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September 22, 1978 Letter to the Shareholders In connection with the annual meeting of shareholders, which will be held on Friday, October 13, 1978, we are happy to enclose Cetus' audited financial statements for its fiscal year ending June 30, 1978. Overview ' Your company continues to track its budget and its plans. The financial results are consistent with forecast estimates described in our letter of March 3, 1978. Currently, we are engaged in a wide variety of projects for several large companies as well as in proprietary work for our own account. We have made solid scientific accomplishments, and continue to look to the future with optimism. The past year has been characterized by the active implementation of strategies which we've described to you in previous reports. We view with considerable satisfaction the fact that, in the last twelve months: a. Cetus has broadened the scope of its activities both as to the number and variety of its clients and projects, and the industries they represent. While most press coverage of "the new biology" emphasizes its very exciting pharmaceutical ramifications, we believe that our true scope is much wider. Thus, we are now working in the chemical, food, and energy industries, as well as continuing and expanding our pharmaceutical activities. b. Cetus has now committed significant resources to our own proprietary research. In both client and Cetus-sponsored work, progress has been gratifying. Not only have we continued to build teams and facilities of the highest caliber, but we have achieved specific technical accomplishments, some of which have led to filing for broad patent' coverage. - Background Cetus Corporation was formed in 1971 to address a striking opportunity. Stated simply, we intended to exemplify the leading edge of technology in applying microbial genetics to industrial processes. The company raised capital, identified needs, attracted clients, and has worked successfully for current income and future rewards. The explosion in the past' five years of interest, excitement, need and - most important - of capability in microbial genetics has exceeded what even its most enthusiastic proponents dreamed about in 1971. A wide variety of splendid profi't-generating opportunities await exploitation; the most exciting ones are being actively pursued by Cetus.

Letter to the Shareholders September 22, 1978 Page 2 . Diversification We have a wide spectrum of projects. And for good reason. Cetus is spearheading the creation of a totally new industry. Although we don't pretend to be able to predict with certainty which particular applications of molecular biology will prove most profitable, we are certain that the revolution in industrial biology is real. Because we realize the broad potential of this field we recognize that Cetus must maintain and build its leadership across a broad front, the leading edge of the .field, wherever it occurs. This we continue to do as the scope of our projects, the physical reality and focus of our facilities, and the breadth of our skills readily demonstrates. As stated above, the past year has seen a great change in our client mix. More than fifty percent of our business is now with companies other than those in the pharm- aceutical industry. Indeed, it is in the non-pharmaceutical area that our explosive growth is occurring. The world is awakening to the importance of biology, much as it did to the semiconductor industry in the 1950's and 1960's. Our new clients are from industries which know little about fermentation yet recognize, increasingly, that it may revolutionize them. At present we have eight' different projects under way for non- pharmaceutical clients. • Projects with Clients From inception, Cetus activities were predominantly of a "contract work for client" nature. This is still the case. All our work, however, carries with it the requirement that project success provide Cetus with a reward in terms of a royalty, license fee or some other type of equity participation. Limited as to the total number of projects we can handle, we must select carefully among the choices available. Among important criteria to Cetus is that royalty potential must be in the multi-million dollar range. While almost 100% of the company's early work was in antibiotic-producing, strain improvement programs for the world's pharmaceutical industry, antibiotics projects today comprise no more than 25% of on-going Cetus activites. Other pharmaceutical, chemical, food and energy-related projects account for the larger portion of our research attention, Antibiotics work is not being slighted. Rather, the potential in applying Cetus skills in other industries has been addressed and our services are in increasing demand. Thus, Cetus is now engaged in developing a wide range of biologically-based industrial processes, each with potentially profound, economic im- p ac t. Client-related Cetus projects by their very intimate research/new business nature can lead to continuing relationships. Most projects have a particularly high component of "follow-up" opportunities. Each relationship also has a strong component of building Cetus-owned capabilities. While the process developed in response to a client's needs becomes the proprietary property of that client, research fall-out resides with Cetus and can be applied toward Cetus proprietary projects as well as to projects undertaken on behalf of others. Thus, biologicaI expertise, methods of engineering improved or- ganisms, and in some instances the organisms themselves remain as Cetus property.

Letter to the Shareholders September 22, 1978 Page 3 Cetus Proprietary Projects ~ In addition to contract work for clients, Cetus now pursues research projects for its own account. Research results to date are exciting. Broad patent applications have been filed and should lead to attractive business opportunities, either as stand-alone operations or as joint ventures with other corporate partners. Cetus management is convinced that self-funded programs are essential to maximizing Cetus' growth. Even more important, they are essential to the building of a highly profitable, self-sufficient company large enough to maintain leadership in exploiting "the new biology" for industrial purposes. And that is Cetus' stated corporate objective. All aspects of our planning are means to- an end. Cetus proprietary processes and products are that end. Maximized profits will arise out of work we do for ourselves, and the funds must come from investment of Cetus capital. Significant additional financing has allowed us to take immediate advantage of opportunities that have materialized during the past year. Recombinant DNA In recent years, the rapidly moving fieU of recombinant DNA has received much publicity, good and bad, and we have tried to share its flavor with you. Happily, most recent developments have underscored the perception that while the risks are con- . jectural, the benefits are very real. During the past year alone, scientific advance- ments have been numerous and those which have received most press coverage, including the bacterial production of mammalian hormones - most recently human insulin - represent important, albeit anticipated accomplishments. These accomplish- ments presage a whole series of additional critical contributions many of which will coalesce, down the road, into useful, economic, sometimes unique industrial processes and: products. Cetus is involved in all stages of this progression. When appropriate, we will provide more information. The enclosed article from the Boston Sunday Globe puts the picture into proper perspective. ( I was misquoted significantly once. I said "our product is not (merely) improving yields for biochemical processes".) Patents Cetus Corporation is active in obtaining patent protection for its developments, where appropriate. Coverage is expected in numerous technological areas, including cloning techniques, fusion and recombinant DNA discoveries, and specific chemical conversion processes of definite industrial significance. Discretion precludes specific description. There is much excitement ahead, and: many new discoveries waiting to be made. We believe we have a broadly-based technological lead, and intend to maintain it. Patents will be part of the picture, but only part. Overall capability, reflected in facilities, know-how, and in-house skills, which we believe we are building more quickly than any private laboratory in the world, must be the base on which any successful company constructs its future.

Letter to the Shareholders September 22, 1978 Page 4 Organization There have been several changes in titles, in management and in membership on the Board of Directors during the past year. This is an opportunity to identify for you the people who are guiding Cetus during this challenging period. Cetus Corporation Board of Directors J. Yule Bogue Dr. Bogue received his Ph.D. in physiology at the University of Edinburgh. Following extensive studies at many other universities, including Harvard and Oxford, he joined Imperial Chemical Industries Ltd., where he was instrumental in establishment of the Pharmaceuticals Divisiony of which he was Division Deputy Chairman and Technical Director upon retirement. He has settled in Portola Valley and serves on several boards of directors. William K. Bowes, Jr. Mr. Bowes is Senior Vice President and Manager of Blyth Eastman Dillon Inc., San Francisco. He received a B.A. in economics at Stanford University and an M.B.A. from Harvard. Mr. Bowes has been involved in investment banking at Blyth Eastman Dillon for twenty-five years, specializing in corporate financing. He presently serves on the boards of Oximetrix, Inc., Raychem Corporation, Kransco Mfg., Inc., and Blyth Eastman Dillon Inc. Ronald E. Cape - Chairman of the Board of Directors Dr. Cape earned his A.B. in chemistry at Princeton, and an M.B.A. at Harvard Business School. After several years running a small pharmaceutical business in Montreal, he obtained a Ph.D. in biochemist'ry at McGill University and followed that with three post-doctoral years in molecular biology at the University of Caifornia, Berkeley. Dr. Cape was a founder of Cetus in 1971. Carl Djerassi Dr. Djerassi is founder and President of Zoecon Corporation. He received his Ph.D. in chemistry from the University of Wisconsin, and spent twenty years at Syntex Corporation where he led the group which synthesized the first oral contraceptive. Dr. Djerassi was President of Syntex Research and has been a Professor of Chemistry at Stanford University since 1959. Very widely published, and a member of the National Academy of Sciences (NAS), Dr. DJerassi is the recipient of numerous awards, including the National Medal of Science.

Letter to the Shareholders September 22, 1978 Page 5 Peter J. Farley - President Dr. Farley received his M.D. from St. Louis University in 1965. Following a tour of duty as a Nuclear Submarine & Diving Medical Officer in the U.S. Navy and a period of private general practice in Hawaii, he entered the Stanford University Graduate School of Business earning an M.B.A. in 1971. Dr. Farley is a founder of Cetus. Donald A. Glaser - Chairman, Cetus Board of Scientific Advisors Dr. Glaser earned his Ph.D. in physics at the California Institute of Technology. While at the University of Michigan, Ann Arbor, he invented the bubble chamber at the age of 34, for which he was awarded the 1960 Nobe1 Prize in physics. The recipient of many awards and a member of the National, Academy of Sciences (NAS), Dr. Glaser holds dual professorships in physics and molecular biology at the University of California, Berkeley. Dr. Glaser is a Cetus founder. William F. McDonald Mr. McDonald is Vice President and Assistant General Manager of U.S. Industrial Chemicals Co., a division of National Distillers and Chemical Corporation. He holds a B.S. in organic chemistry from St. Mary's College (Minnesota). Mr. McDonald has been with National Distillers 'for twenty-five years, serving during that time as Senior Corporate Planning Associate and Vice President for Research. He serves on the boards of several companies and is Cetus' newest director. Gordon C. McKeague Mr. McKeague is Manager, Corporate Development for Standard Oil Company (Indiana) with responsibility for involving Standard in new technology with 'significant future expectations. He has an extensive background in exploration and other oil industry technology. Mr. McKeague holds Ph.B. (liberal arts), B.S. (biochemistry) and M.B.A. degrees from the University of Chicago and an M.S. in geology from the University of Tulsa. - Edward A. Mason Dr. Mason in Vice President, Research, for Standard Oil Company (Indiana). He received his Sc.D. in chemical engineering at Massachusetts Institute of Technology,, and later served as Professor and Head of the Department of Nuclear Engineering at MIT. He was Director of the Agro-industrial Energy Project at the Oak Ridge National Laboratory, and just prior to assuming his present position he served as Commissioner on the United States Nuclear Regulatory Commission. He is a member of numerous professional organizations, notably the National Academy of Engineering.

Letter to the Stockholders September 22, 1978 Page 6 Management 0 Ronald E. Cape - 45, Chairman and Chief Executive Officer His background covers business, chemistry and molecular biology (see "Board of Directors" section). Peter J. Farley - 38, President and Chief Operating Officer He has a background in medicine and management (see "Board of Directors" section). Donald A. Glaser - 51, Chairman of the Cetus Board of Scientific Advisors (See "Board of Directors" section.). Douglas R. Miller - 32, Vice President and General Manager Mr. Miller received his M.B.A. from the Stanford University Graduate School of Business in 1971. Prior to joining Cetus he served as Assistant to the President of Arcata National Corporation. Stephen A. Goulden - 40, Vice President, Biological Development Dr. Goulden received his Ph.D. in biochemistry at the University of Leeds. He came to Cetus following fifteen years at Glaxo Holdings Ltd., where he received extensive experience. During the course of his career at Glaxo, Dr. Goulden's work addressed a wide variety of industrial fermentation processes. David H. Gelfand - 34, Director of Recombinant Molecular Research Dr. Gelfand received his A.B. at Brandeis University and his Ph.D. at the University of California, San Diego (both degrees in biology). Dr. Gelf and joined Cetus after brilliant accomplishments as a post-doctoral fellow at the University of California at San Diego and at San Francisco in the laboratory of Dr. Gordon M. Tomkins, where he and his colleagues constructed the first plasmid DNA cloning vehicle permitting the expression of foreign DNA sequences. This development, called "read-through expression," has been applied~ in the highly publicized recent accomplishments in recombinant DN!A and is the subject of fundamental patents filed on behalf of Dr. Gelfand, his co-workers, and the University of California. He has also been the first to amplify (12,500%I) by mutation the number of plasmid DNA molecules in a cell and their products, a crucial element in plans to develop high yielding industrial fermentation processes utilizing recombinant DNA technology. Following Dr. Tomkin's untimely death, Dr. Gelfand assumed supervisory responsibility for the running of the laboratory. Since joining Cetus, Dr. Gelfand has established a highly-trained, diverse and motivated group to carry out Cetus work in this area. ,

Letter to the Shareholders September 22, 1978 Page 7 William F. Amon, Jr. - 56, Director of New Business Development Mr. Amon hold a B.S. in chemical engineering from Northeastern University. He has an extensive background in the building of new, high technology-based businesses, par- ticularly in food, chemical and chemically-related areas. His track record includes numerous successful new product ventures (several new, multi-million dollar markets), a number of joint-venture/technical-exchange agreements and seven successful ac- quisitions. Mr. Amon's former postions include President and Chief Executive Officer of Electrostatic Spinning, Inc., a joint-venture company -formed by Battelle Memorial Institute and Rockwell International to commercialite an electrostatic, open-end spinning technique for textile fibers; Vice President - New Business Ventures for Borden Chemical Co.; and Executive Assistant to the President of Corn Products Development Co., a unit of CPC InternationaL Board of Scientific Advisors Professor Glaser has assembled a stellar Board of Scientific Advisors at Cetus. Dr. Joshua Lederberg Dr. Lederberg, President of Rockefeller University, won the 1958 Nobel prize in medicine for his discoveries elucidating the mechanisms of genetic change in bacteria; he is considered by many to be the originator of this "revolution" in which Cetus is so deeply involved. Professor Arnold Demain Professor Demain of MIT is an eminent microbiologist and expert in industrial fermentation. Professor David A. Hopwood Professor Hopwood is the British pioneer and acknowledged world leader in the genetics of antibiotic-producing organisms. Professor Stanley N. Cohen Professor Cohen of Stanford is a renowned leader in the field he pioneered: recomb- inant DNA. Dr. Saran Narang Dr. Narang (together with a co-worker who is now a Cetus employee) holds the patent on the chemical techniques currently utilized to make synthetic genes. Professor Stanley Falkow Professor Falkow of the University of Washington is a government-recognized authority on the molecular biology of plasmids, infectious diseases, and the plasmid-mediated resistance to antibiotics. He has worked extensively with transposition and insertion elements. Professor Henry Rapoport, Professor Rapoport, Professor of Chemistry at' the University of California at Berkeley, is widely known for his skills in organic chemistry and biochemistry with special emphasis on natural products.

Letter to the Shareholders September 22, 1978 Page 8 The Cetus Board of Scientific Advisors is not a-group assembled for "window-dressirig." Rather, it is a working board which continually interacts with our scientists, and wilh each other on a one-to-one basis, planning general strategies as well as specific experiments for Cetus. They regard themselves as members of the Cetus family. Each has a significant equity stake in Cetus and for most of the board members Cetus represents their exclusive industrial involvement. We are pleased that we have been able to attain what _we feel to be an optimum mix of revenue-producing contract work for clients and Cetus proprietary research. Our client list reads like a "Who's Who" of international business. Additionally, the projects on behalf of these clients, without exception, address fundamental problems which, if solved, will represent hundreds of millions of dollars in commercial opportunity. Specifically, we are working in the areas of enhanced oil recovery, alternative fuel sources, alternative food and feed sources, the biological production of major commod- ity chemicals which have never been produced biologically, as well as the exciting pharmaceutical areas of new antibiotics, human hormones and new vaccines. The present posture of Cetus Corportion, - its spectrum of projects and clients, the quality of its people and facilities, and the continuing accumulation of technical and business accomplishments - encourages us to believe that we remain on the road to becoming, as some writers have described us, "the IBM of genetics." Annual Meeting The regular annual meeting of shareholders of Cetus Corporation will be held on Friday, October 13 at 9:00 am. Further details and proxy forms are enclosed. Sincerely, - Ronald E. Cape, Ph.rS. Chairman of the Board cla Enclosures