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SEC 1852(02-2002) Persons who potentially are to respond to the collection of information contained in this form are not required to respond unless the form displays a currently valid OMB control number.

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 20-F

(Mark One)

o

REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934   For the fiscal year ended     May 31, 2002

OR

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from                      to

Commission file number 0-19763

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Securities registered or to be registered pursuant to Section 12(b) of the Act.

Securities registered or to be registered pursuant to Section 12(g) of the Act.

COMMON SHARES (NO PAR VALUE)

NONE

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.

NONE

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

As of December 6, 2002, the Company had 144,422,262 common shares outstanding.

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.

Indicate by check mark which financial statement item the registrant has elected to follow.

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PART I

Item 1.   Identity of Directors, Senior Management and Advisers

     Not applicable to Form 20-F filed as an Annual Report.

Item 2.   Offer Statistics and Expected Timetable

     Not applicable to Form 20-F filed as an Annual Report.

Item 3.   Key Information

     The financial statements of Lorus Therapeutics Inc. (“Lorus” or the “Company”) have been prepared in accordance with generally accepted accounting principles (“GAAP”) as applied in Canada and in all material respects comply with U.S. GAAP. The Company also identifies significant differences between Canadian and United States GAAP in note 13 to the consolidated financial statements. All amounts are expressed in Canadian dollars unless otherwise noted. Annual references are to Lorus’s fiscal years which end on May 31.

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Currency Exchange Rates

     Lorus’s accounts are maintained in Canadian dollars. In this Annual Report, all dollar amounts are expressed in Canadian dollars except where otherwise indicated.

     The following table sets out, for the periods indicated, the high and low noon buying rates in New York City for cable transfers in foreign currencies, the average of such exchange rates on the last day of each month during the periods, and the end period rates, for Canadian dollars expressed in United States dollars, as certified for customs purposes by the Federal Reserve Bank of New York:

     As at December 6, 2002, the noon buying rate in New York City for Canadian dollars expressed in United States dollars, as certified for customs purposes by the Federal Reserve Bank of New York, was 0.6386.

A.   Selected Financial Data

Consolidated Statement of Loss and Deficit Data
For the five most recent financial years ended May 31

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Consolidated balance sheet data
For the five most recent financial years ended May 31

B.   Capitalization and Indebtedness

     Not applicable to Form 20-F filed as an Annual Report.

C.   Reason for the Offer and Use of Proceeds

     Not applicable to Form 20-F filed as an Annual Report.

D.   Risk Factors

Forward Looking Statements

     This and other sections of this annual report on Form 20-F (the “Annual Report”) contain forward-looking statements, reflecting the Company’s current expectations regarding future events. Readers are cautioned that these forward-looking statements involve risks and uncertainties, including, without limitation, changing market conditions, the successful and timely completion of clinical studies, the impact of competitive products and pricing, new product development, uncertainties related to the regulatory approval process, product development delays, the Company’s ability to attract and retain business partners, future levels of government funding and the Company’s ability to obtain the capital required for research, product development, operations and marketing. These factors should be carefully considered and readers should not place undue reliance on the Company’s forward-looking statements. Actual events may differ materially from the Company’s current expectations due to risks and uncertainties. Certain of the risks and uncertainties are discussed in the section entitled “Risk Factors”.

     Lorus’s statements of “belief” are based upon its results derived to date from its research and development program with animals and its clinical trials in humans and upon which the Company believes there is a reasonable scientific basis to expect the particular results to occur. It is not possible to predict, based upon studies in animals, whether a new therapeutic will be proved to be safe and effective in humans. There can be no assurance that the particular result expected by the Company will occur. Except as required by law, the Company undertakes no obligation to update publicly any forward-looking statements for any reason after the date of this Annual Report or to conform these statements to actual results or to changes in the Company’s expectations.

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     THE COMPANY’S BUSINESS IS SUBJECT TO A NUMBER OF RISK FACTORS THAT ARE SET OUT BELOW:

     No Assurance of Successful Development

     Lorus has not produced or commercially marketed any product. Although the Company has entered into an agreement in respect of the commercial sale of Virulizin® in Mexico, there can be no assurance that any sales of the product will be made. There can be no assurance that the Company will ever successfully develop commercial products, that the Company will ever achieve significant revenues from such products if they are successfully developed, or that the Company will ever be profitable.

     Lack of Operating Profits

     Lorus commenced its research and development activities in 1986. To date, the Company has not earned any operating revenue, generated positive cash flow or earned operating profits, and the Company expects to incur significant operating losses for the foreseeable future. To date, there have been no revenues recorded from the sale of any products. Lorus expects to accumulate losses as it continues its product research and development and continues its clinical trials and applies for regulatory approval for the sale of its products. The Company expects to continue to incur substantial operating losses unless and until such time as product sales and royalty payments generate sufficient revenues to fund its continuing operations. The Company expects to have quarter-to-quarter fluctuations in revenues, expenses and losses, some of which could be significant. The Company’s ability to achieve a profitable level of operations is dependent, in large part, on completing product development, obtaining regulatory approvals, and commercializing its products. There can be no assurance that the Company will ever achieve a profitable level of operations.

     Liquidity and Capital Requirements

     As at May 31, 2002, the Company’s current assets exceeded current liabilities by $35.6 million. Lorus will require substantial additional funds for clinical trials. The Company may seek to obtain additional funds for these purposes through public or private equity or debt financings, collaborative arrangements with pharmaceutical companies and/or from other sources. Any such financing may have a dilutive effect on the holdings of shareholders. There can be no assurance that additional funding will be available at all or on acceptable terms to permit successful commercialization of the Company’s products.

     Patents and Proprietary Technology

     The Company’s success depends in part on its ability to obtain patents, maintain trade secret protection and operate without infringing the proprietary rights of third parties. The Company has filed patent applications in Canada, the United States and internationally. Other than the patents granted by the patent offices in Canada, the United States and internationally to date, there can be no assurance that these patent applications will be allowed, that the Company will develop additional proprietary products that are patentable, that patents that have already been granted to the Company will provide it with any competitive advantage or will not be challenged by any third parties, or that patents of others will not have an adverse effect on the Company’s ability to do business. Furthermore, there can be no assurance that others will not independently develop similar products, duplicate any of the Company’s products, or design around the products patented, if any, by the Company. In addition, the Company may be required to obtain licences under patents or other proprietary rights of third parties. There can be no assurance that any licences required under such patents or proprietary rights will be available on terms acceptable to the Company. If Lorus does not obtain such licences,

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it could encounter delays in introducing one or more of its products to the market, while it attempts to design around third party patents, or the Company could find that the development, manufacturing or sale of products requiring such licences could be foreclosed. In addition, Lorus could incur substantial costs in defending suits brought against it on patents or in suits in which it attempts to enforce its own patents, if any, against other parties.

     Until such time as further patents are issued to the Company, its ability to maintain the confidentiality of its technology is crucial to its ultimate possible commercial success. While the Company has adopted procedures designed to protect the confidentiality of its technology, there can be no assurance that such arrangements will be effective, that third parties will not gain access to the Company’s trade secrets or disclose the technology, or that the Company can meaningfully protect its rights to its trade secrets. Further, by seeking patent protection in various countries, it is inevitable that a substantial portion of the Company’s technology will become available to its competitors, through publication of such patent applications. In addition, the Company uses contract manufacturers to manufacture its products. In order for these manufacturers to produce the Company’s products, the Company must provide them with valuable confidential information regarding their formulation. If the Company is unable to maintain the confidentiality of its technology, this could have a material adverse impact on the Company’s business and financial condition.

     Dependence on the Successful Outcome of Clinical Trials

     In order to commercialize its products, Lorus must obtain approval from governmental regulatory agencies. Regulatory approval can take several years and can involve substantial expenditures. There can be no assurance that difficulties or excessive costs will not be encountered by the Company in its efforts to secure necessary approvals or licences, which could delay or prevent the Company from marketing its products. There can be no assurance that the Company will ever obtain necessary regulatory approvals or licences for any of its products.

     Before obtaining regulatory approval for the sale of the Company’s products, they must be subjected to extensive preclinical and clinical testing to demonstrate their safety and efficacy for humans. Lorus’s success will depend on the success of its currently ongoing clinical trials and subsequent clinical trials that have not yet begun. There are a number of difficulties and risks associated with clinical trials. The possibility exists that:

	•		the Company may discover that a product candidate does not exhibit the expected therapeutic results in humans;
	•		results may not be statistically significant or predictive of results that will be obtained from large-scale, advanced clinical trials;
	•		patient recruitment may be slower than expected;
	•		the Company or the United States Food and Drug Administration (FDA) or the Health Products and Food Branch of Health Canada (HPFB) may suspend the clinical trials of the Company’s product candidates;
	•		the Company may discover that a product may cause harmful side effects; and
	•		patients may drop out of Lorus’s clinical trials.

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     Given the uncertainty surrounding the regulatory and clinical trial process, the Company may not be able to develop safe, commercially viable products. If Lorus is unable to successfully develop and commercialize any of its products, this would severely harm its business, financial condition and results of operations and have an adverse impact on the Company’s share price.

     Reliance on Clinical Investigators and Contract Research Organizations

     Lorus depends on independent clinical investigators and contract research organizations to conduct its clinical trials. Contract research organizations also assist it in the collection and analysis of the Company’s data. These investigators and contract research organizations are not the Company’s employees and it cannot control, other than by contract, the amount of resources, including time, that they devote to the Company’s products. If independent investigators fail to devote sufficient resources to the development of the Company’s products, or if their performance is substandard, it will delay the approval and commercialization of the Company’s products. Further, the FDA and the HPFB require that the Company comply with standards, commonly referred to as “good clinical practice”, for conducting, recording and reporting clinical trials to assure that data and reported results are credible and accurate and that the rights, integrity and confidentiality of trial subjects are protected. If the Company’s independent clinical investigators and contract research organizations fail to comply with good clinical practice, the results of its clinical trials could be called into question and the clinical development of the Company’s products could be delayed. Failure of clinical investigators and contract research organizations to meet their obligations to the Company or comply with good clinical practice procedures could adversely affect the clinical development of Lorus’s products, and have a material adverse effect on its business and financial condition.

     Reliance on Contract Manufacturing

     The Company currently relies upon contract manufacturers to manufacture small quantities of its products for use in clinical trials. The Company intends to continue to rely upon these and other third parties to manufacture its products in the future. Lorus has limited manufacturing experience and no manufacturing facilities. If Lorus is unable to obtain new or retain its current contract manufacturers, it will not be able to effectively conduct its clinical trials or ultimately commercialize its products. In addition, the Company’s current and any future contract manufacturers may not comply with government regulations, or other regulatory requirements relating to the manufacturing of its products, including compliance with “good manufacturing practice”, or GMP. GMP requires that the methods, facilities or controls used for a drug product’s manufacture, processing, packing or holding follow rules and guidelines to meet certain safety requirements and to ensure the drug has the characteristics and strength the Company claims it has, and meets quality and purity requirements. The risks associated with the Company’s reliance on contract manufacturers include the following:

•

Contract manufacturers may encounter difficulties in achieving volume production, quality control and quality assurance, and also may experience shortages in qualified personnel. As a result, the Company’s contract manufacturers might not be able to meet its clinical development schedules or adequately manufacture the Company’s products in commercial quantities when required.

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	•		Switching manufacturers may be difficult because the number of potential manufacturers is limited. It may be difficult for the Company to find a replacement manufacturer quickly or on terms acceptable to it, or at all.
	•		The Company’s contract manufacturers may not remain in the contract manufacturing business for the time required to successfully produce, store and distribute its products.
	•		The Company’s contract manufacturers are subject to ongoing periodic, unannounced inspection by the FDA and the HPFB and corresponding governmental agencies to ensure strict compliance with, among other things, GMP, in addition to other governmental regulations and corresponding foreign standards. Lorus does not have control over, other than by contract, third party manufacturers’ compliance with these regulations and standards.
	•		If Lorus needs to change manufacturers, the FDA and the HPFB and corresponding regulatory agencies must approve these manufacturers in advance, which will involve testing and additional inspections to ensure compliance with these regulations and standards.

     The Company’s dependence on third parties for the manufacture of its products may have an adverse impact on its ability to develop and deliver products on a timely and competitive basis and may have a material adverse effect on its business and financial condition.

     Sales, Marketing and Distribution Capabilities

     Lorus does not have any sales, marketing or distribution capabilities. In order to commercialize its products, if any are approved, the Company must either acquire or internally develop sales, marketing and distribution capabilities or make arrangements with third parties to perform these services for it. If Lorus obtains regulatory approval for its existing products, it intends to rely on relationships with one or more pharmaceutical companies or other third parties with established distribution systems and direct sales forces to market its products. If the Company decides to market any of its products directly, it must either acquire or internally develop a marketing and sales force with technical expertise and with supporting distribution capabilities. The acquisition or development of a sales and distribution infrastructure would require substantial resources, which may divert the attention of management and key personnel, and have a negative impact on the Company’s product development efforts. Moreover, Lorus may not be able to establish in-house sales and distribution capabilities or relationships with third parties. The inability to market its products could have a material adverse effect on the Company’s business and financial condition.

     Technology and Competition

     Lorus’s success depends on developing and maintaining a competitive position in the development of products and technologies in its area of expertise. Biotechnology is a rapidly evolving field in which new developments are expected to continue at a fast pace. Technological competition in the industry from other biotechnology companies and others diversifying into the field is intense and expected to increase. Many of these companies have substantially greater research and development capability and experience, and marketing, financial and managerial resources than Lorus does, and represent significant long-term competition for Lorus. The acquisition of competing biotechnology companies by large There can be no assurance that

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developments by others will not render Lorus’s products or technologies non-competitive or obsolete, or that Lorus will be able to achieve the level of acceptance within the medical community necessary to compete successfully. Lorus is aware of several potential competitors that are at various stages of development or that have commercial sale of products that may address similar cancer indications. The success of the Company’s competitors and their products may have a material adverse impact on Lorus’s business and financial condition.

     Product Liability and Insurance

     The clinical testing and proposed commercialization of Virulizin® and the clinical testing of GTI-2040 and GTI-2501 involve risks of product liability as well as patient injury. While the Company currently maintains limited product liability insurance, there can be no assurance that product liability insurance will continue to be available to the Company on commercially reasonable terms. Product liability claims might also exceed the amounts of such coverage. If Lorus is unable to obtain insurance, is unable to obtain insurance on commercially reasonable terms or if any claims against Lorus exceed the amounts of its insurance coverage, this could have a material adverse impact on Lorus’s business and financial condition.

     Dependence on Key Personnel

     The Company’s success depends in large part upon its ability to attract and retain highly qualified scientific and management personnel. Lorus faces competition for such personnel from other companies, academic institutions, government entities and other organizations. There can be no assurance that the Company will retain its current personnel and will be able to continue to attract qualified personnel.

     Volatility of Share Price

     Historically, the market price for securities of biopharmaceutical companies, including Lorus’s, has been volatile. Future announcements concerning Lorus or its competitors, including the results of testing, technological innovations or commercial products, government regulations, developments concerning proprietary rights, litigation and public concerns as to the safety of the Company’s products may have a significant impact on the market price of its common shares. In addition, the Company’s share price may be affected by sales by existing shareholders.

     Dividend Policy

     The Company has never paid dividends on its common shares and does not anticipate paying dividends on its common shares in the foreseeable future.

Item 4.   Information on the Company

A.   History and Development of the Company

     Lorus Therapeutics Inc. was incorporated under the Business Corporations Act (Ontario) on September 5, 1986 under the name RML Medical Laboratories Inc. On October 28, 1991, RML Medical Laboratories Inc. amalgamated with Mint Gold Resources Ltd., resulting in the Company becoming a reporting issuer (as defined under applicable securities law) in Ontario, on such date. On August 25, 1992, the Company changed its name to IMUTEC Corporation. On November 27, 1996, the Company changed its name to Imutec Pharma Inc., and on November 19, 1998, the Company changed its name to Lorus Therapeutics Inc.

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     The address of the Company’s head and principal office is 2 Meridian Road, Toronto, Ontario, Canada, M9W 4Z7.

     Unless otherwise noted or the context otherwise indicates, references to the Company include Lorus together with its subsidiaries. Lorus’s subsidiaries are GeneSense Technologies Inc. (“GeneSense”), a company incorporated under the laws of Canada of which the Company owns 100% of the issued and outstanding share capital and NuChem Pharmaceuticals Inc. (“NuChem”), a company incorporated under the laws of Ontario of which Lorus owns 80% of the issued and outstanding share capital.

     Certain terms not otherwise defined in this Annual Report are found in the Glossary, located at pages 80 through 82 of this Annual Report.

B.   Business Overview

     Lorus is a biopharmaceutical company focused on the research and development of cancer therapies. Lorus’s goal is to capitalize on its research, pre-clinical, clinical and regulatory expertise by developing new drug candidates that can be used, either alone or in combination, to successfully manage cancer. Through its own discovery efforts and an in-licensing and acquisition program, the Company is building a portfolio of promising anti-cancer drugs. With products entering all stages of evaluation, from pre-clinical through Phase III trials, the Company is a leader in the development of therapeutics that complement the new cancer treatment paradigm that seeks to manage the disease with efficacious, non-toxic compounds that improve patients’ quality of life.

     Lorus seeks to reduce the risk associated with individual products or single technology platforms by pursuing a wide variety of promising anti-cancer compounds derived from different platform technologies. Lorus intends to develop compounds that are efficacious and have low-toxicity, ensuring the drugs will be well tolerated by patients and will be able to be tested in combination with other approved compounds on the market.

     From January 1987 to December 1997, the Company focused its efforts solely on the development of VIRULIZIN®, a potential new drug functioning as a biologic response modifier for the treatment of cancer. In November 1997, the Company sub-licensed, on an exclusive world-wide basis until the later of patent expiry or marketing approval, from Ion Pharmaceuticals, Inc. (“Ion”) (a wholly-owned subsidiary of Sheffield Pharmaceuticals, Inc.) analogues of clotrimazole (“CLT”), a molecule with anti-angiogenic and anti-proliferative properties, for anti-cancer indications as well as actinic keratosis.

     On October 29, 1999, Lorus acquired all of the issued and outstanding shares of GeneSense (the “GeneSense Acquisition”), a private biopharmaceutical company that specializes in developing novel oligonucleotide therapeutics for cancer and infectious diseases. Pursuant to the GeneSense Acquisition, the Company obtained two anti-cancer products in late-stage, pre-clinical development, in addition to several other products in the research stage. Lorus believes that the GeneSense Acquisition also added depth to its research and development capabilities.

     As a consequence of the GeneSense Acquisition, Lorus now holds an exclusive worldwide license from the University of Manitoba and Cancer Care Manitoba (formerly The Manitoba Cancer Treatment and Research Foundation) to develop certain oligonucleotide technologies. Antisense technology, one of the oligonucleotide technologies, works at the genetic level to interrupt the process by which disease-causing proteins are produced in order to treat a wide range of diseases, including cancer and infectious diseases.

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Business Strategy

     By developing cancer therapeutics using different mechanisms of action that may be efficacious against a wide variety of cancers, the Company seeks to maximize its opportunity to address multiple cancer therapeutic markets. In its efforts to obtain the greatest return on its investment in each drug candidate, the Company separately evaluates the merits of each candidate throughout the clinical trial process and considers commercialization opportunities when appropriate. The Company intends to partner with pharmaceutical companies for the sales, marketing and distribution of products. See “Co-development, Marketing and Distribution.”

Production and Testing

     Preclinical testing and certain research and development work has been performed at various contract laboratories. Clinical trials have been undertaken at various medical centers in Canada, the United States and Mexico.

Manufacturing

     On May 12, 1998, the Company signed an agreement with Torcan Chemicals for the manufacture of five NuChem Analogues. The compounds were synthesized in sufficient quantity for use in the pre-clinical toxicity and efficacy studies.

     The Company has entered into a contract with Proligo LLC, a cGMP manufacturer, to produce its bulk active drug substance for its antisense compounds. The manufacturer supplied bulk active drug for Good Laboratory Practices (GLP) toxicology studies and drug stability studies and has supplied bulk active drug, subsequently formulated, for both the GTI-2040 and GTI-2501 clinical trials. Proligo has filed a drug master file (DMF) with the FDA and have supplied the necessary documentation to support the IND submission.

     In March 2001, the Company signed an agreement with Dalton Chemical Laboratories Inc. for the manufacturing of its immunotherapeutic compound VIRULIZIN®. The drug is being manufactured for the Phase III clinical trial program that the Company initiated in fiscal 2002 and for the planned supply of VIRULIZIN® for the Company’s licensee, Mayne Pharma Inc. (formerly Faulding Canada Inc.) for malignant melanoma treatment in Mexico.

Intellectual property and Protection of Confidential Information and Technology

     The Company regards its issued patents and pending applications as important in establishing and maintaining a competitive position with respect to its products and technology. As at November 30, 2002, the Company owns or has rights under 40 issued or pending patents in Canada and the United States as well as a number of other pending patent applications in multiple jurisdictions.

     With regard to antisense compounds, the Company has protected its intellectual property rights by, among other things, filing patent applications with respect to intellectual property considered important to the development of its business. The Company also relies upon trade secrets, unpatented know-how and continuing technology innovation to develop and maintain its competitive position.

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     There can be no assurance, however, that pending applications will result in issued patents, or that issued patents will be held valid and enforceable if challenged, or that a competitor will not be able to circumvent any such issued patents by adoption of a competitive, though non-infringing product or process. Interpretation and evaluation of pharmaceutical or biotechnology patent claims present complex and often novel legal and factual questions. The Company’s business could be adversely affected by increased competition in the event that any patent granted to it is held to be invalid or unenforceable or is inadequate in scope to protect the Company’s operations.

     While the Company believes that its products and technology do not infringe proprietary rights of others, there can be no assurance that third parties will not assert infringement claims in the future or that such claims will not be successful. Furthermore, the Company could incur substantial costs in defending itself against patent infringement claims brought by others or in prosecuting suits against others.

     In addition, no assurance can be given that others will not obtain patents that the Company would need to license, or that if a licence is required that it would be available on reasonable terms, or that if a licence is not obtained that the Company would be able to circumvent, through a reasonable investment of time and expense, such outside patents. Whether the Company obtains a licence would depend on the terms offered, the degree of risk of infringement, the vulnerability of the patent to invalidation, and the ease of circumventing the patent.

     Until such time, if ever, that further patents are issued to the Company, the Company will rely upon the law of trade secrets to the extent possible given the publication requirements under international patent treaty laws and/or requirements under foreign patent laws to protect its technology and the products incorporating the technology. In this regard, the Company has adopted certain confidentiality procedures. These include: limiting access to its confidential information to certain key personnel; requiring all of its directors, officers, employees and consultants and others who may have access to the Company’s intellectual property to enter into confidentiality agreements which prohibit the use of or disclosure of confidential information to third parties; and implementing physical security measures designed to restrict access to such confidential information and products. The ability of the Company to maintain the confidentiality of its technology is crucial to its ultimate possible commercial success. No assurance can be given that the procedures adopted by the Company to protect the confidentiality of its technology will be effective, that third parties will not gain access to Registrant’s trade secrets or disclose the technology, or that the Company can meaningfully protect its rights to its technology. Further, by seeking the aforementioned patent protection in various countries, it is inevitable that a substantial portion of the Company’s technology will become available to its competitors, through publication of such patent applications.

License Agreement

     The University of Manitoba (the “University”), Cancer Care Manitoba (formerly the Manitoba Cancer Treatment and Research Foundation) (“Cancer Care”), Dr. Jim Wright and Dr. Aiping Young entered into an exclusive license agreement (the “License Agreement”) with GeneSense dated June 20, 1997 pursuant to which GeneSense was granted an exclusive world-wide license to certain patent rights with the right to sub-license. In consideration for the exclusive license to GeneSense of the patent rights, the University and Cancer Care are entitled to an aggregate of 1.67% of the net sales received by GeneSense from the sale of products or processes derived from the patent rights and 1.67% of all monies received by GeneSense from sub-licenses of the patent rights. GeneSense is solely responsible for the preparation, filing, prosecution and maintenance of all patent applications and patents included in the patent rights and all related expenses. Pursuant to the terms of

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the License Agreement, any and all improvements to any of the patent rights derived in whole or in part by GeneSense after the date of the License Agreement are not included within the scope of the License Agreement and do not trigger any payment of royalties.

Regulatory Requirements

     Regulation by government authorities in Canada, the United States, Mexico and the European Union is a significant factor in the current research and drug development activities of the Company. In order to clinically test, manufacture and market drug products for therapeutic use, the Company must satisfy the rigorous mandatory procedures and standards established by the regulatory agencies in the countries in which it currently operates or intends to operate.

     The laws of most of these countries require the licensing of manufacturing facilities, carefully controlled research and the extensive testing of products. Biotechnology companies must establish the safety and efficacy of their new products in clinical trials, as well as satisfy all regulatory requirements. The safety and efficacy of a new drug must be shown through clinical trials of the drug carried out in accordance with the mandatory procedures and standards established by regulatory agencies.

     Regulatory compliance can take several years and can involve substantial expenditures. There can be no assurance that difficulties or excessive costs will not be encountered by the Company in its efforts to secure necessary approvals, which could delay or prevent the Company from manufacturing or marketing its products.

Canada

     In Canada, the manufacture and sale of new drugs are controlled by the Therapeutic Products Programme (“TPP”). New drugs must pass through a number of testing stages, including pre-clinical testing and clinical trials. Preclinical testing involves testing the new drug’s chemistry, pharmacology and toxicology in vitro and in animals. Successful results (that is, potentially valuable pharmacological activity combined with an acceptable low level of toxicity) enable the manufacturer of the new drug to file an IND submission to begin clinical trials involving humans.

     In order to study a drug in Canadian patients, an IND submission must be filed with the TPP. The IND submission must contain specified information, including the results of the pre-clinical tests completed at the time of the submission and any available information regarding use of the drug in humans. In addition, since the method of manufacture may affect the efficacy and safety of a new drug, information on manufacturing methods and standards and the stability of the substance and dosage form must be presented. Production methods and quality control procedures must be in place to ensure an acceptably pure product, essentially free of contamination, and to ensure uniformity with respect to all quality aspects.

     Provided the TPP does not reject an IND submission, clinical trials can begin. Clinical trials are carried out in three phases or a combination thereof. Phase I involves studies to evaluate toxicity in humans. The new drug is administered to human patients who have met the clinical trial entry criteria to determine pharmacokinetics, human tolerance and prevalence of adverse side effects. Phases II and III involve therapeutic studies. In Phase II, efficacy, dosage, side effects and safety are established in a small number of patients who have the disease or disorder that the new drug is intended to treat. In Phase III, there are controlled clinical trials in which the new drug is administered to a large number of patients who are likely to receive benefit from

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the new drug. In Phase III, the effectiveness of the new drug is compared to that of standard accepted methods of treatment in order to provide sufficient data for the statistical proof of safety and efficacy for the new drug.

     If clinical studies establish that a new drug has value, the manufacturer submits a NDS application to the TPP for marketing approval. The NDS contains all information known about the new drug, including the results of pre-clinical testing and clinical trials. Information about a substance contained in an NDS includes its proper name, its chemical name, details on its method of manufacturing and purification and its biological, pharmacological and toxicological properties. The NDS also provides information about the dosage form of the new drug, including a quantitative listing of all ingredients used in its formulation, its method of manufacture, packaging and labelling, the results of stability tests, and its diagnostic or therapeutic claims and side effects, as well as details of the clinical trials to support the safety and efficacy of the new drug. All aspects of the NDS are critically reviewed by the TPP. If an NDS is found satisfactory, a notice of compliance is issued permitting the new drug to be sold.

     The TPP has a policy of priority evaluation of new drug submissions for all drugs intended for serious or life-threatening diseases for which no drug product has received regulatory approval in Canada and for which there is reasonable scientific evidence to indicate that the proposed new drug is safe and may provide effective treatment.

     The monitoring of a new drug does not cease once it is on the market. For example, a manufacturer of a new drug must report any new information received concerning serious side effects, as well as the failure of the new drug to produce desired effects. As well, if the TPP determines it to be in the interest of public health, a notice of compliance for a new drug may be suspended and the new drug may be removed from the market.

     An exception to the foregoing requirements relating to the manufacture and sale of a new drug is the limited authorization that may be available in respect of the sale of new drugs for emergency treatment. Under the special access program, the TPP may authorize the sale of a quantity of a new drug for human use to a specific practitioner for the emergency treatment of a patient under the practitioner’s care. Prior to authorization, the practitioner must supply the TPP with information concerning the medical emergency for which the new drug is required, such data as is in the possession of the practitioner with respect to the use, safety and efficacy of the new drug, the names of the institutions at which the new drug is to be used and such other information as may be requested by the TPP. In addition, the practitioner must agree to report to both the drug manufacturer and the TPP the results of the new drug’s use in the medical emergency, including information concerning adverse reactions, and must account to the TPP for all quantities of the new drug made available.

     The Canadian regulatory approval requirements for new drugs outlined above are similar to those of other major pharmaceutical markets. While the testing carried out in Canada is often acceptable for the purposes of regulatory submissions in other countries, supplementary testing may be requested by individual regulatory authorities during their assessment of any submission. There can be no assurance that the clinical testing conducted under the TPP authorization or the approval of regulatory authorities of other countries will be accepted by regulatory authorities outside Canada or such other countries.

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United States

     In the United States, the manufacture and sale of new drugs are controlled by the FDA. New drugs require FDA approval of a marketing application (e.g., an NDA or product licence application) prior to commercial sale. To obtain marketing approval, data from adequate and well-controlled clinical investigations, demonstrating to the FDA’s satisfaction a new drug’s safety and effectiveness for its intended use, are required. Such data are generated in studies conducted pursuant to an IND submission, similar to that required in Canada. As in Canada, clinical studies are characterized as Phase I, Phase II and Phase III trials or a combination thereof. In a marketing application, the manufacturer must also demonstrate the identity, potency, quality and purity of the active ingredients of the new drug involved, and the stability of those ingredients. Further, the manufacturing facilities, equipment, processes and quality controls for the new drug must comply with the FDA’s cGMP regulations for drugs or biologic products both in a pre-licensing inspection before product licensing and in subsequent periodic inspections after licensing. In the case of a biologic product, an establishment licence must be obtained prior to marketing and batch releasing.

     A five-year period of market exclusivity for a drug comprising a New Chemical Entity (“NCE”) is available to an applicant that succeeds in obtaining FDA approval of a NCE, provided the active ingredient of the NCE has never before been approved in a NDA. During this exclusivity period, the FDA may not approve any abbreviated application filed by another sponsor for a generic version of the NCE. Further, a three-year period of market exclusivity for a new use or indication for a previously approved drug is available to an applicant that submits new clinical studies that are essential to support the new use or indication. During the latter period of exclusivity, the FDA may not approve an abbreviated application filed by another sponsor for a generic version of the product for that use or indication.

     The FDA has “fast track” regulations intended to accelerate the approval process for the development, evaluation and marketing of new drugs used to diagnose or treat life-threatening and severely debilitating illnesses for which no satisfactory alternative therapies exist. “Fast track” designation affords early interaction with the FDA in terms of protocol design, and permits, although it does not require, the FDA to issue marketing approval after completion of early stage clinical trials (although the FDA may require subsequent clinical trials or even post-approval efficacy studies).

Mexico

     In Mexico, the manufacture and sale of new drugs are controlled by the SSA. The regulatory requirements in Mexico operate under similar regulatory principles as other international jurisdictions.

Summary

     The process of completing clinical trials and obtaining regulatory approval for a new drug takes a number of years and require the expenditure of substantial resources. Once a new drug or product licence application is submitted, there can be no assurance that a regulatory agency will review and approve the application in a timely manner. Even after initial approval has been obtained, further studies, including post-marketing studies, may be required to provide additional data on safety necessary to gain approval for the use of the new drug as a treatment for clinical indications other than those for which the new drug was initially tested. Also, regulatory agencies may require post-marketing surveillance programs to monitor a new drug’s side effects. Results of post-marketing programs may limit or expand the further marketing of new drugs. A serious

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safety or effectiveness problem involving an approved new drug may result in a regulatory agency requiring withdrawal of the new drug from the market and possible civil action.

     In addition to the regulatory product approval framework, biotechnology companies, including the Company, are subject to regulation under local provincial, state and federal law, including requirements regarding occupational safety, laboratory practices, environmental protection and hazardous substance control, and may be subject to other present and future local, provincial, state, federal and foreign regulation, including possible future regulation of the biotechnology industry.

Regulatory Strategy

     The Company’s overall regulatory strategy is to work with the TPP in Canada, the FDA in the United States, the EMEA in Europe, the SSA in Mexico and any other local regulatory agencies to have drug applications approved for use of VIRULIZIN®, GTI-2040, GTI-2501, and NuChem analogues in clinical trials (alone and/or in combination with chemotherapeutic compounds) and subsequently for sale in international markets. Where possible, the Company intends to take advantage of opportunities for accelerated consideration of drugs designed to treat rare and serious or life-threatening diseases. The Company also intends to pursue priority evaluation of any application for marketing approval filed in Canada, the United States, the European Economic Community or Mexico. The Company also intends to file additional drug applications in other markets where commercial opportunities exist. There can be no assurance that the Company will be able to pursue these opportunities successfully.

Co-Development, Marketing and Distribution

     The Company’s objective is to maximize the therapeutic value and potential commercial success of VIRULIZIN®, its antisense technology, and the NuChem analogues. In its efforts to obtain the greatest return on its investment in each drug candidate, the Company separately evaluates the merits of each candidate throughout the development process and will consider commercialization opportunities when appropriate. The Company intends to partner with pharmaceutical companies for the sales, marketing and distribution of the Company’s products.

     The Company has a variety of academic partnerships including: Hospital for Sick Children; McGill University; Ontario Cancer Institute; United States NCI; University of Western Ontario, and the University of Chicago Cancer Center.

     In July 2000, the Company entered into a five year agreement with AVI BioPharma Inc. (“AVI”) Portland, Oregon, U.S.A. (a leading U.S. company in the area of antisense technology) for the evaluation and co-development of antisense drug therapies for cancer and infectious diseases. Under the terms of the agreement, the Company and AVI will each retain an ownership interest in any jointly developed compound. Drugs discovered together may also be developed independently with royalty payments to the other party.

     In September 2001, the Company executed a licence and distribution agreement with Mayne Pharma Inc. (formerly Faulding Canada Inc.). Mayne Pharma will distribute and sell VIRULIZIN® in Mexico for the treatment of malignant melanoma. Under the terms of the agreement, Mayne Pharma has exercised its option to obtain the rights to distribute and sell VIRULIZIN® in Brazil and also for Argentina. The Company will arrange for the manufacture of VIRULIZIN® and receive a royalty on sales.

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Competition

     The biotechnology and pharmaceutical industries are characterized by rapidly evolving technology and intense competition. There are many companies in both these industries that are focusing their efforts on activities similar to those of the Company. Some of these are companies with established positions in the pharmaceutical industry and may have substantially more financial and technical resources, more extensive research and development capabilities, and greater marketing, distribution, production and human resources than the Company. In addition, the Company may face competition from other companies for opportunities to enter into collaborative agreements with biotechnology and pharmaceutical companies and academic institutions. Many of these other companies are not solely focused on cancer, as is the mission of the Company’s drug development. The Company specializes in the development of drugs that will help manage cancer. With products in late stage pre-clinical through to Phase III development, spanning three different platform technologies focused on cancer, the Company believes it has multiple opportunities for success.

     Products that may compete with the Company’s include chemotherapeutic agents, monoclonal antibodies, antisense therapies and immunotherapies with novel mechanisms of action. These are drugs that are delivered by specific means and are targeting cancers with large disease populations. The Company also expects it may experience competition from established and emerging pharmaceutical and biotechnology companies that have other forms of treatment for the cancers targeted by the Company. There are many drugs currently in development for the treatment of cancer that employ a number of novel approaches for attacking these cancers. Cancer is a complex disease with more than 100 indications requiring drugs for treatment. The drugs in competition with the Company’s drugs have specific targets for attacking the disease, targets which are not necessarily the same as the Company’s. These competitive drugs therefore could potentially also be used together in combination therapies with the Company’s drugs to manage the disease.

C.   Organizational Structure

     Lorus’ subsidiaries are GeneSense, a company incorporated under the laws of Canada of which the Company owns 100% of the issued and outstanding share capital and NuChem, a company incorporated under the laws of Ontario of which Lorus owns 80% of the issued and outstanding common share capital.

D.   Property, Plants and Equipment

     The Company’s head office, which occupies 20,500 square feet, is located at 2 Meridian Road, Toronto, Ontario. The premises include approximately 8,000 square feet of laboratory and research space.

Item 5.   Operating and Financial Review and Prospects

A.   Operating Results

     The following discussion should be read in conjunction with the audited consolidated financial statements and notes prepared in accordance with Canadian generally accepted accounting principles (GAAP). The Company also identifies significant differences between Canadian and United States GAAP in note 13 to the consolidated financial statements. All amounts are expressed in Canadian dollars unless otherwise noted. Annual references are to the Company’s fiscal years which end on May 31.

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     The Company is a biopharmaceutical company specializing in the research, development and commercialization of pharmaceutical products and technologies for the management of cancer. With products in all stages of evaluation, from preclinical through Phase III trials, and a product approved in Mexico for malignant melanoma, the Company is a leader in the development of therapeutics that seek to manage cancer with efficacious non-toxic compounds that improve patients’ quality of life.

     The success of the Company depends on the efficacy and safety of its products in clinical trials and on obtaining the necessary regulatory approvals to market its products. The Company believes that the treatment and management of cancer will continue to be addressed through combinations of different therapies. Many cancer drugs currently approved for use are very toxic with severe side effects. The Company is a leader in the development of cancer drugs with low toxicity. Effective drugs with lower toxicity and fewer side effects could have broad application in cancer treatment while improving the quality of life of a patient with cancer.

     The Company’s strategy is to pursue the development of drug candidates using several therapeutic approaches, dependent upon different technologies, which mitigates the development risks associated with a single technology platform. The Company’s most advanced anticancer drugs in its pipeline flow from three platform technologies: Immunotherapeutics (Virulizin®); Antisense (GTI compounds); and small molecule or Chemotherapeutics (NuChem compounds).

Critical Accounting Policies

     We periodically review our financial reporting and disclosure practices and accounting policies to ensure that our financial reporting and disclosure system provided accurate and transparent information relative to current economic and business environment. As part of this process, we have reviewed our selection, application and communication of critical accounting policies and financial disclosures. We have determined that our critical accounting policies relating to our core ongoing business activities are primarily those that relate to our research and development programs. Other important accounting policies are described in Note 2 to our consolidated financial statements for the year ended May 31, 2002.

     Research and Development

     The Company incurs research and development costs in connection with advancing its compounds through pre clinical and clinical trials. Research and development costs include internal resource costs as well as external suppliers for the manufacturing of drugs and for the performance of clinical trials and other related activities. Research costs are charged to expense as incurred as required under generally accepted accounting principles. Development costs, including the cost of drugs for use in clinical trials, are expensed as incurred unless they meet the criteria under generally accepted accounting principles for deferral and amortization. To date, no development costs have been capitalized, as the criteria for capitalization have not been met. The Company does not believe that any development costs will be capitalized over the next twelve months given the current stage of our drug development programs and the planned activities for fiscal 2003.

     The Company capitalizes costs of acquired research and development from third parties. The Company assesses the nature of the underlying assets acquired to determine if the asset has an indefinite life. If the asset has an indefinite life, the acquired asset is not amortized but is instead tested annually for impairment. If the asset is determined to have a finite life, the acquired asset is amortized over its expected useful life.

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Results of Operations

     The Company has incurred annual operating losses since inception related to the research, manufacturing, and clinical development of its proprietary compounds. The Company has not received any revenue from the sales of products to date. Three products are in the clinical trial stage of development and several potential compounds exist in preclinical studies. Losses will continue as the Company invests in these preclinical research and clinical drug development programs.

Research and Development

     Research and development expenditures totaled $8.7 million in 2002 compared to $9.8 million in 2001 and $4.2 million in 2000. The decrease in 2002 from 2001 resulted from the cost of antisense drugs purchased in 2001 which are being used in fiscal 2002 and future years, but were expensed when purchased. This decrease in cost more than offset the increased expenditures in 2002 for an expanded clinical program including the Phase III Virulizin® clinical trial, Phase II GTI-2040 combination chemotherapy trial and Phase I GTI-2501 trial. Regulatory costs were also higher in 2002 due mainly to the initiation of the Phase III clinical trial in the United States. The increase in 2001 over 2000 was due mainly to the cost of antisense and Virulizin® drug development programs, the operating costs of the Company’s research facilities and the amortization of acquired research and development for a full year in 2001 compared to seven months post-acquisition of GeneSense in 2000.

General and Administrative

     General and administrative expenses totaled $4.9 million in 2002 compared to $6.4 million in 2001 and $3.7 million in 2000. The decrease in 2002 expenses over 2001 was due mainly to lower spending on patent fees and advisory services as well as lower recruiting costs. The 2001 results include a full year of administration costs related to GeneSense compared to seven months in 2000, with higher costs relating to intellectual property, recruiting and advisory services, and licensing activities.

Depreciation and Amortization

     Depreciation and amortization expenses totaled $2.0 million in 2002 compared to $1.9 million in 2001 and $1.2 million in 2000. The increase in 2002 and 2001 over 2000 related primarily to the amortization of goodwill established on the acquisition of GeneSense for twelve months in 2001 and seven months in 2000. Consistent with the application of new accounting pronouncements the Company will not amortize goodwill in future periods and will be assessing acquired intangible assets to determine if continued amortization is appropriate.

Interest Income

     Interest income totaled $2.0 million in 2002 compared to $2.9 million in 2001 and $0.5 million in 2000. The decrease in 2002 compared to 2001 was due to lower cash and short-term investment balances in 2002 and the decline in market interest rates. The increase in 2001 over 2000 was due primarily to a higher average cash and investment balance than the previous year. Net cash proceeds of $61.1 million were raised from the issue of common shares and the exercise of warrants in 2000, with $42.0 million of this raised in the last month of 2000.

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Loss for the Period

     The loss for the year totaled $13.5 million in 2002 compared to $15.2 million in 2001 and $8.6 million in 2000. The decrease in 2002 from 2001 was primarily due to reduced spending on general and administrative expenses and net spending reductions on research and development activities due to lower drug purchases partially offset by lower interest income. The increase in 2001 over 2000 resulted mainly from higher clinical development costs, which included higher trial initiation and monitoring costs, manufacturing and regulatory costs in preparation for the Virulizin® phase III trial and antisense drug costs. Additionally, 2001 results included twelve months of research and development costs, amortization of acquired research and development and goodwill, and administration costs related to the GeneSense Acquisition compared to seven months in 2000.

     The loss per common share was $0.09 in 2002 compared to $0.11 in 2001 and $0.10 in 2000. The loss per share in each year was comparable although the average number of shares increased significantly in 2001 over 2000.

Financial Summary

     The following table summarizes selected unaudited quarterly financial data over the past two fiscal years ended May 31 in each year. The information should be read in conjunction with the Company’s consolidated financial statements and related notes. The operating results for any quarter are not necessarily indicative of results for any future period.

Fiscal 2002

Fiscal 2001

B.   Liquidity and Capital Resources

     Since inception, the Company has financed its operations and technology acquisitions primarily from equity financing, the exercise of warrants and stock options, and interest income on funds held for future investment. The Company believes that its available cash, cash equivalents and short-term investments, and the interest earned thereon, should be sufficient to finance its operations and capital needs for at least the next twelve months.

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Financing

     In 2002, the Company issued common shares on the exercise of stock options and warrants for proceeds of $1.4 million. In 2001, the Company issued common shares on the exercise of warrants and stock options, and under the alternate compensation plan in the aggregate amount of $2.0 million.

     In 2000, the Company raised gross proceeds of $64.5 million from two public offerings and the exercise of outstanding warrants, and completed a major acquisition through the issuance of common shares. In October 1999, the Company issued 36,050,000 common shares and converted existing GeneSense warrants to new warrants for the acquisition of GeneSense valued at $14.8 million. These new warrants were exercised in early 2000 for gross proceeds of $5.0 million. Cash paid on the acquisition of GeneSense net of cash received totaled $0.5 million.

     In May 2000, the Company issued 15,333,334 common shares at $3.00 per share for gross proceeds of $46.0 million. Additional warrant exercises during 2000 provided an additional $3.5 million in cash proceeds.

Operating Cash Requirements

     The Company’s cash burn (cash used in operating activities) totaled $11.9 million in 2002 compared to $9.7 million in 2001 and $5.4 million in 2000. The cash burn increased in 2002 over 2001 mainly due to changes in the timing of accounts payable partially offset by reduced expenditures in operating activities. The cash burn increased in 2001 over 2000 due mainly to a higher level of research and development activity and higher clinical development costs. In 2001 research and development expenses and general and administrative costs increased also due to a full year of costs related to GeneSense activities compared to seven months in 2000.

     The Company’s cash burn is expected to increase in 2003 due to increased clinical development activity.

Cash Position

     At May 31, 2002 the Company had cash and cash equivalents and short-term investments totaling $37.8 million compared to $48.8 million at the end of 2001. The Company invests in highly rated and liquid government and corporate debt instruments. Investment decisions are made in accordance with an established investment policy administered by senior management and overseen by the Board of Directors.

     Working capital (representing primarily cash and cash equivalents and short-term investments) at May 31, 2002 was $35.6 million ($44.5 million in 2001). The Company does not expect to generate a positive cash flow from operations for several years due to substantial additional research and development costs, including costs related to drug discovery, preclinical testing, clinical trials, manufacturing costs and operating expenses associated with supporting these activities. The Company may need to raise additional capital to fund operations over the long-term.

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     The Company intends to raise additional funds through equity financings, collaborative arrangements, acquisitions or otherwise. The Company may seek to access the public or private equity markets from time to time, even if it does not have an immediate need for additional capital at that time.

     The Company intends to use its resources to fund its existing drug development programs and develop new programs from its portfolio of preclinical research technologies. The amounts actually expended for research and drug development activities and the timing of such expenditures will depend on many factors, including the progress of the Company’s research and drug development programs, the results of preclinical and clinical trials, the timing of regulatory submissions and approvals, the ability of the Company to establish collaborative research or drug development arrangements with other organizations, the impact of any in-licensed or acquired technologies, the impact from technological advances, determinations as to the commercial potential of the Company’s compounds, and the timing and status of competitive products.

Risks and Uncertainties

     Funding needs may vary depending on many factors including: the progress and number of research and drug development programs; costs associated with clinical trials and the regulatory process; costs related to maintaining drug manufacturing sources; costs of prosecuting or enforcing patent claims and other intellectual property rights; collaborative and license agreements with third parties; and opportunities to in-license or acquire new products.

     The Company’s interest income is subject to fluctuations due to changes in interest rates in its investment portfolio of debt securities. Investments are held to maturity and have staggered maturities to minimize interest rate risk.

     The Company purchases some services and manufactured drugs in U.S. currency, and conducts clinical trials in the United States. U.S. dollar expenditures are expected to increase in 2003 from additional clinical activity in the United States. The Company does not currently engage in hedging its U.S. currency requirements to reduce exchange rate risk, but may do so in the future if conditions warrant.

Recent Accounting Pronouncements

     In August 2001, the Canadian Accounting Standards board (“AcSB”) issued Handbook Section 1581, “Business Combinations”, and Handbook Section 3062, “Goodwill and Other Intangible Assets”. Section 1581 requires that all business combinations be accounted for by the purchase method and it sets out criteria in determining the valuation and allocation of the purchase price in a business combination to tangible assets, intangible assets and goodwill. Section 3062 requires that goodwill no longer be amortized to earnings, but instead be periodically reviewed for impairment. Section 3062 also requires that intangible assets be assessed to determine if they have an estimated useful life or whether they have an indefinite life. Intangible assets that have an estimated useful life will continue to be amortized systematically over the useful life. Intangible assets with indefinite useful lives are not to be amortized but are instead to be tested for impairment annually.

     Upon adoption of the new Section 3062 in fiscal 2003, the Company must perform transitional impairment tests on goodwill and intangible assets with indefinite lives. Any impairment losses are to be measured as of the date of adoption. Impairment losses assessed on transition, if any, will be recorded as an adjustment to retained earnings. The impact of adopting Section 1581 and 3062 has not yet been determined.

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     In July 2001, the U.S. Financial Accounting Standards Board (“USAcSB”) issued Statement of Financial Accounting Standard (“SFAS”) No. 141, “Business Combinations” and SFAS 142 “Goodwill and Other Intangible Assets” which are consistent with Sections 1581 and 3062, respectively, except for certain remaining generally accepted accounting principles differences, including the accounting for purchased in-process research and development and the recording of any impairment charge determined on transition as a period cost which are required under U.S. GAAP.

     In December 2001, the AcSB issued Handbook Section 3870 “Stock-Based Compensation and Other Stock-Based Payments”. Section 3870 establishes standards for the recognition, measurement, and disclosure of stock-based compensation and other stock-based payments made in exchange for goods and services provided by employees and non-employees. It applies to transactions in which common shares, stock options, or other equity instruments are granted or liabilities incurred based on the price of common stock or other equity instruments.

     The Company will adopt Section 3870 for its fiscal year beginning June 1, 2002. The Company does not believe that the adoption of this standard will have a material impact on the Company’s financial condition or results of operations as the Company’s current accounting policies, as disclosed above, comply with the new standard.

U.S. and Canada GAAP Difference

     The Company’s financial statements have been prepared in accordance with generally accepted accounting principles as applied in Canada. In certain respects, GAAP as applied in the United States differs from that applied in Canada.

     SFAS 123 Employee Stock Compensation

     SFAS No. 123 encourages, but does not require, the recording of compensation costs for stock options issued to employees to be valued at fair value. For companies choosing not to adopt the fair value measurement for stock based compensation, the pronouncement requires the Company to disclose pro forma net income and earnings per share information as if the Company had accounted for its stock options under the fair value method since 1995. The Company has elected not to adopt the recording of compensation costs for stock options at fair value and, accordingly, a summary of the pro forma impact on the statement of loss is presented in the table below:

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     The fair value of each option granted has been estimated at the date of grant using the Black-Scholes option pricing model with the following assumptions used for options granted in the years ended May 31, 2002, 2001, and 2000: (i) dividend yield of 0%; (ii) expected volatility of 80% (2001 — 95%, 2000 — 95%); (iii) risk-free interest rate of 3.6% (2001 — 5.4%, 2000 — 6.0%) and (iv) expected lives of 5 years. The Company has assumed no forfeiture rate as adjustments for actual forfeitures are made in the year they occur. The weighted-average grant-date fair values of options issued in the years ended May 31, 2002, 2001, and 2000 were $ 0.71, $1.56, and $0.60 respectively.

     SFAS 130 Reporting Comprehensive Income

     SFAS No. 130 establishes standards for reporting and presentation of comprehensive income. This standard defines comprehensive income as the changes in equity of an enterprise except those resulting from shareholder transactions. Comprehensive loss for the periods presented in the Company’s financial statements equaled the loss for the period.

C.   Research and Development, Patents and Licenses, etc.

     See Note 8 to the Financial Statements at Item 17.

Cancer Therapy Technologies

Cancer Biotherapy

     Chemotherapeutic drugs have been a major medical treatment for cancer for the past 30 years. However, a wide range of new cancer drugs have been developed by biotechnology companies that help improve patients’ quality of life. Unlike chemotherapies which are chemically based, these new drugs are biological, based on naturally occurring proteins or genetic material. The biotherapies in development include immunotherapy, gene therapy, and angiogenesis inhibitors. While chemotherapy drugs are typically toxic and delivered systemically, these biological agents are targeted to the tumor and, more specifically, to individual molecules or genes. These agents promise to have few and only mild side effects which means that, in theory, larger, and therefore more effective, doses can be administered.

     The Company’s lead products span three classes of anti-cancer therapies: (i) immunotherapy, based on macrophage stimulating biologic response modifiers; (ii) antisense therapies, based on synthetic segments of DNA designed to bind to the messenger RNA (mRNA) that is responsible for the production of proteins over-expressed in cancer cells, and (iii) small molecule chemotherapies based on anti-angiogenic, anti-proliferative and anti-metastatic agents. The Company has a number of other anti-cancer technologies in the research and pre-clinical stages of development, including gene therapy and U-Sense technology.

     The Company’s product pipeline is illustrated below, summarizing the stage of development of the Company’s products.

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PRODUCT PIPELINE

PRINCIPAL PRODUCTS

     Immunotherapy

VIRULIZIN®

     Immunotherapy is a form of treatment that stimulates the body’s immune system to fight diseases such as cancer. Immunotherapy may help the immune system to fight cancer by recognizing the difference between healthy cells and cancer cells, or it might stimulate the production of certain cancer fighting cells. VIRULIZIN® has been shown to be a non-toxic immunotherapy that recruits monocytes and macrophages to attack tumor cells. Since the drug works by encouraging the immune system to attack the cancer, rather than killing the cancerous cells itself, it can demonstrate fewer negative side effects than commonly used chemotherapy agents.

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     The human immune system and the body’s other protective cellular and molecular systems constitute a complex network of organs, tissues and cells which protect the body against foreign substances such as viruses, foreign tissue and cancer. Appropriate immune system response is critical to both health and survival. When the immune system functions properly, the system recognizes and effectively eliminates foreign substances. Conversely, inadequate or suppressed immune function may result in disease and, possibly, death. When inadequate or suppressed immune function occurs, modification or enhancement of the immune system may restore normal function. Immune system modification or enhancement may be achieved through the use of therapeutic products that stimulate or activate the immune system to achieve a desired response.

     In recent years, a major focus of the biotechnology industry has been to develop naturally occurring human therapeutics, which are referred to broadly as biologic response modifiers (“BRMs”), and are so described because they are able to influence certain cellular events in the body. Many different substances are classified as BRMs and they have varied biological activities. Some of the major categories of BRMs include interferons (naturally occurring proteins capable of killing cancer cells or inhibiting their growth), interleukins (growth factors that stimulate cells of the immune system to fight cancer) and cytokines (substances produced by immune system cells, usually to send messages to other cells). BRMs have applications in a variety of diseases, including cancer, and are currently being employed in the area of cancer immunotherapy. BRMs may be used alone, in various combinations with other BRMs, or as adjuncts to other therapies.

     VIRULIZIN®, the Company’s immunotherapeutic drug, has been shown to be a non-toxic immunotherapy that recruits monocytes and macrophages to attack tumor cells. Types of white blood cells, monocytes and macrophages are key players in the immune response to foreign invaders, including tumor cells. When macrophages and monocytes are activated, they produce proteins called cytokines, which have the ability to kill tumor cells directly. VIRULIZIN® stimulates the release of tumor necrosis factor (TNF-alpha), one type of cytokine, in immune cells to induce apoptosis (programmed cell death) of tumor cells. It is likely that the drug works by encouraging the immune system to attack the cancer, rather than killing the cancerous cells itself, studies suggest that VIRULIZIN® produces fewer negative side effects than commonly used chemotherapy agents.

     Pre-clinical Testing

     Toxicity studies conducted at independent laboratories have shown VIRULIZIN® to have a good safety profile. No demonstrable LD₅₀ was determined during these studies, and repeated administrations of VIRULIZIN® did not result in organ system toxicities. In November 1998, additional preclinical data on the efficacy of VIRULIZIN® was obtained from studies performed at the University of Nebraska Medical Center. The Company performed these supporting studies to determine the efficacy of VIRULIZIN® in connection with gemcitabine, an Eli Lilly product that is the standard for first-line treatment of pancreatic cancer, in a human tumor xenograft model commonly used for pancreatic cancer. After extended daily administration, VIRULIZIN® significantly inhibited tumor growth in this model compared to a placebo. VIRULIZIN® also showed a trend towards an additive anti-tumor activity when combined with gemcitabine.

     In January 2001, the Company reported that VIRULIZIN® demonstrated better anti-tumor activity in mice containing human breast cancer tumor cells than Taxol, one of the current standard treatments available for breast cancer. Additional findings revealed that the most outstanding anti-tumor activity occurred when VIRULIZIN® and Taxol were used in combination. Also, in August 2001, the Company announced pre-clinical results of VIRULIZIN® at the international conference, Drug Discovery Technology 2001. The results

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of four independent tests with mice inoculated with human large cell lung carcinoma cells, small cell lung carcinoma cells, ovarian adenocarcinoma cells and prostatic carcinoma cells showed significant improvement over the current standard of treatment or the saline control.

     Clinical Development Program

     The clinical trials conducted by the Company were primarily established to determine the safety and efficacy of VIRULIZIN® as a single therapeutic agent for treating the most serious or life threatening cancer indications. These clinical trials involved Stage III and Stage IV cancer patients who had been diagnosed with cancers that were life-threatening and for which there were no established effective therapies. Approximately 250 patients had been enrolled in the clinical trials conducted in the United States, Canada, and Mexico and others have received VIRULIZIN® through the Company’s special access program.

     The Company received orphan drug designation from the United States Food and Drug Administration (“FDA”) in February 2001 for VIRULIZIN® in the treatment of pancreatic cancer. Orphan drug status is awarded to drugs used in the treatment of a disease that afflicts less than 200,000 patients annually in the U.S. to encourage research and testing. This status means that the FDA will help to facilitate the drug’s development process by providing financial incentives and granting seven years of market exclusivity in the U.S. (independent of patent protection) upon approval of the drug in the United States.

     The Company has initiated a Phase III clinical trial to evaluate VIRULIZIN® for the treatment of advanced pancreatic cancer. The Company intends to present the results of this clinical trial to the FDA in a new drug application at the completion of the study. This double-blind, randomized clinical trial is designed to be conducted at approximately 40 North American medical centres with the goal of enrolling 350 patients with advanced pancreatic cancer. Patients enrolled in the study will be randomised to receive either treatment with gemcitabine or treatment with gemcitabine in combination with VIRULIZIN®. Those patients who fail or become resistant to gemcitabine will then be treated with 5-Fluorouracil (5-FU) or with 5-FU in combination with VIRULIZIN®. The Company’s study protocol provides that all study subjects will be monitored throughout the remainder of their lifespan. The end points of the study will be survival and clinical benefits, and the duration is expected to be approximately four years. If the trial is successful, the Company intends to file an NDA with the FDA.

     In June 2002, the Company announced that the FDA had granted “fast track designation” for VIRULIZIN® in the treatment of pancreatic cancer. This designation means that the FDA will assist in facilitating the development and expediting the review of VIRULIZIN®. Drugs given a fast track designation are intended for the treatment of a life-threatening condition and have demonstrated the potential to address unmet medical needs. Fast track products usually meet the FDA’s criteria for priority review.

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     Clinical Trial Results

     In September 1992, the Company completed a Phase II clinical trial of VIRULIZIN® in Canada for the treatment of pancreatic adenocarcinoma. Pancreatic adenocarcinoma develops in the glands that produce enzymes that travel through the pancreatic duct to the small intestine to aid digestion. Approximately 90% of pancreatic cancers are pancreatic adenocarcinomas. The historic median survival from date of diagnosis for late stage pancreatic adenocarcinoma patients is approximately 120 days with a one-year survival rate of 13.8% (Brijir Gudjonsson, “Cancer of the Pancreas — 50 Years of Surgery” (1987) 60 Cancer 2284). In the Company’s Phase II clinical trial, the median survival for advanced pancreatic adenocarcinoma patients with an expectation of at least three months survival treated with VIRULIZIN® was 219 days, and the one-year survival rate was 35%. Disease stabilization was reported in 35% of the evaluable patients for more than three months. None of these patients developed any clinical or laboratory evidence of drug-related toxicity ((1994) 17 Clinical Investigative Magazine 37-41).

     In September 1993, the Company completed a Phase II clinical trial of VIRULIZIN® in Mexico in the treatment of advanced malignant melanoma. Advanced malignant melanoma is a type of skin cancer with a tendency to spread via the lymphatic system and blood supply to other organs and tissues. The historic median survival from the date of diagnosis of advanced malignant melanoma was 93 days with a one-year survival rate of 13% (C.M. Balch, et al., eds., Cutaneous Melanoma, 2nd ed. (Philadelphia: J.B. Lippincott, 1992)). In the Company’s Phase II trial, the median survival from the date of diagnosis for advanced malignant melanoma patients treated with VIRULIZIN® was 396 days and the one-year survival rate was 54%. Only a few mild to moderate adverse events related to treatment with VIRULIZIN® were reported including pain at the injection site and fever. The interim results from this multi-center Phase II clinical trial were presented at the Baylor College of Medicine Research Symposium in April 1993. Based upon the results of the Mexican trial, the Company filed an NDA in November 1996, to obtain marketing approval of VIRULIZIN® in Mexico as a treatment for advanced malignant melanoma. In October 1997, the Company received a license from the SSA to sell VIRULIZIN® in Mexico in the private market for the treatment of malignant melanoma.

     In August 1998, the Company released results of the Phase I/II trial evaluating VIRULIZIN® in patients with pancreatic cancer at the Rush Cancer Institute. Of the 26 patients enrolled, 19 were deemed evaluable according to the study protocol. The Company announced that the overall median survival for all evaluable patients was 6.7 months and the six-month survival rate was 58%. These results confirm and extend previous studies performed by the Company in Canada in pancreatic cancer patients. Results of the current study have also shown that VIRULIZIN® continues to show an excellent safety profile, and there is an increasing trend and a statistically significant improvement in total quality-of-life change score.

     The first peer-reviewed presentation of the U.S. preclinical and clinical trial results of VIRULIZIN® was presented at the 90th Annual Meeting of the American Association for Cancer Research (the “AACR”) in Philadelphia on April 13, 1999. A scientific abstract, entitled “A Novel Immunotherapeutic Agent for Pancreatic Cancer: Results of Preclinical and Clinical Trials Using VIRULIZIN®” was submitted to the AACR in October 1998. During the AACR meeting, it was announced that in a preclinical study in mouse models of human pancreatic cancer, VIRULIZIN® significantly inhibited tumor growth. Among treated mice, tumors were only 60% of the size of the tumors in the untreated mice. The response was even greater when the chemotherapeutic agent gemcitabine was added to the treatment, with tumors in the treated mice only 26% of the size of the tumors in the untreated mice.

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     Future Applications

     The Company believes that in vitro and in vivo research supports the therapeutic potential of VIRULIZIN® in the treatment of diseases associated with immune system disorders other than cancer. The Company previously sponsored research studies at Rush-Presbyterian-St. Luke’s Medical Center in Chicago to study the potential of VIRULIZIN® in the treatment of endometriosis. The Company’s scientists have also conducted pre-clinical research in the use of VIRULIZIN® in combination with known cytotoxic or chemotherapeutic agents in the treatment of cancer. The Company intends that the results from these studies will form the basis for a potential clinical program of VIRULIZIN® in combination with other cancer therapeutic agents. However, there can be no assurance that the Company will enter into this clinical program.

     In April 2002, the Company presented data supporting both the mechanism of action and the characterization of VIRULIZIN®, at the American Association for Cancer Research Conference. This knowledge of the composition of VIRULIZIN® has enabled the Company to initiate a pre-clinical research program for the development of novel immunotherapeutic products. One such product has recently been tested in vivo and compared to VIRULIZIN® for anticancer activity. Results from these pre-clinical tests indicated that VIRULIZIN® and the new immunotherapeutic product exhibited strong antitumor activity in mouse models with human pancreatic carcinoma tumors.

Antisense therapies

     Many chemotherapeutic drugs are chemicals designed to induce or inhibit the function of a target molecule, typically an enzyme or receptor. The selectivity of these drugs is usually determined by only a few, generally two or three, points of interaction at the binding site of a target molecule. Frequently, sites on other non-target molecules resemble the target-binding site sufficiently to permit the conventional drug to bind to some degree. This indiscriminate affinity or lack of specificity can result in decreased efficacy, unwanted side effects, and increased toxicity. Overcoming these limitations has been a primary goal for recent anti-cancer drug development. One such method involves the use of antisense therapies.

     The human metabolism is essentially controlled by proteins produced by the body. Since most human diseases, including cancer, can be traced to faulty protein production, traditional therapeutics are designed to interact with the disease causing proteins. Antisense therapeutics take a different approach to treatment: they are designed to prevent the production of the proteins causing the disease.

     Antisense oligonucleotides are synthetic segments of DNA designed to bind to the mRNA that is responsible for the production of disease-associated proteins. The sequence of nucleic acid bases in an antisense oligonucleotide is complementary to its nucleic acid target sequence on the mRNA. Thus, the antisense oligonucleotide binds at a significant number of points to the target site, and hybridizes (binds) tightly to the selected mRNA. Since a single mRNA may be translated repeatedly into a protein, a single antisense oligonucleotide may inhibit the synthesis of many copies of a protein. Moreover, in vitro tests have shown that these antisense/mRNA complexes activate enzyme activity that destroys the mRNA to which the oligonucleotide is bound, without destroying the oligonucleotide itself. This frees the oligonucleotide to bind with another identical target mRNA and repeat the inhibitory process. Furthermore, it is possible that an antisense molecule may inhibit specific expression by binding to the gene responsible for coding for the mRNA molecule preventing the mRNA molecule from being synthesized. It may also bind to an unprocessed mRNA

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molecule, preventing it from developing into a mature mRNA, or it may bind to a specific mRNA molecule preventing it from translocating from the nucleus of the cell to the cytoplasm where protein synthesis occurs.

     The main attributes of antisense therapies are specificity and rational design. As a function of the simple nucleotide base-pairing rules, therapeutic intervention using antisense compounds can be a universal approach to a number of diseases whose causative agents or targets have been characterized at the DNA level. The specificity of an antisense therapeutic is determined by the occurrence of a given nucleotide sequence. It has been calculated that a 17-mer (17 nucleotides) oligonucleotide sequence should theoretically appear only once in the human genome. Furthermore, the binding affinity between complementary strands of nucleic acids is exceptionally high. It is expected that antisense’s combination of high specificity and affinity, which is difficult to achieve with conventional protein-targeted drugs, could substantially reduce side effects due to unwanted interference with other essential cellular activities.

     The rational design of oligonucleotides aimed at the inhibition of gene expression is based on targeting nucleotide sequences. Thus, an advantage of developing antisense compounds is that the design and synthesis are relatively straightforward. The structure of 20-mer antisense oligonucleotides, which is complementary to all possible 20 base sequences within a 1,000 base mRNA sequence, is strictly defined.

     The unique premise of this therapeutic approach is to target an earlier stage of the biochemical process than is usually possible with conventional drugs. Traditional therapies usually interact with the final synthesized or processed protein, whereas this newer approach alters an earlier expression of the gene that codes for such a protein. Therefore, it is believed that drugs based on this approach may have broad applicability, greater efficacy and fewer side effects than conventional drugs.

     The effectiveness of an antisense drug is largely dependent on the protein targeted. When examining antisense targets, the Company chose ribonucleotide reductase (RNR) because of its significance in the uncontrolled cell growth associated with essentially every cancer. RNR, which is composed of two protein components called R1 and R2, is a highly regulated cell enzyme that is essential for DNA synthesis and repair. RNR catalyzes the formation of deoxyribonucleotides, which are required for building the cell’s DNA and thus responsible for cell replication. The Company’s antisense therapeutics are designed to inhibit this process, and in turn, the Company anticipates that this will inhibit the growth of tumor cells.

GTI-2040

     The Company’s lead antisense therapy is GTI-2040. GTI-2040 is an antisense agent that targets the R2 component of RNR. The R2 component is an unusually effective target for drug intervention because it is the rate-limiting component in the ribonucleotide reductase activity important for cancer cell proliferation. It is also bi-functional since an elevation in the R2 component in cancer cells also alters the activity of an important biochemical signal pathway called the MAP Kinase Pathway, which is known to play a role in mechanisms leading to the development of cancer. The Company has designed antisense molecules that specifically target the R2 mRNA, resulting in:

	•		reduced R2 protein and R2 mRNA levels in human tumor cells grown in culture;
	•		significant inhibition of tumor cell growth in vitro; and
	•		statistically significant reduction of tumor growth and tumor cell dissemination (metastasis) in animal models.

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     Since it has been noted that levels of R2 are elevated in cancer cells, an antisense molecule that binds to the mRNA coding for R2 inhibits the replication of diseased cells. Further, research indicates that reducing levels of R2 expressed in cells lowers resistance levels to other pharmaceutical compounds that might be used in combination therapy with GTI-2040.

GTI-2501

     The Company’s other antisense therapy is GTI-2501, designed to specifically target the R1 mRNA, resulting in:

	•		reduced R1 protein and R1 mRNA levels;
	•		significant inhibition of tumor cell growth in vitro;
	•		statistically significant reduction of tumor growth and tumor cell dissemination (metastasis) in animal models; and
	•		total regression in some tumor models.

     GTI-2501 is an antisense agent that targets the R1 component of human RNR and research indicates that it prevents the formation of the R1 protein required for ribonucleotide reductase activity.

     Pre-Clinical Testing

     Pre-clinical studies have demonstrated that both GTI-2040 and GTI-2501 are well tolerated in humans at concentrations that exceed therapeutic doses. All observed toxicities are consistent with phosphorothioated oligonucleotide compounds, and include increased blood clotting times as well as some signs of complement activation at high doses.

     In the presence of GTI-2040, both R2 protein and R2 mRNA levels in tumor cells in vitro were dramatically reduced. Experiments have demonstrated that GTI-2040 specifically alters the expression of its target, R2, in cancer cells. Tumor suppression in a widely accepted mouse model has been demonstrated in a variety of tumor types, including colon, pancreas, liver, lung, breast, ovarian, brain, kidney and skin. The effect on tumor suppression is statistically significant in all cases, with significance at p [less than or equal to] 0.0001 for colon, pancreas, kidney and lung cancers. These results suggest that GTI-2040 has the potential to be a strong drug candidate for the treatment of a broad range of human cancer types.

     On November 22, 1999, the Company announced results of anti-tumor studies with GTI-2040, including complete tumor regressions, when used in combination with certain chemotherapeutic agents. The results were based on in vivo studies performed using recognized human kidney cancer, colon cancer and melanoma models. The studies were performed at the Company’s research facilities at the Sunnybrook Health Sciences Centre in Toronto, Canada and have been confirmed through repeat experiments.

     The Company reported that when SCID mice bearing a human kidney cancer line were treated with a combination of GTI-2040 and two commonly used chemotherapy drugs (5-FU or vinblastine), complete tumor regression was observed in all the mice treated. The Company also reported that similar tumor regressions were observed in studies combining GTI-2040 and another commonly used chemotherapy drug, mitomycin C, in in vivo mouse models of human melanoma and human colon cancer. GTI-2040 also significantly enhanced the anti-tumor effects of other well-known anti-cancer drugs such as gemcitabine, estramustine and paclitaxel in a standard human colon carcinoma mouse model.

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     In July 2001 the Company announced that GTI-2040 demonstrated anti-tumor activity in animal models with human lymphoma tumors, adding to the already broad range of cancers in which GTI-2040 has shown anti-tumor activity.

     GTI-2501 targets R1 and has been selected as the Company’s second antisense drug candidate. Complete tumor regression was seen in mice bearing human breast and renal derived tumors. These findings have been reproduced by both academic laboratories and interested partners. The compound was also found to be highly active against a broad range of other human tumors in these animal models. On November 29, 1999, the Company reported that GTI-2501 was an effective anti-cancer agent when tested in standard mouse models bearing a variety of different human cancer lines including tumor cells derived from lung, breast, colon, kidney, ovary, pancreas and skin cancer. The greatest anti-tumor activity was found with human tumor cells derived from kidney and breast cancers treated with GTI-2501. In three independent tests using two different human kidney cancer lines, the Company observed complete tumor regressions in all 20 mice tested.

     The anti-tumor activity of both GTI-2040 and GTI-2501 was further demonstrated in mouse models containing human prostate cancer cells. In February 2000, the Company observed that while both drugs produced marked reductions in tumor growth, the GTI-2501 treatment also led to disease stabilization (i.e. very little or no tumor growth).

     Clinical Development Program

     Formal preclinical development of GTI-2040, including manufacturing and toxicology studies, was initiated in mid-1998. An IND application filed with the FDA was approved on December 7, 1999 for a Phase I/II clinical trial of GTI-2040, given as a 21-day continuous intravenous infusion in the treatment of solid tumor and lymphoma. This trial was initiated in December 1999 under the direction of Dr. Richard Schilsky of the Chicago Cancer Research Center. 30 patients with advanced or metastatic solid tumors were enrolled in this study. Phase I clinical endpoints for safety and tolerability were met. Doses ranging from 18.5 mg/m²/day to 222.0 mg/m²/day have been studied and found to display favourable safety profiles. Based on studies indicating that the R2 target would be down-regulated at concentrations of GTI-2040 of 185.0 mg/m²/day, the recommended Phase II dose for GTI-2040 administered as a single agent was 185.0 mg/m²/day. An additional six patients with renal cell carcinoma were enrolled in this study to further characterize the toxicity in this patient population.

     The Company has a Phase II program underway for GTI-2040. This program includes an open-label, non-randomized study of GTI-2040 in combination with capecitabine in patients with advanced metastatic renal cell carcinoma. This trial is being conducted by Dr. Frank Torti at Wake Forest University in North Carolina. The decision to select this drug combination (GTI-2040 and capecitabine) was based on pre-clinical and clinical studies that indicated that GTI-2040 or the combination of GTI-2040 and 5-FU, the active ingredient in capecitabine, should provide benefits for patients with renal cell carcinoma.

     In June 2002, the Company announced that it has been approved by the Drug Development Group of the Division of Cancer Treatment and Diagnosis, the National Cancer Institute (NCI), to supply the Company’s lead antisense drug, GTI-2040, for multiple clinical trials to evaluate its efficacy in a range of cancers. The NCI approved GTI-2040 after an analysis of pre-clinical, good laboratory practice toxicology and Phase I clinical data. The Company intends to work together with the NCI to select cancer indications and suitable development programs for a number of clinical trials. The NCI has also indicated it will sponsor trials conducted with GTI-2040 alone or in combination with other cancer therapies.

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     GLP-toxicology studies for GTI-2501 were completed in November 2000, and approval of an IND was received from the U.S. FDA February 2001. This Phase I dose-escalating study is underway at the University of Chicago Medical Centre and is designed to establish the recommended clinical Phase II dose as well as look at the safety profile of GTI-2501. Patients with solid tumors or lymphoma are being enrolled.

Small Molecule Chemotherapies

     Most currently employed anti-cancer chemotherapeutic drugs are DNA damaging, cytotoxic agents, designed to act on rapidly dividing cells. These drugs typically include unpleasant or even serious side-effects due to their non-specificity to cancer cells, and frequently lead to tumor-acquired drug resistance. As a result of these limitations, there is an ongoing intensive world-wide effort to discover more effective anti-cancer drugs.

     In December 1997, the Company, through NuChem, acquired certain patent rights and a sublicense from Ion to develop and commercialize the anti-cancer applications of CLT and new chemical entities related to CLT (the “NuChem Analogues”). The consideration for this acquisition was Ion’s 20% common share interest in NuChem, US$350,000 in common shares of the Company and amounts totalling up to US$3,500,000 payable in cash. On June 15, 1998, the Company issued from treasury 583,188 common shares in settlement of the US$350,000 obligation. To August 31, 1999, NuChem had made cash payments totalling $714,750 (US$500,000) to Ion. The balance is payable upon the achievement of certain milestones based on the commencement and completion of clinical trials related to the NuChem Analogues.

     All research and development activities to be undertaken by NuChem are to be funded by the Company through subscriptions for non-participating preference shares of NuChem. As at May 31, 2002, the Company had provided a total of $5,983,000 of funding to NuChem.

     NuChem has agreed to actively proceed with research and development programs relating to the NuChem Analogues. If NuChem fails to make any of the payments described above, discontinues its research and development activities related to the NuChem Analogues or commits an act of insolvency or bankruptcy, Ion has the right to re-acquire the NuChem Analogues assigned to NuChem and to terminate the sublicense, upon the payment by Ion of a certain amount and subject to certain other conditions.

     The Company and Ion are parties to a unanimous shareholders’ agreement relating to NuChem. Under that agreement, the Company has the right to appoint NuChem’s officers and a majority of the members of NuChem’s board of directors. The Company directs the business and operations of NuChem, subject to the terms of an annual business plan that Ion is entitled to approve. Any profits that are distributed from NuChem will be shared between the Company and Ion in proportion to their ownership of NuChem common shares. The unanimous shareholders’ agreement provides mutual restrictions on the transfer of NuChem shares, as well as mutual rights of first refusal, drag-along and piggyback rights. If Ion becomes entitled to re-acquire the NuChem Analogues assigned to NuChem and to terminate the sublicense, the Company is entitled to purchase Ion’s NuChem shares for their stated capital amount.

     Pre-clinical and Investigational Studies

     Through NuChem, the Company is currently pursuing research and pre-clinical development of NuChem Analogues for the treatment of a wide variety of cancers.

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     In March 1998, the Company signed an agreement with the Developmental Therapeutics Branch, Division of Cancer Treatment of NCI, under which that organization will screen anti-cancer compounds in its panel of cancerous cell lines. The data from these tests was used, in part, as the basis for selecting the compounds which will be given priority for entering clinical trials. The Company also signed an agreement with Harvard Medical School for the conduct of various research projects related to the further development of CLT and the NuChem Analogues as anti-cancer agents.

     On February 9, 1999 the Company announced, on behalf of NuChem, additional positive preclinical efficacy data on four of NuChem’s novel anti-cancer compounds. This in vivo study performed by Dr. José Halperin at Harvard Medical School involved a murine (mouse) KLN squamous cell cancer prevention model. The goal of the study was to specifically assess the efficacy of the analogues upon oral administration. Relative to controls, this efficacy study showed significant inhibition of squamous cell carcinoma tumors by the test compounds and no apparent toxic effect due to the treatment regimen was noted in the animals. The results confirm the efficacy results obtained in an earlier study for several of NuChem’s novel anti-cancer compounds.

     Agreements were concluded in 1998 and 1999 with other institutions and contract research organizations for the conduct of studies on certain NuChem Analogues to support the selection of one or more lead compounds for pre-clinical development toward an IND submission. The University of Nebraska Medical Center (Omaha, Nebraska) conducted studies of pre-clinical toxicity in normal mice and efficacy studies in human cancer xenograft (mouse) models. Phoenix International Life Sciences Inc. (Montréal, Québec) conducted studies to measure CLT analogues in biological matrices by a LC-MS/MS method, and to determine the metabolic stability and metabolite profile of certain CLT analogues by in vitro methods. McMaster University (Professor Jack Rosenfeld) conducted bioanalytical method development for the measurement of CLT analogues in plasma and tissues of mice by HPLC.

     On February 1, 1999, positive preclinical data on the efficacy of the Company’s anti-cancer compounds were obtained from a second study performed at the University of Nebraska Medical Center (Omaha, Nebraska). This study was designed to confirm the efficacy of certain novel anti-cancer (CLT Analogues) compounds in a human tumor xenograft model commonly used for colon cancer. The Company announced on behalf of NuChem independent confirmation by NCI of the in vitro anti-cancer activity of its novel compounds currently under development. Later in 1999, the Company announced on behalf of NuChem that the NCI had agreed to allocate resources for the further development of three novel anti-cancer compounds discovered at Harvard Medical School to investigate formulation development and the pharmacology of the compounds.

     On February 7, 2000, the Company announced that NuChem had determined that one of its key anti-cancer CLT analogues, NC381, showed positive pre-clinical results in inhibiting the spread of human melanoma tumor cells in mice. NC381, whether administered through injection or orally, exhibited anti-metastatic activity with few apparent side effects on 16 mice.

     NC381 has demonstrated pre-clinical activity in lung, pancreatic and kidney cancers as well as anti-angiogenic, anti-proliferative, and anti-metastatic properties. Research suggests that it can be taken orally, which positions it as a potential maintenance therapy. NC381 requires further testing to complete its ongoing pre-clinical development in Canada and the United States before the Company can file an IND to obtain approval to initiate human clinical trials either in Canada or the United States as a treatment for various forms of cancer. However, there can be no assurance that such approval will be obtained on a timely basis, if ever. See “Business of the Company — Regulatory Strategy”.

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Other Technologies

     Several promising new product opportunities have been introduced to the Company’s portfolio and are being assessed for their potential as new drug candidates. They include platform technologies in areas of tumor suppressor gene therapy, and U-Sense compounds that the Company believes to have the potential to work through a unique mechanism of action to decrease the expression of cancer relevant genes. Further antisense approaches for the treatment of cancer and drug resistant bacteria are also being investigated in the Company’s laboratory. The Company intends to continue developing these compounds with the aim to identify new drug candidates for clinical trials as the three lead drugs make their way through clinical trials and to market.

D.   Trend Information

     Lorus has not produced or commercially marketed any product. Although the Company has entered into an agreement in respect of the commercial sale of Virulizin® in Mexico, there can be no assurance that any sales of the product will be made. The Company’s future profitability is dependent on the successful outcome of clinical trials and the subsequent successful marketing and/or partnering of its products.

     The Company does not expect to generate a positive cash flow from operations for several years due to substantial additional research and development costs, including costs related to drug discovery, preclinical testing, clinical trials, manufacturing costs and operating expenses associated with supporting these activities. The Company may need to raise additional capital to fund operations over the long-term.

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Item 6.   Directors, Senior Management and Employees

A.   Directors and Senior Management

     The following table and notes thereto provide the name, municipality of residence, positions with the Company, term of office and principal occupation of each person who serves as a director or officer of the Company as at November 30, 2002. Officers serve at the discretion of the Board of Directors.

     Each director has been elected or appointed to serve until the next annual meeting or until a successor is elected or appointed. The Company has an Audit Committee, an Environmental Committee, a Corporate Governance Committee and a Human Resources and Compensation Committee and the members of each such committee are shown below. As at December 6, 2002, the directors and executive officers of the Company, as a group, beneficially owned, directly or indirectly, or exercised control over 14,292,880 or approximately 10% of the common shares.

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     The principal occupation and employment of each of the foregoing persons for the past five years is set forth below:

     Robert Béchard: Mr. Béchard is currently a partner of RBC Capital Partners. From 1991 to 1996, Mr. Béchard was an Account Manager with a Canadian chartered bank and from 1996 to 1998, was an Investment Manager of Sofinov Société Financière D’Innovation Inc.

     Suzanne Cadden: Ms. Cadden joined the Company in February 2001 as Director, Regulatory Affairs and Compliance. Prior to joining Lorus, Ms. Cadden was a Senior Director and Director of Regulatory Affairs and Compliance with Glaxo Wellcome Canada from 1996 to 2000. Prior to August 1996, Ms. Cadden was a Director of Regulatory Affairs and Pharmacoeconomics with CIGA-Geigy Canada.

     Geoffrey Collett: Prior to joining the Company in March 2000, Mr. Collett was a Vice President within MDS Capital Corp., from October 1997 to March 2000. From 1988 to 1997, Mr. Collett worked with GlaxoWellcome as Licensing Manager and Director of Business Development and Planning.

     Shane A. Ellis: From 1994 to 1997, Mr. Ellis lectured in business law at the School of Business Management, Ryerson Polytechnical University. From 1996 to 1998, Mr. Ellis acted as counsel for the Bennett & Wright Group of Companies.

     James T. Parsons: Prior to joining the Company in March 2000, Mr. Parsons was Controller and Assistant Treasurer for Timminco Limited. Prior to November 1998, Mr. Parsons was Controller for Timminco.

     Donald W. Paterson: Mr. Paterson is President of Cavandale Corporation, a company principally engaged in providing strategic corporate consulting to emerging growth companies within the technology industry. Prior to founding Cavandale Corporation, Mr. Paterson was a Director and Vice-President of Wood Gundy Inc., a Canadian investment bank, where he was directly involved in leading the firm’s activities in financing Canadian and international high technology companies.

     Elly Reisman: Mr. Reisman is the President and Chief Executive Officer of Great Gulf Group, a real estate company. Mr. Reisman has held that position for more than the last five years.

     Alan Steigrod: Mr. Steigrod is Managing Director of Newport Healthcare Ventures, a consulting firm for the healthcare industry, located in Newport Beach, California. Mr. Steigrod has held that position for more than the last five years.

     Graham Strachan: Mr. Strachan is President of GLS Business Development Inc. a life-science consulting firm, located in Etobicoke, Ontario. Prior to 1999, Mr. Strachan was President, Chief Executive Officer and Director of Allelix Biopharmaceuticals Inc.

     Dr. Jim Wright: Dr. Wright’s present principal occupation is Chief Executive Officer of the Company. He is also a member of the Lorus Board of Directors. Prior to October 1, 2001, Dr. Wright was President of the Company, a position he held since October 29, 1999. Prior to October 29, 1999, Dr. Wright was President and Chief Scientific Officer of GeneSense and a member of the board of GeneSense. He also served as Chairman of the Board. Prior to September 1998, Dr. Wright was Professor of Microbiology, Professor of Biochemistry and Molecular Biology, and Adjunct Professor of Internal Medicine at the University of Manitoba, Senior Scientist and Associate Director of the Manitoba Institute of Cell Biology and Terry Fox Senior Scientist of the National Cancer Institute of Canada.

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     Dr. Aiping Young: Prior to June 1996, Dr. Young was Senior Scientist, Group Leader and Medical and Scientific Advisor for Pias Corporation in Japan. From 1996 to 1999, Dr. Young was Vice President of Research and Development, and a member of the Board of Directors for GeneSense Technologies Inc. She has also been an Adjunct Scientist at the Manitoba Institute of Cell Biology at the Manitoba Cancer Foundation.

Medical and Scientific Advisory Board

     On October 2, 2002 the Company announced the appointment of Mace L. Rothenberg M.D., as its external medical advisor providing strategic medical advice on the Company’s growing international clinical and drug development programs. Dr. Rothenberg is an internationally recognized oncologist. His research focuses on the evaluation of the effects of new drugs in humans from clinical pharmacologic, biologic and genetic perspectives. Dr. Rothenberg is an Ingram Professor of Cancer Research at the Vanderbilt-Ingram Cancer Center as well as Professor of Medicine at the Vanderbilt University Medical Center and a Direct of Drug Development.

     The Company has a Medical and Scientific Advisory Board (“MSAB”) comprised of certain medical and scientific experts whom the Company believes will enhance its capabilities. Members of the MSAB meet periodically to review the progress of the Company’s research and development activities and the results of ongoing clinical trials. The MSAB also advises the Company generally as to specific research programs, and as to advances in biotechnology, immunology and other areas of scientific expertise relevant to the further development of the Company’s technologies.

     As at December 6, 2002, the members of the MSAB were:

     Dr. Donald P. Braun, Ph.D.: Dr. Braun is a Professor, Department of Surgery at the Medical College of Ohio in Toledo, Ohio, and Administrative Director of the Cancer Institute. Dr. Braun is a member of the Scientific Advisory Committee on Immunology of the American Cancer Society and is Chair of the Company’s MSAB.

     Dr. Gregory Curt, M.D.: Dr. Curt is a Clinical Director of the NCI in Bethesda, Maryland. He received his M.D. with Distinction in Research from the University of Rochester School of Medicine in 1977. After completing his training in Internal Medicine at Harvard, he came to the NCI for subspecialty training in Medical Oncology.

     Dr. Jaime G. de la Garza Salazar, M.D.: Dr. de la Garza, a member of the Mayo Graduate School of Medicine, has been the Director General of the National Cancer Institute of Mexico since 1993. He is also the President of the Mexican Oncology Board. Prior to his appointment as Director, Dr. de la Garza was Associate Director in Clinical Research at the NCI.

     Dr. Robert Kerbel, Ph.D.: Dr. Kerbel obtained his Ph.D. in microbiology and immunology from Queen’s University in 1972. Dr. Kerbel is currently the Director of Biological Sciences and the Division of Cancer Biology Research at the Sunnybrook Health Science Centre in Toronto and is also the John & Elizabeth Tory Professor of Experimental Oncology at the University of Toronto. He is a member of the editorial board of many international scientific journals and is editor-in-chief of Cancer Metastatis Review.

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     Dr. Bishnu D. Sanwal, Ph.D., D.Sc., F.R.S.C.: Dr. Sanwal is a Professor Emeritus and former Chairman of the Department of Biochemistry at the University of Western Ontario, London, Ontario. He has a long and distinguished career in biological and medical research. With over 146 publications, Dr. Sanwal is a member of or advisor to numerous scientific committees and journals such as the editorial board of Archives of Biochemistry and Biophysics and member of the Royal Society of London, and Fellow of the Royal Society of Canada. He received a Ph.D. from the University of Delhi and a Doctor of Sciences from the Federal Institute of Technology, Zurich.

     Dr. Lesley Seymour, MBBCh, FCP (SA): Dr. Seymour is a Co-Director of the Investigational New Drug Program of the National Cancer Institute of Canada Clinical Trials Group. She received her M.D. at the University of the Witwatersrand in South Africa in 1978 and subsequently completed Specialist training in Internal Medicine as well as Clinical Hematology and Medical Oncology.

     Dr. Louis Siminovitch, O.C., Ph.D., D.Sc., F.R.S.C., F.R.S.: Dr. Siminovitch is a former founder and director of the Department of Medical Genetics, University of Toronto, the Department of Genetics, Hospital for Sick Children, the Samuel Lunenfeld Research Institute at Mount Sinai Hospital, former Director and President of the National Cancer Institute of Canada and is presently on the Scientific Advisory Board of the Canadian Medical Discoveries Fund, several biotechnology companies and institutes. He is a founding member and former Senior Editor of Virology, founding member and former member of the editorial board of Cell, the editorial board of Annual Review of Genetics, founding member and former Senior Editor of Molecular and Cellular Biology, former member of the editorial board of Genetics and of the advisory board of Molecular Biology and Medicine. Dr. Siminovitch received a Ph.D. from McGill University and was awarded a Doctor of Science, Honoris Causa, for his distinguished scientific research contributions from several Canadian universities: Memorial University, McMaster University, University of Montreal, McGill University, University of Western Ontario and University of Toronto. Dr. Siminovitch is a Companion of the Order of Canada and was inducted into the Canadian Medical Hall of Fame in 1997.

     Dr. George R. Stark, Ph.D., F.R.S.: Dr. Stark is the Sherwin-Page Chairman of the Research Institute, The Cleveland Clinic Foundation, Cleveland, Ohio. He received a Ph.D. from Columbia University and completed postdoctoral studies at Rockefeller University. Dr. Stark has made significant contributions to the field of molecular biology. Dr. Stark led the development of the Northern and Western Blot techniques for analysis of specific RNAs and proteins. Much of his work has focused on the process of gene amplification in mammalian cells, leading to an appreciation both of the mechanisms that generate amplified structures in cell lines and tumor cells and the regulatory processes that prevent amplification from occurring in normal cells. Very recent work has led to the discovery of a new signal pathway that regulates gene expression in cancer cells. A former Professor of Biochemistry at Stanford University, Dr. Stark moved to London as the Associate Director of Research at the Imperial Cancer Research Fund in London, England (1983-1992). Dr. Stark received the H. A. Sober award of the American Society of Biological Chemists in 1986, was elected to the U.S.A. National Academy of Science in 1986 and to the Fellowship of the Royal Society in Britain in 1990.

B.   Executive Compensation

Summary Compensation

     The following Summary Compensation Table, presented in accordance with the regulation to the Securities Act (Ontario), sets forth the compensation paid in respect of individuals who were, in respect of the financial year ended May 31, 2002, the Chief Executive Officer and the four other most highly compensated executive officers of the Company (collectively, the “Named Executives”).

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Summary Compensation Table

     Executive officers of the Company, including the Named Executives (collectively the “Executive Officers”), are eligible to participate in a performance related compensation plan (the “Compensation Plan”). The Compensation Plan provides for potential annual cash bonus payments and annual granting of options to purchase common shares under the Company’s stock option plan. The potential annual cash bonus and annual granting of options to each Executive Officer are conditional upon the achievement by the Company and each Executive Officer of predetermined objectives reviewed by the Compensation Committee and approved by the board of directors of the Company. See “Compensation Committee” and “Report on Executive Compensation”.

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Stock Option Incentive Compensation

     The Company has in place a Stock Option Plan for its directors, officers and employees. The Stock Option Plan provides that the Board of Directors of the Company may from time to time in its discretion grant to directors, officers and employees of the Company options to purchase Common Shares. The Board of Directors determine the exercise price per Common Share and the number of Common Shares which may be allotted to each designated director, officer or employee and all other terms and conditions of the option, in accordance with the applicable policies of any relevant regulatory authority. These options are exercisable for a period not exceeding five years from the date of grant. The Board of Directors has reserved for issuance under the Stock Option Plan an aggregate of 12,000,000 of the Common Shares issued and outstanding from time to time.

     The following tables set forth the options granted to and exercised by each of the Named Executives during the year ended May 31, 2002:

Option/SAR Grants During the Most Recently Completed Financial Year

     Other than as described in the above footnotes, the foregoing options were granted on September 18, 2001 in respect of corporate and personal performance during the year ended May 31, 2002. The options vest on the basis of 50% on the first anniversary and 25% on the second and third anniversary of the date of granting. The exercise price of all the $0.95 options was the closing price of the Company’s common shares on the Toronto Stock Exchange on September 17, 2001.

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Aggregated Option/SAR Exercises During the Most Recently Completed
Financial Year and Financial Year-End Option/SAR Values

     Employees (the “Employees”) of the Company, other than Executive Officers, participate in a separate performance bonus plan which provides for the annual granting of options to purchase common shares under the Company’s Stock Option Plan. The Company also grants options to purchase common shares to certain employees upon commencement of their employment with the Company. During the year ended May 31, 2002, the Company granted options to Employees to purchase 229,491 common shares, being 8.4% of the total incentive stock options granted under the Stock Option Plan during the year to Employees and Executive Officers.

Pension Plan

     Currently, the Company does not maintain a pension plan for its Executive Officers or its Employees. Instead of a pension plan, the Company maintains a Stock Option Plan which is available for its executive officers and employees. See “Stock Option Incentive Compensation” above. Also, the Company has a Deferred Profit Sharing Plan (“DPSP”) matching program which is available to all employees. The DPSP matching program provides 100% matching of employee contributions into the employee’s Group RRSP account up to a maximum of three percent (3%) of the employee’s gross earnings. Contributions made by the Company began in fiscal 1998 and were made to the employees’ Group Retirement Savings Plan. From February 2001, the Company’s contributions were paid into an employer-sponsored DPSP.

Directors’ and Officers’ Alternate Compensation Plan

     The Company has created a directors’ and officers’ alternate compensation plan (the “Alternate Compensation Plan”). Under the Alternate Compensation Plan, the Company has the option of paying annual fees (the “Annual Fees”) to directors who are not full time employees of the Company (“Participating Directors”) by the allotment and issuance from treasury to each of the Participating Directors of such number of common shares as is equivalent to the cash value of the Annual Fees. Under the Alternate Compensation Plan, the Compensation Committee may at any time during the period between annual meetings of the

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shareholders of the Company recommend the allotment and issuance of common shares from treasury in satisfaction of Annual Fees otherwise payable in cash to Participating Directors. The board of directors may then formally allot and issue the common shares at an issue price equal to the closing price of the common shares of the Company on the Toronto Stock Exchange on the day of, or the day immediately preceding such recommendation by the Compensation Committee or such other amount as determined by the board of directors and permitted by the stock exchange, exchanges or other market upon which the common shares are from time to time listed for trading and any other applicable regulatory authority (collectively, the “Regulatory Authorities”).

     In addition, the Alternate Compensation Plan permits the Company, at its option, to satisfy the meeting attendance fees (the “Meeting Fees”) earned by the Participating Directors as a result of attendance at meetings of the board of directors held between annual meetings of the Company’s shareholders by the allotment and issuance of common shares at an issue price equal to the closing price of the common shares on the Toronto Stock Exchange on the day of, or the day immediately preceding such recommendation by the Compensation Committee or such other amount as determined by the board of directors and permitted by the Regulatory Authorities.

     The Alternate Compensation Plan also permits the Company, at its option, to provide for the payment of all or part of the performance bonuses (the “Performance Bonuses”) for certain employees of the Company (the “Participating Employees”), which bonuses would otherwise be payable entirely in cash, through the issuance of common shares. Under this aspect of the Alternate Compensation Plan, the Compensation Committee may at any time recommend the allotment and issuance of common shares from treasury to one or more Participating Employees in satisfaction of Performance Bonuses established in accordance with criteria set by the board of directors (in consultation with the Compensation Committee). The issue price for the common shares will be at a price equal to the closing price of the common shares of the Company on the Toronto Stock Exchange on the day of, or the day immediately preceding such recommendation by the Compensation Committee or such other amount as determined by the board of directors and permitted by the Regulatory Authorities. The board of directors will not be obliged to allot and issue common shares to Participating Employees. However, if the board of directors elects to meet its obligations to satisfy Performance Bonuses through the allotment and issuance of common shares, it will do so by passing a resolution allotting and issuing the appropriate number of common shares only if and when the criteria for payment of the related Performance Bonuses are met.

     The Alternate Compensation Plan is administered by the board of directors (in consultation with the Compensation Committee) and, subject to regulatory requirements, may be amended by the board of directors without shareholder approval, provided that the maximum number of common shares which may be issued under the Alternate Compensation Plan is not in excess of 2,500,000 common shares. common shares issued under the Alternate Compensation Plan will be subject to trading or resale restrictions under any applicable laws. The board of directors may terminate the Alternate Compensation Plan any time before or after any reservation, allotment or issuance of common shares thereunder.

Directors’ and Officers’ Deferred Share Unit Plan

     The Company has created a deferred share unit plan for directors and officers (the “Deferred Share Unit Plan”). Under the Deferred Share Unit Plan, participating directors may elect to receive a portion or all of their Annual Fees from the Company in deferred share units. Under the Deferred Share Unit Plan, the Compensation Committee may at any time during the period between annual meetings of shareholders of the

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Company, recommend the Company credit to each Participating Director who has elected under the terms of the Deferred Share Unit Plan, the number of units equal to the gross amount of the Annual Fees to be deferred divided by the fair market value of the shares. The fair market value of the shares is determined as the closing price of the common shares of the Company on the Toronto Stock Exchange on the day immediately preceding such recommendation by the Compensation Committee or such other amount as determined by the board of directors and permitted by the Regulatory Authorities.

     In addition, the participating directors may elect under the Deferred Share Unit Plan to receive deferred share units in satisfaction for Meeting Fees earned by the Participating Directors as a result of attendance at meetings of the board of directors held between annual meetings of the Company’s shareholders by the credit to each Participating Director of the number of units equal to the gross amount of the Meeting Fees to be deferred divided by the fair market value of the shares, being the closing price of the common shares on the Toronto Stock Exchange on the day immediately preceding the recommendation by the Compensation Committee or such other amount as determined by the board of directors and permitted by the Regulatory Authorities.

     The Deferred Share Unit Plan is administered by the board of directors (in consultation with the Compensation Committee) and, subject to regulatory requirements, may be amended by the board of directors without shareholder approval. When a Participating Director ceases to hold the position of director and is no longer otherwise employed by the Company, the Participating Director receives either (a) a lump sum cash payment equal to the number of deferred share units held multiplied by the then fair market value of the common shares of the Company on the date of termination or (b) the number of common shares that can be acquired in the open market with the amount described in (a), either case being subject to withholding for income tax. The board of directors may terminate the Deferred Share Unit Plan any time before or after any allotment or accrediting of deferred share units thereunder.

Termination of Employment, Change in Responsibilities and Employment Contracts

     The Company has employment agreements (the “Agreements”) with each of the Named Executives.

     The Agreements for Mr. Collett and Mr. Parsons provide for notice periods in the event of termination without cause equal to six months, plus one additional month for each year of completed service after the first year of employment. The Agreements for Dr. Wright and Dr. Young provide for a notice period of 12 months.

     Dr. Fahim resigned as an employee of the Company effective July 31, 2002.

C.   Board Practices

Composition of the Corporate Governance and Compensation Committee

     The board of directors, upon the advice of the Compensation Committee of the board, determines executive compensation. The Compensation Committee was comprised of two directors who were not employees or officers of the Company during the period June 1, 2001 to May 31, 2002. The members of the Compensation Committee during the above period were: Peter Campbell, Barry Reiter, Robert Béchard and Alan Steigrod. In November 2001 Mr. Béchard and Mr. Steigrod replaced Mr. Campbell and Mr. Reiter as

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members of the Compensation Committee and Mr. Béchard was appointed Chair of the Compensation Committee. The Compensation Committee met four times during the above period.

Report on Executive Compensation

     The Compensation Committee’s mandate is to review, and advise the board of directors on, the recruitment, appointment, performance, compensation, benefits and termination of Executive Officers. The Compensation Committee also administers and reviews procedures and policies with respect to the Company’s Stock Option Plan, employee benefit programs, pay equity and employment equity. The philosophy of the Compensation Committee towards Executive Officer compensation is to reward performance and to provide a total compensation package that will attract and retain qualified, motivated and achievement oriented Executive Officers.

     The Compensation Committee attempts to create compensation arrangements that will align the interests of the Executive Officers and the shareholders of the Company. The key components of Executive Officer compensation are base salary, potential annual cash bonuses and annual participation in the Stock Option Plan.

Base Salary — Initial Stock Options

     Base salary for each Executive Officer is a function of the individual’s experience, past performance and anticipated future contribution. The Compensation Committee uses private and public compensation surveys to assist with the determination of an appropriate compensation package for each Executive Officer.

     Executive Officers are granted stock options on the commencement of employment with the Company in accordance with the responsibility delegated to each Executive Officer for achieving corporate objectives and enhancing shareholder value.

Potential Annual Cash Bonuses and Annual Participation in the Stock Option Plan

     Generally, potential annual cash bonuses and annual awards of options under the Stock Option Plan for each Executive Officer are conditional in part upon the achievement by the Company of predetermined scientific, clinical, regulatory, intellectual property, business and corporate development and financial objectives, and in part upon the achievement by each Executive Officer of individual performance objectives. Executive Officer individual performance objectives for each fiscal year are consistent with corporate objectives and each Executive Officer’s role in achieving them. All Corporate and Executive Officer objectives are predetermined by the board of directors after review by the Compensation Committee. Seventy-five percent (75%) of each Executive Officer’s potential annual cash bonus is conditional upon the achievement of corporate objectives with the remaining twenty-five percent (25%) being conditional upon the achievement of individual Executive Officer objectives. The Compensation Committee reserves the right to recommend to the board of directors the awarding of bonuses, payable in cash, stock or stock options, to reward extraordinary individual performance.

     For each Executive Officer, during the year ended May 31, 2002, the potential annual cash bonuses ranged from 20% to 40% of base salary when all corporate and individual Executive Officer objectives

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were achieved. For each Executive Officer, the potential annual cash bonuses range increased to 30% to 60% of base salary when the Corporate and individual Executive Officer objectives were significantly over-achieved.

     Cash bonuses are determined as soon as practicable after the end of the fiscal year and are included in the Summary Compensation Table in the year in respect of which they are earned.

     There is a potential for an annual allocation from the Company’s Stock Option Plan for each Executive Officer when all Corporate and Executive Officer objectives are achieved. The allocation of options is approved by the Compensation Committee of the Company and Options are priced using the closing market price of the Company’s common shares on the last trading day prior to the date of grant. Options to purchase common shares expire five years from the date of grant and vest over three years. The granting of options to purchase common shares is included in the Summary Compensation Table in the year that they are earned.

Chief Executive Officer Compensation

     The performance of the Chief Executive Officer is measured in the following areas:

	•		attainment of predetermined corporate objectives;
	•		attainment of predetermined individual objectives;
	•		corporate governance;
	•		financial condition;
	•		human resource management; and
	•		strategic positioning.

Compensation of Directors

     During the fiscal year ended May 31, 2002, each director who was not an officer of the Company or a representative of a shareholder was entitled to receive stock options and, at his election, shares, deferred share units and/or cash compensation for attendance at board committee meetings. Compensation is comprised of an annual fee of $5,000 ($15,000 to the chairman of the board) $1,000 per board meeting attended ($4,500 to the chairman of a board meeting) and $750 per audit, corporate governance, compensation or environmental committee meeting ($1,000 for the chairman of a committee) attended. In November 2001, stock options to purchase 270,000 common shares at a price of $1.47 per share expiring November 2006, were granted, in aggregate, to directors of the Company in this regard. In November 2000, stock options to purchase 150,000 common shares at a price of $2.12 per share expiring November 2005, were granted, in aggregate, to directors of the Company in this regard. In December 1999, a compensatory grant of stock options to purchase 330,000 common shares in aggregate, at a price of $0.82 per share expiring December 22, 2004, was made to directors of the Company. In addition, the Company reimbursed the directors for expenses incurred in attending meetings of the board of directors and committees of the board.

     Mr. Barry J. Reiter resigned as a director of the Company on September 11, 2002. The law firm of Torys LLP, of which Barry J. Reiter is a partner, received legal fees in the amount of $376,000 for the year ended May 31, 2002 for acting as counsel to the Company on various matters.

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DIRECTOR’S AND OFFICER’S LIABILITY

     The Company purchases and maintains liability insurance for the benefit of directors and officers to cover any liability incurred by such person in such capacities. The policy provides for coverage in the amount of $10,000,000 with a deductible amount of $100,000. For the period June 1, 2001 to May 31, 2002, the premium cost of this insurance was $68,850.

INTEREST OF MANAGEMENT AND OTHERS IN MATERIAL TRANSACTIONS

     Other than as set forth above under the heading “Executive Compensation”, during the financial year of the Company ended May 31, 2002, no director, senior officer or associate of a director or senior officer nor, to the knowledge of the directors or senior officers of the Company after having made reasonable inquiry, any person or company who beneficially owns, directly or indirectly, common shares carrying more than 10% of the voting rights attached to all common shares outstanding at the date hereof, or any associate or affiliate thereof, had any material interest, direct or indirect, in any material transaction of the Company, nor do any such persons have a material interest, direct or indirect, in any proposed transaction of the Company.

D.   Employees

     As at December 6, 2002, the Company had a staff of 40 full-time persons and two part-time persons, who are involved in research and drug development, and administration activities. Of the Company’s employees, eleven are medical doctors and/or Ph.D.s. The Company has a Medical and Scientific Advisory Board comprised of eight members who are each medical doctors or Ph.D.s. To encourage a focus on achieving long term performance, employees and members of the board of directors have the ability to acquire an ownership interest in the Company through the Company’s stock option plan.

E.   Share Ownership

     The following tables summarizes the common shares owned by the directors of the Company:

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     To the knowledge of the Company, no other directors or named executive officers beneficially own common shares in excess of 1% of the issued and outstanding capital of the Company.

Outstanding options owned by the Named Executive officers and directors of the Company

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Outstanding options owned by the Named Executive officers and directors of the Company