This discussion is intended to further the reader's understanding of the consolidated financial condition and results of operations of Neurogen Corporation ("Neurogen," "the Company," "we," "us," "our"). It should be read in conjunction with the financial statements in this quarterly report on Form 10-Q and our annual report on Form 10-K for the year ended December 31, 2008.

Note Regarding Forward-looking Statements

Statements that are not historical facts, including statements about the our confidence and strategies, the status of various product development programs, the opportunities to sell assets or the Company, the sufficiency of cash to fund future operations and our expectations concerning our development compounds, drug development technologies and opportunities in the pharmaceutical marketplace are "forward-looking statements" within the meaning of the Private Securities Litigations Reform Act of 1995 that involve risks and uncertainties and are not guarantees of future performance. These risks include, but are not limited to, difficulties or delays in development, testing, regulatory approval, production and marketing of any of our drug candidates, collaborations and alliances, acquisitions or business combinations, the failure to attract or retain key personnel, any unexpected adverse side effects or inadequate therapeutic efficacy of our drug candidates which could slow or prevent product development efforts, competition within our anticipated product markets, our dependence on corporate partners with respect to research and development funding, regulatory filings and manufacturing and marketing expertise, the uncertainty of product development in the pharmaceutical industry, inability to obtain sufficient funds through future collaborative arrangements, equity or debt financings or other sources to continue the operation of our business, risk that patents and confidentiality agreements will not adequately protect our intellectual property or trade secrets, dependence upon third parties for the manufacture of potential products, inexperience in manufacturing and lack of internal manufacturing capabilities, dependence on third parties to market potential products, lack of sales and marketing capabilities, potential unavailability or inadequacy of medical insurance or other third-party reimbursement for the cost of purchases of our products our recent operational restructuring and other risks detailed our Securities and Exchange Commission filings, including our Annual Report on Form 10-K for the year ended December 31, 2008, each of which could adversely affect our business and the accuracy of the forward-looking statements contained herein. Any new material changes in risk factors since the Annual Report on Form 10-K for the year ended December 31, 2008 are discussed further in Part II, Item 1A.

Since our inception in September 1987, we have been engaged in the discovery and development of drugs. We have not derived any revenue from product sales and have incurred, and if we continue the development of our drug candidates we expect to continue to incur, significant losses prior to deriving any such product revenues or earnings. Revenues to date have come from six collaborative research agreements, one license agreement and one technology transfer agreement.

We have not derived any revenue from product sales to date. If we continue to develop our drug candidates, we would expect to incur substantial and increasing losses for at least the next several years and would need substantial additional financing to obtain regulatory approvals, fund operating losses, and if deemed appropriate, establish manufacturing and sales and marketing capabilities, which we would seek to raise through equity or debt financings, collaborative or other arrangements with third parties or through other sources of financing. In such scenario, there could be no assurance that such funds will be available on terms favorable to us, if at all. There could be no assurance that we would successfully complete our research and development, obtain adequate patent protection for our technology, obtain necessary government regulatory approval for drug candidates we develop or that any approved drug candidates would be commercially viable. In addition, we may not be profitable even if we succeed in developing and commercializing any of our drug candidates. These circumstances raise substantial doubt about our ability to continue as a going concern. Additionally, the Report of the Independent Registered Public Accounting Firm to our audited financial statements for the period ended December 31, 2008 filed in the Annual Report on Form 10-K indicates that there are a number of factors that raise substantial doubt about our ability to continue as a going concern. These financial statements do not include any adjustments that might result from the outcome of this uncertainty. If we became unable to continue as a going concern, we would have to liquidate our assets and might receive significantly less than the value at which those assets are carried on the consolidated financial statements.

During the first quarter of 2009, we further reduced our development and administrative staff by 11 employees down to 18 employees. This restructuring was a part of a continued initiative to focus our resources on advancing the Company's two clinical programs in restless legs syndrome, or RLS, and Parkinson's disease. In the first quarter of 2009, we continued to incur significant expenses relating to the development of aplindore, our D2 partial agonist, for Parkinson's disease and RLS. On May 12, 2009, we announced that we are pursuing strategic options including a sale of the Company or a sale of our assets and that we are taking additional steps to conserve capital while we pursue these options. In connection with this announcement, we have suspended the enrollment of new patients in ongoing Phase 2 studies for Parkinson's disease and RLS. Since December 31, 2008, we have eliminated approximately 50% of our staff positions.

Results of Operations

Results of operations may vary from period to period depending on numerous factors, including the timing of income earned under existing or future collaborative agreements, the progress of our independent and partnered research and development projects, the size of our staff and the level of preclinical and clinical development spending on drug candidates in unpartnered programs.

Three Months Ended March 31, 2009 and 2008

Operating revenues. We had no operating revenues for the three months ended March 31, 2009 and 2008. We are eligible to receive potential future milestone payments and royalties from Merck upon their achievement of certain development milestones.

                                                        Three Months Ended March 31,
                                                         2009                 2008            Change
                                                               (in thousands)
Outsourced clinical expenses
Insomnia                                             $           -       $           300     $    (300 )
Obesity                                                          -                   159          (159 )
Parkinson's disease and RLS                                    967                 2,853        (1,886 )
Total outsourced clinical expenses                             967                 3,312        (2,345 )
Outsourced development expenses                                630                 2,885        (2,255 )
Internal expenses
Salary and benefits                                          1,291                 3,552        (2,261 )
Supplies and research                                          148                   871          (723 )
Computer and office supplies                                    29                   161          (132 )
Facilities and utilities                                       173                   908          (735 )
Recruiting and relocation                                        9                   146          (137 )
Travel and other costs                                          28                   219          (191 )
Total internal expenses                                      1,678                 5,857        (4,179 )

Total research and development expenses              $       3,275       $        12,054     $  (8,779 )

                                                        Three Months Ended March 31,
                                                         2009                 2008             Change
                                                               (in thousands)

Salary and benefits                                   $        780         $         959     $     (179 )
Patents                                                        186                   107             79
Facilities and utilities                                       322                   161            161
Administrative                                                 593                   735           (142 )
Travel, supplies and other costs                               230                   201             29

Total general and administrative expenses             $      2,111          $      2,163      $     (52 )

Restructuring and impairment charges. Combined restructuring and asset impairment charges were $5.6 million and $2.5 million for the three months ended March 31, 2009 and 2008. The restructuring charge in 2009 includes a reduction in workforce on March 26, 2009 in which we eliminated 11 employee positions inclusive of both administrative and research functions, representing approximately 39% of our total workforce. First quarter 2009 expenses associated with this workforce reduction were $0.3 million. These expenses related primarily to employee separation costs as well as outplacement and administrative fees, the majority of which will be paid in the second and third quarters of 2009. In the first quarter of 2009, we also recognized asset impairment charges of $4.9 million on long-lived assets held for use and $0.4 million on assets available for sale.

In the first quarter of 2008, we recognized a restructuring charge of $2.5 million associated with the reduction in workforce announced on February 5, 2008 in which we eliminated 70 employee positions inclusive of both administrative and research functions, representing approximately 50% of our total workforce at that time. This $2.5 million charge in the first quarter of 2008 included $2.4 million related to employee separation costs and $0.1 million related to outplacement and administrative fees, the majority of which was paid in 2008. Affected employees of all reductions are eligible for a severance package that includes severance pay, continuation of benefits and outplacement services. Since December 31, 2008, we have eliminated approximately 50% of our staff positions.

Other income, net of interest expense. Other income, net of interest expense, was $0.1 million for the three months ended March 31, 2009, compared to $0.2 million for the same period in 2008. The decrease is associated with our lower investment balance during 2009.

Net loss. The Company recognized a net loss of $10.8 million for the three months ended March 31, 2009 compared to $16.5 million for the same period in 2008. The $5.7 million decrease in net loss was primarily a result of the overall decrease in operating expenses, including restructuring and asset impairment charges in each quarter.

At March 31, 2009 and December 31, 2008, cash, cash equivalents and marketable securities in the aggregate were $25.4 million and $31.1 million, respectively. There were no marketable securities at March 31, 2009 with maturities beyond one year. Our combined cash and other short-term investments decreased due to funding of operations, advancing our clinical programs, and paying down outstanding loans, offset in part by the receipt of $1.3 million advance payment in connection with the sale of our C5a patent estate. The funds received for the sale of this patent estate are classified as unearned income from sale of patent estate on our balance sheet at March 31, 2009 as we had not satisfied all of our obligations under the sale at that time.

The levels of cash, cash equivalents and marketable securities have fluctuated significantly in the past. Our current plan is to conserve our cash resources while we consider strategic options including a sale of the Company or a sale of our major assets. Accordingly, we have recently suspended enrolling new patients in our clinical studies for Parkinson's disease and RLS. We have also reduced our staff positions by approximately 50% percent since December 31, 2008, and we plan to continue to reduce staff consistent with our planned reduction of operations and the completion of the sale of assets or other strategic options. As of March 31, 2009, our working capital was $22.8 million compared to $28.4 million at December 31, 2008.

Cash used in operating activities was $5.4 million for the three months ended March 31, 2009 and was primarily attributable to our $10.8 million net loss coupled with a decrease in accounts payable and accrued expenses, offset by $5.7 million of non-cash charges related to impairment loss on assets held for sale, impairment loss on assets held for use, depreciation, non-cash compensation, and 401k match expense, as well as an increase in unearned income from the sale of a patent estate, and a decrease in receivables and other assets. Cash used in operating activities was $16.5 million for the three months ended March 31, 2008 and was primarily attributable to our $16.5 million net loss. Additionally, in the first quarter of 2008 we experienced a decrease in accounts payable and accrued expenses and an increase in other assets, which were primarily offset by non-cash charges related to depreciation, non-cash compensation, and 401k match expense.

Cash provided by investing activities was $5.5 million for the three months ended March 31, 2009 and was attributable to the maturities of marketable securities and minimal proceeds received on disposals of assets. Cash provided by investing activities was $7.4 million for the three months ended 2008 and was attributable to the maturities of marketable securities offset by minimal purchases of property, plant and equipment.

Cash used in financing activities was $0.4 million for the three months ended March 31, 2009 and 2008 and was attributable to principal payments of loan balances in each period.

Our cash requirements to date have been met primarily by the proceeds of our equity financing activities, amounts received pursuant to collaborative research, licensing or technology transfer arrangements, certain debt arrangements, interest earned on invested funds, and most recently, the sale of certain non-core assets. Our equity financing activities have included underwritten public offerings of common stock, private placement offerings of common stock and private sales of common stock in connection with collaborative research and licensing agreements. Our expenditures have funded research and development, general and administrative expenses, and the construction and outfitting of our research and development facilities.

As a result of what we view as dramatic increases for the cost of capital for the biotechnology industry and the very unfavorable environment for biotechnology companies, we are pursuing strategic options as described above. In the current environment, we believe available strategic options could require us to, among other things:

††† further delay, reduce the scope of or eliminate some or all of our research or development programs;

††† relinquish greater or all rights to product candidates at an earlier stage of development or on less favorable terms than we would otherwise choose;

††† eliminate or further defer the start of clinical trials or the chemical formulation and manufacturing efforts required to advance drug candidates;

††† sell some or all of our assets on less favorable terms than we would otherwise choose; and

††† conclude a merger or acquisition on terms less favorable than we would otherwise choose.

Borrowings and Contractual Obligations

The disclosure of payments we have committed to make under our contractual
obligations are summarized in Form 10-K for the twelve-month period ended
December 31, 2008 in the section titled "Management's Discussion and Analysis of
Financial Condition and Results of Operations" under the caption Contractual
Obligations. There has been no material change in our contractual obligations
since December 31, 2008. Below is a summary of our existing debt facilities as
of March 31, 2009:

                                          Interest          Original         Outstanding
                                         Rate (per         Principal          Principal
Lender                     Date            annum)            Amount            Amount        Maturity Date
Connecticut
Innovations, Inc.        October 1999            7.5 %   $    5,000,000     $   3,060,000        April 2016
Webster Bank            December 2001       2.9%-3.0 %   $   17,500,000     $   4,067,000     December 2011

Under the terms of the Webster Bank facility agreement, we are required to comply with certain covenants, including a requirement that we maintain at least $25.0 million in cash and marketable securities. Since there is a possibility that our cash balance may decline below $25.0 million within the next twelve months and that Webster Bank may choose to request full repayment during 2008, we have maintained the long-term portion of the loan as current debt on the financial statements.

As of March 31, 2009, we do not have any significant lease or capital expenditure commitments.

The discussion and analysis of financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The presentation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and disclosure of contingent assets and liabilities. We make estimates in the areas of revenue recognition, accrued expenses, income taxes, stock-based compensation, and marketable securities, and base the estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. For a complete description of our accounting policies, see "Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies," and "Notes to Consolidated Financial Statements" in Neurogen Corporation's Form 10-K for the year ended December 31, 2008. There were no new significant accounting estimates in the first quarter of 2009, nor were there any material changes to the critical accounting policies and estimates discussed in our Form 10-K for the year ended December 31, 2009.

Recently Issued Accounting Pronouncements

In December 2007, the FASB issued EITF Issue No. 07-1, Accounting for Collaborative Arrangements ("EITF 07-1"). EITF No. 07-1 requires that transactions with third parties (i.e., revenue generated and costs incurred by the partners) should be reported in the appropriate line item in each company's financial statement pursuant to the guidance in EITF Issue No. 99-19, Reporting Revenue Gross as a Principal versus Net as an Agent. The provisions of EITF No. 07-1 also include enhanced disclosure requirements regarding the nature and purpose of the arrangement, rights and obligations under the arrangement, accounting policy, amount, and income statement classification of collaboration transactions between the parties. The Issue is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years, and shall be applied retrospectively to all prior periods presented for all collaborative arrangements existing as of the effective date. Its adoption in the first quarter of 2009 did not have a material impact on our financial position, results of operations or cash flows.

In June 2008, the FASB issued FASB Staff Position ("FSP") EITF No. 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities. Under the FSP, unvested share-based payment awards that contain rights to receive nonforfeitable dividends (whether paid or unpaid) are participating securities and should be included in the two-class method of computing EPS. The FSP is effective for fiscal years beginning after December 15, 2008, and interim periods within those years. Since we have no unvested share-based payment awards that contain rights to receive nonforfeitable dividends, its adoption in the first quarter of 2009 had no impact on our financial position, results of operations or cash flows.

In June 2008, the FASB ratified EITF No. 07-5, Determining Whether an Instrument (or Embedded Feature) is Indexed to an Entity's Own Stock. The EITF addresses the accounting for certain instruments as derivatives under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. Under this new pronouncement, specific guidance is provided regarding requirements for an entity to consider embedded features as indexed to the entity's own stock. The guidance is effective for fiscal years beginning after December 15, 2008. We noted that we have no instruments that meet the scope of this EITF and as such, its adoption in the first quarter of 2009 had no effect on our financial position, results of operations or cash flows.