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During the first half of the fiscal year, Cetus took steps to provide the substantial additional resources that will be needed to support its expansion into significant new fields of biological endeavor. The company concluded the sale of $5,000,000 of convertible debentures to " Standard Oil Company (Indiana) as part of a transaction in which Standard Oil also bought from existing shareholders shares of preferred and commomstock. Should Standard Oil convert its debentures and preferred-r" ` stock, it would own approximately 25% of Cetus' outstanding common stock on a fully converted basis. Standard Oil also received, as part of its debentures purchase, a right of first refusal to buy from Cetus, should Cetus seek additional financing, the next $6,000,000 of new common stock to be issued at a price of $15 per share and $3,000,000 of other secur- ities convertible into common stock. At the present time, it appears ' likely that Cetus will pursue the additional funds. Should Standard Oil invest the full additional $9,000,000, it would then own about 39% of Cetus common stock on a fully converted basis. ~ _ - . .- ..: - . .. . . . . . ..-~. ; -... . •` ~. -. . ...,_•.` . New Stockholder < -titl.s.. . :i~,l:~. i We also welcome, as a new Cetus.stockholder, National Distillers and Chemical Corporation which has acquired the equivalent of 481,324 shares of Cetus common stock, or about 18.5% of the outstanding common shares assuming full conversion, from Moshe Alafi and Calvin Ward and parties related to, affiliated with or donees from them. If an additional $9,000,000 were invested in new Cetus securities by Standard Oil or others, as described above, the shares of National Distillers would represent approximately 15% of the common stock of the company, on a fully converted basis. Needless to say, we are most gratified by the expression of confidence shown by both National Distillers and Standard Oil in investing significant funds in Cetus. They have made it clear that their time frames and views of the future coincide with ours. Cetus Corporation, 600 Bancroft Way, Berkeley, California 94710 Phone: (415) 549-3300 .._r.u- ~ - ...~-. .~ _..,.. . .-~a..:...~~r:...'..'..«os.-es:....._

Letter to the Shareholders March 3, 1978 Page 2 As a result of election at the annual meeting of shareholders, the Cetus Board of Directors was joined last September by two members of the management of Standard Oil who we expect to add a new dimension to the Y. ~ . Board. They are Dr. Edward A. Mason, Vice President, Corporate Research, `'of Standard 0i1, and Mr. Gordon C. McKeague, Manager, Corporate Develop- {Rment, of Standard Oil. The other directors are Dr. Peter J. Farley, Executive Vice President of Cetus; Dr. Donald A. Glaser, Professor of Physics and Molecular Biology, University of California, Berkeley, and `Chairman of the Cetus Board of Scientific Advisors; Dr. J. Yule Bogue, formerly Division Deputy Chairman and Technical Director, Pharmaceuticals Division, Imperial Chemical Industries; Mr. William K. Bowes, Jr.; ad i2 "Senior Vice President and Manager, Blyth Eastman Dillon & Co. Inc.J Dr. j Carl Djerassi, Professor of Chemistry at Stanford University and President and Chairman of the Board of Zoecon Corporation; and me. As a result of the sale of his shares, Mr. Alafi resigned as a Cetus director leaving one vacancy on the Board which, it is expected, ultimately will be filled by a nominee of National Distillers and Chemical Corporation. The enclosed financial statements reflect performance closely tracking budgets approved by the Board of Directors. Once again we draw your attention to our extremely conservative accounting in which we expense all non-capital costs, biting the bullet at the front end, so to speak. The balance sheet shows our liquidity, and does not reflect the subsequent $3,000,000 debenture investment by Standard Oil, which funds were received 'in January, 1978. That and the strong likelihood of further investment capital being available to the Company, either from Standard Oil or else- - where, were reflected in the recent adoption, by the Board, of a dynamic budget of growth. This budget directly reflects the major commitment we now feel it wise to make to establish Cetus as the leading company in a "major new industry. Two factors affecting cash flow should be mentioned. pleted a major contract and the cessation of its operating revenues on December 31, 1977, has resulted in a predictable hiatus in total revenue levels for a few months while we reconf re for our new mix of projects. Of this, more details below. More generally, our aggressive growth budget requires anticipating revenues with prior expenditures, and this lag cre- ates negative cash flows by design. Our new liquidity permits this for the first time, and we expect this to result in losses during our expansion phase on the order of $1-2 million yearly for the next few years. But our liquidity (we used to refer to our "nest egg") is not regarded by manage- ment as a license to spend recklessly. Should revenues or other actual y. developments not materialize as expected, we have the ability and the in- tention to curtail spending accordingly. The budget approved by the Board of Directors specifically stipulates that we do so.

0 0 Programs ~-H ~" .. . . ' . Pharmaceutical Actiyities i3 4 i V S{eF_"4..2~~ ?~r«.-i . Y._ 7 A. •i"'SS 4 We have successfully completed our first major pharmaceutical : project. 'Our client, a major drug company, publicly proclaimed them- ' selves gratified at the results and the dramatic savings attributable.-i4 to them. , W~~xpect rovalty streams (nominaL to date')` from this client to persist into the 1990's. Their magnitude will depend on the marketing =~ t,,,,., .,;... success of the antibiotics involved. ~ s:. - ~:- We continue to explore the pharmaceutical industry for profit opportun- ities, and we are currently engaged in major antibiotics and non-antibiotics programs for other clients and hope to add still another antibiotic -' project soon. Most significantly, with our additional resources, we are '~ presently undertaking some proprietary research for ourselves in the pharmaceutical field which may use our expanded capability in recombinant DNA research directed to commercial possibilities. " .,. .: , .. .._ . _. . .. ., . _ . . New Developments Cetus is now committed to expansion of its activities into new biological fields - both for ourselves and for clients in industries as diverse as energy, food and chemicals as well as pharmaceuticals on which our initiaL effort was focused. We have constantly sought diversification, and we are glad to report progress. We are now working on a project for one of the world's largest food companies, on another for one of the world's largest chemical ,companies, and expect to sign agreements in the next few months with ,'large energy and minerals companies. ,, . ,. ., _ .,, . .. . ~ ,'. _, . . . . .., . . _ . , _ . . ~ _ . . . .. . . .. . . ~. . 7:~+; ~ . .. ~So our work for clients expands, becomes more diverse, and always involves a continuing reward to Cetus for successful completion. We only address projects of profound economic significance, so it is not surprising that none of our present or expected clients has sales below one billion dollars annually. And several of -these clients are foreign companies. We are gratified by their confidence in Cetus. -' _ As you know we continually express our wish to work for ourselves as _ well as for clients - to develop and exploit proprietary Cetus technoLogy and processes. With this in mind, an increasing proportion of our efforts are being so directed. We have made solid technical achievements on self-funded projects, and are optimistic that more will follow with significant proprietary rewards. .$.+.~£.`..'r _..ak..au*:...w~r.i.ia'u:w.w.. r.;:.*.u,i,.;.=._.,,....,:~s_va~ki~+~'.•.t;J'.w%vaG''

Letter to the Shareholders .March 3, 1978 Page 4 .;In the same vein, our investment in recombinant DNA continues, an .investment which we expect will pay handsome dividends in the years to come. Our recombinant molecular research team has already achieved `<;:tf meaningful results and we alwa s kee in mind the ultimate objective•'`~~~ useful, commercial processes., In addition. we have_iust concluded research. ~. f :. permit us to retain important proprietary rights to the results of our binant DNA which will not only reward us for success but will also :negotiations with a major foreign company for a p'roject involving recom- We are constantly in the public eye because of the publicity that recom-. . . . . . . .. ni . . . .. . _ . , States Senate. my recent testimony on the subject before a subcommittee of the United '..~ binant DNA continues to receive. For your information, there is enclosed Recombinant DNA . . e ,, . , . . ~ - . . -, _ . ,. r-~_. , . .,. e ° ~ -.,I e v~ y c. .. :. ..w & U s . . . .. .'.1' . . . ~ -' ' . . . ~ the Cetus shareholder group is substantially changed and this is reflected Fiscal 1978 so far has been a period of very significant change for Cetus. Our financial strength is greatly improved. The composition of .. . . . . . y;-~ . many fields of interest available to us. the past few years, and reported to you in these letters. Most signifi- cantly, we no longer are forced to rely exclusively on client companies for selection and funding of research and development projects in the in the composition of the Board of Directors. Our mix of projects is quite diverse, reflecting implementation of policy decisions made over old, into a position of preeminence in what we believe will be a major - ~ with the mandate to do all we can to catapult Cetus, just over six years In summary, your management is pursuing policies consistent, we feel, .. . .. . - . . -, . ' . ,.-... - " . . .. - . . . .. .- .. . ' . .. ~ S~; , ~.l ._ . "-~' objectives that we have established for Cetus. and better positioned to deliver on the promises inherent in our business plans. We look forward to the future, determined to meet the high As a result of these changes, Cetus Corporation is stronger than ever, industry in the coming generation. REC/asg Enclosures (3)

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