A Phase II clinical study to evaluate the safety and efficacy of LE ("Liposome Encapsulated") Diclofenac in patients diagnosed with osteoarthritis of the knee was completed in June 2002. The study was a short-term, multi-center, double-blinded, randomized, controlled study with enrollment of 156 subjects in twelve (12) centers throughout the US.

Preliminary results from the study show that over the 14-day treatment period, patients receiving LEDA demonstrated a statistically significant (p<0.01) improvement in each WOMAC (Western Ontario and McMaster Universities Osteoarthritis Index) subscale (Pain, Stiffness, Physical Function) as well as in the overall index. Pain scores improved 34.2%, stiffness scores improved 32.7%, physical function scores improved 30.5%, and overall index scores improved 31.5%.

Of all patients receiving LEDA, 68.8% showed an improvement of greater than or equal to 20% in one or more of the three subscale categories. The safety profile showed zero instances of GI upset and only 2 out of 156 patients had minor events such as skin redness at the study joint. The efficacy improvement combined with an outstanding safety profile indicates that LEDA provides a clear clinical benefit in the treatment of osteoarthritis of the knee and validates the premise of LIPPOMIX's drug delivery technology.

TOPICAL Non-Steroidal Anti-inflammatory (OptisomeTM- Encapsulated Diclofenac)

One product for LIPPOMIX is a topical Non-Steroidal Anti-inflammatory (NSAID) in which the active drug is diclofenac. NSAIDs are currently administered orally to patients for a variety of pain and inflammatory conditions. About 20% of people taking these drugs orally develop one or more side effects, which range from gastrointestinal (GI) bleeding to liver toxicity. GI bleeding and liver toxicity often results in hospitalization and even fatal outcomes. It has been estimated that 75,000 people per year are hospitalized due to gastrointestinal bleeding caused by oral NSAIDs and of those, approximately 7500 die. In fact, NSAIDs are responsible for more deaths than multiple vehicle accidents, drowning, fires or gun shots. Therefore, literally thousands individuals could potentially benefit from an effective topical treatment for musculo­skeletal pain, devoid of adverse side effects.

The sports medicine market is another rapidly growing market, which will significantly benefit from an effective and safe topical analgesic. The over-the-counter (OTC) market for sports medicine products is currently approaching $1B per year in the U.S. alone. LIPPOMIX feels the availability of an effective topical analgesic represents a major unmet need and a significant commercial opportunity. Peak worldwide sales are reasonably estimated to be in the millions of dollars. Aside from creams containing aspirin or closely related salicylates, there are currently no other topical analgesic formulations approved in the United States, which contain NSAIDs. LIPPOMIX's topical NSAID is expected to deliver one of the most effective and widely prescribed NSAIDs (diclofenac), thus eliminating the current problems seen with oral NSAIDs.

In addition to the musculoskeletal markets, LIPPOMIX believes its topical NSAID may also have signifcant commercial opportunities in other markets such as gingivitis and sunburn. Such secondary applications/indications for the topical NSAID would undoubtedly significantly contribute to the product's overall market potential.

Potential Market

Based upon preliminary results from a market research study, which utilized both primary and secondary sources, LIPPOMIX believes that two of the most appropriate market segments for this product are in:

• Arthritis patients whom are at-risk for developing complications from oral NSAID usage (i.e., previous peptic ulcer) or whom are currently taking contraindicated medications (i.e., steroids and anticoagulants). It has been estimated that this segment may represent about 20% of the total NSAID market.


• Individuals who have sustained sports-related soft-tissue injuries

Arthritis

The NSAIDs are considered an important group of compounds for the treatment of arthritis, which is the pain, and inflammation of joints. Their use in arthritis is due to their ability to inhibit the synthesis of prostaglandins, which cause edema, cellular exudation and pain in arthritic conditions. The market for topical NSAIDs is expected to significantly increase as older Americans continue to invest in external analgesics to deal with the aches and pains of aging. Approximately one in five Americans develop arthritis. In 1993, it was estimated that arthritis was affecting over 37 million patients in the US. Osteoarthritis, the most common form, affected approximately 16 million and rheumatoid arthritis affected 2 million in 1993. There are thought to be some 165 million people worldwide with rheumatoid arthritis alone, including over 300,000 in Japan. Nearly 70 million prescriptions were written for arthritis last year in the U.S alone.

The worldwide market for arthritis treatments was estimated in 1992 to be $6.5B and growing at an average rate of 7% per year. Some estimates predict the worldwide market to be more than $20B by the year 2000. The main clinical indication for prescription NSAIDs is currently arthritis. The worldwide NSAID market in 1993 was $9B per year and in 1995, sales of NSAIDs were predicted to reach $3.5B in the US. In the US, the NSAID market is led by Naprosyn (Roche), followed by ibuprofen (Boots), diclofenac (CIBA), and piroxicam (Pfizer), respectively.

Worldwide sales of diclofenac were over $1B per year in 1991. This represented a 19% share of the total NSAID market in the world. The most widely utilized NSAIDs as analgesics are various formulations of prescription and OTC aspirin and ibuprofen, both of which are moderate inhibitors of the enzyme cylco-oxygenase (COX). Naproxen sodium and ibuprofen revenues were approximately $0.5B last year in OTC sales. Overall, the U.S. OTC market for NSAIDs is over $2.5B and growing.

Sports Medicine

Sports-injury induced muscle pain is also an indication for the topical NSAID. The OTC sport medicine market in 1993 was $551 M. It has grown and approached $1 B in the U.S. in the year 2000. Topical products accounted for $210M of this market in 1993, with year 2000 sales reaching $400M.

The Advantages of Topical Diclofenac Administration Over Existing Products

As opposed to other forms of systemic administration, topical delivery provides some unique advantages.

• Enhanced delivery to the area of pain/inflammation and potential increased efficacy.


• Fewer adverse reactions, i.e., enhanced therapeutic ratio since more drug is targeted to the area of pharmacological interest and less to non-target organ systems. NSAID therapy is associated with a variety of side effects including peptic ulceration and gastrointestinal bleeding, hepatotoxicity, anaphylactic reactions, fluid retention and edema, hepatotoxicity and renal toxicity.


• Reduction in interpatient variability due to differences in blood profiles, since blood levels are not correlated with performance of the transdermal drug.


• Improved patient compliance because of improved safety profile.

A primary attribute of the transdermal liposome technology is its ability to deliver the desired pharmacological agent deep into the underlying tissue providing for a slow release "depot" effect. This has been demonstrated with the liposome technology in several published research studies (Appendix 2) as well as preclinical studies conducted with LIPPOMIX's topical NSAID product in the guinea pig. In the guinea pig, it has been shown that LIPPOMIX's product delivers significantly more (5 -10 times) diclofenac into the muscle and subcutaneous tissues underlying the site of application. It achieves this endpoint with significantly less diclofenac (-1/3 steady-state plasma levels) migrating into the systemic circulation relative to the Novartis Voltaren Emulgel product, which is currently being marketed in Europe. The Company believes that its OptisomeTM drug delivery technology has a significant competitive advantage over most other forms of transdermal delivery systems because of its "depot-like" abilities, which provide for sustained release to the local target tissue combined with minimal migration into the systemic circulation.

Competition

There are currently a number of emerging therapies for arthritis. These therapies consist of a range of immunological agents, which are directed toward inhibiting the articular changes in synovial lining cell proliferation and synovial edema and agents, which suppress the proliferation of activated T-cells and/or various cytokines. Other agents consist of injectable NSAIDs, oral NSAIDs that selectively inhibit the COX-2 enzyme, gold, methotrexate, corticosteroids, capsaicin and analogues. In addition, Immunex is expected to gain approval for an injectable product in the near future. The injectable products as well as gold and methotrexate are generally used for more severe types of arthritis and are not considered to be direct competitors of LIPPOMIX's topical diclofenac.

There are several marketed topical products, which contain salicylates, as well as several products in commercial development, which will potentially compete directly with the topical diclofenac product in the arthritis and sports medicine markets. In the U.S., topically administered anti-inflammatory products under development include a variety of topically applied NSAIDs which include analogues of arachidonic acid that are selective lipooxygenase inhibitors, compounds related to diclofenac that are well absorbed topically and diclofenac gels. Other potential competing products include prescription and OTC oral NSAIDs. Competing companies developing topical NSAIDs with other delivery technologies include Macrochem (ibuprofen gel) and Dimethaid (diclofenac in a DMSO formulation). In fact, Dimethaid has recently submitted a New Drug Application (N.D.A.) to the F.D.A. In Europe there are several topical NSAID containing products, which are sold by prescription. One of the most widely prescribed is Emugel, which is manufactured by CIBA-GEIGY. Arthrotec®, the COX-2 inhibitor, which has recently been introduced to the U.S. market, is already one of the top selling NSAIDs in Sweden and Canada attesting to the significant demand for NSAID products with lessened side effects. Arthrotec® contains diclofenac and is formulated with misoprostil (a prostaglandin) to protect the gastric mucosa.

LIPPOMIX believes that its product offers advantages over existing oral or topical products or those in development since it is more likely to be devoid of side effects and less expensive than products which will be arriving to market in the next few years such as the Cox-2 inhibitors. The Company also believes that its topical NSAID product will compete favorably with those topical products currently in development based upon its pharmacological potency, ease of use, duration of activity, and/or the non-irritating/allergic properties of the formulation.

Regulatory and Clinical Strategy

The objective of the Phase II/III studies will be to determine the dose response and time course of analgesic activity for the temporary treatment of mild-to-moderate pain associated with sunburn and with common musculoskeletal conditions. Musculoskeletal conditions would include osteoarthritis in the knee, but also backache and upper extremity sprains or strains. These clinical studies will be directed toward establishing the targeted label claim for the topical NSAID, which is anticipated to be similar to the product labeling for the currently registered methyl salicylate/capsaicin products. The label indications for the later OTC pain products are for the temporary treatment of the minor aches and pains of muscles and joints associated with sunburn, simple backache, sprains and strains. For the proposed definitive clinical studies with LIPPOMIX's topical diclofenac, validated composite endpoints and indices exist for assessing the signs and symptoms in study subjects. Treatment successes are assessed by meeting specific well-defined criteria over a baseline in the majority of observations and by monitoring the drop out of patients during the course of the study as a result of toxicity. A key component of regulatory/clinical strategy is that LIPPOMIX's topical NSAID will be intended for short-term administration (one week or less) in the absence of consultation with a physician. The Company believes that this clinical/regulatory strategy will greatly expedite the time-tomarket, reduce development costs as well as potential safety concerns, and facilitate the switch from Rx-to-OTC status of this product (see below). It is still recognized, that despite the low risk for side effects resulting from short-term topical treatment, it is still possible that regulatory authorities will request safety data from a cohort of patients in which the topical diclofenac is administered for longer than 7 days. The FDA's rationale for this would be that some patients may self-medicate for a longer time period or their physician may recommend a longer treatment period. Even in the event that a long-term clinical safety study is performed, it is not anticipated that having to conduct this study will lead to significant delays in marketing authorization.

Gingivitis/Periodontal Indication

Periodontal disease is often the end result of chronic gingivitis and is characterized by the progressive breakdown of the connective tissue that anchors the tooth surrounding the alveolar bone. The treatment for periodontal disease typically involves scaling and root planing, which is an aggressive mechanical procedure usually performed under a local anesthesia. In more serious cases of periodontal disease, surgery is often required to remove bacterial deposits on the teeth and reposition the gum tissue. It is estimated that 67 million adults in the U.S. suffer from periodontal disease and 13 million seek treatment annually at a cost of about $6 billion. It is highly likely that an even greater number of afflicted people would seek treatment if it became less expensive and less painless.

There are well over 100 papers in the scientific literature, which provide strong support for the use of an effective topical NSAID in the treatment of gingivitis.

The conduct of the nonclinical/clinical studies for the musculoskeletal indication will provide the framework for pursuing the gingivitis/periodontal indication with the product. LIPPOMIX expects to leverage the results from its clinical trials and regulatory filings for the sunburn and musculoskeletal indications the in achieving the approval for a gingivitis/periodontal disease indication. LIPPOMIX believes that little, if any additional modification of the current topical diclofenac formulation will have to be done to pursue this indication.

Over-the-Counter (OTC) Medication

As mentioned, the first-line regulatory strategy, pending the outcome of future clinical trials and discussion(s) with regulatory agencies will be to seek FDA registrations of its topical diclofenac products for musculoskeletal pain and gingivitis with OTC status. LIPPOMIX believes that the sales of both products will be significantly greater if they are sold OTC as opposed to prescription only. The Company believes that the regulatory/political climate is becoming much more encouraging with regard to the switch of prescription medications to OTC status. There has been a growing popularity for OTC medicines as patients desire to manage their own health care activities. The constraints imposed by manage care organizations are also driving growth in the self-care category and in many cases, these organizations are encouraging participants to become more active in their health care and advocating self-care. Cost constrains often limit access to doctors and prescription medicine. An ever-growing procession of products have recently made the Rx-to-OTC switch in recent years and pharmaceutical manufacturers have increased their efforts to educate consumers about how to effectively use their OTC products. In addition, health plans are spending more dollars educating plan members about how to use OTC medicines.

In 1991, the FDA established an Office of OTC Drug Evaluation in its Center for Drug Evaluation and Research (CDER), plus a separate advisory committee for nonprescription drugs, to facilitate OTC approvals. A key factor as to whether a product will gain approval from the committee is whether or not consumers can self-diagnose and treat a condition(s) that is to be treated with the product. Another major regulatory concern is that patients can read and understand instructions for using the product and use the product correctly.

Since 1976, more than 600 pharmaceutical products have emigrated from behind the pharmacist's counter and onto the drugstore shelves. Another 70 are expected to do so in the next few years. Total OTC sales were $9.6B in the U.S. in 1996 and reached $14B by the year 2000.

Since 1976, more than 600 pharmaceutical products have emigrated from behind the pharmacist's counter and onto the drugstore shelves. Another 70 are expected to do so in the next few years. Total OTC sales were $9.6B in the U.S. in 1996 and reached $14B by the year 2000.

Commercialization of Topical NSAID (U.S.) for Arthritis and Muscle Pain

Arthritis*
Annual Incidence	50,000,000
% Eligible	80%
Penetration	20%
% Market Share	10%
Revenue/Patient/Year	$30
Peak Year Revenue	$120M
Muscle Pain**
Annual Incidence	25,000,000
% Eligible	80%
Penetration	20%
% Market Share	20%
Revenue/Patient/Year	$30
Peak Year Revenue	$120M

Incidence of patients in the U.S. with arthritis* -

• Assumes 80% of patients have mild- moderate forms of arthritis treatable with NSAIDs


• Assumes other products on market and acceptable safety and efficacy


• Assumes that COX-2 inhibitors are on the market; assumes two topical NSAID products on market


• Assumes two treatments per year and $2 per day treatment cost

Incidence of patients in the U.S. with muscle pain** -

• Assumes 80% of patients have muscle pain treatable with NSAIDs


• Assumes other products on market and acceptable safety and efficacy


• Assumes that COX-2 inhibitors are on the market; assumes two topical NSAID products on market


• Assumes two treatments per year and $2 per day treatment cost