Edgar Filing: GENOME THERAPEUTICS CORP

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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

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FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES AND EXCHANGE ACT OF 1934

For Quarter Ended: November 25, 2000
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Commission File No: 0-10824
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GENOME THERAPEUTICS CORP.
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

MASSACHUSETTS 04-2297484
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(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER IDENTIFICATION NO.)
OF INCORPORATION OR ORGANIZATION)

100 BEAVER STREET,
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WALTHAM, MASSACHUSETTS 02453
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(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)

REGISTRANT'S TELEPHONE NUMBER: (781) 398-2300
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]

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

COMMON STOCK 22,288,658
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$.10 PAR VALUE Outstanding January 5, 2001
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Genome Therapeutics Corp. and Subsidiary

Index to Financial Information and Other Information

Page
Part I
Financial Information:

Condensed Consolidated Balance Sheets as of 3
August 31, 2000 and November 25, 2000 (Unaudited)

Condensed Consolidated Statements of Operations 4
for the thirteen-week periods ended November 27, 1999
and November 25, 2000 (Unaudited)

Condensed Consolidated Statements of Cash Flows for the 5
thirteen-week periods ended November 27, 1999
and November 25, 2000 (Unaudited)

Notes to Condensed Consolidated Financial 6-11
Statements as of November 25, 2000 (Unaudited)

Management's Discussion and Analysis of Financial 12-16
Condition and Results of Operations

Part II
Other Information:

Other Information 17

Signature 18

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GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED CONDENSED BALANCE SHEETS

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August 31, November 25,
2000 2000
(Unaudited)
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Assets
Current Assets:
Cash and cash equivalents $52,111,172 $ 9,213,422
Marketable securities 22,348,841 51,207,530
Interest receivable 574,603 1,474,415
Accounts receivable 268,498 227,998
Unbilled costs and fees 548,807 280,410
Prepaid expenses and other current assets 383,929 832,528
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Total current assets 76,235,850 63,236,303

Equipment and leasehold improvements, at cost:
Laboratory and scientific equipment 18,465,674 18,986,789
Leasehold improvements 8,260,884 8,302,308
Office equipment and furniture 1,114,195 1,126,272
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27,840,753 28,415,369
Less accumulated depreciation
and amortization 14,392,805 15,164,532
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13,447,948 13,250,837

Restricted cash 200,000 200,000
Long-term marketable securities 1,224,184 12,475,937
Other assets 227,541 218,916
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Total assets $91,335,523 $89,381,993
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Liabilities and Shareholders' Equity
Current Liabilities:
Accounts payable $ 1,543,603 $ 1,649,705
Accrued expenses 3,240,423 3,232,984
Deferred revenue 3,013,847 2,702,667
Current maturities of long-term obligations 4,719,604 4,588,012
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Total current liabilities 12,517,477 12,173,368
Long-term obligations, net of current maturities 4,543,201 3,732,887

Shareholders' equity 74,274,845 73,475,738
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Total liabilities and shareholders' equity $91,335,523 $89,381,993
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See Notes to Condensed Consolidated Financial Statements.

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GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS

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Thirteen Weeks Ended
November 27, November 25,
1999 2000
(Unaudited)
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Revenues:
Contract research, licenses, and subscription fees $ 6,035,002 $ 5,610,956

Costs and Expenses:
Research and development 5,341,305 6,546,770
Selling, general and administrative 969,645 1,683,895
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Total costs and expenses 6,310,950 8,230,665
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Loss from Operations $ (275,948) $ (2,619,709)
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Interest income 363,671 1,229,985
Interest expense (209,326) (208,033)
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Net interest income 154,345 1,021,952
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Net loss $ (121,603) $ (1,597,757)
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Net Loss per Common Share:
Basic and diluted $ (0.01) $ (0.07)
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Weighted average common shares outstanding:
Basic and diluted 18,947,684 22,279,734
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See Notes to Condensed Consolidated Financial Statements.

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GENOME THERAPEUTICS CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS

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Thirteen Weeks Ended
November 27, November 25,
1999 2000
(Unaudited)
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Cash Flows from Operating Activities:
Net loss $ (121,603) $ (1,597,757)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Depreciation and amortization 960,624 1,081,387
Loss on disposal of fixed assets -- 105,543
Stock-based compensation 95,208 707,431
Changes in assets and liabilities:
Interest receivable (298,617) (899,812)
Accounts receivable (36,668) 40,500
Unbilled costs and fees (56,775) 268,397
Prepaid expenses and other current assets (389,111) (448,599)
Accounts payable 1,469,089 106,102
Accrued expenses 247,264 (7,439)
Deferred revenue 2,004,009 (311,180)
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Total adjustments 3,995,023 642,330
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Net cash provided by (used in) operating activities 3,873,420 (955,427)
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Cash Flows from Investing Activities:
Purchases of marketable securities (5,353,510) (44,770,442)
Maturities of marketable securities 10,396,000 4,660,000
Purchases of equipment and leasehold improvements (1,652,777) (692,914)
Decrease in other assets 8,625 8,625
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Net cash provided by (used in) investing activities 3,398,338 (40,794,731)
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Cash Flows from Financing Activities:
Proceeds from sale of common stock 98,877 --
Proceeds from exercise of stock options 3,732,115 91,218
Payments on long-term obligations (813,426) (1,238,810)
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Net cash provided by (used in) financing activities 3,017,566 (1,147,592)
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Net Increase (Decrease) in Cash and Cash Equivalents 10,289,324 (42,897,750)
Cash and Cash Equivalents, at beginning of period 12,802,162 52,111,172
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Cash and Cash Equivalents, at end of period $ 23,091,486 $ 9,213,422
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Supplemental Disclosure of Cash Flow Information:
Interest paid during period $ 209,326 $ 208,033
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Income taxes paid during period $ 4,800 $ 6,750
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Supplemental Disclosure of Non-cash Investing and Financing Activities:
Equipment acquired under capital lease obligations $ 372,000 $ 296,904
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Bonuses paid through grant of stock options $ -- $ 526,118
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See Notes to Condensed Consolidated Financial Statements.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1. BASIS OF PRESENTATION

The condensed consolidated financial statements included herein have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission. In the opinion of management, the
unaudited condensed consolidated financial statements have been prepared on the
same basis as the audited consolidated financial statements and include all
adjustments (consisting only of normal recurring accruals) necessary for a fair
presentation of interim period results. Certain information and footnote
disclosures normally included in the financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations. The Company believes, however, that its
disclosures are adequate to make the information presented not misleading. The
results of operations for the thirteen-week periods ended November 25, 2000 are
not necessarily indicative of the results to be expected for the full fiscal
year. The accompanying condensed consolidated financial statements should be
read in conjunction with the Company's Form 10-K, which was filed with the
Securities and Exchange Commission on November 22, 2000.

2. REVENUE RECOGNITION

Revenues consist of license fees, contract research and subscription fees
from the PathoGenomeTM Database which were derived from alliances with
pharmaceutical companies, government grants, and fees received from custom gene
sequencing and analysis. Revenues from contract research derived from alliances
with pharmaceutical companies, from government grants and contracts, and from
custom gene sequencing and analysis are recognized over the respective contract
periods as the services are provided. License fees are recognized as earned.
Subscription fees from the PathoGenome Database are recognized ratably over the
life of the subscription. Milestone payments from research and development
alliances are recognized when they are achieved. Unbilled costs and fees
represent revenue recognized prior to billing. Deferred revenue represents
amounts received prior to revenue recognition.

Staff Accounting Bulletin (SAB) No. 101, Revenue Recognition, was issued in
December 1999 and is effective for companies with fiscal years beginning after
December 15, 2000. SAB No. 101 will require companies to recognize certain
up-front nonrefundable fees over the life of the related alliances when such
fees are received in conjunction with alliances that have multiple elements. The
Company is required to adopt this new accounting principles through a cumulative
charge to its statement of operations, in accordance with Accounting Principles
Board (APB) Opinion No. 20, Accounting Changes, no later than the fourth quarter
of fiscal 2001. The Company believes that the adoption of SAB No. 101 will not
have a material impact on its future operating results as it relates to the
up-front nonrefundable payments and milestone payments received in connection
with alliances.

3. NET LOSS PER COMMON SHARE

The Company applies Statement of Financial Accounting Standards (SFAS) No.
128, Earnings per Share, which establishes standards for computing and
presenting earnings per share. Basic and diluted earnings per share were
determined by dividing net loss by the weighted average common shares
outstanding during the period. Diluted loss per share is the same as basic loss
per share for all periods presented, as the effect of the potential common stock
is antidilutive. Antidilutive securities which consist of stock options and
directors' deferred stock that were not included in diluted net loss per common
share were 3,211,051 and 3,385,715 at November 25, 2000 and November 27, 1999,
respectively.

4. CASH, CASH EQUIVALENTS AND MARKETABLE SECURITIES

The Company applies SFAS No. 115, Accounting for Certain Investments in
Debt and Equity Securities. At November 25, 2000 and August 31, 2000, the
Company's cash equivalents and marketable securities are classified as
held-to-maturity, as the Company has the positive intent and

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ability to hold these securities to maturity. Cash equivalents are short-term,
highly liquid investments with original maturities of less than three months.
Marketable securities are investment securities with original maturities of
greater than three months. Cash equivalents are carried at cost, which
approximates market value, and consist of money market funds, repurchase
agreements and debt securities. Marketable securities are recorded at amortized
cost, which approximates market value. The Company has not recorded any realized
gains or losses on its marketable securities. Marketable securities consist of
commercial paper and U.S. government debt securities. The average maturity of
the Company's marketable securities is approximately 8 months at November 25,
2000.

At August 31, 2000 and November 25, 2000, the Company's cash, cash
equivalents and marketable securities consisted of the following:

August 31, November 25,
2000 2000
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Cash and Cash Equivalents:
Cash...................................................... $ 42,211,172 $ 8,363,422
Debt securities........................................... 9,900,000 850,000
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Total cash and cash equivalents................... $ 52,111,172 $ 9,213,422
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Marketable Securities:
Corporate and other debt securities....................... $ 23,573,025 $ 63,683,467
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Total marketable securities....................... $ 23,573,025 $ 63,683,467
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The Company has $200,000 in restricted cash in connection with certain
long-term obligations (see Note 8).

5. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.

6. COMPREHENSIVE LOSS

The Company applies SFAS No. 130, Reporting Comprehensive Income. SFAS No.
130 requires disclosure of all components of comprehensive income on an annual
and interim basis. Comprehensive income is defined as the change in equity of a
business enterprise during a period from transactions and other events and
circumstances from non-owner sources. The Company's total comprehensive net loss
for the thirteen-week periods ended November 25, 2000 and November 27, 1999 were
the same as reported net loss for those periods.

7. SEGMENT REPORTING

The Company applies SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information. SFAS No. 131 establishes standards for
reporting information regarding operating segments in annual financial
statements and requires selected information for those segments to be presented
in interim financial reports issued to stockholders. SFAS No. 131 also
establishes standards for related disclosures about products and services and
geographic areas. Operating segments are identified as components of an
enterprise about which separate discrete financial information is available for
evaluation by the chief operating decision maker, or decision making group, in
making decisions how to allocate resources and assess performance. The Company's
chief decision makers, as defined under SFAS No. 131, are the chief executive
officer and chief financial officer. To date, the Company has viewed its
operations and manages its business as principally one operating segment. As a
result, the financial information disclosed herein represents all of the
material financial information related to the Company's principal operating
segment. All of the Company's revenues are generated in the United States and
substantially all assets are located in the United States.

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8. LONG-TERM OBLIGATIONS

On February 23, 2000, the Company entered into an equipment lease line of
credit under which it may finance up to $4,000,000 of laboratory, computer and
office equipment. The Company, at its discretion, can enter into either an
operating or capital lease. Borrowings under operating leases are payable in 24
monthly installments and capital leases are payable in 36 monthly installments.
As of November 25, 2000, the Company has entered into $144,000 in operating
leases and $3,692,000 in capital leases. The interest rates under the capital
leases range from 9.31% to 10.37%. The Company had approximately $164,000
available under this line of credit at November 25, 2000.

The Company had entered into other capital lease line arrangements under
which it financed approximately $15,060,000 of laboratory, computer and office
equipment, as well as facility renovations. These leases are payable in 36 to 48
monthly installments from date of initiation. Interest rates range from 7.63% to
10.28%. Under several agreements, we are required to maintain certain financial
ratios pertaining to minimum cash balances, tangible net worth and debt service
coverage. We had no additional borrowing capacity under these capital lease
agreements at November 25, 2000.

9. ALLIANCES

(a) ASTRAZENECA

In August 1995, the Company entered into a strategic alliance with
AstraZeneca (Astra), formerly Astra Hassle AB, to develop drugs, vaccines and
diagnostic products effective against peptic ulcers or any other disease caused
by H. pylori. The Company granted Astra exclusive access to the Company's H.
pylori genomic sequence database and exclusive worldwide rights to make, use and
sell products based on the Company's H. pylori technology. The agreement
provided for a four-year research alliance to further develop and annotate the
Company's H. pylori genomic sequence database, identify therapeutic and vaccine
targets and develop appropriate biological assays. In August 1999, the Company
successfully concluded its portion of the research alliance and transitioned the
program to AstraZeneca for pre-clinical testing.

Under this agreement, Astra agreed to pay the Company subject to the
achievement of certain product development milestones, up to approximately $23.3
million (and possibly a greater amount if more than one product is developed
under the agreement) in license fees, expense allowances, research funding and
milestone payments. The Company received approximately $13.5 million in license
fees, expense allowances, milestone payments and research funding under the
Astra agreement through November 25, 2000.

The Company will also be entitled to receive royalties on Astra's sale of
products protected by the claims of patents licensed exclusively to Astra by the
Company pursuant to the agreement or the discovery of which was enabled in a
significant manner by the genomic database licensed to Astra by the Company. The
Company has the right, under certain circumstances, to convert Astra's license
to a nonexclusive license in the event that Astra is not actively pursuing
commercialization of the technology.

For the thirteen-week periods ended November 25, 2000 and November 27,
1999, the Company recorded $0 and $13,000, respectively, under this agreement,
which consisted of contract research revenue.

(b) SCHERING-PLOUGH

In December 1995, the Company entered into a strategic alliance and license
agreement with Schering Corporation and Schering-Plough Ltd. (collectively,
Schering-Plough) providing for the use by Schering-Plough of the genomic
sequence of Staph. aureus to identify and validate new gene targets for
development of drugs to target Staph. aureus and other pathogens that have
become resistant to current antibiotics. As part of this agreement, the Company
granted Schering-Plough exclusive access to the Company's proprietary Staph.
aureus genomic sequence database. The Company also granted

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Schering-Plough a nonexclusive license to use the Company's bioinformatics
systems for Schering-Plough's internal use in connection with the genomic
databases licensed to Schering-Plough under the agreement and other genomic
databases Schering-Plough develops or acquires. The Company also agreed to
undertake certain research efforts to identify bacteria-specific genes essential
to microbial survival and to develop biological assays to be used by
Schering-Plough in screening natural product and compound libraries to identify
antibiotics with new mechanisms of action.

Under this agreement, Schering-Plough agreed to pay an initial license fee
and fund a research program for a minimum of two-and-a-half years with an option
to extend. In June 2000, Schering-Plough elected to extend the research program
for the second time through at least September 2001. Under the agreement as
extended, Schering-Plough agreed to pay the Company a minimum of $21.9 million
in an up-front license fee, research funding and milestone payments. Subject to
the achievement of additional product development milestones, Schering-Plough
agreed to pay the Company up to an additional $24 million in milestone payments.

The agreement grants Schering-Plough exclusive worldwide rights to make,
use and sell pharmaceutical and vaccine products based on the genomic sequence
databases licensed to Schering-Plough by the Company and on the technology
developed in the course of the research program. The Company has also granted
Schering-Plough a right of first negotiation if during the term of the research
plan the Company desires to enter into an alliance with a third party with
respect to the development or sale of any compounds that are targeted against,
as their primary indication, the pathogen that is the principal subject of the
Company's agreement with Schering-Plough. The Company will be entitled to
receive royalties on Schering-Plough's sale of therapeutic products and vaccines
developed using the technology licensed from the Company. Subject to certain
limitations, the Company retained the rights to make, use and sell diagnostic
products developed based on the Company's genomic database licensed to
Schering-Plough or the technology developed in the course of the research
program. A total of $19.8 million has been received through November 25, 2000.

For the thirteen-week periods ended November 25, 2000 and November 27,
1999, the Company recorded revenue of $411,000 and $587,000, respectively, under
this agreement, which consisted of contract research revenue.

In December 1996, the Company entered into its second strategic alliance
and license agreement with Schering-Plough. This agreement calls for the use of
genomics to discover new pharmaceutical products for treating asthma. As part of
the agreement, the Company will employ its high-throughput disease gene
identification, bioinformatics, and genomics sequencing capabilities to identify
genes and associated proteins that can be utilized by Schering-Plough to develop
pharmaceuticals and vaccines for treating asthma. Under this agreement, the
Company has granted Schering-Plough exclusive access to (i) certain gene
sequence databases made available under this research program, (ii) information
made available to the Company under certain third-party research agreements,
(iii) an exclusive worldwide right and license to make, use and sell
pharmaceutical and vaccine products based on the rights to develop and
commercialize diagnostic products that may result from this alliance.

Under this agreement, Schering-Plough agreed to pay an initial license fee
and an expense allowance to the Company. Schering-Plough was required to fund a
research program for a minimum number of years with an option to extend. In July
1998, Schering-Plough amended the original agreement in order to accelerate the
research effort being undertaken. In May 2000, Schering-Plough extended this
research alliance through at least December 2001. In addition, upon completion
of certain scientific developments, Schering-Plough will make milestone payments
to the Company, as well as pay royalties to the Company based on sales of
therapeutics products developed from this collaboration. If all milestones are
met and the research program continues for its full term, total payments to the
Company will approximate $75.9 million, excluding royalties. Of the total
potential payments, approximately $31.4 million represents license fees and
research payments, and $44.5 million represents milestone payments based on
achievement of research and product development milestones. A total of $29.4
million has been received through November 25, 2000.

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For the thirteen-week period ended November 25, 2000 and November 27, 1999,
the Company recorded revenue of $1,101,000 and $1,439,000, respectively, under
this agreement, which consisted primarily of contract research revenue.

On September 1997, the Company entered into a third strategic alliance and
license agreement with Schering-Plough to use genomics to discover and develop
new pharmaceutical products to treat fungal infections.

Under the agreement, the Company will employ its bioinformatics,
high-throughput sequencing and functional genomics capabilities to identify and
validate genes and associated proteins as drug discovery targets that can be
utilized by Schering-Plough to develop novel antifungal treatments.
Schering-Plough will receive exclusive access to the genomic information
developed in the alliance related to two fungal pathogens, Candida albicans and
Aspergillus fumigatus. Schering-Plough will also receive exclusive worldwide
right to make, use and sell products based on the technology developed in the
course of the research program. In return, Schering-Plough agreed to fund a
research program for a minimum number of years with an option to extend. In
December 1999, Schering-Plough extended this alliance through September 2001. If
all milestones are met and the research program continues for its full term,
total payments to the Company will approximate $32.7 million, excluding
royalties. Of the total potential payments, approximately $9.7 million
represents sponsored research payments and $23.0 million represents milestone
payments based on achievement of research and product development milestones. A
total of $11.2 million has been received through November 25, 2000.
Additionally, the Company entered into a subscription agreement with
Schering-Plough to provide Schering-Plough with nonexclusive access to the
Company's proprietary genome sequence database, PathoGenome and associated
information relating to microbial organisms (see Note 10).

For the thirteen-week period ended November 25, 2000, the Company recorded
revenue of $321,000 under this agreement, which consisted of contract research
revenue. For the thirteen-week period ended November 27, 1999, the Company
recorded revenue of $1,654,000 under this agreement, which consisted of contract
research revenue and a milestone payment.

In July 1999, the Company was named as one of the nationally funded DNA
sequencing centers of the international Human Genome Project. The Company is
participating in an international consortium in a full-scale effort to sequence
the human genome. The Company is entitled to receive research and development
funding from the National Human Genome Research Institute (NHGRI) of up to $15.6
million over a three-year period, of which $7.6 million is appropriated through
October 2001. For the thirteen-week periods ended November 25, 2000 and November
27, 1999, the Company recorded revenue of approximately $1,062,000 and $912,000,
respectively, in connection with this international Human Genome Project.

In October 1999, the NHGRI named the Company as a pilot center to the Mouse
Genome Sequencing Network. The Company is entitled to receive $12.9 million in
funding over three years with respect to this agreement, of which $5.2 million
is appropriated through December 2000. In August 2000, the Company was named one
of two primary centers for the Rat Sequencing Program from NHGRI. As part of the
agreement, we will use all remaining funding under the mouse award to commence
this rat genome initiative. For the thirteen-week periods ended November 25,
2000 and November 27, 1999, the Company recorded revenue of approximately
$1,050,000 and $51,000, respectively, under this agreement.

Funding under our government grants and research contracts is subject to
appropriation each year by the U.S. Congress and can be discontinued or reduced
at any time. In addition, we cannot be certain that we will receive additional
grants or contracts in the future. The government's failure to fund our research
in this area not only would end the Company's participation in the program, but
might adversely affect the industry-wide perception of genomics and the utility
of genomic information.

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(d) BIOMERIEUX ALLIANCE

In September 1999, the Company entered into a strategic alliance with
bioMerieux to develop, manufacture and sell in vitro diagnostic products for
human clinical and industrial applications. As part of the alliance, bioMerieux
purchased a subscription to the Company's PathoGenomeTM Database (see Note 10),
agreed to fund a research program for at least four years and pay royalties on
future products. In addition, bioMerieux purchased $3.75 million of the
Company's common stock. The total amount of research and development funding,
excluding subscription fees, approximates $5.2 million for the four-year term of
this agreement. The research and development funding will be recognized ratably
over the four-year term of the agreement. For the thirteen-week periods ended
November 25, 2000 and November 27, 1999, the Company recorded revenue of
$297,000 and $89,000, respectively, which consists of research funding and the
amortization of the up-front license fees. A total of $2.2 million has been
received through November 25, 2000.

(e) WYETH-AYERST LABORATORIES

In December 1999, the Company entered into a strategic alliance with
Wyeth-Ayerst Laboratories to develop novel therapeutics for the prevention and
treatment of osteoporosis. The alliance will focus on developing therapeutics
utilizing targets based on the characterization of a gene associated with a
unique high bone mass trait.

The agreement calls for the Company to employ its established capabilities
in positional cloning, bioinformatics and functional genomics in conjunction
with Wyeth-Ayerst's drug discovery capabilities and its expertise in bone
biology and the osteroporotic disease process to develop new pharmaceuticals.
Under the terms of the agreement, Wyeth-Ayerst paid the Company an up-front
license fee, and will fund a multi-year research program, which includes
milestone payments and royalties on sales of therapeutics products developed
from this alliance. If the research program continues for its full term and
substantially all of the milestone payments are met, total payments to the
Company, excluding royalties, would exceed $118 million.

For the thirteen week period ended November 25, 2000, the Company recorded
revenue of approximately $375,000, which consists of research funding and the
amortization of the up-front license fee. A total of $2.0 million has been
received through November 25, 2000.

10. DATABASE SUBSCRIPTIONS

The Company has entered into a number of PathoGenomeTM Database
subscriptions. The database subscription provides nonexclusive access to the
Company's proprietary genome sequence database, PathoGenome Database, and
associated information relating to microbial organisms. These agreements call
for the Company to provide periodic data updates, analysis tools and software
support. Under the subscription agreements, the customer pays an annual
subscription fee and will pay royalties on any molecules developed as a result
of access to the information provided by the PathoGenome Database. The Company
retains all rights associated with protein therapeutic, diagnostic and vaccine
use of bacterial genes or gene products.

For the thirteen-week periods ended November 25, 2000 and November 27,
1999, the Company recorded revenue of $750,000 and $1,063,000, respectively,
under these agreements.

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

OVERVIEW

Genome Therapeutics Corp. ("GTC", "we", or "our") is a leader in the
commercialization of genomics-based drug discovery. We have over ten years of
experience in genomics research and have been one of the original recipients of
funding from the United States government under its genome programs. Our
commercial strategy is to use our genomics and related proprietary technologies
to identify and validate novel drug targets for commercialization. Our two areas
of scientific focus are the discovery and characterization of novel targets for
human diseases and infectious diseases. We also commercialize our sequencing
capabilities through the GTC Sequencing Center, which we established in July
1999 to provide high quality, industrial scale sequencing to pharmaceutical and
biotechnology companies on a contract basis. In May 1997, we introduced a
non-exclusive genetic database, the PathoGenomeTM Database, which provides
subscribers with genetic information to identify gene targets. We believe that
our genomic discoveries and information from our database will lead to the
development of novel therapeutics, vaccines, and diagnostic products.

We receive payments from our strategic partners based on license fees,
contract research and milestone payments during the term of the alliance. In
addition, subscribers to our PathoGenome Database pay access fees for the
information they obtain. Once a product resulting from a research alliance or a
subscriber's use of the PathoGenome Database is commercialized, we are entitled
to receive royalty payments based upon product revenues. We anticipate that our
alliances will result in the discovery and commercialization of novel
pharmaceutical, vaccine and diagnostic products. In order for a product to be
commercialized based on our research, it will be necessary for the strategic
partners to conduct preclinical tests and clinical trials, obtain regulatory
clearances, manufacture, sell, and distribute the product. Accordingly, we do
not expect to receive royalties based upon product revenues for many years, if
at all. Additionally, we sell, as a contract service business, high quality
genomic sequencing information to third parties, including pharmaceutical
companies, biotechnology companies, governmental agencies, and academic
institutions.

Our primary sources of revenue are from alliance agreements with
pharmaceutical company partners, subscription agreements to our PathoGenome
Database and government research grants and contracts. Currently, we have seven
strategic research alliances. In August 1995, we entered into an alliance with
AstraZeneca to develop pharmaceutical, vaccine and diagnostic products effective
against gastrointestinal infections or any other disease caused by H. pylori. In
August 1999, the sponsored research under the alliance concluded and the program
transitioned into AstraZeneca's pipeline. We are entitled to receive additional
milestone payments and royalties based upon the development by AstraZeneca of
any products from the research alliance. We entered into an alliance with
Schering-Plough in December 1995. Under this alliance, Schering-Plough can use
our Staph. aureus genomic database to identify new gene targets for the
development of novel antibiotics. In December 1996, we entered into our second
research alliance with Schering-Plough to identify genes and associated proteins
that Schering-Plough can utilize to develop new pharmaceuticals for treating
asthma. In September 1997, we established our third research alliance with
Schering-Plough for the development of new pharmaceutical products to treat
fungal infections. In September 1999, we entered into a strategic alliance with
bioMerieux to develop, manufacture and sell in vitro pathogen diagnostic
products for human clinical and industrial applications. As part of the
strategic alliance, bioMerieux purchased a subscription to our PathoGenome
Database and made an equity investment. In December 1999, we entered into a
strategic alliance with Wyeth-Ayerst to develop drugs based on our genetic
research to treat osteoporosis. For the thirteen-week periods ended November 25,
2000 and November 27, 1999, revenue recognized under our strategic alliance
agreements with Schering-Plough accounted for approximately 33% and 61%,
respectively, of our total revenues.

In May 1997, we introduced our PathoGenome Database and sold our first
subscription. Since that date, we have continued to contract with subscribers on
a non-exclusive basis, and, as of November 25, 2000, we had a total of seven
subscribers. Under our agreements, the subscribers receive non-exclusive access
to information relating to microbial organisms in our PathoGenome Database.
Subscriptions to the database generate revenue over the term of the subscription
with the

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potential for royalty payments to us from future product sales.

Since 1989, the United States government has awarded us a number of
research grants and contracts related to government genomics programs. The scope
of the research covered by grants and contracts encompasses technology
development, sequencing production, technology automation, and disease gene
identification. These programs strengthen our genomics technology base and
enhance the expertise of our scientific personnel. In July 1999, the government
named us as one of the nationally funded DNA sequencing centers of the
international Human Genome Project. We are participating in an international
consortium in a full-scale effort to sequence the human genome. We will receive
funding from the National Human Genome Research Institute (NHGRI) under the
Human Genome Project of up to $15.6 million over a three-year period, of which
$7.6 million is appropriated through October 2001. In October 1999, NHGRI
appointed us as one of the initial centers in the Mouse Genome Sequencing
Network. The NHGRI agreed to provide us with funding under this program of up to
$12.9 million over a three-year period, of which $5.2 million is appropriated
through December 2000. In August 2000, we were named as one of two primary
centers for the Rat Sequencing Program by NHGRI. As part of the agreement, we
switched our focus from the mouse genome to the rat genome and agreed to use all
remaining funding under the mouse award to commence the rat genome initiative.
These programs are subject to annual appropriations by the government based upon
the availability of government funds and the achievement by us of certain
milestones.

We have incurred significant operating losses since our inception. As of
November 25, 2000, we had an accumulated deficit of approximately $71.1 million.
Our losses are primarily from costs associated with prior operating businesses
and research and development expenses. These costs have often exceeded our
revenues generated by our alliances, subscription agreements and government
contracts and grants. Our results of operations have fluctuated from period to
period and may continue to fluctuate in the future based upon the timing, amount
and type of funding. We expect to incur additional operating losses in the
future.

We are subject to risks common to companies in our industry including
unproven technology and business strategy, reliance upon collaborative partners
and others, rapid technological change, history of operating losses, need for
future capital, competition, patent and proprietary rights, dependence on key
personnel, uncertainty of regulatory approval, uncertainty of pharmaceutical
pricing, healthcare reform and related matters, availability of, and competition
for, unique family resources, and volatility of our stock.

RESULTS OF OPERATIONS

THIRTEEN-WEEK PERIODS ENDED NOVEMBER 27, 1999 AND NOVEMBER 25, 2000

REVENUES

Contract research, licenses, and subscription fees decreased 7% from
$6,035,000 for the thirteen-week period ended November 27, 1999 to $5,611,000
for the thirteen-week period ended November 25, 2000. The decrease in contract
research, licenses and subscription fees was primarily attributable to a decline
in contract research funding under our existing alliance agreements, lower
subscription fees to our PathoGenome Database, as well as a milestone payment
earned last year under one of our research agreements with Schering-Plough. The
decrease in contract research, licenses and subscription fees was partially
offset by an increase in revenue recognized under our government collaborations
with the National Human Genome Research Institute to participate in the
International Human Genome Project and the Rat (Mouse) Genome Sequencing
projects.

COSTS AND EXPENSES

Total costs and expenses increased 30% from $6,311,000 for the
thirteen-week period ended November 27, 1999 to $8,231,000 for the thirteen-week
period ended November 25, 2000. Research and development expense, which includes
internal research and development and research funded pursuant to arrangements
with our strategic alliances and the U.S. government, increased from $5,341,305
in the thirteen-week period ended November 27, 1999 to $6,547,000 for the
thirteen-week

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period ended November 25, 2000. The increase was primarily due to an increase in
costs and expenses associated with the increase in revenues earned under our
government collaborations with the National Human Genome Research Institute. The
increase consisted of an increase in payroll and related expenses, laboratory
supplies and overhead expenses related to our operations.

Selling, general and administrative expenses increased 74% from $970,000
for the thirteen-week periods ended November 27, 1999 to $1,684,000 for the
thirteen-week periods ended November 25, 2000. This increase was primarily
attributable to an increase in payroll and related expenses, hiring and employee
relocation expense. In addition, we recorded a charge for severance expenses in
accordance with the terms of our severance agreement with Dr. Richard Gill.

INTEREST INCOME AND EXPENSE

Interest income increased 238% from $364,000 for the thirteen-week period
ended November 27, 1999 to $1,230,000 for the same period ended November 25,
2000, reflecting an increase in funds available for investment.

Interest expense decreased slightly from $209,000 for the thirteen-week
period ended November 27, 1999 to $208,000 for the same period ended November
25, 2000.

LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of cash have been payments received from strategic
alliances, subscription fees, government grants and contracts, borrowings under
equipment lending facilities and capital leases and proceeds from sale of equity
securities.

As of November 25, 2000, we had cash, cash equivalents, restricted cash and
short-term and long-term marketable securities of approximately $73,097,000. In
fiscal 2000, we sold 1,500,000 shares of common stock in a series of
transactions through the Nasdaq National Market, resulting in proceeds received
of approximately $44,723,000, net of issuance costs. During fiscal 2000, we
issued 1,532,302 shares of common stock related to the exercise of stock
options, resulting in proceeds received of approximately $4,155,000. In fiscal
2000, we also sold 678,610 shares of common stock to bioMerieux, a strategic
alliance partner, resulting in proceeds received of approximately $3,732,000,
net of issuance costs.

We have various arrangements under which we financed certain office and
laboratory equipment and leasehold improvements. At November 25, 2000, we had an
aggregate of approximately $8,321,000 outstanding under our borrowing
arrangements which is repayable over the next 36 months, of which $4,588,000 is
repayable within the next 12 months. Under these arrangements, we are required
to maintain certain financial ratios, including minimum levels of tangible net
worth, total indebtedness to tangible net worth, minimum cash level, debt
service coverage and minimum restricted cash balances. At November 25, 2000, we
had approximately $164,000 available under one of these arrangements for future
borrowings.

Our operating activities used cash of approximately $955,000 for the
thirteen-week period ended November 25, 2000, primarily due to an our net loss,
and increases in interest receivable, prepaid expense and other current assets,
as well as a decrease in deferred revenue. Cash used in operations for the
thirteen-week period ended November 25, 2000 was partially offset by noncash
items such as depreciation and amortization, stock-based compensation, loss on
sale on disposal of fixed assets, as well as an increase in accounts payable,
and a decrease in unbilled costs and fees. For the thirteen-week period ended
November 27, 1999 operating activities provided cash of approximately $3,873,000
primarily due to increases in deferred revenue, accounts payable, accrued
expenses, as well as depreciation and amortization, and amortization of
stock-based compensation.

Our investing activities used cash of approximately $40,795,000 for the
thirteen-week period ended November 25, 2000 to purchase marketable securities,
capital equipment and leasehold improvements, partially offset by the conversion
of marketable securities to cash and cash equivalents. Our investing activities
provided cash of approximately $3,398,000 from the conversion of marketable

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securities to cash and cash equivalents, partially offset by the purchase of
marketable securities and capital equipment and leasehold improvements.

Capital expenditures, including property and equipment acquired under
capital leases, totaled $989,000 for the thirteen-week period ended November 25,
2000. Purchases consisted primarily of laboratory and computer equipment. We
currently estimate that we will acquire an additional $4,000,000 in capital
equipment in fiscal 2001 consisting primarily of computer, laboratory equipment,
and additions to leasehold improvement. We intend to finance the majority of
capital purchases made during fiscal 2001 under existing and new equipment
financing arrangements, yet to be negotiated. We are in discussions with several
potential sources of equipment financing.

Our financing activities used cash of approximately $1,148,000 for the
thirteen-week period ended November 25, 2000, primarily for payments of
long-term obligations. Our financing activities provided cash of approximately
$3,018,000 for the thirteen-week period ended November 27, 1999, primarily from
the sale of equity securities, exercise of stock options, net of payments of
long-term obligations.

At August 31, 2000, we had net operating loss and tax credits (investment
and research) carryforwards of approximately $87,055,000 and $3,071,000,
respectively, available to reduce federal taxable income and federal income
taxes, respectively, if any. Net operating loss carryforwards are subject to
review and possible adjustment by the Internal Revenue Service and may be
limited, in the event of certain cumulative changes in ownership interests of
significant shareholders over a three-year period in excess of 50%.
Additionally, certain of these losses are expiring due to the limitations of the
carryforwards period.

We believe that under our current rate of investment in research and
development, our existing capital resources are adequate for the foreseeable
future. There is no assurance, however, that changes in our plans or events
affecting our operations will not result in accelerated, or unexpected
expenditures.

We may seek additional funding in the future through public or private
financing. Additional financing may not be available when needed, or if
available, it may not be on terms acceptable to us. To the extent that we raise
additional capital by issuing equity or convertible debt securities, ownership
dilution to stockholders will result.

We do not currently use derivative financial instruments. We generally
place our marketable security investments in high quality credit instruments, as
specified in our investment policy guidelines; the policy also limits the amount
of credit exposure to any one issue, issuer, and type of instrument. We do not
expect any material loss from our marketable security investments and therefore
believe that our potential interest rate exposure is limited.

In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities. This
statement establishes accounting and reporting standards for derivative
instruments, including derivative instruments embedded in other contracts and
for hedging activities. SFAS No. 133, as amended by SFAS No. 137, is effective
for all fiscal quarters of fiscal years beginning after June 15, 2000. The
adoption of SFAS No. 133 to have a material impact on its financial statements.

SAB No. 101 was issued in December 1999 and is effective for companies with
fiscal years beginning after December 15, 2000. SAB No. 101 will require
companies to recognize certain up-front nonrefundable fees over the life of the
related alliances when such fees are received in conjunction with alliances that
have multiple elements. The Company is required to adopt this new accounting
principles through a cumulative charge to its statement of operations, in
accordance with APB Opinion No. 20 no later than the fourth quarter of fiscal
2001. The Company believes that the adoption of SAB No. 101 will not have a
material impact on its future operating results as it relates to the up-front
nonrefundable payments and milestone payments received in connection with
alliances.

This Form 10-Q and documents we have filed with the Securities and Exchange
Commission contain forward-looking statements made pursuant to the safe harbor
provisions of the Private

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Securities Litigation Reform Act of 1995. Forward-looking statements represent
our management's judgement regarding future events. Forward-looking statements
typically are identified by use of terms such as "may," "will," "should,"
"plan," "expect," "intend," "anticipate," "estimate," and similar words,
although some forward-looking statements are expressed differently. All
forward-looking statements, other than statements of historical fact, included
in this report regarding our financial position, business strategy and plans or
objectives for future operations are forward-looking statements. We cannot
guarantee the accuracy of the forward-looking statements, nor do we plan to
update these forward-looking statements. You should be aware that our actual
results could differ materially from those contained in the forward looking
statements due to a number of risks affecting our business, including the
ability of the Company and its alliance partners to (i) successfully develop
products based on the Company's genomic information, (ii) obtain the necessary
governmental approvals, (iii) effectively commercialize any products developed
before its competitors and (iv) obtain and enforce intellectual property rights,
as well as the risk factors set forth in the Exhibit 99 to the Company's Annual
Report on Form 10-K for the year ended August 31, 2000 and those set forth in
other filings that we may make with the Securities and Exchange Commission from
time to time.

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Part II

Item 1. LEGAL PROCEEDINGS

On November 22, 2000, the Company was named as a defendant, along with The
Gel Company and PE Corporation, in a law suit brought by Commonwealth
Biotechnologies, Inc. ("Commonwealth") in the United States District Court for
the Eastern District of Virginia. The suit alleges infringement of a certain
patent (Patent No. 6,110,683, Automated DNA Sequencer Loading Dye Which Contains
a Lane Tracking Aid) issued to Commonwealth, misappropriation of trade secrets
under the Virginia Uniform Trade Secrets Act, and unfair competition under the
Lanham Act. The suit seeks, among other things, to enjoin the Company from
infringing on the patent and from engaging in unfair competition, to obtain
unspecified amounts of monetary damages and to obtain reimbursement of legal
fees. The Company is vigorously defending against this suit and does not expect
that the suit will have a material adverse impact on the Company's financial
condition or results of operations. The Company cannot be certain, however, that
it will prevail in the suit or that the outcome of the suit will not negatively
affect the Company.

Item 2. CHANGES IN SECURITIES

None

Item 3. DEFAULTS UPON SENIOR SECURITIES

None

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None

Item 5. OTHER INFORMATION

None.

Item 6. EXHIBITS AND REPORTS ON FORM 8-K

a) Exhibits:
---------

10.1 Compound Discovery Collaboration Agreement dated as of
October 17, 2000 between ArQule, Inc. and Genome
Therapeutics Corp.*

* Certain Confidential material contained in the document
has been omitted and filed separately with the SEC pursuant
to Rule 24b-2 of the Securities Exchange Act of 1934.

b) Reports on Form 8-K

None.

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has caused this report to be signed on its behalf by the undersigned
thereunto duly authorized who also serves in the capacity of principal financial
officer.

Genome Therapeutics Corp.

/s/ Philip V. Holberton
-----------------------

Philip V. Holberton
(Principal Financial Officer)

Date: January 8, 2001