Cyclacel Pharmaceuticals, Inc. - Quarter Report: 2011 September (Form 10-Q)

CYCLACEL PHARMACEUTICALS, INC.
(A Development Stage Company)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In $000s)
(Unaudited)

										Period from
										August 13, 1996
		Nine Months Ended								(inception) to
		September 30,								September 30,
		2010				2011				2011
Repayment of government loan			—				—				(455	)
Government loan received			—				—				414
Loan received from Cyclacel Group Plc			—				—				9,103
Proceeds of committable loan notes issued from shareholders			—				—				8,883
Loans received from shareholders			—				—				1,645
Cash and cash equivalents assumed on stock purchase			—				—				17,915
Costs associated with stock purchase			—				—				(1,951	)
Net cash provided by financing activities			19,282				8,897				243,450
Effect of exchange rate changes on cash and cash equivalents			(18	)			7				455
Net increase (decrease) in cash and cash equivalents			6,989				(1,820	)			27,675
Cash and cash equivalents at beginning of period			11,493				29,495				—
Cash and cash equivalents at end of period		$	18,482			$	27,675			$	27,675
Supplemental disclosure of cash flows information:
Cash received during the period for:
Interest			14				20				11,735
Taxes			1,067				688				18,210
Cash paid during the period for:
Interest			(155	)			—				(1,914	)
Schedule of non-cash transactions:
Acquisitions of equipment purchased through capital leases			—				—				3,470
Issuance of common shares in connection with license agreements			—				—				592
Issuance of ordinary shares on conversion of bridging loan			—				—				1,638
Issuance of preferred ordinary “C” shares on conversion of secured convertible loan notes and accrued interest			—				—				8,893
Issuance of ordinary shares in lieu of cash bonus			—				—				164
Issuance of other long term payable on ALIGN acquisition			—				—				1,122

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

CYCLACEL PHARMACEUTICALS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. NATURE OF OPERATIONS AND BASIS OF PRESENTATION

Nature of Operations

Cyclacel Pharmaceuticals, Inc. (‘‘Cyclacel’’ or the ‘‘Company’’) is a development-stage biopharmaceutical company dedicated to the development and commercialization of novel, mechanism-targeted drugs to treat human cancers and other serious diseases. Cyclacel’s strategy is to build a diversified biopharmaceutical business focused in hematology and oncology based on a portfolio of commercial products and a development pipeline of novel drug candidates.

Cyclacel’s clinical development priorities are focused on sapacitabine in the following indications:

	•		Acute myeloid leukemia, or AML, in the elderly;
	•		Myelodysplastic syndromes, or MDS; and
	•		Non-small cell lung cancer, or NSCLC.

On January 11, 2011, the Company opened enrollment of the SEAMLESS pivotal Phase 3 trial for the Company’s sapacitabine oral capsules as a front-line treatment of elderly patients aged 70 years or older with newly diagnosed AML who are not candidates for intensive induction chemotherapy under a Special Protocol Assessment, or SPA, reached with the U.S. Food & Drug Administration, or FDA. SEAMLESS is a randomized study against an active control drug with the primary objective of demonstrating an improvement in overall survival. In October 2011, the independent Data Safety Monitoring Board, or DSMB, of SEAMLESS recommended that the study should enter the randomized stage as planned and, following this recommendation, the Company has implemented an improvement in the SEAMLESS trial design, converting it into a 2-arm from a 3-arm design. The Company received written confirmation from the FDA that, following the modification in the trial design, the previously agreed SPA agreement remains valid.

The Company has advanced two additional product candidates, seliciclib in Phase 2 for NSCLC and nasopharyngeal cancer or NPC, and CYC116 in Phase 1 clinical development. The combination of sapacitabine with seliciclib is also being evaluated in a Phase 1 clinical trial. The Company will determine the feasibility of pursuing further development and/or partnering these assets depending on the availability of funding and further clinical data. In addition, the Company markets directly in the United States Xclair^® Cream for radiation dermatitis and Numoisyn^® Liquid and Numoisyn^® Lozenges for xerostomia.

As a development stage enterprise, substantially all efforts of the Company to date have been devoted to performing research and development, conducting clinical trials, developing and acquiring intellectual property and raising capital.

Basis of Presentation

The condensed consolidated balance sheet as of September 30, 2011, the condensed consolidated statements of operations for the three and nine months ended September 30, 2011 and 2010 and for the period from August 13, 1996 (inception) to September 30, 2011, and the condensed consolidated statements of cash flows for the nine months ended September 30, 2011 and 2010 and for the period from August 13, 1996 (inception) to September 30, 2011, and related disclosures contained in the accompanying notes are unaudited. The condensed consolidated balance sheet as of December 31, 2010 is derived from the audited consolidated financial statements included in the Annual Report on Form 10-K for the year ended December 31, 2010 filed with the Securities and Exchange Commission (“SEC”). The condensed consolidated financial statements are presented on the basis of accounting principles that are generally accepted in the United States (“GAAP”) for interim financial information and in accordance with the rules and regulations of the SEC; accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States for a complete set of financial statements. In the opinion of management, all adjustments, which include only normal recurring adjustments, necessary to present fairly the condensed consolidated balance sheet as of September 30, 2011, the results of operations for the three and nine months ended September 30, 2011 and 2010 and for the period from August 13, 1996 (inception) to September 30, 2011, and the consolidated statements of cash flows for the nine months ended September 30, 2011 and 2010 and for the period from August 13, 1996 (inception) to September 30, 2011, have been made. The interim results for the three and nine months ended September 30, 2011 are not necessarily indicative of the results to be expected for the year ending December 31, 2011 or for any other year. The condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the accompanying notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010 filed with the SEC.

Recent Developments

July 2011 Underwritten Offering

On July 7, 2011, the Company closed an underwritten offering for an aggregate of 7,617,646 units, at an offering price of $1.36 per unit, for gross proceeds of approximately $10.4 million. Each unit consists of (i) one share of common stock and (ii) a five-year warrant to purchase 0.5 of a share of common stock at an exercise price of $1.36 per share, exercisable beginning six months after the date of issuance, or after January 7, 2012. The shares of common stock and warrants were immediately separable and were issued separately such that no units were issued. The net proceeds, after underwriting discounts and commissions and other fees and expenses, were approximately $9.3 million.

NASDAQ Notification

On September 16, 2011, the Company received a NASDAQ Staff Deficiency Letter indicating the Company was not in compliance with the minimum bid price requirement for continued listing on the NASDAQ exchange because the bid price for the Company’s common stock had closed under $1.00 for 30 consecutive business days. The Company may achieve compliance if, at any time before March 14, 2012, the bid price of its common stock closes at $1.00 per share or more for a minimum of 10 consecutive business days. Failure to achieve compliance may result in the removal of Company’s common stock listing on the NASDAQ exchange.

Preferred Stock Dividend

On October 6, 2011, the Board of Directors (the “Board”) decided not to declare the quarterly cash dividend on the Company’s 6% Convertible Exchangeable Preferred Stock (“Preferred Stock”) with respect to the third quarter of 2011 that would have otherwise been payable on November 1, 2011.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Consolidation

The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries for the indicated periods. All significant intercompany transactions and balances have been eliminated.

Use of Estimates

The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities and related disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. The Company reviews its estimates on an ongoing basis. The estimates are based on historical experience and on various other assumptions that the Company believes to be reasonable under the circumstances. Actual results may differ from these estimates.

Cash and Cash Equivalents

Cash and cash equivalents are stated at cost, which is substantially the same as fair value. The Company considers all highly liquid investments with an original maturity of three months or less at the time of purchase to be cash equivalents. The Company’s cash equivalents generally include investments in money market funds and corporate commercial paper.

Trade Accounts Receivable and Allowance for Doubtful Accounts

An allowance for doubtful accounts is provided, as necessary, on trade receivables based on their respective aging categories and historical collection experience, taking into consideration the type of payer, historical and projected collection outcomes, and current economic and business conditions that could affect the collectability of the Company’s receivables. The allowance for doubtful accounts is reviewed, at a minimum, on a quarterly basis. Changes in the allowance for doubtful accounts are recorded as an adjustment to bad debt expense within general and administrative expenses. Material revisions to reserve estimates may result from adverse changes in collection experience. The Company writes off accounts against the allowance for doubtful accounts when reasonable collection efforts have been unsuccessful and it is likely the receivable will not be recovered. At December 31, 2010 and September 30, 2011, all receivables were deemed collectible.

For the three months ended September 30, 2010 and 2011, approximately 92% and 87%, respectively, of the Company’s product sales in the United States were to three wholesalers, respectively. For the nine months ended September 30, 2010 and 2011, approximately 88% and 89%, respectively, of the Company’s product sales in the United States were to three wholesalers, respectively.

Inventory

Cyclacel values inventories at the lower of cost or market value. The Company determines cost using the first-in, first-out method. As of December 31, 2010 and September 30, 2011, all inventories were classified as finished goods. The Company analyzes its inventory levels at least quarterly to identify any items that may expire prior to sale, inventory that has a cost basis in excess of net realizable value, or inventory in excess of expected sales requirements. The determination of whether or not inventory costs will be realizable requires estimates by the Company’s management. An important consideration in making this determination is future sales forecasts. The Company writes down the value of inventory to the extent that inventory is expected to expire before being sold or if the cost basis is in excess of net realizable value. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required in future periods.

Revenue Recognition

Product sales

The Company recognizes revenue from product sales when persuasive evidence of an arrangement exists; delivery has occurred or services have been rendered; the selling price is fixed or determinable; and collectability is reasonably assured.

The Company offers a general right of return on these product sales, and has considered the guidance in ASC 605-15, “Revenue Recognition -Products” (“ASC 605-15”) and ASC 605 -10 “Revenue Recognition — Overall” (“ASC 605-10”). Under these guidelines, the Company accounts for all product sales using the “sell-through” method. Under the sell-through method, revenue is not recognized upon shipment of product to distributors. Instead, the Company records deferred revenue at gross invoice sales price and deferred cost of sales at the cost at which those goods were held in inventory. The Company recognizes revenue when such inventory is sold through to pharmacies. To estimate product sold through to pharmacies, the Company relies on third-party information, including information obtained from significant distributors with respect to their inventory levels and sell-through to pharmacies. The Company estimates product returns based on historical returns experience and other factors that affect demand for the Company’s products as well as the amount of product subject to return.

Deferred revenue was $0.1 million at both September 30, 2010 and 2011. Deferred cost of goods sold was approximately $27,000 and $20,000 at September 30, 2010 and 2011, respectively.

Collaboration, research and development, and grant revenue

Certain of the Company’s revenues are earned from collaborative agreements. The Company recognizes revenue when persuasive evidence of an arrangement exists; delivery has occurred or services have been rendered; the fee is fixed or determinable; and collectability is reasonably assured. Determination of whether these criteria have been met is based on management’s judgments regarding the nature of the research performed, the substance of the milestones met relative to those the Company must still perform, and the collectability of any related fees. Should changes in conditions cause management to determine these criteria are not met for certain future transactions, revenue recognized for any reporting period could be adversely affected.

Research and development revenues, which are earned under agreements with third parties for contract research and development activities, are recorded as the related services are performed. Milestone payments are non-refundable and recognized as revenue when earned, as evidenced by achievement of the specified milestones and the absence of ongoing performance obligations. Any amounts received in advance of performance are recorded as deferred revenue. None of the revenues recognized to date are refundable if the relevant research effort is not successful.

Grant revenues from government agencies and private research foundations are recognized as the related qualified research and development costs are incurred, up to the limit of the prior approval funding amounts. All grants received are not refundable.

Clinical Trial Accounting

Data management and monitoring of all of the Company’s clinical trials are performed by contract research organizations (‘‘CROs’’) or clinical research associates (‘‘CRAs’’) in accordance with the Company’s standard operating procedures. Typically, CROs and some CRAs bill monthly for services performed, and others bill based upon milestones achieved. The Company accrues unbilled clinical trial expenses based on estimates of the level of services performed each period. Costs of setting up investigational sites for participation in the Company’s clinical trials are expensed immediately as research and development expenses. Clinical trial site costs related to patient enrollment are accrued as patients are entered into the trial and the patient data is recorded on case report forms. Any initial payment made to the clinical trial site is recognized upon execution of the clinical trial agreements and expensed as research and development expenses.

Research and Development Expenditures

Research and development expenses consist primarily of costs associated with the development of the Company’s product candidates, including as appropriate license and milestone payments, compensation and other expenses for research and development personnel, supplies and development materials, costs for consultants and related contract research, facility costs, amortization of purchased technology and depreciation. Expenditures relating to research and development are expensed as incurred.

Foreign currency and currency translation

Transactions that are denominated in a foreign currency are re-measured into the functional currency at the current exchange rate on the date of the transaction. Any foreign currency-denominated monetary assets and liabilities are subsequently re-measured at current exchange rates, with gains or losses recognized as foreign exchange (losses)/gains in the statement of operations.

The assets and liabilities of the Company’s international subsidiary are translated from its functional currency into United States dollars at exchange rates prevailing at the balance sheet date. Average rates of exchange during the period are used to translate the statement of operations, while historical rates of exchange are used to translate any equity transactions.

Translation adjustments arising on consolidation due to differences between average rates and balance sheet rates, as well as unrealized foreign exchange gains or losses arising from translation of intercompany loans that are of a long-term-investment nature, are recorded in other comprehensive income.

Derivative Instruments

Derivative financial instruments are measured at fair value. Significant judgments and estimates are necessary in determining the fair value in the absence of quoted market values. These estimates are based on valuation methodologies and assumptions deemed appropriate in the circumstances. The use of different assumptions may have a material effect on the estimated fair value amount and the Company’s results of operations.

Fair Value Measurements

Inputs used to determine fair value of financial and non-financial assets and liabilities are categorized using a fair value hierarchy that prioritizes observable and unobservable inputs into three broad levels, from Level 1, which is the most reliable, to Level 3, which is the least reliable (see “Note 3 — Fair Value Measurements”). Management reviews the categorization of fair value inputs on a periodic basis and may determine that it is necessary to transfer an input from one level of the fair value hierarchy to another based on changes in events or circumstances, such as a change in the observability of an input. Any such transfer will be recognized at the end of the reporting period.

Income Taxes

The Company accounts for income taxes under the liability method. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. The Company’s management has established a full valuation allowance against its deferred tax assets based on the determination that it is not more likely than not that the Company will recognize the benefits of those assets.

The Company adopted the guidance related to accounting for uncertainty in income taxes, primarily codified in ASC 740, “Income taxes” (“ASC 740”). ASC 740 specifies the accounting for uncertainty in income taxes recognized in a company’s financial statements by prescribing a minimum probability threshold a tax position is required to meet before being recognized in the financial statements.

The Company records income tax benefits related to research and development tax credits, which will be claimed from H. M. Revenue & Customs, the United Kingdom’s taxation and customs authority, with respect to qualifying research and development costs incurred in the same accounting period.

Stock-based Compensation

The Company grants stock options, restricted stock units and restricted stock to officers, employees and directors under the 2006 Amended and Restated Equity Incentive Plan (“2006 Plan”), which was approved on March 16, 2006 and subsequently amended and restated on April 14, 2008. The Company also has outstanding options under various stock-based compensation plans for employees and directors. These plans are described more fully in “Note 6 — Stock-Based Compensation”. The Company accounts for these plans under ASC 718, “Compensation — Stock Compensation” (“ASC 718”).

ASC 718 requires measurement of compensation cost for all stock-based awards at fair value on date of grant and recognition of compensation over the requisite service period for awards expected to vest. The fair value of restricted stock and restricted stock units is determined based on the number of shares granted and the quoted price of the Company’s common stock on the date of grant. The determination of grant-date fair value for stock option awards is estimated using the Black-Scholes model, which includes variables such as the expected volatility of our share price, the anticipated exercise behavior of our employees, interest rates, and dividend yields. These variables are projected based on our historical data, experience, and other factors. Changes in any of these variables could result in material adjustments to the expense recognized for share-based payments. Such value is recognized as expense over the requisite service period, net of estimated forfeitures, using the straight-line attribution method. The estimation of stock awards that will ultimately vest requires judgment, and to the extent actual results or updated estimates differ from current estimates, such amounts are recorded as a cumulative adjustment in the period estimates are revised. The Company considers many factors when estimating expected forfeitures, including type of awards granted employee class, and historical experience. Actual results and future estimates may differ substantially from current estimates.

Segments

The Company has determined its reportable segments in accordance with ASC 280, “Segment Reporting” (“ASC 280”) and related disclosures about products, services, geographic areas and major customers. After considering its business activities and geographic reach, the Company has concluded that it operates in just one operating segment being the discovery, development and commercialization of novel, mechanism-targeted drugs to treat cancer and other serious disorders, with development operations in two geographic areas, namely the United States and the United Kingdom.

Net Loss per Common Share

The Company calculates net loss per common share in accordance with ASC 260, “Earnings Per Share” (“ASC 260”). Basic and diluted net loss per common share were determined by dividing net loss applicable to common stockholders by the weighted average number of common shares outstanding during the period. The Company’s potentially dilutive shares, which include outstanding common stock options, restricted stock, restricted stock units, convertible preferred stock, and common stock warrants, have not been included in the computation of diluted net loss per share for all periods as the result would be anti-dilutive.

		September 30,				September 30,
		2010				2011
Stock options			3,129,177				3,538,302
Restricted stock and restricted stock units			67,700				36,440
Convertible preferred stock			516,228				516,228
Common stock warrants			5,843,597				13,814,015
Total shares excluded from calculation			9,556,702				17,904,985

See “Note 6 — Stock Based Compensation” and “Note 8 — Stockholders’ Equity” for additional information.

Comprehensive Income (Loss)

In accordance with ASC 220, “Comprehensive Income” (“ASC 220”) all components of comprehensive income (loss), including net income (loss), are reported in the financial statements in the period in which they are recognized. ASC 220 defines comprehensive income (loss) as the change in equity during a period from transactions and other events and circumstances from nonowner sources. Net income (loss) and other comprehensive income (loss), including foreign currency translation adjustments, are reported, net of any related tax effect, to arrive at comprehensive income (loss). No taxes were recorded on items of other comprehensive income.

																		Period from
																		August 13, 1996
		Three Months Ended								Nine Months Ended								(inception) to
		September 30,								September 30,								September 30,
		2010				2011				2010				2011				2011
		$000
Net loss			(3,807	)			(3,445	)			(12,849	)			(11,585	)			(249,891	)
Translation adjustment			(3,699	)			2,368				302				(458	)			8,320
Unrealized foreign exchange (loss) gain on intercompany loans			3,627				(2,358	)			(352	)			476				(8,271	)
Comprehensive loss			(3,879	)			(3,435	)			(12,899	)			(11,567	)			(249,842	)

Recent Accounting Pronouncements

In September 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2011-08, which amends the guidance in ASC 350-20, Intangibles-Goodwill and Other-Goodwill (“ASC 350-20”). The guidance simplifies how companies test goodwill for impairment by allowing companies to use a qualitative approach. The amendments in the ASU permit a company to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test described in ASC 350-20.The ASU is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Early adoption is permitted, including for annual and interim goodwill tests performed as of a date before September 15, 2011, if a company’s financial statements for the most recent annual or interim period have not yet been issued. Adoption of the guidance is not expected to have a material impact on the Company’s consolidated financial statements.

In June 2011, the FASB issued Accounting Standards ASU 2011-05 to amend the guidance on the presentation of comprehensive income in ASC 220 that would require companies to present a single statement of comprehensive income or two separate but consecutive statements, a statement of operations and a statement of comprehensive income. The proposed guidance would make the financial statement presentation of comprehensive income more prominent by eliminating the alternative to present comprehensive income within the statement of equity. The ASU will be effective for annual periods beginning after December 15, 2011, although the FASB has recently issued a proposal to defer the effective date of certain aspects of ASC 2011-5 indefinitely. Nonetheless, the adoption of the guidance will not have a material impact on the Company’s consolidated financial statements.

In May 2011, the FASB issued ASU 2011-04, which amends GAAP to conform to International Financial Reporting Standards (“IFRS”) fair value measurement and disclosure requirements. The amendments change the wording used to describe the requirements in GAAP for measuring fair value, changes certain fair value measurement principles and enhances disclosure requirements. This guidance is effective for annual periods beginning after December 15, 2011, applied prospectively. Adoption of the guidance is not expected to have a material impact on the Company’s consolidated financial statements.

3. FAIR VALUE MEASUREMENTS

As defined in ASC 820, fair value is based on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In order to increase consistency and comparability in fair value measurements, ASC 820 establishes a fair value hierarchy that prioritizes observable and unobservable inputs used to measure fair value into three broad levels, which are described below:

	•		Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities. The fair value hierarchy gives the highest priority to Level 1 inputs.
	•		Level 2: Inputs other than quoted prices within Level 1 that are observable for the asset or liability, either directly or indirectly.
	•		Level 3: Unobservable inputs that are used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.

Financial assets and liabilities carried at fair value on a recurring basis as of December 31, 2010 are classified in the table below in one of the three categories described above:

		Level 1				Level 2				Level 3				Total
		$000				$000				$000				$000
Cash equivalents			29,066				—				—				29,066
Warrants			—				—				680				680
Total			29,066				—				680				29,746

Financial assets and liabilities carried at fair value on a recurring basis as of September 30, 2011 are classified in the table below in one of the three categories described above:

		Level 1				Level 2				Level 3				Total
		$000				$000				$000				$000
Cash equivalents			24,014				—				—				24,014
Warrants			—				—				37				37
Total			24,014				—				37				24,051

Warrants Liability

The Company issued warrants to purchase shares of common stock under the registered direct financing completed in February 2007. These warrants are classified as liabilities for accounting purposes in accordance with ASC 815, “Derivatives and Hedging” (“ASC 815”). At the date of the transaction, the fair value of the warrants of $6.8 million was determined utilizing the Black-Scholes option pricing model utilizing the following assumptions: risk free interest rate — 4.68%, expected volatility — 85%, expected dividend yield — 0%, and a contractual life of 7 years. The fair value of the warrant is being re-measured each reporting period, with a derivative gain or loss recognized in the consolidated statement of operations. Such gains or losses will continue to be reported until the warrants are exercised or expire. The Company used the Black-Scholes option-pricing model with the following assumptions to value the warrants:

		December 31,				September 30,
		2010				2011
Exercise price		$	8.44			$	8.44
Expected term		3.13 Yrs.				2.38 Yrs.
Risk free interest rate			1.02	%			0.32	%
Expected volatility			121	%			106	%
Expected dividend yield over expected term			—				—

During the three months ended September 30, 2010, the Company recognized the increase in the value of warrants of approximately $0.1 million as a loss on the consolidated statement of operations. During the three months ended September 30, 2011, the Company recognized the decrease in the value of warrants of approximately $0.4 million as a gain on the consolidated statement of operations. During the nine months ended September 30, 2010, the Company recognized the $0.4 million increase in the value of warrants as a loss on the consolidated statement of operations. During the nine months ended September 30, 2011, the Company recognized the $0.6 million decrease in the value of warrants as a gain on the consolidated statement of operations. The following table reconciles the beginning and ending balance of Level 3 inputs for the nine months ended September 30, 2011:

		Level 3
		$000
Balance as of December 31, 2010			680
Gain from change in valuation of warrants liability reported in earnings			(643	)
Balance as of September 30, 2011			37

4. PREPAID EXPENSES AND OTHER CURRENT ASSETS

Prepaid expenses and other current assets consist of the following:

		December 31,				September 30,
		2010				2011
		($000s)
Research and development tax credit receivable			660				429
Prepayments			317				324
Accounts receivable			104				102
Other current assets			301				86
Total prepaid expenses and other current assets			1,382				941

5. ACCRUED LIABILITIES AND OTHER CURRENT LIABILITIES

Accrued and other current liabilities consisted of the following:

		December 31,				September 30,
		2010				2011
		($000s)
Accrued research and development			2,793				3,807
Other current liabilities			1,339				990
			4,132				4,797

6. STOCK BASED COMPENSATION

Stock based compensation has been reported within expense line items on the consolidated statement of operations for the three and nine month periods ended September 30, 2010 and 2011 as shown in the following table:

		For the three months								For the nine months
		ended September 30,								ended September 30,
		2010				2011				2010				2011
		($000s)
Research and development			116				39				281				130
General and administrative			488				182				1,109				547
Stock-based compensation costs before income taxes			604				221				1,390				677

Under the 2006 Plan, 5,200,000 shares of the Company’s common stock have been reserved. The awards granted under the 2006 Plan have a maximum maturity of 10 years and generally vest over a four-year period from the date of grant.

A summary of activity for the options under the Company’s 2006 Plan for the nine months ended September 30, 2011 is as follows:

										Weighted Average
						Weighted				Remaining				Aggregate
						Average				Contractual				Intrinsic
		Options				Exercise Price				Term (years)				Value
														(in $000s)
Options outstanding at December 31, 2010			3,489,932			$	3.96				7.22				938
Granted			199,500			$	1.52
Exercised			(6,638	)		$	0.41
Expired			—
Cancelled / forfeited			(144,492	)		$	6.23
Options outstanding at September 30, 2011			3,538,302			$	3.74				6.69				8
Unvested at September 30, 2011			788,405			$	1.79				8.74				1
Vested and exercisable at September 30, 2011			2,749,897			$	4.30				6.10				6

ASC 718 requires compensation expense associated with share-based awards to be recognized over the requisite service period, which for the Company is the period between the grant date and the date the award vests or becomes exercisable. Most of the awards granted by the Company (and still outstanding), vest ratably over four years, with 1/4 of the award vesting one year from the date of grant and 1/48 of the award vesting each month thereafter. However, certain awards made to executive officers vest over three to five years, depending on the terms of their employment with the Company. In addition, some recent awards made to other employees vest ratably over four years, with 1/48 of the award vesting each month.

ASC 718 requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. This analysis is performed quarterly and the forfeiture rate adjusted as necessary. Ultimately, the actual expense recognized over the vesting period is based on only those shares that vest.

The Company used the Black-Scholes option-pricing model with the following assumptions for stock option grants to employees and directors for the nine months ended September 30, 2010 and 2011:

		For the nine months
		ended September 30,
		2010		2011
Expected term		5 – 6Yrs		5 – 6Yrs
Risk free interest rate		2.37 – 2.96%		1.47 – 2.29%
Expected volatility		90 – 100%		93 – 99%
Expected dividend yield over expected term		—		—
Resulting weighted average grant fair value		$1.80		$1.15

There were 199,500 options granted during the nine months ended September 30, 2011. For grants made during the nine months ended September 30, 2010 and September 30, 2011, the expected term assumption was estimated using past history of early exercise behavior and estimated expectations of future exercise behavior. Starting with the December 2010 annual grants to the Company’s employees, the Company relied exclusively on its historical volatility as an input to the option pricing model as the Company’s management believes that this rate will be representative of future volatility over the expected term of the options. Prior to December 2010, because the Company had been publicly traded for a limited period, the expected volatility assumption was based on the historical volatility of peer companies over the expected term of the option awards.

Estimates of pre-vesting option forfeitures are based on the Company’s experience. For outstanding options, the Company uses a forfeiture rate of 0 — 50% depending on when and to whom the options are granted. The Company adjusts its estimate of forfeitures over the requisite service period based on the extent to which actual forfeitures differ, or are expected to differ, from such estimates. Changes in estimated forfeitures are recognized through a cumulative adjustment in the period of change and may impact the amount of compensation expense to be recognized in future periods.

The weighted average risk-free interest rate represents interest rate for treasury constant maturities published by the Federal Reserve Board. If the term of available treasury constant maturity instruments is not equal to the expected term of an employee option, Cyclacel uses the weighted average of the two Federal Reserve securities closest to the expected term of the employee option.

During the nine months ended September 30, 2011, 6,638 stock options were exercised resulting in approximately $3,000 of cash proceeds to the Company. During the nine months ended September 30, 2010, there were 149,313 stock options exercised for proceeds of approximately $0.1 million. As the Company presently has tax loss carry forwards from prior periods and expects to incur tax losses in 2011, the Company is not able to benefit from the deduction for exercised stock options in the current reporting period.

Restricted Stock

In November 2008, the Company issued restricted common stock to an employee subject to certain forfeiture provisions. Specifically, one quarter of the award vested one year from the date of grant and 1/48 of the award effectively vests each month thereafter. This restricted stock grant is accounted for at fair value at the date of grant and an expense is recognized ratably over the vesting term. Summarized information for the restricted stock grant for the nine months ended September 30, 2011 is as follows:

						Weighted Average Grant
		Restricted Stock				Date Value Per Share
Non-vested at December 31, 2010			23,954			$	0.44
Vested			(9,378	)		$	0.44
Non-vested at September 30, 2011			14,576			$	0.44

Restricted Stock Units

Restricted stock units were issued to senior executives of the Company in November 2008, which entitle the holders to receive a specified number of shares of the Company’s common stock over the four year vesting term. A restricted stock unit grant is accounted for at fair value at the date of grant which is equivalent to the market price of a share of the Company’s common stock, and an expense is recognized during the vesting term. There were no restricted stock unit grants prior to November 2008. Summarized information for restricted stock grants for the nine months ended September 30, 2011 is as follows:

						Weighted Average Grant
		Restricted Stock Units				Date Value Per Share
Non-vested at December 31, 2010			35,931			$	0.44
Vested			(14,067	)		$	0.44
Non-vested at September 30, 2011			21,864			$	0.44

7. COMMITMENTS AND CONTINGENCIES

Licensing Agreements

The Company has entered into licensing agreements with academic and research organizations. Under the terms of these agreements, the Company has received licenses to technology and patent applications. The Company is required to pay royalties on future sales of product employing the technology or falling under claims of patent applications.

Pursuant to the Daiichi Sankyo license under which the Company licenses certain patent rights for sapacitabine, its lead drug candidate, the Company is under an obligation to use reasonable endeavors to develop a product and obtain regulatory approval to sell a product and has agreed to pay Daiichi Sankyo an up-front fee, reimbursement for Daiichi Sankyo’s enumerated expenses, milestone payments and royalties on a country-by-country basis. Under this agreement, aggregate milestone payments totaling $11.7 million could be payable subject to achievement of all the specific contractual milestones and the Company’s decision to continue with these projects. The up-front fee and certain past reimbursements have been paid and, as a result of the SEAMLESS trial entering Phase 3 during the first quarter of 2011, $1.6 million was paid in July 2011. Following these milestone payments, a further $10.0 million in aggregate milestone payments could be payable. Royalties are payable in each country for the term of patent protection in the country or for ten years following the first commercial sale of licensed products in the country, whichever is later. Royalties are payable on net sales. Net sales are defined as the gross amount invoiced by the Company or its affiliates or licensees, less discounts, credits, taxes, shipping and bad debt losses. The agreement extends from its commencement date to the date on which no further amounts are owed under it. If the Company wishes to appoint a third party to develop or commercialize a sapacitabine-based product in Japan, within certain limitations, Daiichi Sankyo must be notified and given a right of first refusal to develop and/or commercialize in Japan. In general, the license may be terminated by the Company for technical, scientific, efficacy, safety, or commercial reasons on six months notice, or twelve months, if after a launch of a sapacitabine-based product, or by either party for material default. Effective July 11, 2011, the license agreement was amended to irrevocably waive a termination right Daiichi Sankyo possessed under a provision of the agreement that required the Company to obtain regulatory approval to sell sapacitabine in at least one country by September 2011, and releases the Company from all claims and liability of any kind arising under such provision. The amendment further provides that the royalty due from the Company to Daiichi Sankyo on future net sales of sapacitabine be increased by a percentage between 1.25% and 1.50% depending on the level of net sales of sapacitabine realized.

Guarantee

On June 22, 2009, the Company amended the Agreement with Scottish Enterprise (“SE”) (the “Amendment”), in order to allow the Company to implement a reduction of the Company’s research operations located in Scotland in exchange for the parties’ agreement to modify the payment terms of the Agreement in the principal amount of £5 million (approximately $8.0 million at December 31, 2009), which SE had previously entered into with the Company. The Agreement provided for repayment of up to £5 million in the event the Company significantly reduced its Scottish research operations. Pursuant to the terms of the Amendment, in association with Cyclacel’s material reduction in staff at its Scottish research facility, the parties agreed to a modified payment of £1 million (approximately $1.7 million at June 22, 2009) payable in two equal tranches. On July 1, 2009, the first installment of £0.5 million (approximately $0.8 million) was paid and the remaining amount of £0.5 million (approximately $0.8 million) was paid on January 6, 2010. In addition, should a further reduction below current minimum staff levels be effectuated before July 2014 without SE’s prior consent, the Company will guarantee approximately £4 million, the amount potentially due to SE, which will be calculated as a maximum of £4 million less the market value of the shares held by SE at the time of any further reduction in research facilities.

This arrangement is accounted for as a liability and is measured at fair value. Changes in fair value are recognized in earnings. Due to the nature of the associated contingency and the likelihood of occurrence, the Company has concluded the fair value of this liability was immaterial as of December 31, 2010 and September 30, 2011.

Legal proceedings

On April 27, 2010, the Company was served with a complaint filed by Celgene Corporation in the United States District Court for the District of Delaware seeking a declaratory judgment that four of the Company’s own patents, claiming the use of romidepsin injection in T-cell lymphomas, are invalid and not infringed by Celgene’s products, but directly involve the use and administration of Celgene’s ISTODAX^® (romidepsin for injection) product. On June 17, 2010, the Company filed its answer and counterclaims to the declaratory judgment complaint. The Company filed counterclaims charging Celgene with infringement of each of the Company’s four patents and seeking damages for Celgene’s infringement as well as injunctive relief. The four patents directly involve the use and administration of Celgene’s ISTODAX^® (romidepsin for injection) product.

8. STOCKHOLDERS’ EQUITY

Preferred Stock

As of September 30, 2011, there were 1,213,142 shares of Preferred Stock issued and outstanding at an issue price of $10.00 per share. Dividends on the Preferred Stock are cumulative from the date of original issuance at the annual rate of 6% of the liquidation preference of the Preferred Stock, payable quarterly on the first day of February, May, August and November, commencing February 1, 2005. Any dividends must be declared by the Company’s Board of Directors and must come from funds that are legally available for dividend payments. The Preferred Stock has a liquidation preference of $10 per share, plus accrued and unpaid dividends. Accrued and unpaid dividends on Preferred Stock were $1.4 million, or $1.15 per each share of Preferred Stock, as of September 30, 2011.

The Preferred Stock is convertible at the option of the holder at any time into the Company’s shares of common stock at a conversion rate of approximately 0.42553 shares of common stock for each share of Preferred Stock based on a price of $23.50. During 2010, 833,671 shares of Preferred Stock were converted into 1,655,599 shares of the Company’s common stock, which is described in more detail below. Since inception through September 30, 2011, holders have voluntarily converted 1,776,858 shares of Preferred Stock into common stock. The Company has reserved 516,228 shares of common stock for issuance upon conversion of the remaining shares of Preferred Stock outstanding at September 30, 2011. The converted shares of Preferred Stock have been retired and canceled and shall upon cancellation be restored to the status of authorized but unissued shares of preferred stock, subject to reissuance by the Board of Directors as shares of Preferred Stock of one or more series.

The Company may automatically convert the Preferred Stock into common stock if the closing price of the Company’s common stock has exceeded $35.25, which is 150% of the conversion price of the Preferred Stock, for at least 20 trading days during any 30-day trading period, ending within five trading days prior to notice of automatic conversion.

The Certificate of Designations governing the Preferred Stock provides that if the Company fails to pay dividends on its Preferred Stock for six quarterly periods, holders of Preferred Stock are entitled to nominate and elect two directors to the Company’s Board of Directors. This right accrued to the holders of Preferred Stock as of August 2, 2010 and two directors were nominated and elected at the annual meeting held on May 24, 2011.

The Preferred Stock has no maturity date and no voting rights prior to conversion into common stock, except under limited circumstances.

From November 6, 2007, the Company may, at its option, redeem the Preferred Stock in whole or in part, out of funds legally available at the redemption prices per share stated below, plus an amount equal to accrued and unpaid dividends up to the date of redemption:

Year from November 1, 2010 to October 31, 2011		$	10.24
Year from November 1, 2011 to October 31, 2012		$	10.18
Year from November 1, 2012 to October 31, 2013		$	10.12
Year from November 1, 2013 to October 31, 2014		$	10.06
November 1, 2014 and thereafter		$	10.00

The Preferred Stock is exchangeable, in whole but not in part, at the option of the Company on any dividend payment date beginning on November 1, 2005 (the “Exchange Date”) for the Company’s 6% Convertible Subordinated Debentures (“Debentures”) at the rate of $10 principal amount of Debentures for each share of Preferred Stock. The Debentures, if issued, will mature 25 years after the Exchange Date and have terms substantially similar to those of the Preferred Stock.

Conversion of Convertible Preferred Stock

During the nine months ended September 30, 2010, Cyclacel entered into agreements to exchange shares of the Company’s Preferred Stock into shares of common stock. There were no such conversions during the three months ended September 30, 2010 or during the nine months ended September 30, 2011. The table below provides details of the aggregate activities in 2010:

		For the nine
		months ended
		September 30,
		2010
Preferred shares exchanged			833,671
Common shares issued:
At stated convertible option			354,752
Incremental shares issued under an inducement offer			1,300,847
Total common shares issued			1,655,599

ASC 260, EITF Topic D-42, “The Effect of the Calculation of Earnings per Share for the Redemption or Induced Conversion of Preferred Stock” (“ASC 260”) requires that if convertible preferred stock is converted to other securities pursuant to an inducement offer, the Company should record the excess of (1) the fair value of all securities and other consideration transferred to the holders of the convertible preferred stock and (2) the fair value of securities issuable to the original conversion terms as an increase to net loss to arrive at a net loss attributable to common shareholders. The stockholder received more shares of the Company’s common stock than would have been delivered pursuant to the original conversion terms of the Preferred Stock, pursuant to a short term inducement offer. The excess of the fair value of the common stock transferred to the stockholder over the carrying amount of the preferred stock in the Company’s balance sheet at the time of the transfer was considered to be an additional return to the holder of the Preferred Stock. Specifically, the Company recorded deemed dividends related to the additional shares issued under the exchange transactions of approximately $2.9 million for the nine months ended September 30, 2010. There were no conversions during the three months ended September 30, 2011or during the nine months ended September 30, 2011.

Common Stock

July 2011 Underwritten Offering

On July 7, 2011, the Company closed an underwritten offering for an aggregate of 7,617,646 units, at an offering price of $1.36 per unit, for gross proceeds of approximately $10.4 million. Each unit consists of (i) one share of common stock and (ii) a five-year warrant to purchase 0.5 of a share of common stock at an exercise price of $1.36 per share, exercisable beginning six months after the date of issuance. The shares of common stock and warrants were immediately separable and were issued separately such that no additional units were issued. As of September 30, 2011, all warrants issued to the investors were outstanding and have been classified as equity. The transaction date fair value of the warrants was $3.5 million. Net proceeds of approximately $9.3 million, after underwriting discounts and commissions and other fees and expenses of approximately $1.1 million, were allocated based on relative transaction date fair values in the following manner: $6.8 million ($0.89 per share) and $2.5 million ($0.66 per warrant) to common shares and warrants, respectively.

October 2010 Private Placement

On October 7, 2010, the Company completed a private placement pursuant to which it sold approximately $15.2 million of its units to several institutional investors, for net proceeds of approximately $14.0 million. The units consist of one share of common stock and 0.5 of a warrant, with each whole warrant representing the right to purchase one share of common stock at an exercise price of $1.92 per share for a period of five years. As of September 30, 2011, all options and warrants issued to the investors are outstanding and have been classified as equity. The investors purchased a total of 8,323,190 units at a price of $1.82625 per unit. The investors also have the right to acquire up to 4,161,595 additional units at a price of $1.67 per unit (for $6.9 million in gross proceeds) at any time up to nine months after closing or by July 6, 2011. As of September 30, 2011, none of the additional units had been exercised and, as of July 6, 2011, the right to acquire the additional units lapsed. The transaction date fair value of the warrants and additional optional units was $5.1 million and $2.8 million, respectively. Net proceeds of approximately $14.0 million were allocated based on relative transaction date fair values in the following manner: $8.9 million ($1.07 per share), $3.3 million ($0.79 per warrant) and $1.8 million ($0.43 per optional unit) to common shares, warrants and the additional optional units, respectively.

In connection with the October 2010 private placement, the Company granted to the investors certain registration rights pursuant to a Registration Rights Agreement, dated October 7, 2010, in which the Company agreed, among other things, to register all of the shares of common stock acquired from the Company (including upon exercise of the warrants and/or the options) within thirty calendar days after the Company becomes eligible to use a registration statement on Form S-3, and use commercially reasonable efforts to have the registration statement declared effective as promptly as practicable thereafter. Upon the Company’s failure to comply with the terms of the Registration Rights Agreement and certain other conditions, the Company will be required to make pro rata payments to each investor, as liquidated damages, in an amount equal to 1.5% of the aggregate purchase price paid by such investor. The Company also agreed to other customary obligations regarding registration, including indemnification and maintenance of the effectiveness of the registration statement. The Company is currently in compliance with the applicable terms of the Registration Rights Agreement, and the securities that were registrable under the terms of the Registration Rights Agreement are currently subject to an effective registration statement.

January 2010 Registered Direct Financings

On January 25, 2010, the Company completed the sale of 2,350,000 units in a “registered direct” offering at a purchase price of $2.50 per unit to certain institutional investors of the Company for gross proceeds of approximately $5.9 million. Each unit consisted of one share of the Company’s common stock and one warrant to purchase 0.30 of one share of its common stock. The warrants have a five-year term from the date of issuance, are exercisable beginning six months from the date of issuance at an exercise price of $2.85 per share of common stock. As of September 30, 2011, warrants issued to the investors have been classified as equity. The transaction date fair value of the warrants of $1.0 million was determined utilizing the Black-Scholes option pricing model utilizing the following assumptions: risk free interest rate — 2.39%, expected volatility - 90%, expected dividend yield — 0%, and a remaining contractual life of 5.00 years. As of September 30, 2011, all the warrants are outstanding. Net proceeds of approximately $5.4 million were allocated based on relative transaction date fair values in the following manner: $4.5 million ($1.93 per share) to common shares and $0.9 million ($1.29 per warrant) to the warrants.

On January 13, 2010, the Company completed the sale of 2,850,000 units in a “registered direct” offering to certain institutional investors. Each unit was sold at a purchase price of $2.51 per unit and consists of one share of the Company’s common stock and one warrant to purchase 0.25 of one share of its common stock for gross proceeds of approximately $7.2 million. The warrants have a five-year term from the date of issuance, are exercisable beginning six months from the date of issuance at an exercise price of $3.26 per share of common stock. As of September 30, 2011, warrants issued to the investors have been classified as equity. The transaction date fair value of the warrants of $1.3 million was determined utilizing the Black-Scholes option pricing model utilizing the following assumptions: risk free interest rate — 2.55%, expected volatility — 90%, expected dividend yield — 0%, and a remaining contractual life of 5.00 years. As of September 30, 2011, all the warrants are outstanding. Net proceeds of approximately $6.5 million were allocated based on relative transaction date fair values in the following manner: $5.6 million ($1.95 per share) to common shares and $0.9 million ($1.32 per warrant) to the warrants.

July 2009 Registered Direct Financing

On July 29, 2009, the Company sold its securities to select institutional investors consisting of 4,000,000 units in a “registered direct” offering at a purchase price of $0.85 per unit. Each unit consisted of (i) one share of the Company’s common stock, (ii) one warrant to purchase 0.625 of one share of common stock (a “Series I Warrant”) and (iii) one warrant to purchase 0.1838805 of one share of common stock (a “Series II Warrant”). The Series I Warrants had a seven-month term from the date of issuance, were exercisable beginning six months from the date of issuance at an exercise price of $1.00 per share of common stock. During the first quarter of 2010, all of the Series I Warrants were exercised for $2.5 million. The Series II Warrants have a five-year term from the date of issuance, are exercisable beginning six months from the date of issuance at an exercise price of $1.00 per share of common stock. During the first quarter of 2010, 43,266 common shares were issued upon exercise of Series II Warrants with proceeds of $43,266. There were no exercises during the nine months ended September 30, 2011.

The net proceeds to the Company from the sale of the units, after deducting for the placement agent’s fees and offering expenses, were approximately $2.9 million. As of September 30, 2011, the remaining Series II Warrants outstanding and exercisable into 692,256 of the Company’s shares of common stock have been classified as equity. The transaction date fair value of the Series II Warrants of $0.6 million was determined utilizing the Black-Scholes option pricing model utilizing the following assumptions: risk free interest rate — 2.69%, expected volatility — 90%, expected dividend yield — 0%, and a remaining contractual life of 5.00 years.

December 2007 Committed Equity Financing Facility

On December 10, 2007 and as amended on November 24, 2009, Cyclacel entered into a Committed Equity Financing Facility, or CEFF, with Kingsbridge, in which Kingsbridge committed to purchase the lesser of 4,084,590 shares of common stock or $60 million of common stock from Cyclacel over a three-year period. The CEFF lapsed on December 10, 2010.

During March 2010, the Company sold 1,563,208 shares of its common stock to Kingsbridge under the CEFF, in consideration of aggregate proceeds of $3.1 million. During December 2009 and January 2010, the Company sold an aggregate of 1,583,626 shares of its common stock to Kingsbridge under the terms of the CEFF in consideration of an aggregate of $1.3 million, of which approximately $1.0 million was received in 2009, with the balance of $0.3 million in respect of common shares subscribed but unissued at December 31, 2009, received by the Company in January 2010.

Common Stock Warrants

In connection with the Company’s February 16, 2007 “registered direct” offering the Company issued to investors warrants to purchase 1,062,412 shares of common stock. The warrants issued to the investors are being classified as liabilities for accounting purposes. At the date of the transaction, the fair value of the warrants of $6.8 million was determined utilizing the Black-Scholes option pricing model utilizing the following assumptions: risk free interest rate - 4.58%, expected volatility — 85%, expected dividend yield — 0%, and a remaining contractual life of 6.88 years. The value of the warrant is being remeasured each reporting period as a derivative gain or loss on the consolidated statement of operations until exercised or expiration. See “Note 3 — Fair Value” for further details.

The following table summarizes information about warrants outstanding at September 30, 2011:

										Weighted
		Expiration				Common Shares				Average
Issued in Connection With		Date				Issuable				Exercise Price
April 2006 stock issuance			2013				2,571,429			$	7.00
February 2007 stock issuance			2014				1,062,412			$	8.44
December 2007 CEFF			2013				100,000			$	1.40
July 2009 Series II stock issuance			2014				692,256			$	1.00
January 2010 stock issuance			2015				712,500			$	3.26
January 2010 stock issuance			2015				705,000			$	2.85
October 2010 stock issuance			2015				4,161,595			$	1.92
July 2011 stock issuance			2016				3,808,823			$	1.36
Total							13,814,015			$	3.28

Exercise of Stock Options

During the nine months ended September 30, 2011, there were 6,638 stock option exercises totaling approximately $3,000. There were no exercises of stock options during three months ended September 30, 2011.

9. SUBSEQUENT EVENTS

Preferred Stock Dividend

On October 6, 2011, the Board of Directors decided not to declare the quarterly cash dividend on the Preferred Stock with respect to the third quarter of 2011 that would have otherwise been payable on November 1, 2011.

The Board also did not declare the quarterly cash dividend with respect to each of the four quarters of fiscal year 2009, the first, second and third quarters of 2010, and the second quarter of 2011. To the extent that any dividends payable on the Preferred Stock are not paid, such unpaid dividends are added to the liquidity preference of the Preferred Stock. As the Company elected not to pay in an aggregate amount equal to at least six quarterly dividends (whether or not consecutive) on the Preferred Stock, the size of the Company’s Board was increased by two members and the holders of the Preferred Stock, voting separately as a class, voted on May 24, 2011 and elected two directors to fill the vacancies created thereby, which directorships shall terminate when the Company pays all accrued but unpaid dividends.

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

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q, including, without limitation, Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains “forward-looking statements” within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). We intend that the forward-looking statements be covered by the safe harbor for forward-looking statements in the Exchange Act. The forward-looking information is based on various factors and was derived using numerous assumptions. All statements, other than statements of historical fact, that address activities, events or developments that we intend, expect, project, believe or anticipate will or may occur in the future are forward-looking statements. Such statements are based upon certain assumptions and assessments made by our management in light of their experience and their perception of historical trends, current conditions, expected future developments and other factors they believe to be appropriate. These forward-looking statements are usually accompanied by words such as “believe,” “anticipate,” “plan,” “seek,” “expect,” “intend” and similar expressions.

Forward-looking statements necessarily involve risks and uncertainties, and our actual results could differ materially from those anticipated in the forward looking statements due to a number of factors, including those set forth in Part I, Item 1A, entitled “Risk Factors,” of our Annual Report on Form 10-K for the year ended December 31, 2010, as updated and supplemented by Part II, Item 1A, entitled “Risk Factors,” of our Quarterly Reports on Form 10-Q and other reports we publicly file with the Securities and Exchange Commission, or the SEC. These factors as well as other cautionary statements made in this Quarterly Report on Form 10-Q, should be read and understood as being applicable to all related forward-looking statements wherever they appear herein. The forward-looking statements contained in this Quarterly Report on Form 10-Q represent our judgment as of the date hereof. We encourage you to read those descriptions carefully. We caution you not to place undue reliance on the forward-looking statements contained in this report. These statements, like all statements in this report, speak only as of the date of this report (unless an earlier date is indicated) and we undertake no obligation to update or revise the statements except as required by law. Such forward-looking statements are not guarantees of future performance and actual results will likely differ, perhaps materially, from those suggested by such forward-looking statements. In this report, “Cyclacel,” the “Company,” “we,” “us,” and “our” refer to Cyclacel Pharmaceuticals, Inc.

Overview

We are a biopharmaceutical company dedicated to the development and commercialization of novel, mechanism-targeted drugs to treat human cancers and other serious diseases. Our strategy is to build a diversified biopharmaceutical business focused in hematology and oncology based on a portfolio of commercial products and a development pipeline of novel drug candidates.

Our clinical development priorities are focused on sapacitabine in the following indications:

	•		Acute myeloid leukemia, or AML, in the elderly;
	•		Myelodysplastic syndromes, or MDS; and
	•		Non-small cell lung cancer, or NSCLC.

On January 11, 2011, we opened enrollment of the SEAMLESS pivotal Phase 3 trial for sapacitabine oral capsules as a front-line treatment of elderly patients aged 70 years or older with newly diagnosed AML who are not candidates for intensive induction chemotherapy. SEAMLESS is a registration-directed clinical trial and is conducted under a Special Protocol Assessment, or SPA, agreement with the U.S. Food and Drug Administration, or FDA. SEAMLESS is a randomized study against an active control drug with the primary objective of demonstrating an improvement in overall survival. In October 2011, the independent Data Safety Monitoring Board, or DSMB, of SEAMLESS recommended that the study should enter the randomized stage as planned and, following this recommendation, we have implemented an improvement in the SEAMLESS trial design converting it into a 2-arm from the original 3-arm design. We received written confirmation from the FDA that, following the modification in the trial design, the previously agreed SPA agreement remains valid.

We have advanced two additional product candidates, seliciclib in Phase 2 for NSCLC and nasopharyngeal cancer or NPC, and CYC116 in Phase 1 clinical development. The combination of sapacitabine with seliciclib is also being evaluated in a Phase 1 clinical trial. We will determine the feasibility of pursuing further development and/or partnering these assets depending on the availability of funding and further clinical data. In addition, we market directly in the United States Xclair^® Cream for radiation dermatitis and Numoisyn^® Liquid and Numoisyn^® Lozenges for xerostomia.

Recent Developments

Clinical

On October 13, 2011, we announced that the DSMB of SEAMLESS recommended that the study should enter the randomized stage as planned. The DSMB reviewed available data from a total of 46 patients receiving oral sapacitabine capsules, the Company’s lead product candidate, administered in alternating cycles with decitabine. The DSMB noted that no safety or efficacy concerns were identified. The DSMB review was mandated in the SPA agreement that Cyclacel entered into with the FDA with regard to the SEAMLESS study protocol. Of the 46 patients reviewed by the DSMB, 21 were enrolled in the lead-in phase of SEAMLESS and 25 in an earlier pilot Phase 1/2 study using an identical treatment regimen.

The regimen of the lead-in phase is considered tolerable, as the rate of dose-limiting toxicity was 9.5% and the 8-week mortality rate was 14.3%. The criteria, as specified in the SPA, are a dose-limiting toxicity less than 33% and an 8-week mortality rate of less than 37%.

Interim data from the pilot Phase 1/2 study, which was presented at the American Society of Clinical Oncology (ASCO) Annual Meeting in June 2011, showed thirty-day mortality from all causes was 4.5%; 60-day mortality from all causes was 9.5%. The overall response rate was 34.8%. An additional 26.1% of patients stayed on study for more than 4 cycles with a decrease in bone marrow blast counts despite not meeting criteria of response. Approximately 60.9% of patients received 4 or more cycles of the regimen. As reported at ASCO, no dose-limiting toxicities were observed in 21 patients treated with the regimen who have had at least 60 days of follow-up. The median age in the group is 76 years (range 72-88). Common adverse events regardless of cause included anemia, anorexia, dehydration, diarrhea, dyspnea, edema, hypocalcemia, nausea, febrile neutropenia, neutropenia, pneumonia, thrombocytopenia, and weakness, which were mostly moderate in intensity. On October 13, 2011, we announced updated data from 25 patients treated with the regimen and at least 60 days follow-up that showed no dose-limiting toxicities and an 8-week mortality rate of 12.0%.

Financial

On September 16, 2011, we received a NASDAQ Staff Deficiency Letter indicating that we were not in compliance with the minimum bid price requirement for continued listing on the NASDAQ exchange because the bid price for our common stock had closed under $1.00 for 30 consecutive business days. We may achieve compliance if, at any time before March 14, 2012, the bid price of our stock closes at $1.00 per share or more for a minimum of 10 consecutive business days. Failure to achieve compliance may result in the removal of our common stock listing on the NASDAQ exchange.

Our pipeline and expertise in cell cycle biology

Our core area of expertise is in cell cycle biology and we focus primarily on the development of orally-available anticancer agents that target the cell cycle with the aim of slowing the progression or shrinking the size of tumors, and enhancing the quality of life and improving survival rates of cancer patients. We are generating several families of anticancer drug candidates that act on the cell cycle including nucleoside analogues, cyclin dependent kinase, or CDK inhibitors and Aurora kinase/Vascular Endothelial Growth Factor Receptor 2, or AK/VEGFR2 inhibitors. Although a number of pharmaceutical and biotechnology companies are currently attempting to develop nucleoside analogues, CDK inhibitor and AK inhibitor drugs, we believe that our drug candidates are differentiated in that they are orally-available and interact with unique target profiles and mechanisms. For example we believe that our sapacitabine is the only orally-available nucleoside analogue to be tested in a Phase 3 trial for AML and in a Phase 2 trial in MDS and seliciclib is the most advanced orally-available CDK inhibitor in Phase 2 trials.

Although our resources are primarily directed towards advancing our anticancer drug candidate sapacitabine through in-house development activities we are also progressing, but with minimal investment, our other novel drug series which are at earlier stages. As a consequence of our progress in sapacitabine clinical development, research and development expenditures for the nine months ended September 30, 2011 increased by $2.0 million, or approximately 40%, to $7.0 million, compared to $5.0 million for the nine months ended September 30, 2010.

We have retained rights to commercialize our clinical development candidates and our business strategy is to enter into selective partnership arrangements with these programs.

Our corporate headquarters is located in Berkeley Heights, New Jersey, with a research facility located in Dundee, Scotland.

From our inception in 1996 through September 30, 2011, we have devoted substantially all our efforts and resources to our research and development activities. We have incurred significant net losses since inception. As of September 30, 2011, our accumulated deficit during the development stage was approximately $253.4 million. We expect to continue incurring substantial losses for the next several years as we continue to develop our clinical and preclinical drug candidates. Our operating expenses are comprised of research and development expenses and selling and general and administrative expenses.

To date, we have not generated significant product revenue but have financed our operations and internal growth through, among other things, public and private equity offerings, licensing revenue, interest on investments, government grants and research and development tax credits. Prior to October 2007, our revenue consisted of collaboration and grant revenue. Beginning in 2008, we recognized revenue from sales of commercial products, for the first time, following the ALIGN acquisition in October 2007. We have recognized revenues from inception through September 30, 2011 totaling approximately $9.6 million, of which approximately $2.8 million is derived from product sales, approximately $3.1 million from fees under collaborative agreements and approximately $3.6 million of grant revenue from various United Kingdom government grant awards.

Subsequent Events

Preferred Stock Dividend

On October 6, 2011, our Board of Directors, or Board, decided not to declare the quarterly cash dividend on our 6% Convertible Exchangeable Preferred Stock, or Preferred Stock, with respect to the second quarter of 2011 that would have otherwise been payable on November 1, 2011.

The Board also did not declare the quarterly cash dividend with respect to each of the four quarters of fiscal year 2009, the first, second and third quarters of 2010, and the second quarter of 2011. To the extent that any dividends payable on the Preferred Stock are not paid, such unpaid dividends are added to the liquidity preference of the Preferred Stock. As we elected not to pay in an aggregate amount equal to at least six quarterly dividends (whether or not consecutive) on the Preferred Stock, the size of the our Board was increased by two members and the holders of the Preferred Stock, voting separately as a class, voted on May 24, 2011 and elected two directors to fill the vacancies created thereby, which directorships shall terminate when we pay all accrued but unpaid dividends.

Results of Operations

Three Months Ended September 30, 2011 and 2010

Revenues

The following table summarizes our revenue for the three months ended September 30, 2010 and 2011:

		Three Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Product revenue		$	159			$	164			$	5				3	%
Total revenue		$	159			$	164			$	5				3	%

Product revenue is derived from the sale of Xclair^® Cream, Numoisyn^® Liquid and Numoisyn^® Lozenges following the ALIGN asset acquisition on October 5, 2007. During each of the three months ended September 30, 2010 and 2011, we recognized revenue of approximately $0.2 million.

We had no collaboration and research and development revenue or grant revenue for the three months ended September 30, 2011.

The future

We expect to continue to maintain the sales of ALIGN products in 2011 through the support of a small sales and marketing infrastructure. We do not expect to earn any grant revenue during the remainder of year, as no awards are expected during the year ended December 31, 2011.

Cost of goods sold

The following table summarizes cost of goods sold for the three months ended September 30, 2010 and 2011:

		Three Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Cost of goods sold		$	76			$	95			$	19				25	%

Total cost of sales represented 48% of product revenue for the three months ended September 30, 2010 and 58% of product revenue for the three months ended September 30, 2011.

Research and development expenses

We expense all research and development costs as they are incurred. Research and development expenses primarily include:

	•		clinical trial and regulatory-related costs;
	•		payroll and personnel-related expenses, including consultants and contract research;
	•		preclinical studies and laboratory supplies and materials;
	•		technology license costs; and
	•		rent and facility expenses for our laboratories.

The following table provides information with respect to our research and development expenditure for the three months ended September 30, 2010 and 2011:

		Three Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Sapacitabine		$	1,189			$	1,848			$	659				55	%
Seliciclib			(12	)			47				59				492	%
Other research and development costs			292				171				(121	)			(41	)%
Total research and development costs		$	1,469			$	2,066			$	597				41	%

Total research and development expenses represented 35% and 49% of our operating expenses for the three months ended September 30, 2010 and 2011, respectively.

Research and development expenditure increased by $0.6 million to $2.1 million for the three month period ended September 30, 2011 from $1.5 million for the three month period ended September 30, 2010. The increase in costs of $0.6 million is mostly due to a $0.7 million increase in sapacitabine-related expenses, primarily a $0.3 million increase in clinical trial expenses and a $0.4 million increase in clinical trial supplies as a result of the SEAMLESS trial entering Phase 3. Seliciclib costs increased $59,000, from a net credit of $12,000 for the three months ended September 30, 2010, to $47,000 for the three months ended September 30, 2011, because accrued liabilities were released in 2010 as we reconciled certain final study costs. Other research and development costs decreased $0.1 million from approximately $0.3 million for the three months ended September 30, 2010 to approximately $0.2 million for three months ended September 30, 2011 as we have continued to concentrate financial resources on the development of sapacitabine and only selectively invest in other compounds.

The future

We will continue to concentrate our resources on the development of sapacitabine. We anticipate that overall research and development expenditures in 2011 will increase as we enroll the SEAMLESS pivotal Phase 3 trial.

Selling, general and administrative expenses

Selling, general and administrative expenses include costs for sales and marketing and administrative personnel, legal and other professional expenses and general corporate expenses. The following table summarizes the selling, general and administrative expenses for the three months ended September 30, 2010 and 2011:

		Three Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Selling, general and administrative		$	2,612			$	2,051			$	(561	)			(21	)%

Total selling, general and administrative expenses represented 63% and 49% of our operating expenses for the three months ended September 30, 2010 and 2011, respectively. Our selling, general and administrative expenditure decreased by $0.6 million from $2.6 million for the three months ended September 30, 2010 to $2.0 million for the three months ended September 30, 2011. The decrease of $0.6 million in expenses was primarily attributable to a net decrease in professional and consultancy costs of $0.2 million, a decrease in stock compensation of $0.3 million, a decrease in rent expense of $0.1 million, and a decrease in patent costs of $0.1 million.

The future

We expect our selling, general and administrative expenditures in 2011 to remain at lower levels than our expenditures in 2010.

Other income (expense)

The following table summarizes other income (expense) for the three months ended September 30, 2010 and 2011:

		Three Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Other income (expense):
Change in valuation of warrants		$	73			$	440			$	367				503	%
Foreign exchange (losses)/gains			(25	)			28				53				212	%
Interest income			7				9				2				29	%
Interest expense			(7	)			—				7				(100	)%
Total other income (expense)		$	48			$	477			$	429				894	%

Total other income and expense, net, increased by approximately $0.4 million, from $48,000 for the three months ended September 30, 2010, to $0.5 million for the three months ended September 30, 2011. The most significant impact is the change in the valuation of the warrant liability described below.

The change in valuation of warrants relates to the issue of warrants to purchase shares of our common stock under the registered direct financing completed in February 2007. The warrants issued to the investors meet the requirements of and are being accounted for as a liability in accordance with ASC 815, “Derivatives and Hedging”. The fair value of the warrants is re-measured each reporting period with a derivative gain or loss recognized in the consolidated statement of operations. Such gains or losses will continue to be reported until the warrants are exercised or expired. For the three months ended September 30, 2010 and 2011, we recorded gains as a result of the change in the value of warrants of $73,000 and a $0.4 million, respectively.

Foreign exchange gains (losses) increased by $53,000 to a gain of $28,000 for the three months ended September 30, 2011 compared to a loss of $25,000 for the three months ended September 30, 2010. Foreign exchange gains/(losses) are reported in the consolidated statement of operations as a separate line item within other income (expense).

Interest income increased by approximately $2,000 to $9,000 for the three months to September 30, 2010 from $7,000 for the three months ended September 30, 2010. This is mostly attributed to a higher average daily balance of cash and cash equivalents during the three months ended September 30, 2011 compared to the same period in 2010.

Interest expense was $7,000 for the three months ended September 30, 2010. We did not record interest expense for three months ended September 30, 2011. This reduction was due to the elimination of the accretion expense associated with the restructured Bothell lease, which expired in December 2010.

The future

The valuation of the warrant liability will continue to be re-measured at the end of each reporting period. The valuation of the warrants is dependent upon many factors, including our stock price, interest rates and the remaining term of the instrument and may fluctuate significantly, which may have a significant impact on our statement of operations.

Income tax benefit

Credit is taken for research and development tax credits, which are claimed from the United Kingdom’s revenue and customs authority, or HMRC, in respect of qualifying research and development costs incurred.

The following table summarizes research and development tax credits for the three months ended September 30, 2010 and 2011:

		Three Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Income tax benefit		$	143			$	126			$	(17	)			(12	)%

Research and development tax credits recoverable decreased by $17,000 to $0.1 million for the three months ended September 30, 2011 from $0.1 million for three months ended September 30, 2010. The level of tax credits recoverable is linked directly to qualifying research and development expenditure incurred in any one year, but restricted to payroll taxes paid by us in the United Kingdom in that same year. The $17,000 decrease between the three months ended September 30, 2010 and 2011 is due to lower payroll taxes paid as a result of lower headcount in 2011.

The future

We expect to continue to be eligible to receive United Kingdom research and development tax credits for the foreseeable future and will elect to do so.

Nine Months Ended September 30, 2010 and 2011

Revenues

The following table summarizes the components of our revenues for the nine months ended September 30, 2010 and 2011:

		Nine Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Collaboration and research and development revenue		$	100			$	—			$	(100	)			(100	)%
Product revenue			432				524				92				21	%
Grant revenue			16				—				(16	)			(100	)%
Total revenue		$	548			$	524			$	(24	)			(4	)%

We recognized $0.1 million of collaboration and research and development revenue for the nine months ended September 30, 2010 derived from an agreement with a pharmaceutical company under which we provided one of our compounds for evaluation in the field of eye care. We had no collaboration and research and development revenue for the nine months ended September 30, 2011.

Product revenue is derived from the sale of Xclair^® Cream, Numoisyn^® Liquid and Numoisyn^® Lozenges. During the nine months ended September 30, 2010 and 2011, we recognized product revenue of approximately $0.4 and $0.5 million, respectively, in accordance with our revenue recognition policy. Product revenue was lower by $0.1 million for the nine months ended September 30, 2010 compared to the same period in 2011 due to $0.2 million in product returns during nine month ended September 30, 2010.

Grant revenue is recognized as we incur and pay for qualifying costs and services under the applicable grant. Grant revenue is primarily derived from various European Union and United Kingdom government grant awards. We recognized $16,000 in grant revenue for the nine months ended September 30, 2010. We did not recognize any grant revenue for the nine months ended September 30, 2011 as our last grant was finalized in the first quarter of 2010.

Cost of goods sold

The following table summarizes cost of goods sold for the nine months ended September 30, 2010 and 2011:

		Nine Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Cost of goods sold		$	310			$	273			$	(37	)			(12	)%

Total cost of sales represented 72% and 52% of product revenue for the nine months ended September 30, 2010 and 2011, respectively. The high percentage for the nine months ended September 30, 2010 is the result of lower product revenue driven by $0.2 million of product returns as described in “Revenues” above.

Research and development expenses

We expense all research and development costs as they are incurred. Research and development expenses primarily include:

	•		clinical trial and regulatory-related costs;
	•		payroll and personnel-related expenses, including consultants and contract research;
	•		preclinical studies and laboratory supplies and materials;
	•		technology license costs; and
	•		rent and facility expenses for our laboratories.

The following table provides information with respect to our research and development expenditure for the nine months ended September 30, 2010 and 2011:

		Nine Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Sapacitabine		$	3,992			$	6,579			$	2,587				65	%
Seliciclib			121				72				(49	)			(40	)%
Other research and development costs			855				354				(501	)			(59	)%
Total research and development expenses		$	4,968			$	7,005			$	2,037				41	%

Total research and development expenses represented 37% and 53% of our operating expenses for the nine months ended September 30, 2010 and 2011, respectively.

Research and development expenditure increased by $2.0 million to $7.0 million for the nine month period ended September 30, 2011 from $5.0 million for the nine month period ended September 30, 2010. The increase in costs of $2.0 million is primarily due to a $2.6 million increase in sapacitabine related costs and a $0.6 million decrease in other research and development costs, respectively, as we continue to focus on the development of sapacitabine. The $2.6 million increase in sapacitabine expenditures was primarily due to $1.6 million of contractual expenses, resulting from an achievement of a milestone triggered by the opening of enrollment in our SEAMLESS trial, pursuant to the Daiichi Sankyo license under which we license certain patent rights for sapacitabine, a $0.8 million increase related to clinical trial supplies, and a $0.4 million increase in clinical trial expenses. Seliciclib costs decreased by $49,000 from $121,000 for the nine months ended September 30, 2010 to $72,000 for nine months ended September 30, 2011 primarily due to the completion of clinical trials. Other research and development costs decreased $0.5 million to $0.4 million for the nine months ended September 30, 2011 from $0.9 million for the nine months ended September 30, 2010, as we have concentrated financial resources on the development of sapacitabine and reduced investment in other compounds.

Selling, general and administrative expenses

Selling, general and administrative expenses include costs for sales and marketing and administrative personnel, legal and other professional expenses and general corporate expenses. The following table summarizes the selling, general and administrative expenses for the nine months ended September 30, 2010 and 2011:

		Nine Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Selling, general and administrative		$	8,103			$	5,891			$	(2,212	)			(27	)%

Total selling, general and administrative expenses represented 61% and 45% of our operating expenses for the nine months ended September 30, 2010 and 2011, respectively. Our selling, general and administrative expenditure decreased by $2.2 million from $8.1 million for the nine months ended September 30, 2010 to $5.9 million for the nine months ended September 30, 2011. The decrease of $2.2 million in expenses was primarily attributable to a net decrease in professional and consultancy costs of $1.3 million, a decrease in salaries of $0.3 million, a decrease in rent of $0.3 million as a result of the expiration our lease on a facility in Bothell, Washington in December 2010, and a decrease in stock compensation of $0.6 million. These amounts were partially offset by a $0.2 million increase in patent-related costs.

Other income (expense)

The following table summarizes other income (expense) for the three months ended September 30, 2010 and 2011:

		Nine Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Other income (expense):
Change in valuation of warrants		$	(443	)		$	643			$	1,086				(245	)%
Foreign exchange (losses)/gains			(63	)			(59	)			4				6	%
Interest income			24				33				9				38	%
Interest expense			(40	)			—				40				(100	)%
Total other income (expense)		$	(522	)		$	617			$	1,139				(218	)%

Total other income and expense, net, increased by approximately $1.1 million, from an expense of $0.5 million for the nine months ended September 30, 2010, to income of $0.6 million for the nine months ended September 30, 2011. The most significant impact is the $1.1 million increase in the change in the valuation of the warrant liability, mostly due to the decrease in our common share price.

The change in valuation of warrants relates to the issue of warrants to purchase shares of our common stock under the registered direct financing completed in February 2007. The warrants issued to the investors are classified as liabilities in accordance with ASC 815, “Derivatives and Hedging”. The fair value of the warrants is re-measured each reporting period with a derivative gain or loss recognized in the consolidated statement of operations. Such gains or losses will continue to be reported until the warrants are exercised or expired. For the nine months ended September 30, 2010 and 2011, the change in the valuation of warrants was a $0.5 million decrease and a $0.6 million increase, respectively.

Foreign exchange gains (losses) increased by $4,000 to a loss of $59,000 for the nine months ended September 30, 2011 compared to a loss of $63,000 for the nine months ended September 30, 2010. Foreign exchange gains/(losses) are reported in the consolidated statement of operations as a separate line item within other income (expense).

Interest income increased by approximately $9,000 to $33,000 for the nine months ended September 30, 2010 from $24,000 for the nine months ended September 30, 2010. This is mostly attributed to a higher average daily balance of cash and cash equivalents during the three months ended September 30, 2011 compared to the same period in 2010.

Interest expense was $40,000 for the nine months ended September 30, 2010. We did not record any interest expense for the nine months ended September 30, 2011. This reduction was due to the elimination of the accretion expense associated with the restructured Bothell lease, which expired in December 2010.

The future

The valuation of the warrant liability will continue to be re-measured at the end of each reporting period. The valuation of the warrants is dependent upon many factors, including our stock price, interest rates and the remaining term of the instrument and may fluctuate significantly, which may have a significant impact on our statement of operations.

Income tax benefit

Credit is taken for research and development tax credits, which are claimed from the United Kingdom’s revenue and customs authority, or HMRC, in respect of qualifying research and development costs incurred.

The following table summarizes research and development tax credits for the nine months ended September 30, 2010 and 2011:

		Nine Months Ended
		September 30,								Increase (Decrease)
		2010				2011				$				%
		($000s)
Income tax benefit		$	506			$	443			$	(63	)			(12	)%

Research and development tax credits recoverable decreased $0.1 million, from $0.5 million for the nine months ended September 30, 2010, to $0.4 million for the nine months ended September 30, 2011. The level of tax credits recoverable is linked directly to qualifying research and development expenditure incurred in any one year, but restricted to payroll taxes paid by us in the United Kingdom in that same year. The $0.1 million decrease between the nine months ended September 30, 2010 and 2011 is due to lower payroll taxes paid as a result of lower headcount in 2011.

Liquidity and Capital Resources

The following is a summary of our key liquidity measures at December 31, 2010 and September 30, 2011:

		December 31,				September 30,								%
		2010				2011				$ Difference				Difference
		($000s)
Cash and cash equivalents		$	29,495			$	27,675			$	(1,820	)			(6	)%
Working capital:
Current assets		$	31,051			$	28,781			$	(2,270	)			(7	)%
Current liabilities			(6,535	)			(5,935	)			600				(9	)%
Working capital		$	24,516			$	22,846			$	(1,670	)			(7	)%