The following discussion and analysis of our financial condition as of September 30, 2008 and results of operations for the three months and nine months ended September 30, 2008 and 2007 should be read together with our financial statements and related notes included elsewhere in this report. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Although our forward-looking statements reflect the good faith judgment of our management, these statements can only be based on facts and factors currently known by us. Consequently, forward-looking statements are inherently subject to risks and uncertainties, and actual results and outcomes may differ materially from results and outcomes discussed in the forward-looking statements. Forward-looking statements can be identified by the use of forward-looking words such as "believe," "expect," "hope," "may," "will," "plan," "intend," "estimate," "could," "should," "would," "continue," "seek," "pro forma" or "anticipate," or other similar words (including their use in the negative), or by discussions of future matters such as our financial performance, future clinical or product development, the merger with Transcept Pharmaceuticals, Inc., cash reserves at the time of the merger, conduct and timing of clinical studies, study results, regulatory review and approval of our products or product candidates, commercialization of products, possible changes in legislation and other statements that are not historical. These statements are within the meaning of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 and include but are not limited to statements under the captions "Risk Factors," "Management's Discussion and Analysis of Financial Condition and Results of Operations," as well as other sections in this report. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including but not limited to those set forth under Item 1A. "Risk Factors" and elsewhere in this report. We urge you not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. All forward-looking statements included in this report are based on information available to us on the date of this report, and we assume no obligation to update any forward-looking statements contained in this report.

Recent Events

On August 29, 2008, Novacea, Inc., or Novacea, Pivot Acquisition, Inc., a Delaware corporation and a wholly owned subsidiary of Novacea, or Merger Sub, and Transcept Pharmaceuticals, Inc., a private Delaware corporation, or Transcept, entered into an Agreement and Plan of Merger and Reorganization, or the Merger Agreement. Under the terms of the Merger Agreement, which was approved by the boards of directors of Novacea and Transcept, Merger Sub will merge with and into Transcept, with Transcept becoming a wholly-owned subsidiary of Novacea and the surviving corporation of the merger. The merger is expected to create a NASDAQ-listed specialty pharmaceutical company focused on the development and commercialization of proprietary products that address important therapeutic needs in the fields of psychiatry and sleep medicine. The resulting company will be named Transcept Pharmaceuticals, Inc. and be headquartered in Point Richmond, California.

At the time of the merger, we agreed to issue, and Transcept stockholders will receive, in a transaction intended to qualify as a tax-free reorganization, shares of our common stock such that Transcept stockholders are expected to own approximately 60% of the combined company and Novacea stockholders are expected to own approximately 40% of the combined company. This ratio is subject to potential adjustments, depending on the net cash of the Company, less certain liabilities, ten calendar days prior to the anticipated closing date of the merger.

Consummation of the merger is subject to certain closing conditions, including, among other things, approval by our stockholders and those of Transcept and continued listing of our common stock on the NASDAQ Global Market. As a condition to the parties entering into the Merger Agreement, certain of Transcept stockholders who in the aggregate own approximately 80% of Transcept stock on an as if converted to common stock basis, and certain of Novacea's stockholders who in the aggregate own approximately 37% of our common stock, have entered into voting agreements whereby they have agreed to vote in favor of the transactions contemplated by the Merger Agreement subject to the terms of the voting agreements.

The Merger Agreement contains certain termination rights for both us and Transcept, and further provides that, upon termination of the Merger Agreement under specified circumstances, either party may be required to pay the other party a termination fee of $4.2 million and, in some circumstances, reimburse the other party for expenses incurred in connection with the merger, up to a maximum of $2.0 million.

In addition, in connection with the merger, our executive officers will resign from their positions with Novacea. The executive officers of Transcept will assume their respective positions in the combined company following the closing of the merger. The combined company Board of Directors is expected to consist of a total of ten members, six of whom will be designated by Transcept and four of whom will be designated by Novacea.

Overview

Prior to the termination of our clinical trials, the reduction in our workforce and in our operating plan this year, and our focus on evaluating strategic alternatives, we were an operating biopharmaceutical company focused on in-licensing, developing and commercializing novel therapies for the treatment of cancer. We have two clinical-stage oncology product candidates, Asentar™ and AQ4N. In late 2007 and early 2008, we stopped all of our development activities related to these oncology product candidates, and have no current plans to develop them in the future. At this time, we are not engaged in any development activities.

The following chronology illustrates the events leading up to our discontinuation of our clinical trials, the reduction in our workforce and in our operating plan, and our focus on evaluating strategic alternatives:

• In May 2007, we signed an exclusive worldwide License, Development and Commercialization Agreement with Schering Corporation, a wholly-owned subsidiary of Schering-Plough Corporation, or Schering, for the development and commercialization of Asentar™, or the Collaboration Agreement, in androgen-independent prostate cancer, or AIPC, earlier stages of prostate cancer, and in other types of cancers, including pancreatic cancer.

• In November 2007, we and Schering ended the ASCENT-2 Phase 3 clinical trial of Asentar™ due to an unexplained imbalance of deaths between the treatment and control arms of the trial. At that time, we also suspended enrollment in our Phase 2 clinical trial of Asentar™ for the treatment of advanced pancreatic cancer and in other trials involving the use of Asentar™. Additionally, the United States Food and Drug Administration, or FDA, placed a hold on the existing Investigational New Drug application, or IND, for Asentar™.

• In January 2008, we curtailed clinical development activities for AQ4N in order to preserve capital resources in light of the changes in our business prospects related to Asentar.

• On April 4, 2008, Schering delivered written notice to us of its termination of the Collaboration Agreement.

• In May 2008, we made a determination to limit our additional development activities on Asentar, which were directed toward the following:
winding-down and finalizing the analysis of the ASCENT-2 Phase 3 clinical trial; preparing a complete response to the FDA regarding releasing the clinical hold on the Asentar™ IND for Asentar; and meeting with the ASCENT-2 clinical trial investigators during the American Society of Oncology meeting in June 2008. Additionally, our AQ4N development efforts were focused on completing the necessary activities on the Phase 1b portion of the Phase 1b/2a GBM trial with AQ4N, which had completed enrollment, while placing the Phase 2a portion of the trial on hold prior to patient enrollment.

• Also, in May 2008, we adopted a restructuring plan with the intention of reducing our spending while maintaining the capabilities needed to conduct the activities noted above related to Asentar and AQ4N, to maintain limited operations and to evaluate potential strategic alternatives. The plan reduced our workforce down to its current level of nine employees, who are primarily involved in financial or administrative roles.

• In August 2008, we reached agreement with Schering that Schering would make a payment of $5.7 million, representing reimbursement for the research and development efforts of Novacea on Asentar™ of $4.3 million for the first quarter of 2008 and of $1.4 million for the second quarter of 2008. We received the $5.7 million payment in September 2008, and were thereafter no longer entitled to receive any future reimbursement from Schering under the Collaboration Agreement for the remaining activities of Novacea on Asentar™. We will no longer recognize any related reimbursement revenue under the Collaboration Agreement. All future costs incurred by us for activities on the Asentar™ development programs and for any future development of Asentar™ will be at our own expense.

• In September 2008, we received notice from the FDA that the agency had released the clinical hold on Asentar™. As part of their guidance, the FDA required that any future clinical studies conducted with Asentar™ must include in the consent form an unambiguous statement that the ASCENT-2 trial showed reduced survival for patients with AIPC given Asentar™ in combination with weekly Taxotere® chemotherapy, as compared to AIPC patients receiving Taxotere administered every three weeks without Asentar™. Also, any future consent form must not make reference to any survival benefits observed in earlier clinical trials involving Asentar for the treatment of AIPC patients. We have no current plans to further develop Asentar™.

Research and Development Expenses. During the period when we were developing our product candidates, our research and development expenses consisted primarily of costs: for personnel, including salaries and benefits; regulatory activities; pre-clinical studies; clinical trials; materials and supplies; and allocations of other research and development-related costs. Research and development expenses may increase in the future if the merger with Transcept is not completed and we reestablish research and development capabilities and reinitiate our development activities.

General and Administrative Expenses. Our general and administrative expenses consisted primarily of salaries and related costs for our personnel in executive, business development, marketing, human resources, external communications, finance and other administrative functions, as well as consulting costs, including market research and business consulting. Other costs included professional fees for legal and accounting services, insurance and facility costs. General and administrative expenses may increase in the future if the merger with Transcept is not completed and we expand our operating activities.

Results of Operations

Three months and nine months ended September 30, 2008 and 2007

The following tables reflect period over period changes in selected line items
from our condensed statements of operations (in thousands, except percentages):



                                            Three Months Ended September 30,                 Nine Months Ended September 30,
                                                                   Change Period                                  Change Period
                                         2008          2007         Over Period            2008        2007        Over Period
Collaboration revenue                 $       93    $    8,566   $  (8,473 )   (99 )%   $   60,621   $  8,702   $  51,919     597 %
Research and development expenses          1,932         9,552      (7,620 )   (80 )%       11,563     28,548     (16,985 )   (59 )%
General and administrative expenses        5,612         3,634       1,977      54 %        12,263     12,893        (630 )    (5 )%
Interest and other income, net               570         1,383        (813 )   (59 )%        2,275      2,836        (561 )   (20 )%

Collaboration Revenue

The Collaboration Agreement with Schering became effective on June 26, 2007, and in July 2007, we received non-refundable upfront payments from Schering totaling $60 million, including $35 million as reimbursement for past research and development expenses and a license fee of $25 million. Through the termination date of the Collaboration Agreement on April 4, 2008, we had recognized revenues from the upfront payments ratably over an estimated six-year development period starting on June 26, 2007 and ending on June 30, 2013. We believed that this period for revenue recognition represented substantially the entire period for which we would have significant participatory obligations for Asentar™. As a result of the termination of the Collaboration Agreement with Schering on April 4, 2008, we recognized as revenue during the second quarter of 2008 the previously deferred revenue balance of $52.4 million related to the upfront payments. The deferred revenue balance related to the upfront payments from Schering was zero as of September 30, 2008.

Revenue from reimbursement for our research and development efforts on Asentar™ is recognized as the related costs are incurred. In August 2008, we and Schering agreed that the final payment of $5.7 million, representing reimbursable costs for our research and development efforts on Asentar™ for the first quarter of 2008 of $4.3 million and part of reimbursable costs for the second quarter of 2008 of $1.4 million, would cover all development costs and wind-out costs under the Collaboration Agreement and we would not be entitled to any additional monies from Schering in connection with the Collaboration Agreement. Additionally, with the termination of the Collaboration Agreement, we are no longer eligible to receive from Schering any pre-commercial milestone payments or royalties on worldwide sales of Asentar™. Any future development of Asentar™ would be at our expense. The $5.7 million payment was received in September 2008. All payments received from Schering are non-refundable.

Collaboration revenue for the three months and nine months ended September 30, 2008 was $0.1 million and $60.6 million, respectively, compared to $8.6 million and $8.7 million for the three months and nine months ended September 30, 2007, respectively. During the three months ended September 30, 2008, we did not record any revenue under the agreement with Schering. During the nine months ended September 30, 2008, we recorded revenue under the agreement with Schering of $60.5 million, which was comprised of $54.8 million recognized in connection with the upfront payment and $5.7 million as reimbursement for the Company's R&D efforts on Asentar™. Additionally, we recorded revenue, and received the related payment, of $0.1 million under one of the two agreements with Aventis during the three months ended September 30, 2008. Revenue for the 2007 periods includes $2.5 million and $2.6 million during the three and nine months ended September 30, 2007, respectively, related to the amortization of upfront payments under the agreement with Schering and $6.1 million during the three and nine months ended September 30, 2007, related to reimbursement by Schering for our R&D efforts on Asentar™.

Research and Development Expenses

The following table summarizes our research and development expenses:



                                              Three Months Ended        Nine Months Ended
                                                 September 30,            September 30,
                                               2008          2007        2008        2007
                                                (in thousands)           (in thousands)
  Asentar™                                  $      918      $ 6,580   $    7,935   $ 20,261
  AQ4N                                             108        1,627          977      4,382
  Other projects                                 1,233        1,046        2,399      2,953
  Stock-based employee compensation               (327 )        299          252        952

  Total research and development expenses   $    1,932      $ 9,552   $   11,563   $ 28,548

Research and development expenses for the three months and nine months ended September 30, 2008 were $1.9 million and $11.6 million, respectively, compared to $9.6 million and $28.5 million for the three months and nine months ended September 30, 2007, respectively. This represents a decrease in research and development expenses of $7.7 million, or 80%, between the three-month periods in 2008 and 2007 and of $16.9 million, or 59% between the nine-month periods in 2008 and 2007.

Research and development expenses associated with Asentar™ were $0.9 million and $7.9 million for the three months and nine months ended September 30, 2008, compared to $6.6 million and $20.3 million for the three months and nine months ended September 30, 2007, respectively. The $5.7 million, or 86%, decrease between the three-month periods in 2008 and 2007 and $12.4 million, or 61%, decrease between the nine-month periods in 2008 and 2007 was due primarily to the lower level of clinical development activities in our ASCENT-2 Phase 3 clinical trial of AIPC, which began in the first quarter of 2006 and was terminated in November 2007. The reduction in development activity was partially offset by restructuring charges of $0.5 million and $0.8 million in the three months and nine months ended September 30, 2008, respectively. Our activities for Asentar™ in 2008 have been primarily focused on winding-down and finalizing the analysis of the ASCENT-2 Phase 3 clinical trial and preparing a complete response to the FDA regarding releasing the clinical hold on the IND application for Asentar. In September 2008, we received notice from the FDA that the agency had released the clinical hold on Asentar™.

In the past, certain research and development expenses for Asentar™ have been subject to reimbursement from Schering under the Collaboration Agreement, which was terminated by Schering in April 2008. The expenses were recorded as research and development expenses and the reimbursement of such costs were recorded as revenue as costs were incurred by us. For periods subsequent to the second quarter of 2008, we will not be entitled to receive any additional reimbursement from Schering under the Collaboration Agreement for our remaining activities on Asentar™ and we will no longer recognize any related reimbursement revenue. All future costs incurred by us for activities on the Asentar™ development programs and for any future development of Asentar™ will be at our expense. There are currently no clinical trials planned or underway for Asentar™.

Research and development expenses associated with AQ4N were $0.1 million and $1.0 million for the three months and nine months ended September 30, 2008, respectively, compared to $1.6 million and $4.4 million for the three months and nine months ended September 30, 2007, respectively. The $1.5 million, or 94%, decrease between the three-month periods in 2008 and 2007 and the $3.4 million, or 78%, decrease between the nine-month periods in 2008 and 2007 resulted primarily from reduced development activities and product manufacturing expenses for AQ4N. In October 2007, we initiated a Phase 2 clinical trial of AQ4N for the treatment of acute lymphobastic leukemia, or ALL. However, this trial was discontinued in January 2008 in connection with our decision to scale back clinical development activities for AQ4N in order to preserve capital resources. In May 2008, we decided that our future AQ4N development efforts will focus on completing the necessary activities on the Phase 1b portion of the Phase 1b/2a GBM trial, which had completed enrollment, while placing the Phase 2a portion of the trial on hold prior to patient enrollment. There are currently no clinical trials planned or underway for AQ4N.

Other research and development expenses were approximately $1.2 million and $2.4 million for the three months and nine months ended September 30, 2008, respectively, compared to $1.0 million and $3.0 million for the three months and nine months ended September 30, 2007, respectively. The $0.2 million, or 18%, increase between the three-month periods in 2008 compared to 2007 included a $0.3 million restructuring charge and $0.1 million in accelerated depreciation partially offset by a decrease in employee related expenses. The $0.6 million, or 19%, decrease between the nine-month periods in 2008 and 2007 resulted primarily from cost savings associated with reduced internal and related external activities associated with our general research and development efforts partially offset by a $0.3 million restructuring charge and $0.1 million in accelerated depreciation of property and equipment.

Stock-based compensation expense included in research and development expenses was a credit of $0.3 million and expense of $0.3 million for the three months and nine months ended September 30, 2008, respectively, compared to $0.3 million and $1.0 million for the three months and nine months ended September 30, 2007, respectively. The credit for the three months ended September 30, 2008 was due to a reclassification of certain stock-based compensation from research and development expense to general and administrative expense to be consistent with historical presentation.

If the merger with Transcept is not completed, and we reinitiate our business activities, our research and development expenses may increase in the future if we reestablish our research and development capabilities and reinitiate our development activities.

General and Administrative Expenses

General and administrative expenses for the three months and nine months ended September 30, 2008, were $5.6 million and $12.3 million, respectively, compared to $3.6 million and $12.9 million for the three months and nine months ended September 30, 2007, respectively. The increase of $2.0 million, or 54%, between the three-month periods in 2008 and 2007 in general and administrative expenses was mainly due to a $1.5 million increase in external expenses related to evaluating strategic alternatives and the potential merger with Transcept, including investment banking, legal and accounting fees, $0.4 million in depreciation and amortization expense and a $0.2 million increase in restructuring-related expenses, partially offset by a $0.2 million decrease in recruiting expense and a $0.1 million decrease in marketing-related expenses. The decrease of $0.6 million, or 5%, between the nine-month periods in 2008 and 2007 in general and administrative expenses was mainly due to a $1.4 million decrease in marketing-related expenses, a $0.8 million decrease in stock-based compensation and a $0.5 million decrease in recruiting expense, partially offset by a $1.2 million increase in consulting expenses primarily related to evaluating strategic alternatives and the potential merger with Transcept, a $0.5 million increase in depreciation and amortization expense and a $0.5 million increase in restructuring-related expense.

If the merger with Transcept is not completed, and if Novacea decides to expand its operations, general and administrative expenses will increase in the future.

Interest and Other Income, Net

Interest and other income, net, was $0.6 million and $2.3 million for the three months and nine months ended September 30, 2008, respectively, compared to $1.4 million and $2.8 million for the three months and nine months ended September 30, 2007, respectively. The decrease of $0.8 million, or 59%, between the three-month periods in 2008 and 2007 in interest and other income, net, resulted from lower investment balances and lower investment yields. The decrease of $0.5 million, or 20%, between the nine-month periods in 2008 and 2007 in interest and other income, net, resulted from lower investment yields offset by higher investment balances.

Liquidity and Capital Resources

At September 30, 2008, we had cash, cash equivalents and marketable securities of $89.5 million, held in accounts managed by third party financial institutions, which consisted of invested cash and cash in our operating account. The interest-bearing investments include money market funds, commercial paper, U.S. corporate debt and U.S. government sponsored enterprise issues. Through September 30, 2008, we have not experienced material realized losses nor have we lacked access to our cash, cash equivalents and marketable securities. However, we can provide no assurances that the realizable value of our investment or access to our cash, cash equivalents and marketable securities will not be impacted negatively by adverse conditions in the financial markets.

At any point in time in the future, we may also have up to $5.0 million in our operating account that is with a third party financial institution. These balances exceed the Federal Deposit Insurance Corporation, or FDIC, insurance limits. While we monitor the cash balance in our operating account and adjust the cash balances as appropriate, these cash balances could be impacted if the underlying financial institution fails or becomes subject to other adverse conditions in the financial markets. Through September 30, 2008, we have not experienced a material realized loss nor have we lacked access to the cash in our operating account.

We have generated a limited amount of revenue, and do not expect to generate revenue from our product candidates for several years, if at all. Since inception, we have funded our operations significantly through the private placement of our preferred stock, with total net proceeds of $108.3 million.

In May 2007, we signed a Collaboration Agreement with Schering. The Collaboration Agreement became effective on June 26, 2007, and in July 2007, we received upfront payments from Schering totaling $60 million, of which $35 million was reimbursement for past research and development expenses and $25 million was a license fee. Additionally, in July 2007, pursuant to the terms of the Collaboration Agreement, we sold to Schering 1,490,868 shares of our common stock for cash at $8.05 per share, for an aggregate purchase price of $12.0 million under a Common Stock Purchase Agreement. On April 4, 2008, Schering delivered written notice of Schering's termination of the Collaboration Agreement. Upon termination of the Collaboration Agreement, the licenses and other rights granted by the Company to Schering pursuant to the Collaboration Agreement terminated and Schering became responsible for conducting an orderly wind-down of all ongoing development activities with respect to Asentar™ and making all payments due to us and any other third parties with respect to Asentar™, as per the terms of the Collaboration Agreement. In August 2008, we reached agreement with Schering that they would make a payment of $5.7 million, . . .