<PAGE>
 
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                                 UNITED STATES
                      SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C. 20549
 
                               ----------------
 
                                   FORM 10-K
 
                               ----------------
 
                                  (Mark One)
 
 [X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
                                  Act of 1934
                  For the fiscal year ended December 31, 1998
 
    [_] 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 0-28386
 
                            CELL THERAPEUTICS, INC.
            (Exact name of registrant as specified in our charter)
 

<TABLE>
   <S>                                       <C>
                  WASHINGTON                                91-1533912
           (State of Incorporation)            (I.R.S. Employer Identification No.)
</TABLE>

 
                      201 ELLIOTT AVENUE WEST, SUITE 400
                           SEATTLE, WASHINGTON 98119
                   (Address of principal executive offices)
 
      Registrant's telephone number, including area code: (206) 282-7100
 
       Securities registered pursuant to Section 12(b) of the Act: None
 
          Securities registered pursuant to Section 12(g) of the Act:
 
                          Common Stock, no par value
                        Preferred Stock Purchase Rights
 
                               ----------------
                              (titles of classes)
 
  Indicate by check mark whether the registrant (1) has filed all reports
required by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
 
                                Yes [X]  No [_]
 
  Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of the registrant's knowledge, in the definitive proxy statement
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K.
 
  On March 15, 1999, Cell Therapeutics, Inc. had 15,534,359 outstanding shares
of Common Stock. Of those, 10,426,872 shares of Common Stock were held by
nonaffiliates. The aggregate market value of such Common Stock held by
nonaffiliates, based on the closing price of such shares on the Nasdaq
National Market on March 15, 1999, was approximately $41,707,488. Shares of
Common Stock held by each executive officer and director and by each person
known to the Company who beneficially owns more than 5% of the outstanding
Common Stock have been excluded in that such persons may under certain
circumstances be deemed to be affiliates. This determination of executive
officer or affiliate status is not necessarily a conclusive determination for
other purposes.
 
                     Documents Incorporated by Reference:
Proxy Statement for the registrant's 1999 Annual Meeting of Shareholders (Part
                                     III)
 
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<PAGE>
 

                                    PART I
 

ITEM 1: BUSINESS
 
  Except for historical information contained herein, the matters discussed in
this Annual Report on Form 10-K contain forward-looking statements that
involve risks and uncertainties that could cause actual results to differ
materially from those anticipated by such forward-looking statements. Factors
that might cause such a difference include, but are not limited to, those
risks discussed under the caption "Factors Affecting the Company's Operating
Results."
 
GENERAL
 
  Cell Therapeutics, Inc. ("cti" or the "Company") is a pharmaceutical
research and development company that focuses on the discovery, development
and commercialization of small molecule drugs that selectively regulate the
metabolism of oxidized lipids and phospholipids that play a role in the
treatment of cancer and inflammatory and immune diseases. The Company's
initial business strategy is to build a diversified, vertically integrated
portfolio of oncology products targeting major unmet needs in the treatment of
patients with cancer. The Company's lead product candidate, Lisofylline
("LSF(TM)"), is being developed to prevent or reduce treatment-related
toxicities, specifically serious and fatal infections, mucositis and
treatment-related mortality, among cancer patients receiving high dose
radiation and/or chemotherapy. The Company is currently conducting two pivotal
Phase III clinical trials for LSF among cancer patients. The first trial is
being conducted among patients undergoing high dose induction chemotherapy for
the treatment of newly diagnosed acute myeloid leukemia ("AML"). Results from
this AML trial are expected in the second half of 1999. The second trial is
being conducted among patients receiving high dose radiation and/or
chemotherapy followed by bone marrow transplantation ("BMT") from unrelated
donors. Enrollment in this BMT trial is expected to be completed in the second
half of 1999. The Company has previously conducted a Phase III trial for LSF
among patients receiving BMT from related donors in which the primary
endpoints were not met.
 
  In addition to testing LSF among oncology patients, the Company is also
investigating LSF for use as an agent to prevent or reduce the incidence and
severity of acute lung injury ("ALI") and mortality among patients requiring
mechanical ventilation for respiratory failure.
 
  In March 1999, the Company expects to complete enrollment of the first 200
patients in a pivotal Phase II/III trial for LSF among patients with ALI
and/or acute respiratory distress syndrome ("ARDS"). During the first half of
1999, interim data on these first 200 patients will be analyzed by a Data
Safety and Monitoring Board (a "DSMB") established through the National Heart,
Lung and Blood Institute (the "NHLBI"). Based on differences in mortality
between patients treated with LSF or placebo, this DSMB will recommend whether
the trial should continue enrollment or be terminated.
 
  The Company's second lead product candidate, Apra(TM) (CT-2584), is a novel
small molecule drug for the treatment of patients with cancers resistant to
conventional chemotherapy, including prostate cancer and sarcomas. The Company
began a Phase II clinical trial for Apra among patients with prostate cancer
in the fourth quarter of 1998 for which it expects preliminary results in the
second half of 1999.
 
  In July 1998, the Company licensed exclusive worldwide rights to
polyglutamic acid paclitaxel ("PG-TXL(TM)"), a water-soluble and potentially
more effective form of the cancer drug Taxol(R), and to all potential related
uses of PG-TXL's polyglutamate technology. In preclinical tests, PG-TXL showed
fewer side effects and improved anti-tumor activity in ovarian and breast
cancer animal models, when compared to Taxol. The Company anticipates
beginning clinical trials for PG-TXL in the second half of 1999.
 
  In December 1998, cti acquired an exclusive option to obtain an exclusive
worldwide license to a novel class of orally active copper chelators which
block multiple steps in tumor induced new blood vessel formation, a process
termed "angiogenesis." By inhibiting the growth of such blood vessels, these
anti-angiogenic
 
                                       1

<PAGE>
 
compounds may starve tumors of the blood and nutrients which sustain them. The
lead compound, SC-7, is currently undergoing preclinical evaluation. The
Company plans to evaluate the preclinical toxicology and pharmacology of SC-7
and then determine whether to license and enter development of SC-7 by the
third quarter of 1999.
 
  In 1997 and 1998, the Company focused significant resources to expand its
oncology drug development activities to build a more diversified portfolio of
oncology products by acquiring exclusive rights to develop PG-TXL and SC-7. The
Company expects to continue to devote resources to expand its oncology
portfolio through additional licenses or acquisitions.
 
  Cell Therapeutics, Inc. was incorporated in Washington in September 1991. The
Company has not received any revenue from the sale of products to date and does
not expect to receive revenues from the sale of products for at least the next
several years. The Company's executive offices are located at 201 Elliott
Avenue West, Seattle, Washington 98119, and its telephone number is (206) 282-
7100.
 
SCIENTIFIC OVERVIEW
 
  Cell communication occurs through a complex process that commences when cells
respond to environmental signals which may be either physical or chemical, with
chemical signals being exemplified by hormones, cytokines and growth factors.
These signals initiate a series of biochemical events within the cell, known as
signal transduction processes, which result in cellular responses. Cellular
lipids, the primary component of cell membranes, have major roles, separating
compartments within cells, as signaling molecules and as important modulators
of other cellular signaling cascades. Certain cell signaling pathways are
essential for normal day-to-day cellular processes and are often referred to as
"housekeeping pathways" or "physiologic pathways." These housekeeping pathways
are involved in the normal growth and replenishment of cells in the body, such
as blood cells and the cells lining the intestinal tract. In contrast, there
are also signaling pathways, termed "stress-activated pathways" or "SAPs,"
which are part of the cellular response to injury following exposure to cell-
damaging stimuli such as radiation, chemotherapy or oxidative injury. These
pathways are activated in many diseases.
 
  The Company believes that such cell-damaging stimuli such as radiation,
chemotherapy or oxidative injury cause a number of their toxic effects by
altering the chemical composition of membrane lipids through oxidation or
alteration in the relative quantities of the component phospholipids.
Additionally, the transformation of a normal cell into a cancer cell is
associated with increased production of phosphatidic acid ("PA"). Oxidized
lipids and certain phospholipids (such as PA) in turn activate a variety of
stress-related signaling pathways within the cell which carry messages to the
cell nucleus and result in transcription of selected genes. Such genes may
include those encoding (1) inflammatory cytokines which result in activation of
inflammatory and immune responses, (2) cytokines which inhibit the growth and
renewal of the stem cells in the bone marrow and of the cells lining the
intestinal tract, (3) other proteins associated with cell death, and (4)
proteins associated with malignant transformation.
 
  Oxidized lipids, PA elevation and activation of SAPs are associated with many
disease states and do not appear to be primarily utilized for normal cellular
processes. The Company believes that therapeutics which regulate the production
and/or degradation of oxidized lipids or phospholipids may offer greater
specificity and safety profiles for the treatment of oncologic, inflammatory
and immune diseases than pharmaceuticals that modulate the housekeeping or
physiologic pathways necessary for normal day-to-day cellular function.
 
                                       2

<PAGE>
 
PRODUCTS UNDER DEVELOPMENT
 
  The following table summarizes the potential therapeutic indications,
current development status and current collaborators for the Company's
products under development:
 

<TABLE>
<CAPTION>
                                                                                              DEVELOPMENT
     COMPOUND          TYPE                              INDICATION                             STATUS
- ---------------------------------------------------------------------------------------------------------------
<CAPTION>
                              COLLABORATORS
- ---------------------------------------------------------------------------------------------------------------
                                   ONCOLOGY
- ---------------------------------------------------------------------------------------------------------------
 <C>              <C>              <C>                                                     <S>
  LSF(TM)         Suppressor of    Prevention of serious infection following high dose    Phase III (ongoing)
  (LISOFYLLINE)   lipid oxidation  chemotherapy for acute myeloid leukemia (AML)
                                   Prevention of serious infection following unrelated    Phase III (ongoing)
                                   bone marrow transplant (BMT)
                                   Reduction in incidence and severity of mucositis       Phase IIA (ongoing)
                                   followingdose-intensive radio-chemotherapy
  APRA(TM)        Selective        Hormone/chemotherapy-resistant prostate cancer         Phase II (ongoing)
  (CT-2584)       regulator
                  cancer cell
                  phospholipids
                                   Soft tissue sarcoma                                    Phase II (expected
                                                                                           to begin Q2 1999)
                                   Lung cancer                                            Phase II (expected
                                                                                           to begin Q4 1999)
  PG-TXL(TM)      Polymer          Breast, lung and ovarian cancers                        Phase I (expected
  (POLYGLUTAMATE  delivery of                                                              to begin Q4 1999)
  PACLITAXEL)     anti-cancer
                  drugs
  PG-CAMPTOTHECIN Polymer          Colon cancer                                               Preclinical
                  delivery of                                                                 Development
                  anti-cancer
                  drugs
  PG-ETOPOSIDE    Polymer          Lung cancer                                                 Research
                  delivery of
                  anti-cancer
                  drugs
  SC-7            Copper chelator  Cancer (anti-angiogenesis)                                 Preclinical
                                                                                              Development
- ---------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------
                            <C>
                            Johnson & Johnson
                            BioChem Pharma
                            Johnson & Johnson
                            BioChem Pharma
                            BioChem Pharma
                            BioChem Pharma
                            BioChem Pharma
                            BioChem Pharma
                            --
                            --
                            --
                            --
- ---------------------------------------------------------------------------------------------------------------
                           INFLAMMATION & IMMUNOLOGY
- ---------------------------------------------------------------------------------------------------------------
  LSF             Suppressor of    Reduction of acute lung injury (ALI) related mortalitPhase II/III (ongoing)y
                  lipid oxidation
  COMPOUND        Inhibitors of    Organ transplant rejection                                  Research
  CANDIDATES*     Th-1 lymphocyte  Acute graft vs. host disease
                  differentiation  Multiple Sclerosis
                                   Type 1 Diabetes
  COMPOUND        Suppressors of   Type 2 Diabetes                                             Research
  CANDIDATES*     plasma
                  free fatty acid
                  levels
- ---------------------------------------------------------------------------------------------------------------
                            BioChem Pharma
                            City of Hope/
                            cti Joint Venture
                            --
</TABLE>

 
 
cti is a registered trademark of Cell Therapeutics Inc. LSF, Apra and PG-TXL
are proprietary marks of cti. This annual report contains trademarks and
service marks of companies other than cti, specifically TAXOL, a registered
trademark of Bristol-Myers Squibb Company.
 * Compound Candidates refer to collection of compounds with pharmacologic
   activity.
 
                                       3

<PAGE>
 
  Except for historical information, all of the information in the column of
the above table entitled "Projected Development Status" constitutes forward-
looking statements that involve risks and uncertainties. Actual results may
differ materially from those discussed therein, due to the research,
development and market risks which could adversely affect the Company's
projected timeline for regulatory approval. There can be no assurance that
such approval will ever be received, or that it will be received on the dates
projected herein. Additional risks and uncertainties are described in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included herein and in the Company's most recently filed SEC
documents, such as its most recent Forms 10-K, 10-Q and 8-K.
 
ONCOLOGY
 
 Overview
 
  Cancer is the second leading cause of death in the United States, resulting
in over 550,000 deaths annually. The National Cancer Advisory Board reports
that more than eight million people in the United States have cancer, and
projects that cancer will surpass heart disease as the leading cause of death
in the United States by the end of the decade. Approximately 1.4 million new
cases of cancer are diagnosed each year in the United States. The most
commonly used methods for treating cancer patients include surgery, radiation
and chemotherapy. A cancer patient often receives a combination of these
treatment modalities depending upon the type and extent of the disease. At
some point in their disease treatment, 70 percent of all cancer patients will
receive radiation therapy and 50 percent of all newly diagnosed cancer
patients will receive chemotherapy. Despite their benefits for treating
cancer, there are significant limitations of, and complications associated
with, radiation and chemotherapy which result in a high rate of treatment
failure. For example, only ten percent of patients treated with chemotherapy
are cured. The principal causes of cancer treatment failure include (1) severe
side effects from cancer treatments, (2) existence or emergence of resistance
to the cancer killing effects of chemotherapy, (3) inefficiency of current
cancer treatments to selectively target their killing effects to tumors; and
(4) recurrence of cancer following potentially curative surgery or radiation
therapy. The Company is developing a portfolio of products targeting these
principal causes of cancer treatment failure.
 
  Severe Side Effects of Anti-Cancer Treatments. Despite their benefits for
treating cancer, radiation and chemotherapy treatment result in toxicities
that limit the use of potentially more effective doses. These treatment-
related toxicities are directly responsible for placing patients at risk for
serious and often life threatening infections and other undesirable side
effects. There are several means by which radiation and chemotherapy place
patients at risk for infection. Radiation and chemotherapy are toxic to
rapidly dividing cells, which include not only cancer cells but also certain
normal cells such as bone marrow cells, hair follicle cells and the epithelial
cells lining the mouth, stomach and intestinal tract. The most common and
problematic of the severe side effects attributable to radiation and
chemotherapy are neutropenia, or bone marrow suppression of infection-fighting
white blood cells ("WBCs"), and mucositis, or damage to the epithelial cells
lining the mouth, stomach and intestinal tract. Epithelial cells form an
important barrier, preventing potentially lethal bacterial and fungal
organisms which reside in the intestinal tract from entering the sterile blood
stream and tissues. Damage from radiation or chemotherapy to intestinal
epithelial cells disrupts this important barrier, allowing infectious
pathogens to gain access to the systemic blood circulation. When neutropenia
and mucositis occur together, patients are at high risk for serious and fatal
infections. Approximately 575,000 patients receive chemotherapy each year in
the United States, with more than 20 percent of these patients developing
severe neutropenia and/or mucositis. There are currently no therapies that
reduce the incidence of severe or fatal infections or reduce the incidence of
severe mucositis.
 
  Chemotherapy Resistance. Resistance to the cancer killing effects of
conventional chemotherapeutic agents is a major impediment to the effective
treatment of cancer. Approximately 90 percent of all cancer patients
undergoing chemotherapy never respond or develop resistance to chemotherapy.
Because many chemotherapeutic agents share similar properties and mechanisms
of action, once a tumor develops resistance to a single therapeutic agent, it
becomes resistant to several classes of chemotherapeutic drugs.
 
 
                                       4

<PAGE>
 
  Selective Targeting of Cancer. The majority of chemotherapeutic agents kill
cells by mechanisms which are not selective to cancerous cells. Because these
chemotherapeutic agents are administered systemically, they also lead to
toxicities in normal tissues which ultimately limits the potential
effectiveness of chemotherapy. While certain cancers may be treated with
monoclonal antibodies such as Rituxan(R) and Herceptin(R), which are more
selective for the treatment of tumor tissue than for normal tissue, the
majority of current chemotherapeutic agents in use are not selective for tumor
tissue. Methods which permit the targeted delivery of chemotherapy or
radiation therapy represent a major need in the treatment of patients with
cancer.
 
  Prevention of Cancer Recurrence. Although the removal of cancers diagnosed
at an early stage offers a potential cure, the presence of microscopic spread
("metastases") or the incomplete removal of microscopic portions of a primary
tumor leads to the recurrence of the cancer, often in a more widespread
manner. Agents which block the production of certain hormones, such as
estrogen or testosterone, have been shown to prevent recurrence in early
stages of certain cancers, such as breast and prostate cancer. However, only a
minority of cancers respond to such hormonal therapies. Recent scientific data
has identified several blood vessel growth substances known as "angiogenic
factors", which are secreted by tumors. These angiogenic factors permit tumors
to develop blood vessels in order to receive nutrients needed for growth, a
process known as "angiogenesis". The Company believes that novel inhibitors of
tumor angiogenesis may address a significant need in the prevention of cancer
recurrence.
 
  The Company is focusing its oncology development efforts on building a
diversified, vertically integrated portfolio of oncology products to target
the principal causes of cancer treatment failures described above. These
include (1) LSF, an agent being developed to prevent or reduce the incidence
of serious and fatal infections, mucositis and treatment-related mortality
among patients receiving high dose radiation and/or chemotherapy, (2) Apra, a
novel anti-cancer drug for the treatment of patients with tumors resistant to
conventional chemotherapeutic agents, (3) PG-TXL, a novel water-soluble form
of the cancer drug paclitaxel, that the Company believes may be a more
effective and less toxic anti-tumor agent, due to its ability to more
selectively target paclitaxel to tumor tissues, and (4) a class of synthetic
small molecules, including SC-7, which are inhibitors of tumor angiogenesis
and thereby may prevent the recurrence of cancer following surgery and
radiochemotherapy. The Company may license or acquire additional agents,
which, when used with other cti oncology products, may provide added value to
the integrated management of oncologic disease.
 
 Lisofylline
 
  LSF is a synthetic small molecule drug undergoing investigation in two
pivotal Phase III clinical trials among cancer patients receiving high dose
radiation and/or chemotherapy. Unlike blood cell growth factors, LSF is being
developed to prevent or reduce the incidence of serious and fatal infections,
mucositis and treatment-related mortality. The Company believes that the use
of LSF may permit the safer delivery of higher, potentially more effective
doses of radiation and chemotherapy.
 
  The Company's development strategy for LSF has been to target anti-cancer
treatment regimens which are accompanied by a high incidence of serious
neutropenic infections, mucositis and treatment-related mortality. The Company
initially is pursuing the development of LSF for the treatment of patients
with AML undergoing high dose induction chemotherapy and for cancer patients
receiving high dose radiation and/or chemotherapy followed by BMT, for the
following reasons: (1) following the use of high dose radiation and/or
chemotherapy, up to 50 percent of patients may develop serious infections, and
up to 50 percent of those patients may die from the side effects of the cancer
treatment, (2) in these patient groups there is a high unmet need for agents
which reduce serious and fatal infections, (3) under recent FDA initiatives,
New Drug Applications ("NDAs") for serious, life-threatening or severely
debilitating indications that provide a meaningful therapeutic benefit to
patients over existing treatments may be eligible to receive accelerated
review and approval, and (4) the Company believes that, once approved, agents
which target life threatening side effects of cancer therapy and improve
patient outcomes will be adopted by health care providers, patients and third-
party payors. The Company is also investigating the use of LSF to reduce the
incidence and/or the severity of mucositis following dose-intensive radiation
and chemotherapy.
 
 
                                       5

<PAGE>
 
  In 1995, in the United States, 75,000 patients received induction-type
chemotherapy regimens for the treatment of leukemias, such as AML, and
lymphomas, and almost 200,000 patients received dose-intensive chemotherapy
for a variety of solid tumor types, 30 percent of whom are at risk to develop
severe mucositis. In 1995, approximately 20,000 patients in the United States
were treated with ablative doses of chemotherapy requiring BMT or peripheral
blood stem cell replacement. This type of chemotherapy regimen is one of the
fastest growing types of cancer treatments in the United States, with an
estimated annual growth rate of 15 to 20 percent. Despite this growth rate,
only 25 percent of patients will find an acceptable family member bone marrow
donor. In 1986 the National Marrow Donor Program was established to provide
bone marrow from unrelated donors for patients who lacked a family member
donor. However, the high incidence of infection and mortality associated with
this type of treatment limits its more widespread potential application.
 
  The Company is conducting an ongoing pivotal Phase III trial in patients
with newly diagnosed AML who receive high dose induction chemotherapy. In
addition, the Company is conducting a pivotal Phase III clinical trial of LSF
in patients with leukemias or lymphomas who require BMT (from unrelated
donors) after receiving ablative, or bone marrow-destroying, doses of
radiation and/or chemotherapy. In the third quarter of 1998, the Company also
commenced a Phase IIA clinical trial of LSF in patients with head and neck
cancer who receive dose-intensive radiation and chemotherapy and who develop
severe mucositis. Common to each of these three categories of anti-cancer
treatment (ablative, induction and dose-intensive) is the occurrence of
neutropenia and the breakdown of the epithelial barrier cells lining the
mouth, stomach and intestinal tract, placing patients at a high risk of life-
threatening infections, severe mucositis and mortality.
 
  Clinical Trials--AML. In the third quarter of 1997, the Company reported the
preliminary results of its 70 patient, single center, double-blind placebo
controlled Phase II trial of LSF (3 mg/kg) among patients with newly diagnosed
AML undergoing high dose induction chemotherapy. This trial examined the
effects of LSF on the incidence of neutropenic infections (serious and non-
serious), infection-related deaths, overall mortality and complete remission
rates. On an intent to treat analysis at 60 days following start of induction
chemotherapy, this study demonstrated that the administration of 3 mg/kg of
LSF resulted in a statistically significant reduction in the incidence of
serious neutropenic infections (p=0.043) and of the incidence of neutropenic
fungal infections (p=0.01), when compared to placebo patients. In addition,
there was a strong trend toward a reduction in fatal infections (p=0.19) and a
trend toward a reduction in all (serious and non-serious) neutropenic-related
infections (p=0.29). No serious side effects attributable to LSF were detected
in this trial.
 
  The Company has ongoing a Phase III multi-center randomized placebo
controlled trial of LSF (3mg/kg) among patients with newly diagnosed AML
undergoing high dose induction chemotherapy. The primary endpoint of this
study is the reduction of the incidence of serious neutropenic infections. In
the fourth quarter of 1997, the Company amended this ongoing Phase III AML
trial to increase enrollment to 160 patients in order to provide adequate
statistical power for the primary endpoint. In July 1998, an independent DSMB
reviewed information on patients enrolled in this study to examine whether
significant imbalances in risk factors were present between treatment arms.
The DSMB identified no safety issues and, following its review, recommended
that the enrollment in the study be completed as planned. The Company
anticipates completing enrollment and the minimum 60 day follow-up period in
the first half of 1999, with results expected early in the second half of the
year. See "--Factors Affecting Our Operating Results--There Is No Certainty of
Positive Clinical Trial Outcomes."
 
  Clinical Trials--Related Donor BMT. In the first quarter of 1996, the
Company completed a 60 patient, multi-center, double-blind placebo controlled
Phase II trial which investigated the effect of two different doses (2 mg/kg
and 3 mg/kg) of LSF on the rate of blood cell recovery and the incidences of
fever, infection, toxicity and mortality in cancer patients undergoing high
dose radiation and/or chemotherapy followed by BMT. On an intent to treat
analysis at 100 days following BMT, this study demonstrated that
administration of 3 mg/kg of LSF resulted in a statistically significant
reduction in mortality (p=0.022), the incidence of serious and fatal
infections (p=0.005), and the duration of absolute neutropenia (p=0.046)
(defined as the number of days following BMT with fewer than 100 neutrophils
per microliter of blood) when compared to placebo recipients or patients
randomized to receive 2 mg/kg of LSF. In addition, there was a strong trend
toward a reduction in
 
                                       6

<PAGE>
 
the overall incidence of mucositis (p=0.08) and in the incidence of severe
mucositis (p=0.104) among higher dose LSF recipients compared to placebo
recipients or patients randomized to receive the lower dose of LSF. Certain
endpoints of the trial regarding neutrophil and platelet recovery, the
duration of fever and transfusion requirements were not met. No serious
adverse side effects attributable to LSF were detected in this trial.
 
  On March 25, 1998, the Company announced preliminary results of its multi-
center, double blind placebo controlled pivotal Phase III trial for LSF in 132
patients undergoing high dose radiation and/or chemotherapy followed by BMT
from related donors (siblings). This trial utilized a 3 mg/kg dose of LSF. The
primary endpoints of this trial, reduction in neutropenia-related infections
and reduction in BMT treatment-related mortality, were not met. The Company
believes that the ability to meet the primary endpoint of this study may have
been affected by a statistically significant (p=0.01) imbalance in high-risk
patients who had pre-existing medical conditions (including heart disease,
diabetes and hepatitis) among those patients who were randomized to the LSF
arm of the study and who were treated with intensive treatment regimens.
 
  Clinical Trials--Unrelated Donor BMT. In the first quarter of 1997, the
Company commenced a 100 patient pivotal Phase III trial of LSF (5 mg/kg) among
patients with cancer receiving high dose radiation and/or chemotherapy
followed by BMT from unrelated donors. In addition to being at high risk for
serious and fatal infections, these patients have a high incidence of severe
mucositis and treatment-related deaths. This pivotal Phase III trial will
determine the effect of higher doses of LSF on serious neutropenic infection
and treatment-related mortality and will provide supportive dosing and
efficacy data for mucositis applications of LSF. If effective, the Company
believes that the use of LSF may increase the number of patients who receive
BMT from unrelated donors. Following analysis of the Phase III related donor
BMT trial in the spring of 1998, the Company amended this ongoing Phase III
BMT trial to increase enrollment to 206 patients in order to provide
statistical power for the two primary end points. In July 1998, an independent
DSMB reviewed information on patients enrolled in the trial to examine whether
significant imbalances in risk factors were present between the treatment
arms. The DSMB identified no safety issues and following its review,
recommended that enrollment in the study be completed as planned. See "--
Factors Affecting Our Operating Results--There Is No Certainty of Positive
Clinical Trial Outcomes."
 
  Clinical Trials--Mucositis. In the third quarter of 1998, the Company
commenced a 12 to 20 patient, single-center, Phase IIA trial of LSF in
patients with head and neck tumors receiving dose-intensive radiation and
chemotherapy who develop severe mucositis. The trial is designed as an open
label, dose-ranging study utilizing a new infusion schedule of LSF. Unlike
other ongoing studies of LSF, where the drug is administered four times a day
over a ten-minute infusion period, this trial examines the safety and efficacy
of LSF administered continuously to patients on an outpatient basis. The drug
is started just prior to chemotherapy and continued during the entire eight to
eleven week period of cancer treatment. Four dose levels are being
investigated. If dose-limiting toxicities are observed, patients will be
allowed to switch to the standard four times daily dosing regimen of LSF. The
Company anticipates that this trial will be completed in the second half of
1999 and, if successful, that Phase III trials would be commenced in 2000. See
"--Factors Affecting Our Operating Results--There Is No Certainty of Positive
Clinical Trial Outcomes."
 
  Mechanism of Action. Following exposure to radiation, chemotherapy or
oxidative injury, highly reactive oxygen free radicals are generated. These
oxygen free radicals are "soaked up" both in the blood stream and in cell
membranes by a pool of lipids termed "oxidizable lipids" to produce both
complex oxidized lipids and highly reactive free oxidized lipids such as
HPODEs. HPODEs are not found in normal individuals but are elevated in
patients with cancers. Levels may be further affected by cancer treatments
such as chemotherapy and high dose radiation chemotherapy followed by BMT.
Oxidized lipids have also been shown to have immediate effects on cell
membranes, resulting in cell membrane perturbation or disruption which may
lead to cell damage or cell death among the barrier cells lining the intestine
or respiratory tract. It has been shown that elevated HPODE levels
statistically correlate with the development of complications following high
dose radiation and/or chemotherapy followed by BMT. Therefore, lipid oxidation
may contribute to the early breakdown in mucosal barrier function observed
following radiation, chemotherapy or oxidative injury, allowing potentially
pathogenic bacteria and fungi to gain access to an otherwise sterile
bloodstream and tissues. Oxidized lipids also cause activation of a number of
SAPs within the cell, resulting in further tissue injury, inflammation and
delayed healing.
 
                                       7

<PAGE>
 
  While the biomolecular target for LSF is presently unknown, its therapeutic
activity appears to be due to LSF's effect on epithelial and inflammatory cell
signaling pathways. Recent data has shown that LSF can specifically interrupt
the cell signaling pathway associated with the development of inflammatory
lymphocytes, known as Th1 cells, which mediate a number of complications
experienced by cancer patients who receive high dose radiation and/or
chemotherapy followed by BMT. Through exploitation of this pathway, the
Company believes it will define the biomolecular target for LSF. Moreover,
these findings have enabled company scientists to develop chemical analogs of
LSF, which have the potential to be administered to patients orally.
 
  The Company believes that the effects of LSF on lipids and on the activation
of SAPs may represent a critical upstream point of intervention in the
initiation of the cellular stress and injury response. By modulating these
biochemical events, LSF may be able to prevent both early and late damage to
the epithelial barrier cells lining the mouth, stomach and intestinal tract,
resulting in a reduction in infection, mucositis and mortality following high
dose anti-cancer treatment. Because epithelial barrier cells also line the
lung tissue in the respiratory tract, comprised by cells which are also
susceptible to such oxidative injury, the Company believes that LSF may also
be effective for preventing or reducing ALI in patients requiring mechanical
ventilation for respiratory failure. See "--Inflammatory Disease."
 
 Apra (CT-2584)
 
  Apra is the Company's novel small molecule drug under investigation for the
treatment of patients with cancers resistant to conventional chemotherapy,
including prostate cancer and sarcomas. The Company believes that Apra has a
unique mechanism of action which may allow the drug to be (1) toxic to cancers
which have multidrug resistance to conventional chemotherapeutic agents,
including cancers with multidrug resistance due to overexpression of a gene
known as the "mdr" gene, (2) more toxic to cancerous cells than to non-
cancerous cells, (3) not susceptible to development of multidrug resistance,
and (4) effective when used alongside conventional anti-cancer treatments.
 
  The Company's development strategy for Apra is to target cancers resistant
to conventional chemotherapy, such as hormone-refractory prostate cancer and
sarcomas that have progressed despite chemotherapy. The Company believes that
this represents an opportunity to pursue first line therapeutic applications
of the drug where alternative treatments are lacking or ineffective. The
Company intends to extend its development of Apra to use as a second line
therapy for cancers such as lung, colon and breast cancers which acquire
resistance to conventional first line chemotherapeutic agents, resulting in
treatment failure. Because Apra's mechanism for tumor cell killing appears to
be unique, and because it does not have the toxicities of conventional anti-
cancer agents, the Company believes that Apra may be used both as a first line
therapy for a variety of cancer types for which there is no effective standard
therapy and alongside conventional chemotherapeutic agents.
 
  Preclinical and Clinical Trials. In preclinical testing, Apra was toxic to
nearly all tumor cell lines tested and to tumor cells grown from human tumor
biopsy samples. These cell lines and samples included prostate, sarcomas,
brain, colon, breast, lung and ovarian cancers, as well as certain leukemias
and lymphomas.
 
  The Company has completed two Phase I trials for Apra among patients with a
variety of cancers resistant to conventional chemotherapy. The first trial was
co-sponsored by the Cancer Research Campaign and conducted at the Christie
Hospital in the United Kingdom. The second Phase I trial was conducted at the
Memorial Sloan Kettering Cancer Research Center in the United States. In those
trials, approximately 30 percent of the 52 patients with advanced prostate,
soft tissue sarcoma/mesothelioma, ovarian, renal, thyroid and breast cancers,
experienced stable disease or better with Apra treatment. Fifteen patients
remained free from cancer progression for at least three months. Two patients
with advanced hormone and chemotherapy refractory prostate cancer experienced
a decrease in levels of prostate specific antigen following treatment with
Apra, with one patient being free from disease progression for 5.5 months.
Four of nine mesothelioma patients had disease stabilization or regression.
One of these patients had a partial response lasting six months, and a patient
with advanced ovarian cancer remained free of disease progression for nine
months. Apra was well tolerated, with some patients experiencing flushing or
mild nausea. The dose limiting side effect was fatigue. There was no bone
marrow suppression or hair loss observed, nor was there any incidence of death
related to Apra treatment.
 
                                       8

<PAGE>
 
  The Company began a Phase II efficacy trial for Apra among patients with
advanced hormone and chemotherapy refractory prostate cancer in the fourth
quarter of 1998. The new trial is an open label efficacy study among patients
with advanced prostate cancer who have failed therapy with hormonal agents and
at least one conventional chemotherapeutic agent. Eighty patients will be
randomized to either the best dose and regimen determined in the Phase I
Memorial Sloan Kettering trial (455mg/M/2/ daily for 3 days once every 21
days) or to the same total dose administered once weekly for three weeks.
Slowing of the rate of disease progression is the primary endpoint of the
study. Enrollment is expected to be completed in the second half of 1999. A
consortium of eight leading prostate cancer research and treatment centers in
the United States will conduct the trial. Additionally, the Company
anticipates initiating a Phase II trial for soft tissue sarcoma in the first
half of 1999 followed by a Phase II trial of Apra alongside conventional
chemotherapy for lung cancer. See "--Factors Affecting Our Operating Results--
There Is No Certainty of Positive Clinical Trial Outcomes."
 
  Mechanism of Action. Apra's unique mechanism of action of tumor cell killing
is believed to result from the effects it has on tumor cell phospholipids.
Unlike normal growing cells, such as bone marrow cells, tumor cells
overproduce PAs through the activation of several enzymes such as
phosphatidylcholine phospholipase-D ("PC-PLD") and an isoform of
lysophosphatidic acid acyltransferase (LPAAT-^) first cloned from humans by
cti scientists. Apra appears to enhance the processing of tumor cell
phospholipids by means of PA to another phospholipid, phosphatidylinositol
("PI"), in such quantities as to lead to tumor cell death. Because of its
unique structure and mechanism of action, Apra does not appear to be
susceptible to multidrug resistance. Scientists at cti have cloned PC-PLD,
LPAAT-^ and additional enzymes involved in the conversion of PA to PI in order
to explore further the mechanism of Apra. Two of these enzymes appear to be
unique targets for anti-cancer drug development. The Company has therefore
established high throughput assays using these phospolipid metabolizing
enzymes to identify new therapeutic agents in cancer. See "--Proprietary Drug
Discovery Technology."
 
 PG-TXL (CT-2103)
 
  PG-TXL (polyglutamate-paclitaxel) is a water-soluble form of the world's
most widely used cancer drug, paclitaxel, which is marketed under the brand
name Taxol(R). The Company believes PG-TXL, by selectively targeting
paclitaxel to tumor tissue, may have enhanced tumor fighting capabilities and
be more easily tolerated by patients than Taxol.
 
  The Company's development strategy for PG-TXL is to perform initial tests of
the compound in patients with breast, ovarian, and lung cancer who have not
had prior therapy with Taxol and among those patients whose cancers have
become Taxol resistant. Phase I studies are planned in the UK and will focus
on these patient groups. The Company anticipates initiating a Phase I trial
sponsored by the Cancer Research Campaign in the United Kingdom late in the
second half of 1999. In addition to providing information on the safety,
tolerability and pharmacology of PG-TXL, this Phase I trial may also provide
anti-tumor activity data in patients with tumors known to be responsive to
Taxol. The Company believes this data may permit the initiation of a Phase
II/III efficacy study in the United States in 2001.
 
  Preclinical Studies. In preclinical testing, PG-TXL showed fewer side
effects and significantly improved anti-tumor activity when compared to Taxol.
This was achieved by binding paclitaxel (the active ingredient of Taxol) to
the polymer, polyglutamate, which allowed significantly more paclitaxel to be
delivered to tumor cells and less to normal tissues, thereby averting the
toxic side effects of the paclitaxel compound. In preclinical trials, the
polymer-drug combination concentrated in tumor tissue, resulting in the
complete regression of ovarian and breast cancer in animal models, in contrast
to Taxol, which merely delayed tumor growth.
 
  Mechanism of Action. Tumors contain blood vessels with fenestrations, or
"windows," which make these vessels leaky. These abnormal vessels can act like
a strainer, trapping large molecules such as the polyglutamate polymers as
they circulate in the bloodstream. In contrast, the conjugates do not enter
normal tissues because the blood vessels in normal tissues do not contain
fenestrations. The polymers are predominately confined to the
 
                                       9

<PAGE>
 
bloodstream until they are degraded and excreted by the kidneys. If loaded
with a chemotherapeutic drug such as paclitaxel, the polyglutamate carrier
unloads its cancer-killing agent at the tumor site, delivering a larger dose
directly to the tumor while largely sparing normal tissue its toxic side
effects. Polyglutamate technology may also hold promise in improving the
safety and efficacy of other chemotherapies including camptothecin, a cancer
drug widely used for colon cancer.
 
 SC-7
 
  SC-7 is the lead compound in a novel class of oral, synthetic, small
molecule copper-chelating agents that inhibit the growth of new blood vessels
in tumors, a process termed "angiogenesis." Tumors produce a variety of growth
factors that induce new blood vessels to form and deliver the nutrients that
the tumors need to grow and spread. A new approach to anti-tumor therapy
involves development of agents to inhibit angiogenesis, thus starving tumors
of oxygen and nutrients needed for growth. However, because angiogenesis may
be stimulated by more than one tumor-produced growth factor (e.g., FGF, VEGF,
and SPARC peptide), therapeutic agents which target just one angiogenic factor
are likely to have limited effectiveness. Furthermore, current approaches
being developed to inhibit angiogenesis use protein therapeutics, which are
costly to manufacture and must be given by injection, both of which pose
significant obstacles to long-term administration. The Company believes that
to be effective, anti-angiogenic therapies will be capable of being
administered easily and on a long-term basis to patients at high risk for
disease recurrence following primary cancer treatment.
 
  SC-7 specifically binds to ("chelates") copper, which is an essential co-
factor of tumor angiogenic factors. New blood vessel growth in tumors requires
stimulatory factors that are inactive unless they bind to copper. By tightly
binding to extracellular copper and preventing its association with
angiogenesis factors, SC-7 has anti-angiogenic and anti-tumor activity in a
variety of animal models. Preliminary studies demonstrate that, aside from the
known and controllable effects of copper depletion, SC-7 is non-toxic. SC-7 is
a synthetic, small molecule that can be manufactured less expensively than
potentially competing protein products and, unlike these agents, SC-7 may be
administered to patients orally.
 
  The Company plans to evaluate preclinical toxicology and pharmacology of SC-
7 and then determine whether to license and enter development of SC-7 by the
third quarter of 1999.
 
INFLAMMATORY DISEASE
 
  Acute lung injury ("ALI") results from an acute inflammatory condition that
is precipitated by a wide variety of conditions and is caused by inflammatory
and oxidative injury to the epithelial barrier cells which line the
respiratory tract. ALI results in a requirement for mechanical ventilation
with high concentrations of oxygen which, in itself, causes further lung
injury. More than one million patients are at risk each year in the United
States for developing ALI. When severe, ALI is termed Acute Respiratory
Distress Syndrome ("ARDS"). Approximately 30% to 40% of patients who develop
ARDS will die. There are no specific therapies to prevent or treat the
estimated 150,000 new cases of ARDS diagnosed each year.
 
  In addition to its potential oncology applications, LSF is also under
investigation by cti as an agent to prevent or reduce mortality among patients
with ALI and ARDS who require mechanical ventilation and high concentrations
of inspired oxygen. The mechanisms underlying the toxicity to gastrointestinal
barrier cells observed in the oncology setting may also operate to cause the
toxicity to respiratory barrier cells observed in the critical care setting.
The Company's development strategy for LSF in critical-care applications is to
target patient populations at high risk for developing ALI and ARDS, where
early intervention is feasible and clinically meaningful endpoints can be
assessed after relatively short (14-21 days) duration of drug treatment.
 
  Clinical Trials. The Company has previously completed a multi-center,
randomized double blind placebo controlled Phase II feasibility study of LSF
among 13 patients suffering from septic shock which examined the safety and
pharmacokinetics of LSF given to critically ill patients. Of the 12 patients
evaluable for endpoint analysis, the improvement from baseline in median
multi-organ failure scores experienced by LSF recipients was
 
                                      10

<PAGE>
 
40 percentage points greater than the improvement experienced by placebo
recipients. One hundred percent (100%) of patients receiving LSF survived to
day 28 compared to 67 percent (67%) of placebo recipients.
 
  In the first quarter of 1997, the NHLBI, through its ARDS Network, notified
the Company that after reviewing the preclinical and clinical data to date, it
had selected LSF for investigation in a multi-center, double blind placebo
controlled pivotal Phase II/III trial among patients experiencing ALI. The
ARDS Network was established by the NHLBI in cooperation with the FDA and the
National Institutes of Health to accelerate the investigation and approval of
novel therapies for ALI. The pivotal Phase II/III trial, which began in the
first quarter of 1998, will examine the effect of a 3 mg/kg dose of LSF on
early (day 28) mortality among 800 patients who develop ALI and ARDS. In
March, the Company expects to complete enrollment of the first 200 patients in
a pivotal Phase II/III trial for LSF among patients with ALI and/or ARDS.
During the first half of 1999, interim data on these first 200 patients will
be analyzed by a DSMB established through the NHLBI. Based on differences in
mortality, the DSMB will recommend whether the trial should continue
enrollment or be terminated. If successful in achieving the study's primary
end point, the Company believes the design of this trial and NHLBI
sponsorship, including its providing for a majority of the direct patient
costs, would provide a cost-effective investigation of LSF expansion into this
patient population. See "--Factors Affecting Our Operating Results--There Is
No Certainty of Positive Clinical Trial Outcomes."
 
  Mechanism of Action. Preclinical animal studies have shown that following
exposure to high levels of inspired oxygen or following other causes of
systemic oxidative injury that target the lung (e.g. hemorrhagic shock and
severe bacterial infections), LSF can protect against multiple aspects of lung
injury through interruption of stress-activated pathways. See "--Oncology--
Lisofylline--Mechanism of Action." In animal models, treatment of LSF
preserved the integrity of the cells lining the respiratory tract, preventing
the undesired movement of proteins and fluids into the lung air spaces, and
preserving the ability of the lung to transfer oxygen normally.
 
  In the process of preserving lung function, LSF decreased the pool of
oxidizable and oxidized lipids and the activation of SAPs, as well as
subsequent production of multiple inflammatory cytokines. The Company believes
that these biochemical effects of LSF may represent a critical upstream point
of intervention in the evolution of ARDS.
 
IMMUNE DISEASE
 
  The Company is investigating a class of novel compounds which, like LSF,
inhibit the differentiation of Th1 lymphocyte cells and which have been
identified for potential use in the treatment of immune diseases. Some unique
aspects of the biochemical inhibitory effects of these compounds have been
shown on specific T cell proteins which act as nuclear transcription factors,
thus suggesting a novel approach to regulating immune-mediated inflammation in
target diseases or processes such as multiple sclerosis, graft versus host
disease and organ transplant rejection. In vitro studies of liver cell
metabolism have suggested that some of these compounds may be capable of being
administered orally and on a long-term basis to patients because of greater
metabolic stability than LSF. The Company expects to identify a lead oral drug
candidate for clinical investigation in 1999.
 
METABOLIC DISEASE
 
  The Company believes it can leverage its enabling oxidized lipid and
phospholipid technologies to identify opportunities in other disease states
where elevated levels of oxidized lipids may play an important role in the
pathogenesis and clinical manifestations of disease. Free fatty acids and
oxidized lipids have been reported to be elevated in a variety of metabolic
and cardiovascular diseases. In diabetes, free fatty acids and oxidized lipids
have been associated with the destruction of pancreatic islet cells (the cells
responsible for insulin production) in Type I, juvenile onset diabetes, and
are believed to be responsible for development of resistance to insulin and
its ability to lower blood sugar in Type II, adult onset diabetes. In
addition, oxidized lipids have been linked to the glycosylation of proteins
resulting in "advanced glycosylation end products," which are believed to
contribute to the blood vessel damage leading to the heart disease, kidney
disease and blindness that accompany diabetes.
 
                                      11

<PAGE>
 
  In 1995, the Company established a research collaboration with the City of
Hope Medical Center ("City of Hope"), a leading diabetes research and
treatment center, utilizing the Company's proprietary technologies and drug
prototypes to investigate the role of specific forms of free fatty acids and
oxidized lipids and phospholipids in the development of diabetes and its
complications. Company scientists and their collaborators have demonstrated
that agents like LSF, which reduce free fatty acids and oxidized lipids, can
significantly restore blood sugar utilization by the body and reduce the
abnormally elevated blood sugar in diabetic animal models. Based upon the
results of this collaboration, in January 1998, the Company entered into an
agreement with City of Hope to form a joint venture to discover and develop a
new class of drugs to treat diabetes and its complications. Under the terms of
the agreement, the Company is funding the first two years of the venture and
providing expertise in drug discovery and technology in oxidized lipid
chemistry. City of Hope contributed its rights to technology for a putative
novel human enzyme, the human leukocyte 12-Lipoxygenase (12-LO), for which it
has identified a partial sequence. The enzyme is believed to be responsible
for generating oxidized lipids that may be associated with the development of
the immunological vascular complications of diabetes. City of Hope is also
providing expertise and services in cellular analysis, animal models and
clinical trials. The Company holds a 70% interest in the joint venture and
City of Hope holds 30%.
 
PROPRIETARY DRUG DISCOVERY TECHNOLOGY
 
  The Company's proprietary drug discovery technology consists of four
components: (1) analytical technology for quantitative measuring of specific
species of oxidized lipids and phospholipids, (2) cloning of critical lipid
regulatory enzymes, (3) using the cloned enzymes and drug candidate probes to
validate targets and to develop high throughput screens capable of analyzing
large chemical libraries, and (4) novel linker chemistry to develop directed
mini-diversity chemical libraries.
 
  The Company has developed proprietary technology that enables it to
determine the effects of a variety of physical and chemical stimuli (such as
radiation and chemotherapy), growth factors, hormones, cytokines and oncogene-
induced events on the production of oxidized lipids, various species of
phospholipids and the enzymes which control their production and degradation.
Standard techniques for measuring oxidized lipids and phospholipids are time
consuming and often inaccurate. Moreover, separation of specific species of
such lipids is difficult. The Company possesses several proprietary lipid
analytical technologies which can identify different oxidized lipids and
different species of phospholipids produced in response to a variety of
stimuli in various cell types. These technologies provide a qualitative and
quantitative methodology to examine the effects of cti compounds on a variety
of such lipids that are involved in normal and/or pathological functions in
certain cells.
 
  The Company has also developed certain proprietary technologies that permit
the qualitative and quantitative analysis of a variety of complex lipids for
their content of oxidizable and oxidized lipid components. The Company
believes that such technologies may be utilized in conjunction with its
chemical libraries and novel cloned enzymes to elucidate the relationship of
such complex oxidized lipids to conditions such as cancer and inflammatory and
immune diseases. From these studies, the Company intends to identify
additional novel targets for future drug development.
 
  To this end, Company scientists have cloned several of the critical enzymes
that produce or metabolize (degrade) types of PAs. The following table lists
some of the human enzymes cloned by the Company and their proposed biological
effects in cancer and inflammatory disease:
 

<TABLE>
<CAPTION>
                    CLONED ENZYME                                   BIOLOGICAL EFFECT
     --------------------------------------------  ----------------------------------------------------
     <S>                                           <C>
     PC-PLD (phosphatidylcholine-phospholipase-D)  Cancerous transformation, angiogenesis
 
     LPAAT (lyso-PA acyltransferase)               Stress activated protein kinase ("SAPK") activation;
                                                   release of TNF-^ and Interleukin-6
 
     CDS (cytidyl diphosphate-diacylgycerol        SAPK activation; release of TNF-^ and Interleukin-6
      synthase)
 
     PAP (phosphatidic acid phosphohydrolase)      Glycerolipid synthesis, signal transduction
</TABLE>

 
                                      12

<PAGE>
 
  Through application of genetic, molecular and biochemical techniques, the
Company may be able to determine the relationship between the types of PAs
controlled by these enzymes and abnormal cellular functions which are thought
to be related to disease processes. The Company believes that its oxidized
lipid technologies and PA modulating enzymes, when coupled with high throughput
screens and combinatorial diversity libraries, may provide it with unique
therapeutic targets for drug development for oncological, inflammatory and
immune diseases.
 
COLLABORATION AND LICENSING ARRANGEMENTS
 
 Johnson & Johnson
 
  In November 1996, cti entered into a Collaboration and License Agreement (the
"Collaboration Agreement") with Ortho Biotech, Inc. and the R.W. Johnson
Pharmaceutical Research Institute (a division of Ortho Pharmaceutical
Corporation) each of which are wholly-owned subsidiaries of Johnson & Johnson
(collectively, "Johnson & Johnson") for the joint development and
commercialization of LSF for the BMT indication. Under the terms of the
Collaboration Agreement, Johnson & Johnson agreed, subject to certain
termination rights, to fund up to $12,000,000 of the company's budgeted BMT
development costs per year for each of 1997 and 1998. In September 1997,
Johnson & Johnson exercised an option under the Collaboration Agreement to
expand its participation in development of LSF to include the AML indication.
In July 1998, after reviewing the results of the Company's Phase III clinical
trial for LSF among patients receiving BMT from related donors, in which the
primary endpoints were not met, Johnson & Johnson reached an agreement in
principle with the Company to revise the Collaboration Agreement. On November
16, 1998, the Company and Johnson & Johnson formally amended the Collaboration
Agreement. Under the terms of the amended agreement, Johnson & Johnson and cti
agreed that Johnson & Johnson would pay to the Company $13.1 million for
development cost reimbursements for BMT and AML for the year ending December
31, 1998, and that Johnson & Johnson would have no further development or
commercialization responsibilities under the Collaboration Agreement. After
reviewing both the interim data from the Company's pivotal Phase II/III trial
for LSF in patients with acute lung injury and acute respiratory distress
syndrome and the results of the Company's Phase III trial for LSF following
induction chemotherapy for AML, Johnson & Johnson may elect to resume
responsibility for the development and commercialization of LSF subject to
certain additional payments upon resumption of its obligations. If Johnson &
Johnson does not elect to resume development activities, then the Company will
be free to license LSF to other third parties. As of December 31, 1998, the
Company had recorded approximately $40.8 million in equity payments, license
and milestone fees, and development cost reimbursements with Johnson & Johnson.
 
 BioChem Pharma
 
  In March 1995, the Company entered into collaboration and supply agreements
with BioChem Pharma for the development and commercialization of LSF and Apra
in Canada. Under this collaboration agreement, BioChem Pharma will be
responsible for obtaining regulatory approval for LSF and Apra in Canada.
Although BioChem Pharma will have no obligation to conduct any research and
development activities, it will have the right to have cti perform clinical
trials in Canada at BioChem Pharma's expense. BioChem Pharma will have the
exclusive right to commercialize LSF and Apra in Canada, subject to the payment
of royalties to cti. The Company will also receive payments under the
collaboration agreement if certain milestones are achieved. BioChem Pharma may
terminate this agreement with respect to any product at any time for any reason
upon 30 days' notice. In connection with the collaboration agreement, BioChem
Pharma made an equity investment in the Company of $2.5 million. As of December
31, 1998, the Company has recorded $450,000 in milestone payments from BioChem
Pharma.
 
 City of Hope/cti Joint Venture
 
  On January 5, 1998, the Company entered into an agreement with City of Hope
National Medical Center to form a joint venture (Cell City, LCC) to discover
and develop a new class of drugs to treat diabetes and its
 
                                       13

<PAGE>
 
complications. Under the terms of the agreement, the Company will fund the
first two years of the venture and provide expertise in drug discovery and
technology in oxidized lipid chemistry. City of Hope will contribute its
rights to technology for a human enzyme, human leukocyte 12-Lipoxygenase ("12-
LO"), which it has identified and partially sequenced. The enzyme is believed
to be responsible for generating oxidized lipids that may be associated with
certain immune diseases, cardiovascular disease and diabetes. City of Hope
will also provide expertise and services in cellular analysis, animal models
and clinical trials for applications in diabetes. The Company holds a 70%
interest in the joint venture and City of Hope holds 30%.
 
 PG-TXL Company, L.P.
 
  On June 30, 1998, the Company entered into an agreement with PG-TXL Company,
L.P. granting the Company an exclusive worldwide license for the rights to PG-
TXL, a water-soluble form of the cancer drug, Taxol(R) and to all potential
uses of PG-TXL Company, L.P.'s polymer technology. Under the terms of the
agreement, the Company acquired the rights to fund the research, development,
manufacture, marketing and sale of anti-cancer drugs developed using this
polymer technology. The Company will be obligated to make milestone payments
upon the attainment of significant achievements, as defined in the agreement.
The Company also granted warrants to purchase shares of the Company's common
stock to PG-TXL Company, L.P. The Company is obligated to meet certain
development requirements by June 30, 2002 to maintain exclusive license
rights.
 
 SynChem Research, Inc.
 
  On December 11, 1998, the Company entered into an exclusive option agreement
with SynChem Research, Inc. ("SynChem") to obtain an exclusive worldwide
license (the "SynChem License") to a class of synthetic, small molecule,
copper-chelating compounds which are inhibitors of tumor angiogenesis. The
Company's option to acquire the SynChem License shall be exercisable at the
end of a six-month evaluation period upon the payment of an initial license
fee. Under the terms of the option agreement, the SynChem License will provide
that the Company will fund initial research studies to evaluate the potential
of the compounds and SynChem will provide the compounds.
 
PATENTS AND PROPRIETARY RIGHTS
 
  The Company has dedicated significant resources to protect its intellectual
property. As of March 15, 1999, in the United States, the Company has rights
in 66 issued patents (49 of which are domestic U.S. patents and 17 of which
are patents granted in various jurisdictions globally, including Australia,
Europe, Canada, Japan, New Zealand, Mexico, South America, and Switzerland)
and 137 published, allowed or pending patent applications, including
divisional patent applications and continuation-in-part patent applications,
covering a variety of new chemical entities, pharmaceutical compositions,
synthetic processes, methods of use, discovery research tools and diagnostics.
Five of the issued patents in which the Company has rights cover the
pharmaceutical composition, commercial manufacturing process steps and
oncology and anti-inflammatory methods of use for LSF, and 23 of the Company's
published, allowed or pending patent applications cover other methods of use
for LSF. One issued patent covers the chemical compound and pharmaceutical
compositions of Apra and CT-3578. Sixteen of the Company's pending
applications are directed to the PG-TXL chemical entity and pharmaceutical
composition, and methods of use. The Company intends to file additional patent
applications, when appropriate, with respect to improvements in its core
technology and to specific products and processes that it develops. Generally
it is the Company's policy to file foreign counterpart patent applications in
countries with significant pharmaceutical markets and a patent granting and
enforcement infrastructure. As of March 15, 1999, the Company had filed 98
foreign national patent applications in 22 countries (excluding specific
contracting states of the Eurasian Patent Convention) and the European Patent
Offices, including 20 counterpart foreign national patent applications of
certain of its issued U.S. patents and allowed or pending U.S. patent
applications for LSF; 14 counterpart foreign national patent applications of
certain of its issued U.S. patents and published, allowed or pending U.S.
patent applications for Apra, CT-3578 and 14 counterpart foreign national
patent applications of certain pending U.S. patent applications for PG-TXL.
There can be no assurance that any patents will issue from
 
                                      14

<PAGE>
 
any present or future applications or, if patents do issue, that such patents
will be issued on a timely basis or that claims allowed on issued patents will
be sufficient to protect the Company's technology. In addition, there can be
no assurance that the patents issued to the Company will not be challenged,
invalidated or circumvented or that the rights granted thereunder will provide
proprietary protection or commercial advantage to the Company. With respect to
such issued U.S. patents or any patents that may issue in the future, there
can be no assurance that they will effectively protect the technology
involved, foreclose the development of competitive products by others or
otherwise be commercially valuable.
 
  The commercial success of the Company will also depend in part on the
Company's neither infringing patents or proprietary rights of third parties
nor breaching any technology licenses which relate to the Company's
technologies and potential products. In general, the development of
therapeutic products is intensely competitive and many pharmaceutical
companies, biotechnology companies, universities and research institutions
have filed and will continue to file patent applications and receive patents
in this field. If patents are issued to other entities that contain
competitive or conflicting claims with respect to the technology and compounds
pursued by cti and such claims are ultimately determined to be valid, no
assurance can be given that cti would be able to obtain licenses to these
patents at a reasonable cost or develop or obtain alternative technology or
compounds.
 
  The Company is aware of a patent belonging to third parties that could be
interpreted to compromise the Company's freedom to sell LSF in the United
States for certain non-oncology applications. The Company believes, upon
advice of its patent counsel, that any such interpretation is relevant only in
connection with the Company's use of LSF in preventing lung injury following
traumatic injury (such as ALI and ARDS) or sepsis; and, irrespective of such
interpretation, that the Company's planned manufacture, sale or use of LSF as
described in this Form 10-K does not infringe any valid claim of such third-
party patent. If such third-party patent rights were interpreted to limit the
use of LSF, the Company may be required to obtain a license from such parties.
There can be no assurance that any such license would be available to the
Company upon reasonably acceptable terms, if at all. The Company could also
face significant costs associated with any litigation relating to such patent.
See "--Factors Affecting Our Operating Results--We Must Be Able to Protect Our
Intellectual Property."
 
  The Company has sought and intends to aggressively seek patent protection in
the United States, Europe and Japan to protect any products that it may
develop. The Company also intends to seek patent protection or rely upon trade
secrets to protect certain of its enabling technologies that will be used in
discovering and evaluating new drugs which could become marketable products.
However, there can be no assurance that such steps will effectively protect
the technology involved. To protect any such trade secrets and other
proprietary information, cti relies on confidentiality and material transfer
agreements with its corporate partners, employees, consultants, outside
scientific collaborators and sponsored researchers and other advisors. There
can be no assurance that these agreements will not be breached, that the
Company will have adequate remedies for breach or that the Company's trade
secrets will not otherwise become known or independently discovered by
competitors. The Company also has members of its Scientific Advisory Board and
Clinical Advisory Board, its consultants and, in most cases, its employees
enter into agreements requiring disclosure to cti of ideas, developments,
discoveries or inventions conceived during employment or consulting and
assignment to cti of proprietary rights to such matters related to the
business and technology of cti.
 
  The extent to which efforts, including interference proceedings, by others
will result in patents and the effect on cti of the issuance of such patents
is unknown. There has been significant litigation in the pharmaceutical and
biotechnology industry regarding patents and other proprietary rights, and
although the Company is not currently engaged in litigation regarding
intellectual property matters, from time to time the Company sends and
receives communications to and from third parties regarding such matters. To
enforce any patents issued to the Company or determine the scope, validity or
priority of other parties' proprietary rights, the Company may have to engage
in litigation or interference or other administrative proceedings, which would
result in substantial cost to, and diversion of efforts by, the Company. There
can be no assurance that the Company's issued or licensed patents would be
held valid. An adverse outcome in any litigation or interference or other
administrative
 
                                      15

<PAGE>
 
proceeding could subject the Company to significant liabilities to third
parties, require disputed rights to be licensed from third parties or require
the Company to cease or modify its use of such technology, any of which could
have a material adverse effect on the Company's business, prospects, financial
condition, liquidity and results of operations.
 
  There can be no assurance that others will not independently develop
substantially equivalent proprietary information or otherwise obtain access to
cti's know-how or that others will not be issued patents which may prevent the
sale of Company products or require licensing and the payment of significant
fees or royalties by cti for the pursuit of its business. Trade secrets and
other unpatented proprietary information of cti may be difficult to protect,
notwithstanding confidentiality agreements with cti's employees and
consultants. See "--Factors Affecting Our Operating Results--We Must Be Able
to Protect Our Intellectual Property."
 
MANUFACTURING
 
  The Company currently does not have the internal facilities to manufacture
products under current Good Manufacturing Practices ("GMP"s) prescribed by the
FDA. The Company seeks to develop such capacity through manufacturing
relationships. The Company has qualified and selected manufacturers which it
believes will comply with GMPs and other regulatory standards. LSF is
currently being manufactured by one such third-party vendors on a fee for
service basis. In January 1997 the Company entered into a supply agreement
with ChiRex, Ltd. ("ChiRex"), a British manufacturer of pharmaceutical
intermediates and active ingredients, for the manufacture and supply of LSF
and corresponding intermediate compounds. The agreement will expire on
December 31, 2001, but may be terminated by cti upon 12 months written notice
prior to such date. On October 16, 1998, the Company entered into a Pre-
Validation Agreement with ChiRex which expands the scope of the services
provided by ChiRex to include the manufacture and testing of pre-validation
batches of LSF and a key intermediary compound.
 
  The Company currently uses ChiRex for the manufacture of LSF bulk drug and
uses three suppliers for clinical trial quantities of the finished drug
product. Following commercial launch of LSF, the Company expects that it will
continue to use ChiRex to manufacture LSF bulk drug. If Johnson & Johnson
elects to resume its full development and commercialization activities with
respect to LSF, the Company anticipates that Johnson & Johnson will be the
primary supplier of finished LSF drug product following commercial launch.
Under the terms of the amended Collaboration Agreement, Johnson & Johnson has
agreed to provide finished drug product for the Company for 24 months
following complete termination by Johnson & Johnson of the Collaboration
Agreement. Therefore the Company anticipates that Johnson & Johnson would be
the primary supplier of finished LSF drug product for at least the next two
years regardless of whether Johnson & Johnson resumes its full development and
commercialization activities under the Collaboration Agreement. See "--
Collaboration and Licensing Arrangements--Johnson & Johnson."
 
  The Company has established a quality control and quality assurance program,
including a set of standard operating procedures and specifications, designed
to ensure that the Company's products are manufactured in accordance with GMPs
and other applicable domestic and foreign regulations. However, the Company is
and expects to continue to be dependent upon contract manufacturers such as
ChiRex to comply with such procedures and regulations. There can be no
assurance that these manufacturers will meet the Company's requirements for
quality, quantity or timeliness. While LSF has been manufactured on a
commercial scale, no assurance can be given that the Company or such other
third-party contract manufacturers, will be able to make the transition to
commercial production.
 
  If the Company develops products with commercial potential in addition to
LSF, cti will need to develop additional manufacturing resources, and may seek
to enter into additional collaborative arrangements with other parties which
have established manufacturing capabilities or may elect to have a third party
such as ChiRex manufacture its products on a contract basis. The Company is a
party to another such agreement with a third-party vendor to furnish Apra bulk
drug substance for future clinical studies. If cti is unable to enter into
collaborative relationships or to obtain or retain third-party manufacturing
on commercially acceptable terms, it
 
                                      16

<PAGE>
 
may be delayed in its ability to commercialize its products or may not be able
to commercialize its products as planned. The Company will be dependent upon
such collaborators or third parties to supply it in a timely manner with
products manufactured in compliance with GMPs or similar standards imposed by
foreign regulators. Collaborators and contract manufacturers may violate GMPs,
and the FDA has intensified its oversight of drug manufacturers. There can be
no assurance that the FDA would not take action against a collaborator or a
contract manufacturer who violates current GMPs. Such actions may include
requiring such collaborator or contract manufacturer to cease manufacturing
activities. See "--Factors Affecting Our Operating Results--We Rely on Third-
Party Manufacturers."
 
MARKETING
 
  The Company intends to develop its own sales and marketing infrastructure in
the United States to commercialize its portfolio of oncology products either
on its own or, to the extent the Company enters into any commercialization
arrangements, with collaborators. With respect to the commercialization of its
oncology products outside of the United States, and with respect to the
worldwide commercialization of its portfolio of products for inflammatory and
immune disease, the Company's strategy is to pursue commercialization
arrangements with collaborators.
 
  The Company has no experience in marketing, sales or distribution. The
Company believes, however, that the United States oncology market is
accessible by a limited marketing staff and field sales organization. This
market is highly concentrated. It is comprised primarily of the approximately
5,000 physicians who order the vast majority of cancer therapeutics. The
Company's strategy for commercializing LSF for its oncology applications is to
establish a strategic alliance with a corporate partner that has an
established, skilled, and experienced field sales organization and to
collaborate with that partner in the areas of marketing strategy and clinical
liaison. The Company anticipates that such an arrangement would retain certain
rights of co-promotion and would also provide for the establishment of a small
cadre of cti field sales representatives who would promote LSF in the field of
oncology. In connection with the launch and commercialization of LSF for
other, more broad-base indications, the Company expects to establish an
alliance with a corporate partner considered to be well-regarded in the field
and possessing a well-established franchise with the appropriate medical
specialists. Under such a scenario, it is unlikely that the Company would seek
to retain co-promotion rights.
 
  If the Company develops products with commercial potential in addition to
LSF, cti may need to develop marketing and additional sales resources, and may
seek to enter into collaborative arrangements with third parties which have
established marketing and sales capabilities or may choose to pursue the
commercialization of such products on its own. There can be no assurance that
the Company or, to the extent the Company enters into any commercialization
arrangements with any other third parties, such other third parties, will
establish adequate sales and distribution capabilities or be successful in
gaining market acceptance for products. There can be no assurance that cti
will enter into any such alliances or that the terms of any such alliances
will be favorable to cti. See "--Factors Affecting Our Operating Results--We
Lack Sales and Marketing Capabilities."
 
COMPETITION
 
  Competition in the pharmaceutical and biotechnology industries is intense.
The Company faces competition from a variety of sources, both direct and
indirect. The Company believes there may be several pharmaceutical or
biotechnology companies that focus on cell membrane lipids in regulating
cellular processes. Many other companies compete indirectly with cti for the
same therapeutic indications but with different approaches such as focusing,
for example, on signal transduction, cell receptor technology, transcription
factors and gene therapies. The Company also competes with other large
pharmaceutical companies that produce and market synthetic compounds and with
other specialized biotechnology firms in the United States, Japan, Europe and
elsewhere. Many of the Company's existing or potential competitors have
substantially greater financial, technical and human resources than the
Company and may be better equipped to develop, manufacture and market
products. Smaller companies may also prove to be significant competitors,
particularly through collaborative arrangements with large pharmaceutical and
established biotechnology companies. Many of these competitors have
significant products that have been approved or are in development and operate
large, well funded research and development programs.
 
                                      17

<PAGE>
 
  The Company expects to encounter significant competition for the principal
pharmaceutical products it plans to develop. Companies that complete clinical
trials, obtain required regulatory approvals and commence commercial sales of
their products before their competitors may achieve a significant competitive
advantage. Accordingly, the relative speed with which the Company and any
future collaborators can develop products, complete preclinical testing and
clinical trials and approval processes, and supply commercial quantities of
the products to the market are expected to be important competitive factors. A
number of biotechnology and pharmaceutical companies are developing new
products for the treatment of the same diseases being targeted by cti. In some
instances, such products have already entered late-stage clinical trials or
received FDA approval.
 
  Significant levels of research in biotechnology, medicinal chemistry and
pharmacology occur in academic institutions, governmental agencies and other
public and private research institutions. These entities have become
increasingly active in seeking patent protection and licensing revenues for
their research results. They also compete with cti in recruiting and retaining
skilled scientific talent.
 
  The Company believes that its ability to compete successfully will be based
on its ability to create and maintain scientifically advanced technology,
develop proprietary products, attract and retain scientific personnel, obtain
patent or other protection for its products, obtain required regulatory
approvals and manufacture and successfully market its products either alone or
through outside parties. Many of cti's competitors have substantially greater
financial, marketing and human resources than cti. The Company will continue
to seek licenses with respect to technology related to its field of interest
and may face competition with respect to such efforts. There can be no
assurance that the Company's competitors will not develop more effective or
more affordable products, or achieve earlier patent protection or product
commercialization than the Company. See "--Factors Affecting Our Operating
Results--There Is No Certainty of Positive Clinical Trial Outcomes," "--Our
Product Development Programs Are In an Early Stage," "--We Must Be Able to
Protect Our Intellectual Property," and "--Competition Is Intense."
 
GOVERNMENT REGULATION
 
 Drug Approval Process
 
  Regulation by governmental authorities in the United States and other
countries is a significant factor in the development, production and marketing
of cti's proposed drug products. All of cti's products will require regulatory
approval by governmental agencies prior to commercialization. In particular,
new drugs are subject to rigorous preclinical and clinical testing and other
approval procedures in the United States by the FDA and similar health
authorities in foreign countries. Various federal statutes and regulations
also govern or influence the testing, manufacturing, quality control, safety,
labeling, storage, record-keeping and marketing of such products. The process
of obtaining these approvals and the subsequent compliance with appropriate
federal and foreign statutes and regulations require the expenditure of
substantial resources. Any failure by cti or its collaborators or licensees to
obtain, or any delay in obtaining, regulatory approval could adversely affect
the marketing of any product that cti may hope to develop and its ability to
receive revenues therefrom. The Company has neither applied for nor received
regulatory approval to market any products.
 
  The steps required before a new drug may be marketed in the United States
include: (1) preclinical laboratory, in vivo and formulation studies, (2) the
submission to the FDA of an Investigational New Drug application ("IND"),
which must become effective before human clinical trials may commence, (3)
adequate and well-controlled human clinical trials to establish the safety and
efficacy of the proposed drug in its intended indication, (4) the submission
of, for non-biologic drugs, an NDA to the FDA, and (5) the FDA approval of the
NDA.
 
  In order to clinically test, produce and market products for diagnostic or
therapeutic use, a company must comply with safety and efficacy requirements
established by the FDA and comparable agencies in foreign countries. Before
beginning human clinical testing of a potential new drug, a company must file
an IND, which must become effective before clinical trials may begin, and
receive clearance from the FDA. The IND is a summary of the preclinical
studies which were carried out to characterize the drug, including toxicity
and safety
 
                                      18

<PAGE>
 
studies, as well as an in-depth discussion of the human clinical studies which
have been conducted and those which are being proposed. Approval of a local
institutional review board ("IRB") and informed consent of trial subjects are
also required.
 
  Human clinical trials are typically conducted in three sequential phases
which may overlap. Phase I involves the initial introduction of the drug into
healthy human subjects or patients where the product is tested for safety,
dosage tolerance, absorption, metabolism, distribution and excretion. Phase II
involves studies in a limited patient population to (1) identify possible
adverse effects and safety risks, (2) determine the efficacy of the product
for specific, targeted indications, and (3) determine dosage tolerance and
optimal dosage. When Phase II evaluation demonstrates that the product may be
effective and has an acceptable safety profile, Phase III trials are
undertaken to further evaluate dosage and clinical efficacy and to further
test for safety in an expanded patient population at multiple clinical study
sites. A pivotal Phase III trial is an adequate and well-controlled study
which provides a primary basis for determining whether there is "substantial
evidence" to support the claims of safety and effectiveness for new drugs and
forms a critical component of an NDA. Usually two well-controlled clinical
studies are required for approval of a new drug. The regulatory authority may
suspend clinical trials at any point in this process if it concludes that
clinical subjects are being exposed to an unacceptable health risk, that the
study is not being conducted in compliance with applicable regulatory
requirements, or for other reasons. See "--Factors Affecting Our Operating
Results--There Is No Certainty of Positive Clinical Trial Outcomes," and "--
Our Product Development Programs Are In an Early Stage."
 
  The results of product development, preclinical studies and clinical studies
are submitted to the FDA as part of an NDA for approval of the marketing and
commercial shipment of the product. Other information is also required in the
NDA, including manufacturing and labeling information. The FDA may deny
approval of an NDA if applicable regulatory criteria are not satisfied, or may
require additional data. Even if such data is submitted, the FDA may
ultimately decide that the NDA does not satisfy the criteria for approval.
Once issued, a product approval may be withdrawn if compliance with regulatory
standards is not maintained or if problems occur after the product reaches the
market. In addition, the FDA may require testing and surveillance programs to
monitor the effect of approved products which have been commercialized, and it
has the authority to prevent or limit further marketing of a product based on
the results of these post-marketing programs. Any subsequent changes to the
product, labeling or manufacturing may require additional FDA approval.
 
  Satisfaction of FDA requirements, or similar requirements by foreign
regulatory agencies, typically takes several years and the time needed to
satisfy them may vary substantially, based upon the type, complexity and
novelty of the drug product. The effect of government regulation may be to
delay or to prevent marketing of potential products for a considerable period
of time and to impose costly procedures upon the Company's activities. There
can be no assurance that the FDA or any other regulatory agency will grant
approval for any products being developed by the Company on a timely basis, or
at all. Success in preclinical or early stage clinical trials does not assure
success in later stage clinical trials. Data obtained from preclinical and
clinical activities are susceptible to varying interpretations which could
delay, limit or prevent regulatory approval. If regulatory approval of a
product is granted, such approval may impose limitations on the indicated uses
for which a product may be marketed. Further, even if regulatory approval is
obtained, later discovery of previously unknown problems with a product may
result in restrictions on the product, including withdrawal of the product
from the market. Delay in obtaining or failure to obtain regulatory approvals
would have a material adverse affect on the Company's business. Marketing the
Company's products abroad will require similar regulatory approvals and is
subject to similar risks. In addition, the Company is unable to predict the
extent of adverse government regulations that might arise from future United
States or foreign governmental action. See "--Factors Affecting Our Operating
Results--There Is No Certainty of Positive Clinical Trial Outcomes," "--Our
Product Development Programs Are In an Early Stage," and "--There Is No
Assurance of FDA Approval."
 
  The FDA has implemented accelerated review and approval procedures for
certain pharmaceutical agents that have been studied for their safety and
effectiveness in treating serious life-threatening or severely debilitating
diseases, and that provide a meaningful therapeutic benefit to patients over
existing treatments. Products intended
 
                                      19

<PAGE>
 
to remove a serious or life-threatening toxicity associated with cancer
treatment may potentially qualify for review under these accelerated
procedures. The FDA retains considerable discretion in determining eligibility
for accelerated review and approval. Accordingly, the FDA could employ such
discretion to deny eligibility of LSF as a candidate for accelerated review or
require additional clinical trials or other information before approving LSF.
In addition, the approval of a product under the accelerated approval
procedures is subject to various conditions, including the requirement to
verify clinical benefit in post-marketing studies and the authority on the
part of the FDA to withdraw approval under streamlined procedures if such
studies do not verify clinical benefit or under various other circumstances.
The Company cannot predict the ultimate impact, if any, of the accelerated
approval process on the timing or likelihood of FDA approval of LSF or any of
its other potential products.
 
  Facilities and manufacturing procedures used for the manufacture of products
for clinical use or for sale must be operated in conformity with current GMP
regulations, the FDA regulations governing the production of pharmaceutical
products. The Company intends to operate its facilities or to arrange for the
manufacture of products at facilities which are operated, as required, in
accordance with GMPs where necessary; however, no assurance can be provided
that such manufacture will successfully comply with GMPs. In addition, the FDA
also regulates promotion, marketing and distribution of prescription drug
products, particularly those subject to accelerated approval, and inspects
drug manufacturers to evaluate compliance with regulatory requirements. Among
other things, the FDA evaluates truthfulness and accuracy of materials
submitted to it or otherwise prepared by a drug manufacturer, and may take
legal or regulatory action against companies or their products if such
materials contain any untrue statement of a material fact.
 
  Before the Company's products can be marketed outside of the United States,
they are subject to regulatory approval similar to that required in the United
States, although the requirements governing the conduct of clinical trials,
product licensing, pricing and reimbursement vary widely from country to
country. No action can be taken to market any product in a country until an
appropriate application has been approved by the regulatory authorities in
that country. The current approval process varies from country to country, and
the time spent in gaining approval varies from that required for FDA approval.
In certain countries, the sales price of a product must also be approved. The
pricing review period often begins after market approval is granted. No
assurance can be given that even if a product is approved by a regulatory
authority, satisfactory prices will be approved for such product.
 
  No assurance can be provided that the Company's INDs or NDAs will be
successfully reviewed by the FDA, that accelerated approval will apply or that
similar applications will be successfully reviewed by foreign regulatory
authorities. Further, the FDA and foreign authorities may at any time take
legal or regulatory action against a product or the Company if they conclude
that cti has not complied with applicable laws and regulations or that earlier
evaluations of a product's safety or effectiveness may not have been adequate
or appropriate. Such action may include, but is not limited to, restrictions
on manufacture and shipment of products, seizure of products, injunctions and
civil and criminal penalties. The FDA's policies may change and additional
government regulations may be promulgated which could prevent or delay
regulatory approval of the Company's potential products. Moreover, increased
attention to the containment of health care costs in the United States and in
foreign markets could result in new government regulations which could have a
material adverse effect on the Company's business prospects, financial
condition, liquidity and results of operations. The Company is unable to
predict the likelihood of adverse governmental regulation which might arise
from future legislative or administrative action, either in the United States
or abroad.
 
 Third-Party Reimbursement and Health Care Reform
 
  The commercial success of the Company's products under development will be
substantially dependent upon the availability of government or private third-
party reimbursement for the use of such products. There can be no assurance
that Medicare, Medicaid, health maintenance organizations and other third-
party payors will authorize or otherwise budget such reimbursement. Such
governmental and third-party payors are increasingly challenging the prices
charged for medical products and services. If the Company succeeds in bringing
one or more products to market, there can be no assurance that such products
will be viewed as cost-effective or that
 
                                      20

<PAGE>
 
reimbursement will be available to consumers or will be sufficient to allow
the Company's products to be marketed on a competitive basis. Furthermore,
federal and state regulations govern or influence the reimbursement to health
care providers of fees and capital equipment costs in connection with medical
treatment of certain patients. In response to concerns about the rising costs
of advanced medical technologies, the current administration of the federal
government has publicly stated its desire to reform health care, including the
possibility of price controls and revised reimbursement policies. There can be
no assurance that actions taken by the administration, if any, with regard to
health care reform will not have a material adverse effect on the Company. If
any actions are taken by the administration, such actions could adversely
affect the prospects for future sales of the Company's products. Further, to
the extent that these or other proposals or reforms have a material adverse
effect on the Company's ability to secure funding for its development or on
the business, financial condition and profitability of other companies that
are prospective collaborators for certain of the Company's product candidates,
the Company's ability to develop or commercialize its product candidates may
be adversely affected. See "--Factors Affecting Our Operating Results--
Uncertainty Regarding Third-Party Reimbursement and Health Care Cost
Containment Initiatives May Impact Our Revenue."
 
  Given recent government initiatives directed at lowering the total cost of
health care throughout the United States, it is likely that the United States
Congress and state legislatures will continue to focus on health care reform
and the cost of prescription pharmaceuticals and on the reform of the Medicare
and Medicaid systems. The Company cannot predict the likelihood of passage of
federal and state legislation related to health care reform or lowering
pharmaceutical costs. In certain foreign markets, pricing of prescription
pharmaceuticals is already subject to government control. Continued
significant changes in the United States' health care system could have a
material adverse effect on the Company's business prospects, financial
condition, liquidity and results of operations.
 
 Environmental Regulation
 
  In connection with its research and development activities and its
manufacturing materials and products, the Company is subject to federal, state
and local laws, rules, regulations and policies governing the use, generation,
manufacture, storage, air emission, effluent discharge, handling and disposal
of certain materials, biological specimens and wastes. Although the Company
believes that it has complied with these laws, regulations and policies in all
material respects and has not been required to take any significant action to
correct any noncompliance, there can be no assurance that the Company will not
be required to incur significant costs to comply with environmental and health
and safety regulations in the future. The Company's research and development
involves the controlled use of hazardous materials, including but not limited
to certain hazardous chemicals and radioactive materials. Although the Company
believes that its safety procedures for handling and disposing of such
materials comply with the standards prescribed by state and federal
regulations, the risk of accidental contamination or injury from these
materials cannot be eliminated. In the event of such an accident, the Company
could be held liable for any damages that result and any such liability could
exceed the resources of the Company. See "--Factors Affecting Our Operating
Results--We Use Hazardous Materials."
 
HUMAN RESOURCES
 
  As of March 15, 1999, cti employed 165 individuals (including 60 holding
doctoral or other advanced degrees). In recruiting additional staff members,
cti expects to receive continued input from its consultants and members of its
Scientific Advisory Board and Clinical Advisory Board.
 
  The Company's policy is to have each employee and consultant enter into an
agreement which contains provisions prohibiting the disclosure of confidential
information to anyone outside cti and, in most cases, requires disclosure to
cti of ideas, developments, discoveries or inventions conceived during
employment and assignment to cti of proprietary rights to such matters related
to the business and technology of cti. The extent to which this policy will
effectively protect cti's proprietary technology and trade secrets is unknown.
See "--Patents and Proprietary Rights."
 
                                      21

<PAGE>
 
SCIENTIFIC ADVISORY BOARD
 
  The Company has a Scientific Advisory Board and plans to make arrangements
from time to time with other scientists to work with cti's management and the
Scientific Advisory Board. Scientific Advisory Board members are expected to
meet as a board with management and key scientific employees of cti on a semi-
annual basis and in smaller groups or individually from time to time on an
informal basis. The Scientific Advisory Board members assist cti in
identifying scientific and product development opportunities, reviewing with
management the progress of cti's specific projects, and recruiting and
evaluating cti's scientific staff. Members of cti's Scientific Advisory Board
are leaders in the fields of immunology, cell and molecular biology, and
synthetic and medicinal chemistry.
 
 Current Members of cti's Scientific Advisory Board include:
 
  Michael R. Hanley, Ph.D. is the Chairman of cti's Scientific Advisory Board.
He is a Professor, Department of Biological Chemistry, at the University of
California, Davis School of Medicine. He is a noted authority in cell
communication processes and proto-oncogenes, as well as an expert in
phospholipid signaling mechanisms in the central nervous system focusing on
regulation of neurotransmitter receptors. Dr. Hanley has authored over 80
manuscripts and has served as an editorial member for several journals,
including Molecular and Cellular Neurobiology and Nature.
 
  Lewis Cantley, Ph.D. is a noted authority in cellular biochemical signaling
pathways that employ phosphatidyl inositol and its metabolites and is the
discoverer of one of the most critical enzymes in those pathways, the PI3
Kinase. He is currently Professor of Cell Biology at Harvard Medical School
and Chief of the Division of Signal Transduction in the Department of
Medicine, Beth Israel Hospital, Boston and is the author of over 180
publications.
 
  Edward A. Dennis, Ph.D. is the Vice Chair of Medical Biochemistry at the
University of California, San Diego. He is a noted authority on
phospholipases, cell signaling and phospholipid metabolism. Dr. Dennis serves
on the Scientific Advisory Board and Management Committee of, and chairs the
Management Executive Board of, the Keystone Symposia. He sits on the Editorial
Board of the Journal of Cellular Biochemistry and on the Publications
Committee of the American Society for Biochemistry and Molecular Biology. He
has authored over 185 manuscripts.
 
  Edwin Krebs, M.D. is a Professor Emeritus, Department of Pharmacology and
Biochemistry, at the University of Washington in Seattle and a Senior
Investigator Emeritus at the Howard Hughes Medical Institute. He is a
recognized authority on the mechanisms of action of second messengers,
including protein kinases and phosphorylation reactions. He is the recipient
of numerous awards and honors and has authored 297 manuscripts. In 1992, Dr.
Krebs was awarded the Nobel Prize in Physiology of Medicine for his work on
second messenger pathways.
 
  L. Jackson Roberts, II, M.D. is an internationally recognized authority on
the oxidative metabolism of polyunsaturated fatty acids. He is known for
having identified PGD2 as the major mast cell lipid mediator and, more
recently, for having originated the field of studying non-enzymatically-
generated prostanoids, including the isprostanes and neuroprostanes. He is
currently Professor of Pharmacology and Medicine at Vanderbilt University and
is the author of over 170 publications.
 
  The Company has entered into consulting agreements with each member of the
Scientific Advisory Board. These agreements generally have a two-year term and
may be terminated by either party upon 30 days' written notice. These
agreements generally restrict the consultant from competing with cti during
the term of the agreement. These agreements contain provisions prohibiting the
disclosure of confidential information to anyone outside of cti and require
disclosure to cti of ideas, developments, discoveries or inventions conceived
during consulting and assignment to cti of proprietary rights to such matters
related to the business and technology of cti. Each consultant is required to
serve on cti's Scientific Advisory Board and provide related consulting
services, as cti may reasonably request. Each Scientific Advisory Board member
is paid either an annual fee or is compensated at market-competitive hourly
rates and is granted an option to purchase Common Stock.
 
                                      22

<PAGE>
 
CLINICAL ADVISORY BOARD
 
  The Company has a Clinical Advisory Board which meets regularly with cti's
management and the Scientific Advisory Board and in smaller groups or
individually from time to time on an informal basis. The Clinical Advisory
Board members assist cti in determining its clinical regulatory strategy,
interpreting clinical trial data and identifying optimal indications for its
products. Members of cti's Clinical Advisory Board are leaders in the fields
of hematology, oncology, immunology, cell and molecular biology, critical care
and medicinal chemistry.
 
 Current members of cti's Clinical Advisory Board include:
 
  Donnall Thomas, M.D. is the Chairman of cti's Clinical Advisory Board. He is
the former Associate Director of Clinical Research and presently a Professor
Emeritus at the Fred Hutchinson Cancer Research Center. Dr. Thomas was a
founding member of the FHCRC. His research has spanned a wide array of fields
from radiation biology to developmental immunology, and from cancer causing
genes to gene transfer therapies. For his pioneering work in BMT, Dr. Thomas
was awarded the Nobel Prize for Medicine in 1990. Among the other honors
awarded to Dr. Thomas in recognition of his medical research are the American
Cancer Society Award for Distinguished Service in Basic Research and the
Kettering Prize of the General Motors Cancer Research Foundation. He is a
member of the U.S. National Academy of Sciences.
 
  Karen H. Antman, M.D. is the Chief of the Division of Medical Oncology,
College of Physicians & Surgeons of Columbia University. Dr. Antman is an
expert in emerging treatment strategies for solid tumors, notably breast
cancer and sarcomas. From 1994 to 1995 she served as President of the American
Society of Clinical Oncology. Since 1993 Dr. Antman has served on the Sarcoma
Committee of the Southwest Oncology Group, and has been its chairperson since
1995. From 1993 to 1994 she was program committee chair of the American
Association for Cancer Research. She is on the editorial board of several
prestigious journals, including Associate Editor of The New England Journal of
Medicine. She has authored over 100 manuscripts and textbooks.
 
  Frederick Appelbaum, M.D. is the Director of Clinical Research and Senior
Vice President of the FHCRC. He is a recognized authority in the treatment of
patients with leukemia and lymphoma. He serves on several editorial boards and
national committees, including the FDA Advisory Committee on Biologics; serves
as Chairman of the Southwest Oncology Group Leukemia Committee; and serves on
the Board of Directors of the American Society for Blood and Marrow
Transplantation. He has authored more than 450 manuscripts.
 
  O. Michael Colvin, M.D. is the Director of the Duke Comprehensive Cancer
Center at Duke University Medical Center. Dr. Colvin is an expert in
therapeutic drug modeling and rational drug design. His work led to the
discovery of several chemotherapeutic agents. He was previously Chief of the
Division of Pharmacology and Experimental Therapeutics at The Johns Hopkins
Oncology Center. He has authored over 100 manuscripts.
 
  Milo Gibaldi, Ph.D. is the Gibaldi Endowed Professor of Pharmaceutics of the
School of Pharmacy at the University of Washington, with past faculty
appointments at Columbia University and the State University of New York at
Buffalo. His expertise in drug metabolism has led to consultantships with such
pharmaceutical firms as Hoffman-LaRoche, Ciba-Geigy and Glaxo. Dr. Gibaldi has
also served on FDA's Panel on Generic Drugs. His research has focused on
gastrointestinal absorption of drugs and the development of stable
formulations for therapeutic compounds.
 
  William P. Peters, M.D., Ph.D. is a Director of the Meyer L. Prentis
Comprehensive Cancer Center of Metropolitan Detroit and the President and
Chief Executive Officer of the Karmanos Cancer Institute. He is a recognized
leader in the use of dose-intensive chemotherapy regimens with peripheral
blood stem cell support as a cost-effective approach to the treatment of
cancer. He has published extensively and is the recipient of many honors and
awards, among them the American Cancer Society Clinical Fellowship Award and
the R. Wayne Rundles Award for Excellence in Cancer Research.
 
                                      23

<PAGE>
 
  Thomas A. Raffin, M.D. is the Chief of the Division of Pulmonary and
Critical Care Medicine of the Stanford University Medical Center. He is a
recognized authority on mechanisms of ALI, Multi-Organ Failure and Systemic
Inflammatory Response Syndrome among critically ill patients. He serves on
numerous editorial boards and societies, including the Editorial Board of
Chest and Critical Care Medicine, the American Thoracic Society and the
Society of Critical Care Medicine. He has authored more than 175 manuscripts
and 60 book chapters.
 
  Thomas E. Starzl, M.D., Ph.D. is the Director of the Transplantation
Institute of the University of Pittsburgh. He is a noted expert in the field
of immunology and solid organ transplantation. He is the recipient of numerous
awards and was founding President of several prestigious societies, including
the American Society of Transplant Surgeons. He has authored approximately
1,400 manuscripts and more than 160 book chapters.
 
  The Company has entered into consulting agreements with each member of the
Clinical Advisory Board. These agreements generally have a two-year term and
may be terminated by either party upon 30 days' written notice. These
agreements generally restrict the consultant from competing with cti during
the term of the agreement. These agreements contain provisions prohibiting the
disclosure of confidential information to anyone outside of cti and require
disclosure to cti of ideas, developments, discoveries or inventions conceived
during consulting and assignment to cti of proprietary rights to such matters
related to the business and technology of cti. Each consultant is required to
serve on cti's Clinical Advisory Board and provide related consulting
services, as cti may reasonably request. Each Clinical Advisory Board member
is paid either an annual fee or is compensated at market-competitive hourly
rates and is granted an option to purchase Common Stock.
 
FACTORS AFFECTING OUR OPERATING RESULTS
 
  The risks and uncertainties described below are not the only ones facing us.
Additional risks and uncertainties not presently known to us or that we
currently deem immaterial may also impair our business operations. If any of
the following risks actually occur, our business, financial condition or
results of operations could be materially adversely affected. In such case,
the trading price of our common stock could decline.
 
  This Annual Report on Form 10-K also contains "forward-looking" statements
that involve risks and uncertainties. Our actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors, including the risks faced by us described below and
elsewhere in this Annual Report on Form 10-K.
 
 We Are Dependent on a Single Drug Candidate
 
  We are conducting two pivotal Phase III clinical trials for our first lead
product candidate, LSF. We cannot assure you that these Phase III trials will
be successfully completed or that they will lead to product approval by the
FDA. We cannot assure you that we will be successful in our efforts to develop
LSF for any indications. The remainder of our drug candidates are still in
research and development, preclinical trials or clinical trials. We will have
to commit significant time and resources to develop additional product
candidates. We are dependent on the successful completion of our two pivotal
Phase III trials for LSF and obtaining regulatory approval of LSF in order to
generate revenues. The failure to generate such revenues may preclude us from
continuing our research and development of other product candidates. If we
fail to successfully develop, manufacture or market LSF, then our business,
financial condition and results of operations would be materially adversely
impacted.
 
 There Is No Certainty of Positive Clinical Trial Outcomes
 
  Our first and second leading drug candidates, LSF and Apra, are currently
being tested in human clinical trials. Clinical trials or drug candidates
involve the testing of potential therapeutic agents in humans to determine the
safety and efficacy of drug candidates. Many drugs in human clinical trials
fail to demonstrate the desired safety and efficacy characteristics. Drugs in
later stages of development may fail despite having progressed through initial
human testing. A number of companies in the pharmaceutical industry, including
cti, have suffered significant setbacks in advanced clinical trials, even
after reporting promising results in earlier trials. In
 
                                      24

<PAGE>
 
our first Phase III trial for LSF, completed in March 1998, we failed to meet
our two primary endpoints, even though we met our endpoints in two earlier
Phase II trials for LSF. In addition, data obtained from clinical trials are
susceptible to varying interpretations. There can be no assurance that
government regulators or our collaborators will agree with our interpretation
of our future clinical trial results. We cannot assure you that the clinical
trials of LSF, Apra or any of our future drug candidates will be successful.
 
 Our Product Development Programs Are In an Early Stage
 
  Since our inception in 1991, we have dedicated substantially all of our
resources to the research and development of our technologies and related
compounds. All of our compounds currently are in research or development. Two
have entered human clinical trials. None has been submitted for marketing
approval. Preclinical studies of product candidates do not ensure safety or
efficacy in humans and are not necessarily indicative of the results that may
be achieved in human clinical trials. There can be no assurance that any of
our other compounds will enter human clinical trials on a timely basis, if at
all, or that we will develop any product candidates suitable for
commercialization. Prior to commercialization, each product candidate will
require significant additional research, development and preclinical testing
and extensive clinical investigation before submission of any regulatory
application for marketing approval. Potential products that appear to be
promising at early stages of development may not reach the market for a number
of reasons. Potential products may:
 
  . be found ineffective or cause harmful side effects during clinical
  testing or clinical trials,
 
  . fail to receive necessary regulatory approvals,
 
  . be difficult to manufacture on a large scale,
 
  . be uneconomical to produce,
 
  . fail to achieve market acceptance, or
 
  . be precluded from commercialization by proprietary rights of third
  parties.
 
  We cannot assure you that our product development efforts or that of our
collaborative partners' efforts will be successfully completed, that required
regulatory approvals will be obtained or that any products, if introduced,
will be successfully marketed or achieve customer acceptance. Failure to
identify and commercialize any products would have a material adverse affect
on our business, financial condition or results of operations.
 
 We Are Dependent on Collaborators and Others
 
  A key element of our strategy is to enhance our drug discovery and
development programs and to fund our capital requirements, in part, by
entering into various collaborative arrangements with corporate partners,
academic collaborators and licensors. In 1996, we entered into a Collaboration
Agreement with subsidiaries of Johnson & Johnson ("Johnson & Johnson") to
jointly develop and commercialize LSF. On November 16, 1998, the Collaboration
Agreement was amended. Under the terms of the amended Collaboration Agreement,
we assumed all responsibility for further development of LSF as of January 1,
1999. Johnson & Johnson may elect to resume its responsibilities for the
development and commercialization of LSF following a successful outcome of one
of our Phase III trials, subject to certain additional payments upon
resumption of its obligations. If Johnson & Johnson does not resume its
development activities, then we will be free to license LSF to other third
parties. In January 1998, we entered into an agreement with City of Hope
National Medical Center to form a joint venture to discover and develop a new
class of drugs to treat diabetes and its complications. In July 1998, we in-
licensed exclusive worldwide rights to PG-TXL, a water-soluble and potentially
more effective form of the cancer drug, Taxol(R). However, we cannot assure
you that we will be able to negotiate acceptable collaborative arrangements in
the future or that these collaborations, if entered into, will be on terms
favorable to us. If we are unable to enter into future collaborations with
capable partners and on commercially reasonable terms, the development and
commercialization of our product candidates would be delayed and possibly
postponed indefinitely.
 
                                      25

<PAGE>
 
 We Must Be Able to Protect Our Intellectual Property
 
  Our success depends in part on our ability to:
 
  .obtain patent protection for our products or processes both in the United
  States and other countries,
 
  .protect trade secrets,
 
  .operate without infringing upon the proprietary rights of others, and
 
  .prevent others from infringing on our proprietary rights.
 
  The patent position of biopharmaceutical firms generally is highly uncertain
and involves complex legal and factual questions. The U.S. Patent and Trademark
Office has not established a consistent policy regarding the breadth of claims
that it will allow in patents affecting subject matters of interest to cti. If
it allows broad claims, the number and cost of patent interference proceedings
in the U.S. and the risk of infringement litigation may increase. If it allows
narrow claims, the risk of infringement may decrease, but the value of our
rights under our patents, licenses and patent applications may also decrease.
 
  We cannot assure you that patent applications in which we have rights will
ever issue as patents or that the claims of any issued patents will afford
meaningful protection for our technologies or products. In addition, we cannot
assure you that any patents issued to us or our licensors will not be
challenged and subsequently narrowed, invalidated or circumvented. Litigation,
interference proceedings or other governmental proceedings that we may become
involved in with respect to our proprietary technologies or the proprietary
technology of others could result in substantial cost to us. Patent litigation
is widespread in the biotechnology industry, and it is not possible to predict
how any patent litigation will affect us. We attempt to monitor the patent
filings of our competitors in an effort to guide the design and development of
our products to avoid infringement.
 
  Notwithstanding these efforts, however, third parties may challenge the
patents that have been issued or licensed to us. In addition, patents issued to
third parties may cover our products and services as ultimately developed. We
may need to acquire licenses to these patents or challenge the validity of
these patents. We may not be able to license any patent rights on acceptable
terms or successfully challenge such patents. The need to do so will depend on
the scope and validity of these patents and ultimately on the final design or
formulation of the products and services that we develop.
 
  We have rights to numerous patents and patent applications worldwide.
Nonetheless, we cannot guarantee that the patents that we currently have or
will obtain in the future will effectively protect our technology. We are aware
of a patent belonging to third parties that could be interpreted to compromise
our freedom to sell LSF in the United States for certain non-oncology
applications. We believe, however, upon the advice of our patent counsel, that
any such interpretation is relevant only in connection with our use of LSF in
preventing lung injury following traumatic injury or sepsis. Irrespective of
such interpretation, we believe that our planned manufacture, sale or use of
LSF as described in this Form 10-K does not infringe any valid claim of the
third-party patent. If the third-party patent rights were interpreted to limit
the use of LSF, we could be required to obtain a license. We cannot assure you
that we could obtain a license on reasonably acceptable terms, if at all.
 
  We also rely upon trade secrets, proprietary know-how and continuing
technological innovation to remain competitive. Third parties may independently
develop such know-how or otherwise obtain access to our technology. While our
employees, consultants and corporate partners with access to proprietary
information are generally required to enter into confidentiality agreements,
these agreements may not be honored.
 
 Our Lipid-Based Technology Is Uncertain
 
  We rely exclusively upon our lipid-based technology for the discovery,
development and commercialization of drugs for the treatment of cancer and
inflammatory and immune diseases. Results from our preclinical research and
clinical trials indicate that certain kinds of oxidized lipids play an
important role in negative cellular responses to damaging stimuli such as
radiation, chemotherapy and oxidative injury. To date, we have dedicated
 
                                       26

<PAGE>
 
our resources primarily to the research and development of drugs that we
believe regulate oxidized lipids. The causes of cancer, inflammatory and
immune disease are complex however, and the precise role of oxidized lipids in
negative cellular responses is not fully known. See "--Scientific Overview."
We cannot assure you that our lipid-based technological approaches are correct
or that our drug candidates will be proven safe or effective. We also cannot
assure you that we ultimately will be able to develop commercial products from
our drug candidates.
 
 Competition Is Intense
 
  The biotechnology and pharmaceutical industries are intensely competitive.
We have numerous competitors in the United States and elsewhere. Our
competitors include major, multinational pharmaceutical and chemical
companies, specialized biotechnology firms and universities and other research
institutions. Many of these competitors have greater financial and other
resources, larger research and development staffs and more effective marketing
and manufacturing organizations, than we do. In addition, academic and
government institutions have become increasingly aware of the commercial value
of their research findings. These institutions are now more likely to enter
into exclusive licensing agreements with commercial enterprises, including our
competitors, to market commercial products.
 
  We cannot give any assurance that our competitors will not succeed in
developing or licensing technologies and drugs that are more effective or less
costly than any we are developing. Our competitors may succeed in obtaining
FDA or other regulatory approvals for drug candidates before we do. We face
direct competition from many companies focusing on areas such as cell signal
transduction, surface receptor technology, transcription factors and gene
therapies. We cannot give any assurance that drugs resulting from our research
and development efforts, if approved for sale, will be able to compete
successfully with our competitors' existing products or products under
development.
 
 Rapid Technological Change Could Make Our Products Obsolete
 
  Biotechnology and related pharmaceutical technology have undergone and are
subject to rapid and significant change. We expect that the technologies
associated with biotechnology research and development will continue to
develop rapidly. Our future will depend in large part on our ability to
maintain a competitive position with respect to these technologies. Any
compounds, products or processes that we develop may become obsolete before we
recover any expenses incurred in connection with developing these products.
 
 We Have a History of Losses and an Expectation of Future Losses
 
  Cti was incorporated in 1991 and has incurred a net operating loss every
year. As of December 31, 1998, we had an accumulated deficit of approximately
$122.1 million. Losses have resulted principally from costs incurred in
research activities aimed at discovering and developing our product
candidates, and from general and administrative costs associated with our
operations. We currently have no product revenue, and we cannot assure you
that we will ever be able to earn such revenue or that our operations will
become profitable, even if we are able to commercialize any products. We will
be required to conduct significant research, development, testing and
regulatory compliance activities that, together with projected general and
administrative expenses, are expected to result in substantial increasing
operating losses for at least the next several years. Our future profitability
depends, in part, on:
 
  . our obtaining regulatory approval for LSF and Apra, our two lead product
    candidates,
 
  . our entering into agreements for the commercialization, manufacture and
    marketing of Apra, and
 
  . our entering into agreements for the development, commercialization,
    manufacture and marketing of additional products derived from our other
    drug development and discovery programs.
 
  We cannot assure you that we, or any potential collaborative partners, will
obtain required regulatory approvals, or successfully develop, commercialize,
manufacture and market product candidates. We also cannot assure you that we
will ever achieve product revenue or profitability.
 
                                      27

<PAGE>
 
 We Will Require Substantial Additional Capital
 
  We expect that our existing capital resources and the interest earned
thereon, will enable us to maintain our current and planned operations at
least through mid 2000. Beyond that time, we will require substantial funds
to: (1) continue our research and development programs, (2) in-license or
acquire additional technologies, and (3) conduct preclinical studies and
clinical trials. We may be required to raise additional capital to fund our
operations repeatedly. Such capital may be raised through public or private
equity financings, partnerships, debt financings, bank borrowings, or other
sources. Our capital requirements will depend upon numerous factors, including
the following:
 
  . the establishment of additional collaborations,
 
  . the development of competing technologies or products,
 
  . changing market conditions,
 
  . the cost of protecting our intellectual property rights,
 
  . the purchase of capital equipment,
 
  . the progress of our drug discovery and development programs,
 
  . the progress of our collaborations and receipt of any option/license,
    milestone and royalty payment resulting from those collaborations, and
 
  . in-licensing and acquisition opportunities.
 
  Additional funding may not be available on favorable terms or at all. If
adequate funds are not otherwise available, we may be required to curtail
operations significantly. To obtain additional funding, we may need to enter
into arrangements that require us to relinquish rights to certain
technologies, drug candidates, products and/or potential markets. To the
extent that additional capital is raised through the sale of equity, or
securities convertible into equity, you may experience dilution of your
proportionate ownership of cti.
 
 Government Regulation Is Extensive and There Is No Assurance of FDA Approval
 
  The pharmaceutical industry is subject to stringent regulation with respect
to product safety and efficacy by various federal, state and local
authorities. Of particular significance are the FDA's requirements covering
research and development, testing, manufacturing, quality control, labeling
and promotion of drugs for human use. A pharmaceutical product cannot be
marketed in the U.S. until it has been approved by the FDA, and then can only
be marketed for the indications and claims approved by the FDA. As a result of
these requirements, the length of time, the level of expenditures and the
laboratory and clinical information required for approval of a NDA (New Drug
Application) are substantial and can require a number of years, although
recently revised regulations are designed to reduce somewhat the time for
approval of new products. In addition, data obtained from preclinical studies
and clinical trials are susceptible to varying interpretations which could
delay, limit or prevent regulatory approval. Furthermore, studies conducted
with alternative designs or alternative patient populations could produce
results which vary from those obtained by us. We cannot assure you that our
data or our interpretation of our data will be accepted by governmental
regulators, the medical community or our collaborators.
 
  If our products are marketed abroad, they will also be subject to export
requirements and to regulation by foreign governments. The applicable
regulatory approval process is lengthy and expensive and must be completed
prior to the commercialization of a product. We cannot give any assurance that
we will be able to obtain necessary regulatory approvals on a timely basis, if
at all, for any of our products under development. Delays in receipt or
failure to receive such approvals or failure to comply with existing or future
regulatory requirements could have a material adverse effect on our business,
financial condition and results of operations.
 
  Product development and approval to meet FDA regulatory requirements takes a
number of years, involves the expenditure of substantial resources and is
uncertain. Many products that initially appear promising ultimately do not
reach the market because they are not found to be safe or effective.
 
                                      28

<PAGE>
 
  In addition, the current regulatory framework could change and additional
regulations may arise at any stage of product development that may affect
approval, delay the submission or review of an application or require
additional expenditures. The effect of government regulation may be to delay
marketing of our products for a considerable or indefinite time, impose costly
procedural requirements and furnish a competitive advantage to larger
companies or companies more experienced in regulatory affairs. Delays in
obtaining governmental regulatory approval could adversely affect our
marketing strategy as well as our ability to generate revenue from product
sales. The failure to obtain marketing approval of our products on a timely
basis, or at all, would have a material adverse effect on our business,
financial condition and results of operations.
 
 We Rely on Third-Party Manufacturers
 
  We currently do not have internal facilities for the manufacture of any of
our products for clinical or commercial production. We currently rely on one
third party, ChiRex, Ltd. (ChiRex), to manufacture LSF bulk drug and three
suppliers for clinical trial quantities of the finished drug product. Our
manufacture and supply agreement with ChiRex provides for the manufacture and
supply of LSF bulk drug and corresponding intermediate compounds for our
requirements for ongoing and future clinical trials and commercial
requirements during product launch and commercialization. LSF has never been
manufactured on a commercial scale and we cannot assure you that we, together
with a third-party collaborator, will be able to make the transition to
commercial production. We have identified manufacturers with adequate capacity
to meet forecasted commercial quantities of LSF, however, there can be no
assurance that we can enter into an agreement with these manufacturers on
terms acceptable to us.
 
  We will need to develop additional manufacturing resources, enter into
collaborative arrangements with other parties which have established
manufacturing capabilities or elect to have other third parties manufacture
our products on a contract basis. We are a party to one such agreement with a
third-party vendor to furnish Apra bulk drug substance for future clinical
studies. We are dependent on such collaborators or third parties to supply us
in a timely way with products manufactured in compliance with standards
imposed by the FDA and foreign regulators. We cannot assure you that the
manufacturing facilities of contract manufacturers, including ChiRex, will
comply with applicable manufacturing regulations of the FDA or meet our
requirements for quality, quantity or timeliness.
 
 We Lack Sales and Marketing Capabilities
 
  We have no direct experience in marketing, sales or distribution. We
believe, however, that the United States oncology market is accessible by a
limited marketing staff and field sales organization. Our strategy for
commercializing LSF for its oncology applications is to establish a strategic
alliance with a corporate partner that has an established, skilled, and
experienced field sales organization with which to collaborate in the areas of
marketing strategy and clinical liaison. There can be no assurance that we
will be able to establish such a strategic alliance. Should we have to market
and sell our products directly, we would need to develop a marketing and sales
force with technical expertise and distribution capability. The creation of
infrastructure to commercialize pharmaceutical products is an expensive and
time-consuming process. There can be no assurance that we would be able to
develop the necessary marketing and sales capabilities or be successful in
gaining market acceptance for our products.
 
 We Depend on Certain Key Personnel
 
  We are highly dependent on the principal members of our scientific and
management staff. Recruiting and retaining qualified scientific personnel to
perform research and development work are critical to cti's success. There is
intense competition for qualified scientists and managerial personnel from
numerous pharmaceutical and biotechnology companies, as well as from academic
and government organizations, research institutions and other entities. The
loss of any principal member of our scientific or management staff, or failure
to attract or retain other key scientific personnel employees, could have a
material adverse effect on our business, financial condition and results of
operations. In addition, we rely on consultants and advisors, including our
scientific
 
                                      29

<PAGE>
 
and clinical advisors, to assist us in formulating our research and
development strategy. All of our consultants and advisors are employed by
other employers or are self-employed, and have commitments to or consulting or
advisory contracts with other entities that may limit their availability to
us.
 
 There Is Risk of Product Liability and We Face Potential Difficulties In
Obtaining Insurance
 
  Our business exposes us to potential product liability risks inherent in the
testing, manufacturing and marketing of human pharmaceutical products, and we
cannot assure you that we will be able to avoid significant product liability
exposure. Except for insurance covering product use in our clinical trials, we
do not currently have any product liability insurance, and we cannot assure
you that we will be able to obtain or maintain such insurance on acceptable
terms or that any insurance obtained will provide adequate coverage against
potential liabilities. Our inability to obtain sufficient insurance coverage
at an acceptable cost or otherwise to protect against potential product
liability claims could prevent or limit the commercialization of any products
we develop. A successful product liability claim in excess of our insurance
coverage could have a material adverse effect on our business, financial
condition and prospects.
 
 Uncertainty Regarding Third-Party Reimbursement and Health Care Cost
 Containment Initiatives May Impact Our Revenue
 
  Our ability to commercialize our products successfully will be affected by
the ongoing efforts of governmental and third-party payors to contain or
reduce the cost of health care. Governmental and other third-party payors
increasingly are attempting to contain health care costs by:
 
  . challenging the prices charged for health care products and services,
 
  . limiting both coverage and the amount of reimbursement for new
    therapeutic products,
 
  . denying or limiting coverage for products that are approved by the FDA
    but are considered experimental or investigational by third-party payors,
    and
 
  . refusing in some cases to provide coverage when an approved product is
    used for disease indications in a way that has not received FDA marketing
    approval.
 
  In addition, the trend toward managed health care in the United States, the
growth of organizations such as health maintenance organizations, and
legislative proposals to reform healthcare and government insurance programs
could significantly influence the purchase of healthcare services and
products, resulting in lower prices and reducing demand for our products.
 
  If we succeed in bringing any of our proposed products to the market, we
cannot assure you that they will be considered cost-effective or that third-
party reimbursement will be available or sufficient. In addition, legislation
and regulations affecting the pricing of pharmaceuticals may change in ways
adverse to us before or after any of our proposed products are approved for
marketing. While we cannot predict whether any such legislative or regulatory
proposals will be adopted, the adoption of such proposals could have a
material adverse effect on our business, financial condition and results of
operations.
 
 We Cannot Assure Market Acceptance of Our Product
 
  We cannot assure you that our drug candidates, if approved by the FDA and
other regulatory agencies, will achieve market acceptance. The degree of
market acceptance will depend on a number of factors, including:
 
  . the receipt and timing of regulatory approvals,
 
  . the availability of third-party reimbursement, and
 
  . the establishment and demonstration in the medical community of the
    clinical safety, efficacy and cost-effectiveness of our drug candidates
    and their advantages over existing technologies and therapeutics.
 
 
                                      30

<PAGE>
 
  We cannot assure you that we will be able to manufacture and successfully
market our drug candidates even if they perform successfully in clinical
applications. Also, we cannot assure you that physicians or the medical
community in general will accept and utilize any therapeutic products that we
may develop.
 
 The Year 2000 Issue Could Impact Our Business
 
  We could be impacted by the Year 2000 issue, which results from computer
programs being written using two digits rather than four to define the
applicable year. Any of our computer programs that have time-sensitive
software may recognize a date using "00" as the year 1900 rather than the year
2000. This could result in a system failure or miscalculations causing
disruptions of operations, including, among other things, a temporary
inability to process transactions, send invoices or engage in similar normal
business activities.
 
  We are in the process of assessing our computer systems to determine the
extent of modifications required so that our computer systems will function
properly with respect to dates in the year 2000 and thereafter. Our systems
are all relatively new and PC-based. All of our business software programs,
with the exception of our fixed asset module, have been evaluated as Year 2000
compliant. The fixed asset module is scheduled for replacement in the first
quarter of 1999. We have also initiated an assessment of our non-information
technology systems. Critical electro-mechanical instruments containing
software are currently being evaluated for Year 2000 compliance. This
evaluation is expected to be completed in the first quarter of 1999. We have
also initiated formal communications with all of our significant suppliers to
determine the extent to which our interface systems are vulnerable to those
third parties' failure to remedy their own Year 2000 issues. We will be
following up with these suppliers during the first quarter of 1999 to
determine the extent of alternative sources or contingency plans that are
required. We presently believe the Year 2000 issue will not pose significant
operational problems for our computer systems, non-information technology
systems or third-party relationships.
 
  We have been continually upgrading our information technology systems and
critical laboratory instrumentation since inception in 1992. We have not
incurred to date, and do not anticipate incurring, material additional costs
to accelerate the replacement of our existing information technology systems
or critical laboratory instrumentation due to Year 2000 issues.
 
  If corrections to our Year 2000 issues are not completed, or the systems of
other companies on which our systems rely are not timely converted, the Year
2000 Issue could have a material impact on our business, prospects, financial
condition, liquidity and results of operations. These impacts could include,
but are not limited to, future revenue delays due to delayed research,
development, clinical trials or agency approvals.
 
  We believe that the Year 2000 issues can be effectively avoided, but we
intend to develop a contingency plan to allow operations to continue even if
significant issues are experienced. We have a team assigned to review all
information technology systems, all equipment, and vendors of equipment and
services that may be impacted by Year 2000 issues. Contingency plans will be
developed for each critical activity by the end of the second quarter of 1999.
 
 We Use Hazardous Materials
 
  Our research and development activities involve the controlled use of
hazardous materials, chemicals and various radioactive compounds. We are
subject to federal, state and local laws and regulations governing the use,
manufacture, storage, handling and disposal of such materials and certain
waste products. Although we believe that our safety procedures for handling
and disposing of such materials comply with the standards prescribed by state
and federal regulations, the risk of accidental contamination or injury from
these materials cannot be eliminated completely. In the event of such an
accident, we could be held liable for any damages that result and any such
liability not covered by insurance could exceed our resources.
 
 Ownership of Our Common Stock Is Concentrated
 
  Directors and officers of cti, and their affiliates, beneficially own in the
aggregate 3,367,848 shares of our Common Stock (including shares of Common
Stock subject to options or warrants exercisable or convertible
 
                                      31

<PAGE>
 
within 60 days of February 26, 1999), representing approximately 21.67 percent
of the voting power of our outstanding securities. Such concentration of
ownership may have the effect of delaying, deferring or preventing a change in
control of the Company.
 
 Our Stock Price May Be Volatile
 
  The market price for securities of biopharmaceutical and biotechnology
companies, including that of cti, historically have been highly volatile, and
the market from time to time has experienced significant price and volume
fluctuations that are unrelated to the operating performance of such
companies. Factors that may have a significant impact on the market price and
marketability of our Common Stock include:
 
  . announcements of technological innovations or new commercial therapeutic
    products by us, our collaborative partners or our present or potential
    competitors,
 
  . announcements by us or others of results of preclinical testing and
    clinical trials,
 
  . developments or disputes concerning patent or other proprietary rights,
 
  . developments in our relationships with collaborative partners,
 
  . acquisitions,
 
  . litigation,
 
  . adverse legislation,
 
  . changes in governmental regulation, third-party reimbursement policies,
    the status of our regulatory approvals or applications,
 
  . changes in earnings,
 
  . changes in securities analysts' recommendations,
 
  . changes in health care policies and practices,
 
  . economic and other external factors,
 
  . period-to-period fluctuations in our financial result, and
 
  . general market conditions.
 
  Fluctuations in the trading price or liquidity of our Common Stock may
adversely effect our ability to raise capital through future equity
financings.
 
 Our Charter Documents Contain Certain Anti-Takeover Provisions and We Have a
Rights Plan
 
  Our Restated Articles of Incorporation and Bylaws contain provisions that
may make it more difficult for a third party to acquire or make a bid for us.
These provisions could limit the price that certain investors might be willing
to pay in the future for shares of our Common Stock. In addition, shares of
our preferred stock may be issued in the future without further shareholder
approval and upon such terms and conditions and having such rights, privileges
and preferences, as the Board of Directors may determine. The rights of the
holders of Common Stock will be subject to, and may be adversely affected by,
the rights of any holders of preferred stock that may be issued in the future.
The issuance of preferred stock, while providing desirable flexibility in
connection with possible acquisitions and other corporate purposes, could have
the effect of making it more difficult for a third party to acquire, or of
discouraging a third party from acquiring, a majority of our outstanding
voting stock. We have no present plans to issue any shares of preferred stock.
In addition, we have adopted a shareholder rights plan that, along with
certain provisions of our Restated Articles of Incorporation, may have the
effect of discouraging certain transactions involving a change of control of
cti.
 
                                      32

<PAGE>
 

I
TEM 2. PROPERTIES
 
  The Company leases approximately 66,000 square feet of space at 201 Elliott
Avenue West in Seattle, Washington for its executive office, laboratory and
administrative operations. The lease expires January 31, 2003, with two
consecutive five-year renewal options at the then prevailing market rent.
Also, the Company has leased approximately 12,500 square feet of space at 300
Elliott Avenue West. The lease expires on August 31, 2001, with a three-year
renewal option at the then prevailing market rent. Although the Company's
existing and planned facilities are believed to be adequate to meet its
present requirements, the Company is presently planning for additional office
and laboratory space. Despite a decrease in local vacancy rates for commercial
space, the Company currently anticipates that additional space will be
available to it, when needed, on commercially reasonable terms. See "Item 1.--
Business--Manufacturing."
 

ITEM 3. LEGAL PROCEEDINGS
 
  The Company is not a party to any material legal proceedings.
 

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
  Not applicable.
 
                                      33

<PAGE>
 

                                    PART II
 

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
 
  The Company's common stock commenced trading on the Nasdaq National Market
under the symbol "CTIC" March 21, 1997. The following table sets forth, for
the periods indicated, the high and low reported sales prices per share of the
common stock as reported on the Nasdaq National Market.
 

<TABLE>
<CAPTION>
                                                               HIGH     LOW
                                                               ----     ----
1997
   <S>                                                         <C>      <C>
   Fourth Quarter............................................. $18 3/4  $14 7/8
   Third Quarter..............................................  16 1/4   10 5/8
   Second Quarter.............................................  13 5/8    7 5/8
   First Quarter (commencing March 21, 1997)..................  10 7/8    10
 
1998
   Fourth Quarter.............................................   3 3/4    1 3/4
   Third Quarter..............................................   3 3/16   1 1/2
   Second Quarter.............................................   4 3/4    2 1/2
   First Quarter..............................................  16 3/4     4
 
1999
   First Quarter (through March 15, 1999).....................   4 1/2    2 7/8
</TABLE>

 
  The last reported sale price of the common stock on the Nasdaq Market on
March 15, 1999 was $4 per share. At March 15, 1999, there were approximately
317 shareholders of record and 15,534,359 outstanding shares of common stock.
 
DIVIDEND POLICY
 
  The Company has not declared or paid any cash dividends on its capital stock
since its inception. The Company currently intends to retain all of its cash
and any future earnings to finance the growth and development of its business
and therefore does not anticipate paying any cash dividends in the foreseeable
future. Any future determination to pay cash dividends will be at the
discretion of the Board of Directors and will be dependent upon the Company's
financial condition, results of operations, capital requirements and such
other factors as the Board of Directors deems relevant.
 
USE OF PROCEEDS FROM INITIAL PUBLIC OFFERING
 
  The Company completed its initial public offering (the "IPO") in March 1997,
in which it issued and sold 3 million shares of common stock for aggregate
proceeds to the Company of $27.9 million. The effective date of the
Registration Statement (Commission File No. 333-20855) was March 18, 1997. The
managing underwriters for the IPO were: UBS Securities LLC (now known as
"Warburg Dillon Read"), Montgomery Securities (now known as "NationsBanc
Montgomery Securities, Inc.") and Raymond James & Associates, Inc. Of the
aggregate proceeds received in the IPO, $1.1 million was used to pay costs and
expenses related to the IPO, resulting in net proceeds of $26.8 million. As of
December 31, 1998, of the net proceeds, $5.6 million was used for repayment of
long-term obligations and purchases of equipment and furniture, and $21.2
million was used for research, development and general and administrative
activities.
 
                                      34

<PAGE>
 

ITEM 6. SELECTED FINANCIAL DATA
 
  The selected financial data set forth below with respect to the Company's
consolidated statements of operations for each of the three years in the
period ended December 31, 1998 and for the period from September 4, 1991 (date
of incorporation) to December 31, 1998, and with respect to the consolidated
balance sheets at December 31, 1997 and 1998, are derived from the audited
consolidated financial statements of the Company included elsewhere in this
Report, and is qualified by reference to such financial statements and the
notes related thereto. The consolidated balance sheets data at December 31,
1994, 1995 and 1996 and the consolidated statements of operations data for the
years ended December 31, 1994 and 1995 are derived from audited financial
statements of the Company not included in this Report. The data set forth
below should be read in conjunction with Item 7.--"Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the
Consolidated Financial Statements and Notes thereto appearing at Item 8 of
this Report.
 

<TABLE>
<CAPTION>
                                                                                         PERIOD FROM
                                                                                        SEPTEMBER 4,
                                                                                        1991 (DATE OF
                                         YEAR ENDED DECEMBER 31,                        INCORPORATION)
                         ------------------------------------------------------------  TO DECEMBER 31,
                            1994        1995        1996        1997         1998           1998
                         ----------  ----------  ----------  -----------  -----------  ---------------
                                  (IN THOUSANDS, EXCEPT PER SHARE DATA)
<S>                      <C>         <C>         <C>         <C>          <C>          <C>
CONSOLIDATED STATEMENTS
 OF OPERATIONS DATA:
Revenues:
 Collaboration agree-
  ments................. $      --   $      100  $    9,121  $    11,831  $    13,200     $  34,252
Operating expenses:
 Research and develop-
  ment..................     14,368      14,606      16,109       27,285       29,232       117,387
 General and adminis-
  trative...............      5,283       6,144       7,602       10,090       11,599        46,432
                         ----------  ----------  ----------  -----------  -----------     ---------
   Total operating ex-
    penses..............     19,651      20,750      23,711       37,375       40,831       163,819
                         ----------  ----------  ----------  -----------  -----------     ---------
Loss from operations....    (19,651)    (20,650)    (14,590)     (25,544)     (27,631)     (129,567)
                         ----------  ----------  ----------  -----------  -----------     ---------
Other income (expense):
 Investment income......        616       1,167       1,174        2,895        3,094         9,962
 Interest expense.......       (464)       (509)       (512)        (378)        (435)       (2,465)
                         ----------  ----------  ----------  -----------  -----------     ---------
Net loss................    (19,499)    (19,992)    (13,928)     (23,027)     (24,972)     (122,070)
                         ==========  ==========  ==========  ===========  ===========     =========
Basic and diluted net
 loss per share......... $    (4.13) $    (4.19) $    (2.82) $     (1.98) $     (1.62)
                         ==========  ==========  ==========  ===========  ===========
Shares used in
 computation of basic
 and diluted net loss
 per share..............  4,716,399   4,771,247   4,939,388   11,634,032   15,409,848
                         ==========  ==========  ==========  ===========  ===========
Pro forma basic and di-
 luted net loss per
 share..................             $    (2.90) $    (1.69) $     (1.81)
Shares used in
 computation of pro
 forma basic and diluted
 net loss per share.....              6,897,229   8,227,888   12,735,215
</TABLE>

 

<TABLE>
<CAPTION>
                                             DECEMBER 31,
                             -------------------------------------------------
                               1994      1995      1996      1997      1998
                             --------  --------  --------  --------  ---------
                                            (IN THOUSANDS)
<S>                          <C>       <C>       <C>       <C>       <C>
CONSOLIDATED BALANCE SHEETS
 DATA:
Cash, cash equivalents and
 securities available-for-
 sale....................... $  9,131  $ 21,906  $ 30,987  $ 70,444  $  47,072
Collaboration agreement re-
 ceivables..................      --        --        --      3,683      3,254
Working capital.............    4,094    18,342    26,300    67,594     44,143
Total assets................   17,278    28,048    37,002    80,433     58,156
Long-term obligations, less
 current portion............    2,620     2,606     2,005     2,039      3,888
Deficit accumulated during
 development stage..........  (40,151)  (60,144)  (74,072)  (97,098)  (122,070)
Total shareholders' equity..   10,051    21,858    30,054    71,760     47,165
</TABLE>

 
                                      35

<PAGE>
 

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
 
OVERVIEW
 
  Since commencement of operations in 1992, the Company has been engaged in
research and development activities, including conducting preclinical studies
and clinical trials, recruiting its scientific and management personnel,
establishing laboratory facilities and raising capital. The Company has not
received any revenue from the sale of products to date and does not expect to
receive revenues from the sale of products for at least the next several
years.
 
  In the fourth quarter of 1995, the Company began to receive revenue under a
collaboration agreement with BioChem Pharma, Inc. ("BioChem Pharma") and in
the fourth quarter of 1996 the Company began to receive revenue under a
collaboration agreement (the "Collaboration Agreement") with subsidiaries of
Johnson & Johnson ("Johnson & Johnson"). Under the terms of the Collaboration
Agreement, Johnson & Johnson paid 60% of the U.S. development costs in
connection with obtaining regulatory approval of lisofylline ("LSF(TM)") for
use with bone marrow transplants ("BMT"). After exercising its option in 1997,
Johnson & Johnson expanded its participation in the development of LSF to
include the treatment of patients undergoing induction chemotherapy to treat
acute myeloid leukemia ("AML"). In July 1998, after reviewing the results of
the Company's Phase III clinical trial for LSF among patients receiving BMT
from related donors, in which the primary endpoints were not met, Johnson &
Johnson reached an agreement in principle with the Company to revise the
Collaboration Agreement. On November 16, 1998, the Company and Johnson &
Johnson formally amended the Collaboration Agreement. Under the terms of the
amended Collaboration Agreement, Johnson & Johnson agreed to pay the Company
$13.1 million for development cost reimbursements for BMT and AML for the year
ending December 31, 1998. After reviewing both the interim data from the
Company's pivotal Phase II/III trial for LSF in patients with acute lung
injury and acute respiratory distress syndrome and the results of the
Company's Phase III trial for LSF following induction chemotherapy for AML,
Johnson & Johnson may elect to resume responsibility for the development and
commercialization of LSF subject to certain additional payments upon
resumption of its obligations. If Johnson & Johnson does not elect to resume
development activities, then the Company will be free to license LSF to other
third parties. As of December 31, 1998, the Company had recorded approximately
$40.8 million in equity payments, license and milestone fees, and development
cost reimbursements with Johnson & Johnson. See "Item 1.--Business--
Collaborations."
 
  As of December 31, 1998, the Company had incurred aggregate net losses of
approximately $122.1 million since its inception. The Company expects to
continue to incur significant additional operating losses over the next
several years as its research, development and clinical trial efforts expand.
Operating losses may fluctuate from quarter to quarter as a result of
differences in the timing of expenses incurred and revenues recognized. To
date, the Company's operations have been funded primarily from sales of equity
securities, which have raised aggregate net proceeds of approximately $168.0
million.
 
  On March 26, 1997, the Company completed an initial public offering (the
"IPO") of 3 million shares of its common stock at an offering price of $10.00
per share, resulting in net proceeds of $26.8 million. Concurrent with the
closing of the IPO, the Company sold 300,000 shares of common stock to Johnson
& Johnson at a price of $10.00 per share, resulting in net proceeds of $3.0
million. On October 27, 1997, the Company completed a follow-on public
offering (the "Follow-On Offering") of 2.3 million shares of its common stock
at an offering price of $16.00 per share, resulting in net proceeds of $34.3
million.
 
  The Company could be impacted by the Year 2000 issue, which results from
computer programs being written using two digits rather than four to define
the applicable year. Any of the Company's computer programs that have time-
sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. This could result in a system failure or miscalculations
causing disruptions of operations, including, among other things, a temporary
inability to process transactions, send invoices, or engage in similar normal
business activities.
 
 
                                      36

<PAGE>
 
  The Company is in the process of assessing its computer systems to determine
the extent of modifications required so that its computer systems will
function properly with respect to dates in the year 2000 and thereafter. The
Company's systems are all relatively new and PC-based. All of the Company's
business software programs, with the exception of its fixed asset module, have
been evaluated as Year 2000 compliant. The fixed asset module is scheduled for
replacement in the first quarter of 1999. The Company has also initiated an
assessment of its non-information technology ("non-IT") systems. Critical
electro-mechanical instruments containing software are currently being
evaluated for Year 2000 compliance. This evaluation is expected to be
completed in the first quarter of 1999. The Company has also initiated formal
communications with all of its significant suppliers to determine the extent
to which the Company's interface systems are vulnerable to those third
parties' failure to remedy their own Year 2000 issues. The Company expects to
complete its follow up with these suppliers during the first quarter of 1999
to determine the extent of alternative sources or contingency plans that are
required. The Company presently believes the Year 2000 issue will not pose
significant operational problems for its computer systems, non-IT systems or
third-party relationships.
 
  The Company has been continually upgrading its information technology
systems and critical laboratory instrumentation since inception in 1992. The
Company has not incurred to date, and does not have plans currently to incur,
material additional costs to accelerate the replacement of its existing
information technology systems or critical laboratory instrumentation due to
Year 2000 issues. Costs incurred to date and costs estimated to complete the
Year 2000 project are not expected to be material.
 
  If corrections to the Company's Year 2000 issues are not completed, or the
systems of other companies on which the Company's systems rely are not timely
converted, the Year 2000 issue could have a material impact on the Company's
business, prospects, financial condition, liquidity and results of operations.
These impacts could include, but are not limited to, future revenue delays due
to delayed research, development, clinical trials or agency approvals.
 
  The Company presently believes that the Year 2000 issues can be effectively
avoided, but it intends to develop a contingency plan to allow operations to
continue even if significant issues are experienced. The Company has a team
assigned to review all information technology systems, all equipment, and
vendors of equipment and services that may be impacted by Year 2000 issues.
Contingency plans will be developed for each critical activity by the end of
the second quarter of 1999.
 
RESULTS OF OPERATIONS
 
 Years Ended December 31, 1998 and 1997
 
  During the year ended December 31, 1998, the Company recorded $13.1 million
of revenue for development cost reimbursements from Johnson & Johnson in
connection with the Collaboration Agreement and a $100,000 milestone payment
from BioChem Pharma in connection with a collaboration agreement. During the
year ended December 31, 1997, the Company recorded approximately $10.8 million
of revenue for development cost reimbursements from Johnson & Johnson in
connection with the Collaboration Agreement and a $1.0 million milestone
payment in connection with Johnson & Johnson exercising its option to expand
its participation under the Collaboration Agreement to include the development
of LSF for the treatment of patients with newly diagnosed AML undergoing high-
dose induction chemotherapy.
 
  Research and development expenses increased to approximately $29.2 million
for the year ended December 31, 1998 from approximately $27.3 million for the
year ended December 31, 1997. This increase was due primarily to expanded
development activities with respect to LSF and Apra(TM) (CT-2584), the
Company's novel small molecule drug under investigation for the treatment of
patients with multidrug (e.g., chemotherapy) resistant cancers, including the
ongoing funding of multiple clinical trials and the recruitment of additional
personnel. Additionally, the Company commenced funding of diabetes research
efforts related to the Company's Cell City, LLC joint venture with the City of
Hope National Medical Center and research efforts with respect to
polyglutamate paclitaxel ("PG-TXL(TM)") in 1998. The Company expects that
research and development
 
                                      37

<PAGE>
 
expenses will increase in future years as the Company expands its research and
development programs and undertakes additional clinical trials.
 
  General and administrative expenses increased to approximately $11.6 million
for the year ended December 31, 1998 from approximately $10.1 million for the
year ended December 31, 1997. This increase was due primarily to operating
expenses associated with supporting the Company's increased research,
development and clinical activities. Additionally, during 1998 the Company
incurred licensing and transaction costs with respect to: the establishment of
Cell City, LLC for developing novel pharmacological agents for treating
diabetes and diabetes-associated vascular complications; acquiring the rights
to PG-TXL; and acquiring the rights to a class of compounds including SC-7
which are inhibitors of tumor angiogenesis. General and administrative
expenses are expected to increase to support the Company's expected increase
in research, development and clinical trial efforts.
 
  Investment income principally comprises interest income from investment of
the Company's cash reserves. Interest expense results primarily from the
financing of laboratory and other equipment. Investment income increased to
approximately $3.1 million for the year ended December 31, 1998 from
approximately $2.9 million for the year ended December 31, 1997. The increase
was associated primarily with interest earnings on higher average cash
balances on hand during 1998 due to the proceeds remaining from both the
Company's IPO and concurrent sale of common stock to Johnson & Johnson late in
the first quarter of 1997, and the Company's Follow-On Offering in the fourth
quarter of 1997. Interest expense increased to approximately $435,000 for the
year ended December 31, 1998 from approximately $378,000 for the year ended
December 31, 1997. This increase was due primarily to higher average balances
of outstanding long-term obligations, partially offset by lower average
interest rates on those obligations.
 
 Years Ended December 31, 1997 and 1996
 
  During the year ended December 31, 1997, the Company recorded approximately
$10.8 million of revenue for development cost reimbursements from Johnson &
Johnson in connection with the Collaboration Agreement and a $1.0 million
milestone payment in connection with Johnson & Johnson exercising its option
to expand its participation under the Collaboration Agreement to include the
development of LSF for the treatment of patients with newly diagnosed AML
undergoing high-dose induction chemotherapy. During the year ended December
31, 1996, the Company recorded a $5.0 million license fee and $871,000 in
development cost reimbursements from Johnson & Johnson in connection with the
Collaboration Agreement, a $250,000 milestone payment from BioChem Pharma in
connection with a collaboration agreement and a $3.0 million signing fee from
Schering AG ("Schering") in connection with a collaboration agreement that was
terminated by Schering in April 1996. See Note 11 of Notes to Consolidated
Financial Statements.
 
  Research and development expenses increased to approximately $27.3 million
for the year ended December 31, 1997 from approximately $16.1 million for the
year ended December 31, 1996. This increase was due primarily to expanded
manufacturing, preclinical and clinical development activities, including the
ongoing funding of multiple Phase III clinical trials and the recruitment of
additional personnel, with respect to LSF and, to a lesser extent, expanded
manufacturing related development activities with respect to Apra.
 
  General and administrative expenses increased to approximately $10.1 million
for the year ended December 31, 1997 from approximately $7.6 million for the
year ended December 31, 1996. This increase was due primarily to operating
expenses associated with supporting the Company's increased research,
development and clinical activities.
 
  Investment income principally comprises interest income from investment of
the Company's cash reserves. Interest expense results primarily from the
financing of laboratory and other equipment. Investment income increased to
approximately $2.9 million for the year ended December 31, 1997 from
approximately $1.2 million for the year ended December 31, 1996. The increase
was associated primarily with interest earnings on higher average cash
balances on hand during 1997 due to the proceeds received in 1997 from both
the Company's IPO and concurrent sale of common stock to Johnson & Johnson
late in the first quarter and the Company's Follow-On Offering in the fourth
quarter. Interest expense decreased to approximately $378,000 for the year
ended
 
                                      38

<PAGE>
 
December 31, 1997 from approximately $513,000 for the year ended December 31,
1996, due primarily to lower average balances of outstanding long-term
obligations.
 
LIQUIDITY AND CAPITAL RESOURCES
 
  The Company has financed its operations since inception primarily through
the sale of equity securities and from its collaboration with Johnson &
Johnson. As of December 31, 1998, the Company has raised aggregate net
proceeds of approximately $168.0 million through the sale of equity securities
including public offerings of common stock, private placements of Series A and
B convertible preferred stock and common stock, a bridge loan, the exercise of
stock options and warrants, and the sale of common stock pursuant to the
Employee Stock Purchase Plan. As of December 31, 1998, the Company had
recorded approximately $40.8 million in equity payments, license fees,
milestone payments and development cost reimbursements from Johnson & Johnson.
In addition, the Company financed the purchase of $16.2 million of property
and equipment through financing agreements and capital lease obligations of
which approximately $4.6 million remained outstanding as of December 31, 1998.
 
  At December 31, 1998, the Company had $47.1 million in cash, cash
equivalents and short-term investments. The Company invests in U.S. government
obligations and other highly rated liquid debt instruments. The Company
intends to use the substantial portion of its financial resources to fund its
research and development activities with respect to the Company's LSF and Apra
programs, including preclinical testing, clinical trials and process
development activities, and to fund other research and development activities.
The amounts actually expended for research and development activities and the
timing of such expenditures will depend upon numerous factors, including the
progress of the Company's research and development programs, the results of
preclinical and clinical trials, the timing of regulatory submissions and
approvals, if any, technological advances, determinations as to the commercial
potential of the Company's compounds, and the status and timing of competitive
products. The amount of expenditures will also depend upon the potential
resumption by Johnson & Johnson of its obligations under the Collaboration
Agreement, the timing and availability of alternative methods of financing the
Company's research and development activities and preclinical and clinical
trials, and the ability of the Company to establish collaborative agreements
with other companies. A variety of other factors, some of which are beyond the
Company's control, could also affect the application of the proceeds.
 
  The Company also expects to use a portion of its financial resources to add
research and product development programs. On June 30, 1998, the Company
entered into an agreement with PG-TXL Company, L.P. and scientists at the M.D.
Anderson Cancer Center, granting the Company an exclusive worldwide license to
the rights to PG-TXL, a water soluble form of the cancer drug, Taxol(R), and
to all potential uses of PG-TXL's polymer technology. Under the terms of the
agreement, the Company will fund the research, development, manufacture,
marketing and sale of anti-cancer drugs developed using PG-TXL's polymer
technology. On December 11, 1998, the Company entered into an exclusive option
agreement with SynChem Research, Inc. ("SynChem") to acquire an exclusive
worldwide license (the "SynChem License") to a novel class of compounds which
are inhibitors of tumor angiogenesis. The Company's option to acquire the
SynChem License shall be exercisable at the end of a six-month evaluation
period upon the payment of an initial license fee. Under the terms of the
option agreement, the SynChem License will provide that the Company will fund
research, development, manufacture, marketing and sale of anti-cancer drugs
using SynChem's copper chelation technology. The Company's research and
development expenditures will vary as such research and product development
programs are added, expanded or discontinued.
 
  The Company also expects to use portions of its financial resources to
improve facilities, purchase capital equipment and for general corporate
purposes. The Company has not identified precisely the amount it plans to
spend on these specific programs or the timing of such expenditures. Pending
such uses, the Company intends to invest its cash balances in U.S. government
obligations and other highly rated liquid debt instruments. The Company may
also from time to time consider the acquisition of other companies,
technologies or products that complement the business of the Company, although
no agreements or understandings are in effect with respect to any such
transactions at this time.
 
                                      39

<PAGE>
 
  The Company expects that its capital requirements will increase as the
Company expands its research and development programs and undertakes
additional clinical trials. In connection with such expansion, the Company
expects to incur substantial expenditures for hiring additional management,
scientific and administrative personnel, for planned expansion of its
facilities, and for the purchase or lease of additional equipment.
 
  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 such activities. The Company will need to raise substantial
additional capital to fund its operations beyond such time. The Company's
future capital requirements will depend on many factors, including the
potential resumption by Johnson & Johnson of its obligations under the
Collaboration Agreement; the ability of the Company to establish additional
collaborative arrangements and the terms of any additional collaborative
arrangements that the Company may enter into; the continued scientific
progress in the Company's research and development programs; the magnitude of
such programs; the progress of preclinical testing and clinical trials; the
time and costs involved in obtaining regulatory approvals; the costs involved
in preparing, filing, prosecuting, maintaining, enforcing and defending patent
claims; the competing technological and market developments; the cost of
establishing manufacturing facilities; the cost of commercialization
activities and the demand for the Company's products if and when approved.
 
  The Company intends to raise additional funds though additional equity or
debt financings, research and development financings, collaborative
arrangements, acquisitions, or otherwise. Because of these long-term capital
requirements, 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. There can be no assurance that additional
financing will be available to the Company, or, if available, that it will be
on acceptable terms. If additional funds are raised by issuing equity
securities, further dilution to shareholders may result. If adequate funds are
not available, the Company may be required to delay, reduce the scope of, or
eliminate one or more of its research, development and clinical activities. If
the Company seeks to obtain funds through arrangements with collaborative
partners or others, such partners may require the Company to relinquish rights
to certain of its technologies, product candidates or products that the
Company would otherwise seek to develop or commercialize by itself. See "Item
1.--Business--Risk Factors--Need for Substantial Additional Funds."
 
  The Company is exposed to market risk related to changes in interest rates
and foreign currency exchange rates, each of which could adversely affect the
value of the Company's investments. The Company does not use derivative
financial instruments for speculative or trading purposes. The Company
maintains a short-term investment portfolio consisting of interest bearing
securities with an average maturity of less than one year. These securities
are classified as "available-for-sale" securities. The interest bearing
securities are subject to interest rate risk and will fall in value if market
interest rates increase. If market interest rates were to increase immediately
and uniformly by 10% from levels at December 31, 1998, the fair value of the
portfolio would decline by an immaterial amount. Because the Company has the
ability to hold its fixed income investments until maturity, it does not
expect its operating results or cash flows to be affected to any significant
degree by a sudden change in market interest rates on its securities
portfolio. As of December 31, 1998, the Company has not entered into any
foreign exchange contracts to hedge any exposure in its primary overseas
contract because such exposure is immaterial.
 
  As of December 31, 1998, the Company had available for Federal income tax
purposes net operating loss carryforwards of approximately $116.6 million and
research and development credit carryforwards of approximately $4.3 million.
These carryforwards begin to expire in 2007. The Company's ability to utilize
its net operating loss and research and development credit carryforwards is
subject to an annual limitation in future periods pursuant to the "change in
ownership" rules under Section 382 of the Internal Revenue Code of 1986. See
Note 10 of Notes to Consolidated Financial Statements.
 

I
TEM 7A. MARKET RISK DISCLOSURE
 
  Refer to Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.
 
                                      40

<PAGE>
 

ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS
 
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 

<TABLE>
<CAPTION>
                                                                            PAGE
                                                                            ----
   <S>                                                                      <C>
   Report of Ernst & Young LLP, Independent Auditors.......................  42
   Consolidated Balance Sheets.............................................  43
   Consolidated Statements of Operations...................................  44
   Consolidated Statements of Stockholders' Equity.........................  45
   Consolidated Statements of Cash Flows...................................  47
   Notes to Consolidated Financial Statements..............................  48
</TABLE>

 
                                       41

<PAGE>
 

               REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
 
The Board of Directors and Shareholders
Cell Therapeutics, Inc.
 
  We have audited the accompanying consolidated balance sheets of Cell
Therapeutics, Inc. (a development stage company) as of December 31, 1998 and
1997, and the related consolidated statements of operations, shareholders'
equity, and cash flows for each of the three years in the period ended
December 31, 1998 and for the period from September 4, 1991 (date of
incorporation) to December 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
 
  We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
 
  In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Cell Therapeutics, Inc. (a
development stage company) at December 31, 1998 and 1997, and the results of
its operations and its cash flows for each of the three years in the period
ended December 31, 1998 and for the period from September 4, 1991 (date of
incorporation) to December 31, 1998, in conformity with generally accepted
accounting principles.
 
Seattle, Washington                       Ernst & Young LLP
February 12, 1999

 
                                      42

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
                          CONSOLIDATED BALANCE SHEETS
 

<TABLE>
<CAPTION>
                                                          DECEMBER 31,
                                                    --------------------------
                                                        1998          1997
                                                    -------------  -----------
<S>                                                 <C>            <C>
ASSETS
Current assets:
  Cash and cash equivalents........................ $   4,362,486  $ 8,876,990
  Securities available-for-sale....................    42,709,606   61,567,384
  Collaboration agreement receivables..............     3,254,491    3,683,031
  Prepaid expenses and other current assets........       920,136      101,127
                                                    -------------  -----------
Total current assets...............................    51,246,719   74,228,532
Property and equipment, net........................     6,825,897    5,905,100
Notes receivable from officers, less current
 portion...........................................           --        71,812
Other assets.......................................        83,879      228,052
                                                    -------------  -----------
Total assets....................................... $  58,156,495  $80,433,496
                                                    =============  ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
  Accounts payable................................. $   1,106,832  $   162,469
  Accrued expenses.................................     4,816,385    4,712,232
  Current portion of long-term obligations.........     1,180,702    1,759,387
                                                    -------------  -----------
Total current liabilities..........................     7,103,919    6,634,088
Long-term obligations, less current portion........     3,887,603    2,039,104
Commitments
Shareholders' equity:
  Series A and B convertible preferred stock:
    Authorized shares--10,000,000..................           --           --
  Common stock, no par value:
    Authorized shares--100,000,000
    Issued and outstanding shares--15,534,359 and
     15,378,419 at December 31, 1998 and 1997
     respectively..................................   169,618,635  168,893,074
  Notes receivable from officers...................      (380,000)         --
  Deficit accumulated during development stage.....  (122,070,032) (97,098,121)
  Accumulated other comprehensive income...........        (3,630)     (34,649)
                                                    -------------  -----------
Total shareholders' equity.........................    47,164,973   71,760,304
                                                    -------------  -----------
Total liabilities and shareholders' equity......... $  58,156,495  $80,433,496
                                                    =============  ===========
</TABLE>

 
 
                            See accompanying notes.
 
                                       43

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
                     CONSOLIDATED STATEMENTS OF OPERATIONS
 

<TABLE>
<CAPTION>
                                                                     SEPTEMBER 4,
                                                                     1991 (DATE OF
                                YEAR ENDED DECEMBER 31,            INCORPORATION) TO
                         ----------------------------------------    DECEMBER 31,
                             1998          1997          1996            1998
                         ------------  ------------  ------------  -----------------
<S>                      <C>           <C>           <C>           <C>
Revenues:
  Collaboration
   agreements........... $ 13,200,426  $ 11,831,420  $  9,120,806    $  34,252,652
Operating expenses:
  Research and
   development..........   29,232,233    27,284,544    16,108,821      117,387,428
  General and
   administrative.......   11,598,941    10,090,253     7,601,796       46,432,473
                         ------------  ------------  ------------    -------------
                           40,831,174    37,374,797    23,710,617      163,819,901
                         ------------  ------------  ------------    -------------
Loss from operations:...  (27,630,748)  (25,543,377)  (14,589,811)    (129,567,249)
Other income (expense):
  Investment income.....    3,094,116     2,894,627     1,174,219        9,962,502
  Interest expense......     (435,279)     (377,544)     (512,597)      (2,465,285)
                         ------------  ------------  ------------    -------------
Net loss:............... $(24,971,911) $(23,026,294) $(13,928,189)   $(122,070,032)
                         ============  ============  ============    =============
  Basic and diluted net
   loss per share....... $      (1.62) $      (1.98) $      (2.82)
                         ============  ============  ============
  Shares used in
   computation of basic
   and diluted net loss
   per share............   15,409,848    11,634,032     4,939,388
                         ============  ============  ============
  Pro forma basic and
   diluted net loss per
   share................               $      (1.81) $      (1.69)
                                       ============  ============
  Shares used in
   computation of pro
   forma basic and
   diluted net loss per
   share................                 12,735,215     8,227,888
                                       ============  ============
</TABLE>

 
 
 
                            See accompanying notes.
 
                                       44

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                               DECEMBER 31, 1998

<TABLE>
<CAPTION>
                                                   PREFERRED STOCK
                                         -----------------------------------
                                                                                          DEFICIT
                                                                               NOTES    ACCUMULATED  ACCUMULATED
                      COMMON STOCK             SERIES A          SERIES B    RECEIVABLE DURING THE     COMPRE-
                  ---------------------  --------------------- -------------    FROM    DEVELOPMENT    HENSIVE
                   SHARES      AMOUNT      SHARES     AMOUNT   SHARES AMOUNT  OFFICERS     STAGE       INCOME       TOTAL
                  ---------  ----------  ---------- ---------- ------ ------ ---------- -----------  ----------- -----------
<S>               <C>        <C>         <C>        <C>        <C>    <C>    <C>        <C>          <C>         <C>
Issuance of
 common stock to
 founders for
 cash...........  1,914,313  $   87,612         --  $      --   --     $--      $--     $       --     $  --     $    87,612
Cash proceeds
 received from
 the issuance of
 shares and
 warrants to
 chairman of the
 Board of
 Directors......    178,572   2,004,000         --         --   --      --       --             --        --       2,004,000
Net proceeds
 from the
 issuance of
 common stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $3,467,352.....  2,225,139  35,083,440         --         --   --      --       --             --        --      35,083,440
Net loss for the
 year ended
 December 31,
 1992...........        --          --          --         --   --      --       --      (5,323,737)      --      (5,323,737)
                  ---------  ----------  ---------- ----------  ---    ----     ----    -----------    ------    -----------
BALANCE AT
 DECEMBER 31,
 1992...........  4,318,024  37,175,052         --         --   --      --       --      (5,323,737)      --      31,851,315
Repurchase and
 cancellation of
 common stock...    (60,343)     (2,522)        --         --   --      --       --             --        --          (2,522)
Share
 cancellation...     (1,072)        --          --         --   --      --       --             --        --             --
Net proceeds
 from the
 issuance of
 common stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $1,486,383.....    438,540  12,326,885         --         --   --      --       --             --        --      12,326,885
Net loss for the
 year ended
 December 31,
 1993...........        --          --          --         --   --      --       --     (15,328,143)      --     (15,328,143)
                  ---------  ----------  ---------- ----------  ---    ----     ----    -----------    ------    -----------
BALANCE AT
 DECEMBER 31,
 1993...........  4,695,149  49,499,415         --         --   --      --       --     (20,651,880)      --      28,847,535
Net proceeds
 from the
 issuance of
 common stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $85,823........     25,001     701,677         --         --   --      --       --             --        --         701,677
Proceeds from
 stock options
 exercised......         79       1,375         --         --   --      --       --             --        --           1,375
Net loss for the
 year ended
 December 31,
 1994...........        --          --          --         --   --      --       --     (19,499,283)      --     (19,499,283)
                  ---------  ----------  ---------- ----------  ---    ----     ----    -----------    ------    -----------
BALANCE AT
 DECEMBER 31,
 1994...........  4,720,229  50,202,467         --         --   --      --       --     (40,151,163)      --      10,051,304
Net proceeds
 from the
 issuance of
 Series A
 convertible
 preferred stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $1,478,541.....        --          --   95,447.004 30,496,204  --      --       --             --        --      30,496,204
Share
 cancellation...       (179)        --          --         --   --      --       --             --        --             --
Exchange of
 warrants for
 common stock...    104,418         --          --         --   --      --       --             --        --             --
Issuance of
 common stock
 for purchased
 research and
 development....     98,574   1,155,750         --         --   --      --       --             --        --       1,155,750
December 1995
 proceeds
 received from
 issuance of
 shares to a
 member of the
 Board of
 Directors......      5,715      67,000         --         --   --      --       --             --        --          67,000
Proceeds from
 stock options
 exercised......      4,653      56,264         --         --   --      --       --             --        --          56,264
Unrealized gains
 on securities
 available-for-
 sale...........        --          --          --         --   --      --       --             --     24,178         24,178
Net loss for the
 year ended
 December 31,
 1995...........        --          --          --         --   --      --       --     (19,992,475)      --     (19,992,475)
                  ---------  ----------  ---------- ----------  ---    ----     ----    -----------    ------    -----------
Comprehensive
 loss...........        --          --          --         --   --      --       --             --        --     (19,968,297)
                  ---------  ----------  ---------- ----------  ---    ----     ----    -----------    ------    -----------
BALANCE AT
 DECEMBER 31,
 1995...........  4,933,410  51,481,481  95,447.004 30,496,204  --      --       --     (60,143,638)   24,178     21,858,225
                  =========  ==========  ========== ==========  ===    ====     ====    ===========    ======    ===========
</TABLE>

 
                            See accompanying notes.
 
                                       45

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
          CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (CONTINUED)
                               DECEMBER 31, 1998

<TABLE>
<CAPTION>
                                                          PREFERRED STOCK
                                          --------------------------------------------------
                                                                                                             DEFICIT
                                                                                                NOTES      ACCUMULATED
                       COMMON STOCK               SERIES A                  SERIES B          RECEIVABLE   DURING THE
                  ----------------------- -------------------------  -----------------------     FROM      DEVELOPMENT
                    SHARES      AMOUNT       SHARES       AMOUNT       SHARES       AMOUNT     OFFICERS       STAGE
                  ---------- ------------ ------------  -----------  -----------  ----------  ----------  -------------
<S>               <C>        <C>          <C>           <C>          <C>          <C>         <C>         <C>
Net proceeds
 from the
 issuance of
 Series A
 convertible
 preferred stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $130,000.......         --           --    50,746.268   16,870,000          --          --         --              --
Net proceeds
 from the
 issuance of
 Series B
 convertible
 preferred stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $40,000........         --           --           --           --    14,925.373   4,960,000        --              --
Exchange of
 warrants for
 common stock...         151          --           --           --           --          --         --              --
Proceeds from
 stock options
 exercised......       1,974       23,121          --           --           --          --         --              --
Proceeds from
 common stock
 warrants
 exercised......       7,937      305,558          --           --           --          --         --              --
Unrealized
 losses on
 securities
 available-for-
 sale...........         --           --           --           --           --          --         --              --
Net loss for the
 year ended
 December 31,
 1996...........         --           --           --           --           --          --         --      (13,928,189)
                  ---------- ------------ ------------  -----------  -----------  ----------  ---------   -------------
Comprehensive
 loss...........         --           --           --           --           --          --         --              --
                  ---------- ------------ ------------  -----------  -----------  ----------  ---------   -------------
BALANCE AT
 DECEMBER 31,
 1996...........   4,943,472   51,810,160  146,193.272   47,366,204   14,925.373   4,960,000        --      (74,071,827)
Net proceeds
 from the
 issuance of
 common stock
 via initial
 public
 offering, net
 of offering
 costs of
 $3,197,750.....   3,000,000   26,802,250          --           --           --          --         --              --
Net proceeds
 from the
 issuance of
 common stock
 via follow-on
 public
 offering, net
 of offering
 costs of
 $2,538,000        2,300,000   34,262,000          --           --           --          --         --              --
Net proceeds
 from the
 issuance of
 common stock
 via private
 placement
 equity
 offering.......     300,000    3,000,000          --           --           --          --         --              --
Conversion of
 preferred stock
 to common
 stock..........   4,784,902   52,326,204 (146,193.272) (47,366,204) (14,925.373) (4,960,000)       --              --
Proceeds from
 stock options
 exercised and
 stock awards...      50,045      592,274          --           --           --          --         --              --
Non-employee
 stock option
 compensation
 expense........         --       100,186          --           --           --          --         --              --
Unrealized
 losses on
 securities
 available-for-
 sale...........         --           --           --           --           --          --         --              --
Net loss for the
 period ended
 December 31,
 1997...........         --           --           --           --           --          --         --      (23,026,294)
                  ---------- ------------ ------------  -----------  -----------  ----------  ---------   -------------
Comprehensive
 loss...........         --           --           --           --           --          --         --              --
                  ---------- ------------ ------------  -----------  -----------  ----------  ---------   -------------
BALANCE AT
 DECEMBER 31,
 1997...........  15,378,419  168,893,074          --           --           --          --         --      (97,098,121)
Proceeds from
 stock options
 exercised and
 stock awards...       8,570       86,992          --           --           --          --         --              --
Non-employee
 stock option
 compensation
 expense........         --       422,923          --           --           --          --         --              --
Restriced shares
 issued to non-
 employees......      51,835          --           --           --           --          --         --              --
Proceeds from
 stock sold via
 employee stock
 purchase plan..      95,535      215,646          --           --           --          --         --              --
Notes receivable
 from officers..         --           --           --           --           --          --    (380,000)            --
Unrealized gains
 on securities
 available-for-
 sale...........         --           --           --           --           --          --         --              --
Net loss for the
 period ended
 December 31,
 1998...........         --           --           --           --           --          --         --      (24,971,911)
                  ---------- ------------ ------------  -----------  -----------  ----------  ---------   -------------
Comprehensive
 loss...........         --           --           --           --           --          --         --              --
                  ---------- ------------ ------------  -----------  -----------  ----------  ---------   -------------
BALANCE AT
 DECEMBER 31,
 1998...........  15,534,359 $169,618,635          --   $       --           --   $      --   $(380,000)  $(122,070,032)
                  ========== ============ ============  ===========  ===========  ==========  =========   =============
<CAPTION>
                  ACCUMULATED
                    COMPRE-
                    HENSIVE
                    INCOME       TOTAL
                  ----------- ------------
<S>               <C>         <C>
Net proceeds
 from the
 issuance of
 Series A
 convertible
 preferred stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $130,000.......        --     16,870,000
Net proceeds
 from the
 issuance of
 Series B
 convertible
 preferred stock
 via private
 placement
 equity
 offering, net
 of offering
 costs of
 $40,000........        --      4,960,000
Exchange of
 warrants for
 common stock...        --            --
Proceeds from
 stock options
 exercised......        --         23,121
Proceeds from
 common stock
 warrants
 exercised......        --        305,558
Unrealized
 losses on
 securities
 available-for-
 sale...........    (34,995)      (34,995)
Net loss for the
 year ended
 December 31,
 1996...........        --    (13,928,189)
                  ----------- ------------
Comprehensive
 loss...........        --    (13,963,184)
                  ----------- ------------
BALANCE AT
 DECEMBER 31,
 1996...........    (10,817)   30,053,720
Net proceeds
 from the
 issuance of
 common stock
 via initial
 public
 offering, net
 of offering
 costs of
 $3,197,750.....        --     26,802,250
Net proceeds
 from the
 issuance of
 common stock
 via follow-on
 public
 offering, net
 of offering
 costs of
 $2,538,000             --     34,262,000
Net proceeds
 from the
 issuance of
 common stock
 via private
 placement
 equity
 offering.......        --      3,000,000
Conversion of
 preferred stock
 to common
 stock..........        --            --
Proceeds from
 stock options
 exercised and
 stock awards...        --        592,274
Non-employee
 stock option
 compensation
 expense........        --        100,186
Unrealized
 losses on
 securities
 available-for-
 sale...........    (23,832)      (23,832)
Net loss for the
 period ended
 December 31,
 1997...........        --    (23,026,294)
                  ----------- ------------
Comprehensive
 loss...........        --    (23,050,126)
                  ----------- ------------
BALANCE AT
 DECEMBER 31,
 1997...........    (34,649)   71,760,304
Proceeds from
 stock options
 exercised and
 stock awards...        --         86,992
Non-employee
 stock option
 compensation
 expense........        --        422,923
Restriced shares
 issued to non-
 employees......        --            --
Proceeds from
 stock sold via
 employee stock
 purchase plan..        --        215,646
Notes receivable
 from officers..        --       (380,000)
Unrealized gains
 on securities
 available-for-
 sale...........     31,019        31,019
Net loss for the
 period ended
 December 31,
 1998...........        --    (24,971,911)
                  ----------- ------------
Comprehensive
 loss...........        --    (24,940,892)
                  ----------- ------------
BALANCE AT
 DECEMBER 31,
 1998...........    $(3,630)  $47,164,973
                  =========== ============
</TABLE>

 
                            See accompanying notes.
 
                                       46

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
                     CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                      PERIOD FROM
                                                                     SEPTEMBER 4,
                                                                     1991 (DATE OF
                                 YEAR ENDED DECEMBER 31,            INCORPORATION)
                          ----------------------------------------  TO DECEMBER 31,
                              1998          1997          1996           1998
                          ------------  ------------  ------------  ---------------
<S>                       <C>           <C>           <C>           <C>
OPERATING ACTIVITIES
Net loss................  $(24,971,911) $(23,026,294) $(13,928,189)  $(122,070,032)
Adjustments to reconcile
 net loss to net cash
 used in operating
 activities:
 Depreciation and
  amortization..........     1,880,535     1,748,618     1,658,475      10,090,414
 Noncash research and
  development expense...           --            --            --        1,155,750
 Noncash interest
  expense...............           --            --            --           25,918
 Noncash rent expense...       (42,986)       74,109        54,216         525,411
 Noncash compensation
  expense...............       422,923       100,186           --          523,109
 Investment premium
  (discount)
  amortization
  (accretion)...........       200,118      (177,947)      111,315         544,232
 Changes in assets and
  liabilities:
   Collaboration
    agreement
    receivables.........       428,540    (3,683,031)          --       (3,254,491)
   Prepaid expenses and
    other current
    assets..............      (819,009)      155,765      (236,812)       (920,136)
   Notes receivable from
    officers............        71,812       100,886       (46,200)        (95,224)
   Other assets.........       144,173       239,551      (201,679)        (99,880)
   Accounts payable.....       944,363      (488,661)     (406,298)      1,106,832
   Accrued expenses.....       104,153     1,646,935     1,652,873       4,816,385
                          ------------  ------------  ------------   -------------
Total adjustments.......     3,334,622      (283,589)    2,585,890      14,418,320
                          ------------  ------------  ------------   -------------
Net cash used in
 operating activities...   (21,637,289)  (23,309,883)  (11,342,299)   (107,651,712)
                          ------------  ------------  ------------   -------------
INVESTING ACTIVITIES
 Purchases of
  securities available-
  for-sale..............   (63,959,431)  (85,765,759)  (27,113,929)   (225,751,217)
 Proceeds from sales of
  securities available-
  for-sale..............    26,025,226     1,999,444           --       42,914,983
 Proceeds from
  maturities of
  securities available-
  for-sale..............    56,622,884    47,845,281    16,439,000     139,567,952
 Purchase of property
  and equipment.........    (2,801,332)   (2,540,798)   (1,046,640)    (16,677,066)
 Dispositions of
  property and
  equipment.............           --         15,831           --          167,300
                          ------------  ------------  ------------   -------------
Net cash used in
 investing activities...    15,887,347   (38,446,001)  (11,721,569)    (59,778,048)
                          ------------  ------------  ------------   -------------
FINANCING ACTIVITIES
Sale of common stock to
 founders...............           --            --            --           80,000
Proceeds from borrowings
 from shareholders......           --            --            --          850,000
Sale of common stock via
 initial public
 offering, net of
 offering costs.........           --     26,802,250           --       26,802,250
Sale of common stock via
 follow-on public
 offering, net of
 offering costs.........           --     34,262,000           --       34,262,000
Sale of Series A
 preferred stock via
 private placement, net
 of offering costs......           --            --     16,870,000      47,366,204
Sale of Series B
 preferred stock via
 private placement, net
 of offering costs......           --            --      4,960,000       4,960,000
Sale of common stock via
 private placements, net
 of offering costs......           --      3,000,000           --       52,307,084
Repurchase of common
 stock..................           --            --            --           (2,522)
Notes receivable from

 officers to acquire
 common stock...........      (380,000)          --            --         (380,000)
Proceeds from common
 stock options
 exercised..............        86,992       592,274        23,121         760,026
Proceeds from common
 stock warrants
 exercised..............           --            --        305,558         305,558
Proceeds from employee
 stock purchase plan....       215,646           --            --          215,646
Repayment of long-term
 obligations............    (1,880,361)   (1,226,971)   (1,159,188)    (11,578,601)
Proceeds from the
 issuance of long-term
 obligations............     3,193,161     1,719,806       616,300      15,844,601
                          ------------  ------------  ------------   -------------
Net cash provided by
 financing activities...     1,235,438    65,149,359    21,615,791     171,792,246
                          ------------  ------------  ------------   -------------
Net increase (decrease)
 in cash and cash
 equivalents............    (4,514,504)    3,393,475    (1,448,077)      4,362,486
Cash and cash
 equivalents at
 beginning of period....  $  8,876,990  $  5,483,515  $  6,931,592   $         --
                          ------------  ------------  ------------   -------------
Cash and cash
 equivalents at end of
 period.................  $  4,362,486  $  8,876,990  $  5,483,515   $   4,362,486
                          ============  ============  ============   =============
SUPPLEMENTAL SCHEDULE OF
 NONCASH INVESTING AND
 FINANCING ACTIVITIES
Acquisition of equipment
 pursuant to capital
 lease obligations......  $        --   $        --   $     85,532   $     362,425
                          ============  ============  ============   =============
Conversion of
 convertible debt and
 related accrued
 interest into common
 stock..................  $        --   $        --   $        --    $     875,918
                          ============  ============  ============   =============
Conversion of preferred
 stock into common
 stock..................  $        --   $ 52,326,204  $        --    $  52,326,204
                          ============  ============  ============   =============
SUPPLEMENTAL DISCLOSURE
 OF CASH FLOW
 INFORMATION
Cash paid during the
 period for interest
 obligations............  $    435,279  $    377,544  $    514,534   $   2,438,848
                          ============  ============  ============   =============
</TABLE>

 
                            See accompanying notes.
 
                                       47

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                               DECEMBER 31, 1998
 
1.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
 Description of Business
 
  Cell Therapeutics, Inc. (the "Company") focuses on the discovery,
development, and commercialization of small molecule drugs for the treatment
of cancer and inflammatory and immune diseases. The Company's principal
business strategy is to focus its development activities on therapeutic areas
that represent large market opportunities which are not adequately served by
existing therapies. The Company incorporated on September 4, 1991, but did not
commence operations until February 1992.
 
  The Company operates in a highly regulated and competitive environment. The
manufacturing and marketing of pharmaceutical products require approval from,
and are subject to, ongoing oversight by the Food and Drug Administration in
the United States and by comparable agencies in other countries. Obtaining
approval for a new therapeutic product is never certain and may take several
years and involve expenditure of substantial resources. Competition in
researching, developing, and marketing pharmaceutical products is intense. Any
of the technologies covering the Company's existing products under development
could become obsolete or diminished in value by discoveries and developments
of other organizations.
 
 Principles of Consolidation
 
  The consolidated financial statements include the accounts of the Company,
its wholly owned subsidiary, and its 70% interest in a joint venture. All
intercompany transactions and balances are eliminated in consolidation.
 
 Cash and Cash Equivalents
 
  The Company considers all highly liquid debt instruments with maturities of
three months or less at the time acquired to be cash equivalents. Cash
equivalents represent short-term investments consisting of investment-grade
corporate and government obligations, carried at cost, which approximates
market value.
 
 Securities Available-for-Sale
 
  Management determines the appropriate classification of debt securities at
the time of purchase. Management currently classifies its investment portfolio
as available-for-sale and carries the securities at fair value based on quoted
market prices with unrealized gains and losses included in accumulated
comprehensive income (loss). The amortized cost of debt securities in this
category is adjusted for amortization of premiums and accretion of discounts
to maturity. Such amortization and accretion are included in investment
income. Realized gains and losses and declines in value judged to be other
than temporary on available-for-sale securities are included in investment
income. The cost of securities sold is based on the specific identification
method. Interest on securities classified as available-for-sale is included in
investment income.
 
 Management of Credit Risk
 
  The Company is subject to concentration of credit risk primarily from its
cash investments. Under the Company's investment guidelines, credit risk is
managed by diversification of the investment portfolio and by the purchase of
investment-grade securities.
 
 
                                      48

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 Collaboration Agreement Receivables and Revenues
 
  Collaboration agreement receivables represent amounts earned, but not yet
collected, under collaboration and license agreements. Revenue under
collaboration agreements represents reimbursement of development costs,
license fees, nonrefundable upfront fees and milestone payments. Revenue from
nonrefundable upfront fees is recognized upon satisfaction of related
obligations. Other revenue under collaboration agreements is recognized as the
earnings process is completed, based on the provisions of each agreement.
 
 Property and Equipment
 
  Property and equipment, including assets pledged as security in financing
agreements, are carried at cost, less accumulated depreciation and
amortization. Leasehold improvements are amortized over the lesser of the
useful life or the term of the applicable lease using the straight-line
method. Depreciation commences at the time assets are placed in service and is
computed using the straight-line method over the estimated useful lives of the
assets (three to five years).
 
 Stock-Based Compensation
 
  The Company has elected to follow Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees," and related interpretations in
accounting for its employee stock options. Generally, stock compensation, if
any, is measured as the difference between the exercise price of a stock
option and the fair market value of the Company's stock at the date of grant
which is then amortized over the related vesting period.
 
  Under SFAS 123, "Accounting for Stock-Based Compensation," the Company is
required to value stock options granted to non-employees and recognize
compensation expense. The Company uses the Black-Scholes single-option
approach to value these options, which are then amortized on a straight-line
basis over the shorter of the vesting period or the life of the respective
contract.
 
  Stock-based awards granted to non-employees are expensed based on the fair
value of the award at the date that related performance has been completed.
 
 Net Loss and Pro Forma Net Loss per Share
 
  Basic earnings per share is based on the weighted average number of common
shares outstanding for the period and excludes any dilutive effects of
options, warrants and convertible securities. Diluted earnings per share
assumes the conversion of all dilutive securities, such as options, warrants
and convertible preferred stock.
 
  As all preferred stock converted to common stock at the closing of the
Company's initial public offering in March 1997, pro forma basic and diluted
loss per share are computed on the basis of the average number of common
shares outstanding plus the effect of preferred shares using the "if-
converted" method.
 
 Other Financial Instruments
 
  At December 31, 1998 and 1997, the carrying value of financial instruments
such as receivables and payables approximated their fair values, based on the
short-term maturities of these instruments. Additionally, the carrying value
of long-term liabilities approximated fair values because the underlying
interest rates reflect market rates at the balance sheet dates.
 
 
                                      49

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 Income Taxes
 
  The Company accounts for income taxes using the liability method under
Statement of Accounting Standards No. 109, "Accounting for Income Taxes."
 
 Use of Estimates
 
  The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
 
 Other Risks and Uncertainties
 
  The Company is relying on a single contract manufacturer for the production
of lisofylline ("LSF") for preclinical and clinical trials and for the
subsequent commercial requirements.
 
 New Accounting Pronouncements
 
  As of January 1, 1998, the Company adopted Statement 130, "Reporting
Comprehensive Income." Statement 130 establishes new rules for the reporting
and display of comprehensive income and its components; however, the adoption
of this Statement had no impact on the Company's net income or shareholders'
equity. Statement 130 requires unrealized gains or losses on the Company's
available-for-sale securities, which prior to adoption were reported
separately in shareholders' equity, to be included in other comprehensive
income. Prior year financial statements have been reclassified to conform to
the requirements of Statement 130.
 
  In 1997, the FASB issued Statement No. 131, "Disclosures about Segments of
an Enterprise and Related Information," which has been adopted by the Company
in 1998. The new Statement supersedes FASB Statement No. 14, "Financial
Reporting for Segments of a Business Enterprise." Companies will be required
to report each segment and related information, as defined in Statement 131,
in the Company's notes to the financial statements. The Company does not
currently have any reportable segments.
 
 Reclassifications
 
  Certain prior year items have been reclassified to conform to the current
year presentation.
 
                                      50

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 
2.SECURITIES AVAILABLE-FOR-SALE
 
  Securities available-for-sale consist of the following as of December 31:
 

<TABLE>
<CAPTION>
                                                      1998
                                  ---------------------------------------------
                                                GROSS      GROSS
                                   AMORTIZED  UNREALIZED UNREALIZED
                                     COST       GAINS      LOSSES   FAIR VALUE
                                  ----------- ---------- ---------- -----------
   <S>                            <C>         <C>        <C>        <C>
   U.S. government obligations... $ 2,814,085  $22,335    $   (283) $ 2,836,137
   Municipal government obliga-
    tions........................   1,135,047    1,815          --    1,136,862
   Corporate obligations.........  38,764,104   17,923     (45,420)  38,736,607
                                  -----------  -------    --------  -----------
                                  $42,713,236  $42,073    $(45,703) $42,709,606
                                  ===========  =======    ========  ===========
<CAPTION>
                                                      1997
                                  ---------------------------------------------
                                                GROSS      GROSS
                                   AMORTIZED  UNREALIZED UNREALIZED
                                     COST       GAINS      LOSSES   FAIR VALUE
                                  ----------- ---------- ---------- -----------
   <S>                            <C>         <C>        <C>        <C>
   U.S. government obligations... $32,410,184  $ 6,274    $(23,100) $32,393,358
   Corporate obligations.........  29,191,849    2,863     (20,686)  29,174,026
                                  -----------  -------    --------  -----------
                                  $61,602,033  $ 9,137    $(43,786) $61,567,384
                                  ===========  =======    ========  ===========
</TABLE>

 
  As of December 31, 1998 and 1997, the securities available-for-sale had
contractual maturities of less than one year. Expected maturities will differ
from contractual maturities because issuers of the securities may have the
right to prepay obligations without prepayment penalties.
 
3.PROPERTY AND EQUIPMENT
 
  Property and equipment are composed of the following as of December 31:
 

<TABLE>
<CAPTION>
                                                            1998        1997
                                                         ----------- -----------
   <S>                                                   <C>         <C>
   Leasehold improvements............................... $ 4,877,241 $ 4,722,563
   Lab equipment........................................   5,630,646   4,303,332
   Furniture and office equipment.......................   6,009,787   4,690,447
                                                         ----------- -----------
                                                          16,517,674  13,716,342
   Less: accumulated depreciation and amortization......   9,691,777   7,811,242
                                                         ----------- -----------
                                                         $ 6,825,897 $ 5,905,100
                                                         =========== ===========
</TABLE>

 
  As of both December 31, 1998 and 1997, furniture and office equipment
included $232,585 of equipment acquired under capitalized leases. Accumulated
depreciation related to this equipment totaled $195,521 and $149,004 at
December 31, 1998 and 1997, respectively. These leases are secured by the
underlying assets.
 
4.CAPITAL STOCK
 
  In 1992, the Company completed a private placement of 2,225,139 shares of
common stock generating net proceeds of $35.1 million. In 1993, the Company
concluded a second equity financing through a private offering of common stock
and warrants generating net proceeds of $12.3 million.
 
  In 1994, the Company sold additional units of common stock and warrants
under terms equivalent to those of the second round of equity financing. The
Company received net proceeds of $702,000.
 
                                      51

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 
  In 1995, the Company concluded a third round of equity financing through a
private offering of Series A convertible preferred stock generating net
proceeds of $30.5 million. In 1996, the Company concluded two rounds of equity
financing through private offerings of Series A convertible preferred stock
generating net proceeds of $16.9 million.
 
  In 1996, the Company also completed a placement of Series B convertible
preferred stock to Johnson & Johnson Development Corporation generating net
proceeds of $5.0 million.
 
  In November 1996, the Board of Directors approved a shareholder rights plan
whereby a Right attaches to each share of common stock. Upon the occurrence of
certain acquisition related events, each Right entitles the holder of each
outstanding share of common stock to purchase one one-thousandth of a share of
Series C preferred stock at $175 per unit, subject to adjustment. Upon
exercise, each holder of a Right will have the right to receive value equal to
two times the exercise price of the Right. A total of 100,000 shares of Series
C preferred stock are reserved for issuance upon exercise of the Rights.
 
  On March 26, 1997 the Company completed an initial public offering (the
"IPO") of 3 million shares of its common stock at an offering price of $10.00
per share, resulting in net proceeds of $26.8 million. Concurrent with the
closing of the IPO, the Company sold 300,000 shares of common stock to Johnson
& Johnson at a price of $10.00 per share, resulting in net proceeds of $3.0
million.
 
  On October 27, 1997 the Company completed a follow-on public offering of 2.3
million shares of its common stock at an offering price of $16 per share,
resulting in net proceeds of $34.3 million.
 
 Common Stock Reserved
 
  A summary of common stock reserved for issuance is as follows as of December
31:
 

<TABLE>
<CAPTION>
                                                               1998      1997
                                                             --------- ---------
   <S>                                                       <C>       <C>
   Equity Incentive Plan.................................... 3,771,397 2,297,967
   Employee Stock Purchase Plan.............................   190,179   285,714
   Warrants.................................................   350,000       --
   Restricted Share Rights..................................   103,665       --
                                                             --------- ---------
                                                             4,415,241 2,583,681
                                                             ========= =========
</TABLE>

 
5.CONSULTING AND EMPLOYMENT AGREEMENTS
 
 Directors, Officers, and Employees
 
  The Company has an employment agreement with its President and Chief
Executive Officer. The agreement expires in 1999, and provides for an annual
base salary of approximately $433,000 as of January 1, 1999, and discretionary
incentive bonus awards.
 
  The Company's President and Chief Executive Officer has $84,766 outstanding
at December 31, 1998 under a loan made to him by the Company in 1993, which
accrues interest at 5.35%. The Company forgave and expensed $67,000 plus
accrued interest on each of December 17, 1998 and December 17, 1997. The
Company will forgive the remaining $66,000 plus accrued interest on December
17, 1999. The remaining balance is included in other current assets.
Forgiveness of amounts remaining due under the loan will be forfeited upon
certain termination-related circumstances and will be accelerated upon certain
events, including a change in
 
                                      52

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
ownership of the Company, or upon the Company's attaining a minimum public
market capitalization. The loan is secured by 5,714 shares of common stock.
 
  In 1996, the Company advanced a $35,000 non-interest bearing loan to its
Executive Vice President, Marketing and Business Development in connection
with his relocation. The Company forgave one-half of the loan in April 1997
and the remaining balance in April 1998.
 
  The Company has also entered into severance agreements with certain of its
officers having a term of one year.
 
  In December 1998, upon recommendation by the Compensation Committee of the
Board of Directors, the Company extended loans totaling $380,000 to six
executive officers on a full recourse basis, in lieu of payment of cash
bonuses for 1998. Each of the notes has a term of four years and bears
interest at approximately 5%. The full balance of principal and accumulated
interest is due at maturity. The executives used the funds to purchase shares
of the Company's common stock on the open market.
 
 Advisory Boards
 
  The Company has entered into consulting agreements with the members of its
Scientific and Clinical Advisory Boards ("Advisory Boards") providing for the
periodic issuance of common stock and options to purchase common stock, and
consulting fees. One agreement has an annual retainer of $10,000. The
remaining advisory board members are paid consulting fees on a per diem basis.
The consulting agreements with members of the Advisory Boards are cancelable
upon 30 days' notice.
 
  To date, the Company has also issued 138,087 options to members of its
Advisory Boards. In July 1998 the Board of Directors approved the repricing of
outstanding options. The repriced options are valued and expensed as they
become exercisable. The amount expensed in 1998 was $157,118.
 
 Consultants
 
  To date, the Company has also issued 233,004 options to other consultants
for various services. In July 1998 the Board of Directors approved the
repricing of outstanding options. The repriced options are valued and expensed
as they become exercisable. The amount expensed in 1998 was $265,805.
 
6.CONTRACTUAL ARRANGEMENTS AND COMMITMENTS
 
 Licensed Technology
 
  In March 1992, the Company entered into agreements with the Fred Hutchinson
Cancer Research Center ("FHCRC") under the terms of which the Company has
received worldwide licenses and options to technology, or technology claimed,
for five U.S. patent applications. The Company paid initial license fees
totaling $100,000 and issued 76,572 shares of common stock valued at $3,200 to
the FHCRC for such technology. The Company is obligated to pay royalties on
revenues resulting from future sales of products employing the technology and
on revenues received from sublicenses for the technology, with minimum annual
royalties of $50,000 prior to, and $100,000 after, the first commercial sale
of such products. The agreements are for a term equal to the later of 15 years
or the expiration of the last issued patent included within the licensed
technology, unless terminated earlier for certain specified events, including
the failure of the Company to take reasonable efforts to engage in research
and development with respect to the licensed technology.
 
 
                                      53

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 Facilities Lease
 
  The Company has executed noncancelable operating leases for office and
laboratory space that generally expire the first quarter of 2003, with two
five-year renewal options at the then-current market rates. The lessor
provided approximately $575,000 for leasehold improvements and rent
concessions, which is being amortized over the initial lease term. The Company
has also executed a noncancelable operating lease for additional office space
that expires in August, 2001, with one three-year renewal option at the then-
current market rate. The lessor provided approximately $63,000 for leasehold
improvements and rent concessions, which is being amortized over the initial
lease term. Rent expense amounted to $1,152,340, $1,144,290, and $995,866 for
the years ended December 31, 1998, 1997, and 1996, respectively. Future
minimum annual rental payments under the leases approximate the following for
the years ended December 31:
 

<TABLE>
   <S>                                                                <C>
   1999.............................................................. $1,407,143
   2000..............................................................  1,409,043
   2001..............................................................  1,327,676
   2002..............................................................  1,164,942
   2003..............................................................     97,079
                                                                      ----------
                                                                      $5,405,883
                                                                      ==========
</TABLE>

 
7.LONG-TERM OBLIGATIONS
 

<TABLE>
<CAPTION>
                                                            1998        1997
                                                         ----------- ----------
   <S>                                                   <C>         <C>
   Master financing agreements:
    Due December 31, 1998, monthly payments of $55,827,
     including interest at 14.7%........................ $       --  $  619,352
    Due December 31, 1998, monthly payments of $45,820,
     including interest at 17.6%........................         --     500,802
    Due August 1999, monthly payments of $20,523,
     including interest at 16.1%........................     154,718    358,019
    Due December 2001, monthly payments of $44,196,
     including interest at 12.5%........................   1,415,150  1,719,806
    Due September 2002, monthly payments of $59,811
     including interest at 12.4%........................   2,259,775        --
    Due December 2002, monthly payments of $18,290
     including interest at 12.4%........................     713,251        --
   Capital lease obligations............................         --      32,115
   Deferred rent........................................     525,411    568,397
                                                         ----------- ----------
                                                           5,068,305  3,798,491
   Less current portion.................................   1,180,702  1,759,387
                                                         ----------- ----------
                                                         $ 3,887,603 $2,039,104
                                                         =========== ==========
</TABLE>

 
  For each borrowing, the Company granted the lessor a security interest in
approximately the same net book value of specified fixed assets.
 
  Annual maturities of the master financing agreements for 1999 through 2002,
respectively, approximate $1,131,130, $1,105,039, $1,387,110 and $919,614.
 
                                      54

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 
8.STOCK OPTIONS AND WARRANTS
 
 Stock Options
 
  In 1994, shareholders approved the 1994 Equity Incentive Plan (the "1994
Plan") in replacement of the 1992 Stock Option Plan. The 1994 Plan provides
for (a) the grant of incentive stock options (with terms not to exceed ten
years), nonstatutory stock options and stock appreciation rights, (b) the
award of stock bonuses, (c) the sale of stock, and (d) any other equity-based
or equity-related awards which the Plan Administrator determines to be
consistent with the purpose of the 1994 Plan and the interests of the Company.
Option-vesting schedules are specified by the Plan Administrator. The 1994
Plan also provides for the automatic grant of nonstatutory options to non-
employee directors.
 
  In July 1998, the Board of Directors approved the exchange of all
outstanding options with exercise prices ranging from $3.03 to $16.06 per
share for options with an exercise price of $2.906 per share, the fair value
of the underlying common stock at that time. Accordingly, 1,612,934 shares
were exchanged for new options with 10-year terms commencing July 31, 1998.
All new options vest according to their original grant schedules but cannot be
exercised until August 1, 1999. These amounts have been included as granted
and canceled options in the summary activity table as shown below.

<TABLE>
<CAPTION>
                                                                        WEIGHTED
                                                                        AVERAGE
                                                                        EXERCISE
                                                              SHARES     PRICE
                                                              UNDER       PER
                                                              OPTION     SHARE
                                                            ----------  --------
   <S>                                                      <C>         <C>
   Balance January 1, 1996 (314,705 exercisable)...........    761,720   $11.81
     Granted...............................................    624,550    11.73
     Canceled..............................................    (89,350)   11.79
     Exercised.............................................     (1,975)   11.73
                                                            ----------
   Balance December 31, 1996 (566,925 exercisable).........  1,294,945    11.77
                                                            ----------
     Granted...............................................    575,874    13.90
     Canceled..............................................    (52,331)   11.78
     Exercised.............................................    (50,045)   11.15
                                                            ----------
   Balance December 31, 1997 (791,265 exercisable).........  1,768,443    12.48
                                                            ----------
     Granted...............................................  2,510,999     2.93
     Canceled.............................................. (1,762,045)   12.29
     Exercised.............................................     (8,570)    9.82
                                                            ----------
   Balance December 31, 1998 (57,477 exercisable)..........  2,508,827   $ 3.07
                                                            ----------
</TABLE>

 

<TABLE>
<CAPTION>
                                                                    EXERCISABLE OPTIONS
                                                                    OUTSTANDING (WITHOUT
                                       OPTIONS OUTSTANDING              RESTRICTION)
                              ------------------------------------- --------------------
                                                           WEIGHTED             WEIGHTED
                                NUMBER    WEIGHTED AVERAGE AVERAGE              AVERAGE
                              OUTSTANDING    REMAINING     EXERCISE   NUMBER    EXERCISE
   RANGE OF EXERCISE PRICES    12/31/98   CONTRACTUAL LIFE  PRICE   EXERCISABLE  PRICE
   ------------------------   ----------- ---------------- -------- ----------- --------
   <S>                        <C>         <C>              <C>      <C>         <C>
   $2.00-$2.45.............       13,615     9.67 Years     $ 2.13     5,715     $ 2.30
   $2.70-$3.22.............    2,442,174     9.46 Years     $ 2.88        --     $ 0.00
   $11.69-$16.06...........       53,038     6.17 Years     $12.17    51,762     $12.17
                               ---------                              ------
                               2,508,827     9.39 Years     $ 3.07    57,477     $11.20
                               =========                              ======
</TABLE>

 
 
                                      55

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
  The weighted average fair value of options granted during 1998, 1997, and
1996 was $1.85, $5.53 and $2.34, respectively. As of December 31, 1998,
1,262,570 shares of common stock were available for future grants.
 
  In 1996, the Company adopted the accounting provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"). SFAS 123 encourages, but does not require,
entities to adopt the fair value method of accounting for their stock-based
compensation plans. Under this method, compensation cost for stock-based
compensation plans is measured at the grant date based on the fair value of
the award and is recognized over the vesting period. Fair value is determined
using a Black-Scholes option pricing model that takes into account (1) the
stock price at the grant date, (2) the exercise price, (3) a four-year
expected life of the options, (4) no expected dividends, and (5) risk-free
interest rate of 5.5% in 1998 and rates ranging from 5.4% to 6.7%, and 5.4% to
7.8%, during 1997 and 1996, respectively, over the expected life of the
options. The Company used a .91 volatility rate in 1998 and a .48 volatility
rate in 1997. In accordance with the provisions of SFAS 123, the Company
applies Accounting Principles Board Opinion No. 25 and related interpretations
in accounting for its stock option plans and, accordingly, does not recognize
compensation cost for options granted with exercise prices equal to or greater
than fair value. Although not reflective of the effects of reported net loss
in future years until the rules of SFAS 123 are applied to all outstanding
non-vested options, if the Company elected to recognize compensation cost
based on the fair value of the options granted at grant date as prescribed by
SFAS 123, basic and diluted net loss and pro forma basic and diluted net loss
per share would have been adjusted (increased) as follows for the years ended
December 31:
 

<TABLE>
<CAPTION>
                                            YEAR ENDED DECEMBER 31,
                                     ----------------------------------------
                                         1998          1997          1996
                                     ------------  ------------  ------------
   <S>                               <C>           <C>           <C>
   Net loss:
     As reported.................... $(24,971,911) $(23,026,294) $(13,928,189)
     Pro forma as adjusted..........  (27,553,633)  (23,800,008)  (14,539,614)
   Basic and diluted net loss per
    share:
     As reported.................... $      (1.62) $      (1.98) $      (2.82)
     Pro forma as adjusted..........        (1.79)        (2.05)        (2.94)
   Pro forma basic and diluted net
    loss per share:
     As reported....................                      (1.81)        (1.69)
     Pro forma as adjusted..........                      (1.87)        (1.77)
</TABLE>

 
  In accordance with generally accepted accounting principles, the Company
considers all equity instruments issued to non-employees to be accounted for
as variable equity instruments. The value of the instrument is amortized to
expense over the vesting period with final valuation measured on the latter of
the vesting date or date on which they become exercisable. At December 31,
1998, options to acquire 371,091 shares of common stock are considered
variable options. During 1998, the Company recognized compensation related
expense of $422,923, with the unamortized amount of approximately $393,000 as
of December 31, 1998, to be amortized over the remaining vesting period (up to
20 months as of December 31, 1998).
 
  As discussed in Note 11, the Company has also issued 103,665 restricted
share rights to non-employees for which ownership by the non-employees vests
upon the achievement of a future event. Compensation related to these rights
will be measured as the event becomes probable with final valuation on the
vesting date.
 
 Warrants
 
  During 1995, the Company offered to exchange shares of common stock for
outstanding warrants to purchase common stock, issuing 104,569 shares of
common stock in exchange for warrants to purchase 443,353
 
                                      56

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
shares of common stock. During 1996, the Company concluded its offer to
exchange shares of common stock for outstanding warrants of common stock,
issuing 151 shares of common stock in exchange for warrants to purchase 377
shares of common stock. All such warrants had expired as of December 31, 1997.
 
  In 1998 the Company issued warrants to purchase 350,000 shares of common
stock of the Company in connection with a license agreement. The warrants
expire November 12, 2008 and become exercisable only upon the occurrence of
certain exercise events, including a license or sale by the Company of any
licensed patent rights subject to the agreement to a third party or a change
of control of the Company, as defined. The purchase price per share is the
lesser of $20.00 or the average closing stock price for the 30 consecutive
trading days ending on the date of the exercise event. Compensation related to
these warrants will be measured as any of the exercise events become probable
with the final valuation on the exercisable date.
 
 Employee Stock Purchase Plan
 
  The Company maintains an Employee Stock Purchase Plan (the "Purchase Plan").
285,714 shares of the Company's common stock have been reserved for purchase
under the Purchase Plan, under which eligible employees may purchase a limited
number of shares of the Company's common stock at 85% of the lower of the
subscription date fair market value and the purchase date fair market value.
There are two six-month offerings per year. Under the Purchase Plan, the
Company issued 95,535 shares to employees in 1998. There is a balance of
190,179 shares reserved for future purchases at December 31, 1998.
 
9.NET LOSS PER SHARE
 
  Basic and diluted loss per share is calculated using the average number of
common shares outstanding. Pro forma basic and diluted loss per share is
computed on the basis of the average number of common shares outstanding plus
the effect of convertible preferred shares using the if-converted method as
follows:
 

<TABLE>
<CAPTION>
                                             YEAR ENDED DECEMBER 31,
                                      ----------------------------------------
                                          1998          1997          1996
                                      ------------  ------------  ------------
   <S>                                <C>           <C>           <C>
   Net loss (A)...................... $(24,971,911) $(23,026,294) $(13,928,189)
                                      ============  ============  ============
   Weighted average outstanding:
     Common stock (B)................   15,409,848    11,634,032     4,939,388
     Convertible preferred stock.....          --      1,101,183     3,288,500
                                      ------------  ------------  ------------
   Pro forma total weighted average
    outstanding (C)..................   15,409,848    12,735,215     8,227,888
                                      ============  ============  ============
   Loss per share:
     Basic and diluted (A/B)......... $      (1.62) $      (1.98) $      (2.82)
                                      ============  ============  ============
     Pro forma basic and diluted
      (A/C)..........................               $      (1.81) $      (1.69)
                                                    ============  ============
</TABLE>

 
10.INCOME TAXES
 
  As of December 31, 1998, the Company had net operating tax loss
carryforwards of approximately $116.6 million and research and development
credit carryforwards of approximately $4.3 million. The carryforwards begin to
expire in the year 2007. Due to prior rounds of equity financing (see Note 4)
and the Company's initial public offering of common stock in March 1997, the
Company has incurred "ownership changes" pursuant to applicable regulations in
effect under the Internal Revenue Code of 1986, as amended. Accordingly, the
Company's use of losses incurred through the date of these ownership changes
will be limited to approximately
 
                                      57

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
$5.6 million per year during the carryforward period. To the extent that any
single-year loss is not utilized to the full amount of the limitation, such
unused loss is carried over to subsequent years until the earlier of its
utilization or the expiration of the relevant carryforward period.
 
  Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The Company has
recognized a valuation allowance equal to the deferred tax assets due to the
uncertainty of realizing the benefits of the assets. The Company's valuation
allowance increased $9,905,000, $8,772,000 and $4,785,000 during 1998, 1997
and 1996, respectively. Significant components of the Company's deferred tax
liabilities and assets as of December 31 are as follows:
 

<TABLE>
<CAPTION>
                                                         1998         1997
                                                      -----------  -----------
   <S>                                                <C>          <C>
   Deferred tax assets:
     Net operating loss carryforwards................ $39,646,000  $31,538,000
     Research and development tax credit
      carryforwards..................................   4,248,000    2,783,000
     Accruals on financial statements in excess of
      tax returns....................................     573,000      458,000
     Accruals on tax returns in excess of financial
      statements.....................................     (56,000)      (5,000)
     Charitable contributions carryforward...........      42,000       33,000
     Depreciation in financial statements in excess
      of tax.........................................     684,000      425,000
                                                      -----------  -----------
   Net deferred tax assets........................... $45,137,000  $35,232,000
                                                      ===========  ===========
   Valuation allowance for deferred tax assets....... $45,137,000  $35,232,000
                                                      ===========  ===========
</TABLE>

 
11.SIGNIFICANT AGREEMENTS
 
  BioChem Therapeutic Inc.: On March 7, 1995, the Company and BioChem
Therapeutic Inc. ("BioChem"), a wholly owned subsidiary of BioChem Pharma,
Inc., signed collaboration and supply agreements (the "BioChem Collaboration
Agreement" and the "BioChem Supply Agreement," respectively). The BioChem
Collaboration Agreement grants an exclusive license to enable BioChem to seek
Canadian regulatory approval for, and to use and sell, the Company's LSF
and/or Apra (CT-2584) compounds (and compositions thereof) (collectively, the
"cti Compounds") in Canada. Under the BioChem Collaboration Agreement, the
Company is entitled to receive payments upon the satisfaction of specified
product development milestones and royalties on all sales, if any. The BioChem
Collaboration Agreement terminates upon the expiration of the last to expire
patents covering the cti Compounds or, absent a patent, upon the tenth
anniversary of the first commercial sale of such cti Compound. The Company
recorded milestone payments of $100,000, $250,000 and $100,000 under the
BioChem Collaboration Agreement in 1998, 1996 and 1995, respectively. Under
the BioChem Supply Agreement, the Company is to supply BioChem the cti
Compounds at a percentage mark-up above cost. The BioChem Supply Agreement
terminates 20 years from the date of termination of the BioChem Collaboration
Agreement with respect to each of the cti Compounds.
 
  Schering AG: In February 1996, the Company entered into an agreement with
Schering AG ("Schering") pursuant to which, among other things, the Company
and Schering would collaborate in the financing, research, development and
commercialization of LSF and Apra on the terms and conditions specified
therein. Upon execution of the agreement, Schering paid the Company a $3.0
million nonrefundable signing fee. The remainder of the agreement was
contingent upon Schering finding the clinical trial results and related data
from the Company's Phase II bone marrow transplant ("BMT") trial acceptable
within thirty days after its receipt. The Company furnished Schering with this
data in late February 1996. On April 2, 1996, after a mutual extension of the
thirty-day review period, Schering informed the Company that it did not wish
to activate the agreement based
 
                                      58

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
on, among other factors, (i) its view that one of the endpoints of the Phase
II BMT trial, white blood cell recovery, was not met and (ii) its view that
the trial data regarding mortality rate and incidence of serious and fatal
infection were difficult to interpret and that, as a result, Schering could
not determine that the data were meaningful.
 
  Johnson & Johnson: In November 1996, the Company entered into a
collaboration and license agreement with Ortho Biotech Inc. and the R.W.
Johnson Pharmaceutical Research Institute (a division of Ortho Pharmaceutical
Corporation) each of which are wholly owned subsidiaries of Johnson & Johnson
(collectively, "Johnson & Johnson") for the joint development and
commercialization of LSF, to prevent or reduce the toxic side effects among
cancer patients receiving high-dose radiation and/or chemotherapy followed by
BMT. Upon execution of the collaboration agreement, Johnson & Johnson paid the
Company a $5.0 million nonrefundable license fee. In addition, Johnson &
Johnson Development Corporation ("JJDC"), a wholly owned subsidiary of Johnson
& Johnson, purchased 14,925.373 shares of the Company's newly issued Series B
convertible preferred stock at $335 per share for an aggregate purchase price
of $5.0 million. In September 1997, Johnson & Johnson made a $1.0 million
payment to the Company and exercised an option under the Collaboration
Agreement to expand its participation in development of LSF to include the
treatment of patients with acute myeloid leukemia ("AML") undergoing high-dose
chemotherapy. Under the terms of the Collaboration Agreement, Johnson &
Johnson funded $10.8 million of the Company's development costs for 1997. In
July 1998, after reviewing the results of the Company's Phase III clinical
trial for LSF among patients receiving BMT from related donors, in which the
primary endpoints were not met, Johnson & Johnson reached an agreement in
principle with the Company to revise the Collaboration Agreement. On November
16, 1998, the Company and Johnson & Johnson formally amended the Collaboration
Agreement. Under the terms of the amended Collaboration Agreement, Johnson &
Johnson agreed to pay the Company $13.1 million for development cost
reimbursements for BMT and AML for the year ending December 31, 1998. After
reviewing both the interim data from the Company's pivotal Phase II/III trial
for LSF in patients with acute lung injury and acute respiratory distress
syndrome and the results of the Company's Phase III trial for LSF following
induction chemotherapy for AML, Johnson & Johnson may elect to resume
responsibility for the development and commercialization of LSF subject to
certain additional payments upon resumption of its obligations. If Johnson &
Johnson does not elect to resume development activities, then the Company will
be free to license LSF to other third parties. As of December 31, 1998, the
Company had recorded approximately $40.8 million in equity payments, license
and milestone fees, and development cost reimbursements with Johnson &
Johnson.
 
 Supply Agreement
 
  ChiRex, Ltd.: In January 1997, the Company entered into a supply agreement
with ChiRex, Ltd. ("ChiRex"), a British manufacturer of pharmaceutical
intermediates and active ingredients, for the manufacture and supply of LSF
and corresponding intermediate compounds. Under the terms of the agreement,
ChiRex will manufacture and supply LSF bulk drug product and a key
intermediate compound in sufficient quantities to meet the Company's
requirements for ongoing and future clinical trials and commercial
requirements during launch and commercialization. The agreement will expire on
December 31, 2001, but may be terminated by the Company upon 12 months'
written notice prior to such date. In October 1998, the Company entered into
an additional agreement with ChiRex for additional manufacturing services for
pre-validation lots of LSF.
 
 Other Agreements
 
  Lipomed: In October 1995, the Company purchased all of the intellectual
property of Lipomed Corporation ("Lipomed") for $1,155,750 consisting of
98,574 shares of common stock. The agreement also provides for a possible
future payment to Lipomed of $100,000 upon the occurrence of certain events.
 
                                      59

<PAGE>
 
                            CELL THERAPEUTICS, INC.
                         (A DEVELOPMENT STAGE COMPANY)
 
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
 
  Cell City, LLC Joint Venture: In January 1998, the Company entered into an
agreement with City of Hope National Medical Center ("COH") to form a joint
venture ("Cell City, LLC") to discover and develop a new class of drugs to
treat diabetes and its complications. Under the terms of the agreement, the
Company contributed $100,000 to be paid as a license fee and COH contributed
the intellectual property and technology valued by the parties at $200,000.
Cell City, LLC then made a capital distribution of $100,000 to COH.
Additionally, the Company will fund the first two years of the venture's
operations up to $400,000 in the form of additional capital contributions, of
which $200,000 was made in 1998. Cell City, LLC has future minimum royalty
obligations to COH. The Company holds a 70% interest in the joint venture and
COH holds 30%. Under the terms of the agreement, the Company may be required
to make additional capital contributions in the future. The term of the
agreement is 15 years unless dissolved earlier as defined.
 
  During 1998, the Company has recorded total expenses of approximately
$520,000 related to Cell City, LLC activities.
 
  The agreement provides the Company with a buy-out right whereby the Company
can purchase all interests not owned by the Company at fair market value upon
certain defined conversion events occurring after January 5, 2000. The
agreement also provides COH the right to sell its ownership interest to the
Company, at fair market value, if certain conversion events occur and if the
Company does not exercise its buy-out right. The Company would issue common
stock to acquire such interests.
 
  PG-TXL Company, L.P.: On June 30, 1998, the Company entered into an
agreement with PG-TXL Company, L.P. granting the Company an exclusive
worldwide license for the rights to polyglutamic acid paclitaxel ("PG-TXL"), a
water-soluble form of the cancer drug Taxol(R), and to all potential uses of
PG-TXL Company, L.P.'s polymer technology. Under the terms of the agreement,
the Company acquired the rights to fund the research, development,
manufacture, marketing and sale of anti-cancer drugs developed using this
polymer technology. The Company will be obligated to make milestone payments
upon the attainment of significant achievements, as defined in the agreement.
The Company also granted warrants to purchase shares of the Company's common
stock to PG-TXL Company, L.P. The Company is obligated to meet certain
development requirements by June 30, 2002 to maintain exclusive license
rights.
 
  The Company also entered into Signing Bonus and Restricted Stock and Share
Grant Agreements and Consulting Agreements with certain individuals affiliated
with PG-TXL Company, L.P. (the "PG-TXL Affiliates"). Under the terms of these
agreements, the Company has issued 51,835 restricted shares of common stock.
These shares will vest upon the issuance of a patent. The Company also granted
103,665 restricted share rights to the PG-TXL Affiliates, which also vest upon
certain performance conditions. The Company will begin to record compensation
expense at the time the vesting of the restricted shares and share rights
become probable. The Company will pay approximately $300,000 in consulting
fees to the PG-TXL Affiliates over three years. The restricted shares are held
in escrow at the Company.
 
  SynChem Research, Inc.: On December 11, 1998, the Company entered into an
exclusive option agreement with SynChem Research, Inc. ("SynChem") to obtain
an exclusive worldwide license (the "SynChem License") to a class of synthetic
small molecule compounds which are inhibitors of tumor angiogenesis. The
Company's option to acquire the SynChem License shall be exercisable at the
end of a six-month evaluation period upon the payment of an initial license
fee. Under the terms of the option agreement, the SynChem License will provide
that the Company will fund initial research studies to evaluate the potential
of the compounds and SynChem will provide the compounds.
 
                                      60

<PAGE>
 

I
TEM 9. CHANGES IN DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.
 
  None.
 

                                   PART III
 
  The information required by Part III, Items 10, 11, 12, and 13, is included
in the Company's Proxy Statement relating to the Company's annual meeting of
shareholders, and is incorporated herein by reference. Such Proxy Statement
will be filed with the Securities and Exchange Commission not later than 120
days after the close of the Company's fiscal year ended, December 31, 1998.
 

                                    PART IV
 

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
 
  (a)Financial Statements and Financial Statement Schedules
 
    (i) Financial Statements
 

      Report of Ernst & Young LLP, Independent Auditors
      Consolidated Balance Sheets
      Consolidated Statements of Operations
      Consolidated Statements of Shareholders' Equity
      Consolidated Statements of Cash Flows

      Notes to Consolidated Financial Statements
 
    (ii) Financial Statement Schedules
 
      None.
 
      All schedules have been omitted since they are either not required,
      are not applicable, or the required information is shown in the
      financial statements or related notes.
 
  (b)Reports on Form 8-K.
 
    None
 
  (c)Exhibits
 

<TABLE>
<CAPTION>
 EXHIBIT
 NUMBER                               DESCRIPTION
 -------                              -----------
 <C>     <S>
 3.1(1)  Registrant's Restated Articles of Incorporation.
 3.2(2)  Registrant's Articles of Amendment to Restated Articles of
         Incorporation Establishing a Series of Preferred Stock (Series C
         Preferred Stock).
 3.3(2)  Registrant's Articles of Amendment to Restated Articles of
         Incorporation of Cell Therapeutics, Inc. Effecting a Reverse Stock
         Split.
 3.4(3)  Registrant's Articles of Amendment to Restated Articles of
         Incorporation of Undesignating Series A and Series B Preferred Stock.
 3.5(4)  Registrant's Restated Bylaws.
 4.1(5)  Form of Rights Agreement dated as of November 11, 1996, between the
         Registrant and Harris Trust Company of California, which includes the
         Form of Rights Certificate as Exhibit A, the Summary of Rights to
         Purchase Preferred Stock as Exhibit B and the Form of Certificate of
         Designation of the Series C Preferred Stock as Exhibit C.
</TABLE>

 
                                      61

<PAGE>
 

<TABLE>
<CAPTION>
 EXHIBIT
 NUMBER                                 DESCRIPTION
 -------                                -----------
 <C>       <S>
 10.1(6)   Lease Agreement between David A. Sabey and Sandra L. Sabey and the
           Registrant, dated March 27, 1992, as amended March 31, 1993 and
           October 13, 1993.

 10.2(2)   Third Amendment to Lease Agreement between David A. Sabey and Sandra
           L. Sabey and the Registrant, dated as of September 10, 1996.
 10.3(1)   Assignment of Lease between Manlove Travel and the Registrant, dated
           April 23, 1993.
 10.4(2)   Letter Agreement between David A. Sabey, Sandra L. Sabey and the
           Registrant, dated as of September 6, 1996, amending the Assignment
           of Lease.
 10.5(2)   Employment Agreement between the Registrant and James A. Bianco,
           dated as of December 17, 1996.
 10.6      Lease Agreement between Selig Real Estate Holdings Six and the
           Registrant, dated as of May 6, 1998.
 10.7(2)   Form of Strategic Management Team Severance Agreement (executed
           between the Registrant and each of the following persons: Jack W.
           Singer, Louis A. Bianco, Maruice J. Schwarz and Roger A. Lewis).
 10.8(1)   Promissory Note between James A. Bianco, M.D. and the Registrant,
           dated December 23, 1993.
 10.9(1)   Stock Pledge Agreement between James A. Bianco, M.D. and the
           Registrant, dated December 23, 1993.
 10.10     Form of Promissory Note (executed on December 12, 1998, between the
           Registrant and each of the following persons: James A. Bianco, Jack
           W. Singer, Louis A. Bianco, Maurice J. Schwarz and Robert A. Lewis).
 10.11(1)  1994 Equity Incentive Plan, as amended.
 10.12(1)  1992 Stock Option Plan, as amended.
 10.13(1)  1996 Employee Stock Purchase Plan.
 10.14(4)  Letter Agreement between the Company and Kummell Investments
           Limited, dated September 17, 1996.
 10.15+(6) Collaboration Agreement by and between BioChem Therapeutic Inc. and
           the Registrant, dated March 7, 1995, as amended November 30, 1995
           and December 6, 1995.
 10.16+(6) Supply Agreement by and between BioChem Therapeutic Inc. and the
           Registrant, dated March 7, 1995.
 10.17+(2) Supply Agreement by and between ChiRex, Ltd. and the Registrant,
           dated January 21, 1997.
 10.18+(7) Pre-Validation Agreement dated as of October 16, 1998, between the
           Registrant and ChiRex, Ltd.
 10.19+(2) Collaboration and License Agreement, dated as of November 8, 1996,
           by and between the Registrant and Ortho Biotech Inc. and The R.W.
           Johnson Pharmaceutical Research Institute, a division of Ortho
           Pharmaceutical Corporation.
 10.20+    Amendment No. 1, dated November 16, 1998, to the Collaboration and
           License Agreement dated as of November 8, 1996, by and between the
           Registrant and Ortho Biotech Inc. and The R.W. Johnson
           Pharmaceutical Corporation.
 10.21(2)  Stock Purchase Agreement, dated as of November 8, 1996, by and
           between the Registrant and Johnson & Johnson Development
           Corporation.
 10.22(8)  Loan and Security Agreement, dated as of June 28, 1996, between the
           Registrant and Financing for Science International, Inc.
 10.23(1)  Asset Purchase Agreement, dated of October 17, 1995, between Lipomed
           Corporation, its Stockholders and the Registrant, as amended.
 10.24(6)  Form of Scientific Advisory Board Consulting Agreement.
 10.25(6)  Form of Clinical Advisory Board Consulting Agreement.
 10.26(9)  Master Loan and Security Agreement between the Company and the
           Transamerica Business Credit Corporation, dated as of December 9,
           1997.
 10.27+    License Agreement dated as of November 13, 1998, by and between PG-
           TXL Company, L.P. and the Registrant.
 22.1      Subsidiaries of the Registrant.
</TABLE>

 
                                       62

<PAGE>
 

<TABLE>
<CAPTION>
 EXHIBIT
 NUMBER                       DESCRIPTION
 -------                      -----------
 <C>     <S>
 23.1    Consent of Ernst & Young, LLP, independent auditors.
 27.1    Financial Data Schedule.
</TABLE>

- --------
+  Portions of these exhibits have been omitted pursuant to a request for
   confidential treatment.
(1) Incorporated by reference to exhibits to the Registrant's Registration
    Statement on Form S-1 (No. 33-4154).
(2) Incorporated by reference to exhibits to the Registrant's Registration
    Statement on Form S-1 (No. 333-20855).
(3) Incorporated by reference to exhibits to the Registrant's Registration
    Statement on Form S-3 (No. 333-36603).
(4) Incorporated by reference to exhibits to the Registrant's Quarterly Report
    on Form 10-Q for the quarter ended September 30, 1996.
(5) Incorporated by reference to exhibits to the Registrant's Registration
    Statement on Form 8-A.
(6) Incorporated by reference to exhibits to the Registrant's Registration
    Statement on Form 10.
(7) Incorporated by reference to exhibits to the Registrant's Quarterly Report
    on Form 10-Q for the quarter ended September 30, 1998.
(8) Incorporated by reference to exhibits to the Registrant's Quarterly Report
    on Form 10-Q for the quarter ended June 30, 1996.
(9) Incorporated by reference to exhibits to the Registrant's Annual Report on
    Form 10-K for the year ended December 31, 1997.
 
                                      63

<PAGE>
 

 
                                 SIGNATURES
 
  Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of
Seattle, State of Washington, on March 31, 1999.
 
                                          Cell Therapeutics, Inc.
 
                                          By _______/s/ James A. Bianc_________o
                                           JAMES A. BIANCO, M.D. PRESIDENT AND
                                                 CHIEF EXECUTIVE OFFICER
 
  Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed by the following persons in the capacities and on the
dates indicated.
 
        SIGNATURES                       TITLE                    DATE
 
_____/s/ Max E. Lin_______k    Chairman of the Board and     March 31, 1999
    MAX E. LINK, PH.D.         Director
 
___/s/ James A. Bianc_____o    President, Chief              March 31, 1999
  JAMES A. BIANCO, M.D.        Executive Officer and
                               Director (Principal
                               Executive Officer)
 
___/s/ Louis A. Bianc_____o    Executive Vice President,     March 31, 1999
     LOUIS A. BIANCO           Finance and
                               Administration (Principal
                               Financial Officer and
                               Principal Accounting
                               Officer)
 
____/s/ Jack W. Singe_____r    Director                      March 31, 1999
   JACK W. SINGER, M.D.
 
____/s/ Jack L. Bowma_____n    Director                      March 31, 1999
      JACK L. BOWMAN
 
_____/s/ Jeremy L. Curnock     Director                      March 31, 1999
Coo_______________________k
  JEREMY L. CURNOCK COOK
 
__/s/ Wilfred E. Jaege____r    Director                      March 31, 1999
 WILFRED E. JAEGER, M.D.
 
__/s/ Terrence M. Morri___s    Director                      March 31, 1999
    TERRENCE M. MORRIS
 
/s/ Mary O'Neil Mundinge__r    Director                      March 31, 1999
  MARY O'NEIL MUNDINGER,
          D.P.H.
 
_/s/ Phillip M. Nudelma___n    Director                      March 31, 1999
   PHILLIP M. NUDELMAN,
          PH.D.
 
                                      64





<PAGE>
 
                                                                  EXHIBIT 10.6

                           ELLIOTT BAY OFFICE PARK
                                OFFICE LEASE



          THIS LEASE, made the       day of                       , 1998, by and
                               -----        ----------------------              
between SELIG REAL ESTATE HOLDINGS SIX, a Washington general partnership, whose
address is 1000 Second Avenue, Suite 1800, Seattle, Washington, 98104-1046,
hereinafter referred to as "Lessor" and Cell Therapeutics Inc., a Washington
Corporation, whose address is 201 Elliott Avenue West, Suite 400, hereinafter
referred to as "Lessee".

          1.   DESCRIPTION,  Lessor in consideration of the agreements contained
               -----------                                                      
in this lease, does hereby lease to Lessee, upon the terms and conditions
hereinafter set forth, that certain space consisting of the agreed upon square
footage of approximately 11,955 rentable square feet (11,149 usable square
feet), calculated according to the Building Owners and Managers Association
International ("BOMA") standards, the exact square footage of which shall be
determined by final drawings (hereinafter referred to as "Premises") situated on
the 5th floor level of the Elliott Bay Office Park, 300 Elliott Avenue West,
City of Seattle, State of Washington 98119, the legal description of which is:



          Parcel A:  All of Block 9, D.T. Denny's Waterfront Addition to the
          --------                                                          
          City of Seattle, according to the plat recorded in Volume
 2 of Plats,
          Page 61, in King County, Washington.

          Parcel B:  Block 161, Seattle Tidelands.
          --------                                



          2.   TERM,  The term of this lease shall be for a period of 36 months,
               ----                                                             
commencing sixty (60) days after the space is delivered to Lessee by Lessor or
upon the issuance of a certificate of occupancy, whichever occurs first, and
ending 36 months thereafter, provided however, if Lessor has not delivered the
space to Lessee by July 1, 1998, Lessee shall have the right to immediately
terminate this lease and any advance payments made to Lessor shall be refunded.

          3.   RENT,  Lessee covenants and agrees to pay Lessor rent each month
               ----                                                            
in advance on the first day of each calendar month.  Rent shall be computed at
the annual base rental rate of $19.50 per rentable square foot.  Rent for any
fractional calendar month, at the beginning or end of the term, shall be the pro
rated portion of the rent computed on an annual basis.

          4.   CONSIDERATION,  As consideration for the execution of this lease,
               -------------                                                    
Lessee has this date paid to Lessor a security deposit in the sum of $19,500.00,
receipt of which is hereby acknowledged.  In the event Lessee fully complies
with all the terms and conditions of this lease, but not otherwise, an amount
equal to such sum shall be credited on the last month's rental on the term of
this lease.  Any portion of the sum remaining as of the expiration or
termination of this lease shall be immediately paid to Lessee.

          5.   USES,  Lessee agrees that Lessee will use and occupy said
               ----                                                     
Premises for general office and related purposes and for no other purposes.

          6.   RULES AND REGULATIONS,  Lessee and their agents, employees,
               ---------------------                                      
servants or those claiming under Lessee will at all times observe, perform and
abide by all of the Rules and Regulations printed on this instrument, or which
may be hereafter promulgated by Lessor, all of which it is covenanted and agreed
by the parties hereto shall be and are hereby made a part of this lease,
provided however, that any amendments thereto will be reasonable and applied on
a non-discriminatory basis.

<PAGE>
 
          7.   CARE AND SURRENDER OF PREMISES,  Lessee shall take good care of
               ------------------------------                                 
the Premises and shall promptly make all necessary repairs except those required
herein to be made by Lessor.  Lessor agrees to make all necessary structural
repairs to the building and the Premises, unless such repairs are necessitated
by acts or omissions of Lessee.  At the expiration or sooner termination of this
lease, Lessee, without notice, will immediately and peacefully quit and
surrender the Premises in good order, condition and repair (damage by reasonable
wear, the elements, or fire excepted).  Lessee shall be responsible for removal
of all of Lessee's property from the Premises, including, but not limited to,
the removal of Lessee's telephone equipment and signage.  Lessee shall be
responsible for repairing any damage to the Premises caused by such removal.  If
Lessee fails to remove and restore the Premises at lease expiration, then Lessor
shall have the right to remove said property and restore the Premises and Lessee
shall be responsible for all reasonable costs associated therewith.  Lessee
shall also be responsible for those reasonable costs incurred by Lessor for
removing debris Lessee may discard in the process of preparing to vacate the
Premises and for a final cleaning of the Premises, including, but not limited
to, the cleaning, or replacement of carpets if damage is not caused by
reasonable wear, and removal and disposal of Lessee's personal property
remaining in the Premises.

          8.   ALTERATIONS,  Lessee shall not make any alterations or
               -----------                                           
improvements in, or additions to said Premises without first obtaining the
written consent of Lessor, whose consent shall not be unreasonably withheld,
conditioned or delayed.  Lessor shall respond to any such notice by Lessee
within fifteen (15) days.  The failure of Lessor to respond within such time
shall be acceptance thereof.  Except as provided in Paragraphs 37 and 38 herein,
all such alterations, additions and improvements shall be at the sole cost and
expense of Lessee and shall become the property of Lessor and shall remain in
and be surrendered with the Premises as a part thereof at the termination of
this lease, without disturbance, molestation or injury.

          9.   RESTRICTIONS,  Lessee will not use or permit to be used in said
               ------------                                                   
Premises anything that will increase the rate of insurance on said building or
any part thereof, nor anything that may be dangerous to life or limb; nor in any
manner deface or injure said building or any part thereof; nor overload any
floor or part thereof; nor permit any objectionable noise or odor to escape or
to be emitted from said Premises, or do anything or permit anything to be done
upon said Premises in any way tending to create a nuisance or to disturb any
other tenant or occupant of any part of said building.  Lessee, at Lessee's
expense, will comply with all health, fire and police regulations respecting
Lessee's use of said Premises.  The Premises shall not be used for lodging or
sleeping, and no animals or birds will be allowed in the building.

          10.  WEIGHT RESTRICTIONS,  Safes, furniture or bulky articles may be
               -------------------                                            
moved in or out of said Premises only at such hours and in such manner as will
least inconvenience other tenants, which hours and manner shall be at the
reasonable discretion of Lessor.  No safe or other article of over 2,000 pounds
shall be moved into said Premises without the consent of Lessor, whose consent
shall not be unreasonably withheld, and Lessor shall have the right to locate
the position of any article of weight in said Premises if Lessor so desires.

          11.  SIGN RESTRICTION,  No sign, picture, advertisement or notice
               ----------------                                            
shall be displayed, inscribed, painted or affixed to any of the glass or
woodwork of the building without the prior approval of Lessor.  Lessor shall, at
Lessor's expense, place Lessee's name on the lobby and 5th floor directory.
Signage for Lessee's office suite shall be at Lessee's expense.

          12.  LOCKS,  No additional locks shall be placed upon any doors of the
               -----                                                            
Premises.  Keys will be furnished to each door lock.  At the termination of the
lease, Lessee shall surrender all keys to the Premises whether paid for or not.

          13.  KEY,  Lessor, his janitor, engineer or other agents may retain a
               ---                                                             
pass key to said Premises to enable him to examine the Premises from time to
time with reference to any emergency or to the general maintenance of said
Premises.

                                      -2-

<PAGE>
 
          14.  TELEPHONE SERVICE,  If Lessee desires telephonic or any other
               -----------------                                            
electric connection, Lessor will direct the electricians as to where and how the
wires are to be introduced, and without such directions no boring or cutting for
wires in installation thereof will be permitted.

          15.  SERVICES,  Lessor shall maintain Premises and the public and
               --------                                                    
common areas of building, such as lobbies, stairs, corridor and restrooms, in
reasonably good order and condition except for damage occasioned by the act of
Lessee.

          Lessor shall furnish Premises with electricity for lighting and
operation of low power usage office machines, heat, normal office air-
conditioning, and elevator services, during the ordinary business hours of the
building.  Air-conditioning units and electricity therefore for special air-
conditioning requirements, such as for computer centers, shall be at Lessee's
expense.  Lessor shall also provide lighting replacement for Lessor furnished
lighting, toilet room supplies, window washing with reasonable frequency, and
customary janitor service.

          Lessor shall not be liable to Lessee for any loss or damage caused by
or resulting from any variation, interruption or any failure of said services
due to any cause whatsoever.  No temporary interruption or failure of such
services incident to the making of repairs, alterations, or improvements, or due
to accident or strike or conditions or events not under Lessor's control shall
be deemed as an eviction of Lessee or relieve Lessee from any of Lessee's
obligations hereunder, provided however, that Lessee shall be entitled to a rent
abatement after an interruption of service continues for 72 consecutive hours.

          In the event of any lack of attention on the part of Lessor and any
dissatisfaction with the service of the building, or any unreasonable annoyance
of any kind, Lessee is requested to make complaints at Lessor's building office
and not to Lessor's employees or agents seen within the building.  Lessee is
further requested to remember that Lessor is as anxious as Lessee that a high
grade service be maintained, and that the Premises be kept in a state to enable
Lessee to transact business with the greatest possible ease and comfort.  The
rules and regulations are not made to unnecessarily restrict Lessee, but to
enable Lessor to operate the building to the best advantage of both parties
hereto.  To this end Lessor shall have the right to waive from time to time such
part or parts of these rules and regulations as in his judgment may not be
necessary for the proper maintenance or operation of the building or consistent
with good service, and may from time to time make such further reasonable rules
and regulations as in his judgment may be needed for the safety, care and
cleanliness of the Premises and the building and for the preservation of order
therein.

          16.  SOLICITORS,  Lessor will make an effort to keep solicitors out of
               ----------                                                       
the building, and Lessee will not oppose Lessor in his attempt to accomplish
this end.

          17.  FLOOR PLAN,  The floor plan and specifications for Lessee's
               ----------                                                 
occupancy will be attached hereto and marked Exhibit "A" which shall be approved
by both Lessor and Lessee, both of whose approval shall not be unreasonably
withheld or conditioned.

          18.  ASSIGNMENT,  Lessee will not assign this lease, without Lessor's
               ----------                                                      
consent, or any interest hereunder, and this lease, or any interest hereunder,
shall not be assigned by operation of law.  Lessee will not sublet said Premises
or any part thereof and will not permit the use of said Premises by others other
than Lessee and the agents of Lessee without first obtaining the written consent
of Lessor, whose consent shall not be unreasonably withheld or conditioned.  In
the event such written consent shall be given, no other or subsequent assignment
or subletting shall be made without the previous written consent of Lessor,
whose consent shall not be unreasonably withheld or conditioned.  Lessor's
failure to respond within fifteen (15) days to Lessee's request to assign or
sublease the Premises shall constitute Lessor's acceptance thereof.  In the
event Lessee desires to assign or sublet said Premises or any part thereof,
Lessor shall have the first right to re-capture that portion of the Premises
which Lessee intends to sublease.  Notwithstanding the above, Lessee may assign
this lease or sublease the Premises to affiliates or subsidiaries or related
entities that result from a merger without Lessor's consent.

                                      -3-

<PAGE>
 
          19.  OPERATING SERVICES AND REAL ESTATE TAXES,  The annual base rental
               ----------------------------------------                         
rate per rentable square foot in Paragraph 3 includes Lessee's proportionate
share of Operating Services and Real Estate Taxes for the first twelve months of
the lease term, "Base Year Costs".  Only actual increases from these Base Year
Costs, if any, will be passed on to Lessee on a proportionate basis.

                                 DEFINITIONS

Base Year
- ---------

For computing the Base Year Costs, the base year shall be the calendar year
stated herein or if a specific calendar year is not stated herein then the base
year shall be the calendar year in which the lease term commences.  The base
year shall be the calendar year 1998.

Comparison Year
- ---------------

The Comparison Year(s) shall be the calendar year(s) subsequent to the base
year.

Operating Services
- ------------------

"Operating Services" include, but are not limited to, the charges incurred by
Lessor for:  building operation salaries, benefits, management fee of five
percent (5%) of gross income for the building, insurance, electricity,
janitorial, supplies, telephone, HVAC, repair and maintenance, window washing,
water and sewer, security, landscaping, disposal, elevator, and other charges
which are reasonable, customary and generally accepted as "Operating Services"
in the market place.  Operating Services shall also include the amortization
cost of capital investment items and of the installation thereof, which are
primarily for the purpose of safety, saving energy or reducing operating costs,
and only to the extent of such actual savings in Operating Services, or which
may be required by governmental authority not in effect as of the commencement
date hereof, (all such costs shall be amortized over the reasonable life of the
capital investment item, with the reasonable life and amortization schedule
being determined in accordance with generally accepted accounting principles).
Notwithstanding anything to the contrary contained herein, Operating Services
shall not include any of the following:

          (i)    real estate taxes

          (ii)   legal fees, auditing fees, brokerage commissions, advertising
costs, or other related expenses incurred by Lessor in an effort to generate
rental income;

          (iii)  repairs, alterations, additions, improvements, or replacements
made to rectify or correct any defect in the original design, materials or
workmanship of the building or common areas (but not including repairs,
alterations, additions, improvements or replacements made as a result of
ordinary wear and tear);

          (iv)   damage and repairs attributable to fire or other casualty;

          (v)    damage and repairs necessitated by the negligence or willful
misconduct of Lessor, Lessor's employees, contractors or agents;

          (vi)   executive salaries to the extent that such services are not in
connection with the management, operation, repair or maintenance of the
building;

          (vii)  Lessor's general overhead expenses not related to the building;

          (viii) legal fees, accountant's fees and other expenses incurred in
connection with disputes with tenants or other occupants of the building or
associated with the enforcement of the terms of any leases with tenants or the
defense of Lessor's title to or interest in the building or any part thereof
unless the outcome is to the financial benefit of all tenants;

                                      -4-

<PAGE>
 
          (ix)   costs (including permit, license and inspection fees)
incurred in renovating or otherwise improving, decorating, painting or
altering (1) vacant space (excluding common areas) in the building or (2)
space for tenants or other occupants in the building and costs incurred in
supplying any item or service to less than all of the tenants in the building;


          (x)    costs incurred due to a violation by Lessor or any other
tenant of the building of the terms and conditions of a lease;

          (xi)   cost of any specific service provided to Lessee or other
occupants of the building for which Lessor is reimbursed (but not including
Operating Services and Real Estate Tax increases above Base Year Costs to the
extent reimbursed Lessor) or any other expense for which Lessor is or will be
reimbursed by another source (i.e., expenses covered by insurance or
warranties);

          (xii)  costs and expenses which would be capitalized under generally
accepted accounting principles, with the exception of the capital investment
items specified hereinabove;

          (xiii) building management fees in excess of the management fees
specified hereinabove;

          (xiv)  cost incurred with owning and/or operating the parking lot(s)
serving the building by independent parking operator(s).

          (xv)   fees paid to Lessor or any affiliate of Lessor for goods or
services in excess of the fees that would typically be charged by unrelated,
independent persons or entities for similar goods and services;

          (xvi)  rent called for under any ground lease or master lease;

          (xvii) principal and/or interest payments called for under any debt
secured by a mortgage or deed of trust on the building; and

Operating Services shall be adjusted for the Base Year and all Comparison
Year(s) to reflect the greater of actual occupancy or 95% occupancy.

Real Estate Taxes
- -----------------

Real Estate Taxes shall be the taxes paid by Lessor in the base year and each
respective Comparison Year.  Real Estate Taxes shall be a separate category and
shall be treated as such.

Proportionate Basis
- -------------------

Lessee's share of Base Year and Comparison Year(s) Costs shall be a fraction,
the numerator of which shall be the number of rentable square feet contained in
the leased Premises (see Paragraph 1) and the denominator of which shall be the
number of rentable square feet in the building in which the leased Premises are
located (220,845/RSF).

Computation of Adjustments to Base Year Costs
- ---------------------------------------------

Any adjustment to Base Year Costs will commence to occur in Month 13 of the
lease term with subsequent adjustments commencing every twelve months of the
lease term or in Months 25, 37, 49, etc. as appropriate under the lease term.
Lessee shall be responsible for any increase between Lessee's proportionate
share of Base Year Costs and Lessee's proportionate share of each respective
Comparison Year(s) Costs.  The increase shall be the increase to each expense
individually.  These costs shall be initially calculated based on estimated
(projected) costs with reconciliation to actual costs when annual audited
numbers are completed.  For the purpose of calculating projected increases to
Base Year Costs, Lessor shall review historical data to predict if any estimated
increases would be anticipated in a Comparison Year(s).  If they are, then
commencing in Month 13 and/or 

                                      -5-

<PAGE>
 
every twelve month period thereafter, Lessor will assess a monthly charge to
be paid together with monthly base rent. Once actual cost data for Comparison
Year(s) Real Estate Taxes and Operating Services for the entire building is
formulated in accordance with generally accepted accounting principles and
adjusted to the greater of actual occupancy or 95% occupancy, then Lessee's
estimated pass-through costs shall be corrected with Lessee or Lessor, as
appropriate, reimbursing the other for the difference between the estimated
and actual costs, at that time in a lump sum payment.

Upon termination of this lease, the amount of any corrected amount between
estimated and actual costs with respect to the final comparison year shall
survive the termination of the lease and shall be paid to Lessee or Lessor as
appropriate within thirty (30) days after final reconciliation.

Computation of or adjustment to Operating Services and/or Real Estate Taxes
pursuant to this paragraph or to rent pursuant to Paragraph 3 shall be computed
based on a three hundred sixty-five (365) day year.

For an example, see Exhibit B attached hereto.

          20.  ADDITIONAL TAXES OR ASSESSMENTS,  Should there presently be in
               -------------------------------                               
effect or should there be enacted during the term of this lease, any law,
statute or ordinance levying any assessment or any tax upon rents or the income
from real estate or rental property (other than federal or state income taxes),
Lessee shall reimburse Lessor for Lessee's proportionate share of said expenses
at the same time as rental payments.

          21.  LATE PAYMENTS,  On any payment, required to be made pursuant to
               -------------                                                  
this Lease, which is not made on the date the same is due, Lessor shall have the
right to assess interest at a rate equal to three percent (3%) above the prime
rate of interest charged from time to time by Seafirst National Bank, or its
successor.

          In addition to any interest charged herein, a late charge of five
percent (5%) of the payment amount shall be incurred for payments received more
than five (5) days late.

          22.  RISK,  All personal property of any kind or description
               ----                                                   
whatsoever in the demised Premises shall be at Lessee's sole risk.  Lessor shall
not be liable for any damage done to or loss of such personal property or damage
or loss suffered by the business or occupation of the Lessee arising from any
acts or neglect of co-tenants or other occupants of the building, or of Lessor
or the employees of Lessor, or of any other persons, or from bursting,
overflowing or leaking of water, sewer or steam pipes, or from the heating or
plumbing or sprinklering fixtures, or from electric wires, or from gas, or
odors, or caused in any other manner whatsoever except in the case of negligence
or willful misconduct on the part of Lessor or its agents.  Lessee shall keep in
force throughout the term of this lease such casualty, general liability and
business interruption insurance as a prudent tenant occupying and using the
Premises would keep in force.

          23.  INDEMNIFICATION,  Either party will defend, indemnify and hold
               ---------------                                               
harmless the other party from any claim, liability or suit including attorney's
fees on behalf of any person, persons, corporations and/or firm for any injuries
or damages occurring in or about the said Premises or on or about the sidewalk,
stairs, or thoroughfares adjacent thereto where said damages or injury was
caused by the negligence or intentional act of the other party, its agents,
employees, servants, customers or clients.

          24.  WAIVER OF SUBROGATION,  Lessee and Lessor do hereby release and
               ---------------------                                          
relieve the other, and waive their entire claim of recovery for loss, damage,
injury, and all liability of every kind and nature which may arise out of, or be
incident to, fire and extended coverage perils, in, on, or about the Premises
herein described, whether due to negligence of either of said parties, their
agents, or employees, or otherwise.  Lessor will provide a non-disturbance
agreement from any beneficiary of an existing or future deed of trust.

                                      -6-

<PAGE>
 
          25.  SUBORDINATION,  This lease and all interest and estate of Lessee
               -------------                                                   
hereunder is subject to and is hereby subordinated to all present and future
mortgages and deeds of trust affecting the Premises or the property of which
said Premises are a part.  Lessee agrees to execute at no expense to the Lessor,
any instrument which may reasonably be deemed necessary or desirable by the
Lessor to further effect the subordination of this lease to any such mortgage or
deed of trust.  In the event of a sale or assignment of Lessor's interest in the
Premises, or in the event of any proceedings brought for the foreclosure of, or
in the event of exercise of the power of sale under any mortgage or deed of
trust made by Lessor covering the Premises, Lessee shall attorn to the purchaser
or assignee and recognize such purchaser or assignee as Lessor and the purchaser
or assignee, provided that Lessee is not in default, shall recognize the Lessee
as the tenant under and in accordance with the terms of this lease.  Lessee
agrees to execute, at no expense to Lessor, any estoppel certificate reasonably
deemed necessary or desirable by Lessor to further effect the provisions of this
paragraph.

          26.  CASUALTY,  In the event the leased Premises or the said building
               --------                                                        
is destroyed or injured by fire, earthquake or other casualty to the extent that
they are untenantable in whole or in part, then Lessor may, at Lessor's option,
proceed with reasonable diligence to rebuild and restore the said Premises or
such part thereof as may be injured as aforesaid, provided that within sixty
(60) days after such destruction or injury Lessor will notify Lessee of Lessor's
intention to do so, and during the period of such rebuilding and restoration the
rent shall be abated on the portion of the Premises that is unfit for occupancy.
If rebuilding and restoration are not substantially completed within 120 days of
the casualty so that Lessee cannot reasonably conduct business therein, then
Lessee shall have the option to terminate this lease.  Provided however, if
Lessor can provide comparable alternative space within the building, the Lessee
shall not have the right to terminate.  Lessee shall pay for the temporary space
at the market rate or Lessee's existing rate, whichever is lower and Lessor
agrees to pay the costs of relocation.

          27.  INSOLVENCY,  If Lessee becomes insolvent, or makes an assignment
               ----------                                                      
for the benefit of creditors, or a receiver is appointed for the business or
property of Lessee, or a petition is filed in a court of competent jurisdiction
to have Lessee adjudged bankrupt, then Lessor may at Lessor's option terminate
this lease.  Said termination shall reserve unto Lessor all of the rights and
remedies available under Paragraph 28 ("Default") hereof, and Lessor may accept
rents from such assignee or receiver without waiving or forfeiting said right of
termination.  As an alternative to exercising his right to terminate this lease,
Lessor may require Lessee to provide adequate assurances, including the posting
of a cash bond, of Lessee's ability to perform its obligations under this lease.

          28.  DEFAULT,  If this lease is terminated in accordance with any of
               -------                                                        
the terms herein (with the exception of Paragraph 27), or if Lessee vacates or
abandons the Premises or if Lessee shall fail at any time to keep or perform any
of its covenants or conditions of this lease, i.e. specifically the covenant for
the payment of monthly rent (and such failure is not cured within ten (10) days
after written notice thereof by Lessor to Lessee in the case of monetary default
and thirty (30) days for all other defaults under the lease), then, and in any
of such events, Lessor may with or without notice or demand, at Lessor's option,
and without being deemed guilty of trespass and/or without prejudicing any
remedy or remedies which might otherwise be used by Lessor for arrearages or
preceding breach of covenant or condition of this lease, enter into and
repossess said Premises and expel the Lessee and all those claiming under
Lessee.  In such event Lessor may eject and remove from said Premises all goods
and effects (forcibly if necessary).  This lease if not otherwise terminated may
immediately be declared by Lessor as terminated, provided however, in the case
of non-monetary defaults, if the failure is of such a nature that it cannot be
completely remedied within such thirty (30) day period, the failure shall not be
a default if Lessee begins correction of the failure within the thirty (30) day
period and thereafter proceeds with reasonable diligence to correct the failure
as soon as practicable.  The termination of this lease pursuant to this Article
shall not relieve Lessee of its obligations to make the payments required
herein.  In the event this lease is terminated pursuant to this Article, or if
Lessor enters the Premises without terminating this lease and Lessor relets all
or a portion of the Premises, Lessee shall be liable to Lessor for all the
reasonable costs of reletting, including necessary renovation and alteration of
the leased Premises.  Lessee shall remain liable for all unpaid rental 

                                      -7-

<PAGE>
 
which has been earned plus late payment charges pursuant to Paragraph 21 and
for the remainder of the term of this lease for any deficiency between the net
amounts received following reletting and the gross amounts due from Lessee, or
if Lessor elects, Lessee shall be immediately liable for all rent and
additional rent (Paragraph 19) that would be owing to the end of the term,
less any rental loss Lessee proves could be reasonably avoided, which amount
shall be discounted by the discount rate of the Federal Reserve Bank, situated
nearest to the Premises, plus one percent (1%).

          29.  BINDING EFFECT,  The parties hereto further agree with each other
               --------------                                                   
that each of the provisions of this lease shall extend to and shall, as the case
may require, bind and inure to the benefit, not only of Lessor and Lessee, but
also of their respective heirs, legal representatives, successors and assigns,
subject, however, to the provisions of Paragraph 18 of this lease.

          It is also understood and agreed that the terms "Lessor" and "Lessee"
and verbs and pronouns in the singular number are uniformly used throughout this
lease regardless of gender, number or fact of incorporation of the parties
hereto.  The typewritten riders or supplemental provisions, if any, attached or
added hereto are made a part of this lease by reference.  It is further mutually
agreed that no waiver by Lessor of a breach by Lessee of any covenant or
condition of this lease shall be construed to be a waiver of any subsequent
breach of the same or any other covenant or condition.

          30.  HOLDING OVER,  If Lessee holds possession of the Premises after
               ------------                                                   
term of this lease, Lessee shall be deemed to be a month-to-month tenant upon
the same terms and conditions as contained herein, except rent which shall be
revised to reflect the then current market rate.  During month-to-month tenancy,
Lessee acknowledges Lessor will be attempting to relet the Premises.  Lessee
agrees to cooperate with Lessor and Lessee further acknowledges Lessor's
statutory right to terminate the lease with proper notice.

          31.  ATTORNEY'S FEES,  If any legal action is commenced to enforce any
               ---------------                                                  
provision of this lease, the prevailing party shall be entitled to an award of
reasonable attorney's fees and disbursements.  The phrase "prevailing Party"
shall include a party who receives substantially the relief desired, whether by
dismissal, summary judgment, judgment or otherwise.

          32.  LESSOR REPRESENTATIONS,  The Lessor has made no representations
               ----------------------                                         
or promises other than contained herein or in some future writings signed by
Lessor, except the physical condition of the Premises is consistent with general
office space in the Puget Sound commercial market and Lessor operates the
Premises in compliance with the U.S. American Disabilities Act.

          33.  QUIET ENJOYMENT,  So long as Lessee pays the rent and performs
               ---------------                                               
the covenants contained in this lease, Lessee shall hold and enjoy the Premises
peaceably and quietly, subject to the provisions of this lease.

          34.  RECORDATION,  Lessee shall not record this lease without the
               -----------                                                 
prior written consent of Lessor.  However, at the request of Lessor, both
parties shall execute a memorandum or "short form" of this lease for the purpose
of recordation in a form customarily used for such purpose.  Said memorandum or
short form of this lease shall describe the parties, the Premises and the lease
term, and shall incorporate this lease by reference.

          35.  MUTUAL PREPARATION OF LEASE,  It is acknowledged and agreed that
               ---------------------------                                     
this lease was prepared mutually by both parties.  In the event of ambiguity, it
is agreed by both parties that it shall not be construed against either party as
the drafter of this lease.

          36.  GOVERNING LAW,  This lease shall be governed by, construed and
               -------------                                                 
enforced in accordance with the laws of the State of Washington.

          37.  DESIGN SERVICES,  Lessor shall, at Lessor's expense, provide for
               ---------------                                                 
all space planning, design, documentation and contract administration in
connection with all work to be done in the Premises in order to prepare the
Premises for Lessee's 

                                      -8-

<PAGE>
 
effective occupancy. Lessor will be responsible for the architectural space
study fees of CNA Architects, but not for the cost of construction documents
unless provided by Martin Selig Real Estate in-house architects. Lessor will
furthermore contract with and pay for the design and engineering services
pertaining to structural, mechanical, electrical, and fire protection. Lessor
shall, at Lessor's expense, furnish to Lessee, for Lessee's approval, all
drawings necessary for the preparation of the Premises for Lessee's use and
occupancy.

          38.  TENANT IMPROVEMENT ALLOWANCE,  Lessee's Premises will be
               ----------------------------                            
completed in accordance with mutually agreed upon working drawings by a mutually
agreed upon contractor.  Lessee will be provided a tenant improvement allowance
of $5.00 per rentable square foot.  This tenant improvement allowance shall not
include furniture, furnishings, or equipment, but may include physical moving
expenses and improvements to the space including HVAC modifications.  The tenant
improvement allowance will be given to Lessee as a rent credit to be offset
against rents beginning with the commencement of this lease.

          39.  PARKING,  Lessee will be provided parking for four (4) cars in
               -------                                                       
the building garage and four (4) cars outside of the building.  All parking
shall be at market rate, currently $90.00 inside and $80.00 outside, and paid
for by Lessee.

          40.  OPTION TO RENEW,  Provided that Lessee is not in default under
               ---------------                                               
any of the terms and conditions of this lease at the time of exercising this
option, Lessee shall have the option to renew this lease for an additional
period of three (3) years on the same terms and conditions, except the rent.
Base rent for the renewal term shall be at the then market rate for comparable
office space in the lower Queen Anne area of Seattle.  Lessee agrees to give
Lessor notice of its intent to renew 180 days prior to the expiration of the
initial lease term.  In the event Lessee disagrees with the market rate
established by Lessor, market rate shall be established as follows:

Within sixty (60) days after notice of exercise of the option, each party shall
nominate an appraiser of its choice.  The two appraisers shall then select a
third appraiser and they shall determine by majority vote the fair market rental
value for the Premises as of the commencement of the extended term.

All appraisers selected shall be M.A.I. appraisers with commercial property
experience in King County.

The base rent shall remain unchanged until such decision is rendered by the
appraiser, but the rent shall be adjusted retroactive to the beginning of the
option period.

          41.  REAL ESTATE COMMISSION,  Lessor agrees to pay a real estate
               ----------------------                                     
commission equivalent to five percent (5%) of the gross rental amount of the
initial lease term to Colliers Macaulay Nicolls International for their services
in this lease transaction.  The fee shall be payable one-half upon execution of
lease and one-half upon occupancy of space by Lessee.  In the event Lessor
declines to pay such fees in the amount and in the time frame described, Lessee
may make payment of commission and accrued interest directly to Colliers and
deduct it from the/any first rents becoming due.  In such case, Lessor shall not
hold Lessee in default under the terms of this lease.

          IN WITNESS WHEREOF, the parties hereof have executed this lease the
day and year first above written.

SELIG REAL ESTATE HOLDINGS SIX,          CELL THERAPEUTICS INC.,
a Washington general partnership         a Washington Corporation


 
    ------------------------------           ----------------------------
By:  Martin Selig                        By:
    ------------------------------           ----------------------------
Its: General Partner                     Its:
    ------------------------------           ----------------------------
               "Lessor"                                "Lessee"
                                      -9-

<PAGE>
 
                                  GUARANTEE
                                  ---------

For value received and as an inducement to Lessor making the within lease to
Lessee, the undersigned Guarantor hereby guarantees the payment of rent and
performance by Lessee, Lessee's successors and assigns of all covenants and
agreements of the above Lease.


- -----------------------------------        ------------------------------------

CELL0224.98

Attachment

                                      -10-

<PAGE>
 
                                  EXHIBIT B
                                  ---------


                                   EXAMPLE
                                   -------

The intent is to include Lessee's proportionate share of all Base Year Costs in
Lessee's Annual Base Rental Rate.  It is further the intent to limit adjustments
to Lessee's Base Year Costs to actual increases in cost.  The Operating Services
are adjusted to the greater of actual occupancy or 95% occupancy for the base
year to fairly establish the Base Year Costs at an equitable standard for
comparison purposes.  Comparison Years are similarly adjusted for purposes of
fairness and equality.  To prevent any confusion regarding computation of Base
Year Costs, Comparison Year Costs and the adjustment of those costs to 95%
occupancy, if necessary, we have set forth the following example.  It is
important to note that if adjustment to 95% occupancy is necessary, not all
Operating Services are adjusted.

Expenses requiring adjustment are those which are 100% dependent upon the change
in footage and adjust with the change in occupied footage.  This category
includes electricity, water/sewer, superintendent, disposal, management,
janitorial supplies, window washing, repair and maintenance, HVAC maintenance,
and janitorial labor.

Other expenses do not require adjustment nor are they dependent upon occupied
footage change.  These categories are the same whether the building is empty or
full.  They are, insurance, security, elevator, landscaping and telephone.

Real Estate Taxes are dependent upon independent assessment.  Real Estate Taxes
are not adjusted to 95%, but are established for each respective year based on
the actual tax paid whether for the respective Base Year or each subsequent
Comparison Year(s).

Please note the expenses noted below which are and are not adjusted and the
adjustment to each expense to achieve 95% occupancy, if necessary.  The method
of adjusting expenses depicted in the example will be followed when adjusting
actual Operating Service Expenses for both the Base Year and Comparison Year(s).

 
HYPOTHETICAL FACTS
 
     Building Occupancy:                                   80%
     Actual Base Year Costs:                               $ 375,000
     Grossed Base Year Costs to 95%:                       $ 440,000
     Actual Comparison Year Costs: (see below)             $ 405,440
     Grossed Comparison Year Costs to 95%: (see below)     $ 463,080
     Tenant Premises:                                      10,000 RSF
     Building RSF:                                         125,000 RSF
     Tenant Proportionate Basis:                           10,000 divided 
                                                           by 125,000 = 8%
 

<TABLE> 
<CAPTION> 
                                   EXAMPLE
                                   -------
 
                            Actual             Grossed
Description                Expenses            Expenses
- -----------                --------            --------
<S>                        <C>            <C>      <C>  
Percent Occupied                80.00%     95.00%  Methodology
                                                   -----------
                          
Real Estate Taxes            $ 54,854   $ 54,854   Actual Cost
- -----------------         
                          
Operating Expenses        
- ------------------        
Insurance                    $ 26,595   $ 26,595   Actual Cost
Electricity                  $ 69,358   $ 82,363   Adjusts with occupancy
Water & Sewer                $  4,945   $  5,872   Adjusts with occupancy
Security                     $  5,000   $  5,000   Actual Cost
Elevator                     $  7,526   $  7,526   Actual Cost
Superintendent               $ 82,869   $ 98,407   Adjusts with occupancy
Landscaping                  $  2,912   $  2,912   Actual Cost
Disposal                     $ 15,502   $ 18,409   Adjusts with occupancy
Management                   $ 41,680   $ 49,495   Adjusts with occupancy
Supplies                     $  4,339   $  5,153   Adjusts with occupancy
Window Washing               $  1,527   $  1,813   Adjusts with occupancy
Repairs & Maintenance        $ 24,333   $ 28,895   Adjusts with occupancy
Telephone                    $  1,144   $  1,144   Actual Cost
HVAC Maintenance             $  6,208   $  7,372   Adjusts with occupancy
Janitorial                   $ 56,648   $ 67,270   Adjusts with occupancy
                             --------   --------
                          
TOTALS:                      $405,440   $463,080
 
</TABLE>




<PAGE>
 
                                                                 EXHIBIT 10.10

                               PROMISSORY NOTE

$_________                                                 Dated: _____________

          FOR VALUE RECEIVED, the undersigned, _____________ (the "Borrower"),
HEREBY UNCONDITIONALLY PROMISES TO PAY to the order of CELL THERAPEUTICS, INC.
(the "Lender"), the principal sum of ______________________ DOLLARS
($___________), plus interest as set forth below, in one installment, on
December 16, 2002.

          The Borrower further promises to pay interest on the outstanding
principal amount of this Promissory Note from the date hereof until maturity at
a rate per annum equal at all times to ___%.  In the event that any amount of
principal or interest, or any other amount payable hereunder, is not paid in
full when due (whether at stated maturity, by acceleration or otherwise), the
Borrower agrees to pay interest on such unpaid principal or other amount, from
the date such amount becomes due until the date such amount is paid in full,
payable on demand, at a rate per annum equal at all times to three percent (3%)
in excess of the "prime rate" of interest as is then charged by The Bank of
America National Trust & Savings Association.  All computations of interest
shall be made on the basis of a year of 365 or 366 days, as the case may be, for
the actual number of days (including the first day but excluding the last day)
occurring in the period for which such interest
 is payable.

          All payments hereunder shall be made in lawful money of the United
States of America, to the Lender, at 201 Elliott Avenue West, Suite 400,
Seattle, WA  98119, or at such other place or to such account as the Lender from
time to time shall designate in a written notice to the Borrower.

          Whenever any payment of principal or interest hereunder shall be
stated to be due, or any other date specified hereunder would otherwise occur,
on a day other than a Business Day (as defined below), then such payment shall
be made or such other date shall occur, on the next succeeding Business Day, and
such extension of time shall in such case be included in the computation of
payment of interest hereunder.  As used herein, "Business Day" means a day (i)
other than Saturday or Sunday, and (ii) on which commercial banks are open for
business in Seattle, Washington.

          Anything herein to the contrary notwithstanding, if during any period
for which interest is computed hereunder, the amount of interest computed on the
basis provided for in this Promissory Note, together with all fees, charges and
other payments which are treated as interest under applicable law, as provided
for herein or in any other document executed in connection herewith, would
exceed the amount of such interest computed on the basis of the Highest Lawful
Rate, the Borrower shall not be obligated to pay, and the Lender shall not be
entitled to charge, collect, receive, reserve or take, interest in excess of the
Highest Lawful Rate, and during any such period the interest payable hereunder
shall be computed on the basis of the Highest Lawful Rate.  As used herein,
"Highest Lawful Rate" means the maximum non-usurious rate of interest, 

                                       1.

<PAGE>
 
as in effect from time to time, which may be charged, contracted for,
reserved, received or collected by the Lender in connection with this
Promissory Note under applicable law.

          The Borrower may prepay the outstanding amount hereof in whole or in
part at any time, without premium or penalty. Together with any such prepayment
the Borrower shall pay accrued interest on the amount prepaid.  Any partial
prepayment shall be applied to the principal hereof.

          So long as any amount payable by the Borrower hereunder shall remain
unpaid, the Borrower will furnish to the Lender from time to time such
information respecting the Borrower's financial condition as the Lender may from
time to time reasonably request.

          The Borrower represents and warrants to the Lender that this
Promissory Note does not contravene any contractual or judicial restriction
binding on or affecting the Borrower and that this Promissory Note is the legal,
valid and binding obligation of the Borrower enforceable against him in
accordance with its terms.

          The occurrence of any of the following shall constitute an "Event of
Default" under this Promissory Note:

          (1)  the failure to make any payment of principal, interest or any
other amount payable hereunder when due under this Promissory Note or the
breach of any other condition or obligation under this Promissory Note, and
the continuation of such failure or breach for five (5) days; or

          (2)  the filing of a petition by or against the Borrower under any
provision of the Bankruptcy Reform Act, Title 11 of the United States Code, as
amended or recodified from time to time, or under any similar law relating to
bankruptcy, insolvency or other relief for debtors; or appointment of a
receiver, trustee, custodian or liquidator of or for all or any part of the
assets or property of the Borrower; or the insolvency of the Borrower; or the
making of a general assignment for the benefit of creditors by the Borrower.

          Upon the occurrence of any Event of Default, the Lender, at its
option, may by notice to the Borrower, declare the unpaid principal amount of
this Promissory Note, all interest accrued and unpaid hereon and all other
amounts payable hereunder to be immediately due and payable, whereupon the
unpaid principal amount of this Promissory Note, all such interest and all such
other amounts shall become immediately due and payable, without presentment,
demand, protest or further notice of any kind.

          The Borrower agrees to pay on demand all the losses, costs, and
expenses (including, without limitation, attorneys' fees and disbursements)
which the Lender incurs in connection with enforcement or attempted enforcement
of this Promissory Note, or the protection or preservation of the Lender's
rights under this Promissory Note, whether by judicial proceedings or otherwise.
Such costs and expenses include, without limitation, those incurred in
connection with any workout or refinancing, or any bankruptcy, insolvency,
liquidation or similar proceedings.

                                       2.

<PAGE>
 
          The Borrower hereby waives diligence, demand, presentment, protest or
further notice of any kind.  The Borrower agrees to make all payments under this
Promissory Note without setoff or deduction and regardless of any counterclaim
or defense.

          No single or partial exercise of any power under this Promissory Note
shall preclude any other or further exercise of such power or exercise of any
other power.  No delay or omission on the part of the Lender in exercising any
right under this Promissory Note shall operate as a waiver of such right or any
other right hereunder.

          This Promissory Note shall be binding on the Borrower and its
successors and assigns, and shall be binding upon and inure to the benefit of
the Lender, any future holder of this Promissory Note and their respective
successors and assigns.  The Borrower may not assign or transfer this Promissory
Note or any of its obligations hereunder without the Lender's prior written
consent.

          THIS PROMISSORY NOTE SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE
WITH LAW OF THE STATE OF WASHINGTON (WITHOUT REFERENCE TO THE CONFLICT OF LAW
PRINCIPLES, OTHER THAN THOSE DIRECTING APPLICATION OF WASHINGTON LAW).

 
                                        _____________________________________
                                        Name:

                                        Address:

                                        _____________________________________

                                        _____________________________________

                                        _____________________________________
 

                                       3.



<PAGE>
 
                                                                 EXHIBIT 10.20

                                                      Portions of this Exhibit
                                                             have been omitted
                                                         pursuant to a request
                                                              for confidential
                                                        treatment. The omitted
                                                           portions are marked
                                                           ***** and have been
                                                         filed separately with
                                                               the Commission.

                             AMENDMENT NO. 1 TO THE
                      COLLABORATION AND LICENSE AGREEMENT
                          dated as of November 8, 1996
                                 by and between
                            CELL THERAPEUTICS, INC.
                                      and
                               ORTHO BIOTECH INC.
                                      and
                  THE R.W. JOHNSON PHARMACEUTICAL CORPORATION


          THIS AMENDMENT NO. 1 to the COLLABORATION AND LICENSE AGREEMENT (the
"Agreement"), dated as of November 6, 1996, by and between CELL THERAPEUTICS,
INC., a Washington corporation having its principal place of business at 201
Elliott Avenue West, Suite 400, Seattle, Washington 98119 (hereinafter
referred to as "CTI") and ORTHO BIOTECH INC., a New Jersey corporation having
its principal place of business at 700 U.S. Route 202 South, Raritan, New
Jersey 08869 and THE R. W. JOHNSON PHARMACEUTICAL RESEARCH INSTITUTE, a
division of ORTHO PHARMACEUTICAL CORPORATION, a Delaware corporation having
its principal office at U.S. Route 202, Raritan, New Jersey 08869 (hereinafter
collectively referred to as "ORTHO"), is made this 16th day of November, 1998
by and among CTI and ORTHO (each, a "Party" and together, the "Parties").



                              W I T N E S S E T H:
                              - - - - - - - - - - 

          WHEREAS, CTI and ORTHO
 desire to amend the Agreement as provided
herein:

          NOW THEREFORE, in consideration of the foregoing and the
representations, warranties and covenants set forth herein, and other good and
valuable consideration, the receipt and adequacy of which are hereby
acknowledged, and intending to be legally bound hereby, the Parties hereto
hereby agree as follows:

          SECTION 1.01.  Definitions.  The following terms, when capitalized,
                         -----------                                         
shall have the following meanings as used in this Amendment:

          "ALI Recommendation" means the interim analysis recommendation by The
           ------------------                                                  
National Heart, Lung and Blood Institute through the Steering Committee of its
ARDS Network with respect to the Phase II/III ALI Trial (Protocol 1037).

<PAGE>
 
          "Certificate of Analysis" means the document that summarizes all final
           -----------------------                                              
release test data as compared to the release specification for each lot of
product, including date of manufacture, expiration or retest date, and is
approved by the appropriate authority.

          "Certificate of Conformance" means the document that provides
           --------------------------                                  
certification that all documentation for a particular lot, collected during
production and testing, has been reviewed and all deviations, non-conformances
or other quality issues have been satisfactorily resolved to release the lot,
and shall include proof of sterility, endotoxin and environmental testing.

          "ORTHO Resumption Date" shall mean that date which is sixty (60) days
           ---------------------                                               
after the later to occur of: (i) the delivery by CTI to ORTHO of the results of
the Phase III AML Trial and (ii) the delivery by CTI to ORTHO of the ALI
Recommendation.

          "ORTHO Suspension Date" means July 1, 1998.
           ---------------------                     

          "Phase II/III ALI Trial" means CTI's Phase II/III clinical trial for
           ----------------------                                             
Lisofylline currently designated under protocol 1036 and includes all
modifications thereto (including a change in protocol number).

          "Phase III AML Trial" means CTI's Phase III clinical trial for
           -------------------                                          
Lisofylline currently designated under protocol 1031 and includes all
modifications thereto (including a change in protocol number). 

(The information below marked by ***** has been omitted by a request for
confidential treatment. The omitted portion has been separately filed with the
Commission.)

          "Standard Manufacturing Cost" means the standard manufacturing cost
           ---------------------------                                       
using generally accepted accounting principles for one (1) 10 milliliter ampoule
(10.6 milliliter fill), including formulation, filling and bulk packaging
activities, but excluding drug substance and shipping charges.  On the date
hereof, such costs are estimated by ORTHO to be as follows: *****.


          SECTION 2.01.  Development.
                         ----------- 

          (a) Lead Development Party.  Notwithstanding anything in the Agreement
              ----------------------                                            
to the contrary, effective as of the ORTHO Suspension Date, CTI shall be the
Lead Development Party in all geographic territories.  As Lead Development
Party, CTI shall have sole control over all aspects of Development under the
Agreement.  ORTHO shall have no obligations for Development after the ORTHO
Suspension Date until the ORTHO Resumption Date.

          (b) Development Expenses.  Notwithstanding anything in the Agreement
              --------------------                                            
to the contrary, subject to Section 7.01 of this Amendment, effective as of the
ORTHO Suspension Date, ORTHO shall have no obligations to fund Development
Expenses under the Agreement until the ORTHO Resumption Date.

                                       2.

<PAGE>
 
          SECTION 3.01.  Commercialization and Marketing.  Notwithstanding
                         -------------------------------                  
anything in the Agreement to the contrary, effective as of the ORTHO Suspension
Date, ORTHO shall have no obligations for Commercialization or Marketing under
the Agreement until the ORTHO Resumption Date.

          SECTION 4.01.  Milestone Payments. Notwithstanding anything in the
                         ------------------                                 
Agreement to the contrary, ORTHO shall not be obligated to make Milestone
Payments under Section 3.02 of the Agreement unless and until the occurrence of
the ORTHO Resumption Date.  Upon the occurrence of the ORTHO Resumption Date,
ORTHO shall make the Milestone Payment as set forth in Section 5.01(c)(iv) of
this Amendment and Article III of the Agreement.

          SECTION 5.01.  Termination.
                         ----------- 

          (a)  Termination by ORTHO.  Section 14.03 of the Agreement shall be
               --------------------                                          
amended by adding the following paragraph as subsection (c):

               "(c) ORTHO shall have the right to terminate this Agreement by
          written notice to CTI, within sixty (60) days following the later of
          to occur of (i) delivery to ORTHO of the ALI Recommendation, or (ii)
          delivery to ORTHO of the results of CTI's Phase III AML Trial.  Such
          termination shall be effective immediately upon receipt by CTI of such
          written notice."

          (b)  Effect of Termination by ORTHO.
               ------------------------------ 

               (i)  The title and first sentence of Section 14.04 shall be
     amended by adding the language indicated in italics as follows:

               "SECTION 14.04.  Effect of Termination by ORTHO Pursuant to
                                ------------------------------------------
          Section 14.03 (a) or (b).  If ORTHO terminates this Agreement pursuant
          ------------------------                                              
          to Section 14.03(a) or (b)".

               (ii) The following provision shall be added to Article XIV as
     Section 14.08.

               "SECTION 14.08.  Effect of Termination by ORTHO pursuant to
                                ------------------------------------------
          Section 14.03(c).  If ORTHO terminates this Agreement pursuant to
          ----------------                                                 
          Section 14.03(c), its obligation to perform its obligations under this
          Agreement shall terminate immediately.  In addition, as a result of
          such termination, Sections 14.04(a), (b), (c), (e) and (f) shall apply
          to the Parties."

          (c) ORTHO Resumption Date.  Notwithstanding anything in the Agreement
              ---------------------                                            
to the contrary, upon the occurrence of the ORTHO Resumption Date the following
provisions will apply:

                                       3.

<PAGE>
 
               (i)   ORTHO shall resume all Development, Commercialization
     and Marketing obligations under the Agreement as if this Amendment had not
     been adopted.

               (ii)  ORTHO shall be solely responsible for all ORTHO internal
     ramp-up and similar costs associated with the resumption of ORTHO's
     obligations pursuant to Section 6.01(b)(i) above.

(The information below marked by ***** has been omitted by a request for
confidential treatment. The omitted portion has been separately filed with the
Commission.)

               (iii) ORTHO shall reimburse CTI ***** of the Development
     Expenses incurred by CTI with respect to Development during the period
     between December 31, 1998, and the ORTHO Resumption Date.

               (iv)  ORTHO shall pay CTI all Milestone Payments for milestones
     achieved by CTI between the ORTHO Suspension Date and the ORTHO
     Resumption Date.

(The information below marked by ***** has been omitted by a request for
confidential treatment. The omitted portion has been separately filed with the
Commission.)

               (v)   ORTHO shall pay CTI a one-time milestone payment of
     *****.

          SECTION 6.01.  Manufacture.
                         ----------- 

          (a) Manufacture of Collaboration Products.  Notwithstanding anything
              -------------------------------------                           
in the Agreement to the contrary, if ORTHO terminates the Agreement pursuant to
Section 14.03(c), the following provisions shall apply:

               (i)   CTI shall use commercially reasonable efforts to
     identify an alternative party to manufacture and supply Collaboration
     Products.

               (ii)  Upon receipt of bulk raw material from CTI with a
     Certificate of Analysis, ORTHO shall provide the following manufacturing
     services to CTI for twenty-four (24) months following such termination:

                     (A) test the bulk raw material;

                     (B) formulate the suspension-liquid without doing any
               further development work;

                     (C) fill ampoules under aseptic conditions and terminally
               sterilize the final product; and

                     (D) supply unlabelled ampoules to CTI along with a
               Certificate of Conformance.

provided, however, CTI shall have sole responsibility for the release of the
- --------  -------                                                           
finished product.

                                       4.

<PAGE>
 
          (b) Manufacturing Expenses.  ORTHO shall provide the Manufacturing
              ----------------------                                        
services set forth in Section 5.01(a) of this Amendment at Standard
Manufacturing Cost.

          SECTION 7.01.  Payments.
                         -------- 

          (a)  Payments by ORTHO.
               -----------------

          (The information below marked by ***** has been omitted by a request
for confidential treatment. The omitted portion has been separately filed with
the Commission.)

               (i)   As full and complete settlement with respect to its
     development and other obligations under the Agreement from the period from
     the ORTHO Suspension Date to December 31, 1998, ORTHO shall pay to CTI an
     aggregate amount of ***** in connection with the execution of this
     Amendment.  Such amount shall be paid to CTI in two equal installments as
     follows: (A) ***** shall be paid to CTI no later than October 30,
     1998; and (B) ***** shall be paid to CTI no later than January 31,
     1999, and shall not require the submission of any invoice or documentation
     by CTI.

               (ii)  Notwithstanding anything in the Agreement to the
     contrary, with the exception of the amounts described in the foregoing
     subsection (i), all amounts that ORTHO might owe to CTI under the
     Agreement or otherwise with respect to periods on or prior to Suspension
     Date are hereby cancelled in full.

          (b) Payments by CTI.  Notwithstanding anything in the Agreement to the
              ---------------                                                   
contrary, all amounts that CTI might owe to ORTHO under the Agreement or
otherwise with respect to periods on or prior to the date hereof are hereby
cancelled in full.

          SECTION 8.01.  Miscellaneous.
                         ------------- 

          (a) Communications.  CTI shall direct any and all communications
              --------------                                              
regarding the Agreement or this Amendment to:

              Robert J. Wills, Ph.D
              Vice President, Preclinical Development
              R.W. Johnson Pharmaceutical Research Institute
              920 U.S. Highway 202
              Raritan New Jersey 08869-0602
              Telephone: (908) 704-4990
              Facsimile: (908) 704-9486

          (b) Access to CTI Information.  Prior to the ORTHO Resumption Date,
              -------------------------                                      
CTI shall provide ORTHO with full access, from the hours of 8:30 am to 5:00 pm,
Pacific Time, on regular Business Days, to all records and documents relating to
the Phase II/III ALI Trial and the Phase III AML Trial.  Such records and
documents shall include, but not be limited to: trial design and protocol
information, patient records, clinical and safety data, statistical analysis and
results, and, with respect to the Phase II/III ALI Trial, joint access with CTI
to

                                       5.

<PAGE>
 
the Steering Committee of the ARDS Network at The National Heart, Lung and Blood
Institute.

          SECTION 9.01.  Representations and Warranties.  Each of the Parties
                         ------------------------------                      
hereby represents and warrants to the other Party that this Amendment is a legal
and valid obligation binding upon such Party and enforceable in accordance with
its terms.  The execution, delivery and performance of the Amendment by such
Party does not conflict with any agreement, instrument or understanding, oral or
written, to which it is a Party or by which it is bound, nor violate any law or
regulation of any court, governmental body or administrative or other agency
having jurisdiction over it.

                                       6.

<PAGE>
 
          IN WITNESS WHEREOF, CTI and ORTHO have caused this Amendment to be
executed as of the date first written above by their respective officers
thereunto duly authorized.

                                    CELL THERAPEUTICS, INC.



                                    By:
                                       ----------------------------------------
                                       Name:  James A. Bianco, M.D.
                                       Title: President and Chief Executive
                                              Officer



                                    ORTHO BIOTECH INC.

 
                                    By:
                                       ----------------------------------------
                                       Name:
                                       Title:



                                    R. W. JOHNSON PHARMACEUTICAL
                                    RESEARCH INSTITUTE, a division of
                                    ORTHO PHARMACEUTICAL
                                    CORPORATION

                                    By:  ORTHO PHARMACEUTICAL
                                         ---------------------------------------
                                         CORPORATION
                                         ---------------------------------------



                                    By:
                                       ----------------------------------------
                                       Name:
                                       Title:
 

                                       7.



<PAGE>
 
                                                                   EXHIBIT 10.27

                                                 Portions of this Exhibit have
                                                 been omitted pursuant to a
                                                 request for confidential
                                                 treatment. The omitted portions
                                                 are marked ***** and have been
                                                 filed separately with the
                                                 Commission.



                               LICENSE AGREEMENT

                         dated as of November 13, 1998

                                 by and between

                              PG-TXL COMPANY, L.P.

                                      and

                            CELL THERAPEUTICS, INC.

<PAGE>
 
                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                          Page
<S>                    <C>                                                 <C>
ARTICLE I              DEFINITIONS.......................................   2
     SECTION 1.01.     Definitions.......................................   2
 
ARTICLE II             DEVELOPMENT.......................................   7
     SECTION 2.01.     Development.......................................   7
     SECTION 2.02.     Drug Approval Applications........................   7
     SECTION 2.03.     Costs of Development..............................   8
     SECTION 2.04.     Exclusivity.......................................   8
     SECTION 2.05.     CTI Portfolio.....................................   8
 
ARTICLE III            PAYMENTS..........................................   8
     SECTION 3.01.     License Fee Payments..............................   8
     SECTION 3.02.     Milestone Payments................................   9
     SECTION 3.03.     Donation to MD Anderson...........................  10
     SECTION 3.04.     Facilities and Administrative Expenses............  10
 
ARTICLE IV             LICENSES..........................................  11
     SECTION 4.01.     Patent License to CTI.............................  11
     SECTION 4.02.     Trademark Assignment to CTI.......................  11
     SECTION 4.03.     Third Party Technology............................  11
 
ARTICLE V              COMMERCIALIZATION.................................  12
     SECTION 5.01.     CTI as Sole Marketing Party.......................  12
     SECTION 5.02.     Commercialization Efforts.........................  12
     SECTION 5.03.     Tax Considerations................................  12
 
ARTICLE VI             ROYALTIES.........................................  12
     SECTION 6.01.     Royalties.........................................  12
     SECTION 6.02.     Royalty Reports and Payments......................  13
     SECTION 6.03.     Payments; Interest................................  13
     SECTION 6.04.     Taxes.............................................
  14
     SECTION 6.05.     Payments to or Reports by Affiliates..............  14
     SECTION 6.06.     Payment Currency..................................  14
 
ARTICLE VII            MANUFACTURE, SALES AND SUPPLY.....................  15
     SECTION 7.01.     Manufacture and Supply of Licensed Products by CTI  15
     SECTION 7.02.     Regulatory Approval for Manufacturing.............  15
 
ARTICLE VIII           CONFIDENTIALITY...................................  15
     SECTION 8.01.     Confidentiality; Exceptions.......................  15
 
</TABLE>


                                       i.

<PAGE>
 

<TABLE>
<S>                    <C>                                                 <C>
     SECTION 8.02.     Authorized Disclosure                               16
     SECTION 8.03.     Survival..........................................  16
     SECTION 8.04.     Termination of Prior Agreement....................  16
     SECTION 8.05.     Publications......................................  16
     SECTION 8.06.     Publicity Review..................................  17
 
ARTICLE IX             OWNERSHIP OF INTELLECTUAL PROPERTY AND
                       PATENT RIGHTS.....................................  17
     SECTION 9.01.     Patent Prosecution................................  17
     SECTION 9.02.     Third Party Patent Rights.........................  18
     SECTION 9.03.     Enforcement Rights................................  18
     SECTION 9.04.     Defense and Settlement of Third Party Claims......  19
     SECTION 9.05.     Patent Expenses...................................  19
     SECTION 9.06.     Trademarks........................................  19
 
ARTICLE X              REPRESENTATIONS AND WARRANTIES....................  19
     SECTION 10.01.    Representations and Warranties....................  19
     SECTION 10.02.    Performance by Affiliates of CTI..................  20
 
ARTICLE XI             INFORMATION AND REPORTS...........................  20
     SECTION 11.01.    Records of Revenues and Expenses..................  20
     SECTION 11.02.    Use of Names......................................  22
 
ARTICLE XII            TERM AND TERMINATION..............................  22
     SECTION 12.01.    Term..............................................  22
     SECTION 12.02.    Termination.......................................  22
     SECTION 12.03.    Surviving Rights..................................  24
 
ARTICLE XIII           INDEMNIFICATION...................................  24
     SECTION 13.01.    Indemnification...................................  24
 
ARTICLE XIV            APRIL 30 LICENSE; SECURITY INTEREST...............  26
     SECTION 14.01.    April 30 License..................................  26
     SECTION 14.02.    Security Interest.................................  26
 
ARTICLE XV             MISCELLANEOUS.....................................  27
     SECTION 15.01.    Assignment........................................  27
     SECTION 15.02.    Retained Rights...................................  28
     SECTION 15.03.    Force Majeure.....................................  28
     SECTION 15.04.    Further Actions...................................  28
     SECTION 15.05.    No Trademark Rights...............................  28
     SECTION 15.06.    Notices...........................................  28
     SECTION 15.07.    Waiver............................................  29
     SECTION 15.08.    Severability......................................  29
 
</TABLE>


                                      ii.

<PAGE>
 
     SECTION 15.09.    Ambiguities                                         29
     SECTION 15.10.    Governing Law.....................................  29
     SECTION 15.11.    Arbitration.......................................  29
     SECTION 15.12.    Headings..........................................  30
     SECTION 15.13.    Counterparts......................................  30
     SECTION 15.14.    Entire Agreement; Amendments......................  30
     SECTION 15.15.    Expenses..........................................  30
     SECTION 15.16.    Independent Contractors...........................  31
 
EXHIBITS

EXHIBIT A              PG-TXL Patent Rights
EXHIBIT B              Form of Financing Statement

                                      iii.

<PAGE>
 
                               LICENSE AGREEMENT
                               -----------------



          LICENSE AGREEMENT (the "Agreement"), dated as of November 13, 1998
                                  ---------                                 
(the "Effective Date"), by and between PG-TXL COMPANY, L.P., a Delaware limited
      --------------                                                           
partnership having its principal place of business at 3324 Pittsburgh Street,
Houston, Texas, 77005 (hereinafter referred to as "PG-TXL") and CELL
                                                   ------           
THERAPEUTICS, INC., a Washington corporation having its principal place of
business at 201 Elliott Avenue West, Seattle, Washington, 98119 (hereinafter
referred to as "CTI").  PG-TXL and CTI are sometimes referred to herein
                ---                                                    
individually as a "Party" and collectively as the "Parties."


                              W I T N E S S E T H:
                              ------------------- 

          WHEREAS, CTI focuses on the discovery, development, and
commercialization of drugs that are relevant to the treatment of cancer and
inflammatory and immune diseases;

          WHEREAS, PG-TXL has acquired certain technology related to conjugates
of water soluble polymers and, secondarily, metal chelators and has the right to
grant rights and licenses and/or sublicenses under the PG-TXL Patent Rights
(hereinafter defined) and PG-TXL Know-How (hereinafter defined);

          WHEREAS, CTI has, based on its evaluation, expressed to PG-TXL its
interest in obtaining from PG-TXL certain rights and licenses to the PG-TXL
Patent Rights and PG-TXL Know-How;

          WHEREAS, PG-TXL is willing to grant such rights and licenses to CTI
under the terms and conditions hereinafter set forth;

          WHEREAS, the Parties intend to record, characterize and report their
activities under this Agreement as separate activities of each of the Parties;

          NOW, THEREFORE, in consideration of the foregoing recitals and the
mutual covenants and agreements contained herein, the Parties hereto, intending
to be legally bound, do hereby agree as follows:

                                       1.

<PAGE>
 
                                   ARTICLE I

                                  DEFINITIONS
                                  -----------

          SECTION 1.01.  Definitions.  The following terms, when capitalized,
                         -----------                                         
shall have the following meanings (such meanings to be equally applicable to
both the singular and plural forms of the terms defined) as used in this
Agreement:

          "Affiliate" means any person, corporation, partnership, firm, joint
           ---------                                                         
venture or other entity which, directly or indirectly, through one or more
intermediaries, controls, is controlled by, or is under common control with, PG-
TXL or CTI, as the case may be.  As used in this definition, "control" means the
possession of the power to direct or cause the direction of the management and
policies of an entity, whether through the ownership of the outstanding voting
securities or by contract or otherwise.

          "April 30 License" means the License Agreement, effective as of April
           ----------------                                                    
30, 1998 by and among the April 30 Licensors and PG-TXL.

          "April 30 Licensors" means Chun Li, Ph.D., Sidney Wallace, M.D., David
           ------------------                                                   
J. Yang, Ph.D. and Dong Fang Yu, M.S.

          "Audit Disagreement" shall have the meaning set forth in Section
           ------------------                                             
11.01(b).

          "Bankruptcy Event" shall have the meaning set forth in Section
           ----------------                                             
12.02(d).

          "Clinical Work" means any work related to human trials to assess the
           -------------                                                      
dosing, safety and/or efficacy of Licensed Products and/or to assess a dose and
treatment plan employing such Licensed Products, including, but not limited to,
Phase III and Phase IV Clinical Trials (in the event such Phase IV Clinical
Trials are required by the FDA).

          "Commercialization" and "Commercialize" shall refer to all activities
           -----------------       -------------                               
undertaken relating to the manufacture, pre-marketing, marketing and sale of
Licensed Products.

          "Confidential Information" shall have the meaning set forth in Section
           ------------------------                                             
8.01.

          "Control" or "Controlled" shall refer to possession of the ability to
           -------      ----------                                             
grant a license or sublicense of patent rights, know-how or other intangible
rights as provided for herein without violating the terms of any agreement or
other arrangement with any Third Party.

          "Development" and "Develop" shall refer to all activities relating to
           -----------       -------                                           
obtaining Regulatory Approval of Licensed Products, and all activities relating
to developing the ability to manufacture the same.  This includes preclinical
testing, toxicology, formulation, bulk

                                       2.

<PAGE>
 
production, fill/finish, manufacturing process development, manufacturing,
quality assurance and quality control technical support, clinical studies,
regulatory affairs and outside regulatory counsel legal services.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          "Development Expenses" means the expenses incurred in connection with
           --------------------                                                
the Development of Licensed Products.  Development Expenses shall include, but
are not limited to *****.

          "Drug Approval Application" means an application for Regulatory
           -------------------------                                     
Approval required to be approved before commercial sale or use of a Licensed
Product as a drug in a regulatory jurisdiction, including, for the purposes of
Regulatory Approval in the United States, a New Drug Application and all
supplements filed pursuant to the requirements of the FDA (including all
documents, data and other information concerning Licensed Products which are
necessary for, or included in, FDA approval to market the Licensed Products, as
more fully defined in 21 C.F.R. (S)(S)314.1 et seq.).

          "Effective Date" shall have the meaning set forth in the Recitals to
           --------------                                                     
this Agreement.

          "Europe" means the countries which are members of the European Union
           ------                                                             
as such membership may change from time to time.

          "FDA" means the United States Food and Drug Administration, or any
           ---                                                              
successor agency.

          "First Commercial Sale" means the date CTI or its Affiliate or a
           ---------------------                                          
sublicensee of CTI first sells commercially, pursuant to a Regulatory Approval,
Licensed Products in any country of the Territory, provided that where such a
                                                   --------                  
first commercial sale has occurred in a country for which pricing or
reimbursement approval is necessary for widespread sale, then such sales shall
not be deemed a First Commercial Sale until such pricing or reimbursement
approval has been obtained.

          "Improvements" shall mean any additional composition which comprises
           ------------                                                       
an agent conjugated to water soluble polymers or metal chelators.

          "IND" shall mean an investigational new drug application required to
           ---                                                                
be filed with the FDA pursuant to 21 C.F.R. (S) 312, as such regulations may be
amended from time to time, to test drug products in humans, or any foreign
equivalent of the FDA.

                                       3.

<PAGE>
 
          "Information" means (i) techniques and data relating to the Licensed
           -----------                                                        
Products, including, but not limited to, inventions, practices, methods,
knowledge, know-how, skill, trade secrets, experience, test data including
pharmacological, toxicological, preclinical and clinical test data, regulatory
submissions, adverse reactions, analytical and quality control data, marketing,
pricing, distribution, cost, sales and manufacturing data or descriptions and
(ii) compounds, compositions of matter, assays and biological materials relating
to the Licensed Products.

          "June 30 Letter Agreement" shall mean that Letter Agreement dated June
           ------------------------                                             
30, 1998, between PG-TXL and CTI.

          "Licensed Products" means all products, devices, apparatuses,
           -----------------                                           
compositions of matter, kits or component parts, and/or any method, procedure,
or process, (or other subject matter disclosed or claimed in the PG-TXL Patent
Rights) the manufacture, promotion, sale, marketing, distribution or use of
which for any purpose by Licensee are covered by a validly issued and unexpired
patent claim under the PG-TXL Patent Rights, or which utilize the PG-TXL Know-
How, and any Improvements utilized by CTI or its licensees or assigns.

          "Losses" shall have the meaning set forth in Section 13.01(a).
           ------                                                       

          "Major Market Country" means each of Germany, France, Italy and the
           --------------------                                              
United Kingdom.

          "Manufacturing Party" means the Party who is from time to time
           -------------------                                          
responsible for the (i) manufacturing and supply of the Licensed Products for
use during Development or (ii) commercial manufacture and supply of the Licensed
Products.

          "MD Anderson" shall mean the University of Texas/M.D. Anderson Cancer
           -----------                                                         
Center located in Houston, Texas.

          "MD Anderson Release" means the release by MD Anderson of its rights
           -------------------                                                
and claims to the PG-TXL Patent Rights as set forth in the letter dated March
11, 1997, from Charles B. Mullins, M.D. to John Mendelsohn, M.D., and to be
confirmed in a letter to be dated on or about November 16, 1998, from John
Mendelsohn, M.D. to the April 30 Licensors.

          "Necessary Third Party Intellectual Property" shall mean Third Party
           -------------------------------------------                        
intellectual property which CTI, in its good faith judgment and with prior
consultation with PG-TXL, determines to be necessary and required to make, use,
sell, offer for sale or import Licensed Products.

          "Net Sales" means the amount invoiced by a Party, its Affiliates or
           ---------                                                         
its sublicensees from sales of the Licensed Products to Third Parties in the
Territory, less reasonable and customary deductions applicable to the Licensed
Products for

                                       4.

<PAGE>
 
(i) transportation charges and charges such as insurance for goods in transit,
relating thereto paid by the selling party; (ii) sales and excise taxes or
customs duties paid by the selling party and any other governmental charges
imposed upon the sales of Licensed Products and paid by the selling party; (iii)
distributors' fees, rebates or allowances actually granted, allowed or incurred;
(iv) quantity discounts, cash discounts or chargebacks actually granted, allowed
or incurred in the ordinary course of business in connection with the sale of
the Licensed Products; (v) allowances or credits to customers, not in excess of
the selling price of the Licensed Products, on account of governmental
requirements, rejection, outdating, recalls or return of the Licensed Products;
(vi) any amount required to be paid for Necessary Third Party Intellectual
Property, and (vii) amounts actually charged for bad debts in connection with
sales of Licensed Products.  Sales of the Licensed Products between a Party and
its Affiliates or sublicensees solely for research or clinical testing purposes
shall be excluded from the computation of Net Sales.  Net Sales will be
accounted for in accordance with U.S. accounting standards consistently applied.
If Necessary Third Party Intellectual Property is purchased, for the purposes of
subclause (vi) the purchase price thereof shall be amortized over the remaining
life of the PG-TXL Patent Rights and the amount thereof charged quarterly in
computing Net Sales over the amortization period.  If Necessary Third Party
Intellectual Property is licensed, the royalties payable with regard thereto for
the relevant period shall be deducted in computing Net Sales.

          "Patent" means (i) valid United States and foreign patents, re-
           ------                                                       
examinations, reissues, renewals, extensions, term restorations, divisionals,
continuations and continuations-in-part thereof, and foreign counterparts
thereof, and (ii) pending applications for United States and foreign patents and
foreign counterparts thereof.

          "Patent Expenses" means the fees, expenses and disbursements and
           ---------------                                                
outside counsel fees, and payments to Third Party agents incurred in connection
with the preparation, filing, prosecution and maintenance of the PG-TXL Patent
Rights covering the Licensed Products, including costs of patent interference
and opposition proceedings and actions at law and equity for patent infringement
and any sums paid to Third Parties on account of judgments or settlements
arising out of Third Party patent claims (other than such judgments or
settlements resulting in the payment of royalties).

          "PG-TXL Know-How" means Information which is within the Control of PG-
           ---------------                                                     
TXL and relates to the research, development, manufacture, use, importation,
sale or offer for sale of Licensed Products or potential Licensed Products,
including the use of the PG-TXL Patent Rights for uses other than cancer
therapies.  Notwithstanding anything herein to the contrary, PG-TXL Know-How
shall exclude the PG-TXL Patent Rights.

          "PG-TXL Patent Rights" means collectively, all right, title and
           --------------------                                          
interest of PG-TXL in, to and under the April 30 License to the Invention and
Licensed Intellectual Property, as defined therein, including:

                                       5.

<PAGE>
 
                (a) any Patent listed in Exhibit A hereto or added thereto by
written agreement of the Parties during the term of this Agreement;

                (b) any Patent application listed in Exhibit A hereto or added
thereto by written agreement of the Parties during the term of this Agreement;
and any continuations, continuations-in-part, Improvements, additions,
modifications, divisions or substitutions, of any such application; and any
Patent which shall issue based on such application, continuations, 
continuations-in-part, Improvements, additions, modifications, divisions or 
substitutions;

                (c) any Patent which is a reissue, reexamination or extension of
any Patent or any Patent application described in (a) or (b) above;

                (d) any foreign counterpart Patent application or Patent
corresponding to any Patent or Patent Application identified in (a), (b), or
(c), above which is filed or issued in any country; and

                (e) any Patent or Patent application related to or based on any
PG-TXL Know-How related to the Licensed Products or the manufacture thereof
developed or acquired by PG-TXL prior to or during the term of this Agreement
and which is necessary for the use, development, manufacture, market, sale or
distribution of any marketed Licensed Products and any division, continuation or
continuation-in-part of any such Patent or Patent application; and any Patent
which shall issue based on such application, division, continuation or
continuation-in-part; and any Patent which is a reissue, reexamination or
extension of any such Patent.

As used herein, "Patent" also includes a Supplementary Certificate of Protection
of a member state of the European Community and any other similar protective
rights in any other country.

          "Phase I Clinical Trials" means those trials on sufficient numbers of
           -----------------------                                             
normal volunteers and patients that are designed to establish that a drug is
safe for its intended use, and to support its continued testing in Phase II
Clinical Trials.

          "Phase II Clinical Trials" means those trials on sufficient numbers of
           ------------------------                                             
patients that are designed to gain evidence that a drug is effective for its
intended use in the target population within the meaning of 21 C.F.R.
(S)312.21(b).

          "Phase III Clinical Trials" has the meaning ascribed thereto in 21
           -------------------------                                        
C.F.R. (S) 312.21(c), as amended from time to time.

          "Phase IV Clinical Trials" means product support clinical trials of
           ------------------------                                          
Licensed Products commenced after receipt of Regulatory Approval in the United
States for such Licensed Products.

                                       6.

<PAGE>
 
          "Preclinical Work" means any nonclinical in vivo or in vitro
           ----------------                                           
biological work to assess the safety or efficacy of Licensed Products.

          "Regulatory Approval"  means any approvals, product and/or
           -------------------                                      
establishment licenses, registrations or authorizations of any federal, state or
local regulatory agency, department, bureau or other governmental entity,
necessary for the manufacture, use, storage, importation, export, transport or
sale of Licensed Products in a regulatory jurisdiction.

          "Royalty Percentages" shall have the meaning set forth in Section
           -------------------                                             
6.01.

          "Successful Completion" means, with respect to a Phase II or Phase III
           ---------------------                                                
Clinical Trial, that such trial has achieved each of its primary endpoints at a
level that is statistically significant.

          "Territory" means all the countries, territories and subdivisions of
           ---------                                                          
the world.

          "Third Party" means any entity other than PG-TXL or CTI and their
           -----------                                                     
respective Affiliates and sublicensees.

          "Written Disclosure" shall have the meaning set forth in Section 8.06.
           ------------------                                                   


                                   ARTICLE II

                                  DEVELOPMENT
                                  -----------

          SECTION 2.01.  Development.  CTI will be the sole party responsible
                         -----------                                         
for Development of Licensed Products and shall use commercially reasonable
efforts to develop, manufacture, promote, sell, market, distribute or use the
Licensed Products.  Such efforts shall be consistent with commercially
reasonable practices in the biotechnology industry as well as the efforts used
by CTI with respect to its own pharmaceutical products.

          SECTION 2.02.  Drug Approval Applications.  CTI, or its designee,
                         --------------------------                        
shall be responsible for preparing and filing Drug Approval Applications and
seeking Regulatory Approvals for Licensed Products in the Territory, including
preparing all reports necessary as part of a Drug Approval Application.  All
such Drug Approval Applications shall be filed in the name of CTI or its
designee, and a copy of each such Drug Approval Application shall be provided to
PG-TXL within 180 days of such filing.  CTI shall be responsible for prosecuting
such Drug Approval Applications.  In the event that any regulatory agency
threatens or initiates any action to remove Licensed Products from the market,
CTI shall notify PG-TXL of such communication within ten (10) business days of
receipt by CTI.  As between Parties, CTI shall be the legal and beneficial owner
of all Drug Approval Applications and related approvals in the Territory.

                                       7.

<PAGE>
 
          SECTION 2.03.  Costs of Development.  Unless otherwise agreed all
                         --------------------                              
Development Expenses incurred for Licensed Products shall be borne by CTI.  PG-
TXL shall not conduct any Development, nor incur Development Expenses, without
CTI's prior written consent.

          SECTION 2.04.  Exclusivity.
                         ----------- 

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          (a) The rights granted by PG-TXL to CTI under Section 4.01 shall
become non-exclusive at the option of PG-TXL, upon written notice to CTI,
effective ninety (90) days after receipt by CTI of such notice, if:  *****.

          (b) Neither PG-TXL nor any of its Affiliates shall use, Develop,
manufacture, have manufactured, market, sell, or distribute directly or
indirectly any Licensed Product in the Territory, nor aid in any of the
aforementioned activities, including through the licensing of any PG-TXL Patent
Rights or PG-TXL Know-How.  If PG-TXL or any of its Affiliates makes, uses, or
sells a product competitive with a Licensed Product in a country, or aids in any
such activities with any of their respective licensees or sublicensees, and
after written notice of breach from CTI, PG-TXL or its Affiliates fails to cease
such making, using, or selling, CTI shall not be obligated to pay royalties on
the sale of Licensed Products in such country, and may seek damages for PG-TXL's
breach hereof

          SECTION 2.05.  CTI Portfolio.  PG-TXL is aware of the fact that CTI
                         -------------                                       
is, as of the Effective Date, engaged in the discovery, development and
commercialization of products which potentially may be competitive with Licensed
Products and will continue to be so engaged after the Effective Date.  PG-TXL
agrees that nothing in this Agreement is intended to prevent or prevents CTI, in
its sole discretion, from continuing to engage in such drug discovery,
development or commercialization efforts.


                                  ARTICLE III

                                    PAYMENTS
                                    --------

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          SECTION 3.01.  License Fee Payments.  On July 2, 1998, in
                         --------------------                      
consideration of the rights granted by PG-TXL to CTI under Section 3.0 of the
June 30 Letter Agreement, CTI paid to PG-TXL a nonrefundable initial license fee
payment of *****. In consideration of the rights granted by PG-TXL to CTI
under Section 4.01 of this Agreement, CTI shall make the following remaining
license fee payments:

                                       8.

<PAGE>
 
(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)
 
                 Payment                         Due Date
                 -------                     ---------------
                 *****                       January 5, 1999
                 *****                       April 1, 1999
                 *****                       July 1, 1999

     CTI shall have no obligation to make the license fee payments specified
above; however the failure to make any payment shall, at the option of either
Party upon written notice to the other Party, terminate this Agreement effective
five (5) days after receipt of such notice by such Party.  Upon any termination,
the license granted pursuant to Section 4.01 shall terminate and CTI shall
comply with Section 12.02(e).


          SECTION 3.02.  Milestone Payments.  CTI shall make the following
                         ------------------                               
payments to PG-TXL within ten (10) business days after the first achievement of
each of the corresponding milestones (each milestone and corresponding payment
shall be a stand-alone event and shall in no way be dependent upon the
achievement of any other milestone):

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)


<TABLE>
<CAPTION>                         
                                                                             PG-TXL
                               PG-TXL                                       Milestone
                           Milestone Event                                   Payment
                           ---------------                                 -----------
              <S>                                                         <C> 
              Oncology/PG-TXL:

              Upon the earlier to occur of:                                *****

                     1.  24 months from the execution of this
                         Agreement; or

                     2.  Acceptance by the FDA for filing of the
                         first IND for a Licensed Product in
                         U.S.

              The filing with the relevant regulatory agency or            *****
              authority of the first IND application (or its
              counterpart) in the first Major Market Country 
              which accepts the filing
      
              The filing with the relevant regulatory agency or            *****     
              authority of the first IND application (or its
              counterpart) in Japan

              Successful Completion of a Phase II Clinical                 *****     
              Trial in the U.S.

              Successful Completion of a Phase II Clinical                 *****      
              Trial in a Major Market Country
</TABLE>
 

                                       9.

<PAGE>
 

<TABLE>
<CAPTION>                         
                                                                             PG-TXL
                               PG-TXL                                       Milestone
                           Milestone Event                                   Payment
                           ---------------                                 -----------
              <S>                                                          <C> 
              Successful Completion of a Phase II Clinical Trial in        *****
              Japan

              Successful Completion of a Phase III Clinical Trial in       *****     
              the U.S.

              Successful Completion of a Phase III Clinical Trial in       *****     
              a Major Market Country

              Successful Completion of a Phase III Clinical Trial in       *****     
              Japan

              Regulatory Approval for the first indication in the          *****     
              U.S.

              Regulatory Approval for the first indication in a Major      *****      
              Market Country

              Regulatory approval for the first indication in Japan        *****     

              Additional Products:

              Commencement of a Phase I Clinical Trial in the U.S.         *****      
                   for the second compound protected by the
                   PG-TXL Patent Rights

              Commencement of a Phase I Clinical Trial in the U.S.         *****      
                   for the third compound protected by the
                   PG-TXL Patent Rights
</TABLE>


(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          SECTION 3.03.  Donation to MD Anderson.  CTI shall make a 
                         -----------------------
donation for research in the amount of ***** to the Division of Diagnostic
Imaging of MD Anderson upon receipt by CTI of the first regulatory approval by
the FDA for the manufacture and sale of Licensed Products. Such donation shall
be made within ten (10) days of receipt of such regulatory approval by CTI. 
 
(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          SECTION 3.04.  Facilities and Administrative Expenses.   For
                         --------------------------------------   
a minimum three (3) year period, CTI shall reimburse PG-TXL for the cost of
reasonable office space and office support facilities in the Houston area for
use by PG-TXL and CTI personnel in an amount not to exceed ***** per year.

                                      10.

<PAGE>
 
                                  ARTICLE IV

                                   LICENSES
                                   --------

          SECTION 4.01.  Patent License to CTI.
                         --------------------- 

          (a) PG-TXL grants to CTI a worldwide exclusive (even as to PG-TXL)
license, with all rights to sublicense, under the PG-TXL Patent Rights and the
PG-TXL Know-How to use, develop, manufacture, have manufactured, market, sell,
offer to sell, import, export and distribute Licensed Products in the Territory.

          (b) A list of the PG-TXL Patent Rights identified as of the Effective
Date is set forth on Exhibit A.  Such list shall be modified from time to time
to reflect any changes to PG-TXL Patent Rights and shall be expanded from time
to time to include any Patents owned or Controlled by PG-TXL relevant to the
Development or Commercialization of Licensed Products.

          SECTION 4.02.  Trademark Assignment to CTI.
                         --------------------------- 

          (a) PG-TXL hereby transfers and assigns to CTI all of its right, title
and interest in and to the trademark "PG-TXL" to be used by CTI in connection
with the development, commercialization, sales and marketing of Licensed
Products; provided that PG-TXL shall retain the right to use the trademark "PG-
TXL" in connection with its limited partnership name.  Upon sixty (60) days
prior notice to PG-TXL by CTI, PG-TXL will change its partnership name to one
not containing "PG-TXL."

          (b) PG-TXL makes no warranty regarding its right, title or interest in
or to the trademark "PG-TXL."

          SECTION 4.03.     Third Party Technology.
                            ---------------------- 

          (a) Existing Licenses.  The licenses granted under Section 4.01
              -----------------                                          
include sublicenses of Third Party technology existing on the Effective Date and
licensed to PG-TXL to the extent that such sublicenses can be so granted,
subject to the terms and conditions of the license agreement pursuant to which
the sublicense is granted.  As of the Effective Date hereof, the April 30
License is the only such agreement in place.  PG-TXL shall be solely responsible
for any and all payments required to be made under the April 30 License.

          (b) Necessary Third Party Intellectual Property.  CTI shall have the
              -------------------------------------------                     
right to obtain (whether by license or purchase from Third Parties) Necessary
Third Party Intellectual Property.  CTI shall give PG-TXL, to the extent
practicable, at least thirty (30) days notice of its intention to obtain
Necessary Third Party Intellectual Property, and the terms upon which CTI
prepares to obtain such property.  If PG-TXL does not agree that obtaining such
property is required to make, use, sell, offer for sale or import Licensed

                                      11.

<PAGE>
 
Products, PG-TXL shall, within ten (10) days after receipt of such notice,
inform CTI in writing of the basis for its disagreement, setting forth in
reasonable detail the reasons for its disagreement.  Regardless of whether the
parties are in agreement, CTI shall be free to obtain such property.  If PG-TXL
does not agree that such property is required for CTI to make, use, sell, offer
for sale or import Licensed Products, the issue shall be referred to arbitration
in accordance with Section 15.11 hereof.  The question which the arbitrator(s)
shall decide is whether the property is required for CTI to make, use, sell,
offer for sale or import Licensed Products.  If the arbitrator(s) decide in
CTI's favor, then the purchase price or royalty, as the case may be, shall be
deducted when computing Net Sales as set forth in the definition of Net Sales
under Section 1.01 hereof; otherwise such costs shall not be deducted when
computing Net Sales.


                                   ARTICLE V

                               COMMERCIALIZATION
                               -----------------

          SECTION 5.01.  CTI as Sole Marketing Party.  CTI, or its designees,
                         ---------------------------                         
will be the sole marketing Party with respect to Licensed Products in the
Territory, and as a result, shall be responsible for carrying out
Commercialization in the Territory.

          SECTION 5.02.  Commercialization Efforts.  CTI agrees to use
                         -------------------------                    
commercially reasonable efforts with respect to the Commercialization of
Licensed Products throughout the Territory provided for hereunder.  Such
commercially reasonable efforts shall be consistent with the efforts used by CTI
in preparing commercialization plans and budgets and commercializing its own
pharmaceutical products.

          SECTION 5.03.  Tax Considerations.  Either Party may take advantage of
                         ------------------                                     
tax considerations which benefit it and not the other Party.  In the event that
a Party takes advantage of a tax consideration in connection with Licensed
Products which benefits it and not the other Party, no compensation to the other
Party shall be required, provided that no negative tax implication for the other
                         --------                                               
Party may be an element of such tax benefit.


                                   ARTICLE VI

                                   ROYALTIES
                                   ---------

          SECTION 6.01.  Royalties.  In further consideration of the rights and
                         ---------                                             
licenses granted to CTI under Article IV of this Agreement, CTI shall pay to PG-
TXL the following royalties based on the Net Sales of Licensed Products in the
Territory (the "Royalty Percentages"):
                -------------------   

                                      12.

<PAGE>
 
(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)
 

<TABLE> 
               Cumulative Net Sales    Royalty Percentage
               --------------------    ------------------
               <S>                     <C>  
               Less than $50 million        *****
               $50 million - $150 million   *****
               Greater than $150 million    *****
</TABLE>
 

          If a Licensed Product is made and sold in any country in which CTI
does not have valid patent coverage which would prevent the sale of a generic
form of such Licensed Product, the Royalty Percentage set forth above with
respect to Net Sales attributable to the sale of such Licensed Product in such
country shall be reduced by ***** of the Royalty Percentage that would
otherwise be payable with respect to Net Sales attributable to the sale of
such Licensed Product in such country, until CTI is granted such valid and
enforceable patent coverage of such Licensed Product in such country.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          (a) Royalty Term.  All royalties to a Party shall be paid, on a
              ------------                                               
country-by-country basis, from the date of the First Commercial Sale of each
Licensed Product in a particular country until the later of *****.

          (b) Discontinuance.  Subject to the provisions of, and obligations of
              --------------                                                   
CTI under, Article XII, CTI may discontinue Commercialization of Licensed
Products at any time.

          (c) License Following Expiration.  Upon expiration of the royalty term
              ----------------------------                                      
for Licensed Products in the country as described above, CTI shall thereafter
have an exclusive (even as to PG-TXL), paid-up license to PG-TXL Know-How to
make, have made, use, sell, offer for sale, have sold and import that Licensed
Products in that country.  In such event, CTI shall retain responsibility for,
and indemnify PG-TXL from, the payment of all applicable royalties and other
obligations owed to a Third Party with respect to Licensed Products.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          SECTION 6.02.  Royalty Reports and Payments.  CTI shall make royalty
                         ----------------------------                         
payments to PG-TXL within ***** days after the end of each calendar quarter
in which Net Sales occurred. A report summarizing the Net Sales of Licensed
Products during the relevant quarter on a country-by-country basis shall be
delivered to PG-TXL within ***** days following the end of each calendar
quarter for which royalties are due.  The final quarterly payment of every
calendar year will include any additional payment or relevant credit to account
for any difference in actual annual Net Sales for the applicable calendar year
and the prior year's annual Net Sales.

          SECTION 6.03.  Payments; Interest.  Any payments due under this
                         ------------------                              
Agreement shall be due on such date as specified in this Agreement and, in the
event such date is a day on which commercial banks are not authorized to conduct
business in either Houston, Texas,

                                      13.

<PAGE>
 
or Seattle, Washington, then the next succeeding business day, and shall be made
by wire transfer to a designated bank account of the receiving Party.

          Any failure by a Party to make a payment within five (5) days after
the date when due shall obligate such Party to pay interest to the receiving
Party at a rate per annum equal to the prime rate as quoted in the Eastern
edition of the Wall Street Journal as of the date such payment is due and, in
the event such a rate is not quoted on such date then on the immediately
preceding date such rate is quoted, such interest due and payable upon the
payment of principal otherwise due and payable.

          SECTION 6.04.  Taxes.  The Party receiving royalties shall pay any and
                         -----                                                  
all taxes levied on account of royalties it receives under this Agreement.  If
laws or regulations require that taxes be withheld, the Party paying royalties
will (i) deduct those taxes from the remittable royalty, (ii) timely pay the
taxes to the proper taxing authority, and (iii) send proof of payment to the
other Party within thirty (30) days of receipt of confirmation of payment from
the relevant taxing authority.  The Party paying royalties agrees to take all
lawful and reasonable efforts to minimize such taxes to the other Party.

          SECTION 6.05.  Payments to or Reports by Affiliates.  Any payment
                         ------------------------------------              
required under any provision of this Agreement to be made to either Party or any
report required to be made by any Party shall be made to or by an Affiliate of
that Party if designated by that Party as the appropriate recipient or reporting
entity without relieving such party from responsibility for such payment or
report.

          SECTION 6.06.  Payment Currency.  Payments by CTI under this Agreement
                         ----------------                                       
shall be paid to PG-TXL in U.S. dollars by wire transfer of immediately
available funds to an account at a commercial bank designated by PG-TXL pursuant
to this Article VI at least ten (10) business days before payment is due.  Where
payments are based on Net Sales in countries other than the United States, the
amount of such Net Sales expressed in the currency of each country shall be
converted first into the then-applicable European currency, and then into U.S.
dollars at the average exchange rate (calculated at the average of the "bid" and
"asked" exchange rate) for the applicable quarter.  In determining the average
exchange rate for any quarter, the standard shall be fifty percent (50%) of the
sum of (i) the rate quoted by Reuters (or a different independent wire service
providing international spot exchange rates as agreed to by the Parties) in New
York at 1:00 p.m. on the last business day of the applicable quarter; plus (ii)
the rate quoted by Reuters (or the approved successor service) in New York at
1:00 p.m. on the last business day of the quarter immediately preceding the
applicable quarter.

                                      14.

<PAGE>
 
                                  ARTICLE VII

                         MANUFACTURE, SALES AND SUPPLY
                         -----------------------------

          SECTION 7.01.  Manufacture and Supply of Licensed Products by CTI.
                         --------------------------------------------------  
CTI shall be the sole Party responsible for the manufacture, sale and supply of
Licensed Products and shall use commercially reasonable efforts to manufacture,
sell, market and supply Licensed Products (or arrange for such manufacture and
supply) to meet demand for Licensed Products throughout the Territory.  PG-TXL
shall provide reasonable assistance to CTI with respect to the transfer of all
manufacturing capabilities from PG-TXL (or its subcontractors) to CTI.

          SECTION 7.02.  Regulatory Approval for Manufacturing.  CTI will use
                         -------------------------------------               
commercially reasonable efforts to make necessary filings to obtain, or to cause
a Third Party manufacturer to make necessary filings to obtain, Regulatory
Approval for the manufacture of each Licensed Product as part of the approval of
a Drug Approval Application for such Licensed Product.


                                  ARTICLE VIII

                                CONFIDENTIALITY
                                ---------------

          SECTION 8.01.  Confidentiality; Exceptions.  Except to the extent
                         ---------------------------                       
expressly authorized by this Agreement or otherwise agreed in writing, the
Parties agree that the receiving Party shall keep confidential and shall not
publish or otherwise disclose or use for any purpose other than as provided for
in this Agreement: (i) any Information or other information and materials
furnished to it by the other Party pursuant to this Agreement, (ii) any
Information developed during the course of the collaboration hereunder, or (iii)
any provisions of this Agreement that may become the subject of an effective
order of the Securities and Exchange Commission granting confidential treatment
pursuant to the Securities Act of 1934, as amended  (collectively, "Confidential
                                                                    ------------
Information"), except to the extent that it can be established by the receiving
- -----------                                                                    
Party that such Confidential Information:

          (a) was already known to the receiving Party, other than under an
obligation of confidentiality, at the time of disclosure by the other Party;

          (b) was generally available to the public or otherwise part of the
public domain at the time of its disclosure to the receiving Party;

          (c) became generally available to the public or otherwise part of the
public domain after its disclosure and other than through any act or omission of
the receiving Party in breach of this Agreement;

                                      15.

<PAGE>
 
          (d) was disclosed to the receiving Party, other than under an
obligation of confidentiality, by a Third Party who had no obligation to the
disclosing Party not to disclose such information to others; or

          (e) was independently discovered and/or developed by the receiving
Party as documented in its corporate records.

          SECTION 8.02.  Authorized Disclosure.  Each Party may disclose
                         ---------------------                          
Confidential Information hereunder to the extent such disclosure is reasonably
necessary in filing or prosecuting patent applications, prosecuting or defending
litigation, filing or updating any Drug Approval Application, complying with
applicable governmental regulations or conducting pre-clinical or clinical
trials, provided that if a Party is required by law or regulation to make any
such disclosures of the other Party's Confidential Information it will, except
where impracticable for necessary disclosures, for example in the event of
medical emergency, give reasonable advance notice to the other Party of such
disclosure requirement and, except to the extent inappropriate in the case of
patent applications, will use its reasonable efforts to secure confidential
treatment of such Confidential Information required to be disclosed.  In
addition, and with prior notice to the other Party of each Third Party with whom
a confidential disclosure agreement is being entered into, each Party shall be
entitled to disclose, under a binder of confidentiality, Confidential
Information to any Third Party for the purpose of carrying out the purposes of
this Agreement.  Nothing in this Article VIII shall restrict any Party from
using for any purpose any Confidential Information independently developed by it
during the course of the collaboration hereunder, or from using Confidential
Information that is specifically derived from pre-clinical or clinical trials to
carry out Regulatory Approval, marketing, sales or professional services support
functions as is customary in the pharmaceutical industry.

          SECTION 8.03.  Survival.  This Article VIII shall survive the
                         --------                                      
termination or expiration of this Agreement.

          SECTION 8.04.  Termination of Prior Agreement.  This Agreement
                         ------------------------------                 
supersedes the Secrecy Agreement between PG-TXL and CTI dated as of January 14,
1997, and the Letter Agreement between PG-TXL and CTI dated June 30, 1998.

          SECTION 8.05.  Publications.  Prior to the launch of Licensed Products
                         ------------                                           
in the Territory, CTI will determine the overall strategy for publication in
support of Licensed Products in the Territory.  Notwithstanding any term of
Section 8.06 below, the Parties recognize the need for scientific publications
pertaining to development of Licensed Products and the Parties will cooperate
with each other to provide for such publications.  The Parties will use
reasonable efforts to obtain the voluntary consent of any Third Party granted
publication rights related to Licensed Products prior to the Effective Date to
comply with reasonable notice and timing requests and will promptly review any
publications delivered for review.

                                      16.

<PAGE>
 
          SECTION 8.06.  Publicity Review.  Subject to Section 11.02 and the
                         ----------------                                   
further provisions of this Section 8.06, PG-TXL shall not originate any written
publicity, news release, or other announcement or statement relating to this
Agreement or to performance hereunder or the existence of an arrangement between
the Parties (collectively, "Written Disclosure"), without the prior prompt
                            ------------------                            
review and written approval of CTI, which approval shall not be unreasonably
withheld or delayed.  Notwithstanding the foregoing provisions of this Section
8.06, PG-TXL may make any public Written Disclosure it believes in good faith
based upon the advice of counsel is required by applicable law, provided that
prior to making such Written Disclosure, PG-TXL shall provide CTI with a copy of
the materials proposed to be disclosed at least thirty (30) days prior to (i)
submission for publication or (ii) disclosure to a Third Party.  CTI shall, not
more than thirty (30) days after the receipt of any such proposed publication or
disclosure from PG-TXL, submit its suggestions, comments or objections, if any,
to PG-TXL.  Any confidential matter as determined by CTI shall be deleted.  In
the event CTI believes patentable subject matter is disclosed in such data or
information it shall, within twenty (20) days of its receipt thereof, notify PG-
TXL and publication or disclosure will thereupon be withheld until CTI files a
patent application thereon, or until CTI reasonably determines after sufficient
investigation that no patentable invention exists, whichever period is shorter.
The terms of this Agreement may also be disclosed by PG-TXL to (i) government
agencies where required by law, or (ii) Third Parties with the prior written
consent of CTI, which consent shall not be unreasonably withheld or delayed, so
long as such disclosure is made under a binder of confidentiality and so long as
highly sensitive terms and conditions such as financial terms are extracted from
the Agreement or not disclosed upon the request of CTI.  All Written Disclosures
shall be factual and as brief as is reasonable under the circumstances.  Upon
request by CTI, PG-TXL agrees to prepare a mutually agreed press release and
question and answer document with respect to this Agreement.  PG-TXL agrees that
it will use reasonable efforts to cause all Written Disclosures and oral
statements relating hereto to be consistent with the answers specified in such
question and answer document.


                                   ARTICLE IX

              OWNERSHIP OF INTELLECTUAL PROPERTY AND PATENT RIGHTS
              ----------------------------------------------------

          SECTION 9.01.  Patent Prosecution.
                         ------------------ 

          (a) CTI shall be responsible for and have sole control over all Patent
prosecution hereunder.

          (b) CTI shall file, prosecute and maintain all U.S. and foreign Patent
applications identified on Exhibit A and resulting Patents by counsel of its
choice on behalf of PG-TXL.  CTI shall use its best efforts to ensure that the
PG-TXL Patent Rights are developed and maintained; CTI shall promptly provide
PG-TXL with copies of relevant documentation so that PG-TXL may be informed of
the continuing prosecution.

                                      17.

<PAGE>
 
          (c) In the event PG-TXL, pursuant to Section 2.04(a), converts the
rights granted by PG-TXL to CTI under Section 4.01 from exclusive to non-
exclusive and, thereafter, grants additional licenses under the Patent Rights to
Third Parties, such prosecution and maintenance-related expenses going forward
will be shared equally between CTI and all such Third Party licensees.

          (d) PG-TXL shall execute and deliver such documents and take such
other actions as CTI reasonably may request in connection with the preparation,
filing, prosecution and maintenance of any such Patent or Patent application
identified in Exhibit A.

          SECTION 9.02.  Third Party Patent Rights.  Each Party agrees to bring
                         -------------------------                             
to the attention of the other Party any Third Party Patent it discovers, or has
discovered, and which relates to the subject matter of this Agreement.

          SECTION 9.03.  Enforcement Rights.
                         ------------------ 

          (a) Notification of Infringement.  If either Party learns of any
              ----------------------------                                
infringement or threatened infringement by a Third Party of the PG-TXL Patent
Rights, such Party shall promptly notify the other Party and shall provide such
other Party with all available evidence of such infringement.

          (b) Enforcement in the Territory.  CTI shall have the right, but not
              ----------------------------                                    
the obligation, to institute, prosecute and control at its own expense any
action or proceeding with respect to infringement of any PG-TXL Patent Rights
covering the manufacture, use, importation, sale or offer for sale of Licensed
Products being developed or marketed in the Territory, by counsel of its own
choice.  PG-TXL shall have the right, at its own expense, to be represented in
any action by counsel of its own choice.  If CTI fails to bring an action or
proceeding or otherwise take appropriate action to abate such infringement
within a period of one hundred eighty (180) days of notice by PG-TXL to CTI
requesting action, PG-TXL will have the right to bring and control any such
action or proceeding relating to PG-TXL Patent Rights by counsel of its own
choice and CTI will have the right to be represented in any such action by
counsel of its own choice and at its own expense.  If one Party brings any such
action or proceeding, the other Party agrees to be joined as a party plaintiff
if necessary to prosecute the action or proceeding and to give the first Party
reasonable assistance and authority to file and prosecute the suit.  Any damages
or other monetary awards recovered pursuant to this Section 9.03(b) shall be
allocated first to the costs and expenses of the Party bringing suit, then to
the costs and expenses, if any, of the other Party.  Such allocation of costs
and expenses shall be deducted first from compensatory damages and then from
punitive and exemplary damages.  In the event that CTI brings such action, any
amounts remaining shall be distributed as follows: compensatory damages shall be
treated as Net Sales in the country and calendar quarter received and punitive
and exemplary damages shall be paid equally to CTI and PG-TXL.  In the event
that PG-TXL brings such action, one hundred percent (100%) of any amounts
remaining shall be payable to PG-TXL.

                                      18.

<PAGE>
 
          (c) Settlement with a Third Party.  The Party that controls the
              -----------------------------                              
prosecution of a given action shall also have the right to control settlement of
such action; provided, however, that if one Party controls, no settlement shall
             --------  -------                                                 
be entered into without the written consent of the other Party (which consent
shall not be unreasonably withheld) if such settlement would materially and
adversely affect the interests of such other Party.

          SECTION 9.04.  Defense and Settlement of Third Party Claims.  If a
                         --------------------------------------------       
Third Party asserts that a patent, trademark or other intangible right owned by
it is infringed by any Licensed Products in the Territory, CTI will be solely
responsible for defending against any such assertions at its cost and expense.
The costs of any such settlement (including, without limitation, damages,
expense reimbursements, compliance, future royalties or other amounts) shall be
paid exclusively by CTI.

          SECTION 9.05.  Patent Expenses.  CTI shall be obligated to pay all
                         ---------------                                    
worldwide Patent Expenses subject to the terms of this Agreement.  CTI shall
promptly reimburse PG-TXL for all Patent Expenses undertaken by PG-TXL at CTI's
request subsequent to the execution of this Agreement.

          SECTION 9.06.  Trademarks.  CTI shall be responsible for the
                         ----------                                   
selection, registration and maintenance of all trademarks which it employs in
connection with Licensed Products and shall own and control such trademarks (and
pay any costs in connection therewith).  PG-TXL recognizes the exclusive
ownership by CTI of any proprietary CTI name, logotype or trademark furnished by
CTI (including CTI's Affiliates) for use in connection with Licensed Products.
PG-TXL shall not, either while this Agreement is in effect, or at any time
thereafter, register, use or attempt to obtain any right in or to any such name,
logotype or trademark or in and to any name, logotype or trademark confusingly
similar thereto.


                                   ARTICLE X

                         REPRESENTATIONS AND WARRANTIES
                         ------------------------------

          SECTION 10.01.  Representations and Warranties.
                          ------------------------------ 

          (a) Each of the Parties hereby represents and warrants to the other
Party that this Agreement is a legal and valid obligation binding upon such
Party and enforceable in accordance with its terms.  The execution, delivery and
performance of the Agreement by such Party does not conflict with any agreement,
instrument or understanding, oral or written, to which it is a party or by which
it is bound, nor violate any law or regulation of any court, governmental body
or administrative or other agency having jurisdiction over it.

          (b) PG-TXL hereby represents and warrants to CTI as follows:

                                      19.

<PAGE>
 
               (i)   PG-TXL has not, and during the term of the Agreement
     neither Party will, (x) grant any right to any Third Party relating to the
     PG-TXL Patent Rights and to PG-TXL Know-How which would conflict with the
     rights granted to either Party hereunder, and (y) to the best of its
     knowledge neither Party is employing (as an employee or consultant) any
     person that has been debarred by the FDA.

               (ii)  To the best of its knowledge PG-TXL is not obligated
     under any agreement as of the Effective Date to pay any Third Party
     royalties with respect to Licensed Products other than (A) royalties owed
     by PG-TXL to MD Anderson in accordance with the terms of the MD Anderson
     Release and (B) royalties owed by PG-TXL to the Licensors under the April
     30 License. As of the Effective Date there are no such agreements in place
     other than the agreements comprising the MD Anderson Release and the April
     30 License.

               (iii) PG-TXL has given CTI access to all of its laboratory,
     pre-clinical and clinical records and all other data generated by Third
     Parties on behalf of PG-TXL regarding Licensed Products in existence as of
     the Effective Date.

               (iv)  As of the Effective Date, except as it may have
     previously disclosed to CTI in writing or otherwise, PG-TXL has not
     received any notices of infringement or any written communications relating
     in any way to a possible infringement with respect to any PG-TXL Patent
     Rights.

               (v)   Neither PG-TXL nor any of its employees have
     misappropriated any trade secrets with respect to the PG-TXL Know-How or
     PG-TXL Patent Rights.


          SECTION 10.02.  Performance by Affiliates of CTI.  PG-TXL recognizes
                          --------------------------------                    
that CTI may perform some or all of its obligations under this Agreement through
Affiliates, provided, however, that CTI shall remain responsible for and be a
            --------  -------                                                
guarantor of the performance by its Affiliates and shall cause its Affiliates to
comply with the provisions of this Agreement in connection with such
performance.


                                   ARTICLE XI

                            INFORMATION AND REPORTS
                            -----------------------

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          SECTION 11.01.  Records of Revenues and Expenses.
                          -------------------------------- 

          (a) CTI will maintain complete and accurate records which are relevant
to revenues, costs, expenses and payments on a country-by-country basis under
this Agreement and such records shall be open during reasonable business hours
for a period of *****

                                      20.

<PAGE>
 
years from creation of individual records for examination at PG-TXL's expense
and not more often than once each year by a certified public accountant selected
by PG-TXL, or PG-TXL's internal accountants unless CTI reasonably objects to the
use of such internal accountants, for the sole purpose of verifying for PG-TXL
the correctness of calculations and classifications of such revenues, costs,
expenses or payments made under this Agreement.  Each Party shall bear its own
costs related to such audit; provided that, for any underpayments greater than
                             --------                                         
***** by CTI, CTI shall pay PG-TXL the amount of underpayment, interest as
provided for in Section 6.03 from the time the amount was due and PG-TXL's out-
of-pocket expenses. For any underpayments less than ***** by CTI found under
this Section 11.01, CTI shall pay PG-TXL the amount of underpayment. Any
overpayments by CTI will be refunded to CTI or credited to future royalties, at
CTI's election. Any records or accounting information received from the other
Party shall be Confidential Information for purposes of Article VIII. Results of
any such audit shall be provided to both Parties, subject to Article VIII.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the
Commission).

          (b) If there is a dispute between the Parties following any audit
performed pursuant to Section 11.01(a), either Party may refer the issue (an
                                                                            
"Audit Disagreement") to an independent certified public accountant for
- -------------------                                                    
resolution.  In the event an Audit Disagreement is submitted for resolution by
either Party, the Parties shall comply with the following procedures:

               (i)   The Party submitting the Audit Disagreement for
     resolution shall provide written notice to the other Party that it is
     invoking the procedures of this Section 11.01(b).

               (ii)  Within thirty (30) business days of the giving of such
     notice, the Parties shall jointly select a recognized international
     accounting firm to act as an independent expert to resolve such Audit
     Disagreement.

               (iii) The Audit Disagreement submitted for resolution shall be
     described by the Parties to the independent expert, which description may
     be in written or oral form, within ten (10) business days of the selection
     of such independent expert.

               (iv)  The independent expert shall render a decision on the
     matter as soon as practicable.

               (v)   The decision of the independent expert shall be final
     and binding unless such Audit Disagreement involves alleged fraud, breach
     of this Agreement or construction or interpretation of any of the terms and
     conditions hereof.

               (vi)  All fees and expenses of the independent expert,
     including any third party support staff or other costs incurred with
     respect to carrying out the procedures specified at the direction of the
     independent expert in connection with such 

                                      21.

<PAGE>
 
     Audit Disagreement, shall be borne by CTI in the event that a discrepancy
     of more than ***** results from such decision, and by the Parties equally
     in all other cases.

          SECTION 11.02.  Use of Names.  Neither Party shall use the name of the
                          ------------                                          
other Party in relation to this transaction in any public announcement, press
release or other public document without the written consent of such other
Party, which consent shall not be unreasonably withheld or delayed; provided,
                                                                    -------- 
however, that either Party may use the name of the other Party in any document
- -------                                                                       
filed with any regulatory agency or authority, including the FDA and the
Securities and Exchange Commission.  PG-TXL agrees not to use the name "CTI" in
relation to this transaction in any press release, public announcement or other
public document without the approval of CTI, which approval shall not be
unreasonably withheld or delayed.


                                  ARTICLE XII

                              TERM AND TERMINATION
                              --------------------

          SECTION 12.01.  Term.  This Agreement shall commence as of the
                          ----                                          
Effective Date and, unless sooner terminated as provided herein shall continue
in effect until no royalties are payable under Article VI hereunder to PG-TXL.

          SECTION 12.02.  Termination.
                          ----------- 

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          (a) Notwithstanding any other provision herein, CTI may terminate this
Agreement on a country-by-country basis or in its entirety (i) upon *****
days advance written notice to PG-TXL in the event issues regarding the safety
of Licensed Products arise during Development or clinical data obtained reveal a
materially adverse tolerability profile for Licensed Products in humans; or (ii)
for any reason upon ***** days advance written notice.

          (b) Notwithstanding any other provision herein, either Party may
terminate this Agreement pursuant to Section 3.01, on a country-by-country basis
or in its entirety, if CTI shall fail to make any license fee payment as set
forth in Section 3.01.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          (c) Failure by CTI or PG-TXL to comply with any other of the
respective material obligations and conditions contained in this Agreement shall
entitle the other Party to give the Party in default notice requiring it to cure
such default.  If such default is not cured within ***** days after
receipt of such notice, the notifying Party shall be entitled (without prejudice
to any of its other rights conferred on it by this Agreement) to terminate this
Agreement or in the event of an uncured material breach by PG-TXL, effect the
rights of CTI set forth in Section 12.02(e) by giving a notice to take effect
immediately.  Notwithstanding the foregoing, in the event of a non-monetary
default, if the default is not

                                      22.

<PAGE>
 
reasonably capable of being cured within the ***** day cure period by the
defaulting Party and such defaulting Party is making a good faith effort to cure
such default, the notifying Party may not terminate this Agreement, provided,
                                                                    -------- 
however, that the notifying Party may terminate this Agreement if such default
- -------                                                                       
is not cured within ***** days of such original notice of
default.  The right of either Party to terminate this Agreement as hereinabove
provided shall not be affected in any way by its waiver of, or failure to take
action with respect to any previous default.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          (d) In the event that one of the Parties hereto shall go into
liquidation, a receiver or a trustee be appointed for the property or estate of
that Party and said receiver or trustee is not removed within ***** days,
or the Party makes an assignment for the benefit of creditors (collectively, a
"Bankruptcy Event"), and whether any of the aforesaid Bankruptcy Events be the
- -----------------                                                             
outcome of the voluntary act of that Party, or otherwise, the other Party shall
be entitled to terminate this Agreement (or in the event PG-TXL suffers such a
Bankruptcy Event, CTI may effect its rights described in Section 12.02(e)
forthwith by giving a written notice to PG-TXL).

          (e) In the event that this Agreement is terminated by CTI in one or
more countries or in its entirety in accordance with Section 12.02(a), and in
the event that the Agreement is terminated by either Party in its entirety in
accordance with Sections 12.02(b) or (c) hereof, CTI will with respect to each
country for which the termination applies entirely:

               (i)   deliver to PG-TXL the PG-TXL Know-How and assign to PG-
     TXL CTI's rights in said PG-TXL Know-How and PG-TXL Patent Rights if any,
     in either case relating solely to the country that is the subject of the
     termination;

               (ii)  not commercialize a product incorporating the PG-TXL
     Know-How in such country;

               (iii) not infringe any of the PG-TXL Patent Rights in such
     country;

               (iv)  make all payments accrued under this Agreement with
     respect to such country prior to the effective termination date;

               (v)   transfer all regulatory filings and approvals related to
     Licensed Products in such country to PG-TXL upon PG-TXL's written request
     for same;

               (vi)  transfer to PG-TXL responsibility for and control of
     ongoing work of CTI related to Licensed Products, Affiliates and Third
     Parties in an expeditious and orderly manner with the costs for such work
     assumed by PG-TXL as of the date of notice;

                                      23.

<PAGE>
 
               (vii)  reconvey to PG-TXL all rights to the trademark for 
     "PG-TXL" granted pursuant to Section 4.02; and

               (viii) sell to PG-TXL, at any time within ninety (90) days of
     such termination, at PG-TXL's election, all or any portion of the inventory
     of Licensed Products owned by CTI or its Affiliates which are intended for
     sale in such country at a price equal to CTI's or its Affiliate's cost
     (which, if CTI is the manufacturing party, will be CTI's labor and material
     cost without further markup) for such inventory.  Such election shall be
     made by PG-TXL in writing and within thirty (30) days of such election, CTI
     shall ship at PG-TXL's cost and direction such inventory to PG-TXL.  PG-TXL
     shall pay for such inventory within forty-five (45) days of receipt of such
     inventory.

          (f) In the event of a Bankruptcy Event related to PG-TXL, CTI may
elect in lieu of terminating this Agreement to declare the license granted
pursuant to this Agreement to be irrevocable.  From the date of receipt of
notice of such election, PG-TXL shall have no further rights or obligations
under this Agreement, except that PG-TXL may enforce any financial obligations
of CTI, including those arising under Articles III and VI herein before or after
such election.

          (g) Except where expressly provided for otherwise in this Agreement,
termination of this Agreement shall not relieve the Parties hereto of any
liability, including any obligation to make payments hereunder, which accrued
hereunder prior to the effective date of such termination, nor preclude any
Party from pursuing all rights and remedies it may have hereunder or at law or
in equity with respect to any breach of this Agreement nor prejudice any Party's
right to obtain performance of any obligation.

          SECTION 12.03.  Surviving Rights.  The rights and obligations set
                          ----------------                                 
forth in this Agreement shall extend beyond the term or termination of the
Agreement only to the extent expressly provided for herein, or the extent that
the survival of such rights or obligations are necessary to permit their
complete fulfillment or discharge.


                                  ARTICLE XIII

                                INDEMNIFICATION
                                ---------------

          SECTION 13.01.  Indemnification.  With respect to Licensed Products
                          ---------------                                    
(determined on a country by country basis):

          (a) Except as provided in Article 13.01(b), CTI hereby agrees to save,
defend and hold PG-TXL and its agents and employees harmless from and against
any and all suits, claims, actions, demands, liabilities, expenses and/or
losses, including reasonable legal expenses and attorneys' fees (collectively,
"Losses"), resulting from the commercial
- -------                                 

                                      24.

<PAGE>
 
sale of Licensed Products except to the extent such Losses result from the
negligence or willful misconduct of PG-TXL or the infringement by PG-TXL (due to
actions taken by PG-TXL prior to the Effective Date) of Third Party intellectual
property rights, in which case PG-TXL hereby agrees to save, defend and hold CTI
and its agents and employees harmless from any and all such Losses.

          (b) Except as provided in Article 13.01(a), CTI and PG-TXL hereby
agree to save, defend and hold the other Party and its agents and employees
harmless from and against any and all Losses resulting directly from the
Development of Licensed Products to the extent such Development was performed by
such Party except to the extent such Losses result from the negligence or
willful misconduct of the other Party, in which case such Party hereby agrees to
save, defend and hold the other Party and its agents and employees harmless from
any and all such Losses.

          (c) Each indemnified Party agrees to give the indemnifying Party
prompt written notice of any Loss or discovery of fact upon which such
indemnified Party intends to base a request for indemnification under Sections
13.01(a) or (b).  Each Party shall furnish promptly to the other copies of all
papers and official documents received in respect of any Loss.  With respect to
any Loss relating solely to the payment of money damages and which will not
result in the indemnified Party becoming subject to injunctive or other relief
or otherwise adversely affecting the business of the indemnified Party in any
manner, and as to which the indemnifying Party shall have acknowledged in
writing the obligation to indemnify the indemnified Party hereunder, the
indemnifying Party shall have the sole right to defend, settle or otherwise
dispose of such Loss, on such terms as the indemnifying Party, in its sole
discretion, shall deem appropriate.  The indemnifying Party shall obtain the
written consent of the indemnified Party, which shall not be unreasonably
withheld or delayed, prior to ceasing to defend, settling or otherwise disposing
of any Loss if as a result thereof the indemnified Party would become subject to
injunctive or other equitable relief or any remedy other than the payment of
money, which payment would be the responsibility of the indemnifying Party.  The
indemnifying Party shall not be liable for any settlement or other disposition
of a Loss by the indemnified Party which is reached without the written consent
of the indemnifying Party, which consent shall not be unreasonably withheld or
delayed.  The reasonable costs and expenses, including reasonable fees and
disbursements of counsel incurred by any indemnified Party in connection with
any Loss, shall be reimbursed on a quarterly basis by the indemnifying Party,
without prejudice to the indemnifying Party's right to contest the indemnified
Party's right to indemnification and subject to refund in the event the
indemnifying Party is ultimately held not to be obligated to indemnify the
indemnified Party.

                                      25.

<PAGE>
 
                                 ARTICLE XIV

                      APRIL 30 LICENSE; SECURITY INTEREST

          SECTION 14.01.  April 30 License.
                          ---------------- 

          (a) PG-TXL shall cause CTI to be added to Section 9.0(i)(ii) of the
April 30 License and thereby receive copies of all notices and communications
thereunder.

          (b) PG-TXL shall not permit the April 30 License to be amended or
supplemented in any manner without CTI's prior written consent.

          (c) At any time and from time to time, CTI, on behalf of PG-TXL may
make payments owed by PG-TXL to the April 30 Licensors under the April 30
License, directly to the April 30 Licensors.

          (d) PG-TXL will comply in all respects with its obligations under the
April 30 License, and, in no event will PG-TXL make an election to reject the
April 30 License in connection with any bankruptcy, insolvency or similar
proceeding.

          SECTION 14.02.  Security Interest.
                          ----------------- 

          (a) Grant of Security Interest.  As security for the performance of
              --------------------------                                     
its obligations under this Agreement, PG-TXL hereby pledges, assigns, transfers,
hypothecates and sets over to CTI, and hereby grants to CTI a security interest
in, all of PG-TXL's right, title and interest in, to and under the April 30
License.

          (b) PG-TXL Remains Liable.  Anything herein to the contrary
              ---------------------                                  
notwithstanding, (i) PG-TXL shall remain liable under the April 30 License, to
the extent set forth therein, to perform all of its duties and obligations
thereunder to the same extent as if this Agreement had not been executed, (ii)
the exercise by CTI of any of the rights hereunder shall not release PG-TXL from
any of its duties or obligations under the April 30 License, and (iii) CTI shall
not have any obligation or liability under the April 30 License by reason of
this Agreement, nor shall CTI be obligated to perform any of the obligations or
duties of PG-TXL thereunder or to take any action to collect or enforce the
April 30 License.

          (c) Continuing PG-TXL Security Interest.  PG-TXL agrees that this
              -----------------------------------                          
Agreement shall create a continuing security interest in the April 30 License
which shall remain in effect until terminated in accordance with Article XII.

          (d) Perfection.  Within five (5) business days after execution of this
              ----------                                                        
Agreement, the parties shall file a financing statement covering this security
interest in the April 30 License substantially the form of Exhibit B hereto.
PG-TXL shall execute and deliver to CTI at any time and from time to time
thereafter, all continuation financing

                                      26.

<PAGE>
 
statements, termination statements, security agreements, documents of title,
affidavits, reports, notices, schedules of account, letters of authority and all
other documents and instruments, in form satisfactory to CTI, and take all other
action, as CTI may request, to perfect and continue perfected, maintain the
priority of or provide notice of the request, to perfect and continue perfected,
maintain the priority of or provide notice of CTI's security interest in the
April 30 License and to accomplish the purposes of this Agreement.

          (e) Remedies.  Under the terms of the security interest granted by PG-
              --------                                                         
TXL to CTI pursuant to Section 14.02 and subject to Section 12.02(c), upon
default by PG-TXL in performance under this Agreement, CTI shall be entitled to
all of the rights and remedies (and be subject to the obligations of) a secured
creditor upon default as provided in Article 9 of the Texas Uniform Commercial
Code.  Upon any foreclosure of such security interest, CTI shall owe no
fiduciary duties to the April 30 Licensors.

                                   ARTICLE XV

                                 MISCELLANEOUS
                                 -------------

          SECTION 15.01.  Assignment.
                          ---------- 

          (a) CTI may assign any of its rights or obligations under this
Agreement in any country to any of its Affiliates or to any sublicensee as
provided in Section 4.01; provided, however, that such assignment shall not
                          --------  -------                                
relieve CTI of its responsibilities for performance of its obligations under
this Agreement.

          (b) With the prior written consent of CTI, which shall not be
unreasonably withheld, PG-TXL may assign its right to receive license fee
payments under Section 3.01, milestone payments under Section 3.02, facilities
and administration expenses under Section 3.04 and royalty payments under
Section 6.01 to any of its Affiliates.

          (c) Either Party may assign its rights or obligations under this
Agreement in connection with a merger or similar reorganization or the sale of
all or substantially all of its assets, or otherwise with the prior written
consent of the other Party.  This Agreement shall survive any such merger or
reorganization of either Party with or into, or such sale of assets to, another
party and no consent for such merger, reorganization or sale shall be required
hereunder; provided, that in the event of such merger, reorganization or sale,
no intellectual property rights of the acquiring corporation shall be included
in the technology licensed hereunder.

          (d) This Agreement shall be binding upon and inure to the benefit of
the successors and permitted assigns of the Parties.  Any assignment not in
accordance with this Agreement shall be void.

                                      27.

<PAGE>
 
          SECTION 15.02.  Retained Rights.  Nothing in this Agreement shall
                          ---------------                                  
limit in any respect the right of either Party to conduct research and
development and to market products using such Party's technology other than as
herein expressly provided.

          SECTION 15.03.  Force Majeure.  Neither Party shall lose any rights
                          -------------                                      
hereunder or be liable to the other Party for damages or losses on account of
failure of performance by the defaulting Party if the failure is occasioned by
government action, war, fire, explosion, flood, strike, lockout, embargo, act of
God, or any other cause beyond the control of the defaulting Party, provided
                                                                    --------
that the Party claiming force majeure has extended all reasonable efforts to
avoid or remedy such force majeure, continues to employ such efforts and
promptly notifies the other Party of such force majeure event.

          SECTION 15.04.  Further Actions.  Each Party agrees to execute,
                          ---------------                                
acknowledge and deliver such further instruments, and to do all such other acts,
as may be necessary or appropriate in order to carry out the purposes and intent
of this Agreement.

          SECTION 15.05.  No Trademark Rights.  Except as otherwise provided
                          -------------------                               
herein, no right, express or implied, is granted by the Agreement to use in any
manner the name "CTI," or any other trade name or trademark of the other Party
or its Affiliates in connection with the performance of the Agreement.

          SECTION 15.06.  Notices.  All notices hereunder shall be in writing
                          -------                                            
and shall be deemed given if delivered personally or by facsimile transmission
(receipt confirmed in writing by the receiving Party), telexed, mailed by
registered or certified mail (return receipt requested), postage prepaid, or
sent by express courier service, to the Parties at the following addresses (or
at such other address for a Party as shall be specified by like notice; provided
                                                                        --------
that notices of a change of address shall be effective only upon receipt
thereof).

          (a)  If to PG-TXL:

               PG-TXL Company, L.P.
               3324 Pittsburgh Street
               Houston, Texas 77005
               Attention:  Sidney Wallace, M.D.

               With a copy to:

               Mayor, Day, Caldwell & Keeton, LLP
               700 Louisiana, Suite 1900
               Houston, TX 77002-2778
               Attention:  Eddy Rogers
               Telecopy:   (713) 225-7047

                                      28.

<PAGE>
 
          (b)  If to CTI:

               Cell Therapeutics, Inc.
               201 Elliott Avenue West
               Seattle, Washington 98119
               Attn:  James A. Bianco, M.D.
                      President and Chief Executive Officer

               With a copy to:

               Brobeck, Phleger & Harrison LLP
               One Market
               Spear Street Tower
               San Francisco, CA 94105
               Attention:  Michael J. Kennedy
               Telecopy:   (415) 442-1010

          SECTION 15.07.  Waiver.  Except as specifically provided for herein,
                          ------                                              
the waiver from time to time by either of the Parties of any of their rights or
their failure to exercise any remedy shall not operate or be construed as a
continuing waiver of same or any other of such Party's rights or remedies
provided in this Agreement.

          SECTION 15.08.  Severability.  If any term, covenant or condition of
                          ------------                                        
this Agreement or the application thereof to any Party or circumstances shall,
to any extent or in any country, be held to be invalid or unenforceable, then
(i) the remainder of this Agreement, or the application of such term, covenant
or condition to Parties or circumstances other than those as to which it is held
invalid or unenforceable, shall not be affected thereby and each term, covenant
or condition of this Agreement shall be valid and be enforced to the fullest
extent permitted by law; and (ii) the Parties hereto covenant and agree to
renegotiate any such term, covenant or application thereof in good faith in
order to provide a reasonably acceptable alternative to the term, covenant or
condition of this Agreement or the application thereof that is invalid or
unenforceable, it being the intent of the Parties that the basic purposes of
this Agreement are to be effectuated.

          SECTION 15.09.  Ambiguities.  Ambiguities, if any, in this Agreement
                          -----------                                         
shall not be construed against any Party, irrespective of which Party may be
deemed to have authored the ambiguous provision.

          SECTION 15.10.  Governing Law.  This Agreement shall be governed by
                          -------------                                      
and interpreted under the laws of the State of New York as applied to contracts
entered into and performed entirely in New York by New York residents.

          SECTION 15.11.  Arbitration.  The parties shall submit any dispute
                          -----------                                       
concerning this interpretation of or the enforcement of rights and duties under
this Agreement to final

                                      29.

<PAGE>
 
and binding arbitration pursuant to the American Arbitration Association.  At
the request of any party, the arbitrators, attorneys, parties to the
arbitration, witnesses, experts, court reports, or other persons present at the
arbitration shall agree in writing to maintain the strict confidentiality of the
arbitration proceedings.  Arbitration shall be conducted by a single, neutral
arbitrator, or, at the election of any party, three neutral arbitrators,
appointed in accordance with the Commercial Arbitration Rules of the American
Arbitration Association in the City of Phoenix, Arizona.  The award of the
arbitrator(s) shall be enforceable according to the applicable provisions of the
Arizona Code of Civil Procedure.  The arbitrator(s) may award damages and/or
permanent injunctive relief, but in no event shall the arbitrator(s) have the
authority to award punitive or exemplary damages.  Notwithstanding the
foregoing, a party may apply to a court of competent jurisdiction for relief in
the form of a temporary restraining order or preliminary injunction, or other
provisional remedy pending final determination of a claim through arbitration in
accordance with the paragraph.  If proper notice of any hearing has been given,
the arbitrator(s) will have full power to proceed to take evidence or to perform
any other acts necessary to arbitrate the matter in the absence of any party who
fails to appear.

          SECTION 15.12.  Headings.  The sections and paragraph headings
                          --------                                      
contained herein are for the purposes of convenience only and are not intended
to define or limit the contents of said sections or paragraphs.

          SECTION 15.13.  Counterparts.  This Agreement may be executed in one
                          ------------                                        
or more counterparts (and by facsimile), each of which shall be deemed an
original, but all of which together shall constitute one and the same
instrument.

          SECTION 15.14.  Entire Agreement; Amendments.  This Agreement,
                          ----------------  ----------                  
including all Exhibits attached hereto and thereto, and all documents delivered
concurrently herewith and therewith, set forth all the covenants, promises,
agreements, warranties, representations, conditions and understandings between
the Parties hereto and supersede and terminate all prior agreements and
understandings between the Parties.  There are no covenants, promises,
agreements, warranties, representations, conditions or understandings, either
oral or written, between the Parties other than as set forth herein and therein.
No subsequent alteration, amendment, change or addition to this Agreement shall
be binding upon the Parties hereto unless reduced to writing and signed by the
respective authorized officers of the Parties.  This Agreement, including
without limitation the exhibits, schedules and attachments thereto, are intended
to define the full extent of the legally enforceable undertakings of the Parties
hereto, and no promise or representation, written or oral, which is not set
forth explicitly is intended by either party to be legally binding.  Both
Parties acknowledge that in deciding to enter into the Agreement and to
consummate the transaction contemplated thereby neither has relied upon any
statement or representations, written or oral, other than those explicitly set
forth therein.

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

          SECTION 15.15.  Expenses.  Except as otherwise specified in this
                          --------                                        
Agreement, all costs and expenses, including, without limitation, fees and
disbursements of counsel,

                                      30.

<PAGE>
 
financial advisors and accountants, incurred in connection with this Agreement
and the transactions contemplated hereby shall be paid by the party incurring
such costs and expenses; provided, however, that upon execution of this
                         --------  -------                             
Agreement, CTI shall pay PG-TXL a one-time expense reimbursement in the amount
of ***** to cover historical legal expenses incurred by PG-TXL and the Initial
Royalty (as defined in the April 30 License) payable by PG-TXL under the April
30 License.

          SECTION 15.16.  Independent Contractors.  The status of the Parties
                          -----------------------                            
under this Agreement shall be that of independent contractors.  Neither Party
shall have the right to enter into any agreements on behalf of the other Party,
nor shall it represent to any person that it has any such right or authority.
Nothing in this Agreement shall be construed as establishing a partnership or
joint venture relationship between the Parties.

          IN WITNESS WHEREOF, PG-TXL and CTI have caused this Agreement to be
executed as of the date first written above by their respective officers
thereunto duly authorized.

                                 PG-TXL COMPANY, L.P.

                                 By: Fem.CADeT Incorporated, its General 
                                     Partner


                                 By:
                                      ------------------------------------------
                                 Name:  Sidney Wallace, M.D.
                                 Title:  President


                                 CELL THERAPEUTICS, INC.

 
                                 By:
                                      ------------------------------------------
                                 Name:  James A. Bianco, M.D.
                                 Title:  President and Chief Executive Officer

                                      31.

<PAGE>
 
                                   EXHIBIT A

                              PG-TXL PATENT RIGHTS
                              --------------------

(The information below marked by ***** has been omitted by a request for 
confidential treatment. The omitted portion has been separately filed with the 
Commission.)

    (1) U.S. Patent Application No. *****, filed March 11, 1997 which is a
converted utility patent application from Provisional Application No. 60/013184,
filed with the United States Patent and Trademark Office on March 12, 1996;

    (2) Intn'l Patent Application No. *****, filed March 11, 1997; and

    (3) U.S. Patent Application No. *****, filed March 30, 1998.

                                      32.

<PAGE>
 
                                   EXHIBIT B

                FORM OF FINANCING STATEMENT FOR APRIL 30 LICENSE
                ------------------------------------------------

                                      33.



<PAGE>
 
                                 EXHIBIT 22.1

                    SUBSIDIARIES OF CELL THERAPEUTICS, INC.

                 CTI Technologies, Inc., A Nevada Corporation






<PAGE>
 
                                 EXHIBIT 23.1

              CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS

We consent to the incorporation by reference in the Registration Statement (Form
S-8 No. 333-35919) pertaining to the Cell Therapeutics, Inc. 1994 Equity 
Incentive Plan and the Cell Therapeutics, Inc. 1996 Employee Stock Purchase Plan
and to the incorporation by reference in the Registration Statement (Form S-3
No. 333-39385) of Cell Therapeutics, Inc. and in the related Prospectus of our
report dated February 12, 1999, with respect to the financial statements of Cell
Therapeutics, Inc. included in the Annual Report (Form 10-K) for the year ended
December 31, 1998.



                                            ERNST & YOUNG LLP

Seattle, Washington
March 30, 1999






<TABLE> <S> <C>


<PAGE>
 
<ARTICLE> 5
<LEGEND>
THE CONSOLIDATED BALANCE SHEET AS OF DECEMBER 31, 1998 AND THE CONSOLIDATED
STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1998.
</LEGEND>
       
<S>                             <C>
<PERIOD-TYPE>                   YEAR
<FISCAL-YEAR-END>                          DEC-31-1998
<PERIOD-START>                             JAN-01-1998
<PERIOD-END>                               DEC-31-1998
<CASH>                                       4,362,486
<SECURITIES>                                42,709,606
<RECEIVABLES>                                3,254,491
<ALLOWANCES>                                         0
<INVENTORY>                                          0
<CURRENT-ASSETS>                            51,246,719
<PP&E>                                      16,517,674
<DEPRECIATION>                               9,691,777
<TOTAL-ASSETS>                              58,156,495
<CURRENT-LIABILITIES>                        7,103,919
<BONDS>                                      3,887,603
<PREFERRED-MANDATORY>                                0
<PREFERRED>                                          0
<COMMON>                                   169,618,635
<OTHER-SE>                                (122,453,662)
<TOTAL-LIABILITY-AND-EQUITY>                58,156,495
<SALES>                                              0
<TOTAL-REVENUES>                            16,294,542
<CGS>                                                0
<TOTAL-COSTS>                               40,831,174
<OTHER-EXPENSES>                                     0
<LOSS-PROVISION>                                     0
<INTEREST-EXPENSE>                             435,279
<INCOME-PRETAX>                            (24,971,911)
<INCOME-TAX>                                         0
<INCOME-CONTINUING>                        (24,971,911)
<DISCONTINUED>                                       0
<EXTRAORDINARY>                                      0
<CHANGES>                                            0
<NET-INCOME>                               (24,971,911)
<EPS-PRIMARY>                                    (1.62)
<EPS-DILUTED>                                    (1.62)
        

</TABLE>