UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

For the quarterly period ended September 30, 2004

OR

For the transition period from ________________________to______________________

Commission file number: 0-19825

SCICLONE PHARMACEUTICALS, INC.

(650) 358-3456
(Registrant’s telephone number, including area code)

Not Applicable

          Indicate by check mark whether the registrant (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.

          Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

          As of September 30, 2004, 44,662,744 shares of the registrant’s Common Stock, $0.001 par value, were issued and outstanding.

SCICLONE PHARMACEUTICALS, INC.

INDEX

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PART I. FINANCIAL INFORMATION

Item 1. Condensed Consolidated Financial Statements

SCICLONE PHARMACEUTICALS, INC.

See notes to condensed consolidated financial statements

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SCICLONE PHARMACEUTICALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)

See notes to condensed consolidated financial statements

4

SCICLONE PHARMACEUTICALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)

See notes to condensed consolidated financial statements

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SCICLONE PHARMACEUTICALS, INC.

Notes to Condensed Consolidated Financial Statements
(unaudited)

1. Basis of Presentation

SciClone was reincorporated in the State of Delaware on July 18, 2003. The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with generally accepted accounting principles consistent with those applied in, and should be read in conjunction with, the audited financial statements for the year ended December 31, 2003 included in the Company’s Form 10-K as filed with the Securities and Exchange Commission. The interim financial information reflects all adjustments, consisting only of normal recurring adjustments, which are, in the opinion of management, necessary for a fair presentation of the results for the interim periods presented and are not necessarily indicative of results for subsequent interim periods or for the full year. The condensed consolidated balance sheet data at December 31, 2003 is derived from the audited financial statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.

2. Significant Accounting Policies

Revenue Recognition

The Company recognizes revenue from product sales at the time of shipment. There are no significant customer acceptance requirements or post shipment obligations on the part of the Company. Sales to importing agents or distributors are recognized at time of shipment when title to the product is transferred to them, and they do not have contractual rights of return except under limited terms regarding product quality. However, the Company will replace products that have expired or are deemed to be damaged or defective when delivered. Payments by the importing agents and distributors are not contingent upon sale to the end user by the importing agents or distributors.

Contract revenue for research and development is recorded as earned based on the performance requirements of the contract. Nonrefundable contract fees for which no further performance obligations exist, and there is no continuing involvement by the Company, are recognized on the earlier of when the payments are received or when collection is assured.

Revenue associated with substantive performance milestones is recognized based on the achievement of the milestones, as defined in the respective agreements and provided that (i) the milestone event is substantive and its achievement is not reasonably assured at the inception of the agreement, and (ii) there are no future performance obligations associated with the milestone payment.

Net Loss Per Share

Net loss per share is computed using the weighted average number of shares of common stock outstanding. Potentially dilutive common shares from convertible debt, stock options and warrants are excluded, as their effect is antidilutive.

Accounting For Stock-Based Compensation

The Company accounts for its stock option and employee stock purchase plans under the provisions of Accounting Principles Board Opinion 25 (“APB 25”) and related Interpretations. Accordingly, the Company does not recognize compensation expense in accounting for its stock option and employee stock purchase plans for awards to employees and directors granted with exercise prices at fair market value.

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Pro forma information regarding net income (loss) and net income (loss) per share is required by Statement of Financial Accounting Standards No. 123 “Accounting for Stock-Based Compensation” (“SFAS 123”) as amended by Statement of Financial Accounting Standards No. 148 “Accounting for Stock-Based Compensation-Transition and Disclosure” (“SFAS 148”) and has been determined as if the Company had accounted for its stock awards under the fair value method of that Statement. The fair value for the options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for the three-month and nine-month periods ended September 30, 2004 and the nine-month periods ended September 30, 2003 (no options were granted in the three-month period ended September 30, 2003):

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company’s employee stock awards have characteristics significantly different from those of traded options, and because changes in subjective input assumptions can materially affect the fair value estimate, in the Company’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee and director stock options and stock purchases.

The following table illustrates the Company’s pro forma net income (loss) and net income (loss) per share, had compensation expense for the Company’s option and employee purchase plans been determined based on the fair value at the grant date consistent with the provisions of SFAS 123, as amended by SFAS 148:

The effects of applying SFAS 123 for pro forma disclosures are not likely to be representative of the effects on reported net income (loss) for future years due to the different number of options granted each year.

3. Comprehensive Loss

Comprehensive loss is comprised of net loss and other comprehensive income (loss). Other comprehensive income (loss) includes net unrealized gains and losses on our available-for-sale securities. For the three-month periods ended September 30, 2004 and 2003, the Company’s total comprehensive loss amounted to $(4,873,000) and $(2,879,000), respectively. For the nine-month periods ended September 30, 2004 and 2003, the Company’s total comprehensive loss amounted to $(10,860,000) and $(529,000), respectively.

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4. Available-For-Sale Securities

The following is a summary of available-for-sale securities at September 30, 2004 and December 31, 2003:

As of September 30, 2004, the available-for-sale securities are included as follows: $27,293,000 in cash and cash equivalents; $695,000 in restricted short-term investments and $9,500,000 in other short-term investments. As of December 31, 2003, the available-for-sale securities are included as follows: $38,259,000 in cash and cash equivalents; $695,000 in restricted short-term investments and $9,381,000 in other short-term investments. As of September 30, 2004 and December 31, 2003 all available-for sale securities excluding the short-term municipal securities had maturities of 12 months or less. The short-term municipals are auction rate securities which have long final maturities; however, because they are highly rated, highly liquid and their interest rate is reset at auction every 30 days, they are included as available-for sale securities. Our interest rate risk associated with the auction rate securities is limited due to this interest rate reset mechanism.

5. Inventories

     The following is a summary of inventories at September 30, 2004 and December 31, 2003:

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6. Prepaid Expenses and Other Current Assets

The following is a summary of prepaid expenses and other current assets at September 30, 2004 and December 31, 2003:

7. Intangible Assets

The following is a summary of intangible assets at September 30, 2004 and December 31, 2003:

Acquired ZADAXIN product rights are being amortized on a straight-line basis beginning in September 1998. Amortization expenses for the three-month and nine-month periods ended September 30, 2004 and 2003 were both $17,500 and $52,000, respectively. For the years ending December 31, 2004 through 2012, annual amortization expense is expected to be $70,000. Based upon the progress in the ZADAXIN clinical trials and the Company’s actual experience of product sales, the Company assessed that the acquired product rights will be useful to the Company through 2012 when the European patent for the use of ZADAXIN in the treatment of hepatitis C expires. The Company’s policy is to identify and record impairment losses on intangible product rights when events and circumstances indicate that the assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts of those assets. There have been no impairment losses recorded to date.

8. Contract Revenue

In January 2002, the Company received $2,685,000 from its European partner, Sigma-Tau, under the terms of its collaborative agreement announced in late December 2001. This receipt has been recorded as deferred revenue and is being recognized as contract revenue over the course of the ZADAXIN hepatitis C U.S. clinical program and the period of sharing the clinical data from this program with Sigma-Tau, the substantive performance requirements under the contract. In June 2004, the Company received a $1,000,000 milestone payment from Sigma-Tau for the enrollment of 1,000 patients into the U.S. hepatitis C clinical trials. This milestone payment was recognized as contract revenue in the three-month period ended June 30, 2004 as the substantive milestone event has been completed and there were no future performance obligations associated with the milestone payment.

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9. Compensation Expense

A non-recurring expense of $1,108,000 is included in general and administrative expense for the three-month and nine-month periods ended September 30, 2004 in connection with the separation of our former Chief Executive Officer from the Company in July 2004. The expense is recorded in the current quarter because the Company does not expect to receive future benefit from the payment obligations. Future payment obligations related to this expense include $554,000 included in accrued compensation and employee benefits and $544,000 included in other long-term liabilities.

10. Other Accrued Expenses

The following is a summary of other accrued expenses at September 30, 2004 and December 31, 2003:

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Special Note Regarding Forward-Looking Statements

     This Quarterly Report on Form 10-Q contains 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. These forward-looking statements are based on our current expectations, estimates and projections about our business, industry, management’s beliefs and certain assumptions made by us. Words such as “anticipate,” “expect,” “intend,” “plan,” “believe” or similar expressions are intended to identify forward-looking statements including those statements we make regarding our future financial results; anticipated product sales; the sufficiency of our resources to complete clinical trials and other new product development initiatives; the timing and outcome of clinical trials; the timing of completion of therapy and observation for our clinical trials; ZADAXIN’s ability to complement existing therapies; prospects for ZADAXIN and our plans for its enhancement and commercialization; future size of the worldwide hepatitis C virus market; research and development and other expense levels; cash and other asset levels; and the allocation of financial resources to certain trials and programs. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors including, but not limited to, those described under the caption “Risk Factors” in this Quarterly Report on Form 10-Q. We undertake no obligation to revise or update publicly any forward-looking statements for any reason.

Overview

     SciClone Pharmaceuticals, Inc. is a biopharmaceutical company engaged in the development and commercialization of therapeutics to treat life-threatening diseases. We are currently evaluating our lead product, ZADAXIN, in several late stage clinical trials for the treatment of patients with the hepatitis C virus, or HCV, the hepatitis B virus, or HBV, and certain types of cancer. Our primary focus is the successful completion of our two ongoing ZADAXIN phase 3 HCV clinical trials in the United States. We believe the worldwide market for HCV therapies was approximately $3 billion in 2003 and could exceed $8 billion in 2012. If approved by the U.S. Food and Drug Administration (FDA), we expect ZADAXIN to complement other HCV therapies and to expand the HCV market. In addition to the HCV trials in the United States, ZADAXIN is also being evaluated in a completed phase 3 HBV clinical trial in Japan, an ongoing, licensee-sponsored phase 2 malignant melanoma clinical trial in Europe with our exclusive marketing partner for Western Europe, Sigma-Tau, two ongoing phase 2 pilot studies in the United States for the treatment of liver cancer, an ongoing HCV pilot clinical trial in Mexico and an ongoing HBV clinical trial in Taiwan. We recently announced plans for a ZADAXIN phase 3 hepatitis C triple therapy clinical trial in Europe, sponsored and primarily funded by Sigma-Tau. Our other principal drug development candidate is SCV-07, a potential therapeutic to treat viral and other infectious diseases.

Results of Operations

     Total Revenue

     Product sales were $5,753,000 and $16,780,000 for the three-month and nine-month periods ended September 30, 2004, as compared to $5,421,000 and $26,628,000 for the corresponding periods in 2003. All product sales in each period were derived from sales of ZADAXIN. The higher level of sales in the 2003 nine-month period was related to an unanticipated increase in volume of ZADAXIN product sold in response to the SARS epidemic in China. Product prices have remained stable throughout the 2003 and 2004 periods. Sales to customers in China accounted for approximately 92% and 91% of this revenue for the three-month and nine-month periods ended September 30, 2004 and 88% and 89% in the corresponding periods in 2003.

     For the three-month period ended September 30, 2004, sales to one importing agent in China accounted for approximately 92% of our product sales. However, for the nine-month period ended September 30, 2004, the same importing agent in China accounted for 32% of our product sales and two other importing agents in China

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accounted for 59% of our product sales. We expect that the share of our product sales to China will vary among a small number of importing agents from quarter to quarter.

     Contract revenue was $134,000 and $1,497,000 for the three-month and nine-month periods ended September 30, 2004 as compared to $224,000 and $672,000 for each of the corresponding periods in 2003. We recognized $134,000 and $403,000 of contract revenue for the three-month and nine-month periods ended September 30, 2004, respectively, and all of the revenue in the corresponding 2003 periods, in connection with the $2,685,000 payment we received from Sigma-Tau in January 2002. This revenue is recognized as contract revenue over the course of the ZADAXIN hepatitis C U.S. clinical program and the period of sharing the clinical data from this program with Sigma-Tau in accordance with the requirements under our contract with Sigma-Tau. During the three-month period ended June 30, 2004, we also recognized a $1,000,000 milestone payment from Sigma-Tau for the enrollment of 1,000 patients in our phase 3 HCV clinical trials. Additionally, we recognized $94,000 of contract revenue in the three-month period ended March 31, 2004 in connection with a National Institutes of Health grant.

     Cost of Product Sales and Gross Margin on Product Sales

     Gross margin on product sales was 81% and 80% for the three-month and nine-month periods ended September 30, 2004, as compared to 83% and 82% for each of the corresponding periods in 2003. The decrease in gross margin percentage for the 2004 periods was primarily the result of higher product costs in connection with the transfer to a new toll manufacturer for ZADAXIN and lower product costs in the 2003 periods due to higher volume productions in response to the SARS epidemic in China. We expect cost of product sales, and hence gross margin on product sales, to vary from period to period, depending upon the level of ZADAXIN sales, the absorption of product-related fixed costs, and any charges associated with excess or expiring finished product inventory.

     Research and Development

     Research and development expenses were $4,858,000 and $13,552,000 for the three-month and nine-month periods ended September 30, 2004, as compared to $4,585,000 and $12,676,000 for the corresponding periods in 2003. The increase was primarily to support our ZADAXIN phase 3 clinical trials in the United States. The initiation and continuation of our current clinical development programs has had and will continue to have a significant effect on our research and development expenses. Due to the uncertain nature of the clinical trial process, it is not possible to determine the total cost expected to be incurred for each trial. In general, we expect research and development expenses to vary substantially from quarter to quarter as we pursue our strategy of initiating additional preclinical and clinical trials and testing, acquiring product rights, and expanding regulatory activities.

     Sales and Marketing

     Sales and marketing expenses were $2,317,000 and $7,290,000 for the three-month and nine-month periods ended September 30, 2004, as compared to $1,892,000 and $7,146,000 for the corresponding periods in 2003. The increase in sales and marketing expenses were associated with expenses for advertising and conferences associated with the expansion of our markets for ZADAXIN. We expect sales and marketing expenses to vary in the next several quarters and to increase in the next several years if we are successful in our efforts to expand our commercialization and marketing efforts.

     General and Administrative

     General and administrative expenses were $2,573,000 and $5,022,000 for the three-month and nine-month periods ended September 30, 2004, as compared to $998,000 and $3,045,000 for the corresponding periods in 2003. Approximately $1,098,000 of the increase in the 2004 periods is attributable to a non-recurring expense incurred in connection with the separation of our former Chief Executive Officer from the Company in July 2004. The balance of the increase in general and administrative expenses was attributable to greater general and administrative activities associated with increased securities regulation requirements. In the near term, we expect

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general and administrative expenses to vary from quarter to quarter and to increase particularly due to increased audit costs and other activities related to compliance with additional securities regulation requirements.

     Interest and Investment Income and Expense

     Interest and investment income was approximately $156,000 and $384,000 for the three-month and nine-month periods ended September 30, 2004, as compared to $47,000 and $143,000 for the corresponding periods in 2003. The increase was primarily due to higher cash balances earning interest in the 2004 period. Interest and investment expense is related to the $5,600,000 of convertible notes payable outstanding throughout the nine-month periods ended September 30, 2004 and 2003.

     Liquidity and Capital Resources

     On September 30, 2004 and December 31, 2003, we had $52,986,000 and $62,975,000, respectively, in cash, cash equivalents and short-term investments including $695,000 of restricted short-term investments. We currently estimate cash, cash equivalents and short-term investments at December 31, 2004 will be lower than the balance at September 30, 2004. The expected decrease in this balance is attributable to an expected net loss and no planned financing activities during the remainder of 2004. The short-term investments consist primarily of highly liquid marketable securities. Our restricted short-term investments relate to two letters of credit each secured by a certificate of deposit. On both September 30, 2004 and December 31, 2003, the letters of credit totaled $695,000 and were comprised of $633,000 under our lease agreement and $62,000 to facilitate our value added tax filings in Europe.

     Net cash used in operating activities amounted to $10,122,000 for the nine-month period ended September 30, 2004 as compared to net cash used in operating activities in the amount of $4,767,000 in the corresponding period in 2003. The change was primarily due to the higher net loss incurred in the 2004 period compared to the 2003 period.

     Net cash used by us in investing activities amounted to $222,000 for the nine-month period ended September 30, 2004 and related primarily to the purchase of $166,000 in property and equipment.

     Net cash provided by financing activities amounted to $236,000 for the nine-month period ended September 30, 2004 and was derived from the issuance of common stock under our employee stock purchase plan.

     We intend to give priority use of our financial resources to ZADAXIN clinical programs in the United States. We believe our existing capital resources and funds from product sales are sufficient to complete our current U.S. phase 3 clinical trials and, if the trials are successful and we receive FDA approval, to begin commercialization of ZADAXIN in the United States. We also believe that our current resources are sufficient to permit us to undertake certain additional product development initiatives over the next two years. However, we cannot assure you that such funds will be sufficient, or that sales of ZADAXIN, if approved in the United States, will result in profitable operations. In the event we need to raise additional funds, the unavailability or the inopportune timing of any financing could prevent or delay our long-term product development and commercialization programs, either of which would severely hurt our business. The need, timing and amount of any such financing would depend upon numerous factors, including the level of ZADAXIN sales, the timing and amount of manufacturing costs related to ZADAXIN, the availability of complementary products, technologies and businesses, the initiation and continuation of preclinical and clinical trials and testing, the timing of regulatory approvals, developments in relationships with existing or future collaborative parties and the status of competitive products.

Contractual Obligations

     There were no material changes in the three-month ended September 30, 2004 to our contractual obligations as disclosed in our Form 10-Q for the quarter ended June 30, 2004.

Off-Balance Sheet Arrangements

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     There were no off-balance sheet arrangements in the three-month and nine-month periods ended September 30, 2004.

Risk Factors

     You should carefully consider the risks described below, in addition to the other information in this report on Form 10-Q and our report on Form 10-K for the year ended December 31, 2003, before making an investment decision. Each of these risk factors could adversely affect our business, financial condition, and operating results as well as adversely affect the value of an investment in our common stock.

If we are unable to commercialize ZADAXIN in various markets for multiple indications, particularly in the United States for the treatment of HCV, our business will be harmed.

     Our ability to achieve and sustain operating profitability depends in large part on our ability to commence, execute and complete clinical programs and obtain additional regulatory approvals for ZADAXIN and other drug candidates, particularly in the United States, Europe and Japan. We are also dependent on our ability to increase ZADAXIN sales in existing markets and launch ZADAXIN in new markets. In particular, our ability to achieve and sustain profitability will depend in large part on our ability to commercialize ZADAXIN for the treatment of HCV in the United States. We cannot assure you that we will achieve significant levels of sales or that we will receive approval for ZADAXIN for the treatment of HCV in the United States or for the treatment of HCV or other indications in other countries. If we are unable to do so, our business will be harmed.

If we do not obtain regulatory approval for ZADAXIN for the intended indications that we are evaluating, our revenues will be limited and we will not become profitable.

     Our ability to execute on our business strategy requires that we obtain regulatory approval for the use of ZADAXIN, particularly for the treatment of HCV in the United States, both HBV and HCV in Japan and both HCV and malignant melanoma in Europe. If our current phase 3 trials in the United States and current and future trials in Europe yield favorable results, we intend to submit applications for marketing approval of ZADAXIN for the treatment of HCV in the United States and through our partner, Sigma-Tau, for the treatment of HCV and malignant melanoma in Europe. Based on the results of our recently completed phase 3 trial in Japan, we intend to submit a regulatory filing for the treatment of HBV in Japan. The regulatory approval processes in the United States, Europe and Japan are demanding and typically require 12 months or more in the United States and 18 months or more in Europe and Japan from the date of submission of a New Drug Application. We have committed significant resources, including capital and time, to develop ZADAXIN, particularly for HCV in the United States, with the goal of obtaining such approvals. If we do not obtain these approvals, we will be unable to achieve any substantial increase in our revenue.

     All new drugs, including our products, which have been developed or are under development, are subject to extensive and rigorous regulation by the FDA and comparable agencies in state and local jurisdictions and in foreign countries. These regulations govern, among other things, the development, testing, manufacturing, labeling, storage, pre-market approval, importation, advertising, promotion, sale and distribution of our products. These regulations may change from time to time and new regulations may be adopted.

     Obtaining regulatory approval in developing countries is time-consuming and expensive. In some countries where we are contemplating marketing and selling ZADAXIN, the regulatory approval process often relies on prior approvals obtained in the United