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U.S. SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

or

Commission file number 0-26866

Sonus Pharmaceuticals, Inc.

22026 20th Ave. SE, Bothell, Washington 98021
(Address of Principal Executive Offices)

(425) 487-9500
(Registrant’s Telephone Number, Including Area Code)

Indicate by check whether the issuer (1) has filed all reports required to be filed 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 [   ]

State the number of shares outstanding of each of the issuer’s classes of common equity as of the latest practicable date.

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Sonus Pharmaceuticals, Inc.
Index to Form 10-Q

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Part I. Financial Information

Item 1. Financial Statements

Sonus Pharmaceuticals, Inc.
Balance Sheets

See accompanying notes.

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Sonus Pharmaceuticals, Inc.
Statements of Operations
(Unaudited)

See accompanying notes.

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Sonus Pharmaceuticals, Inc.
Statements of Cash Flows
(Unaudited)

See accompanying notes.

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Sonus Pharmaceuticals, Inc.
Notes to Financial Statements
(Unaudited)

1. Basis of Presentation

     The unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required to be presented for complete financial statements. The accompanying financial statements reflect all adjustments (consisting only of normal recurring items) which are, in the opinion of management, necessary for a fair presentation of the results for the interim periods presented.

     The financial statements and related disclosures have been prepared with the assumption that users of the interim financial information have read or have access to the audited financial statements for the preceding fiscal year. Accordingly, these financial statements should be read in conjunction with the audited financial statements and the related notes thereto included in the Form 10-K for the year ended December 31, 2001 and filed with the Securities and Exchange Commission on March 5, 2002.

2. Comprehensive Income (Loss)

3. Common Stock

     In January 2002, the Company sold 1.9 million shares of common stock in a private placement transaction for gross proceeds of $13.6 million ($12.5 million net of transaction costs). In connection with the placement, the Company issued warrants to purchase up to 385,800 shares of common stock. The warrants are exercisable at $9.40 per share and expire in January 2007.

4. Cash, Cash Equivalents and Marketable Securities

     Cash, cash equivalents and marketable securities consist of the following:

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Forward-Looking Statements

     This report contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and we intend that such forward-looking statements be subject to the safe harbors created thereby. Examples of these forward-looking statements include, but are not limited to:

	•		Progress and results of clinical trials;
	•		Anticipated Investigational New Drug filings and future clinical trials;
	•		Market acceptance of our products and the potential size of these markets;
	•		Our anticipated future capital requirements and the terms of any capital financing;
	•		Timing and amount of future contractual payments, product revenues and operating expenses; and
	•		Anticipated outcome or financial impact of potential legal matters.

     While these forward-looking statements made by us are based on our current beliefs and judgement, they are subject to risks and uncertainties that could cause actual results to vary from the projections in the forward-looking statements. You should consider the risks below carefully in addition to other information contained in this report and in our Annual Report on Form 10-K for the year ended December 31, 2001 before purchasing shares of our common stock. If any of these risks occur, they could seriously harm our business, financial condition or results of operations. In such case, the trading price of our common stock could decline, and you may lose all or part of your investment.

     The discussion and analysis set forth in this document contains trend analysis, discussions of regulatory status and other forward-looking statements. Actual results could differ materially from those projected in the forward-looking statement as a result of the following factors, among others:

	•		Dependence on the development and commercialization of products;
	•		History of operating losses and uncertainty of future financial results;
	•		Uncertainty of governmental regulatory requirements and lengthy approval process;
	•		Dependence on third parties for funding, clinical development, manufacturing and distribution;
	•		Future capital requirements and uncertainty of additional funding;
	•		Uncertainty of U.S. or international legislative or administrative actions;
	•		Continued listing on the Nasdaq National Market;
	•		Competition and risk of technological obsolescence;
	•		Limited manufacturing experience and dependence on a limited number of contract manufacturers and suppliers;
	•		Ability to obtain and defend patents and protect trade secrets;
	•		Limitations on third-party reimbursement for medical and pharmaceutical products;
	•		Dependence on key employees; and
	•		Volatility in the value of our common stock.

     See “Certain Factors That May Affect Our Business and Future Results” on page 12.

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MD&A Overview

     In Management’s Discussion and Analysis of Financial Condition and Results of Operations we explain the general financial condition and the results of operations for our Company, including:

	•		An overview of our business;
	•		Results of operations and why those results are different from the prior year; and
	•		Our current capital resources and possible sources of additional funding for future capital requirements.

Business Overview

     Sonus Pharmaceuticals is applying its expertise in drug delivery to make therapeutic drugs safer, easier to administer and more effective. Our TOCOSOL™ drug delivery technology, a vitamin E based oil-in-water emulsion, may be broadly applicable to multiple drugs, diseases and dosage forms. We currently have a cancer therapy product, TOCOSOL Paclitaxel (formerly known as S-8184), in Phase 2 clinical trials, and we are also developing and or have a number of other potential product candidates in therapeutic areas that target cancer and other serious diseases.

     Our first application of TOCOSOL is an injectable paclitaxel emulsion formulation, TOCOSOL Paclitaxel. Paclitaxel is the active ingredient in the world’s leading cancer drug, Taxol® (the Bristol-Myers Squibb product), which is approved in the U.S. for the treatment of breast, ovarian and non-small cell lung tumors. We have completed a Phase 1 study for TOCOSOL Paclitaxel and the product is currently under study in four Phase 2 clinical trials to evaluate safety and efficacy in non-small cell lung, ovarian, bladder and colorectal cancers. In addition, on October 1, 2002, we announced the issuance of a United States patent covering TOCOSOL Paclitaxel and our TOCOSOL drug delivery technology platform.

     We completed a Phase 1 study for TOCOSOL Paclitaxel in early 2002 after enrolling a total of 37 patients. The objectives of the Phase 1 study were to determine the maximum tolerated dose of TOCOSOL Paclitaxel and to evaluate safety. Preliminary Phase 1 results suggest that TOCOSOL Paclitaxel may provide safety and convenience advantages for both patients and physicians including a reduction in side effects and administration time using a single, quick injection delivered in less than 15 minutes compared to the three-hour infusion of existing formulations of paclitaxel. Based on preclinical and clinical studies to date, we also believe there may be potential efficacy benefits with TOCOSOL Paclitaxel that may result from higher concentrations of the drug delivered to tumors and higher sustained dose density within tumors.

     In the Phase 1 study, disease control (defined as partial responses, minor responses and stable disease) was demonstrated in 15 out of 36 evaluable patients. The maximum tolerated dose (MTD) in the Phase 1 study was determined to be 200 mg/m² for administration once every three weeks, which compares to the standard dose of Taxol at 175 mg/m² once every three weeks. Dose limiting toxicities seen in the Phase 1 study include myalgia (muscle aches), fatigue, and neutropenia (low white cell count). No Grade 3 or 4 neuropathy was seen at doses of 200 mg/m² or below. All of the patients in the Phase 1 study had advanced cancers and no other therapeutic options.

     We initiated Phase 2 studies for TOCOSOL Paclitaxel in March of 2002. The Phase 2 program is designed to evaluate the safety and efficacy of TOCOSOL Paclitaxel in specific tumor types. Our goal is to obtain a clear measure of efficacy with TOCOSOL Paclitaxel and to quickly determine the indications where the product shows the greatest efficacy. The first four Phase 2 studies are evaluating TOCOSOL Paclitaxel in non-small cell lung, ovarian, bladder and colorectal cancers using weekly dosing of TOCOSOL Paclitaxel. These are single agent, second line studies enrolling patients that have

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not previously had taxane chemotherapy. Each Phase 2 study began with a dose escalation phase to determine the MTD of TOCOSOL Paclitaxel using weekly dose levels of 80, 100 and 120 mg/m².

     We have completed the dose escalation stage for the first set of Phase 2 studies during the third quarter and the weekly maximum tolerated dose determined for TOCOSOL Paclitaxel is 120 mg/m² in the non-small cell lung, ovarian and colorectal studies and 100 mg/m² in the bladder study. These continuous weekly doses compare to the typical off-label weekly use of Taxol of 80 to 90 mg/m². In addition, these weekly doses of TOCOSOL Paclitaxel represent cumulative doses of 300 mg/m² to 360 mg/m² over a three-week period, which is nearly twice the approved dose of Taxol given at 175 mg/m² once every three weeks.

     When comparing the weekly dosing results of our Phase 2 studies to recently published papers for weekly dosing of Taxol at 80 mg/m², the patients to date who received TOCOSOL Paclitaxel had no Grade 2 through 4 neuropathy. This compares to an average rate of 17% in patients who received Taxol. In addition, incidences to date of other side effects, including neutropenia, were equal to or lower than the rates for Taxol.

     A total of 73 patients were enrolled in the dose escalation stage of the Phase 2 studies, including 18 in each of the non-small cell lung, bladder and colorectal studies and 19 patients in the ovarian study. Preliminary efficacy data for these 73 patients show a disease control rate of 78% in non-small cell lung cancer, 89% in bladder cancer, 37% in ovarian cancer and 39% in colorectal cancer. These results include partial responses (decrease of tumor area of more than 50%) and stable disease (halting of tumor growth) at all of the dosing levels studied in the dose escalation stage from 80 mg/m² to 120 mg/m². The results to date are preliminary and may or may not be indicative of the final results upon completion of the Phase 2 studies. We continue to enroll additional patients in the Phase 2 studies.

     We are currently in the process of evaluating protocols for additional clinical trials for certain of the four indications currently under study. We anticipate commencement of these trials in the United States in late 2002 or early 2003.

     In addition to TOCOSOL Paclitaxel, we are also evaluating other products and additional therapeutic drug formulations to expand our TOCOSOL technology platform. The next product candidate in this group is a cancer therapy drug that we have named TOCOSOL Camptothecin, or S-9148. This product, which is a novel injectable formulation of camptothecin, is in late stage preclinical studies and we anticipate filing an IND with the FDA by the end of 2002. Our research and development efforts on potential new products are preliminary and we cannot give any assurance that our efforts will be successful or that any IND’s will be filed.

     In June 2002, the Company entered into a manufacturing and supply agreement with Gensia Sicor Pharmaceuticals, Inc. for TOCOSOL Paclitaxel. The purpose of the agreement is to provide the Company with a reliable manufacturer of the product for future clinical studies and commercialization requirements.

Results of Operations

     Our results of operations have varied and will continue to vary significantly and depend on, among other factors:

	•		Entering into additional contractual agreements and timing of payments under contractual and license agreements with third-parties;
	•		Timing and costs of product development, clinical trials and patent prosecution; and
	•		Timing of regulatory approvals.

     Historically, our reported revenues have been derived from payments received under contractual and license agreements with third parties. The Company reported no revenue in the third quarter of 2002 compared to $7.6 million for the third quarter of 2001. Revenues for the third quarter of the prior

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year represent a payment of $6.5 million related to the assignment of substantially all of our contrast intellectual property to Nycomed Amersham plc. (Nycomed) and a $1.0 million non-refundable license fee payment received under an ultrasound contrast patent license agreement with Chugai Pharmaceutical Co. Ltd. (Chugai). For the nine months ended September 30, 2002, revenue was $25,000 compared to $8.7 million for the prior year period. Included in 2001 was a $6.5 million payment from Nycomed and $2.0 million in non-refundable license fee payments received under an ultrasound contrast patent license agreement with Chugai. Monetizing the remaining value of the ultrasound contrast intellectual property was a key strategic goal in the prior year.

     Total operating expenses were $3.4 million for the third quarter of 2002 compared with $2.5 million for the prior year. The increase in operating expenses from the prior year was primarily due to higher research and development expenses ($2.6 million in the third quarter of 2002 compared to $1.3 million in the third quarter of 2001). This planned increase reflects continued activity related to the manufacture, development and clinical testing of our lead cancer therapy product, TOCOSOL Paclitaxel, as the drug advances through Phase 2 clinical trials as well as increased costs to support new product development. General and administrative expenses were lower ($786,000 in the third quarter of 2002 compared to $1.2 million in the third quarter of 2001) primarily due to higher personnel costs in the prior year period. For the first nine months of 2002, total operating expenses were $9.6 million compared to $6.3 million for the prior year period. The increase reflects the advancement of our lead product, TOCOSOL Paclitaxel, into phase 2 clinical trials and continued development costs of additional new drug compounds as we move to expand our product portfolio.

     We anticipate that total operating expenses for the next several quarters will be within the same approximate range as the third quarter of 2002 as we continue to invest in current and future product development activities. Net cash burn for the full year 2002 is expected to be approximately $13.0 to $14.0 million.

     Net interest income was $104,000 and $362,000 for the three and nine months ended September 30, 2002 compared with $180,000 and $418,000 for the same periods in 2001. The decrease in net interest income was primarily due to lower interest rates in the current year, offset partially by higher levels of invested cash in the current year.

     Net loss for the third quarter of 2002 was $3.3 million, compared with net income of $5.2 million for the same period of the prior year. Net loss for the nine months ended September 30, 2002 was $9.2 million compared with net income of $2.7 million for the same period of the prior year.

Liquidity and Capital Resources

     We have historically financed operations with payments under contractual agreements with third parties and proceeds from equity financings. At September 30, 2002, we had cash, cash equivalents and marketable securities of $19.2 million compared to $15.1 million at December 31, 2001. The increase was primarily due to $12.5 million of net proceeds from a private placement of common stock in January 2002, offset in part by the year-to-date net loss of $9.2 million.

     We expect that our cash requirements will increase in future periods due to development costs associated with our TOCOSOL drug delivery products. Based on our current operating plan, including planned clinical trials and other product development costs including technology transfer costs related to our manufacturing and supply agreement, we estimate that existing cash and marketable securities will be sufficient to meet our cash requirements through 2003. However, we will need additional funding to complete late stage clinical trials and regulatory approval of TOCOSOL Paclitaxel and to fund other product development activities beyond this timeframe. Accordingly, we intend to seek additional funding through available means, which may include debt and/or equity financing or funding under additional third party collaborative agreements.

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     Our future capital requirements depend on many factors including:

	•		The progress of our research and development programs and clinical trials;
	•		The time and costs required to complete clinical trials and obtain regulatory approvals;
	•		The ability to raise additional funds through debt and/or equity financing;
	•		The abil