and retain qualified
scientific, technical and managerial personnel. There is intense competition for
qualified personnel in the pharmaceutical and biotechnology industries, and we
cannot be sure that we will be able to continue to attract and retain the
qualified personnel necessary for the development and management of our
business. Our research and development programs and our business might be harmed
by the loss of the services of existing personnel, as well as the failure to
recruit additional key scientific, technical and managerial personnel in a
timely manner. Much of the know-how we have developed resides in our scientific
and technical personnel and is not readily transferable to other personnel. We
do not maintain "key man" life insurance on any of our employees.

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

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

We believe that our safety procedures for handling and disposing of these
materials comply with federal, state and local laws and regulations, but the
risk of accidental injury or contamination from these materials cannot be
eliminated. In the event of an accident, we could be held liable for any
resulting damages.

Anti-takeover provisions may deter a third party from acquiring us, limiting our
stockholders' ability to profit from such a transaction.

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

We are subject to the anti-takeover provisions of Section 203 of the
Delaware Corporation Law, which prohibits us from engaging in a "business
combination" with an "interested stockholder" for a period of three years after
the date of the transaction in which the person becomes an interested
stockholder, unless the business combination is approved in a prescribed manner.
The application of Section 203 could have the effect of delaying or preventing a
change of control of Cephalon. We also have adopted a "poison pill" rights plan
that will dilute the stock ownership of an acquirer of our stock upon the
occurrence of certain events. Section 203, the rights plan, and

16
<PAGE>

the provisions of our certificate of incorporation, our bylaws and Delaware
corporate law, may have the effect of deterring hostile takeovers or delaying or
preventing changes in control of our management, including transactions in which
stockholders might otherwise receive a premium for their shares over then
current market prices.

In addition to historical facts or statements of current condition, this
report contains forward-looking statements. Forward-looking statements provide
our current expectations or forecasts of future events. These may include
statements regarding anticipated scientific progress in our research programs,
development of potential pharmaceutical products, prospects for regulatory
approval, manufacturing capabilities, market prospects for our products, sales
and earnings projections, and other statements regarding matters that are not
historical facts. Some of these forward-looking statements may be identified by
the use of words in the statements such as "anticipate," "estimate," "expect,"
"project," "intend," "plan," "believe" or other words and terms of similar
meaning. Our performance and financial results could differ materially from
those reflected in these forward-looking statements due to general financial,
economic, regulatory and political conditions affecting the biotechnology and
pharmaceutical industries as well as more specific risks and uncertainties such
as those set forth above and in our reports to the SEC on Forms 8-K and 10-K.
Given these risks and uncertainties, any or all of these forward-looking
statements may prove to be incorrect. Therefore, you should not rely on any such
forward-looking statements. Furthermore, we do not intend (and we are not
obligated) to update publicly any forward-looking statements. This discussion is
permitted by the Private Securities Litigation Reform Act of 1995.

17
<PAGE>

Liquidity and Capital Resources

Cash, cash equivalents, and investments at March 31, 2000 were
$155,102,000, representing 79% of total assets.

The following is a summary of selected cash flow information:

<TABLE>
<CAPTION>
Three Months
Ended March 31,
---------------------------------
2000 1999
------------ ------------
<S> <C> <C>
Net cash used for operating activities................ $(23,368,000) $(18,446,000)
Net cash provided by (used for) investing activities.. 46,003,000 (10,041,000)
Net cash (used for) provided by financing activities.. (21,654,000) 29,538,000
</TABLE>

Net Cash Used for Operating Activities

-- Operating Cash Inflows

The following is a summary of the major sources of cash receipts reflected
in net cash used for operating activities:

Three Months
Ended March 31,
-----------------------------
2000 1999
----------- ----------
PROVIGIL sales........................ $12,655,000 $ 402,000
TAP Holdings Inc...................... 2,691,000 2,179,000
Abbott Laboratories, Inc.............. 1,840,000 --
H. Lundbeck A/S....................... 645,000 --
Bristol-Myers Squibb Company.......... 349,000 683,000
Medtronic, Inc........................ -- 543,000
Interest.............................. 2,968,000 1,006,000

Sales of PROVIGIL commenced in the United Kingdom in March 1998 and in the
United States and the Republic of Ireland in February 1999. In June 1999, we
began promoting and marketing PROVIGIL in Austria. At March 31, 2000, $5,221,000
was receivable from sales of PROVIGIL.

The increase in reimbursement from TAP in 2000 is due to an increase in
headcount allocated to the TAP program and expenditures associated with a
transfer of manufacturing technology related to the production of compounds in
development to an alternate manufacture. At March 31, 2000, $920,000 was
receivable from TAP.

The $1,840,000 received from Abbott in the first quarter of 2000 represents
compensation for our GABITRIL sales and marketing efforts from the commencement
of the agreement in June 1999 to December 1999. At March 31, 2000, $738,000 was
receivable from Abbott.

In May 1999, we entered into a collaborative agreement with H. Lundbeck A/S
to discover, develop and market products to treat neurodegenerative diseases.
The payment of $645,000 received from Lundbeck represents reimbursement of our
research and development efforts in the fourth quarter of 1999. At March 31,
2000, $1,819,000 was receivable from Lundbeck.

The decrease in amounts received from Bristol-Myers in 2000 as compared to
1999 is due to a reduction in STADOL NS sales. At March 31, 2000, $258,000 was
receivable from Bristol-Myers.

18
<PAGE>

Under an April 1997 agreement with Medtronic, Inc., we were co-promoting
Intrathecal Baclofen Therapy (ITB(TM)) to neurologists and physiatrists in the
United States for the treatment of intractable spasticity. The agreement with
Medtronic terminated in April 1999.

The increase in interest received in 2000 compared to 1999 was due to
higher average investment balances and higher average rates of return on
investments.

--Operating Cash Outflows

Operating cash outflows increased in the three months ended March 31, 2000
as compared to the corresponding period in 1999 as a result of expenditures
related to the purchase of PROVIGIL inventory, expenditures related to a 35%
increase in headcount from period to period and as a result of a premium of
$5,500,000 associated with the prepayment of the revenue-sharing notes.

Net Cash Provided by (Used for) Investing Activities

The following is a summary of net cash provided by (used for) investing
activities:

<TABLE>
<CAPTION>
Three Months
Ended March 31,
---------------------------
2000 1999
----------- ------------
<S> <C> <C>
Purchases of property and equipment....................... $ (894,000) $ (23,000)
Sales and maturities (purchases) of investments, net...... 46,897,000 (10,018,000)
----------- ------------
Net cash provided by (used for) investing activities.... $46,003,000 $(10,041,000)
=========== ============
</TABLE>

Sales and maturities of investments represent the liquidation of
investments. Purchases of investments represent the accumulation of investments.

Net Cash (Used for) Provided by Financing Activities

The following is a summary of net cash (used for) provided by financing
activities:

<TABLE>
<CAPTION>
Three Months
Ended March 31,
------------------------------
2000 1999
------------ -----------
<S> <C> <C>
Proceeds from exercises of common stock options and warrants............. $ 11,092,000 $ 20,000
Proceeds from issuance of long-term debt................................. -- 30,000,000
Dividend payments on preferred stock..................................... (2,266,000) --
Principal payments on and retirements of long-term debt.................. (30,480,000) (482,000)
------------ -----------
Net cash (used for) provided by financing activities................... $(21,654,000) $29,538,000
============ ===========
</TABLE>

During the quarter ended March 31, 2000, we received proceeds of
$11,092,000 for the exercise of approximately 1,346,000 common stock options and
warrants. At March 31, 2000, 5,804,184 common stock options and warrants
remained outstanding. The extent and timing of future warrant and option
exercises, if any, are primarily dependent upon the market price of Cephalon's
common stock, as well as the exercise prices and expiration dates of the
warrants and options.

Proceeds from the issuance of long-term debt in the three months ended
March 31, 1999 consist of a private placement of $30,000,000 of revenue-sharing
notes. These notes were repaid in the first quarter of 2000.

During 1999, we completed a sale of 2,500,000 shares of convertible
exchangeable preferred stock at $50 per share. Dividends are cumulative at the
annual rate of $3.625 per share of preferred stock.

19
<PAGE>

Principal payments on and retirements of long-term debt include payments on
mortgage loans and payments on capital lease obligations.

--Cash and Funding Requirements Outlook

We believe that our cash and investment balance as of March 31, 2000 will
be adequate to fund our expected level of operations for at least several years.

We expect cash flow from operating activities to continue to be negative
until sales from PROVIGIL generate cash inflows in excess of the level of cash
outflows from operations. We cannot accurately predict the effect of certain
developments on PROVIGIL sales such as the degree of market acceptance of
PROVIGIL, competition, the effectiveness of our sales and marketing efforts and
our ability to demonstrate the utility of PROVIGIL in disorders other than
narcolepsy. Cash inflows also include receipts from our collaborative research
and development agreements and from co-promotion agreements. The continuation of
funding under any of these agreements is subject to the achievement of certain
milestones and periodic review by the parties involved.

We expect our cash requirements for PROVIGIL to increase for the next
several years due to efforts associated with the commercialization of PROVIGIL
in the United States, including sales and marketing activities, building
PROVIGIL inventory and conducting clinical studies of PROVIGIL in disorders
other than narcolepsy. Additionally, under our collaboration with Abbott, we are
obligated to fund marketing and clinical trial activities for GABITRIL.

We expect to increase our expenditure of funds on research and development
activities for our other products in development. We may seek sources of funding
for a portion of these research programs through collaborative arrangements with
third parties but since we intend to retain a portion of the commercial rights
to these programs, we still expect to spend significant funds on our share of
the cost of these programs, including the costs of research, preclinical
development, clinical research and manufacturing.

Additionally, we also will require substantial funds to:

. expand and renovate our West Chester facility;
. pay quarterly preferred stock dividends;
. obtain additional product rights through licensing or acquisition.

20
<PAGE>

Commitments and Contingencies

--Related Party

In August 1992, we exclusively licensed our rights to MYOTROPHIN for human
therapeutic use within the United States, Canada and Europe to CCP. We perform
any development and clinical testing of MYOTROPHIN on behalf of CCP under a
research and development agreement with CCP.

--Legal Proceedings

In November 1999, we received a federal grand jury subpoena in connection
with an investigation which we believe relates to the release of certain lots of
MYOTROPHIN used in clinical trials and related reports filed with the FDA during
the period 1994-96. On August 30, 1999, an order issued by the U.S. District
Court for the Eastern District of Pennsylvania became final that approved the
settlement of an action stemming from allegations that statements made about the
results of certain clinical studies of MYOTROPHIN were misleading. A further
complaint has been filed with the Court alleging liability under common law for
misrepresentations relating to these same studies and for failing to prevent
certain non-employees from trading in Cephalon common stock on the basis of
material inside information. We have filed a motion to dismiss these claims
which is pending with the Court. See "Certain Risks Related to Cephalon's
Business."

Results of Operations

This section should be read in conjunction with the more detailed
discussion under "Liquidity and Capital Resources."

The following is a summary of revenues and expenses:

<TABLE>
<CAPTION>
Three Months
Ended March 31,
------------------------------------
2000 1999 % change
----------- ----------- --------
<S> <C> <C> <C>
Product sales - PROVIGIL...................... $13,463,000 $ 1,730,000 678%
Other revenues................................. 4,833,000 2,500,000 93
Cost of product sales - PROVIGIL............... 1,792,000 188,000 853
Research and development expenses.............. 12,902,000 9,972,000 29
Selling, general and administrative expenses... 14,983,000 13,614,000 10
Interest income (expense), net................. 1,810,000 (397,000) (556)
Preferred stock dividends...................... 2,266,000 -- --
</TABLE>

21
<PAGE>

PROVIGIL

Product sales are recognized upon shipment of product and are recorded net
of reserves for returns and allowances. Sales of PROVIGIL were initiated in
United Kingdom in March 1998 and in the United States and the Republic of
Ireland in February 1999. In June 1999, we began promoting and marketing
PROVIGIL in Austria. For the three months ended March 31, 2000, shipments of
PROVIGIL to customers were $14,052,000 and $589,000 was recorded for returns and
allowances, resulting in net product sales of $13,463,000. Four pharmaceutical
wholesalers accounted for 88% of U.S. gross product sales in the first quarter
of 2000. For the three months ended March 31, 1999, shipments of PROVIGIL to
customers were $5,788,000, and $4,058,000 was recorded for returns and
allowances, resulting in net product sales of $1,730,000.

For the three months ended March 31, 1999, cost of product sales was 11% of
sales and consisted primarily of royalties and supply payments due to Lafon. All
of the PROVIGIL sold in the United States during 1999 was produced prior to its
December 1998 FDA approval and, in accordance with Statement of Financial
Accounting Standards No. 2 "Accounting for Research and Development Costs," the
costs of producing that material were recorded as research and development
expense in those prior periods. As of December 31, 1999, we maintained
approximately $354,000 of inventory on hand that was previously charged to
research and development expense. This remaining expensed material was sold
during the first quarter of 2000 and our cost of product sales increased to 13%
of sales in the first quarter of 2000. Future cost of sales expressed as a
percentage of sales will increase from the levels recorded in 1999 and the first
quarter of 2000.

Three months ended March 31, 2000 compared to the three months ended March
31, 1999

Other revenues increased in the three months ended March 31, 2000 from the
1999 period due primarily to revenue recognized under our collaboration
agreement with H. Lundbeck A/S which was initiated in May 1999 and revenue
recognized under our collaborative agreement with Abbott Laboratories which was
entered into in June 1999. This increase was partially offset by a decrease in
revenue recognized under the Medtronic co-promotion agreement which terminated
in April 1999 and by a decrease in reimbursable expenses incurred under our
collaboration agreement with TAP.

For the three months ended March 31, 2000, research and development
expenses increased from the same 1999 period due primarily to expenditures
associated with an increase in costs for PROVIGIL activities, expenditures
associated with our compounds in development and support activities for patent
filings.

The increase in the selling, general and administrative area for the three
months ended March 31, 2000 as compared to the corresponding 1999 period was due
primarily to marketing expenses associated with the commercialization of
PROVIGIL and the collaboration agreement with Abbott, an increase in the size of
our sales force to fully support both PROVIGIL and our collaboration with Abbott
to market GABITRIL. This increase was partially offset by the recording of a
$4,300,000 provision in the first quarter of 1999 associated with the settlement
of the then-current securities litigation.

The increase in net interest income in the first quarter of 2000 is
primarily due to higher average investment balances and higher average rates of
return on investments.

Preferred dividends of $2,266,000 were recognized in the first quarter of
2000 in connection with the August 1999 private offering of 2,500,000 shares of
convertible exchangeable preferred stock.

22
<PAGE>

Results of operations outlook

We expect to continue to incur operating losses unless and until sales of
PROVIGIL exceed operating expenses. We expect that sales of PROVIGIL may be
limited since we can only market the product to treat excessive daytime
sleepiness associated with narcolepsy. We may never be able to achieve
profitability solely through sales of PROVIGIL even if our market-base is
expanded to include other indications. As of April 1, 2000, we increased the
sales price of PROVIGIL charged to pharmaceutical wholesalers by 5%.

Other revenues include revenue recognized under collaborative research and
development agreements and co-promotion agreements. The continuation of any of
these agreements is subject to the achievement of certain milestones and
periodic review by the parties involved.

We expect to continue to incur significant expenditures associated with the
commercialization of PROVIGIL in the United States, including sales and
marketing activities, and conducting clinical studies of PROVIGIL in disorders
other than narcolepsy. Additionally, under our agreement with Abbott, we are
obligated to fund specified levels of marketing and clinical trial activities
for GABITRIL.

We expect to increase our expenditures on research and development
activities for our other products in development. We may seek sources of funding
for these research and development programs through collaborative arrangements
with third parties but we still expect to have significant expenditures for our
share of the costs of these programs, including the costs of research,
preclinical development, clinical research and manufacturing. As a result of our
sale of 2,500,000 shares of convertible exchangeable preferred stock during the
third quarter of 1999, we will continue to recognize quarterly preferred stock
dividends unless the preferred stock is converted into convertible debentures or
shares of our common stock.

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

. PROVIGIL sales, including changes in the provision for product
returns;

. the cost of PROVIGIL sales;

. achievement and timing of research and development milestones;

. co-promotion and other collaboration revenues;

. cost and timing of clinical trials; and

. marketing and other expenses.

In connection with the issuance in December 1999 of Staff Accounting
Bulletin No. 101 "Revenue Recognition in Financial Statements," or SAB 101, we
expect that we will be required to defer non-refundable license fees recorded in
1999 and recognize the related revenue over future periods. The SEC is requiring
adoption of SAB 101 no later than the second quarter of 2000. In accordance with
SAB 101, we expect to report a change in accounting principles and to record the
impact of this change as a cumulative effect in our statement of operations.

In association with the purchase of our West Chester facilities in March
1995, we obtained funding from the Commonwealth of Pennsylvania. This funding
has a 15-year term with an annual interest rate of 2% which was to be increased
to prime plus 2% if we failed to hire a specified number of new employees in
Chester County, Pennsylvania by the end of 1999. We have been paying at the 2%
rate and accruing interest at the higher rate. The Commonwealth of Pennsylvania
has waived the interest penalty, and in our statement of operations for the
second quarter of 2000, we expect to recognize interest income for the interest
differential of $4,008,000 that was previously accrued.

23
<PAGE>

We do not believe that inflation has had a material impact on the results
of our operations since our inception.

24
<PAGE>

PART II - OTHER INFORMATION
----------------------------

Item 1. Legal Proceedings

The information set forth in Footnote 4 to the Notes to
Consolidated Financial Statements included herein is hereby
incorporated by reference.

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits:

<TABLE>
<CAPTION>
Exhibit
No. Description of Exhibit
------- ----------------------
<S> <C>
10.5(n) Amendment No. 7 to License Agreement and Supply Agreement dated
January 27, 2000, between Cephalon, Inc. and Laboratoire L. Lafon. *

10.5(o) Amendment No. 8 to License Agreement and Supply Agreement dated
January 27, 2000, between Cephalon, Inc. and Laboratoire L. Lafon. *

27.1 Financial Data Schedule
</TABLE>

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

(b) Reports on Form 8-K:

During the quarter ended March 31, 2000, the Registrant filed a
Current Report on Form 8-K for the following event:

(i) On January 5, 2000, Cephalon, Inc. announced that it had agreed
to accelerate the maturity of the revenue-sharing notes that were
initially offered in a private sale in February 1999. The notes
matured during the first quarter of 2000, and were retired for an
aggregate cash payment of $35.5 million.

25
<PAGE>

SIGNATURES

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

CEPHALON, INC.
(Registrant)

May 15, 2000 By /s/ Frank Baldino, Jr.
-----------------------------------
Frank Baldino, Jr., Ph.D.
Chairman and Chief Executive Officer
(Principal executive officer)

By /s/ J. Kevin Buchi
-----------------------------------
J. Kevin Buchi
Senior Vice President, Chief Financial Officer
(Principal financial and accounting officer)

<PAGE>

EXHIBIT 10.5(N)

January 27, 2000

Laboratoire L. Lafon
19 Avenue du Professeur-Cadiot
94701 Maisons Alfort
France

Re: Amendment No. 7 to License Agreement and Supply Agreement
---------------------------------------------------------

Gentlemen:

This letter agreement shall serve as an amendment to (a) the License
Agreement dated January 20, 1993, as previously amended (the "License
Agreement") between Cephalon, Inc. ("Cephalon") and Laboratoire L. Lafon
("Lafon"), and (b) the Supply Agreement dated January 20, 1993, as previously
amended (the "Supply Agreement") between Cephalon and Lafon. All capitalized
terms not otherwise defined herein shall be used as defined in the License
Agreement.

1. The term "Territory," for all purposes under the License Agreement and
the Supply Agreement, is hereby expanded to include all of the countries of
Central and South America (collectively, the "Latin American Territory"). In
addition, the United Mexican States ("Mexico") hereafter shall be treated as
part of the Latin American Territory and, therefore, to the extent that the
terms of this Amendment modify or conflict with any of the terms and conditions
(including, without limitation, financial terms) previously established under
the License Agreement and the Supply Agreement relating to the sale and
marketing of the Product in Mexico, then such terms are hereby superceded by the
terms of this Amendment which shall govern the relationship of the parties as to
that country.

2. Appendix A to the License Agreement is hereby amended to add all
patents and patent applications related to the composition, manufacture or use
of modafinil that have been, or may be, filed or registered in the Latin
American Territory.

3. In consideration of the expansion of the Territory (and in addition to
any compensation otherwise payable with respect to countries outside of the
Latin American Territory under the terms of the License Agreement and the Supply
Agreement), Cephalon and Lafon will share equally any upfront fees or payments
that may be paid by third parties to Cephalon in consideration of being granted
distribution rights in any countries within the Latin American Territory.

4. Lafon will supply Cephalon with Compound under the terms of the Supply
Agreement in such quantities as may be necessary to meet all customer demand in

**Certain portions of this exhibit have been omitted based upon a request for
confidential treatment that has been filed with the Commission. The omitted
portions have been filed separately with the Commission.
<PAGE>

Laboratoire L. Lafon
January 27, 2000
Page -2-

the Latin American Territory, and Cephalon will pay Lafon for such Compound an
amount equal to [**] percent [**] of Net Sales in the Latin American Territory.

5. Section 1.b. of Article V of the License Agreement is hereby amended
and restated in its entirety as follows: Cephalon also will pay Lafon an amount
equal to [**] percent [**] of Net Sales in the Latin American Territory up to an
aggregate annual amount of US[**]; [**] percent [**] of Net Sales in the Latin
American Territory for that portion of the aggregate annual amount in excess of
US[**] but less than or equal to US[**]; and [**] percent [**] of Net Sales in
the Latin American Territory for that portion of the aggregate annual amount
that exceeds US[**].

6. Sections 3.b and 3.c of the License Agreement shall not apply to the
Latin American Territory. Instead, the following provisions shall apply to
product registration activities in the Latin American Territory:

3.b. It is agreed that all product registrations (and applications)
within the Latin American Territory are to be in the name of Cephalon (or the
name of its Affiliate or sublicensee). Lafon shall take such actions as may be
required to identify Cephalon (or its Affiliate or sublicensee) as the applicant
and the holder of the product license in the respective country within the Latin
American Territory and, at the request of Cephalon, shall execute any documents
or instruments required under applicable law to confirm the authorization
granted hereunder and to apply for any other authorizations that may be required
to market the Licensed Product in the Latin American Territory, and/or join in
any such application by Cephalon, if required. Cephalon (or its Affiliate or
sublicensee) shall have the right to meet with the appropriate regulatory
authorities (including pricing and reimbursement authorities), but shall keep
Lafon informed of all such meetings and, upon request, shall provide Lafon with
copies of all relevant correspondence with such authorities.

3.c. Cephalon shall conduct, at its own expense, all necessary trials
for purposes of obtaining regulatory approvals of the Licensed Product in the
Latin American Territory.

3.d. Lafon will furnish Cephalon, upon request, with any copies of
correspondence or communications, whether occurring prior to the date hereof or
hereafter, that may exist between Lafon and any regulatory authorities in the
Latin American Territory related to application(s) for marketing approval for
the Licensed Product in the Latin American Territory.

Laboratoire L. Lafon
January 27, 2000
Page -3-

shall not be responsible to any third party asserting a claim through Lafon with
respect to the development, manufacture or sale of Licensed Product for the
Latin American Territory.

8. Except as specifically supplemented by this letter agreement, all
provisions of each of the License Agreement and the Supply Agreement (in each
case, as amended prior to the date hereof) are confirmed to be and shall remain
in full force and effect.

If the foregoing is acceptable, please indicate your agreement in the space
provided below.

CEPHALON, INC.

By: /s/ Frank Baldino, Jr.
-----------------------------------
Frank Baldino, Jr., Ph.D.
President and Chief Executive Officer

AGREED, ACKNOWLEDGED AND ACCEPTED:

LABORATOIRE L. LAFON

By: /s/ F.C. Lafon
-----------------------------
F.C. Lafon
Chief Executive Officer

<PAGE>

EXHIBIT 10.5(O)

January 27, 2000

Laboratoire L. Lafon
19 Avenue du Professeur-Cadiot
94701 Maisons Alfort
France

Re: Amendment No. 8 to License Agreement and Supply Agreement
---------------------------------------------------------

Gentlemen:

1. The term "Territory," for all purposes under the License Agreement and
the Supply Agreement, is hereby expanded to include South Korea and Taiwan
(collectively, the "Asian Territory").

3. In consideration of the expansion of the Territory (and in addition to
any compensation otherwise payable with respect to countries outside of the
Asian Territory, Territory under the terms of the License Agreement and the
Supply Agreement), Cephalon and Lafon will share equally any upfront fees or
payments that may be paid by third parties to Cephalon in consideration of being
granted distribution rights in any countries within the Asian Territory.

4. Lafon will supply Cephalon with Compound in such quantities as may be
necessary to meet all customer demand in the Asian Territory under the terms of
the Supply Agreement, and Cephalon will pay Lafon for such Compound an amount
equal to [**] percent [**] of Net Sales in the Asian Territory.

Laboratoire L. Lafon
January 27, 2000
Page -2-

aggregate annual amount in excess of US[**] but less than or equal to US[**];
and [**] percent [**] of Net Sales in the Asian Territory for that portion of
the aggregate annual amount that exceeds US[**].

6. Sections 3.b and 3.c of the License Agreement shall not apply to the
Asian Territory. Instead, the following provisions shall apply to product
registration activities in the Asian Territory:

3.b. It is agreed that all product registrations (and applications)
within the Asian Territory are to be in the name of Cephalon (or the name of its
Affiliate or sublicensee). Lafon shall take such actions as may be required to
identify Cephalon (or its Affiliate or sublicensee) as the applicant and the
holder of the product license in the respective country within the Asian
Territory and, at the request of Cephalon, shall execute any documents or
instruments required under applicable law to confirm the authorization granted
hereunder and to apply for any other authorizations that may be required to
market the Licensed Product in the Asian Territory, and/or join in any such
application by Cephalon, if required. Cephalon (or its Affiliate or sublicensee)
shall have the right to meet with the appropriate regulatory authorities
(including pricing and reimbursement authorities), but shall keep Lafon informed
of all such meetings and, upon request, shall provide Lafon with copies of all
relevant correspondence with such authorities.

3.c. Cephalon shall conduct, at its own expense, all necessary trials
for purposes of obtaining regulatory approvals of the Licensed Product in the
Asian Territory.

3.d. Lafon will furnish Cephalon, upon request, with any copies of
correspondence or communications, whether occurring prior to the date hereof or
hereafter, that may exist between Lafon and any regulatory authorities in the
Asian Territory related to application(s) for marketing approval for the
Licensed Product in the Asian Territory.

7. Each of Cephalon and Lafon hereby restates its respective
representations and warranties made in the License Agreement and the Supply
Agreement, as each such agreement has been amended pursuant to this letter
agreement. Lafon confirms that it is free to enter into this letter agreement,
without obligation to any third party. Cephalon shall not be responsible to any
third party asserting a claim through Lafon with respect to the development,
manufacture or sale of Licensed Product for the Asian Territory.

Laboratoire L. Lafon
January 27, 2000
Page -3-

If the foregoing is acceptable, please indicate your agreement in the space
provided below.

CEPHALON, INC.

By: /s/ Frank Baldino, Jr.
-----------------------------------
Frank Baldino, Jr., Ph.D.
President and Chief Executive Officer

AGREED, ACKNOWLEDGED AND ACCEPTED:

LABORATOIRE L. LAFON

By: /s/ F.C. Lafon
-----------------------------
F.C. Lafon
Chief Executive Officer

<PAGE>

<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM "CEPHALON,
INC.'S FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 2000* AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<CIK> 0000873364
<NAME> CEPHALON, INC.

<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 14,281,000
<SECURITIES> 140,821,000
<RECEIVABLES> 5,908,000
<ALLOWANCES> 0
<INVENTORY> 11,747,000
<CURRENT-ASSETS> 174,237,000
<PP&E> 36,087,000
<DEPRECIATION> 15,609,000
<TOTAL-ASSETS> 196,399,000
<CURRENT-LIABILITIES> 20,220,000
<BONDS> 13,519,000
0
25,000
<COMMON> 339,000
<OTHER-SE> 158,089,000
<TOTAL-LIABILITY-AND-EQUITY> 196,399,000
<SALES> 13,463,000
<TOTAL-REVENUES> 18,296,000
<CGS> 1,792,000
<TOTAL-COSTS> 1,792,000
<OTHER-EXPENSES> 12,902,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,212,000
<INCOME-PRETAX> (9,571,000)
<INCOME-TAX> 0
<INCOME-CONTINUING> (9,571,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (11,837,000)
<EPS-BASIC> (0.36)
<EPS-DILUTED> (0.36)

</TABLE>