GLIATECH INC, S-1/A, 1996-05-15

GLIATECH INC
S-1/A, 1996-05-15
BIOLOGICAL PRODUCTS, (NO DIAGNOSTIC SUBSTANCES)

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<PAGE> 1

AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MAY 15, 1996

REGISTRATION STATEMENT NO. 333-4604

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

SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------------

AMENDMENT NO. 1 TO

FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------

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

<TABLE>
<S> <C> <C>
DELAWARE 2834 34-1587242
(State or other jurisdiction of (Primary standard industrial (I.R.S. employer
incorporation or organization) classification code number) identification number)
</TABLE>

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

23420 COMMERCE PARK ROAD
CLEVELAND, OHIO 44122
(216) 831-3200
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)
------------------

THOMAS O. OESTERLING, PH.D.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
GLIATECH INC.
23420 COMMERCE PARK ROAD
CLEVELAND, OHIO 44122
(216) 831-3200
(Name, address, including zip code, and telephone number,
including area code, of agent for service)
------------------

COPIES TO:

<TABLE>
<S> <C>
THOMAS C. DANIELS, ESQ. JAMES R. TANENBAUM, ESQ.
JONES, DAY, REAVIS & POGUE STROOCK & STROOCK & LAVAN
901 LAKESIDE AVENUE 7 HANOVER SQUARE
CLEVELAND, OHIO 44114 NEW YORK, NEW YORK 10004
(216) 586-3939 (212) 806-5400
</TABLE>

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APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable
after this Registration Statement has become effective.
------------------

If the securities being registered on this Form are being offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. / /

If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / /

If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /

If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /

CALCULATION OF REGISTRATION FEE

<TABLE>
<C> <S> <C> <C> <C>
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------------------------------------------------------------------------------------------------------------------
Title of each class of Proposed maximum Amount of
securities to be registered aggregate offering price(1) registration fee(2)
------------------------------------------------------------------------------------------------------------------
Common Stock, $0.01 par value per
share $23,625,000 $8,147
------------------------------------------------------------------------------------------------------------------
------------------------------------------------------------------------------------------------------------------
</TABLE>

(1) Estimated solely for the purpose of determining the registration fee in
accordance with Rule 457(o).

(2) On May 3, 1996, the Company filed the Registration Statement indicating
$20,062,500 in maximum aggregate offering price and paid a fee of $6,919. An
additional fee of $1,228 is paid herewith with respect to an additional
$3,562,500 in aggregate offering price.

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THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A)
MAY DETERMINE.

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<PAGE> 2

GLIATECH INC.
CROSS-REFERENCE SHEET
PURSUANT TO ITEM 501(b) OF REGULATION S-K

<TABLE>
<CAPTION>
ITEM
NO. FORM S-1 HEADING CAPTION OR LOCATION IN PROSPECTUS
- ---- ------------------------------------------ ------------------------------------------
<C> <S> <C>
1. Forepart of the Registration Statement and
Outside Front Cover Page of Prospectus.... Front Cover Page of the Registration
Statement; Front Cover Page of Prospectus
2. Inside Front and Outside Back Cover Pages
of Prospectus............................. Inside Front and Outside Back Cover Pages
of Prospectus
3. Summary Information, Risk Factors and
Ratio of Earnings to Fixed Charges........ Prospectus Summary; Risk Factors
4. Use of Proceeds........................... Prospectus Summary; Use of Proceeds
5. Determination of Offering Price........... Outside Front Cover Page of Prospectus
6. Dilution.................................. Dilution
7. Selling Security Holders.................. Selling Stockholders
8. Plan of Distribution...................... Outside Front Cover Page of Prospectus;
Plan of Distribution
9. Description of Securities to be
Registered................................ Prospectus Summary; Description of Capital
Stock
10. Interests of Named Experts and Counsel.... Legal Matters; Experts
11. Information with Respect to the Registrant
(a) Description of Business............... Business
(b) Description of Property............... Business
(c) Legal Proceedings..................... Business
(d) Market Price of and Dividends on
Registrant's Common Equity and Related
Stockholder Matters................... Common Stock Market Prices and Dividend
Policy
(e) Financial Statements.................. Index to Financial Statements
(f) Selected Financial Data............... Selected Consolidated Financial Data
(g) Supplementary Financial Information... Not Applicable
(h) Management's Discussion and Analysis
of Financial Condition and Results of
Operations............................ Management's Discussion and Analysis of
Financial Conditions and Results of
Operations
(i) Changes in and Disagreements with
Accountants on Accounting and
Financial Disclosure.................. Not Applicable
(j) Directors and Executive Officers...... Management
(k) Executive Compensation................ Executive Compensation
(l) Security Ownership of Certain
Beneficial Owners and Management.......... Principal Stockholders
(m) Certain Relationships and Related
Transactions.......................... Executive Compensation; Certain
Transactions
12. Disclosure of Commission Position on
Indemnification for Securities Act
Liabilities............................... Not Applicable
</TABLE>
<PAGE> 3

INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR
MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT
BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR
THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE
SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE
UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS
OF ANY SUCH STATE.

SUBJECT TO COMPLETION, DATED MAY 15, 1996

PROSPECTUS

1,750,000 SHARES

COMMON STOCK
------------------------

Of the 1,750,000 shares of Common Stock, $0.01 par value per share (the
"Common Stock"), offered hereby, 1,500,000 are being issued and sold by Gliatech
Inc., a Delaware corporation (the "Company"), and 250,000 are being sold by
certain selling stockholders (the "Selling Stockholders"). The Company will not
receive any of the proceeds from the sale of shares by the Selling Stockholders.
The Common Stock is quoted on the Nasdaq National Market under the symbol
"GLIA." On May 14, 1996, the last reported sale price of the Common Stock, as
reported on the Nasdaq National Market, was $13.50 per share. See "Common Stock
Market Prices and Dividend Policy."

SEE "RISK FACTORS" LOCATED BEGINNING ON PAGE 6 OF THIS PROSPECTUS FOR A
DISCUSSION OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE
PURCHASERS OF THE COMMON STOCK OFFERED HEREBY.

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

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.

<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
PROCEEDS TO
PRICE TO PLACEMENT AGENT PROCEEDS TO SELLING
PUBLIC FEE (1) COMPANY (2)(3) STOCKHOLDERS
Per Share................... $ $ $ $
Total....................... $ $ $ $
</TABLE>

(1) The Common Stock is being offered on an all or none basis by the Company and
the Selling Stockholders principally to selected institutional investors,
including current institutional holders of the Company's Common Stock.
Vector Securities International, Inc., Montgomery Securities and McDonald &
Company Securities, Inc. (the "Placement Agents") have been retained to act,
on a best efforts basis, as agents for the Company in connection with the
arrangement of this transaction. The Company has agreed to pay the Placement
Agents a fee in connection with the offering and to reimburse the Placement
Agents for certain out-of-pocket expenses. The Company and the Selling
Stockholders have agreed to indemnify the Placement Agents against certain
liabilities under the Securities Act of 1933 (the "Securities Act.") See
"Plan of Distribution."

(2) The termination date of the offering is ______________, 1996. Prior to the
closing date of this best efforts, all or nothing, offering all investor
funds will be promptly placed in escrow with Citibank, N.A., as escrow agent
for funds collected in connection with the offering (the "Escrow Agent"), in
an escrow account established for the benefit of the investors. Upon receipt
of notice from the Escrow Agent that investors have affirmed purchase of the
Common Stock and deposited the requisite funds in the escrow account, the
Company and the Selling Stockholders will deposit with the Depository Trust
Company the shares of Common Stock to be credited to the accounts of the
investors and will collect the investor funds from the Escrow Agent. In the
event that investor funds are not received in the full amount necessary to
satisfy the requirements of the offering, all funds deposited with the
Escrow Agent will be promptly returned to the investors. See "Plan of
Distribution."

(3) Before deducting expenses payable by the Company estimated at $400,000.

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

Vector Securities International, Inc.
Montgomery Securities
McDonald & Company
Securities, Inc.
THE DATE OF THIS PROSPECTUS IS ______________ , 1996.
<PAGE> 4

AVAILABLE INFORMATION

The Company is subject to the informational requirements of the Securities
Exchange Act of 1934 (the "Exchange Act"), and in accordance therewith files
reports, proxy statements, information statements and other information with the
Securities and Exchange Commission (the "Commission"). Reports and other
information concerning the Company can be inspected and copied at the public
reference facilities maintained by the Commission at Room 1024, Judiciary Plaza,
450 Fifth Street, N.W., Washington, D.C. 20549; The Citicorp Center, 500 West
Madison Street, Suite 1400, Chicago, Illinois 60661; and Seven World Trade
Center, 13th Floor, New York, New York 10048. Copies of such material can be
obtained from the Public Reference Room of the Commission at 450 Fifth Street,
N.W., Washington, D.C. 20549, at prescribed rates.

The Company has filed with the Commission a registration statement (the
"Registration Statement," which term shall include any amendments thereto, on
Form S-1 under the Securities Act), with respect to the shares of Common Stock
offered hereby. This Prospectus does not contain all the information set forth
in the Registration Statement and the exhibits and schedules thereto, 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 Common
Stock offered hereby, reference is made to the Registration Statement, including
the exhibits and schedules thereto. The Registration Statement can be inspected
at the Public Reference Room of the Commission at 450 Fifth Street, N.W.,
Washington, D.C. 20549.

ADCON(R) is a registered trademark of the Company.

2
<PAGE> 5

PROSPECTUS SUMMARY

The following summary is qualified in its entirety by, and should be read
in conjunction with, the more detailed information and the consolidated
financial statements and related notes thereto appearing elsewhere in this
Prospectus. References in this Prospectus to the "Company" refer to Gliatech
Inc. and its subsidiaries. Prospective investors should carefully consider the
information set forth under the heading "Risk Factors."

THE COMPANY

Gliatech Inc. (the "Company") is engaged in the development and
commercialization of medical devices designed to inhibit excessive surgical
scarring and adhesion formation following surgery. Postoperative scarring and
adhesion formation can become excessive, binding together tissues and organs
causing pain, obstruction and impairment of function. Further, excessive
scarring can obstruct access to the surgical site, making additional surgery
difficult. The Company is engaged in the development and commercialization of
the ADCON family of medical devices to address such postoperative complications.
In addition, the Company is pursuing the development of drug candidates for the
treatment of certain nervous system disorders, including Alzheimer's disease,
through its strategic alliance with Janssen Pharmaceutica, N.V. of Belgium
("Janssen"), a wholly-owned subsidiary of Johnson & Johnson, and cognitive
disorders.

ADCON SURGICAL ADHESIONS PRODUCTS

The ADCON family of medical devices are being developed by the Company to
inhibit excess scarring and adhesion formation at the surgical site. The initial
ADCON products are formulated as proprietary resorbable gels for direct
application by surgeons to organs and tissues during surgery to inhibit surgical
scarring and adhesions. ADCON-L is designed to inhibit scarring and adhesions
formation following lumbar disc surgery. ADCON-T/N is designed for use in tendon
and peripheral nerve repair surgeries, such as carpal tunnel syndrome and
tenolysis. In addition to ADCON-L and ADCON-T/N, the Company is in the early
stages of development of several additional ADCON products for use in
pelvic/gynecological, abdominal, cardiac and implant/prosthetic surgeries.
Because of the differences in the body environments in which each of these
product candidates would be used, a number of different formulations may be
required.

Approximately 800,000 lumbar disc surgeries are performed annually in the
U.S., Europe and Japan with approximately 420,000, 250,000 and 130,000 performed
in the U.S., Europe and Japan, respectively. Certain of these patients
experience severe recurrent postoperative pain or impairment of daily living
activities due to surgical scarring and adhesions. Since it is not possible to
predict prior to surgery which patients are likely to develop adhesion-related
problems, the Company believes that ADCON-L is appropriate for use
prophylactically during most lumbar disc surgeries.

Based on European pivotal clinical studies and other compliance efforts and
submission of data, the Company recently obtained regulatory clearance to affix
CE Marking on ADCON-L and ADCON-T/N, thereby allowing ADCON-L and ADCON-T/N to
be marketed in the 15 European Union countries for lumbar disc surgery and
tendon and peripheral nerve repair surgery, respectively. The Company has
entered into distribution agreements with independent distributors for ADCON-L
in Austria, Belgium, France, Germany, Italy, The Netherlands, Spain, Switzerland
and the United Kingdom. For ADCON-T/N, the Company intends initially to pursue
only a limited distribution in the 15 European Union countries during 1996 and
currently has entered into distribution agreements in Austria, Belgium, Italy,
The Netherlands and Switzerland. In addition, the Company received approval from
the U.S. Food and Drug Administration ("FDA") to initiate pivotal clinical
trials for ADCON-L and ADCON-T/N in the United States. The Company is currently
enrolling patients in these clinical trials. The Company intends to submit
Premarket Approval Applications ("PMA") to the FDA upon the successful
completion of these trials.

3
<PAGE> 6

NERVOUS SYSTEM DISORDERS

The Company is also engaged in the research and development of therapeutic
products for the treatment of certain nervous system disorders, including
Alzheimer's disease, and cognitive disorders. Studies have shown that certain
glial cells and glial-derived factors are consistently associated with senile
neuritic beta-amyloid plaques, which are thought to be a key contributor to
Alzheimer's disease associated pathology. In October 1994, the Company entered
into an agreement with Janssen to collaborate on the research and development of
therapeutic products to treat Alzheimer's disease (the "Janssen Agreement"). In
addition, in September 1995, the Company entered into an addendum to the Janssen
Agreement in order to expand the scope of the collaboration. As a result of
screening compounds from Janssen's pharmaceutical library, several lead
compounds have been identified.

The Company's Cognition Modulation program is focused on a class of
compounds designed to act on the histamine H(3) receptor in the brain which
regulates sleep/wakeful states and modulates the level of arousal and alertness.
An antagonist to this receptor could lead to enhanced states of alertness for
treating narcolepsy, attention deficit hyperactive disorder (ADHD) and the
cognitive deficit in Alzheimer's disease patients. The Company has identified a
number of lead compounds and is currently conducting preclinical studies on
certain of these antagonist compounds. An agonist to the histamine H(3) receptor
could reduce levels of wakefulness and arousal for use in the treatment of
anxiety and insomnia.

The Company was incorporated under the laws of the State of Delaware on
August 12, 1987 and commenced operations in 1988. The Company's executive
offices are located at 23420 Commerce Park Road, Cleveland, Ohio 44122,
telephone number (216) 831-3200.

THE OFFERING

<TABLE>
<S> <C>
Common Stock offered by the Company.......... 1,500,000 shares
Common Stock offered by the Selling
Stockholders............................... 250,000 shares
Common Stock to be outstanding after the
offering................................... 8,811,036 shares (1)
Use of proceeds.............................. For research and development of products
relating to the Cognition Modulation program
of the Company, continued research and
development of ADCON products other than
ADCON-L and ADCON-T/N, working capital and
other general corporate purposes.
Nasdaq National Market symbol................ GLIA
</TABLE>

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

(1) Does not include an aggregate of 768,975 shares of Common Stock issuable
upon exercise of outstanding options granted under the Company's Stock
Option Plans (as defined herein) and 20,000 shares of Common Stock reserved
for issuance upon the exercise of warrants. See "Description of Capital
Stock -- Warrants."

4
<PAGE> 7

SUMMARY CONSOLIDATED FINANCIAL INFORMATION
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31, INCEPTION TO
--------------------------------------------------- ----------------------- MARCH 31,
1991 1992 1993 1994 1995 1995 1996 1996
------- ------- ------- --------- --------- --------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Government grants................ $ 85 $ 186 $ 302 $ 141 $ 255 $ 48 $ 38 $ 1,007
Research contracts and licensing
fees........................... -- -- -- 918 2,217 481 715 3,849
Product sales.................... -- -- -- 86 182 0 76 345
------- ------- ------- --------- --------- --------- --------- ------------
Total revenues................. 85 186 302 1,145 2,654 529 829 5,201
Operating Costs and Expenses:
Research and development......... 2,013 2,618 4,441 4,658 5,230 1,187 1,501 22,611
Selling, general and
administrative................. 825 1,693 1,674 2,365 2,599 518 779 10,888
Depreciation and amortization.... 151 279 312 272 171 47 31 1,307
------- ------- ------- --------- --------- --------- --------- ------------
Total operating costs and
expenses..................... 2,989 4,590 6,427 7,295 8,000 1,752 2,311 34,806
------- ------- ------- --------- --------- --------- --------- ------------
Loss from operations............. (2,904) (4,404) (6,125) (6,150) (5,346) (1,223) (1,482) (29,605)
Interest income, net............. 74 324 211 97 360 38 305 1,613
------- ------- ------- --------- --------- --------- --------- ------------
Net Loss....................... $(2,830) $(4,080) $(5,914) $ (6,053) $ (4,986) $ (1,185) $ (1,177) $(27,992)
====== ====== ====== ======== ======== ======== ======== ============
Net loss per common share (pro forma for 1994 and 1995)....... $ (1.30) $ (0.91) $ (0.24) $ (0.16)
======== ======== ======== ========
Shares used for purposes of computing net loss
per common share............................................ 4,651,616 5,497,351 4,928,755 7,305,441
======== ======== ======== ========
</TABLE>

<TABLE>
<CAPTION>
MARCH 31, 1996
-------------------------
ACTUAL AS ADJUSTED(1)
-------- --------------
(UNAUDITED)
<S> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and short-term investments................ $ 20,724 $ 39,359
Working capital.................................................. 20,554 39,189
Total assets..................................................... 23,311 41,946
Deficit accumulated during the development stage................. (28,931) (28,931)
Total stockholders' equity....................................... $ 22,084 $ 40,719
</TABLE>

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

(1) As adjusted data reflects the sale by the Company of 1,500,000 shares of
Common Stock and the receipt of estimated net proceeds (after deducting the
placement agents' fee and estimated offering expenses) to the Company of
$18,635,000.

5
<PAGE> 8

RISK FACTORS

Prospective investors should carefully consider, in addition to the
information set forth elsewhere in this Prospectus, the following matters in
evaluating the Company and the Common Stock offered hereby.

EARLY STAGE OF DEVELOPMENT

Since commencement of operations in 1988, the Company has been engaged in
the research, development and commercialization of medical devices designed to
inhibit excessive postoperative surgical scarring and adhesion formation and the
research and development of pharmaceutical products to treat certain nervous
system disorders. Although the Company has recently entered into agreements with
distributors for the sale of ADCON-L and ADCON-T/N in selected European
countries, it has generated only limited revenues from such products and no
assurances can be given that commercialization of these products will be
successful. ADCON-L and ADCON-T/N are in clinical trials in the U.S. and no
assurances can be given that these ADCON product candidates will prove to be
safe and effective in such U.S. clinical trials or that required U.S. regulatory
approvals will be obtained for such products. Nor can there be any assurance
that the Company will be successful in developing other ADCON products or if any
such product is developed that such device will prove to be safe and effective
in clinical trials and receive necessary regulatory approvals. The Company is
also focusing on the development of therapeutic products for use in the
treatment of certain nervous system disorders. Although several of these
candidate therapeutic products are in preclinical evaluation, the products
currently under development will require additional research and development,
including preclinical and extensive clinical testing, prior to making
application with regulatory authorities for commercial use. There can be no
assurance that the Company's research and development efforts will be successful
or that any candidate products will prove to be safe and effective in clinical
trials and receive necessary regulatory approvals. Even if the Company is able
to develop therapeutic products for the treatment of nervous system disorders
that receive required regulatory approvals, there can be no assurance that any
such products will be commercially successful. Moreover, the devices or drugs
developed by the Company may prove to have undesirable and unintended side
effects and, in some cases, may require complex delivery systems that may
prevent or limit their commercial use. The Company may also encounter problems
relating to research, development, manufacturing, distribution and marketing of
its products. The failure or inability to address such problems adequately would
have a material adverse effect on the Company's business and prospects.

HISTORY OF OPERATING LOSSES AND ACCUMULATED DEFICIT

Except for interest income, government grant revenue, research contract and
licensing fees and limited product sales, the Company has not generated any
material revenues from operations. The Company has accumulated a deficit of
$28,931,322 for the period from inception of operations (August 31, 1988)
through March 31, 1996, and it expects to incur operating losses over at least
the next several years. There can be no assurance that the Company will be able
to achieve or sustain profitability.

FUTURE CAPITAL NEEDS; UNCERTAINTY OF FUTURE FUNDING

The Company's future capital requirements will depend on many factors,
including the commercial success of its ADCON family of products, the progress
of the Company's research and development, the scope and results of preclinical
studies and clinical trials, the cost of obtaining regulatory approvals, its
success in obtaining the strategic alliances required to fund certain of its
programs, the rate of technological advances, determinations as to the
commercial potential of certain of the Company's product candidates, the status
of competitive products and the establishment of additional manufacturing
capacity. No assurance can be given that there will not be changes that will
consume the Company's available capital resources. In addition, the Company will
need to raise or obtain substantial additional funds to conduct research and
preclinical and clinical trials, to apply for the regulatory approvals necessary
to bring additional products to market, and to develop the necessary marketing,
distribution and support capabilities required to sell and distribute the
Company's

6
<PAGE> 9

products and proposed products. No assurance can be given that additional
financing will be available or, if available, that it will be available on
satisfactory terms. Any subsequent equity financing could result in dilution to
the Company's then existing stockholders. If adequate funds are not available,
the Company may be required to cut back or discontinue one or more of its
product development programs, or obtain funds through strategic alliances that
may require the Company to relinquish rights to certain of its technologies,
product candidates or products, if any. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources."

RELIANCE ON THIRD PARTIES FOR MANUFACTURING AND MARKETING OF ADCON PRODUCTS

The Company does not have any manufacturing facilities and is currently
relying on European Medical Contract Manufacturing ("EMCM"), a third party
manufacturer located in Nijmegen, The Netherlands, for the supply of ADCON-L and
ADCON-T/N for commercialization of such products in Europe. The Company
presently also utilizes EMCM for the manufacture of its requirements for its
U.S. clinical supplies. The manufacture of the Company's products are subject to
Good Manufacturing Practices regulations ("GMP") prescribed by the FDA or other
standards prescribed by the appropriate regulatory agency in the country of use.
See "Business -- ADCON Surgical Adhesions Products -- Manufacturing and
Suppliers." There can be no assurance that the Company's current manufacturer
will comply with all applicable regulatory standards or that the Company would
be able to identify an alternate source of supply on terms acceptable to the
Company. In addition, the Company currently obtains one of its key components
for the production of its ADCON products from one supplier. Although the Company
is pursuing alternative sources of raw materials, there can be no assurance that
such alternative sources will be located or that the current supply of raw
materials will continue to be provided on acceptable terms and conditions to the
Company. See "Business -- ADCON Surgical Adhesions Products -- Manufacturing and
Suppliers."

The Company has recently entered into distribution agreements with
third-party distributors for the sale of ADCON-L in Austria, Belgium, France,
Germany, Italy, The Netherlands, Spain, Switzerland and the United Kingdom and
for the sale of ADCON-T/N in Austria, Belgium, Italy, The Netherlands and
Switzerland, but the Company has not to date engaged in direct marketing or sale
of its products. In order to market its product in additional countries and sell
any additional products that it may ultimately have available for commercial
sale, the Company will need to contract with additional distributors for sales
and marketing functions. These distributors are independent third parties, and
are not employees of the Company and are not directly under the control or
supervision of the Company. There can be no assurance that the current
relationships with distributors will continue on acceptable terms and conditions
to the Company nor can there be any assurances that the Company will be able to
enter into such arrangements with third parties or that additional
distributorship arrangements with third parties for such functions will be
obtained on acceptable terms. Moreover, there can be no assurance that the
distributors will devote sufficient time and resources to the ADCON products to
enable the products to be successfully commercialized. Furthermore, there can be
no assurance that the Company will be successful in marketing its ADCON products
since the Company does not control the distribution of its products and relies
exclusively on third parties for the distribution of its products.

GOVERNMENT REGULATION

The manufacture and sale of the Company's products are subject to
regulation by numerous authorities, principally the FDA, and corresponding state
and foreign agencies. The regulatory process is lengthy, expensive and
uncertain. Prior to commercial sale in the United States, most medical devices
and new drugs, including the Company's products under development, must be
cleared or approved by the FDA. Securing FDA clearances and approvals may
require the submission of extensive clinical data and supporting information to
the FDA. Product clearances and approvals can be withdrawn for failure to comply
with regulatory requirements or upon the occurrence of unforeseen problems
following initial marketing. Sales of the Company's products outside of the
United States are

7
<PAGE> 10

subject to foreign regulatory requirements, that may vary widely from country to
country. Prior to commercial sale in the countries of the European Union, the
Company is required to comply with the Essential Requirements of the Medical
Devices Directive, which primarily relate to safety and performance, and to
undergo conformity assessment certification by a Notified Body in order to
qualify for CE Marking. The time required to obtain clearance from a foreign
country may be longer or shorter than that required by the FDA or other such
agencies, and clearance or approval or other regulatory requirements may differ.
There can be no assurance that the Company will be able to obtain necessary
regulatory clearances or approvals on a timely basis, if at all, for any of its
products under development, and delays in receipt or failure to receive such
clearances or approvals, the loss of previously received clearances or
approvals, or failure to comply with existing or future regulatory requirements
could have a material adverse effect on the Company's business, financial
condition and results of operations. Moreover, regulatory clearances or
approvals for products such as medical devices and new drugs, even if granted,
may include significant limitations on the uses for which such products may be
marketed. Additionally, product clearances or approvals can be withdrawn for
failure to comply with regulatory requirements. In addition, certain material
changes to medical devices and drugs also are subject to FDA review and
approval. There can be no assurance that any clearances or approvals that are
required, once obtained will not be withdrawn or that compliance with other
regulatory requirements can be maintained.

Manufacturers of medical devices and drugs also are required to adhere to
the FDA regulations setting forth requirements for GMP regulations and similar
requirements, in other countries, which include requirements relating to product
testing and quality assurance as well as the corresponding maintenance of
records and documentation. Failure to comply with applicable GMP, other
applicable regulatory standards, or, where required by law, the standards of
International Standard Organization ("ISO"), could result in sanctions being
imposed on the Company or the manufacture of its products, including warning
letters, fines, injunctions, civil penalties, failure of the FDA or other
regulatory authorities to grant premarket clearance or premarket approval of
medical devices and drugs, operating restrictions and criminal prosecution.
There can be no assurance that the current manufacturer of the Company's
products will comply with all applicable regulatory requirements or that the
Company would be able to identify a new or additional manufacturers for its
products on terms acceptable to the Company. Since certain of the Company's
products are in research or development phases, the Company cannot accurately
predict all relevant regulatory requirements or related issues. Changes in
existing laws, regulations or policies and the adoption of new laws, regulations
or policies could prevent the Company from, or could affect the timing of,
achieving compliance with regulatory requirements, including current and future
regulatory clearances or approvals, where necessary. See "Business -- Government
Regulation."

UNCERTAINTY OF HEALTH CARE REIMBURSEMENT

The Company's ability to successfully commercialize its products will
depend in part on the extent to which reimbursement for the costs of such
products and related treatments will be available from government health
administration authorities, private health coverage insurers and other
organizations. In addition, in both the U.S. and elsewhere, sales of health care
products are dependent on the availability of reimbursement to the consumer from
third-party payers, such as government and private insurance plans. Significant
uncertainty exists as to the reimbursement status of newly approved health care
products, and third-party payers are increasingly challenging the prices charged
for medical products and services. There can be no assurance that ADCON products
will be considered cost effective and that reimbursement will be available or
will be sufficient to allow the Company to sell its products on a competitive
basis. The Company's business may be materially adversely affected by the
continuing efforts of governmental and third-party payers to contain or reduce
the costs of health care through various means. For example, in certain foreign
markets the pricing or profitability of health care products is subject to
government control. In the U.S., there have been, and the Company expects that
there will continue to be, a number of federal and state proposals to implement
similar government control. While the Company cannot predict whether any
legislative or regulatory proposals or reforms will be adopted, such proposals
or reforms could have a material adverse effect

8
<PAGE> 11

on the Company. If adequate coverage and reimbursement levels are not provided
by government and third-party payers for uses of the Company's products, the
market acceptance of these products could be adversely affected. See
"Business -- Government Regulation."

DEPENDENCE ON STRATEGIC ALLIANCES

The Company's strategy for its Alzheimer's disease and Cognition Modulation
programs, entails entering into various arrangements with collaborative
partners, licensors, licensees and others, and is dependent upon the subsequent
success of these outside parties in performing their responsibilities. In
October 1994, the Company entered into a collaborative agreement with Janssen
with respect to the treatment of Alzheimer's disease. Although this arrangement
is for an initial term of three years with optional renewal for years four and
five, there can be no assurance that Janssen will exercise its right to renew
the collaboration agreement for an additional two years beyond the initial term.
In September 1995, the Company entered into an addendum to the collaborative
agreement with Janssen on Alzheimer's disease to include research relating to
inhibitors of complement activation. See "Business -- Nervous System
Disorders -- Alzheimer's Disease -- The Janssen Agreement." In addition,
although the Company is currently funding its Cognition Modulation program
independently of strategic partners, the Company intends to enter into
agreements with strategic partners prior to the completion of clinical trials
for any therapeutic products relating to its Cognition Modulation program. There
can be no assurance that the Company will be able to enter into an agreement
with such a strategic partner for its Cognition Modulation program on acceptable
terms, if at all. Furthermore, there can be no assurance that its Alzheimer's
disease or Cognition Modulation programs will be successfully completed or that
the Company will be able to successfully commercialize the products developed as
part of its collaborative efforts with Janssen or as part of any future
Cognition Modulation collaborative arrangements.

TECHNOLOGICAL CHANGE AND COMPETITION

The field of technology relating to the Company's research and development
activities has undergone rapid and significant technological development. The
Company expects that the technology associated with the Company's research and
development will continue to develop rapidly, and the Company's success will
depend in large part on its ability to maintain a competitive position with
respect to this technology. Rapid technological development by the Company or
others may result in products or processes becoming obsolete before the Company
recovers any or all of its research, development and commercialization expenses.
There is substantial competition in the biopharmaceutical and medical device
industries, both from specialized firms and from major pharmaceutical, chemical,
medical device and surgical supply companies. Many of the Company's competitors
have product development capabilities and financial, and human resources greater
than the Company, and have manufacturing, marketing, sales and distribution
capabilities that the Company does not have. The Company also competes with
universities and other research institutions in the development of technologies
and processes and, in some instances, competes with others in acquiring
technology from universities and research institutions. See
"Business -- Competition." There can be no assurance that the Company will be
able to produce devices or drugs that are commercially viable. Even if the
Company achieves significant product commercialization, one or more of the
Company's competitors may achieve product commercialization or patent protection
earlier or more effectively than the Company. In addition, the Company's
products may be subject to competition from related products developed by
competitors or different products developed using techniques other than those
developed by the Company or based on advances that may render the Company's
products less competitive or obsolete, uneconomical or otherwise less
competitive.

PATENTS, LICENSES AND PROPRIETARY RIGHTS

The Company's success will depend to a significant extent on its ability to
obtain and maintain patent protection on technologies and products and preserve
trade secrets and to operate without infringing the proprietary rights of
others. The patent situation in the field of biopharmaceutical

9
<PAGE> 12

products generally is highly uncertain and involves complex legal, scientific
and factual questions. To date there has emerged no consistent policy regarding
the breadth of claims allowed in bio-

pharmaceutical patents. Accordingly, there can be no assurance that patent
applications filed by or on behalf of the Company will result in patents being
issued or that, if issued, the patents will afford protection against
competitors with similar technology. Furthermore, there can be no assurance that
others will not independently develop similar technologies or duplicate any
technology developed by the Company. Because of the extensive time required for
development, testing and regulatory review of a potential product, it is
possible that before any of the Company's potential products can be
commercialized, any related patent may expire, or remain in existence for only a
short period following commercialization, thus reducing any advantage of the
patent.

The Company has filed U.S. and corresponding foreign patent applications
relating to its product candidates in the ADCON family. Claims concerning ADCON
products in one of these applications have been allowed by the U.S. Patent and
Trademark Office. There can be no assurance, however, that remaining claims of
its U.S. or foreign patent applications will be allowed or issued or that the
ADCON products will not infringe any valid claims of any issued patents.

A dispute has arisen between Case Western Reserve University ("Case
Western") and the Company regarding inventorship of the ADCON products. Case
Western has informed the Company that it believes that one of its employees is a
co-inventor of the ADCON family of products and that the Company is therefore
obligated to pay royalties to Case Western on the sale of ADCON products. Case
Western has threatened litigation regarding this matter. The Company believes
that no Case Western employee is an inventor of the ADCON family of products.
See "-- Dispute Regarding ADCON and Potential Royalty on ADCON Sales."

The Company has also filed U.S. applications that are licensed to the
Company from the University of Toledo that relate to a series of synthetic
compounds that are histamine H(3) receptor antagonists, to the methods of their
medical uses, to pharmaceutical compositions comprising these compounds and to
processes for manufacture of certain of these compounds. A U.S. patent has been
issued that covers processes for the manufacture of intermediates for certain of
the compounds. A U.S. patent application co-owned by the Company and the
University of Toledo covering methods of medical use of a series of histamine
H(3) receptor antagonist compounds has been issued. Two additional U.S. patent
applications that are co-owned with the University of Toledo are pending.

Three further U.S. patent applications filed solely by the Company and
certain corresponding foreign applications, covering two additional series of
synthetic H(3) receptor antagonist compounds and one series of H(3) receptor
agonist compounds, their methods of medical use and pharmaceutical compositions,
are pending. No assurance can be given that any claims relating to these
products and methods will be issued.

A U.S. patent has been issued to Institut National de la Sante et de la
Recherche Medicale ("INSERM"), Societe Civile Bioprojet, and Universite de Caen
(the "INSERM patent") covering certain histamine H(3) receptor antagonists
including some of the compounds in one of the Company's co-owned series of
histamine H(3) receptor antagonist compounds. The INSERM patent has an earlier
effective filing date than that of the Company's histamine H(3) receptor
antagonist applications relating to this series of compounds. A corresponding
European patent application has also been filed by INSERM, with an earlier
effective filing date in Europe than the Company's. In the event that the U.S.
Patent and Trademark Office determines that the INSERM patent claims the same
subject matter relating to histamine H(3) receptor antagonist compounds as at
least one of the Company's applications, an interference proceeding before the
Board of Patent Appeals and Interferences may be instituted to determine who is
the first inventor under the U.S. patent laws. The Company believes that its
date of invention for the pertinent claimed subject matter in the Company's U.S.
patent applications relating to histamine H(3) receptor antagonist compounds may
be earlier than the date of invention to which INSERM is entitled. However,
should such an interference proceeding be declared, there can be no assurance
that the Company would prevail. Additionally, since under U.S. patent law the
U.S. Patent

10
<PAGE> 13

and Trademark Office keeps a U.S. patent application confidential, the Company
does not know if other U.S. patent applications relating to the INSERM patent
are pending.

Competitors or potential competitors have filed applications for, or have
been issued, patents and may obtain additional patents and proprietary rights
relating to compounds or processes competitive with those of the Company. See
"Business -- Patents, Trademarks and Trade Secrets." Accordingly, there can be
no assurance that the Company's pending patent applications will result in
patents being issued or that, if issued, patents will afford protection against
competitors with similar technology; nor can there be any assurance that others
will not obtain patents that the Company would need to license or circumvent.

The Company's processes and potential products may conflict with patents
which have been or may be granted to competitors, universities or others. As the
biopharmaceutical industry expands and more patents are issued, the risk
increases that the Company's processes and products may give rise to claims that
they infringe the patents of others. Such other persons could bring legal
actions against the Company claiming damages and seeking to enjoin manufacture,
use or sale of the affected product or process. If any such actions are
successful, in addition to any potential liability for damages, the Company
could be required to obtain a license in order to continue to manufacture, use
or sell the affected product or process. There can be no assurance that the
Company would prevail in any such action or that any license required under any
such patent would be made available on acceptable terms, if at all. If the
Company becomes involved in litigation, litigation could consume a substantial
portion of the Company's resources.

The Company is prosecuting its patent applications with the U.S. Patent and
Trademark Office, but the Company does not know whether any of its applications
will result in the issuance of any patents or, if any patents are issued,
whether any issued patent will provide significant proprietary protection or
will be circumvented or invalidated. During the course of patent prosecution,
patent applications are evaluated, inter alia, for utility, novelty,
nonobviousness and enablement. The U.S. Patent and Trademark Office may require
that the claims of an initially filed patent application be amended if it is
determined that the scope of the claims includes subject matter that is not
useful, novel, nonobvious or enabled. Furthermore, in certain instances, the
practice of a patentable invention may require a license from the holder of
dominant patent rights. In cases where one party believes that it has a claim to
an invention covered by a patent application or patent of a second party, the
first party may provoke an interference proceeding in the U.S. Patent and
Trademark Office or such a proceeding may otherwise be declared by the Patent
and Trademark Office. In general, in an interference proceeding, the Patent and
Trademark Office would review the competing patents and/or patent applications
to determine the validity of the competing claims, including but not limited to
determining priority of invention. Any such determination would be subject to
appeal in the appropriate U.S. federal courts.

There can be no assurance that additional patents will be obtained by the
Company or that issued patents will provide a substantial protection or be of
commercial benefit to the Company. The issuance of a patent is not conclusive as
to its validity or enforceability, nor does it provide the patent holder with
freedom to operate without infringing the patent rights of others. A patent
could be challenged by litigation and, if the outcome of such litigation were
adverse to the patent holder, competitors could be free to use the subject
matter covered by the patent, or the patent holder may license the technology to
others in settlement of such litigation. The invalidation of key patents owned
by or licensed to the Company or non-approval of pending patent applications
could create increased competition, with potential adverse effects on the
Company and its business prospects. In addition, there can be no assurance that
any applications of the Company's technology will not infringe patents or
proprietary rights of others or that licenses that might be required as a result
of such infringement for the Company's processes or products would be available
on commercially reasonable terms, if at all.

11
<PAGE> 14

proceedings which may in the future be declared by the U.S. Patent and Trademark
Office to determine priority of invention, which could result in substantial
cost to the Company. There can be no assurance that the outcome of any such
litigation or interference proceedings will be favorable to the Company or that
the Company will be able to obtain licenses to technology that it may require or
that, if obtainable, such technology can be licensed at a reasonable cost. See
"Business -- Patents, Trademarks and Trade Secrets."

The Company also relies upon unpatented trade secrets, and no assurance can
be given that others will not independently develop substantially equivalent
proprietary information and techniques, or otherwise gain access to the
Company's trade secrets or disclose such technology, or that the Company can
meaningfully protect its right to its unpatented trade secrets.

DISPUTE REGARDING ADCON AND POTENTIAL ROYALTY ON ADCON SALES

The Company has research and license agreements with Case Western pursuant
to which Case Western was sponsored by the Company to conduct research in
certain fields of nerve regeneration, repair, recovery and/or maintenance of
nerve function in an effort to develop and produce new products for potential
pharmaceutical and other commercial applications. This license agreement with
Case Western grants the Company an exclusive worldwide license in exchange for a
royalty of up to five percent of the revenues generated from the sale of
products which are within the scope of the terms of the agreement. A dispute has
arisen between Case Western and the Company regarding inventorship of the ADCON
products. Case Western has informed the Company that it believes that one of its
employees is a co-inventor of the ADCON family of products and that the Company
is therefore obligated to pay royalties to Case Western on the sale of ADCON
products. Case Western has threatened litigation regarding this matter. The
Company believes that no Case Western employee is an inventor of the ADCON
family of products and thus that the ADCON family of products is not within the
nerve regeneration/repair scope of these sponsored research and license
agreements with Case Western. As a result, the Company's response to Case
Western has indicated that it is not entitled to royalties pursuant to the terms
of these agreements on the sale of ADCON products. There can be no assurance
that Case Western will not continue to pursue this matter or that, in the event
it elects to pursue this matter, it will not result in costly dispute resolution
proceedings with the Company which may result in Case Western being deemed a
co-owner of the relevant patent rights and the Company being required to pay the
royalties required under these agreements. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources," "Business -- ADCON Surgical Adhesions Products -- Research
and License Agreements" and "-- Patents, Trademarks and Trade Secrets."

DEPENDENCE ON KEY MANAGEMENT AND QUALIFIED PERSONNEL

Recruiting and retaining qualified scientific and management personnel is
critical to the Company's success. Although the Company believes that it has
been successful in attracting and retaining skilled and experienced personnel,
there can be no assurance that the Company will be able to continue to attract
and retain such personnel as employees, advisors and consultants on acceptable
terms. In addition, the Company's anticipated growth and expansion into areas
and activities requiring additional expertise, such as clinical testing,
obtaining government approvals, manufacturing and marketing, will place
increased demands on the Company's management resources. These demands are
expected to require the addition of new management personnel. The Company has a
limited number of executive personnel with prior business experience. The
failure to acquire additional qualified personnel could materially adversely
affect prospects for the Company's success. Certain advisors and consultants to
the Company are employed by others and may have commitments to, or consulting or
advisory contracts with, other entities that limit their availability to the
Company.

EXPOSURE TO PRODUCT LIABILITY

The research, development and commercialization of medical devices and
therapeutic products entails significant product liability risks. If the Company
succeeds in commercializing ADCON-L or

12
<PAGE> 15

ADCON-T/N and if it succeeds in developing additional devices and new drugs, the
use of such products in clinical trials and the commercial sale of such products
may expose the Company to liability claims. These claims might be made directly
by consumers or by pharmaceutical companies or others selling such products. The
Company currently has product liability insurance in an aggregate amount of two
million dollars; however, there can be no assurance that the Company will be
able to maintain such insurance on acceptable terms or that such insurance will
be sufficient to protect the Company against potential claims or that insurance
will be available in the future in amounts sufficient to protect the Company.

CONTROL BY EXISTING STOCKHOLDERS

Upon completion of the offering, assuming conversion of all outstanding
options and warrants, officers and Directors of the Company, together with
entities affiliated with them, will beneficially own approximately 19.4% of the
Common Stock of the Company on a fully diluted basis. These stockholders may be
able to effectively control the election of all members of the Company's Board
of Directors and to determine all corporate actions. See "Principal
Stockholders."

ANTI-TAKEOVER PROVISIONS

The Company's Second Restated Certificate of Incorporation (the "Second
Restated Certificate") divides the Board of Directors into three classes. In
addition, the Board of Directors have the authority, without any action by
stockholders, to fix the rights of any shares of preferred stock, par value
$0.01 per share (the "Preferred Stock"). It is possible that the existence of a
staggered Board of Directors and the ability of the Board of Directors to issue
Preferred Stock, as well as certain provisions of the Delaware General
Corporation Law, could have the effect of deterring hostile takeovers or
delaying or preventing changes in control or management of the Company. See
"Description of Capital Stock."

SHARES ELIGIBLE FOR FUTURE SALE

Future sales of shares of Common Stock by the Company or its existing
stockholders could adversely affect the prevailing market price of the Common
Stock. The shares of Common Stock offered hereby and the outstanding shares of
Common Stock previously registered will be freely transferable by persons
without restriction or further registration under the Securities Act. In
reliance on Rule 144 promulgated under the Securities Act, an additional
2,579,523 shares of Common Stock will be freely transferable by persons who are
not affiliates of the Company. An additional 1,069,559 shares of Common Stock
held by affiliates of the Company will be eligible for sale in the public market
subject to compliance with the resale volume limitations and other restrictions
of Rule 144 under the Securities Act. Of the 3,649,082 shares of Common Stock
eligible for sale under Rule 144, 1,292,502 shares are subject to lockup
agreements with the Placement Agents pursuant to which the Company and such
stockholders have agreed for a period of 90 days following the date of this
Prospectus that they will not, without the written consent of Vector Securities
International, Inc., offer, sell, contract to sell or otherwise dispose of any
shares of Common Stock or securities convertible into or exchangeable or
exercisable for Common Stock, except pursuant to the Placement Agency Agreement
and except that the Company may grant stock options or issue shares upon the
exercise of options previously granted. All the directors and officers of the
Company have agreed to execute such agreements. In addition, the Company has
granted certain demand and "piggyback" registration rights to certain of its
existing stockholders with respect to certain of the foregoing shares. Sales of
substantial amounts of Common Stock in the public market, or the perception that
such sales may occur, could have a material adverse effect on the market price
of the Common Stock.

13
<PAGE> 16

USE OF PROCEEDS

The Company intends to apply the net proceeds of this offering, after
payment of expenses payable by the Company, to: (i) the research and development
of products relating to its Cognition Modulation program until such time as the
Company is able to obtain third-party funding through collaborative
arrangements, (ii) the continued research and development of ADCON products
other than ADCON-L and ADCON-T/N and (iii) working capital and other general
corporate purposes. To date, the Company has funded its Cognition Modulation
program independently of strategic partners. The Company, however, does not
anticipate funding clinical trials relating to this program through completion
of such clinical trials without the collaboration of a strategic partner. The
actual amount and the timing of expenditures for each of the foregoing purposes
will depend on the progress of the Company's clinical trials and sales of
ADCON-L and ADCON-T/N, its research and development efforts, its success in
entering into strategic alliances, the timing of regulatory approvals and
technological advances, and determinations as to the commercial potential and
status of competitive products. Pending such uses, the Company intends to invest
such funds in short-term, interest-bearing, investment grade securities.

The Company will not receive any proceeds from the sale of Common Stock by
the Selling Stockholders.

COMMON STOCK MARKET PRICES AND DIVIDEND POLICY

The Company's Common Stock is traded on the Nasdaq National Market
("GLIA"). As of the close of business on May 8, 1996, there were approximately
200 stockholders of record for the Company's Common Stock. The Company commenced
trading on the Nasdaq National Market on October 17, 1995.

The table below sets forth the high and low closing prices for the
Company's Common Stock for the quarterly periods indicated:

<TABLE>
<CAPTION>
QUARTER ENDED HIGH LOW
----------------------------------------------------------------- ------- -------
<S> <C> <C>
Fourth Quarter of fiscal 1995.................................... $ 9.825 7.825
First Quarter of fiscal 1996..................................... 16.75 8.00
Second Quarter of fiscal 1996 (through May 14, 1996)............. 15.50 11.375
</TABLE>

The Company has never paid any cash dividends on its capital stock and does
not anticipate paying any in the foreseeable future. The payment of future
dividends, if any, will be at the discretion of the Company's Board of Directors
after taking into account various factors, including the Company's financial
condition, operating results, current and anticipated cash needs and plans for
expansion.

DILUTION

The net tangible book value of the Company at March 31, 1996 was
$21,211,415 or approximately $2.90 per share. Net tangible book value per share
represents the amount of tangible assets less total liabilities, divided by the
7,310,786 shares of Common Stock outstanding. See "Description of Capital
Stock." After giving effect to the sale of 1,500,000 shares of Common Stock
offered by the Company hereby at an assumed offering price of $13.50 per share
(the closing price on May 14, 1996) and after receipt of the estimated net
proceeds therefrom of $18,635,000 (after deducting the placement agents' fee and
estimated offering expenses of the Company), the pro forma net tangible book
value of the Company as of March 31, 1996 would have been $39,846,415 or $4.52
per share. The following table illustrates the dilution per share as described
above:

<TABLE>
<S> <C> <C>
Assumed public offering price per share(1)........................ $13.50
Net tangible book value per share prior to the offering......... $2.90
Increase per share attributable to new investors................ $1.62
Pro forma net tangible book value per share after the offering.... $4.52
-------------
Dilution to new investors......................................... $8.98
===========
</TABLE>

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

(1) Before deduction of the placement agents' fee and estimated offering
expenses to be paid by the Company.

14
<PAGE> 17

CAPITALIZATION

The following table sets forth the capitalization of the Company at March
31, 1996.

<TABLE>
<CAPTION>
MARCH 31, 1996
-------------------------------
ACTUAL AS ADJUSTED(1)
------------ --------------
(UNAUDITED)
<S> <C> <C>
Stockholders' equity (2):
Common Stock, $.01 par value, 30,000,000 shares authorized;
issued and outstanding -- 7,310,786 actual and 8,810,786 as
adjusted(3)................................................ $ 73,107 $ 88,107
Additional paid-in capital................................... 50,959,970 69,579,970
Deferred compensation........................................ (17,280) (17,280)
Deficit accumulated during the development stage............. (28,931,322) (28,931,322)
------------ --------------
Stockholders equity.......................................... $ 22,084,475 $ 40,719,475
=========== ==============
</TABLE>

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

(2) See "Description of Capital Stock."

(3) Does not include an aggregate of 768,975 shares of Common Stock issuable
upon exercise of outstanding options granted under the Company's Stock
Option Plans and 20,000 shares of Common Stock reserved for issuance upon
the exercise of warrants.

15
<PAGE> 18

SELECTED CONSOLIDATED FINANCIAL DATA
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

The following selected consolidated financial data of the Company for the
years ended December 31, 1991 through 1995 and for the period from the inception
of operations (August 31, 1988) through March 31, 1996 are derived from the
consolidated financial statements of the Company. The financial data for the
three month periods ended March 31, 1995 and 1996 are derived from unaudited
financial statements. The unaudited financial statements include all
adjustments, consisting of normal recurring accruals, which the Company
considers necessary for a fair presentation of the financial position and the
results of operations for these periods. Operating results for the three months
ended March 31, 1996 are not necessarily indicative of the results that may be
expected for the entire year ended December 31, 1996. The information presented
below should be read in conjunction with the Company's consolidated financial
statements and related notes and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" included elsewhere in this
Prospectus.

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31, INCEPTION TO
--------------------------------------------------- ----------------------- MARCH 31,
1991 1992 1993 1994 1995 1995 1996 1996
------- ------- ------- --------- --------- --------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Government grants.............. $ 85 $ 186 $ 302 $ 141 $ 255 $ $48 $ 38 $ 1,007
Research contracts and
licensing fees............... -- -- -- 918 2,217 481 715 3,849
Product sales.................. -- -- -- 86 182 0 76 345
------- ------- ------- --------- --------- --------- --------- ------------
Total revenues............. 85 186 302 1,145 2,654 529 829 5,201
Operating Costs and Expenses:
Research and development....... 2,013 2,618 4,441 4,658 5,230 1,187 1,501 22,611
Selling, general and
administrative............... 825 1,693 1,674 2,365 2,599 518 779 10,888
Depreciation and
amortization................. 151 279 312 272 171 47 31 1,307
------- ------- ------- --------- --------- --------- --------- ------------
Total operating costs and
expenses................. 2,989 4,590 6,427 7,295 8,000 1,752 2,311 34,806
------- ------- ------- --------- --------- --------- --------- ------------
Loss from operations............. (2,904) (4,404) (6,125) (6,150) (5,346) (1,223) (1,482) (29,605)
Interest income, net............. 74 324 211 97 360 38 305 1,613
------- ------- ------- --------- --------- --------- --------- ------------
Net Loss................... $(2,830) $(4,080) $(5,914) $ (6,053) $ (4,986) $ (1,185) $ (1,177) $(27,992)
====== ====== ====== ======== ======== ======== ======== ============
Net loss per common share (pro forma for 1994 and 1995)....... $ (1.30) $ (0.91) $ (0.24) $ (0.16)
======== ======== ======== ========
Shares used for purposes of computing net loss
per common share............................................ 4,651,616 5,497,351 4,928,755 7,305,441
======== ======== ======== ========
</TABLE>

<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------------------------- MARCH 31,
1991 1992 1993 1994 1995 1996
------- -------- -------- -------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments........................ $ 805 $ 9,520 $ 4,321 $ 4,671 $ 23,023 $ 20,724
Working capital...................... 741 4,698 2,860 1,511 21,762 20,554
Total assets......................... 1,861 11,059 6,148 6,716 25,346 23,311
Deficit accumulated during the
development stage.................. (6,722) (10,802) (16,716) (22,768) (27,754) (28,931 )
Total stockholders' equity........... $ 1,363 $ 9,758 $ 4,177 $ 3,122 $ 23,182 $ 22,084
</TABLE>

16
<PAGE> 19

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

Since commencing operations in 1988, the Company has been a development
stage company. The Company is developing and commercializing the ADCON family of
products to inhibit excessive scarring and adhesions after surgery. Based on
European pivotal clinical studies and other compliance efforts and submission of
data, the Company recently obtained regulatory clearance to affix CE Marking on
ADCON-L and ADCON-T/N, thereby allowing ADCON-L and ADCON-T/N to be marketed in
the 15 European Union countries for lumbar disc surgery and tendon and
peripheral nerve surgeries, respectively. The Company has entered into
distribution agreements with independent distributors for ADCON-L in Austria,
Belgium, France, Germany, Italy, The Netherlands, Spain, Switzerland and the
United Kingdom. For ADCON-T/N, the Company intends initially to pursue only a
limited distribution in the 15 European Union countries during 1996 and
currently has entered into distribution agreements in Austria, Belgium, Italy,
The Netherlands and Switzerland. Since inception, the Company's revenues have
been derived primarily from contract research payments from a research contract
with Janssen, a wholly-owned subsidiary of Johnson & Johnson, to collaborate on
the discovery and development of compounds to slow the progression of
Alzheimer's disease. The Company has also received revenues from various
government grants which have been awarded to the Company. See "Risk
Factors -- Early Stage of Development."

RESULTS OF OPERATIONS

FOR THE THREE MONTH PERIODS ENDED MARCH 31, 1995 AND 1996

REVENUES

Total revenues increased 57% from $529,240 in the first quarter of 1995 to
$829,100 in the first quarter of 1996. The increase is primarily a result of
contract research revenues of $714,435 for the first quarter of 1996 compared to
$481,251 in the first quarter of 1995 from the Company's research contract with
Janssen. In September 1995, the Company entered into an addendum to the Janssen
Agreement in order to expand the scope of the collaboration with Janssen on
Alzheimer's disease to include research relating to inhibitors of complement
activation. This addendum to the Agreement added approximately $219,000 to
research contract revenues in the first quarter of 1996. Under the terms of the
expanded agreement, Janssen increased its research funding and milestone
payments by 50% beginning in September 1995. The Company's government-funded
research grant revenues decreased from $47,989 in the first quarter of 1995 to
$38,319 in the first quarter of 1996.

The Company recognized $76,346 in product sales for the first quarter of
1996 resulting primarily from sales of its ADCON-L product in Europe. There were
no product sales for the first quarter of 1995 because the Company did not have
regulatory approval to market the ADCON products during the first quarter of
1995.

EXPENSES

Expenses for research and development increased 26% from $1,187,321 for the
first quarter of 1995 to $1,500,634 for the first quarter of 1996. The increase
of $313,313 for this period is due primarily to increased staffing and clinical
contract expenses as a result of the initiation of pivotal clinical trials in
the U.S. for both ADCON-L and ADCON-T/N during late 1995 and early 1996.
Additionally, in the first quarter of 1996, the Company increased its research
activities relating to its Alzheimer's disease and Cognition Modulation programs
which required increases in staffing and laboratory supplies and services.
Increased expenses associated with the Company's Alzheimer's program are funded
under the Company's agreement with Janssen.

Selling, general and administrative expenses increased 50% from $518,161
for the first quarter of 1995 to $778,896 for the first quarter of 1996. This
increase was due primarily to (i) an increase in sales and marketing efforts for
its ADCON-L and ADCON-T/N products in the European markets and (ii) expenses
incurred as a result of the Company becoming a publicly traded company.

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INTEREST INCOME

Net interest income increased from $38,332 in the first quarter of 1995 to
$305,002 in the first quarter of 1996. This increase was due to the interest
earned on the cash received in the June 1995 private placement of equity
securities and the October 1995 initial public offering as discussed below. In
addition, interest expense decreased as the Company paid down its line of credit
and the Company's capital lease was fully repaid.

NET LOSS

The Company's net loss decreased 1% from $1,185,049 for the first quarter
of 1995 to $1,177,112 for the first quarter of 1996. The slight decrease in the
net loss for the first quarter of 1996 was a result of increased revenues and
interest income offset by increased operating costs and expenses as discussed
above.

YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993

REVENUES

The Company had research revenues in 1995 of $2,216,668 from its research
contract with Janssen compared to 1994 research revenues of $917,691. This
increase of $1,298,977 is a result of recognizing a full year of the Janssen
research contract revenues in 1995. Additionally, in September 1995, the Company
entered into an addendum to the Janssen Agreement, which added approximately
$290,000 to research contract revenues in 1995, in order to expand the scope of
the collaboration with Janssen on Alzheimer's disease. Under the terms of the
expanded agreement, Janssen increased its research funding and milestone
payments by 50% beginning in September 1995. The Janssen collaboration began in
October 1994 and, in 1994, research revenues included a $500,000 one-time
up-front licensing fee. There were no research revenues recognized in 1993.

The Company's government-funded research grant revenues were $254,705 in
1995, $140,903 in 1994 and $302,315 in 1993. The levels of grant revenues were a
direct result of the number of government-funded research grants awarded the
Company in each year. The Company's product sales increased from $86,340 in 1994
to $182,233 in 1995. This increase was a result of initial inventory stock
orders for several new European distributors as a result of the regulatory
approval of ADCON-L in 1995.

EXPENSES

Expenses for research and development increased to $5,229,743 in 1995 from
$4,657,682 in 1994 and $4,441,280 in 1993. The increased levels of expenses in
1994 and 1995 were attributable primarily to (i) increased expenses associated
with the European clinical trial conducted in 1994 for ADCON-L and (ii)
increased staffing and clinical contract expenses in the ADCON area as the
Company initiated its pivotal clinical trials in the U.S. for both ADCON-L and
ADCON-T/N during 1995. Additionally, in both 1994 and 1995, the Company
increased its research relating to the Alzheimer's disease and Cognition
Modulation programs and incurred the associated increases in staffing and
purchases of laboratory supplies and services.

Selling, general and administrative expenses were $2,599,290 in 1995,
$2,365,395 in 1994 and $1,674,281 in 1993. The increase for each of these
periods was due primarily to the expansion of marketing programs as the Company
prepared to introduce its ADCON-L and ADCON-T/N products into the European
markets and an increase in costs of outside consultants to assist the Company in
evaluating potential partners for its Cognition Modulation program.

Depreciation and amortization expense was $170,395 in 1995, $272,221 in
1994 and $312,055 in 1993. The expense has decreased over the three-year period
as several Company assets have become fully depreciated.

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<PAGE> 21

INCOME TAXES

At December 31, 1995, the Company had net operating tax loss carryforwards
of approximately $13,378,000 for income tax purposes. In addition, at December
31, 1995, the Company had approximately $1,464,000 of research and development
tax credit carryforwards. Such losses and credit carryforwards may be carried
forward to reduce future tax liabilities and expire at various dates between
2003 and 2010. The Company has offset the tax benefit of the net operating loss
and tax carryforwards with a valuation allowance as realization of the benefit
is not assured. Pursuant to the Tax Reform Act of 1986, the utilization of net
operating loss and research and development tax credit carryforwards for tax
purposes may be subject to an annual limitation if a cumulative change in
ownership of more than 50% occurs over a three-year period. The future issuance
of securities by the Company and/or sales of securities by the Company's
principal stockholders could result in such a change of ownership.

NET LOSS

The Company incurred a net loss of $4,985,861 in 1995, $6,052,570 in 1994
and $5,913,836 in 1993. The decrease in net loss in 1995 was due primarily to
increased revenue, which was primarily revenue received under the research
contract with Janssen.

LIQUIDITY AND CAPITAL RESOURCES

In October 1995, the Company received net proceeds, after expenses of the
offering, of approximately $19,669,000 from its initial public offering in which
the Company sold 2,300,000 shares of Common Stock at an initial public offering
price of $9.50 per share. Prior to the initial public offering, the Company had
financed its operations primarily through the private placement of its equity
securities and, to a lesser extent, through federally-sponsored research grants
and research contract and licensing fees. In June 1995, the Company received net
proceeds of approximately $4,653,000 through a private placement of equity
securities. Since its inception, the Company has received $49,315,789 in net
proceeds from equity financings. In addition, from its inception through March
31, 1996, the Company has recognized revenue of $3,848,794 from its research
collaboration agreement with Janssen and $1,006,518 from several
federally-sponsored research grants. Janssen is expected to pay the Company
approximately $2,800,000 during fiscal 1996. The Company also has established a
$1,000,000 line of credit with a bank, secured by certain assets of the Company.
As of March 31, 1996, the Company had no borrowings against the line of credit.

In order to preserve principal and maintain liquidity, the Company's funds
are invested in U.S. Treasury obligations and other short-term investments. As
of March 31, 1996, the Company's cash and cash equivalents and short-term
investments totaled $20,724,373.

Also, during 1995, the Company received two $100,000 Phase I Small Business
Innovation Research (SBIR) grants from the National Institute of Neurological
Disorders and Stroke (NINDS) division of the National Institute of Health (NIH)
to develop histamine H(3) receptor agents. If the Company is successful in its
Phase I research, Phase II awards for additional funding could be sought to aid
in the further development of these agents; however, there is no assurance that
such additional funding will be obtained.

The Company anticipates that a substantial portion of the proceeds of its
initial public offering will be used to fund clinical trials of ADCON-L and
ADCON-T/N in the U.S. and the marketing efforts for sales of the ADCON products
in Europe. In addition, the Company anticipates that the remaining proceeds from
the initial public offering and the proceeds from this offering will be used for
the research and development of products relating to its Cognition Modulation
program, to fund continued development of additional ADCON products and for
working capital and general corporate purposes. The Company's future liquidity
and capital requirements will depend on many factors, including, but not limited
to, the commercial potential of its ADCON family of products, the timing of
regulatory approvals, the timing and results of preclinical testing and clinical
studies, the progress of

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<PAGE> 22

the Company's research and development programs and the ability of the Company
to establish and maintain collaborative arrangements with others for the purpose
of funding certain research and development programs. The Company believes that
its current cash position and other financial resources will enable it to
conduct its current and planned operations through at least fiscal 1997.

The Company anticipates that it will augment its cash balance through
financing transactions and further corporate alliances. No arrangements have
been entered into for any future financing and no assurances can be given that
adequate levels of additional funding can be obtained on favorable terms, if at
all.

The Company is a party to a license agreement and a related sponsored
research agreement with Case Western pursuant to which Case Western granted the
Company an exclusive worldwide license at a royalty of up to five percent of the
revenues generated from the sale of products which are within the nerve
regeneration/repair scope of the agreements. A dispute has arisen between Case
Western and the Company regarding inventorship of the ADCON products. Case
Western has informed the Company that it believes one of its employees is a
co-inventor of the ADCON family products and that the Company is therefore
obligated to pay royalties to Case Western on the sale of ADCON products. Case
Western has threatened litigation regarding this matter. The Company believes
that no Case Western employee is an inventor of the ADCON family of products and
thus that the ADCON family of products is not within the nerve
regeneration/repair scope of these sponsored research and license agreements
with Case Western. In the event Case Western elects to pursue this matter, there
can be no assurance that the Company will not be required to pay such royalties
or that the cost of defending against any such proceeding will not have an
adverse material effect on the Company. See "Risk Factors -- Dispute Regarding
ADCON and Potential Royalty on ADCON Sales."

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BUSINESS

OVERVIEW

The Company is engaged in the development and commercialization of medical
devices designed to inhibit excessive surgical scarring and adhesion formation
following surgery. Postoperative scarring and adhesion formation can become
excessive, binding together tissues and organs causing pain, obstruction and
impairment of function. Further, excessive scarring can obstruct access to the
surgical site, making additional surgery difficult. The Company is engaged in
the development and commercialization of the ADCON family of medical devices to
address such postoperative complications. In addition, the Company is pursuing
the development of drug candidates for the treatment of certain nervous system
disorders, including Alzheimer's disease, through its strategic alliance with
Janssen, and cognitive disorders.

The ADCON family of medical devices are being developed by the Company to
inhibit excess scarring and adhesion formation at the surgical site. The initial
ADCON products are formulated as proprietary resorbable gels for direct
application by surgeons to organs and tissues during surgery to inhibit surgical
scarring and adhesions. ADCON-L is designed to inhibit scarring and adhesion
formation following lumbar disc surgery. ADCON-T/N is designed for use in tendon
and peripheral nerve repair surgeries such as carpal tunnel syndrome and
tenolysis. In addition to ADCON-L and ADCON-T/N, the Company is in earlier
stages of development of several additional ADCON products for use in
pelvic/gynecological, abdominal, cardiac and implant/prosthetic surgeries.
Because of the differences in the body environments in which each of these
product candidates would be used, a number of different formulations may be
required.

Based on European pivotal clinical studies and other compliance efforts and
the submission of other data, the Company recently obtained regulatory
clearances to affix CE Marking on ADCON-L and ADCON-T/N thereby allowing ADCON-L
and ADCON-T/N to be marketed in the 15 European Union countries for lumbar disc
surgery and tendon and peripheral nerve repair surgery, respectively. The
Company has entered into distribution agreements with independent distributors
for ADCON-L in Austria, Belgium, France, Germany, Italy, The Netherlands, Spain,
Switzerland and the United Kingdom. For ADCON-T/N, the Company intends initially
to pursue only a limited distribution in the 15 European Union countries during
1996 and currently has entered into distribution agreements in Austria, Belgium,
Italy, The Netherlands and Switzerland. In addition, the Company received
approval from the FDA to initiate pivotal clinical trials for ADCON-L and
ADCON-T/N in the United States. The Company is currently enrolling patients in
these clinical trials. The Company intends to submit PMAs to the FDA upon the
successful completion of these trials.

The Company is also engaged in the research and development of therapeutic
products for the treatment of certain nervous system disorders, including
Alzheimer's disease and cognitive disorders. Studies have shown that certain
glial cells and glial-derived factors are consistently associated with senile
neuritic beta-amyloid plaques, which are thought to be a key contributor to
Alzheimer's disease associated pathology. In October 1994, the Company entered
the Janssen Agreement to collaborate on the research and development of
therapeutic products to treat Alzheimer's disease. In addition, in September
1995, the Company entered into an addendum to the Janssen Agreement in order to
expand the scope of the collaboration. As a result of screening compounds from
Janssen's pharmaceutical library, several lead compounds have been identified.

The Company's Cognition Modulation program is focused on a class of
compounds designed to act on the histamine H(3) receptor in the brain which
regulates sleep/wakeful states and modulates the

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<PAGE> 24

level of arousal and alertness. An antagonist to this receptor could lead to
enhanced states of alertness for treating narcolepsy, attention deficit
hyperactive disorder (ADHD) and the cognitive deficit in Alzheimer's disease
patients. The Company has identified a number of lead compounds and is currently
conducting preclinical studies on certain of these antagonists compounds. An
agonist to the histamine H(3) receptor could reduce levels of wakefulness and
arousal for use in the treatment of anxiety and insomnia.

ADCON SURGICAL ADHESIONS PRODUCTS

During the normal healing process following surgery a matrix of scar tissue
forms at the surgical site. In many cases, scar formation results in surgical
adhesions that can become excessive, binding together tissues and/or organs,
causing pain, obstruction and impairment of function. Further, excessive
scarring can obstruct access to the surgical site, making additional surgery
difficult.

The Company is developing and commercializing the ADCON family of medical
devices to act as a barrier to scarring and surgical adhesions of the surgical
site. The initial ADCON products are formulated as proprietary resorbable gels
to inhibit surgical scarring and adhesions for direct application by surgeons to
organs and tissues during surgery.

ADCON-L

ADCON-L is designed to inhibit excess scarring and adhesion formation after
lumbar disc surgery. The majority of lumbar surgeries are performed to remove
herniated lumbar spinal discs while others are performed to decompress the
spinal cord and nerve roots. Certain patients following such surgeries
experience recurrent pain following surgery. Such patients often require medical
treatment which may include physical therapy, pain medication and, in certain
cases, additional surgery. Based on the results of data from the Company's
recent European clinical trial and data compiled by independent third parties,
the Company believes that certain patients experience this pain and other
complications after surgery as a result of scarring and adhesion formation
around the spinal cord which may cause tethering of the nerve roots.

ADCON-L is formulated as a proprietary resorbable gel which is applied
directly by surgeons to the surgical site following lumbar disc surgery. ADCON-L
provides a physical barrier between the membrane covering the spinal cord and
the back muscles and between the spinal nerve roots and the inner surface of the
vertebral body. This barrier is designed to inhibit excess scarring and
resultant adhesion formation at the surgical site. Since it is not possible to
predict prior to surgery which patients are likely to develop adhesion-related
problems, the Company believes that ADCON-L is appropriate for use
prophylactically during most lumbar disc surgeries.

Clinical Results. The Company conducted a pivotal multi-center double
blind clinical trial of ADCON-L in Europe to test its safety and efficacy in
inhibiting excessive scarring and adhesions as well as associated pain and other
symptoms following lumbar disc surgery. The study was conducted at nine academic
neurosurgical centers in Switzerland, The Netherlands and Belgium. The study was
initially designed to enroll approximately 250 patients, age 18 to 60, with the
protocol for the study establishing a minimum of 214 patients for evaluation.
There were 267 patients evaluated in this study. The study evaluated patients at
one, three and six months following surgery for recurrent pain and
activity-related pain associated with performing activities of daily living and
at six months following surgery for the amount of scarring (as assessed by
Magnetic Resonance Imaging ("MRI")).

The clinical parameters evaluated in this study were (i) the amount of
scarring six months following surgery and (ii) activity-related pain during the
performance of activities of daily living. Also assessed in this study was
whether there is an association between the presence of scar and the recurrence
of postoperative pain.

The results of this analysis indicate that ADCON-L treatment, as compared
to the controls, decreased the incidence of extensive peridural scar by 22% and
significantly increased the incidence of minimal or no scar. This reduction of
scarring was also observed by surgeons who performed a second

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surgical procedure necessitated by reherniation of the disc on ten patients
participating in the trial (five ADCON-L patients and five control patients).
These surgeons encountered less scar in the ADCON-L patients as compared to the
controls. In addition this study revealed that significantly fewer ADCON-L
patients, as compared to controls, experienced increased pain during performance
of activities of daily living. The results of this study showed that ADCON-L was
generally safe and well tolerated.

The association between scar and the recurrence of postoperative pain was
also evaluated. This analysis showed that there is a statistically significant
association between the presence of scarring and the recurrence of postoperative
pain six months following surgery. The Company believes that this is the first
time that an association between the presence of scarring and the recurrence of
postoperative pain has been shown in a statistically significant manner in a
controlled clinical study.

Development and Regulatory Status. Based on the results of a pivotal
clinical trial of ADCON-L in Europe, among other factors, the Company obtained
regulatory clearances to affix CE Marking for ADCON-L. The CE Marking for
ADCON-L allows the Company to market ADCON-L in the 15 European Union countries
(Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy,
Luxembourg, The Netherlands, Portugal, Spain, Sweden and the United Kingdom) for
lumbar disc surgery patients. The Company is in the process of preparing the
necessary notification of commercial sale to be filed in the countries which
require such filings. See "-- Government Regulation."

In November 1994, the Company completed a pilot U.S. clinical study of
ADCON-L involving 18 patients. The Company received conditional approval from
the FDA to initiate its pivotal U.S. clinical trial in August 1995. The protocol
will be substantially the same as the protocol used in the European clinical
study. The Company is currently enrolling patients in this clinical trial. The
Company intends to submit a PMA for ADCON-L to the FDA upon the successful
completion of this trial. See "-- Government Regulation -- Regulation of Medical
Devices-United States."

ADCON-T/N

ADCON-T/N is formulated as a proprietary resorbable gel which is applied
directly by surgeons to the surgical site following tendon and peripheral nerve
surgeries such as carpal tunnel syndrome and tenolysis. The formation of
adhesions which bind the tendon to surrounding tissues results in a reduction of
the tendon's ability to glide, thus limiting the range of motion. In the
peripheral nervous system, postsurgical scar formation can lead to scarring and
compression of nerves. The combination of scarring and nerve adhesions can
result in loss of nerve function and pain.

Clinical Results. The Company has completed open label pilot clinical
trials of ADCON-T/N involving 68 patients in Switzerland and France to evaluate
the use of ADCON-T/N in inhibiting postoperative adhesions following various
surgical procedures involving tendons and nerves. The study evaluated range of
motion as well as certain other subjective criteria based on surgeons'
historical experiences. These trials demonstrated that ADCON-T/N was generally
safe, well tolerated and has clinical utility. As compared to the surgeons'
historical experiences, the results of these studies also indicated that
ADCON-T/N may inhibit postoperative scarring and improve postoperative patient
outcome.

Development and Regulatory Status. The Company recently obtained
regulatory clearances to affix CE Marking for ADCON-T/N based on the results of
a European clinical study submitted to a European designated agency. The CE
Marking for ADCON-T/N allows the Company to market ADCON-T/N in the 15 European
Union countries for use in tendon and peripheral nerve surgeries. The Company
received approval from the FDA to initiate pivotal U.S. clinical trials in the
first quarter of 1995. The Company is currently enrolling patients in these
clinical trials. The Company intends to submit a PMA for ADCON-T/N to the FDA
upon the successful completion of these trials.

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OTHER ADCON PRODUCTS

The Company is also conducting preclinical studies relating to applications
of its ADCON technology in preventing excessive scarring and adhesions in a
variety of other surgical procedures. Potential product candidates are currently
being evaluated in animal models. Because of the differences in the body
environments in which each of these product candidates would be used, a number
of different formulations may be required. Examples of other types of surgery
where adhesions are common and are known to create troublesome complications
include (i) pelvic/gynecological surgery, where adhesions may occlude or
otherwise impair the normal function of the ureters, bladder, uterus or
fallopian tubes; (ii) abdominal surgery, where peritoneal adhesions between
organs and/or the abdominal wall may seriously impair gastrointestinal function;
(iii) cardiac surgery, where adhesions may significantly increase the risk of
injury during re-operation; and (iv) implant/prosthetic surgery, where adhesions
may compromise the effective performance of a medical device.

MARKETING AND SALES

Currently, the Company intends to market its ADCON products through
independent medical device distributors. The Company has entered into agreements
with independent distributors regarding country-specific sales and distribution
rights to ADCON-L in Austria, Belgium, France, Germany, Italy, The Netherlands,
Spain, Switzerland and the United Kingdom. The Company also has exclusive
country-specific agreements with the distributors with respect to the sale of
ADCON-T/N in Austria, Belgium, Italy, The Netherlands and Switzerland.

These agreements provide the distributors with exclusive distribution
rights in their assigned territory. The agreements require the distributors to
meet specified minimum annual sales targets. In the event such sales goals are
not achieved, the Company may, upon the expiration of applicable notice periods,
terminate the exclusivity of such arrangement. The Company provides marketing
and advertising support to its distributors and conducts training seminars for
distributor personnel. These distributors are independent third parties, are not
employees of the Company and are not directly under the control or supervision
of the Company, except that they are subject to the terms and conditions of
their respective distribution agreements. There can be no assurance that the
current relationships with distributors will be successful or that the Company
will be able to enter into similar distribution arrangements in other markets,
or that such arrangements will be available on acceptable terms and conditions
to the Company. Furthermore there can be no assurance that the ADCON products
will be successfully marketed since the Company does not control the
distribution of its products and relies exclusively on third parties for its
distribution of products. See "Risk Factors -- Reliance on Third Parties for
Manufacturing and Marketing of ADCON Products."

MANUFACTURING AND SUPPLIERS

The Company does not have any manufacturing facilities and presently
utilizes a sole foreign contractor, European Medical Contract Manufacturing,
located in Nijmegen, The Netherlands, for the manufacture of its commercial and
clinical requirements of ADCON-L and ADCON-T/N. The Company currently purchases
the key components for ADCON-L and ADCON-T/N from suppliers and provides such
components to the contract manufacturer who formulates these components into the
gel for the ADCON-L and ADCON-T/N products. The contract manufacturer is
registered as a subcontractor for the manufacture of pharmaceutical products by
The Netherlands designated agency and is certified to ISO requirements for
manufacture of such products. ISO Certification is an internationally recognized
standard of quality manufacturing. It is, however, the Company's intention to
identify additional manufacturers in the future, including a U.S. based contract
manufacturer. The manufacture of the Company's products is subject to GMP or
other requirements prescribed by the appropriate regulatory agency in the
country of use. There can be no assurance that the Company's current
manufacturer will continue to comply with all applicable regulatory requirements
or that such manufacturer will be able to supply the Company with such products
or that the Company will be able to identify additional manufacturers of its
products on terms acceptable to the Company. See "Risk Factors -- Reliance on
Third Parties for Manufacturing and Marketing of ADCON Products."

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<PAGE> 27

The Company currently obtains one of the key components for its ADCON
products from a single supplier. The Company also has developed its own
proprietary process to manufacture this key component and is currently
manufacturing it on a pilot basis through a contract manufacturer according to
GMP standards. In addition, the Company is pursuing qualification of additional
suppliers. There can be no assurance that additional suppliers will be
identified or that the key components will be available on terms acceptable to
the Company. See "Risk Factors -- Reliance on Third Parties for Manufacturing
and Marketing of ADCON Products."

ADCON RESEARCH AND LICENSE AGREEMENTS

NERVOUS SYSTEM DISORDERS

The Company's longer-term research is focused on the development of
therapeutic products for the treatment of nervous system disorders for which the
Company believes existing therapies are inadequate. The Company is presently
pursuing the development of small molecular weight compounds for the treatment
of Alzheimer's disease and cognitive disorders.

The Company's strategy is to pursue its nervous system disorder programs
through collaboration with third parties. The Company has entered into a
strategic alliance with Janssen to collaborate on the research, development and
commercialization of certain treatments for Alzheimer's disease. See "-- The
Janssen Agreement." To date, the Company has pursued the development of its
Cognition Modulation technology independently. The Company, however, does not
anticipate funding clinical trials relating to this program through the
completion of such trials without the collaboration of a strategic partner. No
assurances can be given that the Company will be able to identify a strategic
partner, or that in the event the Company identifies a strategic partner, that
such strategic partner will enter into an alliance with the Company or that the
operation of any such alliance will be successful.

ALZHEIMER'S DISEASE

The cause of Alzheimer's disease is unknown, and there are no proven means
of prevention or cure. The Company believes that research in Alzheimer's disease
has been directed primarily at providing replacement therapy for
neurotransmitter deficiencies, such as in the cholinergic system, in order to
alleviate the symptoms. Attempts to stop the progression of the disease have
centered on identifying a neurotrophic factor, or combination of factors, which
may slow neural degeneration. The Company believes that glial cells have
received inadequate attention in the study of Alzheimer's disease. Glial cells
are one of the two interrelated networks of cells in the nervous system. The

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interrelated networks of cells consists of neurons, which transfer and process
information from around the body, and glial cells, which monitor and regulate
the neuronal system and play an active role in maintaining normal brain
function. Recent research into Alzheimer's disease has focused on the role of
beta-amyloid in the formation of senile neuritic plaques.

THE COMPANY'S ALZHEIMER'S DISEASE PROGRAM

Utilizing its strengths in glial cell technology, the Company is conducting
research to develop therapeutic products to slow the progression of Alzheimer's
disease. In October 1994, the Company and Janssen entered into the Janssen
Agreement to collaborate on the discovery and development of compounds suitable
for the treatment of Alzheimer's disease and other neurodegenerative diseases.
See "-- The Janssen Agreement." The Company is pursuing three specific
mechanisms by which glial cells seem to play a role both in the accumulation of
beta-amyloid peptide and in the amyloid-associated neurotoxicity of Alzheimer's
disease.

Beta-Amyloid Receptor Antagonists. The Company has discovered that
beta-amyloid recognizes a receptor on glial cells in the brain. The action of
beta-amyloid on this receptor leads to specific cellular consequences, including
the release of cytokines such as interleukins and tumor necrosis factor. The
release of cytokines has been reported to occur in the brain of Alzheimer's
patients. The Company is working with Janssen on the development of small
molecular weight compounds that would block the interaction between beta-amyloid
and its receptors on glial cells and thus block or reduce the release of
inflammatory agents. A number of high capacity assay systems have been developed
by the Company which are being used to screen Janssen's pharmaceutical library
for antagonists to these beta-amyloid-induced actions. As a result of this
screening, several lead compounds have been identified.

Inhibitors of Beta-Amyloid Proteoglycan Binding. The Company and others
have discovered that another consequence of beta-amyloid action on cells is the
release of proteoglycans. These substances have been shown to be associated with
beta-amyloid in all senile plaques in the Alzheimer's disease brain. The Company
has shown that proteoglycans can indeed bind to beta-amyloid and protect it from
cellular degradation. The Company is working with Janssen on the development of
small molecular weight compounds that inhibit the binding of proteoglycans to
beta-amyloid. The Company has developed a number of assay systems with which to
screen Janssen's pharmaceutical library and has identified lead compounds which
inhibit this binding.

Inhibitors of Complement Activation. The Company is also pursuing research
relating to activated proteins from the classical complement cascade that are
associated with beta-amyloid in Alzheimer's disease senile plaques. The
complement cascade is part of the immune response typically invoked in response
to systemic infections, resulting in the death of pathogenic cells, but is not
usually found in the brain. The Company has discovered that beta-amyloid can
bind one of these factors and activate the complement cascade, providing an
explanation for the presence of activated complement in patients with
Alzheimer's disease. The Company is working with Janssen on the development of
small molecular weight compounds that would block complement activation. The
Company has developed proprietary screens and has used these to identify several
lead compounds that block beta-amyloid induced activation of the complement
cascade.

Alzheimer's Disease Models. The Company has also developed secondary
screens with which to further characterize lead compounds identified in the
high-throughput screens. In addition, Janssen is funding the development of an
animal model of Alzheimer's disease. To date, Company scientists have
demonstrated the deposition of fibrillar beta-amyloid and activation of
neuroglia in this model. If the appropriate aspects of Alzheimer's disease
pathology are replicated in this model, it will be used to test the in vivo
efficacy of selected lead compounds.

THE JANSSEN AGREEMENT

Under the terms of the Janssen Agreement, Johnson & Johnson Development
Corporation, a subsidiary of Johnson & Johnson, made an equity investment in the
Company and Janssen, a wholly-

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owned subsidiary of Johnson & Johnson, paid the Company an initial licensing
fee. The Janssen Agreement provides funding by Janssen to the Company for
Alzheimer's disease research through October 1997. The Janssen Agreement is
renewable, at Janssen's options, for one or two years thereafter. In addition,
in September 1995, the Company entered into an addendum to the Janssen Agreement
in order to expand the scope of the collaboration on Alzheimer's disease to
include research relating to inhibitors of complement activation. Janssen is
required to make additional payments to the Company upon the attainment of
certain clinical and developmental milestones. Janssen is also responsible for
all development costs, including the cost associated with clinical trials and
obtaining regulatory approval. Janssen's parent, Johnson & Johnson, has
worldwide distribution rights for any products developed as a result of this
collaboration. The Company will receive a royalty from Janssen on any sales of
such products. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and "Note H to Consolidated Financial Statements."

COGNITION MODULATION

The Company is developing a class of small molecular weight compounds
designed to act on the histamine H(3) receptor in the brain. Histamine is a
chemical messenger, released from certain neurons in the brain, which regulates
sleep/wake states and modulates levels of arousal and alertness in the conscious
state. The histamine H(3) receptor is predominately found in the brain and
regulates the synthesis and release of histamine in the brain. An antagonist to
this receptor would lead to enhanced states of arousal and alertness. The
histamine H(3) receptor antagonists may be useful in treating several disorders
in which general central nervous system arousal is desirable. An agonist to the
receptor may prove useful for treating disorders such as anxiety and insomnia.
To date, the Company has funded its Cognition Modulation program independently
of strategic partners and retains all of the worldwide commercial rights to any
products it develops. The Company, however, does not anticipate funding clinical
trials relating to this program through the completion of such trials without
the collaboration of a strategic partner. See "Risk Factors -- Dependence on
Strategic Alliances."

H(3) Receptor Antagonists. The Company believes histamine H(3) receptor
antagonists could provide a therapeutic approach for enhancing cognition and
positive behavior in patients with disorders characterized by memory and
learning deficiencies. Such an agent could also be useful in arousing patients
with various forms of depression of the central nervous system, such as
narcolepsy. The Company has discovered and developed a selective histamine H(3)
receptor antagonist, which has been shown in in vivo studies to be available to
the brain after oral administration and to selectively block the histamine H(3)
receptor in the brain. Preclinical studies have demonstrated that this compound
increases wakefulness. Further studies with this compound in genetic narcoleptic
canines have shown a reduction in the onset of narcoleptic attacks. Additional
studies have indicated increased memory recall in learning and memory studies in
animals.

The Company has also developed and synthesized more potent second
generation H(3) antagonist candidates. These second generation histamine H(3)
receptor antagonists demonstrate improved in vitro receptor selectivity profiles
and enhanced potency. In preclinical models, these candidates have also been
shown to enter the brain and enhance histamine release and are being tested for
efficacy.

While there are currently available products for the treatment of the
conditions mentioned above, the Company is not aware of any such products based
on the histamine H(3) receptor antagonists. The Company is aware of a U.S.
patent that covers compounds which include some of the Company's first
generation histamine H(3) receptor antagonists. The Company filed two new patent
applications covering its second generation histamine H(3) receptor antagonists.
See "Risk Factors -- Patents, Licenses and Proprietary Rights" and "--Patents,
Trademarks and Trade Secrets."

H(3) Receptor Agonists. The Company has also begun research on developing
a histamine H(3) receptor agonist to reduce levels of wakefulness and arousal
for use in the treatment of anxiety and insomnia. It has developed several
compounds to date which have high affinity for the histamine H(3) receptor and
in animal models have been shown to penetrate the blood brain barrier and occupy

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histamine H(3) receptors. The Company continues to synthesize and screen new
compounds as potential selective agonists at the histamine H(3) receptor.

COMPETITION

The Company competes with both small biotechnology and established
pharmaceutical companies in all of its product development programs.
Furthermore, academic institutions, governmental agencies, and other public and
private research organizations also continue to conduct research, seek patent
protection, and establish collaborative arrangements with commercial entities
for product development and marketing. Products resulting from these activities
may compete directly with any products developed by the Company. These companies
and institutions also compete with the Company in recruiting and retaining
highly qualified scientific personnel.

Although the Company is not aware of any products on the market that would
directly compete with ADCON-L or ADCON-T/N, there is one product which would
compete with another member of the ADCON family of products. This product,
Interceedt(TM), has been marketed for several years by Johnson & Johnson to
prevent surgical adhesions following pelvic surgeries. In addition, Genzyme
Corporation is developing products to inhibit surgical adhesions following both
pelvic and abdominal surgeries and has recently completed U.S. pivotal clinical
trials for these surgeries and has applied for FDA approval. This product
(Seprafilm(TM)) has recently been recommended for approval by an FDA advisory
committee for specific use in pelvic and abdominal surgeries. There are
significant efforts by others, including many large pharmaceutical companies and
academic institutions, to develop therapeutic products which may compete with
any products that are developed by the Company relating to its Alzheimer's
disease and Cognition Modulation programs. Some of these products may be at a
more advanced stage of development than the Company's products. In addition,
there may be substantial competition in the biopharmaceutical and medical
industries, both from specialized firms and from major pharmaceutical, chemical,
medical device and surgical supply companies. Many of the Company's potential
competitors have product development capabilities and financial and human
resources greater than the Company, and have manufacturing, marketing, sales and
distribution capabilities that the Company does not have. Universities and other
research institutions may develop similar technologies and processes which, in
some instances, may be utilized by others to compete with the Company's
products.

The Company expects to encounter significant competition for each of its
product candidates. To compete successfully the Company will be required to
develop and maintain scientifically advanced technology, develop proprietary
products, attract and retain highly qualified personnel, obtain patent or other
protection for its products, obtain required regulatory approvals and
manufacture and successfully market its products, either alone or through
collaboration with third parties. See "Risk Factors -- Technological Change and
Competition" and "Risk Factors -- Dependence on Key Management and Qualified
Personnel."

RESEARCH AND DEVELOPMENT

The Company is in the early stage of development of certain ADCON products
to complement ADCON-L and ADCON-T/N. The Company is also focusing on the
development of therapeutic products for use in the treatment of certain nervous
system disorders. Although several of these candidate therapeutic products are
in preclinical evaluation, the products currently under development will require
additional research and development, including preclinical and extensive
clinical testing, prior to making application with regulatory authorities for
commercial use. There can be no assurance that the Company's research and
development efforts will be successful or that any candidate products will prove
to be safe and effective in clinical trials and receive necessary regulatory
approvals.

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GOVERNMENT REGULATION

The manufacture and sale of the Company's products are subject to
regulation by numerous authorities, principally the FDA, and corresponding state
and foreign authorities. The regulatory process is lengthy, expensive and
uncertain. Prior to commercial sale in the United States, most medical devices
and new drugs, including the Company's products under development, must be
cleared or approved by the FDA. In addition, certain material changes or
modifications to medical devices and drugs also are subject to FDA review and
approval. Securing the FDA clearances and approvals may require the submission
of extensive clinical data and supporting information to the FDA. Product
clearances and approvals can be withdrawn for failure to comply with regulatory
standards or the occurrence of unforeseen problems following initial marketing.
The FDA and other agency requirements for manufacturing, product testing, and
marketing also can vary depending upon whether the product is a medical device
or new drug. Failure to comply with applicable FDA regulatory requirements could
result in sanctions being imposed on the Company or the manufacturer of its
products, including warning letters, fines, injunctions, civil penalties,
failure of the FDA to grant premarket clearance or premarket approval of medical
devices and drugs, operating restrictions and criminal prosecution. Sales of the
Company's products outside of the United States are subject to foreign
regulatory requirements that may vary widely from country to country. The time
required to obtain clearance from a foreign country may be longer or shorter
than that required by the FDA or other such agencies, and clearance or approval
or other product requirement may differ. There can be no assurance that the
Company will be able to obtain necessary regulatory clearances or approvals on a
timely basis, if at all, for any of its products under development, and delays
in receipt or failure to receive such clearances or approvals, the loss of
previously received clearances or approvals or failure to comply with existing
or future regulatory requirements could have a material adverse effect on the
Company's business, financial condition and results of operations.

Regulation of Medical Devices -- United States. The Federal Food, Drug,
and Cosmetic Act (the "FDC Act") requires premarket clearance or premarket
approval by the FDA prior to commercialization of medical devices. Pursuant to
the FDC Act, the FDA regulates the manufacture, distribution and production of
medical devices in the United States. Medical devices are classified into class
I, II or III on the basis of the controls deemed by the FDA to be reasonably
necessary to ensure their safety and effectiveness. Class I devices are subject
to general controls (e.g., labeling, premarket notification and adherence to
GMP) and class II devices are subject to special controls (e.g., performance
standards, postmarket surveillance, patient registries and FDA guidelines).
Generally, class III devices are those which must require premarket approval by
the FDA to ensure their safety and effectiveness (e.g., life-sustaining,
life-supporting and implantable devices which have been found not to be
substantially equivalent to legally marketed devices).

Before a new device can be introduced into the market, the manufacturer or
distributor generally must obtain FDA clearance or approval through either a
510(k) premarket notification or a premarket approval application ("PMA"). A
510(k) clearance will be granted if the submitted data establish that the
proposed device is "substantially equivalent" to a legally marketed class I or
II medical device, or to a class III medical device for which the FDA has not
called for PMAs. A PMA must be filed if the proposed device is not substantially
equivalent to a legally marketed device or if it is a Class III device for which
the FDA has called for premarket approvals. A PMA must be supported by extensive
data, including preclinical and clinical trial data to demonstrate the safety
and efficacy of the device. If human clinical trials of a device are required
and if the device presents a "significant risk," the manufacturer or the
distributor of the device is required to file an investigational device
exemption ("IDE") application prior to commencing human clinical trials.

The IDE application must be supported by data, typically including the
results of animal and, possibly, mechanical testing. If the IDE application is
approved by the FDA, human clinical trials may begin at a specific number of
investigational sites with a maximum specific number of patients, as approved by
the agency. The clinical trials must be conducted under the auspices of an
independent institutional review board ("IRB") established pursuant to FDA
regulations. In April 1995, the

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Company received FDA approval of IDE applications to conduct multicenter
clinical trials of ADCON-T/N. The Company first received FDA conditional
approval for its IDE application permitting the initiation of a multicenter
clinical trial of ADCON-L on August 9, 1995 provided the Company submits
information to address the FDA's requested changes regarding the criteria chosen
for effectiveness with its corresponding study sample size, times of
postoperative follow-up and validation of patient pain and/or physical therapy
responses. Since that time, the Company has had a series of oral and written
communications with the FDA regarding the agency's requested changes. Although
all outstanding issues have not been finally resolved to the FDA's satisfaction,
the agency nevertheless has permitted the Company to continue the ADCON-L
clinical trial at the institutions enrolled in accordance with the
investigational site waiver granted by the FDA in its August 9, 1995 letter. The
Company is engaged in discussions with the FDA regarding the FDA's requested
changes. There can be no assurances, however, that the FDA will grant final
approval of the IDE for ADCON-L on a timely basis, if at all.

Following receipt of the premarket approval application, if the FDA
determines that the premarket approval application is sufficiently complete to
permit a substantive review, the FDA will "file" the application. Once the
submission is filed, the FDA begins a review of the premarket approval
application. The premarket approval application process can be expensive,
uncertain and lengthy, frequently requiring one to several years from the date
the premarket approval application is accepted for filing. A number of devices
for which premarket approval has been sought by other companies have never been
approved for marketing. The review time is often significantly extended by the
FDA, which may require more information or clarification of information already
provided in the submission. During the review period, an advisory committee
likely will be convened to review and evaluate the application and provide
recommendations to the FDA as to whether the device should be approved. In
addition, the FDA will inspect the manufacturing facility to ensure compliance
with the GMP requirements of the FDA prior to approval of a premarket approval
application. If granted, the premarket approval may include significant
limitations on the indicated uses for which a product may be marketed.

The FDA has stated that it will regulate the Company's ADCON-L and
ADCON-T/N products as Class III medical devices. There is no certainty that the
clinical studies involving these products will be completed in a timely manner
or that the data and information obtained will be sufficient to support the
filing of a premarket approval application. There can be no assurance that the
Company will be able to obtain necessary approvals to market these devices or
any other products under development on a timely basis, if at all, and delays in
receipt or failure to receive such approvals, the loss of previously received
approvals, or failure to comply with existing or future regulatory requirements
could have a material adverse effect on the Company's business, financial
condition and results of operations.

Any products manufactured or distributed pursuant to clearance of a
premarket notification submission or an approved premarket approval application
are subject to pervasive and continuing regulation by the FDA, including
recordkeeping requirements and reporting of adverse experience with the use of
the device. The FDC Act requires that medical devices be manufactured in
registered establishments and in accordance with the GMP for medical devices.
Such manufacturing facilities are subject to periodic inspections by the FDA.

Regulations of Drugs -- United States. Drugs are a category of products
that can include biologics, such as vaccines and prescription or
over-the-counter medications. Each of these classes of products is often
regulated differently and, therefore, approval requirements, if any, can vary
significantly. Before a new drug may be commercially sold in the United States,
clinical trials and other tests on the product must be conducted and the results
submitted to the appropriate regulatory agencies as part of the approval
process. Drug products that the Company may develop are subject to FDA
regulation under the FDC Act. Drug products also would be subject to regulation
under the Public Health Service Act if they are classified as biologics. The
Company believes that its Alzheimer's disease and cognitive disorder products
would be regulated as new drugs.

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The steps required before a new drug product may be marketed in the United
States include (i) preclinical laboratory and animal tests conducted in
accordance with Good Laboratory Practices, (ii) submission to the FDA of an
application for an investigational new drug ("IND"), which must become effective
before human clinical trials may commence, (iii) well-controlled human clinical
trials to establish the safety and efficacy of the new drug product, (iv)
submission of a new drug application ("NDA") to the FDA, and (v) FDA approval of
the NDA prior to any commercial sale or shipment of the drug. Approval by the
FDA must be obtained for each product and for each indication to be treated with
each product.

Preclinical tests include formulation development, laboratory evaluation of
product chemistry and animal studies to assess the potential safety and efficacy
of a product formulation. Preclinical tests are submitted to the FDA as part of
the IND and are reviewed by the FDA prior to authorizing the sponsor to conduct
clinical trials in human subjects. Unless the FDA objects to an IND, the IND
will become effective 30 days following its receipt by the FDA. There is no
certainty that submission of an IND will result in FDA authorization to commence
clinical trials or that authorization of one phase of a clinical trial will
result in authorization of other phases or that clinical trials will result in
FDA approval. Clinical trials may be placed on hold by the FDA at any time for a
variety of reasons, particularly if safety concerns exist.

Clinical trials involving the administration of the investigational drug
product to humans typically are conducted in three phases and are subject to
specific protocols that are particularly detailed in Phases II and III. Each
protocol indicating how the clinical trial will be conducted must be submitted
for review to the FDA as part of the IND. Further, each clinical study must be
conducted under the auspices of an IRB. The IRB considers, among other factors,
ethical concerns, informed consent requirements and protection of human
subjects. The IRB or the FDA may require changes in a protocol both prior to and
after commencement of a trial. There is no assurance that the IRB or the FDA
will permit a study to go forward or, once started, to be completed. The FDA's
review of a study protocol does not necessarily mean that if the study is
successful it will constitute proof of safety or efficacy.

The three phases of clinical trials are generally conducted sequentially,
but they may overlap. Phase I testing generally involves the initial
introduction of the drug into humans for testing the safety, side effects,
dosage tolerance, metabolism and clinical pharmacology of the drug. In the case
of drugs for life-threatening diseases, the initial human testing is generally
done in patients rather than in healthy volunteers. Because these patients are
already afflicted with the target disease, it is possible that such studies may
provide results traditionally obtained in Phase II trials. These trials are
referred to as Phase I/II trials. Phase II testing generally involves
well-controlled tests in a larger but still limited patient population to
determine the efficacy of the drug for specific indications, to determine
optimal dosage and to identify possible side effects and safety risks. If a drug
is found to be effective in Phase II evaluations, expanded Phase III trials are
undertaken to evaluate the overall risks and benefits of the drug in relation to
the treated disease in light of other available therapies. Phase III studies can
include significant numbers of patients. Phase III clinical studies may be
avoided under certain circumstances. For example, under the FDA's expedited
approval interim regulations, the FDA may determine that the study is not
necessary, especially where no adequate alternative therapy exists, and if the
disease under examination is life-threatening or seriously debilitating. The FDA
may suspend clinical trials at any time if the patients are believed to be
exposed to a significant health risk.

Reports of results of preclinical studies and clinical trials for
non-biological drugs, such as those likely to be developed by the Company, are
submitted to the FDA in the form of an NDA for approval for marketing and
commercial shipment. The NDA also includes information pertaining to the
preparation of drug substances, analytical methods, drug product formulation,
details on the manufacture of finished product as well as proposed product
packaging and labeling. Submission of an NDA does not assure FDA approval for
marketing. The application review process generally takes two to three years to
complete, although reviews of treatments for cancer and other life-threatening
diseases may be accelerated. However, the process may take substantially longer
if, among other things, the FDA has questions or concerns about the safety
and/or efficacy of a product.

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In general, the FDA requires at least two adequate and well-controlled
clinical studies demonstrating efficacy with sufficient levels of statistical
assurance. However, additional information may be required. For example, the FDA
also may require long-term toxicity studies or other studies relating to product
safety or efficacy. Notwithstanding the submission of such data, the FDA
ultimately may decide that the application does not satisfy its regulatory
criteria for approval. Finally, the FDA may require additional clinical tests
following NDA approval to confirm safety and efficacy (Phase IV clinical tests).
Less extensive approval requirements can apply to generic and other types of
drugs, but no assurance exists that the Company's Alzheimer's disease and
cognitive disorder products, or any other drug products which the Company may
develop, will qualify for such abbreviated requirements.

Among the requirements for marketing all drugs is the requirement that the
prospective manufacturers also conform to the GMP of the FDA, be subject to FDA
inspection and register and list its drug products with the FDA. In complying
with GMP, manufacturers must continue to expend time, money and effort in
production, recordkeeping and quality assurance to ensure that the product meets
applicable specifications and other requirements. Failure to comply subjects the
manufacturer to possible FDA action, such as the suspension of manufacturing,
seizure of the product or voluntary recall of the product.

The product testing and approval process is likely to take a substantial
number of years and involves the expenditure of substantial resources. The FDA
also may require postmarket testing and surveillance to monitor the use of the
product and continued compliance with regulatory requirements. Upon approval, a
drug only may be marketed for the approved indications in the approved dosage
forms and at the approved dosages. Adverse experiences with the product must be
reported to the FDA. Product approvals may be withdrawn if compliance with
regulatory standards is not maintained or if problems concerning safety or
efficacy of the product occur following approval.

Foreign manufacturers of drug products intended for importation into the
United States also must comply with the GMP and are subject to periodic
inspection by the FDA or by local authorities under agreement with the FDA.

Other Regulation. The advertising of most of the FDA-regulated products
will be subject to Federal Trade Commission jurisdiction. The Company also is
subject to regulations by the Occupational Safety and Health Administration and
by the U.S. Environmental Protection Agency under such statutes as the Toxic
Substances Control Act, the Resource Conservation and Recovery Act and other
laws. Various states and other foreign governments often have comparable health
and environmental laws.

Foreign Regulation. The Company is subject in many countries to regulatory
requirements concerning drugs and devices and relating to human clinical trials,
marketing approvals and product testing. See "Risk Factors -- Uncertainty of
Health Care Reimbursement."

For medical devices, from January 1, 1995, member countries of the European
Union are required to put in effect the Medical Devices Directive ("MDD"). This
new legislation includes, among others, requirements with respect to the design,
safety, performance and manufacture of products. Under the system established by
the MDD, all medical devices other than active implants and in vitro diagnostic
products must qualify for CE Marking by June 14, 1998. During the transitional
period (from January 1, 1995 to June 14, 1998) medical devices can be placed on
the market and put into service if they comply with the requirements of the MDD
or national requirements that were in force on December 31, 1994.

In order to qualify for CE Marking, the manufacturer must comply with the
Essential Requirements of the MDD. These relate to safety and performance. In
order to demonstrate compliance with these requirements of the MDD, the
manufacturer must undergo conformity assessment which depends on the class of
the product. The Company has chosen as its conformity assessment type testing of
the product by a Notified Body and assessment of the manufacturer's quality
system used in production by a Notified Body. The Notified Body chosen by the
Company is a Dutch non-governmental entity which, after an accreditation
proceeding, has been notified by the Dutch Competent

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Authority to the European Commission that it may carry out conformity assessment
tasks under the MDD. Once all the necessary conformity assessment tasks have
been completed to the satisfaction of the Notified Body and the manufacturer is
convinced that it is in full compliance with the MDD, CE Marking may be affixed
on the products concerned.

Although member countries must accept for marketing medical devices bearing
a CE Marking without imposing further requirements related to product safety and
performance, each country may require the use of its own language on labels and
instructions for use. National Competent Authorities who are required to enforce
compliance with the requirements of the MDD, can restrict, prohibit and recall
CE marked products if they are unsafe. Such a decision must be confirmed by the
European Commission in order to be valid. Member countries can impose additional
requirements as long as they do not violate the MDD or constitute technical
barriers to trade.

Within the European Union, premarket compliance for devices must be
supported by clinical data of a type and extent set out by European Union
directives, standards as interpreted by Competent Authorities and Notified
Bodies. The approval process for the commencement of clinical trials varies
currently from country to country. To the extent possible, the Company conducted
clinical trials are designed to develop a regulatory package sufficient for
multi-country European Union approval, without the need to duplicate clinical
trials for individual country approvals.

The new post-1994 regimes for medical devices are based on directives.
Devices will be subject to, in addition to other future European Union or other
countries legislation, continued national regulation on pricing and
reimbursement, which may vary from country to country. Certain other
requirements such as clinical investigations and post marketing surveillance,
will probably be subject to significant variation among countries.

PATENTS, TRADEMARKS AND TRADE SECRETS

Proprietary protection for the Company's product candidates, processes and
know-how is important to the Company's business. The Company's policy is to file
patent applications to protect technology, inventions, and improvements that are
considered important to the development of its business. The Company also relies
upon trade secrets, know-how and continuing technological innovation to develop
and maintain its competitive position. The Company plans to aggressively
prosecute and defend its patents and proprietary technology.

The Company has filed U.S. and corresponding foreign patent applications
relating to its product candidates in the ADCON family. These applications cover
the methods of their medical uses and pharmaceutical compositions. Claims
covering ADCON products in one of these applications have been allowed by the
U.S. Patent and Trademark Office. The Company is also pursuing broader claims
that cover methods of the medical uses of related products and their
pharmaceutical compositions. The Company is not aware that its manufacture, use
and/or sale of its ADCON products infringes any valid claim of any issued
patents. There can be no assurance, however, that infringement of such claims
will not be found to exist. A dispute has arisen between Case Western and the
Company regarding inventorship of the ADCON products. Case Western has informed
the Company that it believes that one of its employees is a co-inventor of the
ADCON family of products and that the Company is therefore obligated to pay
royalties to Case Western on the sale of ADCON products. Case Western has
threatened litigation regarding this matter. The Company believes that no Case
Western employee is an inventor of the ADCON family of products. See "Risk
Factors -- Dispute Regarding ADCON and Potential Royalty on ADCON Sales."

The Company has also filed U.S. patent applications that are licensed to
the Company from the University of Toledo, that relate to a series of synthetic
compounds that are histamine H(3) receptor antagonists, to the methods of their
medical uses, to pharmaceutical compositions comprising these compounds and to
processes for manufacture of certain of these compounds. A U.S. patent has
issued that covers processes for the manufacture of intermediates for certain of
the compounds. A U.S. patent application co-owned by the Company and the
University of Toledo covering methods of medical use

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of a series of histamine H(3) receptor antagonist compounds has issued. Two
additional U.S. patent applications are pending.

Three further U.S. patent applications, filed solely by the Company, and
certain corresponding foreign applications, covering two different series of
synthetic H(3) receptor antagonist compounds, and one series of H(3) receptor
agonist compounds, their methods of medical use and pharmaceutical compositions,
are pending. No assurance can be given that any claims relating to these
products and methods will be issued.

A U.S. patent has been issued to Institut National de la Sante et de la
Recherche Medicale ("INSERM"), Societe Civile Bioprojet, and Universite de Caen
(the "INSERM patent") covering certain histamine H(3) receptor antagonists
including some of the compounds in one of the Company's co-owned series of
histamine H(3) receptor antagonist compounds. The INSERM patent has an earlier
effective filing date than that of the Company's histamine H(3) receptor
antagonist applications relating to this series of compounds. A corresponding
European patent application has also been filed by INSERM, with an earlier
effective filing date in Europe than the Company's. In the event that the U.S.
Patent and Trademark Office determines that the INSERM patent claims the same
subject matter relating to histamine H(3) receptor antagonist compounds as at
least one of the Company's U.S. applications, an interference proceeding before
the Board of Patent Appeals and Interferences may be instituted to determine who
is the first inventor under the U.S. patent laws. The Company believes that its
date of invention for the pertinent claimed subject matter in the Company's U.S.
patent applications relating to histamine H(3) receptor antagonist compounds may
be earlier than the date of invention to which INSERM is entitled for its
application(s) in the U.S. for purposes of an interference proceeding or as a
reference against the Company's subsequently filed U.S. applications. However,
should such an interference proceeding be declared, there can be no assurance
that the Company would prevail. Additionally, since under U.S. patent law the
U.S. Patent and Trademark Office keeps a U.S. patent application confidential,
the Company does not know if other U.S. patent applications relating to the
INSERM patent are pending.

The Company is prosecuting its patent applications with the U.S. Patent and
Trademark Office but the Company does not know whether any of its applications
will result in the issuance of any patents or, if any patents are issued,
whether any issued patent will provide significant proprietary protection or
will be circumvented or invalidated. During the course of patent prosecution,
patent applications are evaluated, inter alia, for utility, novelty,
nonobviousness and enablement. The U.S. Patent and Trademark Office may require
that the claims of an initially filed patent application be amended if it is
determined that the scope of the claims includes subject matter that is not
useful, novel, nonobvious or enabled. Furthermore, in certain instances, the
practice of a patentable invention may require a license from the holder of
dominant patent rights. In cases where one party believes that it has a claim to
an invention covered by a patent application or patent of a second party, the
first party may provoke an interference proceeding in the U.S. Patent and
Trademark Office or such a proceeding may otherwise be declared by the Patent
and Trademark Office. In general, in an interference proceeding, the Patent and
Trademark Office would review the competing patents and/or patent applications
to determine the validity of the competing claims, including but not limited to
determining priority of invention. Any such determination would be subject to
appeal in the appropriate U.S. federal courts.

34
<PAGE> 37

rights of others or that licenses that might be required as a result of such
infringement for the Company's processes or products would be available on
commercially reasonable terms, if at all.

The Company cannot predict whether its or its competitors' patent
applications will result in valid patents being issued. Litigation, which could
result in substantial cost to the Company, may also be necessary to enforce the
Company's patent and proprietary rights and/or to determine the scope and
validity of others' proprietary rights. The Company may participate in
interference proceedings that may in the future be declared by the U.S. Patent
and Trademark Office to determine priority of invention, which could result in
substantial cost to the Company. There can be no assurance that the outcome of
any such litigation or interference proceedings will be favorable to the Company
or that the Company will be able to obtain licenses to technology that it may
require or that, if obtainable, such technology can be licensed at a reasonable
cost.

The patent position of biotechnology and biopharmaceutical firms generally
is highly uncertain and involves complex legal and factual questions. To date,
no consistent policy has emerged regarding the breadth of claims allowed in
biotechnology and biopharmaceutical patents. Accordingly, there can be no
assurance that patent applications owned or licensed by the Company will result
in patents being issued or that, if issued, the patents will afford protection
against competitors with similar technology.

The Company also attempts to protect its proprietary compounds, products
and processes by relying on trade secret laws, and on non-disclosure and
confidentiality agreements. The Company requires its employees, consultants,
members of the Scientific Advisory Board, outside scientific collaborators and
sponsored researchers, and other advisors to execute confidentiality agreements
upon the commencement of employment or consulting relationships with the
Company. These agreements generally provide that all confidential information
developed or made known to the individual during the course of the relationships
is to be kept confidential and not disclosed to third parties except in specific
circumstances. In the case of employees, the agreements provide that any
inventions conceived by the individual within the scope of his employment shall
be the exclusive property of the Company. There can be no assurance, however,
that these agreements will provide meaningful protection for any of the
Company's trade secrets in the event of unauthorized use or disclosure of such
information. See "Risk Factors--Patents, Licenses and Proprietary Rights."

EMPLOYEES

As of March 31, 1996, the Company had 45 full-time employees. Of the 45
full-time employees, 32 are engaged in, or directly support, research and
development.

FACILITIES

The Company's personnel conduct the Company's internal research at a 35,705
square foot leased facility in Beachwood, Ohio, a suburb of Cleveland. The
leases for 9,140, 11,569, 13,000 and 1,996 square feet of space in this facility
expire on December 31, 1996, December 31, 1998, December 31, 2001 and December
31, 2001, respectively, subject to an option to renew the leases for one
additional term. The renewal option for the total 35,705 square feet is until
December 31, 2001. The Company currently subleases a 4,600 square foot portion
of this space.

LEGAL PROCEEDINGS

The Company is not a party in any material legal proceedings.

35
<PAGE> 38

MANAGEMENT

DIRECTORS AND EXECUTIVE OFFICERS

The Directors and executive officers of the Company and their positions
with the Company are:

<TABLE>
<CAPTION>
NAME AGE POSITIONS
- ------------------------------------ --- ---------------------------------------------------
<S> <C> <C>
Thomas O. Oesterling, Ph.D.......... 58 President, Chief Executive Officer and Director
</TABLE>

<TABLE>
<S> <C> <C>
Robert C. A. Frederickson, Ph.D..... 54 Executive Vice President, Research and Development
Rodney E. Dausch.................... 51 Vice President, Chief Financial Officer and
Secretary
Michael A. Zupon, Ph.D.............. 41 Vice President, Product Development and Operations
Robert P. Pinkas (1)(3)............. 41 Chairman of the Board and Treasurer
Allen H. Ford (2)(3)................ 67 Director
Theodore E. Haigler, Jr. ........... 71 Director
Robert D. Pavey (1)(3).............. 53 Director
Irving S. Shapiro (2)(3)............ 79 Director
John L. Ufheil (1)(3)............... 62 Director
</TABLE>

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

(1) Member of the Compensation Committee.

(2) Member of the Audit Committee.

(3) Member of the Executive Committee.

THOMAS O. OESTERLING, PH.D. Dr. Oesterling has served as President, Chief
Executive Officer and a Director of the Company since June 1989. Dr. Oesterling
received his Ph.D. in Pharmaceutical Chemistry from The Ohio State University.

ROBERT C. A. FREDERICKSON, PH.D. Dr. Frederickson has served as Executive
Vice President, Research and Development since March 1995. From August 1989 to
March 1995, he was Senior Vice President Research and Development and Chief
Technical Officer of the Company. Dr. Frederickson received his Ph.D. in
Neuropharmacology from the University of Manitoba.

RODNEY E. DAUSCH. Rodney E. Dausch joined the Company as Vice President and
Chief Financial Officer in March 1995. In August 1995, Mr. Dausch was elected
Secretary of the Company. Prior to joining the Company and since February 1994,
Mr. Dausch was Vice President of Finance and Administration of Oncologix, Inc.,
a biopharmaceutical company. From May 1987 to January 1994, he was Vice
President of Finance and Administration of Oncor, Inc., a manufacturer of
diagnostic products for detection of cancer diseases. Mr. Dausch holds a B.S. in
Accounting from Loyola College and is a Certified Public Accountant in the State
of Maryland.

MICHAEL A. ZUPON, PH.D. Dr. Zupon has served as Vice President, Product
Development and Operations since June 1993. Prior to joining the Company, Dr.
Zupon had 12 years of experience in a variety of product development positions
at Schering-Plough Corporation, a pharmaceutical company, most recently as
Director, Drug Delivery and Technology Assessment from January 1991 to June 1993
and as Director, Pharmaceutical Process Development from April 1988 to January
1991. Dr. Zupon received his Bachelor of Science and Ph.D. degrees from the
University of Utah College of Pharmacy and also received a Master of Business
Administration degree from the University of Utah Graduate School of Business.

ROBERT P. PINKAS. Mr. Pinkas has served as Chairman of the Board of
Directors and Secretary of the Company since 1988. He is a Director of Pediatric
Services of America Inc. and Quad Systems Corporation. Mr. Pinkas is the
founding general partner of Brantley Venture Partners, a venture capital firm
formed in 1987.

36
<PAGE> 39

ALLEN H. FORD. Mr. Ford has served as a Director of the Company since 1988.
Mr. Ford has been an independent management consultant since his retirement in
1986. Mr. Ford is also a Director of First Union Real Estate Investments and
Parker-Hannifin Corporation.

THEODORE E. HAIGLER, JR. Mr. Haigler has served as a Director of the
Company since May 1996. Mr. Haigler has been an independent management
consultant since his retirement in 1989. From 1986 until his retirement in 1989,
he served as President, Chief Executive Officer and Director of Burroughs
Wellcome Co. and Director of Wellcome plc, London, England.

ROBERT D. PAVEY. Mr. Pavey has served as a Director of the Company since
1988. In 1969, he was a co-founder of Morgenthaler Ventures, a venture capital
firm based in Cleveland, Ohio, with which he remains a partner today. Mr. Pavey
is past President of the National Venture Capital Association and is a Director
of Atria Software, Inc.

IRVING S. SHAPIRO. Mr. Shapiro has served as a Director since December
1993. Mr. Shapiro has been Of Counsel to the law firm of Skadden, Arps, Slate,
Meagher & Flom in Wilmington, Delaware since 1990 and from 1981 to 1989 was a
Partner of that firm. Mr. Shapiro currently serves as Director of J.P. Morgan
Florida, FSB, Pediatric Services of America Inc. and Sola International Inc.

JOHN L. UFHEIL. Mr. Ufheil has served as a Director of the Company since
May 1993. From April 1990 until his retirement in May 1994, he served as
Chairman, President, and Chief Executive Officer of Celgene Corporation (a
biotechnology company).

The Company's Second Restated Certificate of Incorporation divides the
Board of Directors into three classes with each class having as nearly equal in
number of Directors as possible. Directors are elected for a term of three years
and hold office until their successors are elected and qualified or until their
earlier removal or resignation. Class I consists of Messrs. Ford, Haigler and
Pavey and their term of office expires at the 1999 annual meeting of
stockholders; Class II consists of Messrs. Shapiro and Ufheil and their term of
office expires at the 1997 annual meeting of stockholders; and Class III
consists of Dr. Oesterling and Mr. Pinkas and their term of office expires at
the 1998 annual meeting of stockholders. The Amended and Restated By-Laws of the
Company (the "By-Laws") provides that the number of Directors shall be
determined from time to time only by a vote of the majority of the Board of
Directors. See "Description of Capital Stock" and "Risk Factors -- Anti-Takeover
Provisions."

COMPENSATION OF DIRECTORS

No Director currently receives compensation for his services as a Director.
Mr. Pinkas received a non-qualified stock option to purchase 5,000 shares of
Common Stock at an exercise price of $.35 per share. Mr. Ford received
non-qualified stock options to purchase 3,000 shares of Common Stock at a
weighted average exercise price of $1.35 per share. Mr. Shapiro and Mr. Ufheil
each received non-qualified stock options to purchase 7,200 shares of Common
Stock at an exercise price of $7.50 per share. Directors are reimbursed for
their expenses associated with their participation on the Board of Directors.
Messrs. Pinkas, Ford, Shapiro and Ufheil each received non-qualified stock
options to purchase 4,000 shares of Common Stock at an exercise price of $9.50
per share pursuant to the Company's 1995 Nonemployee Directors Stock Option
Plan. Mr. Haigler received non-qualified stock options to purchase 4,000 shares
of Common Stock at an exercise price equal to the closing price of the Company's
Common Stock, as reported on the Nasdaq National Market, on May 15, 1996. See
"Executive Compensation -- Stock Option Plans."

37
<PAGE> 40

EXECUTIVE COMPENSATION

SUMMARY OF EXECUTIVE COMPENSATION

The following table sets forth certain information relating to the annual
and long-term compensation for the years ended December 31, 1995 and 1994 for
the Chief Executive Officer and the other named executive officers of the
Company who received compensation in excess of $100,000 in that year.

<TABLE>
<CAPTION>
LONG TERM COMPENSATION
---------------------------------------------
AWARDS PAYOUTS
ANNUAL COMPENSATION ---------------------- ---------------------
-------------------------------- RESTRICTED SECURITIES ALL
OTHER STOCK UNDERLYING LTIP OTHER
NAME AND SALARY BONUS ANNUAL AWARD(S) OPTIONS/ PAYOUTS COMPENSATION
PRINCIPAL POSITION YEAR ($) ($) COMPENSATION ($) SARS(#) ($) ($)(1)
- ----------------------------------- ---- -------- ------- ------------- ---------- ---------- -------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Thomas O. Oesterling, Ph.D......... 1995 $210,000 $63,000 -- $ 21,000 115,000 -- $ 1,260
Chief Executive Officer 1994 210,000 17,000 -- 17,000 8,000 -- 1,170
Robert C. A. Frederickson, Ph.D.... 1995 $180,000 $31,687 -- $ 4,313 50,000 -- $ 749
Executive Vice President 1994 180,000 20,000 -- -- 5,000 -- 749
Research and Development
Rodney E. Dausch (2)............... 1995 $120,652 $27,185 -- $ 9,062 80,000 -- $ 51,623(3)
Vice President, Chief Financial
Officer and Secretary
Michael A. Zupon, Ph.D............. 1995 $125,000 $28,125 -- $ 9,375 61,000 -- $ 153
Vice President, Product 1994 125,000 15,000 -- 15,000 -- -- 4,153(4)
Development and Operations
Louis Walcer....................... 1995 $120,000 $ 6,000 -- $ 6,000 19,000 -- $ 143
Vice President, Business 1994 110,000 10,000 -- 10,000 -- -- 122
Development and Marketing
</TABLE>

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

(1) Includes premiums on life insurance policies paid by the Company on behalf
of each of the named executive officers.

(2) Rodney E. Dausch became Vice President and Chief Financial Officer of the
Company effective March 13, 1995.

(3) Includes relocation living expenses of $35,623 paid by the Company on behalf
of Mr. Dausch and a bonus of $15,000.

(4) Includes relocation living expenses of $4,000 paid by the Company on behalf
of Dr. Zupon in 1994.

38
<PAGE> 41

OPTION/SAR GRANTS IN LAST FISCAL YEAR

The following table contains information concerning the grants of options
and SARs made during 1995 to the Named Executive Officers.

<TABLE>
<CAPTION>
INDIVIDUAL GRANTS POTENTIAL
-------------------------- REALIZABLE VALUE
NUMBER OF PERCENT AT ASSUMED ANNUAL
SECURITIES OF TOTAL RATES OF STOCK PRICE
UNDERLYING OPTIONS/SARS APPRECIATION FOR
OPTION/SARS GRANTED TO EXERCISE OF OPTION TERM (1)
GRANTED EMPLOYEES IN BASE PRICE EXPIRATION ---------------------
NAME (#)(2) FISCAL YEAR ($/SH) DATE 5%($) 10%($)
- --------------------------------- ----------- ------------ ----------- ---------- -------- ----------
<S> <C> <C> <C> <C> <C> <C>
Thomas O. Oesterling, Ph.D....... 15,000 2.02% $7.50 3/16/05 $ 70,751 $ 179,296
100,000 13.47% $8.50 12/27/05 $534,560 $1,354,681
Robert C. A. Frederickson, 10,000 1.35% $7.50 3/16/05 $ 47,167 $ 119,531
Ph.D...........................
40,000 5.39% $8.50 12/27/05 $213,824 $ 541,872
Rodney E. Dausch................. 50,000 6.74% $7.50 3/16/05 $235,835 $ 597,653
30,000 4.04% $8.50 12/27/05 $160,368 $ 406,404
Michael A. Zupon, Ph.D........... 26,000 3.50% $7.50 3/16/05 $122,634 $ 310,780
35,000 4.72% $8.50 12/27/05 $187,096 $ 474,138
Louis Walcer..................... 9,000 1.21% $7.50 3/16/05 $ 42,450 $ 107,578
10,000 1.35% $8.50 12/27/05 $ 53,456 $ 135,468
</TABLE>

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

(1) The potential realizable value is based on the term of the option at the
time of grant (ten years). The potential realizable value is calculated by
assuming that the deemed fair value of the Company's Common Stock for
financial statement presentation purposes on the date of grant appreciates
at the indicated rate for the entire term of the option and that the option
is exercised at the exercise price and sold on the last day of its term at
the appreciated price.

(2) Represents options granted pursuant to the Company's 1989 Stock Option Plan
with an exercise price equal to the fair market value as determined by the
Board of Directors on the date of grant. Options become exercisable with
respect to one-fourth of the shares covered thereby on each anniversary of
the date of grant, commencing on the first anniversary of such date. Each
option has a maximum term of ten years, subject to earlier termination in
the event of the optionee's cessation of service with the Company.

AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR
AND FY-END OPTION/SAR VALUES

No options were exercised by the Named Executive Officers during 1995. The
following table provides information regarding unexercised stock options held by
the Named Executive Officers as of December 31, 1995:

<TABLE>
<CAPTION>
VALUE OF
NUMBER OF UNEXERCISED
UNEXERCISED IN-THE-MONEY
OPTIONS/SARS AT OPTIONS/SARS AT
FISCAL YEAR-END FISCAL YEAR-END
----------------- -----------------
SHARES ACQUIRED VALUE EXERCISABLE (E)/ EXERCISABLE (E)/
NAME ON EXERCISE REALIZED ($) UNEXERCISABLE (U) UNEXERCISABLE (U)
- ----------------------------------- ---------------- ------------- ----------------- -----------------
<S> <C> <C> <C> <C>
Thomas O. Oesterling, Ph.D......... -- -- 119,750(E) $ 883,293(E)
122,250(U) $ 16,306(U)
Robert C. A. Frederickson, Ph.D.... -- -- 35,750(E) $ 225,844(E)
54,250(U) $ 12,656(U)
Rodney E. Dausch................... -- -- 0(E) $ 0(E)
80,000(U) $ 40,000(U)
Michael A. Zupon, Ph.D............. -- -- 12,000(E) $ 10,500(U)
73,000(U) $ 28,875(U)
Louis Walcer....................... -- -- 9,000(E) $ 7,875(E)
28,000(U) $ 14,500(U)
</TABLE>

39
<PAGE> 42

EMPLOYMENT AGREEMENTS

The Company is a party to letter agreements with each of Dr. Oesterling,
Dr. Frederickson and Mr. Dausch that provide for severance payments in the event
these individuals are terminated without cause. Such agreements provide that Dr.
Oesterling and Mr. Dausch will receive 12 months of pay at their base salary
rate if terminated without cause and Dr. Frederickson will receive 6 months of
pay at his base salary rate if terminated without cause.

COMPENSATION PURSUANT TO BENEFIT PLANS

Described below are certain employee benefit plans of the Company pursuant
to which cash or non-cash compensation was paid or distributed to its Directors
or executive officers during the last fiscal year, or is proposed to be paid or
distributed to its Directors or executive officers in the future.

STOCK OPTION PLANS

The Company's Amended and Restated 1989 Stock Option Plan (the "1989 Plan")
allows the Company to issue and sell up to an aggregate of 1,020,000 shares of
Common Stock. The Company also has in effect the 1992 Directors Stock Option
Plan (the "1992 Plan," together with the 1989 Plan referred to collectively as
the "Stock Option Plans"), which is designed to provide incentives to eligible
Directors of the Company by authorizing the grant to such eligible Directors of
options to purchase shares of Common Stock of the Company. The number of shares
of Common Stock available for grant under the 1992 Plan is 40,000 shares. As of
the date of this Prospectus, under the 1992 Plan, 34,440 shares of Common Stock
have been issued upon exercise of options and 744,975 shares of Common Stock
have been reserved for issuance upon exercise of outstanding options granted
pursuant to the Stock Option Plans.

Vested stock options granted under the 1989 Plan may not be exercised
unless, at the time of exercise, the optionee is employed by the Company or is
providing services to the Company, and has been continuously employed or
providing services since the date of grant, except that the period may be
extended on certain events including termination of employment with the consent
of the Company, death and disability. Vested options granted under the 1992 Plan
may not be exercised unless, at the time of exercise, the optionee is a Director
of the Company and has been continuously serving as a Director of the Company
since the date of grant of such options, except that the period may be extended
upon the occurrence of certain events, including termination of employment with
the consent of the Company, death and disability.

During the year ended December 31, 1995, pursuant to the 1989 and 1992
Stock Option Plans, the Company granted options for the purchase of an aggregate
of 444,700 shares of Common Stock at a weighted average exercise price of $8.20
per share. Subsequent to December 31, 1995, the Company granted options and
issued shares of Common Stock pursuant to the Stock Option Plans in the
aggregate amount of 10,963 shares as follows: (i) options to purchase 2,000
shares of Common Stock, exercisable at $8.625 per share, to certain employees of
the Company; (ii) 6,088 shares of Common Stock issued as bonuses; and (iii)
2,875 shares of Common Stock issued upon the exercise of stock options.

The 1995 Nonemployee Directors Stock Option Plan of the Company (the "1995
Plan") was adopted by the Board of Directors, and approved by the Company's
stockholders, to provide for the issuance of up to 150,000 shares of Common
Stock to nonemployee Directors. The purpose of the 1995 Plan is to enable the
Company to offer its present and prospective nonemployee members of the Board of
Directors benefits comparable to those available to them as directors of other
public companies and provide them with an added incentive to make a maximum
contribution to the growth and profitability of the Company's business. The 1995
Plan provides for the grant of formula based stock options to certain
nonemployee members of the Board of Directors. Set awards will be made upon the
consummation of the Offering and annually thereafter following the Annual
Meeting of Stockholders to current Board members. New Board members will receive
an initial grant upon election to serve on the Board of Directors and then
awards annually as previously described. During the year ended

40
<PAGE> 43

December 31, 1995, pursuant to the 1995 Plan, the Company granted options for
the purchase of an aggregate of 20,000 shares of Common Stock at an exercise
price of $9.50 per share.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

The members of the Compensation Committee of the Company are Robert D.
Pavey, Chairman, Robert P. Pinkas and John L. Ufheil.

CERTAIN TRANSACTIONS

On July 29, 1994, the Company sold an aggregate of 2,420,001 shares of its
prior Series D Preferred Stock and warrants for the purchase of 2,420,001 shares
of Series D Preferred Stock for a net consideration of $3,426,428 which was
converted in connection with the initial public offering of the Company into
483,998 shares of Common Stock. The following entities, among others, purchased
shares of Series D Preferred Stock in the amounts indicated: (i) Brantley
Venture Partners II, L.P.--400,000 shares (Mr. Pinkas is affiliated with
Brantley Venture Partners II, L.P.; (ii) Chemicals and Materials Enterprise
Associates, Limited Partnership--166,667 shares and New Enterprise Associates V,
Limited Partnership--400,000 shares; (iii) Morgenthaler Venture Partners II
("MVP II")--250,000 shares and Morgenthaler Venture Partners III ("MVP
III")--250,000 shares (Mr. Pavey is affiliated with MVP II and MVP III); and
(iv) Mr. Ford--66,667 shares.

On October 14, 1994, the Company sold an aggregate of 1,000,000 shares of
its Series E Preferred Stock and warrants for the purchase of 200,000 shares of
Series E Preferred Stock to Johnson & Johnson Development Corporation for a net
consideration of $1,489,500. The 1,000,000 Series E Preferred Stock was
converted into 200,000 shares of Common Stock.

On June 30, 1995, the Company sold an aggregate of 2,702,703 shares of its
Series F Preferred Stock for a net consideration of $4,653,089. New York Life
Insurance co., an existing stockholder, purchased 324,325 shares of Series F
Preferred Stock. The Series F Preferred Stock was converted into 540,512 shares
of Common Stock.

41
<PAGE> 44

PRINCIPAL STOCKHOLDERS

The following table sets forth, as of February 1, 1996 (except as otherwise
noted) as to the security ownership of those persons owning of record or known
to the Company to be the beneficial owner of more than five percent of the
voting securities of the Company and the security ownership of equity securities
of the Company by each of the Directors of the Company, Director nominees, and
each of the executive officers named in the Summary Compensation Table, and all
Directors and executive officers as a group. Except as otherwise noted, all
information with respect to beneficial ownership has been furnished by the
respective Director, Director nominees, executive officer or persons
beneficially owning five percent or more of the Common Stock, as the case may
be. Unless otherwise indicated, the persons named below have sole voting and
investment power with respect to the number of shares set forth opposite their
names. Beneficial ownership of Common Stock has been determined for this purpose
in accordance with the applicable rules and regulations promulgated under the
Securities Exchange Act of 1934 (the "Exchange Act").

<TABLE>
<CAPTION>
AMOUNT AND NATURE OF
NAME AND ADDRESS OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP PERCENT
- ----------------------------------------------------------------- -------------------- -------
<S> <C> <C>
New Enterprise Associates Group (1).............................. 725,191 9.93%
1119 St. Paul Street
Baltimore, Maryland 21202
State of Wisconsin Investment Board (2).......................... 671,000 9.19%
P.O. Box 7842
Madison, Wisconsin 53707
Morgenthaler Venture Partners II & III (3)....................... 646,818 8.86%
700 National City Bank Building
Cleveland, Ohio 44114
Brantley Venture Partners (4).................................... 530,608 7.26%
20600 Chagrin Boulevard
Cleveland, Ohio 44122..........................................
Montgomery Medical Ventures II (5)............................... 475,732 6.51%
600 Montgomery Street
San Francisco, California 94111
Thomas O. Oesterling, Ph.D. (6).................................. 152,838 2.05%
Robert P. Pinkas (4)............................................. 530,608 7.26%
Allen H. Ford (7)(8)............................................. 42,750 *
Robert D. Pavey (2).............................................. 646,818 8.86%
Irving S. Shapiro (9)............................................ 3,600 *
John L. Ufheil (10).............................................. 3,600 *
Theodore E. Haigler, Jr.......................................... 0 *
Robert C.A. Frederickson, Ph.D. (11)............................. 74,257 1.01%
Rodney E. Dausch (12)............................................ 13,566 *
Michael A. Zupon, Ph.D. (13)..................................... 33,498 *
Louis Walcer (14)................................................ 19,439 *
All Directors and executive officers as a group (10 persons) 1,520,954 20.21%
(15)...........................................................
</TABLE>

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

*Represents less than 1% of the outstanding shares.

(1) Includes 207,016 shares of Common Stock owned by CMEA and 518,175 shares of
Common Stock owned by NEA.

(2) Information with respect to beneficial ownership is based on a Schedule 13G
filing with the Securities and Exchange Commission on February 1, 1996.

42
<PAGE> 45

(3) Includes 481,292 shares of Common Stock owned by Morgenthaler Venture
Partners II ("MVPII") and 160,526 shares of Common Stock owned by
Morgenthaler Venture Partners III ("MVPIII"). Robert D. Pavey, a Director of
the Company, is a general partner in each of Morgenthaler Management
Partners II and Morgenthaler Management Partners III, the general partners,
respectively, of MVPII and MVPIII. Voting and investment power with respect
to the shares of Common Stock owned by MVPII and MVPIII is shared by the
general partners of the respective management partnerships of MVPII and
MVPIII. Includes 5,000 shares owned by Pavey Family Partnership.

(4) Includes 228,766 shares of Common Stock owned by Brantley Venture Partners,
L.P. and 296,842 shares of Common Stock owned by Brantley Venture Partners
II, L.P. Robert P. Pinkas, a Director of the Company, is a general partner
of Pinkas Family Partners, L.P., the general partner of each of Brantley
Venture Management, L.P. and Brantley Venture Management II, the general
partners, respectively of Brantley Venture Partners, L.P. and Brantley
Venture Partners II, L.P. Includes 5,000 shares of Common Stock purchasable
upon the exercise of stock options issued to Mr. Pinkas.

(5) Does not include 5,333 shares of Common Stock owned by Montgomery
Associates, 1992 L.P.

(6) Includes 123,500 shares of Common Stock purchasable upon the exercise of
stock options.

(7) Excludes 39,000 shares of Common Stock owned by Case Western Reserve
University of which Mr. Ford is past Chairman of the Board of Trustees and
as to which he shares voting and investment power. Mr. Ford disclaims any
beneficial interest in such shares.

(8) Includes 2,750 shares of Common Stock purchasable upon the exercise of stock
options.

(9) Includes 3,600 shares of Common Stock purchasable upon the exercise of stock
options.

(10) Includes 3,600 shares of Common Stock purchasable upon the exercise of
stock options.

(11) Includes 38,250 shares of Common Stock purchasable upon the exercise of
stock options.

(12) Includes 12,500 shares of Common Stock purchasable upon the exercise of
stock options.

(13) Includes 18,500 shares of Common Stock purchasable upon the exercise of
stock options.

(14) Includes 15,750 shares of Common Stock purchasable upon the exercise of
stock options.

(15) Includes 85,000 shares of Common Stock purchasable upon the exercise of
stock options by the executive officers of the Company who are not
directors.

43
<PAGE> 46

SELLING STOCKHOLDERS

The Selling Stockholders listed in the following table are offering the
number of shares of Common Stock shown opposite their names. Certain existing
stockholders have the right to join in this offering pursuant to registration
rights granted by the Company in an amount not to exceed 25% of the aggregate
shares of Common Stock offered hereby. Certain of these stockholders have not
yet informed the Company that they do not intend to exercise such rights. The
amounts shown as being beneficially owned by the Selling Stockholders (including
such ownership as may be attributed to such Selling Stockholders) prior to the
offering are as of May 15, 1996.

<TABLE>
<CAPTION>
SHARES OF SHARES OF
COMMON STOCK COMMON STOCK
BENEFICIALLY OWNED BENEFICIALLY OWNED
PRIOR TO THE OFFERING NUMBER OF SHARES OF AFTER THE OFFERING
--------------------- COMMON STOCK --------------------
NAME OF BENEFICIAL OWNER NUMBER PERCENTAGE OFFERED HEREBY NUMBER PERCENTAGE
- ---------------------------------- ------- ---------- ------------------- ------ ----------
<S> <C> <C> <C> <C> <C>
Olive B. Cole Foundation, Inc. ... 10,810 0.15% 10,810 0 --
Nancy J. Blay..................... 10,810 0.15% 10,810 0 --
Richard W. Pogue as Trustee
to the Richard W. Pogue Trust... 10,810 0.15% 5,810 5,000 0.06%
McDonald & Co. Securities, Inc. as
Custodian for Jeffrey Kryvicky
IRA............................. 10,810 0.15% 10,810 0 --
George P. Supp.................... 5,405 0.07% 2,500 2,905 0.03%
John C. Kane...................... 10,810 0.15% 10,810 0 --
Mellon Bank, N.A. as Trustee for
the Bell Atlantic Master Pension
Trust........................... 144,783 1.98% 129,668 15,115 0.17%
Bost & Co. ....................... 54,888 0.75% 49,156 5,732 0.07%
Iceship & Co. .................... 17,671 0.24% 15,836 1,835 0.02%
Northern Trust Co. as Trustee for
the Illinois Municipal
Retirement Fund................. 4,236 0.06% 3,790 446 0.01%
</TABLE>

44
<PAGE> 47

DESCRIPTION OF CAPITAL STOCK

The authorized capital stock of the Company consists of 30,000,000 shares
of Common Stock, par value $0.01 per share, and 5,000,000 shares of preferred
stock, par value $0.01 per share (the "Preferred Stock"). The Company has
7,311,036 shares of Common Stock issued and outstanding held of record, as of
May 8, 1996, by approximately 200 stockholders of record and no shares of
Preferred Stock issued and outstanding.

Prior to the consummation of the initial public offering, the authorized
capital stock of the Company consisted of 47,200,000 shares of Common Stock;
450,000 shares of Class A Common Stock; and 62,900,000 shares of Existing
Preferred Stock. Of the Existing Preferred Stock, 2,000,000 shares have been
designated as Series A Preferred Stock; 2,000,000 shares have been designated as
Series A-1 Preferred Stock; 2,250,000 shares have been designated as Series B
Preferred Stock; 2,250,000 shares have been designated as Series B-1 Preferred
Stock; 11,000,000 shares have been designated as Series C Preferred Stock;
11,000,000 shares have been designated as Series C-1 Preferred Stock; 9,000,000
shares have been designated as Series D Preferred Stock; 9,000,000 shares have
been designated as Series D-1 Preferred Stock; 1,200,000 shares have been
designated as Series E Preferred Stock; 1,200,000 shares have been designated as
Series E-1 Preferred Stock; 6,000,000 have been designated as Series F Preferred
Stock; and 6,000,000 have been designated as Series F-1 Preferred Stock,
(collectively, the "Existing Preferred Stock").

On October 17, 1995, an amendment to the Company's Certificate of
Incorporation (the "Certificate Amendment") was filed to effect a five-for-one
reverse stock split of the Company's Common Stock (the "Stock Split"). Pursuant
to the terms of the then existing Certificate of Incorporation and with the
approval of its stockholders, each share of Class A Common Stock and Existing
Preferred Stock outstanding immediately prior to the initial public offering was
converted at conversion rates adjusted for the five-for-one reverse Stock split,
into shares of Common Stock.

COMMON STOCK

The holders of Common Stock are entitled to receive dividends when, if and
as declared from time to time by the Board of Directors out of funds legally
available therefor. See "Dividend Policy." Upon the liquidation, dissolution or
winding up of the Company, the holders of Common Stock are entitled to receive
ratably the net assets of the Company available after the payment of all debts
and other liabilities and subject to the prior rights of any holders of any
outstanding Preferred Stock. The shares of Common Stock have no preemptive
rights or conversion rights and are not subject to further calls or assessments
by the Company. There are no redemption or sinking fund provisions applicable to
the Common Stock. The holders of Common Stock are entitled to one vote per share
on all matters to be voted upon by the stockholders. The holders of Common Stock
do not have the right to vote cumulatively in the election of Directors. The
Board of Directors is classified into three classes. See "Management--Directors
and Executive Officers." The outstanding shares of capital stock are fully paid
and nonassessable. The rights, preferences and privileges of the holders of
Common Stock are subject to, and may be adversely affected by, the rights of the
holders of shares of any Preferred Stock which the Company may issue in the
future.

PREFERRED STOCK

Under the Second Restated Certificate, the Directors are authorized,
without further action by the stockholders, to issue, from time to time,
Preferred Stock in one or more series and to fix or alter the voting powers,
designations, powers and preferences, and relative, participating, optional or
other rights, if any, and qualifications, limitations or restrictions thereof,
including, without limitation, dividend rights and whether dividends are
cumulative, conversion rights, if any, rights and terms of redemption, including
sinking fund provisions, if any, redemption price and liquidation preferences of
any unissued shares or wholly unissued series of Preferred Stock. In addition,
the Directors may establish the number of shares constituting any such class or
series and the designation thereof, and to increase or decrease the number of
shares of any such series subsequent to the issuance of shares of

45
<PAGE> 48

such series, but not below the number of shares of such series then outstanding.
The issuance of Preferred Stock may adversely affect the voting rights and other
rights of the holders of Common Stock. Upon the consummation of the Offering,
the Company will not have any issued and outstanding Preferred Stock and has no
present plans to issue any Preferred Stock.

CERTAIN CHARTER PROVISIONS AND DELAWARE LAW

Under Section 203 of the Delaware General Corporation Law, certain
"business combinations" between a Delaware corporation, whose stock generally is
publicly traded or held of record by more than 2,000 stockholders, and an
"interested stockholder" are prohibited for a three-year period following the
date that such stockholder became an interested stockholder, unless (i) the
business combination or the acquisition of shares which resulted in the
interested stockholder becoming such was approved by the board of directors of
the corporation before the other party to the business combination became an
interested stockholder, (ii) upon consummation of the transaction that made it
an interested stockholder, the interested stockholder owned at least 85% of the
voting stock of the corporation outstanding at the commencement of the
transaction (excluding voting stock owned by directors who are also officers or
held in employee benefit plans in which the employees do not have a right to
determine confidentially whether to tender or vote stock held by the plan), or
(iii) the business combination was approved by the board of directors of the
corporation and ratified by holders of 66 2/3% of the voting stock which the
interested stockholder did not own. The three-year prohibition also does not
apply to certain business combinations proposed by an interested stockholder
following the announcement or notification of certain extraordinary transactions
involving the corporation and a person who had not been an interested
stockholder during the previous three years.

The term "business combination" is defined generally to include mergers or
consolidations between a Delaware corporation and an "interested stockholder,"
transactions with an "interested stockholder" involving the assets or stock of
the corporation or its majority-owned subsidiaries and transactions which
increase an interested stockholder's percentage ownership of stock. The term
"interested stockholder" is defined generally as any stockholder who becomes the
beneficial owner of 15% or more of a Delaware corporation's voting stock.

The Company's Second Restated Certificate also requires that any action
required or permitted to be taken by stockholders of the Company must be
effected at a meeting of stockholders and may not be effected by written
consent. In addition, the By-Laws permit special meetings of stockholders to be
called only by the Board of Directors, the Chairman or the President. As
provided for in the Company's Second Restated Certificate and By-Laws, the
Company's By-Laws may be amended by the Board of Directors or the affirmative
vote of at least 66 2/3% of the Company's then outstanding shares having voting
power thereon. In addition, except as previously discussed in the preceding
paragraphs, the affirmative vote of the holders of at least a majority of such
shares is required to approve a merger, sale of assets or other corporate
transaction required to be submitted to the stockholders for approval under
Delaware law. See "Risk Factors--Anti-Takeover Provisions."

It is possible that these provisions, as well as the classification of the
Board of Directors of the Company provided for in the Certificate and the
ability of the Board of Directors to issue Preferred Stock may discourage other
persons from making a tender offer for or acquisitions of substantial amounts of
the Company's Common Stock, or may delay changes in control or management of the
Company. See "Risk Factors--Anti-Takeover Provisions."

DIRECTOR AND OFFICER INDEMNIFICATION AND LIABILITY

The Company's Second Restated Certificate contains provisions indemnifying
directors and officers of the Company to the fullest extent permitted by law. In
addition, the Second Restated Certificate contains provisions limiting the
personal liability of directors to the Company or stockholders to the fullest
extent permitted by law.

46
<PAGE> 49

TRANSFER AGENT AND REGISTRAR

The Company's Transfer Agent and Registrar is KeyCorp Shareholder Services,
Inc., Cleveland, Ohio.

REGISTRATION RIGHTS

As a part of its equity financing arrangements, the Company has entered
into an agreement with the holders of its Existing Preferred Stock and Class A
Common Stock (the "Rights Agreement"). Under the terms of the Rights Agreement,
if the Company proposes to register any of its securities under the Act, either
for its own account or the account of other security holders exercising
registration rights, the holders of Common Stock resulting from the conversion
of Existing Preferred Stock, Class A Common and Series D and Series E warrants
are entitled to notice of such registration and are entitled to include shares
of such Common Stock therein; provided, among other conditions, that the
underwriters of any offering have the right to limit the number of shares
included in such registration ("Piggy-Back Registration"). In addition, the
holders of at least 50% of the Common Stock resulting from the conversion of the
Existing Preferred Stock and Class A Common (the "Registerable Securities") may
require the Company on not more than three occasions to file a registration
statement under the Act with respect to their shares of Common Stock ("Demand
Registration"), and the Company is obligated to use its best efforts to effect
such registration, subject to certain conditions and limitations. Further, the
holders of Common Stock resulting from the conversion of Series C Preferred
Stock and Series D Preferred Stock have each been granted the additional right
to require the Company to file a registration statement on one occasion subject
to certain conditions. Any holder of Registerable Securities may require the
Company to file a resale registration statement on Form S-3, subject to certain
conditions and limitations ("S-3 Registration").

The Company has also issued certain warrants for the issuance of Common
Stock which contain certain registration rights (the "Common Warrants"). Under
the Common Warrants, the warrantholder is granted Piggy-Back Registration rights
substantially similar to those granted by the Rights Agreement, except that if
the underwriters determine that the number of Registerable Securities must be
limited, the Registerable Securities held by the parties to the Rights Agreement
will have priority over Registerable Securities held by the holders of the
Common Warrants. The Common Warrants do not enable the holder upon conversion of
the warrant to demand registration of the shares.

The Company has also entered into a consulting agreement with a certain
party which includes, among other provisions, the grant of certain stock
options. As a part of that agreement, the Company has agreed to register those
shares at the time of any public offering but not later than the time at which
the first shares are registered for any member of management.

PLAN OF DISTRIBUTION

The Common Stock is being offered for sale by the Company and the Selling
Stockholders on a best efforts, all or none basis, principally to selected
institutional investors, including current institutional holders of the
Company's Common Stock. Vector Securities International, Inc., Montgomery
Securities and McDonald & Company Securities, Inc. (the "Placement Agents") have
been retained to act as exclusive agents for the Company in connection with the
arrangement of offers and sales of the Common Stock on a best efforts basis.

The Placement Agents are not obligated, nor do they intend to purchase any
of the Common Stock. It is anticipated that the Placement Agents will obtain
indications of interest from potential investors for the amount of the offering
and that effectiveness of the Registration Statement will not be requested and
no investor funds will be accepted until indications of interest have been
received for the amount of the offering. Confirmations and definitive
prospectuses will be distributed to all investors at the time of pricing,
informing investors of the closing date, which will be scheduled for

47
<PAGE> 50

three business days after pricing. No investor funds will be accepted prior to
effectiveness of the Registration Statement.

After the Registration Statement is declared effective and prior to the
closing, all investor funds will promptly be placed in escrow with Citibank,
N.A., as escrow agent (the "Escrow Agent"), in an escrow account established for
the benefit of the investors. The Escrow Agent will invest such funds in
accordance with Rule 15c2-4 promulgated under the Exchange Act. Prior to the
closing, the Escrow Agent will advise the Company that payment for the purchase
of the Common Stock has been affirmed by the investors and that the investors
have deposited the requisite funds in the escrow account at the Escrow Agent.
Upon receipt of such notice, the Company will deposit with the Depository Trust
Corporation the shares of the Common Stock to be credited to the respective
accounts of the investors. Investor funds will be collected by the Company
through the facilities of the Escrow Agent on the scheduled closing date. The
offering will not continue after the closing date. In the event that investor
funds are not received in the full amount necessary to satisfy the requirements
of the offering, all funds deposited in the escrow account will promptly be
returned.

The Company has agreed to pay to the Placement Agents a fee equal to 6.0%
of the proceeds of the offering and to reimburse them in the aggregate for
expenses incurred by them in connection with such offering, in an amount up to
$100,000 in the aggregate.

The Company and the Selling Stockholders have also agreed to indemnify the
Placement Agents against certain liabilities, including civil liabilities under
the Securities Act, or to contribute to payments the Placement Agents may be
required to make in respect thereof.

The Company's executive officers, directors and certain stockholders of the
Company who will upon completion of this offering collectively hold an aggregate
of 1,292,592 shares of Common Stock have agreed, along with the Company, that
for a period of 90 days after the date of this Prospectus, they will not,
without the prior written consent of Vector Securities International, Inc.,
directly or indirectly, offer for sale, sell, transfer or otherwise dispose of
any shares of Common Stock or any securities convertible into or exchangeable
for Common Stock or other equity security, except pursuant to the Placement
Agency Agreement and except that the Company may grant stock options, or issue
shares upon the exercise of options or warrants previously granted.

LEGAL MATTERS

The validity of the shares of Common Stock offered hereby will be passed
upon for the Company by Jones, Day, Reavis & Pogue, Cleveland, Ohio. Certain
partners of Jones, Day, Reavis & Pogue are limited partners of Venture Capital
Partners Ltd. II ("VCP"). VCP is a limited partner of Morgenthaler Venture
Partners II, a stockholder of the Company. See "Principal Stockholders." Certain
legal matters will be passed on for the Placement Agents by Stroock & Stroock &
Lavan, New York, New York.

EXPERTS

The consolidated financial statements of Gliatech Inc. at December 31, 1994
and 1995 and for each of the three years in the period ended December 31, 1995
appearing in this Prospectus and Registration Statement, have been audited by
Ernst & Young LLP, independent auditors, as set forth in their report thereon
appearing elsewhere herein, and are included in reliance upon such report given
upon the authority of such firm as experts in accounting and auditing.

The statements relating to U.S. patent rights, in the sections captioned
"Risk Factors -- Patents, Licenses and Proprietary Rights" and
"Business -- Patents, Trademarks and Trade Secrets," except for those statements
relating to the additional series of histamine H(3) receptor antagonist
compounds and to the histamine H(3) receptor agonist compounds, will be passed
upon by Pennie & Edmonds, New York, New York.

48
<PAGE> 51

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

INDEX TO FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
PAGE
--------
<S> <C>
Report of Independent Auditors...................................................... F-2
Consolidated Balance Sheets at December 31, 1994 and 1995 and March 31, 1996
(unaudited)....................................................................... F-3
Consolidated Statements of Operations for the years ended December 31, 1993, 1994
and 1995, for the three months ended March 31, 1995 and 1996 (unaudited) and for
the period from inception of operations (August 31, 1988) through March 31, 1996
(unaudited)....................................................................... F-4
Consolidated Statements of Changes in Stockholders' Equity for the years ended
December 31, 1989, 1990, 1991, 1992, 1993, 1994 and 1995 (the years ended December
31, 1989, 1990, 1991 and 1992 are not covered by the Report of Independent
Auditors); and for the three months ended March 31, 1996 (unaudited).............. F-5
Consolidated Statements of Cash Flows for the years ended December 31, 1993, 1994
and 1995, for the three months ended March 31, 1995 and 1996 (unaudited) and for
the period from inception of operations (August 31, 1988) through March 31, 1996
(unaudited)....................................................................... F-8
Notes to Consolidated Financial Statements.......................................... F-9
</TABLE>

F-1
<PAGE> 52

REPORT OF INDEPENDENT AUDITORS

Board of Directors and Stockholders
Gliatech Inc.

We have audited the accompanying consolidated balance sheets of Gliatech
Inc. and Subsidiaries (a development stage enterprise) as of December 31, 1994
and 1995, and the consolidated statements of operations, changes in
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1995. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Gliatech Inc. and Subsidiaries at December 31, 1994 and 1995, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 1995, in conformity with generally
accepted accounting principles.

ERNST & YOUNG LLP

January 26, 1996
Cleveland, Ohio

F-2
<PAGE> 53

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
DECEMBER 31
-------------------------- MARCH 31
1994 1995 1996
----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents........................... $ 719,666 $20,780,360 $20,696,208
Short-term investments.............................. 3,951,162 2,242,941 28,165
Accounts receivable................................. 86,340 138,428 177,290
Government grants receivable........................ 22,891 74,060 44,758
Inventory........................................... 150,255 417,659 396,456
Prepaid expenses and other.......................... 174,700 272,340 438,396
----------- ----------- -----------
Total current assets........................ 5,105,014 23,925,788 21,781,273
Property and equipment, net........................... 573,771 566,961 656,961
Other assets, net..................................... 1,037,541 853,187 873,060
----------- ----------- -----------
TOTAL ASSETS................................ $ 6,716,326 $25,345,936 $23,311,294
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Demand note from bank............................... $ 400,000 $ 400,000 --
Accounts payable and other accrued expenses......... 893,294 1,045,785 $ 700,806
Accrued compensation................................ 184,375 252,053 24,999
Accrued clinical trial costs........................ 558,731 186,558 442,114
Current portion of capital lease obligations........ 43,228 -- --
Deferred research contract revenue.................. 1,514,509 279,095 58,900
----------- ----------- -----------
Total current liabilities................... 3,594,137 2,163,491 1,226,819
Stockholders' equity:
Convertible Preferred Stock, issuable in series,
$.01 par value:
Authorized shares--50,900,000 at December 31,
1994...........................................
Issued and outstanding shares--15,555,786 at
December 31, 1994 aggregate liquidation
preference $29,600,284......................... 155,559 -- --
Preferred stock, $.01 par value:
Authorized shares--5,000,000, none issued and
outstanding at December 31, 1995 and March 31,
1996
Convertible Class A Common Stock, $.01 par value:
Authorized, issued and outstanding
shares--450,000................................ 4,500 -- --
Common Stock, $.01 par value:
Authorized shares--8,240,000 at December 31, 1994
and 30,000,000 at December 31, 1995 and March
31, 1996; Issued and outstanding shares--82,943
at December 31, 1994, 7,297,865 at December 31,
1995 and 7,310,786 at March 31, 1996........... 829 72,978 73,107
Additional paid-in capital.......................... 25,780,653 50,886,788 50,959,970
Deferred compensation............................... (51,003) (23,111) (17,280)
Deficit accumulated during the development stage.... (22,768,349) (27,754,210) (28,931,322)
----------- ----------- -----------
Total stockholders' equity.................. 3,122,189 23,182,445 22,084,475
----------- ----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS'
EQUITY.................................... $ 6,716,326 $25,345,936 $23,311,294
========== ========== ==========
</TABLE>

See notes to consolidated financial statements.

F-3
<PAGE> 54

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION OF
THREE MONTHS ENDED OPERATIONS
YEAR ENDED DECEMBER 31 MARCH 31 (AUGUST 31, 1988)
----------------------------------------- -------------------------- THROUGH MARCH 31,
1993 1994 1995 1995 1996 1996
----------- ----------- ----------- ----------- ----------- -----------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
REVENUES
Government grants.................. $ 302,315 $ 140,903 $ 254,705 $ 47,989 $ 38,319 $ 1,006,518
Research contracts and licensing
fees............................. -- 917,691 2,216,668 481,251 714,435 3,848,794
Product sales...................... -- 86,340 182,233 -- 76,346 344,919
----------- ----------- ----------- ----------- ----------- -----------------
Total revenues.............. 302,315 1,144,934 2,653,606 529,240 829,100 5,200,231
OPERATING COSTS AND EXPENSES
Research and development........... 4,441,280 4,657,682 5,229,743 1,187,321 1,500,634 22,610,567
Selling, general and
administrative................... 1,674,281 2,365,395 2,599,290 518,161 778,896 10,887,818
Depreciation and amortization...... 312,055 272,221 170,395 47,139 31,684 1,307,105
----------- ----------- ----------- ----------- ----------- -----------------
Total operating costs and
expenses................. 6,427,616 7,295,298 7,999,428 1,752,621 2,311,214 34,805,490
----------- ----------- ----------- ----------- ----------- -----------------
Loss from operations............... (6,125,301) (6,150,364) (5,345,822) (1,223,381) (1,482,114) (29,605,259)
Interest income, net............... 211,465 97,794 359,961 38,332 305,002 1,612,959
----------- ----------- ----------- ----------- ----------- -----------------
NET LOSS.................... $(5,913,836) $(6,052,570) $(4,985,861) $(1,185,049) $(1,177,112) $ (27,992,300)
========== ========== ========== ========== ========== ================
Net loss per common share (pro forma in 1994 and
1995)......................................... $ (1.30) $ (.91) $ (0.24) $ (0.16)
========== ========== ========== ==========
Shares used for purposes of computing net loss
per
common share.................................. 4,651,616 5,497,351 4,928,755 7,305,441
========== ========== ========== ==========
</TABLE>

See notes to consolidated financial statements.

F-4
<PAGE> 55

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

(INFORMATION FOR THE PERIOD FROM AUGUST 31, 1988 THROUGH DECEMBER 31, 1992 IS
NOT COVERED BY THE INDEPENDENT AUDITORS' REPORT)

<TABLE>
<CAPTION>
CONVERTIBLE PREFERRED CONVERTIBLE CLASS A COMMON
STOCK COMMON STOCK STOCK
----------------------- -------------------------------- ----------
NUMBER OF NUMBER OF CONTRA NUMBER OF
SHARES PAR VALUE SHARES PAR VALUE ACCOUNT SHARES
----------- --------- ---------- --------- ------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balance at August 31, 1988......................... 0 $ 0 0 $ 0 $ 0 0
Issuance of Redeemable Convertible Series A
Preferred Stock at $1.44 per share................ 1,806,667 18,067
Stock award of Convertible Class A Common Stock.... 450,000 4,500 (1,683 )
Accretion of Redeemable Convertible Series A
Preferred Stock...................................
Amortization of contra account..................... 140
Net loss--1988.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1988....................... 1,806,667 18,067 450,000 4,500 (1,543 )
Accretion of Redeemable Convertible Series A
Preferred Stock...................................
Amortization of contra account..................... 561
Net loss--1989.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1989....................... 1,806,667 18,067 450,000 4,500 (982 )
Issuance of Redeemable Convertible Series B
Preferred Stock at $2.16 per share................ 1,467,593 14,676
Accretion of Redeemable Convertible Series A
Preferred Stock...................................
Amortization of contra account..................... 561
Net loss--1990.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1990....................... 3,274,260 32,743 450,000 4,500 (421 )
Issuance of Convertible Series B Preferred Stock at
$2.16 per share, net of expense................... 615,741 6,157
Exercise of stock options at $.35 per share........ 12,700
Amortization of contra account..................... 421
Compensation related to grant of stock options.....
Net loss--1991.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1991....................... 3,890,001 38,900 450,000 4,500 0 12,700

DEFICIT
ACCUMULATED
ADDITIONAL DURING THE TOTAL

PAID-IN DEFERRED DEVELOPMENT STOCKHOLDERS'

PAR VALUE CAPITAL COMPENSATION STAGE EQUITY

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

<S> <<C> <C> <C> <C> <C>
Balance at August 31, 1988......................... $ 0 $ 0 $ 0 $ 0 $ 0

Issuance of Redeemable Convertible Series A
Preferred Stock at $1.44 per share................ 2,583,535 2,601,602

Stock award of Convertible Class A Common Stock.... 2,817

Accretion of Redeemable Convertible Series A
Preferred Stock................................... 111,200 (111,200 ) 0

Amortization of contra account..................... 140

Net loss--1988..................................... (294,123 ) (294,123 )

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

Balance at December 31, 1988....................... 2,694,735 (405,323 ) 2,310,436

Accretion of Redeemable Convertible Series A
Preferred Stock................................... 448,422 (448,422 ) 0

Amortization of contra account..................... 561

Net loss--1989..................................... (802,926 ) (802,926 )

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

Balance at December 31, 1989....................... 3,143,157 (1,656,671 ) 1,508,071

Issuance of Redeemable Convertible Series B
Preferred Stock at $2.16 per share................ 3,155,324 3,170,000

Accretion of Redeemable Convertible Series A
Preferred Stock................................... 379,400 (379,400 ) 0

Amortization of contra account..................... 561

Net loss--1990..................................... (1,855,903 ) (1,855,903 )

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

Balance at December 31, 1990....................... 6,677,881 (3,891,974 ) 2,822,729

Issuance of Convertible Series B Preferred Stock at
$2.16 per share, net of expense................... 1,309,630 1,315,787

Exercise of stock options at $.35 per share........ 127 4,318 4,445

Amortization of contra account..................... 421

Compensation related to grant of stock options..... 130,250 (81,250) 49,000

Net loss--1991..................................... (2,829,868 ) (2,829,868 )

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

Balance at December 31, 1991....................... 127 8,122,079 (81,250) (6,721,842 ) 1,362,514

</TABLE>

F-5
<PAGE> 56

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY -- CONTINUED

<TABLE>
<CAPTION>
CONVERTIBLE PREFERRED CONVERTIBLE CLASS A COMMON
STOCK COMMON STOCK STOCK
----------------------- -------------------------------- ----------
NUMBER OF NUMBER OF CONTRA NUMBER OF
SHARES PAR VALUE SHARES PAR VALUE ACCOUNT SHARES
----------- --------- ---------- --------- ------- ----------
<S> <C> <C> <C> <C> <C> <C>
Issuance of Convertible Series C Preferred Stock at
$1.50 per share, net of expense................... 8,245,784 82,459
Exercise of stock options at $.35 per share........ 2,000
Issuance of stock bonus............................ 18,000
Compensation related to grant of stock options.....
Net loss--1992.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1992....................... 12,135,785 121,359 450,000 4,500 32,700
Exercise of stock options at $.35, $1.25 and $3.35
per share......................................... 2,630
Issuance of stock bonus............................ 18,200
Issuance of Common Stock........................... 22,000
Compensation related to grant of stock options.....
Net loss--1993.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1993....................... 12,135,785 121,359 450,000 4,500 75,530
Exercise of stock options at $.35, $1.25 and $3.35
per share......................................... 135
Issuance of Convertible Series D Preferred Stock
and warrants at $1.50 per share, net of expense... 2,420,001 24,200
Issuance of stock bonus............................ 6,598
Issuance of Common Stock........................... 680
Issuance of Convertible Series E Preferred Stock
and warrants at $1.50 per share, net of expense... 1,000,000 10,000
Compensation related to grant of stock options.....
Net loss--1994.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1994....................... 15,555,786 155,559 450,000 4,500 82,943
Exercise of stock options at $.35, $1.25 and $3.35
per share......................................... 13,850
Redemption of Common Stock......................... (4,040)
Issuance of Convertible Series F Preferred Stock at
$1.85 per share, net of expense................... 2,702,703 27,027
Issuance of stock bonus............................ 12,092
Issuance of Common Stock........................... 12,061
Issuance of Common Stock in initial public
offering, net of expense.......................... 2,300,000
Conversion of Preferred Stock and Class A Common
Stock............................................. (18,258,489) (182,586 ) (450,000) (4,500) 4,718,015

DEFICIT
ACCUMULATED
ADDITIONAL DURING THE TOTAL

PAID-IN DEFERRED DEVELOPMENT STOCKHOLDERS'

PAR VALUE CAPITAL COMPENSATION STAGE EQUITY

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

<S> <<C> <C> <C> <C> <C>
Issuance of Convertible Series C Preferred Stock at
$1.50 per share, net of expense................... 12,237,689 12,320,148

Exercise of stock options at $.35 per share........ 20 680 700

Issuance of stock bonus............................ 180 67,320 67,500

Compensation related to grant of stock options..... 116,740 (29,413) 87,327

Net loss--1992..................................... (4,080,101 ) (4,080,101 )

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

Balance at December 31, 1992....................... 327 20,544,508 $ (110,663) (10,801,943 ) 9,758,088

Exercise of stock options at $.35, $1.25 and $3.35
per share......................................... 26 3,295 3,321

Issuance of stock bonus............................ 182 136,318 136,500

Issuance of Common Stock........................... 220 164,780 165,000

Compensation related to grant of stock options..... (3,987) 31,961 27,974

Net loss--1993..................................... (5,913,836 ) (5,913,836 )

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

Balance at December 31, 1993....................... 755 20,844,914 (78,702) (16,715,779 ) 4,177,047

Exercise of stock options at $.35, $1.25 and $3.35
per share......................................... 1 289 290

Issuance of Convertible Series D Preferred Stock
and warrants at $1.50 per share, net of expense... 3,402,228 3,426,428

Issuance of stock bonus............................ 66 49,434 49,500

Issuance of Common Stock........................... 7 5,093 5,100

Issuance of Convertible Series E Preferred Stock
and warrants at $1.50 per share, net of expense... 1,479,500 1,489,500

Compensation related to grant of stock options..... (805) 27,699 26,894

Net loss--1994..................................... (6,052,570 ) (6,052,570 )

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

Balance at December 31, 1994....................... 829 25,780,653 (51,003) (22,768,349 ) 3,122,189

Exercise of stock options at $.35, $1.25 and $3.35
per share......................................... 139 34,499 34,638

Redemption of Common Stock......................... (40) (30,295) (30,335 )

Issuance of Convertible Series F Preferred Stock at
$1.85 per share, net of expense................... 4,626,062 4,653,089

Issuance of stock bonus............................ 120 90,567 90,687

Issuance of Common Stock........................... 121 102,390 102,511

Issuance of Common Stock in initial public
offering, net of expense.......................... 23,000 19,646,134 19,669,134

Conversion of Preferred Stock and Class A Common
Stock............................................. 47,180 139,906 0

</TABLE>

<TABLE>
<S> <C> <C> <C> <C> <C> <C>
Exercise of stock warrants......................... 162,944
Compensation related to grant of stock options.....
Net loss--1995.....................................
----------- --------- ---------- --------- ------- ----------
Balance at December 31, 1995....................... 0 $ 0 0 $ 0 $ 0 7,297,865

<CAPTION>
Exercise of stock warrants......................... 1,629 498,372 500,001

<S> <<C> <C> <C> <C> <C>
Compensation related to grant of stock options..... (1,500) 27,892 26,392

Net loss--1995..................................... (4,985,861 ) (4,985,861 )

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

Balance at December 31, 1995....................... $72,978 $50,886,788 $ (23,111) $(27,754,210) $ 23,182,445

</TABLE>

See notes to consolidated financial statements.

F-6
<PAGE> 57

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY -- CONTINUED

DEFICIT
COMMON ACCUMULATED
STOCK ADDITIONAL DURING THE TOTAL
--------- PAID-IN DEFERRED DEVELOPMENT STOCKHOLDERS'
PAR VALUE CAPITAL COMPENSATION STAGE EQUITY
--------- ----------- ------------ ------------ -------------

<S> <C> <C> <C> <C> <C>
Unaudited:
Exercise of stock options at $7.50 per share....... 29 21,533 21,562
Issuance of stock bonus............................ 61 51,688 51,749
Exercise of stock warrants......................... 39 (39) 0
Compensation related to grant of stock options..... 5,831 5,831
Net loss--three months ended March 31, 1996........ (1,177,112) (1,177,112)
------- ----------- ---------- ------------ ------------
BALANCE AT MARCH 31, 1996 (UNAUDITED).............. $73,107 $50,959,970 $ (17,280) $(28,931,322) $ 22,084,475
======= =========== ========== ============ ============

</TABLE>

See notes to consolidated financial statements.

F-7
<PAGE> 58

GLIATECH INC. AND SUBSIDIARIES

(A DEVELOPMENT STAGE ENTERPRISE)

CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-------------------------------------------
1993 1994 1995
----------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net loss............................................................... $(5,913,836) $(6,052,570) $(4,985,861)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization........................................ 312,055 272,221 170,395
Loss on disposal of equipment........................................
Compensation from issuance of stock and stock options................ 27,974 26,894 72,303
Changes in operating assets and liabilities:
Accounts receivable................................................ (86,340) (52,088)
Inventory.......................................................... (440,255) 22,596
Government grants receivable and other assets...................... (156,664) 423,579 (148,809)
Accounts payable and other accrued expenses........................ 368,499 (128,062) 152,491
Deferred contract research revenue................................. 1,514,509 (1,235,414)
Other liabilities.................................................. 464,750 309,355 (213,808)
----------- ----------- -----------
Net cash used in operating activities.................................. (4,897,222) (4,160,669) (6,218,195)
INVESTING ACTIVITIES
Sale (purchase) of investments, net.................................... 4,694,992 48,838 1,708,221
Payment for patent rights and trademarks............................... (198,497) (262,943) (117,622)
Payment of organization costs..........................................
Purchase of property and equipment..................................... (245,161) (124,345) (151,609)
----------- ----------- -----------
Net cash provided by (used in) investing activities.................... 4,251,334 (338,450) 1,438,990
FINANCING ACTIVITIES
Proceeds from demand note from bank.................................... 91,816 100,000
Principal payments on capital lease obligations........................ (118,224) (123,494) (43,228)
Proceeds from sale and leaseback.......................................
Proceeds from issuance of Preferred Stock, net......................... 4,915,928 4,653,089
Proceeds from issuance of Common Stock, net............................ 165,000 5,100 19,669,134
Proceeds from exercise of stock options................................ 3,321 290 60,903
Proceeds from exercise of warrants..................................... 500,001
----------- ----------- -----------
Net cash provided by financing activities.............................. 141,913 4,897,824 24,839,899
----------- ----------- -----------
(Decrease) increase in cash and cash equivalents....................... (503,975) 398,705 20,060,694
Cash and cash equivalents at beginning of year/period.................. 824,936 320,961 719,666
----------- ----------- -----------
CASH AND CASH EQUIVALENTS AT END OF YEAR/PERIOD........................ $ 320,961 $ 719,666 $20,780,360
=========== =========== ===========

<CAPTION>
PERIOD FROM

INCEPTION OF

THREE MONTHS ENDED OPERATIONS

MARCH 31 (AUGUST 31, 1988)

--------------------------- THROUGH MARCH 31,

1995 1996 1996

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

<S> <<C> <C> <C>
OPERATING ACTIVITIES
Net loss............................................................... $(1,185,049) $(1,177,112) $ (27,992,300)

Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization........................................ 47,139 31,684 1,310,062

Loss on disposal of equipment........................................ 0 0 102,000

Compensation from issuance of stock and stock options................ 7,401 5,831 269,329

Changes in operating assets and liabilities:
Accounts receivable................................................ 0 (38,862) (177,290)

Inventory.......................................................... (33,575) 21,203 (396,456)

Government grants receivable and other assets...................... 18,941 (136,754) (338,968)

Accounts payable and other accrued expenses........................ (412,367) (520,284) 514,806

Deferred contract research revenue................................. (481,250) (220,195) 58,900

Other liabilities.................................................. (185,972) 255,556 1,049,049

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

Net cash used in operating activities.................................. (2,224,732) (1,778,933) (25,600,868)

INVESTING ACTIVITIES
Sale (purchase) of investments, net.................................... 3,948,670 2,214,776 (28,165)

Payment for patent rights and trademarks............................... (30,049) (22,867) (1,066,983)

Payment of organization costs.......................................... 0 0 (139,779)

Purchase of property and equipment..................................... (35,967) (118,690) (1,384,537)

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

Net cash provided by (used in) investing activities.................... 3,882,654 2,073,219 (2,619,464)

FINANCING ACTIVITIES
Proceeds from demand note from bank.................................... 0 (400,000) 0

Principal payments on capital lease obligations........................ (16,421) 0 (565,601)

Proceeds from sale and leaseback....................................... 0 0 75,131

Proceeds from issuance of Preferred Stock, net......................... 0 0 28,976,554

Proceeds from issuance of Common Stock, net............................ 1,627 0 19,839,234

Proceeds from exercise of stock options................................ 21,562 91,221

Proceeds from exercise of warrants..................................... 0 0 500,001

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

Net cash provided by financing activities.............................. (14,794) (378,438) 48,916,540

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

(Decrease) increase in cash and cash equivalents....................... 1,643,128 (84,152) 20,696,208

Cash and cash equivalents at beginning of year/period.................. 719,666 20,780,360 0

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

CASH AND CASH EQUIVALENTS AT END OF YEAR/PERIOD........................ $ 2,362,794 $20,696,208 $ 20,696,208

=========== =========== =================

</TABLE>

See notes to consolidated financial statements.

F-8
<PAGE> 59

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

YEARS ENDED DECEMBER 31, 1993, 1994 AND 1995

(INFORMATION WITH RESPECT TO MARCH 31, 1996 AND THE

THREE MONTHS ENDED MARCH 31, 1995 AND 1996 IS UNAUDITED)

A. BACKGROUND AND ACCOUNTING POLICIES

BACKGROUND

Gliatech Inc. is engaged in the development and commercialization of
medical devices designed to inhibit excess surgical scarring and adhesion
following surgery. In addition, Gliatech Inc. is pursuing the development of
drug candidates for the treatment of certain nervous system disorders, including
Alzheimer's disease, and cognitive disorders. Gliatech Inc. began operations on
August 31, 1988 and is currently in the development stage, as operations consist
primarily of research and development expenditures, and significant revenues
from planned principal operations have not yet been realized. Product sales
consist of initial inventory stocking orders for several European distributors.

The consolidated financial statements reflect the financial position and
results of operations of Gliatech Inc. and its wholly-owned subsidiaries (the
Company). Intercompany balances and transactions have been eliminated.

CASH AND CASH EQUIVALENTS

The Company considers all highly liquid investments with a maturity of
three months or less when purchased to be cash equivalents. The carrying amount
of the Company's cash equivalents approximates fair value due to the short
maturity of those investments. Cash equivalents are primarily in commercial
paper.

INVESTMENTS

Investments are stated at cost which approximates fair value due to the
short maturity of those investments. Investments are primarily in U.S. Treasury
securities.

INVENTORY

Inventory is stated at the lower of cost or market, consists primarily of
raw materials, and is valued using the first-in, first-out method.

PROPERTY AND EQUIPMENT

Property and equipment are stated at cost. Laboratory and office equipment
and leasehold improvements are depreciated on the straight-line basis over the
shorter of the lease period or the estimated useful life (5 to 10 years).

PATENT RIGHTS AND TRADEMARKS

Patent rights are amortized on the straight-line basis over the shorter of
the estimated useful life of the patented technology or the useful life of the
patent, beginning at the time the patent is granted. Costs associated with
patents that are abandoned are expensed at the date of abandonment. Trademark
costs are amortized on the straight-line basis over the estimated useful life of
the trademark, beginning at the time the trademark is granted.

GOVERNMENT GRANTS

Revenues from government grants are recognized ratably over the period of
the grant.

RESEARCH CONTRACTS AND LICENSING FEE REVENUE

Revenue from the research collaboration agreements are recorded when earned
as defined under the terms of the agreements. Periodic research funding payments
received which are related to future

F-9
<PAGE> 60

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED

A. BACKGROUND AND ACCOUNTING POLICIES -- CONTINUED
performance are deferred and recognized as income when earned. Licensing fees
and other milestone payments are recognized as income when earned.

INCOME TAXES

Effective January 1, 1993, the Company adopted Statement of Financial
Accounting Standards No. 109, Accounting for Income Taxes. Under Statement No.
109, the liability method is used in accounting for income taxes. Under this
method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities and are
measured using the currently enacted tax rates and laws that will be in effect
when the differences are expected to reverse. Prior to the adoption of Statement
No. 109, income tax expense was determined using the deferred method prescribed
by APB No. 11. Prior year's financial statements were not affected and there was
no cumulative effect of the adoption.

NET LOSS PER COMMON SHARE (PRO FORMA FOR 1994 AND 1995)

For 1994, common and common equivalent shares including Series E and F
Preferred Stock (all of which converted, according to their terms, upon the
completion of the Company's initial public offering--see Note F) issued by the
Company and stock options and warrants granted during the twelve-month period
immediately preceding the filing of the initial public offering at prices below
the initial public offering price have been included in the calculation of the
shares used in computing pro forma net loss per common share as if they were
outstanding for all of 1994. In addition, common equivalent shares from Series
A, B, C and D Preferred Stock (all of which converted, according to their terms,
upon the completion of the Company's initial public offering) issued prior to
the twelve-month period immediately preceding the filing of the Company's
initial public offering are included in the computation of pro forma net loss
per common share as if they had been converted on the original date of issuance.

For 1995, pro forma net loss per common share is computed using the
weighted average number of shares of common stock outstanding. However, common
and common equivalent shares issued and stock option and warrants granted during
the twelve-month period immediately preceding the filing of an initial public
offering referred to above, continue to be treated as outstanding for all
periods through June 30, 1995 (the latest interim period reported in the initial
public offering). Pro forma net loss per common share for periods subsequent to
June 30, 1995 is computed in accordance with Accounting Principles Board Opinion
No. 15, which does not permit earnings per share to give effect to anti-dilutive
securities. Common equivalent shares relating to stock options and warrants are
excluded for periods subsequent to June 30, 1995 as their effect is
anti-dilutive.

For the three months ended March 31, 1996, net loss per common share is
based on the weighted average number of common shares outstanding. Common
equivalent shares relating to stock options and warrants are excluded as their
effect is anti-dilutive.

STOCK-BASED COMPENSATION

The Company accounts for stock-based compensation in accordance with
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees, and intends to continue to do so.

USE OF ESTIMATES

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.

F-10
<PAGE> 61

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED

B. PROPERTY AND EQUIPMENT

Property and equipment consists of:

<TABLE>
<CAPTION>
DECEMBER 31
--------------------------
1994 1995
---------- ----------- MARCH 31
1996
-----------
(Unaudited)
<S> <C> <C> <C>
Laboratory equipment........................ $ 943,390 $ 1,045,745 $ 1,103,208
Office equipment............................ 127,588 154,698 163,442
Leasehold improvements...................... 394,023 416,167 468,650
---------- ----------- -----------
1,465,001 1,616,610 1,735,300
Accumulated depreciation and amortization... (891,230) (1,049,649) (1,078,339)
---------- ----------- -----------
PROPERTY AND EQUIPMENT, NET................. $ 573,771 $ 566,961 $ 656,961
========= ========== ==========
</TABLE>

C. OTHER ASSETS

Other assets consist of:

<TABLE>
<CAPTION>
DECEMBER 31
-------------------------
1994 1995
---------- ---------- MARCH 31,
1996
----------
(Unaudited)
<S> <C> <C> <C>
Patent rights, net of accumulated
amortization of $34,768 at December 31,
1994, $46,744 at December 31, 1995 and
$49,738 at March 31, 1996.................. $ 685,312 $ 788,042 $ 807,800
Trademark costs.............................. 50,607 53,523 53,638
Inventory and other.......................... 301,622 11,622 11,622
---------- ---------- ----------
$1,037,541 $ 853,187 $ 873,060
========= ========= =========
</TABLE>

D. FINANCING ARRANGEMENTS

The Company has a line of credit that provides for borrowings up to
$1,000,000 at an interest rate of 1% above the bank's insured money market
savings account rate. Borrowings outstanding at December 31, 1994 and 1995 were
$400,000, which approximates fair value, at interest rates of 3.52% and 3.28%,
respectively. Borrowings under the line of credit are secured by an insured
money market savings account in the amount of $416,346 at December 31, 1995.

The Company has entered into capital leases for research equipment. Total
interest paid in 1993, 1994 and 1995 amounted to $35,532, $25,015 and $2,133,
respectively.

Rent expense relating to the operating lease of office space was
approximately $97,600, $241,000 and $234,000 in 1993, 1994 and 1995,
respectively. Future annual minimum lease commitments at December 31, 1995 are
as follows:

<TABLE>
<S> <C>
1996......................................................... $ 241,000
1997......................................................... 250,000
1998......................................................... 280,000
1999......................................................... 296,000
2000......................................................... 296,000
----------
TOTAL........................................................ $1,363,000
=========
</TABLE>

E. INCOME TAXES

At December 31, 1995, the Company has net operating tax loss carryforwards
of approximately $13.3 million for income tax purposes. In addition, the Company
has approximately $1.5 million in research and development tax credit
carryforwards. Such losses and credit carryforwards may be carried forward to
reduce future tax liabilities and expire at various dates between 2003 and 2010.
The

F-11
<PAGE> 62

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED

E. INCOME TAXES -- CONTINUED
Company has offset the tax benefit of the net operating loss and tax credit
carryforwards with a valuation allowance as realization of the benefit is not
assured.

The Company's net deferred tax assets and liabilities consist of the
following:

<TABLE>
<CAPTION>
1994 1995
------------ ------------
<S> <C> <C>
Deferred tax liabilities............................... $ (235,000) $ (284,000)
Deferred tax assets.................................... 7,867,000 10,156,000
Valuation allowance.................................... (7,632,000) (9,872,000)
------------ ------------
NET DEFERRED TAXES..................................... $ 0 $ 0
=========== ===========
</TABLE>

The Company's deferred liabilities related primarily to patent costs. The
deferred tax assets relate to the following:

<TABLE>
<CAPTION>
1994 1995
----------- -----------
<S> <C> <C>
Amortization of capitalized research and development
expenses.............................................. $ 2,890,000 $ 4,080,000
Research and development tax credit carryforwards....... 1,093,000 1,464,000
Net operating tax loss carryforwards.................... 3,694,000 4,548,000
Other................................................... 190,000 64,000
----------- -----------
$ 7,867,000 $10,156,000
========== ==========
</TABLE>

Pursuant to the Tax Reform Act of 1986, the utilization of net operating
loss and research and development tax credit carryforwards for tax purposes may
be subject to an annual limitation if a cumulative change in ownership of more
than 50% occurs over a three-year period.

F. CAPITALIZATION

On October 24, 1995, the Company consummated an initial public offering of
2,300,000 shares of common stock at an initial public offering price of $9.50
per share (the "Offering"). The Company received net proceeds from the Offering
of approximately $19,669,000. In connection with the Offering, an amendment to
the Company's Certificate of Incorporation was filed to effect a five-for-one
reverse stock split of each share of common stock. All share and per share
information in the accompanying financial statements and conversion ratios of
all series of Preferred Stock and Class A Common Stock were adjusted to reflect
the reverse split. Immediately prior to the consummation of the Offering, all
shares of Class A Common Stock and all series of Preferred Stock automatically
converted pursuant to the Company's Certificate of Incorporation at applicable
conversion rates into a total of 4,718,014 shares of common stock.

After the conversion and immediately prior to the consummation of the
Offering, the Company filed a Restated Certificate of Incorporation which
authorized the issuance of 30,000,000 shares of common stock and 5,000,000
shares of Preferred Stock at $.01 par value.

At December 31, 1995, 1,178,685 shares of common stock are reserved for
issuance under the stock option plans, 20,000 shares are reserved for issuance
under common stock warrants outstanding for $7.50 per share, and 6,088 shares
are reserved for common stock bonuses declared but unissued at December 31,
1995.

Prior to September 1990, redemption of the Series A Preferred Stock was
mandatory. Prior to April 1991, the Series A and B Preferred Stock had
redemption privileges. Beginning in April 1991, the Series A and B Preferred
Stock were no longer redeemable. During the period the Series A Preferred Stock
was mandatorily redeemable, periodic accretion to the redemption price was
charged to the deficit accumulated during the development stage.

F-12
<PAGE> 63

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED

G. STOCK OPTION PLANS

As of December 31, 1995, the Company's stock option plans provide for the
issuance of options to purchase up to 1,210,000 shares of common stock. The
Company has granted options to purchase common stock to certain employees,
directors and consultants. Stock option activity consists of the following:

<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
SHARES ----------------------
AVAILABLE PRICE PER
FOR GRANT SHARES SHARE
----------- ------- ----------
<S> <C> <C> <C>
Balance at August 31, 1988
Authorized..................................... 110,000
Granted........................................ (7,000) 7,000 $ .35
----------- ------- ----------
Balance at December 31, 1988................... 103,000 7,000 .35
Granted........................................ (58,000) 58,000 .35
----------- ------- ----------
Balance at December 31, 1989................... 45,000 65,000 .35
Granted........................................ (17,500) 17,500 .35
----------- ------- ----------
Balance at December 31, 1990................... 27,500 82,500 .35
Authorized..................................... 110,000
Granted........................................ (61,600) 61,600 .35-1.25
Exercised...................................... (12,700) .35
Canceled....................................... 3,300 (3,300) .35
----------- ------- ----------
Balance at December 31, 1991................... 79,200 128,100 .35-1.25
Authorized..................................... 340,000
Granted........................................ (116,650) 116,650 1.25-3.35
Exercised...................................... (2,000) .35
Canceled....................................... 20,000 (20,000) 1.25
----------- ------- ----------
Balance at December 31, 1992................... 322,550 222,750 .35-3.35
Granted........................................ (72,000) 72,000 7.50
Exercised...................................... (2,630) .35-3.35
Canceled....................................... 12,570 (12,570) .35-7.50
----------- ------- ----------
Balance at December 31, 1993................... 263,120 279,550 .35-7.50
Granted........................................ (50,200) 50,200 7.50
Exercised...................................... (135) .35-3.35
Canceled....................................... 2,915 (2,915) .35-7.50
----------- ------- ----------
Balance at December 31, 1994................... 215,835 326,700 .35-7.50
Authorized..................................... 650,000
Granted........................................ (464,700) 464,700 7.50-9.50
Exercised...................................... (13,850) .35-3.35
Canceled....................................... 11,850 (11,850) 1.25-3.35
----------- ------- ----------
BALANCE AT DECEMBER 31, 1995................... 412,985 765,700 $ .35-9.50
----------- ------- ----------
Unaudited:
Granted...................................... (2,000) 2,000 8.63
Exercised.................................... (2,875) 7.50
Canceled.....................................
----------- ------- ----------
BALANCE AT MARCH 31, 1996...................... 410,985 764,825 $ .35-9.50
========== ======= =========
</TABLE>

F-13
<PAGE> 64

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED

G. STOCK OPTION PLANS -- CONTINUED

Options generally vest over a four or five-year period and at December 31,
1995, options for 228,868 shares of common stock are exercisable (267,003 at
March 31, 1996). The weighted average exercise price of the options outstanding
is $6.35 at December 31, 1995 ($6.10 at March 31, 1996). For certain options
granted, the Company recognizes as compensation expense the excess of the deemed
value for accounting purposes of the common stock issuable upon exercise of such
options over the aggregate exercise price of the options at the time of grant.
The compensation expense is amortized over the vesting period of each option. In
May 1991, all previously issued options with an exercise price of $.70 were
canceled and reissued at an exercise price of $.35.

H. RESEARCH COLLABORATION AGREEMENTS

The Company established a research and development collaboration with
Janssen Pharmaceutical, N.V. ("Janssen"), a wholly owned subsidiary of Johnson &
Johnson, for the discovery and development of compounds suitable for the
treatment of Alzheimer's disease and other neurodegenerative diseases. Under the
terms of the agreements, the Company received an initial licensing fee and
Janssen will provide research funding over a three-year research period,
renewable for a fourth and fifth year. In addition, Janssen will make milestone
payments to the Company upon the achievement of development and clinical
benchmarks. The Company will receive a royalty on sales of marketed products and
Janssen will be responsible for all development costs, including clinical trials
and obtaining regulatory approval. Deferred revenue related to these agreements
was $1,514,507 and $279,095 at December 31, 1994 and 1995, respectively. In
October 1994, Johnson & Johnson Development Corporation made an equity
investment in the Company.

I. RESEARCH, CLINICAL TRIAL, CONSULTING AND LICENSE AGREEMENTS

Since beginning operations, the Company has entered into research
agreements and clinical trial agreements with universities and third parties and
consulting agreements with scientific advisors. The research agreements require
the Company to fund certain research activities, and are generally renewable on
an annual basis. In return, the Company has rights to obtain and use exclusive
licenses for the results of the research. Under license agreements with various
universities, ownership of all patents resulting from research agreements will
remain with the universities or researchers. The Company is required to incur
all costs associated with applying for and maintaining the patents. The Company
generally will obtain exclusive worldwide licensing rights and is required to
remit fixed percentages, as defined, of the net selling price of licensed
products and royalties received from sublicensees to the universities and
researchers. The clinical trial agreements require the Company to fund the
performance of specific clinical procedures and the cost of administering the
clinical trials.

As of December 31, 1995, minimum commitments under research, clinical trial
and consulting agreements are $495,207 for 1996 ($166,862 at December 31, 1994).

J. INTERIM AND PRO FORMA INFORMATION (UNAUDITED)

INTERIM FINANCIAL INFORMATION

The consolidated balance sheet as of March 31, 1996, and the consolidated
statements of operations and cash flows for the three months ended March 31,
1995 and 1996 and for the period from inception of operations (August 31, 1988)
through March 31, 1996, and the statement of stockholders' equity for the three
months ended March 31, 1996 have been prepared by the Company and are unaudited.
These interim financial statements include all adjustments, consisting of normal
recurring

F-14
<PAGE> 65

GLIATECH INC. AND SUBSIDIARIES
(A DEVELOPMENT STAGE ENTERPRISE)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED

J. INTERIM AND PRO FORMA INFORMATION (UNAUDITED) -- CONTINUED

adjustments necessary for a fair statement of the results of the interim
periods. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted from these interim financial
statements. The interim financial statements should be read in conjunction with
the Company's December 31, 1995 audited consolidated financial statements
appearing herein. The results for the three months ended March 31, 1996 may not
be indicative of operating results for the full year.

F-15
<PAGE> 66

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

No dealer, sales representative or any other person has been authorized to
give any information or to make any representations in connection with this
offering, other than those made in this Prospectus, and, if given or made, such
information or representations must not be relied upon as having been authorized
by the Company, or any of the Underwriters. This Prospectus does not constitute
an offer to sell or a solicitation of an offer to buy any securities other than
the shares of Common Stock to which it relates, or an offer to, or a
solicitation of, any person in any jurisdiction where such an offer or
solicitation would be unlawful. Neither the delivery of this 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 the date subsequent to
the date hereof.
----------------------------

TABLE OF CONTENTS

<TABLE>
<CAPTION>
Page
----
<S> <C>
Available Information........................ 2
Prospectus Summary........................... 3
Risk Factors................................. 6
Use of Proceeds.............................. 14
Common Stock Market Prices and Dividend
Policy..................................... 14
Dilution..................................... 14
Capitalization............................... 15
Selected Consolidated Financial Data......... 16
Management's Discussion and Analysis
of Financial Condition and Results
of Operations.............................. 17
Business..................................... 21
Management................................... 36
Executive Compensation....................... 38
Certain Transactions......................... 41
Principal Stockholders....................... 42
Selling Stockholders......................... 44
Description of Capital Stock................. 45
Plan of Distribution......................... 47
Legal Matters................................ 48
Experts...................................... 48
Index to Financial Statements................ F-1
</TABLE>

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

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

1,750,000 SHARES

COMMON STOCK

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

PROSPECTUS
---------------------------

Vector Securities International, Inc.

Montgomery Securities

McDonald & Company
Securities, Inc.

______________, 1996

---------------------------------------------------------
---------------------------------------------------------
<PAGE> 67

PART II

INFORMATION NOT REQUIRED IN PROSPECTUS

ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.

The following is a list of the estimated expenses to be incurred by the
Company in connection with the issuance and distribution of the Common Stock
being registered hereby, other than underwriting discounts and commissions.

<TABLE>
<S> <C>
Securities and Exchange Commission registration fee...................... $ 8,147
National Association of Securities Dealers, Inc. filing fee.............. 2,863
Nasdaq National Market subsequent listing fee............................ 17,500
Printing costs........................................................... 50,000
Accounting fees and expenses............................................. 60,000
Legal fees and expenses (not including Blue Sky)......................... 125,000
Blue Sky fees and expenses............................................... 10,000
Miscellaneous expenses................................................... 126,490
--------
Total.......................................................... $400,000
========
</TABLE>

ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS.

The Company's Second Restated Certificate of Incorporation (Exhibit 3.2(i)
to this Registration Statement) provides in Article Seventh that the Company
will indemnify its officers, directors and each person who is or was serving or
who had agreed to serve at the request of the Board of Directors or an officer
of the Company as an employee or agent of the Company or as a director, officer,
employee or agent of another corporation, partnership, joint venture, trust or
other enterprise to the full extent permitted by the General Corporation Law of
the State of Delaware (the "DGCL") or any other applicable laws as from time to
time may be in effect and that the Company may enter into agreements which
provide for indemnification greater or different from that provided in the
Second Restated Certificate. In addition, the Company has provided in Article
Eighth of its Second Restated Certificate that no director will be personally
liable to the Company or its stockholders for or with respect to any acts or
omissions in the performance of his or her duty as a director, to the full
extent permitted by the DGCL or any other applicable laws as from time to time
may be in effect. The Second Restated Certificate further provides that any
repeal or modification of Article Seventh or Article Eighth will not adversely
affect the right or protection existing under such provision prior to such
repeal or modification.

Subsection (a) of the Section 145 of the DGCL empowers a corporation to
indemnify any person who was or is a party or is threatened to be made a party
to any threatened, pending or completed action, suit or proceeding, whether
civil, criminal, administrative, or investigative (other than an action by or in
the right of the corporation) by reason of the fact that he is or was a
director, officer, employee or agent of the corporation, or is or was serving at
the request of the corporation as a director, officer, employee or agent of
another corporation or enterprise, against expenses (including attorneys' fees),
judgments, fines and amounts paid in settlement actually and reasonably incurred
by him in connection with such action, suit or proceeding if he acted in good
faith and in a manner reasonably believed to be in or not opposed to the best
interests of the corporation, and, with respect to any criminal action or
proceeding, had no reasonable cause to believe his conduct was unlawful.

Subsection (b) of Section 145 of the DGCL empowers a corporation to
indemnify any person who was or is a party or is threatened to be made a party
to any threatened, pending or completed action or suit by or in the right of the
corporation to procure a judgment in its favor, by reason of the fact that

II-1
<PAGE> 68

such person acted in any of the capacities set forth above, against expenses
(including attorneys' fees) actually and reasonably incurred by him in
connection with the defense or settlement of such action or suit if he acted
under standards similar to those set forth in the paragraph above, except that
no indemnification may be made in respect of any claim, issue or matter as to
which such person shall have been adjudged to be liable to the corporation,
unless and only to the extent that the Court of Chancery of the State of
Delaware or the court in which such action or suit was brought shall determine
that despite the adjudication of liability but in view of all the circumstances
of the case, such person is fairly and reasonably entitled to be indemnified for
such expenses which the court shall deem proper.

Section 145 further provides that, to the extent that a director or officer
of a corporation has been successful on the merits or otherwise in defense of
any action, suit or proceeding referred to in subsections (a) and (b) of Section
145, or in defense of any claim, issue or matter therein, he will be indemnified
against expenses (including attorneys' fees) actually and reasonably incurred by
him in connection therewith; that any indemnification under subsections (a) and
(b) of Section 145 (unless ordered by a court) will be made by a corporation
only as authorized in the specific case upon a determination that
indemnification of the director, officer, employee or agent is proper in the
circumstances because he has met the applicable standard of conduct set forth in
subsections (a) and (b) of Section 145; that expenses incurred by an officer or
director in defending any civil, criminal, administrative or investigative
action, suit or proceeding may be paid by the corporation in advance of the
final disposition of such action, suit or proceeding upon receipt of an
undertaking by or on behalf of such director or officer to repay such amount
unless it is ultimately determined that he is not entitled to be indemnified by
the corporation; that indemnification provided for by Section 145 will not be
deemed exclusive of any other rights to which the indemnified party may be
entitled; and that a corporation is empowered to purchase and maintain insurance
on behalf of a director or officer of the corporation against any liability
asserted against him and incurred by him in such capacity, or arising out of his
status as such, whether or not the corporation would have the power to indemnify
him against such liability under Section 145.

The Company expects to enter into indemnity agreements (the "Indemnity
Agreements") with the current Directors and executive officers of the Company
and expects to enter into similar agreements with any Director or those
executive officers designed by the Board of Directors of the Company which may,
from time to time, be elected or appointed.

Pursuant to the Indemnity Agreements, the Company will indemnify a Director
or officer of the Company (the "Indemnitee") if the Indemnitee is a party or is
threatened to be made a party to any threatened, pending or completed action,
suit or proceeding, whether civil, criminal, administrative or investigative, by
reason of the fact that the Indemnitee is or was a Director or officer of the
Company, or is or was serving at the request of the Company in certain
capacities with another entity, against any and all costs, charges and expenses,
judgments, fines and amounts paid in settlement actually and reasonably incurred
by the Indemnitee in connection with the defense or settlement of such
proceeding. Indemnity is available to the Indemnitee unless it proved by clear
and convincing evidence that the Indemnitee's action or failure to act was not
in good faith and in a manner he reasonably believed to be in or not opposed to
the best interests of the Company.

The Indemnity Agreements provide for advancement of expenses to the
Indemnitee if the Indemnitee provides the Company with a written undertaking
that (i) he has reasonably incurred or will reasonably incur actual expenses in
defending an actual civil, criminal administrative, or investigative action,
suit, proceeding or claim and (ii) he will repay such amount if it is ultimately
determined that he is not entitled to be indemnified by the Company.

Reference is made to Section 9 of the Placement Agency Agreement (Exhibit
1.1 to this Registration Statement which provides for indemnification of the
Company's Directors and Officers by the Placement Agents and Selling
Stockholders against certain civil liabilities, including liabilities under the
Securities Act of 1933 (the "Securities Act").

II-2
<PAGE> 69

ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.

No securities of the Company that were not registered under the Securities
Act have been issued or sold by the Company within the past three years, except
as follows:

On October 1, 1993, the Company sold an aggregate of 110,000 shares of
Common Stock. The Company received $1.50 per share for the shares of Common
Stock.

On July 29, 1994, the Company sold an aggregate of 2,420,001 shares of
Series D Preferred Stock and warrants for the purchase of 2,420,001 of Series D
Preferred Stock. The Company received $1.50 per share for the shares of Series D
Preferred Stock and warrants for the purchase of 2,420,001 shares of Series D
Preferred Stock.

On October 14, 1994, the Company sold an aggregate of 1,000,000 shares of
Series E Preferred Stock and warrants for the purchase of 200,000 shares of
Series E Preferred Stock to Johnson & Johnson Development Corporation. The
Company received $1.50 per share for the shares of Series E Preferred Stock and
warrants for the purchase of 2,420,001 shares of Series E Preferred Stock.

On November 31, 1994, the Company granted an aggregate of 3,400 shares of
Common Stock to an employee 401(K) plan. The Company did not receive any
monetary consideration for this grant.

On June 30, 1995, the Company sold an aggregate of 2,702,703 shares of
Series F Preferred Stock. The Company received $1.85 per share for the shares of
Series F Preferred Stock.

Registration under the Securities Act was not affected with respect to the
above described transactions in reliance upon the exemption from registration
contained in Section 4(2) of the Securities Act and Rule 701 promulgated
thereunder.

ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.

(a) Exhibits. The following Exhibits are filed herewith and made a part
hereof:

<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------ --------------------------------------------------------------------------------
<C> <S>
*1.1 Form of Placement Agency Agreement.
*1.2 Form of Escrow Agreement.
3.1 (i) Second Restated Certificate of Incorporation of the Company is incorporated
hereby by reference to Exhibit 4(a) of the Company's Form S-8 Registration
Statement with respect to the 1995 Nonemployee Directors Stock Option Plan filed
January 18, 1996 (Registration No. 333-00408).
(ii) Amended and Restated By-Laws of the Company are incorporated herein by reference
to Exhibit 4(b) of the Company's Form S-8 Registration Statement with respect to
the 1995 Nonemployee Directors Stock Option Plan filed January 18, 1996
(Registration Statement No. 333-00408).
**5.1 Opinion of Jones, Day, Reavis & Pogue as to the validity of the securities being
offered.
10.1 Lease Agreements, as amended, between Gliatech R&D, Inc. and Commerce Corner
Associates (facility lease) which is guaranteed by the Company is incorporated
by reference to Exhibit 10.1 of the Company's Form S-1 Registration Statement
filed September 1, 1995 (Registration No. 33-96460).
10.2 Master Lease and Warrant Agreement between the Company and Pacificorp Credit,
Inc. d/b/a Pacific Venture Finance, Inc., dated October 15, 1990, and Amendment
No. 1, dated October 15, 1991 (equipment lease line) is incorporated by
reference to Exhibit 10.2 of the Company's Form S-1 Registration Statement filed
September 1, 1995 (Registration No. 33-96460).
10.3 Sublease between Gliatech R&D, Inc. and Spectrum Surgical Instruments
Corporation, dated November 7, 1994 is incorporated by reference to Exhibit 10.3
of the Company's Form S-1 Registration Statement filed September 1, 1995
(Registration No. 33-96460).
</TABLE>

II-3
<PAGE> 70

<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------ --------------------------------------------------------------------------------
<C> <S>
10.4 Line of Credit Agreement between the Company and National City Bank, dated
November 9, 1992 and related Promissory Note is incorporated by reference to
Exhibit 10.4 of the Company's Form S-1 Registration Statement filed September 1,
1995 (Registration No. 33-96460).
10.5 Research Agreements between the Company and Case Western Reserve University,
dated as of August 31, 1988 and September 1, 1991 is incorporated by reference
to Exhibit 10.5 of the Company's Form S-1 Registration Statement filed September
1, 1995 (Registration No. 33-96460).
10.6 License Agreements between the Company and Case Western Reserve University,
dated as of August 31, 1988 and September 1, 1991 is incorporated by reference
to Exhibit 10.6 of the Company's Form S-1 Registration Statement filed September
1, 1995 (Registration No. 33-96460).
10.7 Employment letter between the Company and Thomas O. Oesterling, Ph.D., dated May
19, 1989 is incorporated by reference to Exhibit 10.7 of the Company's Form S-1
Registration Statement filed September 1, 1995 (Registration No. 33-96460).
10.8 Employment letter between the Company and Robert C.A. Frederickson, Ph.D., dated
June 21, 1989 is incorporated by reference to Exhibit 10.8 of the Company's Form
S-1 Registration Statement filed September 1, 1995 (Registration No. 33-96460).
10.9 Employment letter between the Company and Mr. Rodney E. Dausch, dated February
7, 1995 is incorporated by reference to Exhibit 10.9 of the Company's Form S-1
Registration Statement filed September 1, 1995 (Registration No. 33-96460).
10.10 The Company's Amended and Restated 1989 Stock Option Plan is incorporated by
reference to Exhibit 10.10 of the Company's Amendment No. 1 to Form S-1
Registration Statement filed September 22, 1995 (Registration No. 33-96460).
10.11 The Company's 1992 Directors Stock Option Plan is incorporated by reference to
Exhibit 10.11 of the Company's Form S-1 Registration Statement filed September
1, 1995 (Registration No. 33-96460).
10.12 The Company's 1995 Nonemployee Directors Stock Option Plan is incorporated by
reference to Exhibit 4(c) of the Company's Form S-8 Registration Statement with
respect to the 1995 Nonemployee Directors Stock Option Plan filed January 18,
1996 (Registration No. 333-00408).
10.13 Manufacturing Agreement between the Company and European Medical Contract
Manufacturing, dated October 10, 1994 (certain portions of this exhibit have
been omitted and filed separately with the Securities and Exchange Commission
pursuant to a grant of confidential treatment) is incorporated by reference to
Exhibit 10.12 of the Company's Amendment No. 2 to Form S-1 Registration
Statement filed October 10, 1995 (Registration No. 33-96460).
10.14 Form of Distribution Agreement between the Company and various of its
distributors is incorporated by reference to Exhibit 10.13 of the Company's
Amendment No. 1 to Form S-1 Registration Statement filed September 22, 1995
(Registration No. 33-96460).
10.15 Agreement between the Company and Janssen Pharmaceutica, N.V., dated October 14,
1994 (certain portions of this exhibit have been omitted and filed separately
with the Securities and Exchange Commission pursuant to a grant of confidential
treatment) is incorporated by reference to Exhibit 10.14 of the Company's
Amendment No. 2 to Form S-1 Registration Statement filed October 10, 1995
(Registration No. 33-96460).
10.16 First Addendum to Agreement between the Company and Janssen Pharmaceutica, N.V.,
dated September 1, 1995 (certain portions of this exhibit have been omitted and
filed separately with the Securities and Exchange Commission pursuant to a grant
of confidential treatment) is incorporated by reference to Exhibit 10.16 of the
Company's Amendment No. 2 to Form S-1 Registration Statement filed October 10,
1995 (Registration No. 33-96460).
</TABLE>

II-4
<PAGE> 71

<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------ --------------------------------------------------------------------------------
<C> <S>
10.17 Underwriting Agreement by and among the Company, Montgomery Securities, Vector
Securities International, Inc. and McDonald & Company Securities, Inc., dated
October 18, 1995 is incorporated by reference to Exhibit 10.17 of the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 1995.
10.18 Warrant to purchase Common Stock issued to Montgomery Securities is incorporated
by reference to Exhibit 4.5 of the Company's Form S-1 Registration Statement
filed September 1, 1995 (Registration No. 33-96460).
10.19 Warrant to purchase Common Stock issued to Vector Securities International, Inc.
is incorporated by reference to Exhibit 4.6 of the Company's Form S-1
Registration Statement filed September 1, 1995 (Registration No. 33-96460).
10.20 Seventh Amended and Restated Rights of First Refusal, Co-Sale and Registration
Rights Agreement is incorporated by reference to Exhibit 4.8 of the Company's
Amendment No. 2 to Form S-1 Registration Statement filed October 10, 1995
(Registration No. 33-96460).
**11.1 Statement regarding computation of per-share loss.
*21.1 Subsidiaries of the Company.
**23.1 Consent of Jones, Day, Reavis & Pogue (included in Exhibit 5.1).
**23.2 Consent of Ernst & Young LLP.
**23.3 Consent of Pennie & Edmonds.
*24.1 Powers of Attorney.
**24.2 Power of Attorney of Theodore E. Haigler, Jr.
*99.1 Consent of Theodore E. Haigler, Jr.
</TABLE>

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

* Previously filed.

** Filed herewith.

(b) Financial Statement Schedules

None

ITEM 17. UNDERTAKINGS

Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Company pursuant to the foregoing provisions or otherwise, the Company has been
advised that in the opinion of the Commission such indemnification is against
public policy as expressed in the Securities Act of 1933 and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other that the payment by the Company of expenses incurred or paid
by a director, officer or controlling person of the Company in the successful
defense of any action, suit or proceeding) is asserted by such director, officer
or controlling person in connection with the securities being registered, the
Company will, unless in the opinion of its counsel the matter has been settled
by controlling precedent, submit to a court of appropriate jurisdiction the
question whether such indemnification by it is against public policy as
expressed in the Securities Act of 1933 and will be governed by the final
adjudication of such issue.

The undersigned registrant hereby undertakes that:

(1) For the purpose of determining any liability under the Securities
Act of 1933, the information omitted from the form of prospectus filed as
part of this registration statement in reliance upon Rule 430A and
contained in a form of prospectus filed by the registrant pursuant to Rule
424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be
part of this registration statement as of the time it was declared
effective.

(2) For purposes of determining any liability under the Securities Act
of 1933, each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.

II-5
<PAGE> 72

SIGNATURES

PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE COMPANY HAS
DULY CAUSED THIS AMENDMENT NO. 1 TO THE REGISTRATION STATEMENT TO BE SIGNED ON
ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY OF
CLEVELAND, STATE OF OHIO, ON MAY 15, 1996.

GLIATECH INC.

By: /s/ THOMAS O. OESTERLING

Thomas O. Oesterling, Ph.D.
President and Chief Executive
Officer

PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS AMENDMENT
NO. 1 TO THE REGISTRATION STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN
THE CAPACITIES AND ON THE DATES INDICATED.

<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ---------------------------------------- -----------------------------------------------------
<S> <C> <C>
/s/ THOMAS O. OESTERLING President and Chief Executive May 15, 1996
Thomas O. Oesterling, Ph.D. Officer (Principal Executive
Officer) and Director
* Vice President and Chief Financial May 15, 1996
Rodney E. Dausch Officer (Principal Financial
Officer)
* Controller (Principal Accounting May 15, 1996
Karen Diedrich Officer)
* Chairman of the Board May 15, 1996
Robert P. Pinkas
* Director May 15, 1996
Allen H. Ford
* Director May 15, 1996
Thomas E. Haigler, Jr.
* Director May 15, 1996
Robert D. Pavey
* Director May 15, 1996
Irving S. Shapiro
* Director May 15, 1996
John L. Ufheil
</TABLE>

* The undersigned by signing his name hereto, does sign and execute this
Amendment No. 1 to the Registration Statement pursuant to the Powers of
Attorney executed by the above-named officers and directors of the Company,
which are being filed herewith with the Securities and Exchange Commission on
behalf of such officers and directors.

By: /s/ THOMAS O. OESTERLING

Thomas O. Oesterling, Ph.D.
Attorney-in-Fact

II-6
<PAGE> 73

EXHIBIT INDEX

<TABLE>
<CAPTION>
PAGINATION
BY
SEQUENTIAL
EXHIBIT NUMBERING
NUMBER DESCRIPTION OF DOCUMENT SYSTEM
- ---------- ---------------------------------------------------------------- -----------
<C> <S> <C>
*1.1 Form of Placement Agency Agreement.
*1.2 Form of Escrow Agreement.
3.1 (i) Second Restated Certificate of Incorporation of the Company is
incorporated hereby by reference to Exhibit 4(a) of the
Company's Form S-8 Registration Statement with respect to the
1995 Nonemployee Directors Stock Option Plan filed January 18,
1996 (Registration No. 333- 00408).
(ii) Amended and Restated By-Laws of the Company are incorporated
herein by reference to Exhibit 4(b) of the Company's Form S-8
Registration Statement with respect to the 1995 Nonemployee
Directors Stock Option Plan filed January 18, 1996 (Registration
Statement No. 333-00408).
**5.1 Opinion of Jones, Day, Reavis & Pogue as to the validity of the
securities being offered.
10.1 Lease Agreements, as amended, between Gliatech R&D, Inc. and
Commerce Corner Associates (facility lease) which is guaranteed
by the Company is incorporated by reference to Exhibit 10.1 of
the Company's Form S-1 Registration Statement filed September 1,
1995 (Registration No. 33-96460).
10.2 Master Lease and Warrant Agreement between the Company and
Pacificorp Credit, Inc. d/b/a Pacific Venture Finance, Inc.,
dated October 15, 1990, and Amendment No. 1, dated October 15,
1991 (equipment lease line) is incorporated by reference to
Exhibit 10.2 of the Company's Form S-1 Registration Statement
filed September 1, 1995 (Registration No. 33-96460).
10.3 Sublease between Gliatech R&D, Inc. and Spectrum Surgical
Instruments Corporation, dated November 7, 1994 is incorporated
by reference to Exhibit 10.3 of the Company's Form S-1
Registration Statement filed September 1, 1995 (Registration No.
33-96460).
10.4 Line of Credit Agreement between the Company and National City
Bank, dated November 9, 1992 and related Promissory Note is
incorporated by reference to Exhibit 10.4 of the Company's Form
S-1 Registration Statement filed September 1, 1995 (Registration
No. 33-96460).
10.5 Research Agreements between the Company and Case Western Reserve
University, dated as of August 31, 1988 and September 1, 1991 is
incorporated by reference to Exhibit 10.5 of the Company's Form
S-1 Registration Statement filed September 1, 1995 (Registration
No. 33-96460).
10.6 License Agreements between the Company and Case Western Reserve
University, dated as of August 31, 1988 and September 1, 1991 is
incorporated by reference to Exhibit 10.6 of the Company's Form
S-1 Registration Statement filed September 1, 1995 (Registration
No. 33-96460).
10.7 Employment letter between the Company and Thomas O. Oesterling,
Ph.D., dated May 19, 1989 is incorporated by reference to
Exhibit 10.7 of the Company's Form S-1 Registration Statement
filed September 1, 1995 (Registration No. 33-96460).
</TABLE>

<PAGE> 74

<TABLE>
<CAPTION>
PAGINATION
BY
SEQUENTIAL
EXHIBIT NUMBERING
NUMBER DESCRIPTION OF DOCUMENT SYSTEM
- ---------- ---------------------------------------------------------------- -----------
<C> <S> <C>
10.8 Employment letter between the Company and Robert C.A.
Frederickson, Ph.D., dated June 21, 1989 is incorporated by
reference to Exhibit 10.8 of the Company's Form S-1 Registration
Statement filed September 1, 1995 (Registration No. 33-96460).
10.9 Employment letter between the Company and Mr. Rodney E. Dausch,
dated February 7, 1995 is incorporated by reference to Exhibit
10.9 of the Company's Form S-1 Registration Statement filed
September 1, 1995 (Registration No. 33-96460).
10.10 The Company's Amended and Restated 1989 Stock Option Plan is
incorporated by reference to Exhibit 10.10 of the Company's
Amendment No. 1 to Form S-1 Registration Statement filed
September 22, 1995 (Registration No. 33-96460).
10.11 The Company's 1992 Directors Stock Option Plan is incorporated
by reference to Exhibit 10.11 of the Company's Form S-1
Registration Statement filed September 1, 1995 (Registration No.
33-96460).
10.12 The Company's 1995 Nonemployee Directors Stock Option Plan is
incorporated by reference to Exhibit 4(c) of the Company's Form
S-8 Registration Statement with respect to the 1995 Nonemployee
Directors Stock Option Plan filed January 18, 1996 (Registration
No. 333-00408).
10.13 Manufacturing Agreement between the Company and European Medical
Contract Manufacturing, dated October 10, 1994 (certain portions
of this exhibit have been omitted and filed separately with the
Securities and Exchange Commission pursuant to a grant of
confidential treatment) is incorporated by reference to Exhibit
10.12 of the Company's Amendment No. 2 to Form S-1 Registration
Statement filed October 10, 1995 (Registration No. 33-96460).
10.14 Form of Distribution Agreement between the Company and various
of its distributors is incorporated by reference to Exhibit
10.13 of the Company's Amendment No. 1 to Form S-1 Registration
Statement filed September 22, 1995 (Registration No. 33-96460).
10.15 Agreement between the Company and Janssen Pharmaceutica, N.V.,
dated October 14, 1994 (certain portions of this exhibit have
been omitted and filed separately with the Securities and
Exchange Commission pursuant to a grant of confidential
treatment) is incorporated by reference to Exhibit 10.14 of the
Company's Amendment No. 2 to Form S-1 Registration Statement
filed October 10, 1995 (Registration No. 33-96460).
10.16 First Addendum to Agreement between the Company and Janssen
Pharmaceutica, N.V., dated September 1, 1995 (certain portions
of this exhibit have been omitted and filed separately with the
Securities and Exchange Commission pursuant to a grant of
confidential treatment) is incorporated by reference to Exhibit
10.16 of the Company's Amendment No. 2 to Form S-1 Registration
Statement filed October 10, 1995 (Registration No. 33-96460).
10.17 Underwriting Agreement by and among the Company, Montgomery
Securities, Vector Securities International, Inc. and McDonald &
Company Securities, Inc., dated October 18, 1995 is incorporated
by reference to Exhibit 10.17 of the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1995.
</TABLE>
<PAGE> 75

<TABLE>
<CAPTION>
PAGINATION
BY
SEQUENTIAL
EXHIBIT NUMBERING
NUMBER DESCRIPTION OF DOCUMENT SYSTEM
- ---------- ---------------------------------------------------------------- -----------
<C> <S> <C>
10.18 Warrant to purchase Common Stock issued to Montgomery Securities
is incorporated by reference to Exhibit 4.5 of the Company's
Form S-1 Registration Statement filed September 1, 1995
(Registration No. 33-96460).
10.19 Warrant to purchase Common Stock issued to Vector Securities
International, Inc. is incorporated by reference to Exhibit 4.6
of the Company's Form S-1 Registration Statement filed September
1, 1995 (Registration No. 33-96460).
10.20 Seventh Amended and Restated Rights of First Refusal, Co-Sale
and Registration Rights Agreement is incorporated by reference
to Exhibit 4.8 of the Company's Amendment No. 2 to Form S-1
Registration Statement filed October 10, 1995 (Registration No.
33-96460).
**11.1 Statement regarding computation of per-share loss.
*21.1 Subsidiaries of the Company.
**23.1 Consent of Jones, Day, Reavis & Pogue (included in Exhibit 5.1).
**23.2 Consent of Ernst & Young LLP.
**23.3 Consent of Pennie & Edmonds.
*24.1 Powers of Attorney.
**24.2 Power of Attorney of Theodore E. Haigler, Jr.
*99.1 Consent of Theodore E. Haigler, Jr.
</TABLE>

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

* Previously filed.

** Filed herewith.

<PAGE> 1
EXHIBIT 5.1

327300-005-016

May 15, 1996

Gliatech Inc.
23420 Commerce Park Road
Cleveland, Ohio 44122

Re: Public Offering of 1,750,000 shares
of Common Stock, $0.01 par value per
share, of Gliatech Inc.
------------------------------------
Gentlemen:

We are acting as counsel for Gliatech Inc., a Delaware corporation (the
"Company"), in connection with the public offering of an aggregate of 1,750,000
shares of Common Stock, $0.01 par value per share (the "Common Stock"), of the
Company, with up to 1,500,000 shares of Common Stock to be offered by the
Company (the "Primary Shares") and an additional 250,000 shares of Common Stock
(the "Secondary Shares") to be offered by certain selling stockholders (the
"Selling Stockholders"), on a best efforts, all or none basis, principally to
selected institutional investors in accordance with the terms and conditions of
a Placement Agency Agreement to be entered into among the Company, Vector
Securities International, Inc., Montgomery Securities and McDonald & Company
Securities, Inc. (the "Placement Agents") with respect to the Primary Shares and
Secondary Shares.

In our capacity as counsel to the Company, we have examined such documents,
records and matters of law as we have deemed necessary for purposes of this
opinion, and based thereupon we are of the opinion that, subject to the due
approval of the specific terms of the sale of the Primary Shares by the Pricing
Committee of the Board of Directors of the Company:

1. The Primary Shares will be duly authorized and, when issued and
delivered by the Company to the Placement Agents pursuant to the Placement
Agency Agreement and the Escrow Agreement against payment of the consideration
as provided therein (and provided payment of consideration received by the

<PAGE> 2

Gliatech Inc.
May 15, 1996
Page 2

Company is at least equal to the par value of such Primary Shares), will be
validly issued, fully paid and nonassessable.

2. The Secondary Shares are duly authorized, validly issued, fully paid and
nonassessable.

We hereby consent to the filing of this opinion as Exhibit 5 to the
Registration Statement filed by the Company to effect the registration of the
Primary Shares and Secondary Shares under the Securities Act of 1933 and to the
reference to us under the caption "Legal Matters" in the prospectus constituting
a part of such Registration Statement.

Very truly yours,

/s/Jones, Day, Reavis & Pogue

<PAGE> 1

EXHIBIT 11.1

STATEMENT REGARDING COMPUTATION OF PER-SHARE NET LOSS

<TABLE>
<CAPTION>
YEAR ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
--------------------------- ---------------------------
1994 1995 1995 1996
----------- ----------- ----------- -----------
(PRO FORMA) (PRO FORMA)
<S> <C> <C> <C> <C>
Average shares outstanding............ 3,778,428(A) 4,982,913(A) 4,055,567(A) 7,350,441
Net effect of anti-dilutive stock and
stock options and warrants(B)....... 873,188 514,438 873,188 --
----------- ----------- ----------- -----------
Total................................. 4,651,616 5,497,351 4,928,755 7,305,441
========== ========== ========== ==========
Net Loss.............................. $(6,052,570) $(4,985,861) $(1,185,049) $(1,177,112)
========== ========== ========== ==========
Per-share amount...................... $(1.30) $(0.91) $(0.24) $(0.16)
</TABLE>

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

(A) Assumes conversion of Preferred Stock into shares of Common Stock as if they
had been converted on the original date of issuance, except for Preferred
Stock issued within the twelve-month period preceding the filing of the
Company's initial public offering, which is treated as outstanding for all
periods prior to June 30, 1995, the latest period presented in the initial
public offering. See (B).

(B) Stock and stock options and warrants issued or granted within a
twelve-month period preceding the filing of the Company's initial public
offering are treated as outstanding for all periods prior to June 30, 1995.
Subsequent to June 30, 1995 stock options and warrants are excluded as
their effect is anti-dilutive.

<PAGE> 1

EXHIBIT 23.2

CONSENT OF ERNST & YOUNG LLP

We consent to the reference to our firm under the caption "Experts" and to
the use of our report dated January 26, 1996, in Amendment No. 1 to the
Registration Statement (Form S-1 No. 333-4604) and related Prospectus of
Gliatech Inc. for the registration of 1,750,000 shares of its Common Stock.

ERNST & YOUNG LLP

Cleveland, Ohio

May 15, 1996

<PAGE> 1

EXHIBIT 23.3

CONSENT OF PATENT COUNSEL

As special patent counsel, we hereby consent to the reference to our firm
as experts in the Registration Statement on Form S-1 of Gliatech Inc., a
Delaware Corporation.

PENNIE & EDMONDS

May 14, 1996

New York, New York

<PAGE> 1
EXHIBIT 24.2

DIRECTOR AND/OR OFFICER OF
GLIATECH INC.

REGISTRATION STATEMENT ON FORM S-1

POWER OF ATTORNEY

The undersigned director of Gliatech Inc., a Delaware corporation (the
"Company"), hereby constitutes and appoints Thomas O. Oesterling, Ph.D., Rodney
E. Dausch, Michael A. Zupon, Ph.D., Thomas C. Daniels, Arthur C. Hall III and
Kevin D. Cramer and each of them, with full power of substitution and
resubstitution, as attorneys-in-fact or attorney-in-fact of the undersigned,
for him and in his name, place and stead, to sign and file with the Securities
and Exchange Commission under the Securities Act of 1933 (the "Securities Act")
one or more Registration Statement(s) on Form S-1 relating to the registration
for sale of the Common Stock, $0.01 par value per share of the Company, with
any and all amendments, supplements and exhibits thereto, including
pre-effective and post-effective amendments or supplements or any additional
registration statement filed pursuant to Rule 462 promulgated under the
Securities Act, with full power and authority to do and perform any and all
acts and things whatsoever required, necessary or desirable to be done in the
premises, hereby ratifying and approving the act of said attorneys and any of
them and any such substitute.

EXECUTED as of May 15, 1996.

/s/ Theodore E. Haigler, Jr.
- ------------------------------------
Theodore E. Haigler, Jr.
Director