Attached files
file | filename |
---|---|
EX-10.1 - EX-10.1 - AVANIR PHARMACEUTICALS, INC. | a59457exv10w1.htm |
EX-31.1 - EX-31.1 - AVANIR PHARMACEUTICALS, INC. | a59457exv31w1.htm |
EX-32.1 - EX-32.1 - AVANIR PHARMACEUTICALS, INC. | a59457exv32w1.htm |
EX-31.2 - EX-31.2 - AVANIR PHARMACEUTICALS, INC. | a59457exv31w2.htm |
Table of Contents
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. |
For the quarterly period ended March 31, 2011
OR
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. |
For the transition period from
to .
Commission File No. 1-15803
AVANIR PHARMACEUTICALS, INC.
(Exact name of registrant as specified in its charter)
Delaware (State or other jurisdiction of incorporation or organization) |
33-0314804 (I.R.S. Employer Identification No.) |
101 Enterprise Suite 300, Aliso Viejo, California (Address of principal executive offices) |
92656 (Zip Code) |
(949) 389-6700
(Registrants telephone number, including area code)
(Registrants telephone number, including area code)
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 and 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 þ NO o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files).
YES o NO o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
(Check one):
Large accelerated filer o | Accelerated filer þ | Non-accelerated filer o (Do not check if a smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). YES o NO þ
As of May 5, 2011, the registrant had 124,095,120 shares of common stock issued and outstanding.
Table of Contents
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
AVANIR PHARMACEUTICALS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
March 31, | September 30, | |||||||
2011 | 2010 | |||||||
(unaudited) | (audited) | |||||||
ASSETS |
||||||||
Current assets: |
||||||||
Cash and cash equivalents |
$ | 103,047,047 | $ | 38,771,469 | ||||
Trade receivables |
3,215,758 | | ||||||
Stock subscriptions receivable |
| 580,910 | ||||||
Royalty receivables |
| 29,471 | ||||||
Inventories |
671,001 | 652,628 | ||||||
Prepaid expenses |
1,217,915 | 432,705 | ||||||
Other current assets |
326,762 | 23,396 | ||||||
Current portion of restricted investments in marketable securities |
467,100 | 200,000 | ||||||
Total current assets |
108,945,583 | 40,690,579 | ||||||
Restricted investments in marketable securities, net of current portion |
1,634,625 | 401,550 | ||||||
Property and equipment, net |
674,436 | 449,712 | ||||||
Non-current inventories |
258,182 | 228,207 | ||||||
Other assets |
795,978 | 371,150 | ||||||
TOTAL ASSETS |
$ | 112,308,804 | $ | 42,141,198 | ||||
LIABILITIES AND STOCKHOLDERS EQUITY |
||||||||
Current liabilities: |
||||||||
Accounts payable |
$ | 1,327,234 | $ | 2,106,110 | ||||
Accrued expenses and other liabilities |
1,679,533 | 1,070,061 | ||||||
Accrued compensation and payroll taxes |
2,336,075 | 2,147,371 | ||||||
Deferred product revenues, net |
2,647,091 | | ||||||
Current portion of deferred royalty revenues |
2,087,226 | 2,399,849 | ||||||
Total current liabilities |
10,077,159 | 7,723,391 | ||||||
Accrued expenses and other liabilities, net of current portion |
241,158 | 334,269 | ||||||
Deferred royalty revenues, net of current portion |
5,274,870 | 6,076,982 | ||||||
Total liabilities |
15,593,187 | 14,134,642 | ||||||
Commitments and contingencies |
||||||||
Stockholders equity: |
||||||||
Preferred stock $0.0001 par value, 10,000,000 shares authorized,
no shares issued
or outstanding as of March 31, 2011 and September 30, 2010 |
| | ||||||
Common stock $0.0001 par value, 200,000,000 shares authorized;
121,745,120 and 95,965,572 shares issued and outstanding as of
March 31, 2011 and September 30, 2010 |
12,175 | 9,597 | ||||||
Common stock subscribed but unissued |
| 580,910 | ||||||
Additional paid-in capital |
427,965,585 | 332,100,685 | ||||||
Accumulated deficit |
(331,262,143 | ) | (304,684,636 | ) | ||||
Total stockholders equity |
96,715,617 | 28,006,556 | ||||||
TOTAL LIABILITIES AND STOCKHOLDERS EQUITY |
$ | 112,308,804 | $ | 42,141,198 | ||||
The accompanying notes to condensed consolidated financial statements are an integral part of this statement.
3
Table of Contents
AVANIR PHARMACEUTICALS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Three Months Ended March 31, | Six Months Ended March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
REVENUES FROM PRODUCT SALES |
||||||||||||||||
Gross product sales |
$ | 504,966 | $ | | $ | 504,966 | $ | | ||||||||
Less: discount and allowances |
(42,952 | ) | | (42,952 | ) | | ||||||||||
Net product sales |
462,014 | | 462,014 | | ||||||||||||
Cost of product sales (1) |
114,327 | | 114,327 | | ||||||||||||
Product gross margin |
347,687 | | 347,687 | | ||||||||||||
OTHER REVENUES |
||||||||||||||||
Revenues from royalties |
974,489 | 994,494 | 2,792,976 | 2,479,428 | ||||||||||||
Total gross margin |
1,322,176 | 994,494 | 3,140,663 | 2,479,428 | ||||||||||||
OPERATING EXPENSES |
||||||||||||||||
Research and development |
2,519,390 | 3,815,613 | 6,363,179 | 7,262,503 | ||||||||||||
Selling, general and administrative |
13,278,773 | 3,622,704 | 23,372,211 | 6,489,182 | ||||||||||||
Total operating expenses |
15,798,163 | 7,438,317 | 29,735,390 | 13,751,685 | ||||||||||||
Loss from operations |
(14,475,987 | ) | (6,443,823 | ) | (26,594,727 | ) | (11,272,257 | ) | ||||||||
OTHER INCOME |
||||||||||||||||
Interest income |
10,051 | 2,357 | 17,183 | 8,161 | ||||||||||||
Other, net |
348 | 1,004 | 37 | 677 | ||||||||||||
Net loss |
$ | (14,465,588 | ) | $ | (6,440,462 | ) | $ | (26,577,507 | ) | $ | (11,263,419 | ) | ||||
Basic and diluted net loss per share |
$ | (0.12 | ) | $ | (0.08 | ) | $ | (0.23 | ) | $ | (0.14 | ) | ||||
Basic and diluted weighted average
number of common shares
outstanding |
121,635,339 | 83,419,640 | 114,943,284 | 83,288,078 | ||||||||||||
(1) | Cost of product sales includes a write-down of inventory of approximately $82,000 as discussed in Note 5. |
The accompanying notes to condensed consolidated financial statements are an integral part of this statement.
4
Table of Contents
AVANIR PHARMACEUTICALS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Six Months Ended March 31, | ||||||||
2011 | 2010 | |||||||
OPERATING ACTIVITIES: |
||||||||
Net loss |
$ | (26,577,507 | ) | $ | (11,263,419 | ) | ||
Adjustments to reconcile net loss to net cash used in operating activities: |
||||||||
Depreciation and amortization |
177,229 | 99,397 | ||||||
Share-based compensation expense |
1,784,816 | 1,363,837 | ||||||
Changes in operating assets and liabilities: |
||||||||
Trade receivables |
(3,215,758 | ) | | |||||
Royalty receivables |
29,471 | (884,988 | ) | |||||
Inventories |
(48,348 | ) | | |||||
Prepaid expenses and other assets |
(1,513,404 | ) | 143,702 | |||||
Accounts payable |
(671,544 | ) | 644,208 | |||||
Accrued expenses and other liabilities |
346,361 | 326,904 | ||||||
Accrued compensation and payroll taxes |
188,704 | (541,333 | ) | |||||
Deferred product revenues, net |
2,647,091 | | ||||||
Deferred royalty revenues |
(1,114,735 | ) | (1,076,177 | ) | ||||
Net cash used in operating activities |
(27,967,624 | ) | (11,187,869 | ) | ||||
INVESTING ACTIVITIES: |
||||||||
Purchase of investments in securities |
(1,500,175 | ) | | |||||
Proceeds from sales and maturities of investments in securities |
| 66,906 | ||||||
Purchase of property and equipment |
(339,285 | ) | (48,590 | ) | ||||
Net cash (used in) provided by investing activities |
(1,839,460 | ) | 18,316 | |||||
FINANCING ACTIVITIES: |
||||||||
Proceeds from issuances of common stock, net of commissions
and offering costs |
87,739,859 | 183,044 | ||||||
Proceeds from exercise of stock options and warrants |
5,767,558 | 2,994 | ||||||
Collection of stock subscriptions receivable |
580,910 | | ||||||
Shares surrendered to pay for tax withholding |
(5,665 | ) | (197,690 | ) | ||||
Net cash provided by (used in) financing activities |
94,082,662 | (11,652 | ) | |||||
Net increase (decrease) in cash and cash equivalents |
64,275,578 | (11,181,205 | ) | |||||
Cash and cash equivalents at beginning of period |
38,771,469 | 31,486,012 | ||||||
Cash and cash equivalents at end of period |
$ | 103,047,047 | $ | 20,304,807 | ||||
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: |
||||||||
Income taxes paid |
$ | 3,200 | $ | 3,200 | ||||
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND
FINANCING ACTIVITIES: |
||||||||
Purchase of property and equipment in accounts payable and accrued
expenses and other liabilities |
$ | 193,290 | $ | |
The accompanying notes to condensed consolidated financial statements are an integral part of this statement.
5
Table of Contents
AVANIR PHARMACEUTICALS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements of Avanir
Pharmaceuticals, Inc. (Avanir, we, or the Company) have been prepared in accordance
with the rules and regulations of the Securities and Exchange Commission (SEC) for interim
reporting including the instructions to Form 10-Q. These condensed consolidated financial
statements do not include all disclosures for annual audited financial statements required by
accounting principles generally accepted in the United States of America (U.S. GAAP) and should
be read in conjunction with the Companys audited consolidated financial statements and related
notes included in the Companys Annual Report on Form 10-K for the year ended September 30, 2010.
The Company believes these condensed consolidated financial statements reflect all adjustments
(consisting only of normal, recurring adjustments) that are necessary for a fair presentation of
the financial position and results of operations for the periods presented. Results of operations
for the interim periods presented are not necessarily indicative of results to be expected for the
year.
The preparation of financial statements in conformity with U.S. GAAP requires management to
make estimates and assumptions that affect the reported amounts and the disclosures of commitments
and contingencies in the financial statements and accompanying notes. Actual results could differ
from those estimates.
Certain amounts in the accompanying condensed consolidated financial statements have been
reclassified to conform with the current period presentation.
2. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Business
Avanir is a pharmaceutical company focused on acquiring, developing and
commercializing novel therapeutic products for the treatment of central nervous system disorders.
In October 2010, the U.S. Food and Drug Administration (FDA) approved NUEDEXTA®
(formally referred to as AVP-923 or its previously proposed trade name Zenvia), a unique
proprietary combination of dextromethorphan/quinidine, for the treatment of pseudobulbar affect
(PBA). The Company commenced promotion of NUEDEXTA in February 2011.
The Company is also studying AVP-923 for use in different types of neuropathic pain. The
Company has filed an Investigational New Drug application (IND) with the FDA to begin a large
Phase II clinical trial of AVP-923, an investigational drug for the treatment of central
neuropathic pain in patients with multiple sclerosis. The FDA has acknowledged receipt of the
submission and the Company plans to enroll the first patient before the end of calendar 2011.
AVP-923 has also successfully completed a Phase III trial for the treatment of patients with
diabetic peripheral neuropathic pain (DPN pain).
In addition to the Companys focus on products for the central nervous system, the Company
also has partnered programs in other therapeutic areas which may generate future income. The
Companys first commercialized product, docosanol 10% cream, (sold in the United States and Canada
as Abreva® by its marketing partner GlaxoSmithKline Consumer Healthcare) is the only
over-the-counter treatment for cold sores that has been approved by the FDA. In 2008, the Company
licensed all its monoclonal antibodies and remains eligible to receive milestone payments and
royalties related to the sale of these assets.
The Companys operations are subject to certain risks and uncertainties frequently encountered
by companies in the early stages of operations, particularly in the evolving market for small
biotech and specialty pharmaceutical companies. Such risks and uncertainties include, but are not
limited to, the occurrence of adverse safety events with NUEDEXTA; that NUEDEXTA may not gain
acceptance by the medical field or that the indicated use may not be
clearly understood; the Companys
dependence on third parties for manufacturing and distribution of NUEDEXTA; that the Company may not
adequately build or maintain the necessary sales, marketing, supply chain management and
reimbursement
6
Table of Contents
capabilities
on its own or enter into arrangements with third parties to perform these
functions in a timely manner or on acceptable terms; timing and uncertainty of achieving milestones
in clinical trials; the acceptance of the IND application by the FDA; and in obtaining approvals by
the FDA and regulatory agencies in other countries. The Companys ability to generate revenues in
the future may depend on market acceptance of NUEDEXTA for the treatment of PBA and the timing and
success of reaching clinical development milestones and obtaining regulatory approvals for other
formulations for NUEDEXTA (referred to as AVP-923). The Companys operating expenses depend
substantially on the level of expenditures for the ongoing marketing of NUEDEXTA, clinical
development activities for NUEDEXTA as well as AVP-923 and the rate of progress being made on such
activities.
Avanir was incorporated in California in August 1988 and was reincorporated in
Delaware in March 2009.
Significant Accounting Policies
The following represents an update for the six months ended March 31, 2011 to the significant
accounting policies described in the Companys Annual Report on Form 10-K for the fiscal year ended September
30, 2010.
Concentration of Credit Risk and Sources of Supply
As of March 31, 2011, approximately $64.3 million of the Companys cash and cash equivalents
were maintained in four separate money market mutual funds, and approximately $38.7 million of the
Companys cash and cash equivalents were maintained at three major financial institutions in the
United States. At times, deposits held with the financial institutions may exceed the amount of
insurance provided by the Federal Deposit Insurance Corporation (FDIC), which provides basic
deposit coverage with limits up to $250,000 per owner. In addition to the basic insurance deposit
coverage, the FDIC is providing temporary unlimited coverage for noninterest-bearing transaction
accounts from December 31, 2010 through December 31, 2012. At March 31, 2011, such uninsured
deposits totaled approximately $100.5 million of the $105.1 million of total cash and restricted
investments. Generally, these deposits may be redeemed upon demand and, therefore, are believed to
bear minimal risk.
Financial instruments that potentially subject the Company to concentrations of credit risk
consist of cash and cash equivalents and trade receivables. The Companys cash and cash equivalents
are placed in various money market mutual funds and at financial institutions of high credit
standing. The Company performs ongoing credit evaluations of its customers financial condition and
would limit the amount of credit extended if necessary; however, the Company has historically
required no collateral.
The Company currently has sole suppliers for the active pharmaceutical ingredients (APIs)
for NUEDEXTA and a sole manufacturer for the finished form of NUEDEXTA. In addition, these
materials are custom and available from only a limited number of sources. Any material disruption
in manufacturing could cause a delay in shipments and possible loss of revenue. If the Company is
required to change manufacturers, the Company may experience delays associated with finding an
alternative manufacturer that is properly qualified to produce NUEDEXTA in accordance with FDA
requirements and the Companys specifications.
Fair value of financial instruments
At March 31, 2011 and September 30, 2010, the Companys financial instruments included cash
and cash equivalents, restricted investments in marketable securities, trade receivables, accounts
payable, accrued expenses and other liabilities, and accrued compensation and payroll taxes. The
carrying amount of cash and cash equivalents, trade receivables, accounts payable, accrued expenses
and other liabilities, and accrued compensation and payroll taxes approximates fair value due to
the short-term maturities of these instruments. The Companys short-term and long-term restricted
investments in marketable securities are carried at amortized cost which approximates fair value.
Revenue recognition
The Company has historically generated revenues from product sales, collaborative research and
development arrangements, and other commercial arrangements such as royalties, the sale of royalty
rights and sales of technology rights. Payments received under such arrangements may include
non-refundable fees at the inception of
the arrangements, milestone payments for specific achievements designated in the agreements,
royalties on sales of products resulting from collaborative arrangements, and payments for the sale
of rights to future royalties.
7
Table of Contents
The Company recognizes revenue when all of the following criteria are met: (1) persuasive
evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3)
the Companys price to the buyer is fixed or determinable; and (4) collectability is reasonably
assured. Certain product sales are subject to rights of return. For products sold where the buyer
has the right to return the product, the Company recognizes revenue at the time of sale only if (1)
the Companys price to the buyer is substantially fixed or determinable at the date of sale, (2)
the buyer has paid the Company, or the buyer is obligated to pay the seller and the obligation is
not contingent on resale of the product, (3) the buyers obligation to the Company would not be
changed in the event of theft or physical destruction or damage of the product, (4) the buyer
acquiring the product for resale has economic substance apart from that provided by the seller, (5)
the Company does not have significant obligations for future performance to directly bring about
resale of the product by the buyer, and (6) the amount of future returns can be reasonably
estimated. The Company recognizes such product revenues when either it has met all the above
criteria, including the ability to reasonably estimate future returns, when it can reasonably
estimate that the return privilege has substantially expired, or when the return privilege has
substantially expired, whichever occurs first.
Product Sales NUEDEXTA. NUEDEXTA is sold primarily to third-party wholesalers that, in
turn, sell this product to retail pharmacies, hospitals, and other dispensing organizations. The
Company has entered into agreements with wholesale customers, certain medical institutions and
third-party payers throughout the United States. These agreements frequently contain commercial
terms, which may include favorable product pricing and discounts and rebates payable upon
dispensing the product to patients. Additionally, these agreements customarily provide the customer
with rights to return the product, subject to the terms of each contract. Consistent with
pharmaceutical industry practice, wholesale customers can return purchased product during an
18-month period that begins six months prior to the products expiration date and ends 12 months
after the expiration date.
At the present time, the Company is unable to reasonably estimate future returns due to the
lack of sufficient historical returns data for NUEDEXTA. Accordingly, the Company invoices the
wholesaler, records deferred revenue at gross invoice sales price less estimated cash discounts and
distribution fees, and classifies the inventory shipped as inventories subject to return. The
Company currently defers recognition of revenue and the related cost of product sales on shipments
of NUEDEXTA until the right of return no longer exists, i.e. when the Company receives evidence
that the products have been dispensed to patients. The Company estimates patient prescriptions
dispensed using an analysis of third-party information. In the future, the Company plans to
recognize product sales upon shipment to the customer when it believes it has sufficient data to
develop reasonable estimates of expected returns based upon historical returns.
The Companys net product sales represent gross product sales less allowances for customer
credits, including estimated discounts, rebates, chargebacks and co-pay assistance. These
allowances are provided by the Company to a customer that is presumed to be a reduction of the
selling prices of the Companys products or services and, therefore, should be characterized as a
reduction of revenue when recognized in the Companys statement of operations. Allowances for
discounts, rebates, chargebacks and co-pay assistance are estimated based on contractual terms with
customers and sell-through data purchased from third party information. Product shipping and
handling costs are included in cost of product sales.
Product Sales Active Pharmaceutical Ingredient docosanol (docosanol). Revenue from sales
of the Companys docosanol is recorded when title and risk of loss have passed to the buyer and
provided the criteria for revenue recognition are met. The Company sells the docosanol to various
licensees upon receipt of a written order for the materials. Shipments generally occur fewer than
three times a year. The Companys contracts for sales of the docosanol include buyer acceptance
provisions that give the Companys buyers the right of replacement if the delivered product does
not meet specified criteria. That right requires that they give the Company notice within 30 days
after receipt of the product. The Company has the option to refund or replace any such defective
materials; however, it has historically demonstrated that the materials shipped from the same
pre-inspected lot have consistently met the specified criteria and no buyer has rejected any of the
Companys shipments from the same pre-inspected lot to date. Therefore, the Company recognizes
revenue at the time of delivery without providing any returns reserve.
8
Table of Contents
Multiple Element Arrangements. The Company has, in the past, entered into arrangements whereby
it delivers to the customer multiple elements including technology and/or services. Such
arrangements have included some combination of the following: antibody generation services;
licensed rights to technology, patented products, compounds, data and other intellectual property;
and research and development services. At the inception of the arrangement, the Company analyzes
its multiple element arrangements to determine whether the elements can be separated. If a product
or service is not separable, the combined deliverables will be accounted for as a single unit of
accounting.
A delivered element can be separated from other elements when it meets both of the following
criteria: (1) the delivered item has value to the customer on a standalone basis; and (2) if the
arrangement includes a general right of return relative to the delivered item, delivery or
performance of the undelivered item is considered probable and substantially in the Companys
control. If an element can be separated, the Company allocates amounts based upon the selling price
of each element. The Company determines the selling price of a separate deliverable using the price
it charges other customers when it sells that product or service separately; however, if the
Company does not sell the product or service separately, it uses third-party evidence of selling
price of a similar product or service to a similar situated customer. The Company considers
licensed rights or technology to have standalone value to its customers if it or others have sold
such rights or technology separately or its customers can sell such rights or technology separately
without the need for the Companys continuing involvement.
License Arrangements. License arrangements may consist of non-refundable upfront license
fees, data transfer fees, research reimbursement payments, exclusive licensed rights to patented or
patent pending compounds, technology access fees, and various performance or sales milestones.
These arrangements are often multiple element arrangements.
Non-refundable, up-front fees that are not contingent on any future performance by the
Company, and require no consequential continuing involvement on its part, are recognized as revenue
when the license term commences and the licensed data, technology and/or compound is delivered.
Such deliverables may include physical quantities of compounds, design of the compounds and
structure-activity relationships, the conceptual framework and mechanism of action, and rights to
the patents or patents pending for such compounds. The Company defers recognition of non-refundable
upfront fees if it has continuing performance obligations without which the technology, right,
product or service conveyed in conjunction with the non-refundable fee has no utility to the
licensee that is separate and independent of the Companys performance under the other elements of
the arrangement. In addition, if the Company has required continuing involvement through research
and development services that are related to its proprietary know-how and expertise of the
delivered technology, or can only be performed by the Company, then such up-front fees are deferred
and recognized over the period of continuing involvement.
Payments related to substantive, performance-based milestones in a research and development
arrangement are recognized as revenues upon the achievement of the milestones as specified in the
underlying agreements when they represent the culmination of the earnings process.
Royalty Arrangements. The Company recognizes royalty revenues from licensed products when
earned in accordance with the terms of the license agreements. Net sales amounts generally required
to be used for calculating royalties include deductions for returned product, pricing allowances,
cash discounts, freight and warehousing. These arrangements are often multiple element
arrangements.
Certain royalty arrangements require that royalties are earned only if a sales threshold is
exceeded. Under these types of arrangements, the threshold is typically based on annual sales. For
royalty revenue generated from the license agreement with GlaxoSmithKline (GSK), the Company
recognizes royalty revenue in the period in which the threshold is exceeded. During the six months
ended March 31, 2011 and 2010, sales in excess of the threshold resulted in recognized royalty
revenues from GSK of approximately $1.2 million and $886,000, respectively. For royalty revenue
generated from the license agreement with Azur Pharma (Azur), the Company recognizes revenue when
it has determined that the threshold has been exceeded. During the six months ended March 31, 2011
and 2010, sales in excess of the threshold resulted in recognized royalty revenues from Azur of
approximately $527,000 and $516,000, respectively.
9
Table of Contents
When the Company sells its rights to future royalties under license agreements and also
maintains continuing involvement in earning such royalties, it defers recognition of any upfront
payments and recognizes them as revenues over the life of the license agreement. The Company
recognizes revenues for the sale of an undivided interest of its Abreva® license agreement to Drug
Royalty USA under the units-of-revenue method. Under this method, the amount of deferred revenues
to be recognized in each period is calculated by multiplying the ratio of the royalty payments due
to Drug Royalty USA by GSK for the period to the total remaining royalties the Company expects GSK
will pay Drug Royalty USA over the remaining term of the agreement by the unamortized deferred
revenues.
Cost of product revenues
Cost of product revenues includes third-party royalties and direct and indirect costs to
manufacture product sold, including packaging, storage, shipping and handling costs and the
write-off of obsolete inventory.
Recognition of Expenses in Outsourced Contracts
Pursuant to managements assessment of the services that have been performed on clinical
trials and other contracts, the Company recognizes expenses as the services are provided. Such
management assessments include, but are not limited to: (1) an evaluation by the project manager of
the work that has been completed during the period, (2) measurement of progress prepared internally
and/or provided by the third-party service provider, (3) analyses of data that justify the
progress, and (4) managements judgment. Several of the Companys contracts, including subsequent
amendments, extend across multiple reporting periods.
Share-Based Compensation
The Company grants options, restricted stock units and restricted stock awards to purchase its
common stock to its employees, directors and consultants under its stock option plans. The benefits
provided under these plans are share-based payments that the Company accounts for using the fair
value method.
The fair value of each option award is estimated on the date of grant using a
Black-Scholes-Merton option pricing model (Black-Scholes model) that uses assumptions regarding a
number of complex and subjective variables. These variables include, but are not limited to, the
Companys expected stock price volatility, actual and projected employee stock option exercise
behaviors, risk-free interest rate and expected dividends. Expected volatilities are based on
historical volatility of the Companys common stock and other factors. The expected terms of
options granted are based on analyses of historical employee termination rates and option
exercises. The risk-free interest rates are based on the U.S. Treasury yield in effect at the time
of the grant. Since the Company does not expect to pay dividends on its common stock in the
foreseeable future, the Company estimated the dividend yield to be 0%.
Share-based compensation expense recognized during a period is based on the value of the
portion of share-based payment awards that is ultimately expected to vest and is amortized under
the straight-line attribution method. As share-based compensation expense recognized in the
consolidated statements of operations for periods in fiscal 2011 and 2010 is based on awards
ultimately expected to vest, it has been reduced for estimated forfeitures. The fair value method
requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent
periods if actual forfeitures differ from those estimates. The Company estimates forfeitures based
on its historical experience.
10
Table of Contents
Total compensation expense related to all of the Companys share-based awards for the three
and six month periods ended March 31, 2011 and 2010 was comprised of the following:
For the three months ended | For the six months ended | |||||||||||||||
March 31, | March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Share-based compensation classified as: |
||||||||||||||||
Selling, general and administrative
expense |
$ | 798,723 | $ | 518,696 | $ | 1,485,633 | $ | 1,035,608 | ||||||||
Research and development expense |
152,485 | 146,069 | 299,183 | 328,229 | ||||||||||||
Total |
$ | 951,208 | $ | 664,765 | $ | 1,784,816 | $ | 1,363,837 | ||||||||
For the three months ended | For the six months ended | |||||||||||||||
March 31, | March 31, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Share-based compensation expense from: |
||||||||||||||||
Stock options |
$ | 622,724 | $ | 336,283 | $ | 1,114,077 | $ | 575,233 | ||||||||
Restricted stock units |
328,484 | 328,482 | 670,739 | 788,604 | ||||||||||||
Total |
$ | 951,208 | $ | 664,765 | $ | 1,784,816 | $ | 1,363,837 | ||||||||
Since the Company provided a full valuation allowance related to its net deferred tax assets
as of March 31, 2011, no excess tax benefits for the tax deductions related to share-based awards
were recognized in the condensed consolidated statements of operations. Additionally, no
incremental tax benefits were recognized from stock options exercised in the six month periods
ended March 31, 2011 and 2010 that would have resulted in a reclassification to reduce net cash
used in operating activities with an offsetting increase in net cash used in financing activities.
(See Note 10, Employee Equity Incentive Plans)
Income Taxes
The Company accounts for income taxes and the related accounts under the liability method.
Deferred tax assets and liabilities are determined based on the differences between the financial
statement carrying amounts and the income tax bases of assets and liabilities. A valuation
allowance is applied against any net deferred tax asset if, based on available evidence, it is more
likely than not that some or all of the deferred tax assets will not be realized.
The Company recognizes any uncertain income tax positions on the income tax returns at the
largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing
authority. An uncertain income tax position will not be recognized if it has less than a 50%
likelihood of being sustained.
At March 31, 2011, the total unrecognized tax benefit resulting in a decrease in deferred tax
assets and corresponding decrease in the valuation allowance is approximately $3.4 million. There
are no unrecognized tax benefits included in the condensed consolidated balance sheet that would,
if recognized, affect the effective tax rate.
The Companys policy is to recognize interest and/or penalties related to income tax matters
in income tax expense. The Company had $0 accrued for interest and penalties on the Companys
condensed consolidated balance sheets at March 31, 2011 and September 30, 2010.
The Company is subject to taxation in the U.S. and various state jurisdictions. The Companys
tax years for 1994 and forward are subject to examination by the U.S. and California tax
authorities due to the carryforward of unutilized net operating losses and research and development
credits.
The Company does not foresee material changes to its gross uncertain income tax liability
within the next twelve months.
11
Table of Contents
In July 2010, the Company applied for the Qualifying Therapeutic Discovery Project tax credit
(Therapeutic Credit). The Therapeutic Credit allows qualifying business to claim a credit for 50%
of their qualified investment in qualifying projects for tax years 2010 and 2009. In November 2010,
the Company received notification from the Internal Revenue Service that it was granted a credit of
approximately $244,000 related to the Therapeutic Credit. The Company elected to receive a cash
grant in lieu of the credit. The cash grant which will be received by the Company is included in
other current assets in the accompanying condensed consolidated balance sheet and is recorded as an
offset to research and development expenses in the accompanying condensed consolidated statement of
operations for the six months ended March 31, 2011.
Recent Authoritative Guidance
Proposed Amendments to Current Accounting Standards. The Financial Accounting Standard Board
(FASB) is currently working on amendments to existing accounting standards governing a number of
areas including, but not limited to, revenue recognition. In June 2010, the FASB issued an exposure
draft, Revenue from Contracts with Customers, which would supersede most of the existing guidance
on revenue recognition in Accounting Standards Codification Topic 605, Revenue Recognition. As the
standard-setting process is still ongoing, the Company is unable to determine the impact this proposed
change in accounting will have in its consolidated financial statements at this time.
Fees Paid to the Federal Government by Pharmaceutical Manufacturers. In December 2010, the
FASB ratified a consensus of the Emerging Issues Task Force (EITF) related to an annual fee to
be paid to the federal government by pharmaceutical manufacturers as mandated by the Patient
Protection and Affordable Care Act as amended by the Health Care and Education Reconciliation Act.
This consensus requires the liability related to the annual fee to be estimated and recorded in
full upon the first qualifying sale with a corresponding deferred cost that is amortized to expense
generally using a straight-line method of allocation over the calendar year that it is payable.
This guidance is effective for calendar years beginning after December 31, 2010, when the fee
initially became effective. The Company adopted this guidance effective January 1, 2011. The
adoption of this guidance did not have a material impact on the Companys consolidated financial
position, results of operations and cash flows.
Milestone Method of Revenue Recognition. In March 2010, the FASB ratified a consensus of the
EITF related to the milestone method of revenue recognition. The consensus codifies a method of
revenue recognition that has been common practice. Under this method, contingent consideration from
research and development activities that is earned upon the achievement of a substantive milestone
is recognized in its entirety in the period in which the milestone is achieved. This guidance is
effective for annual periods beginning on or after June 15, 2010 but may be early adopted as of the
beginning of an annual period. The Company adopted this guidance effective October 1, 2010. The
adoption of this guidance did not have a material impact on the Companys consolidated financial
position, results of operations and cash flows.
Multiple-Deliverable Revenue Arrangements. In September 2009, the FASB issued authoritative
guidance regarding multiple-deliverable revenue arrangements. This guidance addresses how to
measure and allocate consideration to one or more units of accounting. Specifically, the guidance
requires that consideration be allocated among multiple deliverables based on relative selling
prices. The guidance establishes a selling price hierarchy of (1) vendor-specific objective
evidence, (2) third-party evidence and (3) estimated selling price. This guidance is effective for
annual periods beginning on or after June 15, 2010 but may be early adopted as of the beginning of
an annual period. The Company adopted this guidance effective October 1, 2010. The adoption of this
guidance did not have a material impact on the Companys consolidated financial position, results
of operations and cash flows.
12
Table of Contents
3.
FAIR VALUE MEASUREMENTS
The Company measures the fair value of certain of its financial assets on a recurring basis. A
fair value hierarchy is used to rank the quality and reliability of the information used to
determine fair values. Financial assets and liabilities carried at fair value will be classified
and disclosed in one of the following three categories:
| Level 1-Quoted prices in active markets for identical assets and liabilities. | ||
| Level 2-Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets and liabilities, quoted prices in the markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. | ||
| Level 3-Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. |
As of March 31, 2011, the Companys cash equivalents held in money market mutual funds of
approximately $64.3 million are all valued using quoted prices generated by market transactions
involving identical assets, or Level 1, as defined by the fair value hierarchy noted above.
4. RESTRICTED INVESTMENTS IN MARKETABLE SECURITIES
Restricted investments in marketable securities at March 31, 2011 and September 30, 2010
consist of certificates of deposit, which are classified as held-to-maturity. At March 31, 2011 and
September 30, 2010, the fair value of these investments approximated their cost basis.
At March 31, 2011, restricted investments in marketable securities totaling approximately $1.6
million consist of three investment certificates of deposit that automatically renew every 30 days
and are related to irrevocable standby letters of credit connected to fleet rentals and two office
leases with expiration dates in 2013 and 2016, and are classified as non-current assets. Restricted
investments in marketable securities also consist of two certificates of deposit that renew every
three months totaling $467,100 and are related to the Companys corporate credit card agreement and
an irrevocable standby letter of credit connected to the short-term portion of an office lease with
an expiration date in 2013, and are classified as a current asset.
At September 30, 2010, restricted investments in marketable securities totaling $401,550
consisted of an investment certificate of deposit that automatically renewed every 30 days and was
related to a letter of credit connected to an office lease with an expiration date in 2013 and was
classified as a non-current asset. Restricted investments in marketable securities also consisted
of a $200,000 certificate of deposit that renewed every three months and was related to the
Companys corporate credit card agreement and was classified as a current asset.
5. INVENTORIES
Inventories are comprised of NUEDEXTA product and the active pharmaceutical ingredients of
NUEDEXTA, dextromethorphan and quinidine, as well as the active pharmaceutical ingredient
docosanol.
13
Table of Contents
The composition of inventories as of March 31, 2011 and September 30, 2010 is as follows:
March 31, | September 30, | |||||||
2011 | 2010 | |||||||
(audited) | ||||||||
Raw materials |
$ | 718,426 | $ | 554,465 | ||||
Work in progress |
| 326,370 | ||||||
Finished goods |
196,547 | | ||||||
Inventories subject to return |
14,210 | | ||||||
Total inventory, net |
929,183 | 880,835 | ||||||
Less: current portion |
(671,001 | ) | (652,628 | ) | ||||
Non-current portion |
$ | 258,182 | $ | 228,207 | ||||
The amount classified as non-current inventories is comprised of the raw material components for
NUEDEXTA, dextromethorphan and quinidine, which will be used in the manufacture of NUEDEXTA
capsules in the future. Included in finished goods inventory is NUEDEXTA that was manufactured in
2010 to obtain FDA approval. This product is currently being sold to wholesalers and is scheduled
to expire in 2012. Wholesalers generally will not purchase product that is within 12 months of
expiration. As such, the Company recorded an inventory write-down of
approximately $82,000 for the quarter ended March 31, 2011, for the estimated amount of product that
may not be shipped due to short-dating. As of March 31, 2011 and September 30, 2010, raw materials
represent gross raw materials of approximately $1.4 million and $1.3 million, respectively, offset
by inventory reserves of approximately $781,000 and $699,000, respectively.
6. ACCRUED EXPENSES AND OTHER LIABILITIES
Accrued expenses and other liabilities are as follows:
March 31, | September 30, | |||||||
2011 | 2010 | |||||||
(audited) | ||||||||
Accrued royalties, rebates, chargebacks and distribution fees |
$ | 156,303 | $ | | ||||
Accrued research and development expenses |
437,713 | 221,956 | ||||||
Accrued selling, general and administrative expenses |
675,910 | 537,347 | ||||||
Deferred rent |
4,049 | 12,148 | ||||||
Other liabilities |
170,000 | | ||||||
Lease restructuring liability (1) |
476,716 | 632,879 | ||||||
Total accrued expenses and other liabilities |
1,920,691 | 1,404,330 | ||||||
Less: Current portion |
(1,679,533 | ) | (1,070,061 | ) | ||||
Non-current total accrued expenses and other liabilities |
$ | 241,158 | $ | 334,269 | ||||
(1) | In fiscal 2006, the Company relocated all operations other than research and development from San Diego, California to Aliso Viejo, California. In fiscal 2007, the Company subleased a total of approximately 49,000 square feet of laboratory and office space in San Diego and relocated remaining personnel and clinical trial support functions to the Companys offices in Aliso Viejo, California. Restructuring expenses included recognition of the estimated loss due to the exit of the Companys leases of approximately $2.1 million. No further costs were incurred related to these restructuring events in fiscal 2008. In April 2009, the Company entered into a sublease for office space in San Diego, California. Sublease rental payments commenced in September 2009 pursuant to this sublease. |
14
Table of Contents
The following table presents the restructuring activities in fiscal 2011:
Balance at | ||||||||||||
Balance at | March 31, | |||||||||||
September 30, 2010 | Payments/ Reductions | 2011 | ||||||||||
(audited) | ||||||||||||
Accrued Restructuring |
||||||||||||
Total lease restructuring liability |
$ | 632,879 | $ | (156,163 | ) | $ | 476,716 | |||||
Less current portion |
(298,610 | ) | (285,558 | ) | ||||||||
Non-current portion |
$ | 334,269 | $ | 191,158 | ||||||||
7. NET DEFERRED REVENUES
The following table sets forth as of March 31, 2011 the deferred royalty revenue balances for
the Companys sale of future Abreva® royalty rights to Drug Royalty USA and NUEDEXTA product
shipments:
NUEDEXTA | ||||||||||||
Product | Drug Royalty | |||||||||||
Shipments, Net | USA Agreement | Total | ||||||||||
Net deferred revenues as of October 1, 2010 |
$ | | $ | 8,476,831 | $ | 8,476,831 | ||||||
Changes during the period: |
||||||||||||
Shipments, net |
3,121,615 | | 3,121,615 | |||||||||
Recognized as revenues during the period (1) |
(474,524 | ) | (1,114,735 | ) | (1,589,259 | ) | ||||||
Net deferred revenues as of March 31, 2011 |
$ | 2,647,091 | $ | 7,362,096 | $ | 10,009,187 | ||||||
Classified and reported as: |
||||||||||||
Current portion of deferred revenues |
$ | 2,647,091 | $ | 2,087,226 | $ | 4,734,317 | ||||||
Deferred revenues, net of current portion |
| 5,274,870 | 5,274,870 | |||||||||
Total net deferred revenues |
$ | 2,647,091 | $ | 7,362,096 | $ | 10,009,187 | ||||||
(1) | The amount that ultimately will be recognized as net product sales may be different due to other discounts and allowances, including, but not limited to, wholesaler fees based on wholesaler shipments, rebates, chargebacks and co-pay assistance. |
NUEDEXTA Product The amount of deferred revenue from NUEDEXTA product shipments is
shown net of estimated prompt-pay discounts and wholesaler fees based on wholesaler purchases. The
amount that ultimately will be recognized as net product sales in the Companys consolidated financial
statements may be different due to other discounts and allowances, including, but not limited to,
wholesaler fees based on wholesaler shipments, rebates, chargebacks and co-pay assistance. See Note
2, Significant Accounting Policies Revenue recognition Product Sales NUEDEXTA for
further discussion.
Drug Royalty Agreement In November 2002, the Company sold to Drug Royalty USA an undivided
interest in the Companys rights to receive future Abreva royalties under the license agreement
with GlaxoSmithKline for
$24.1 million (the Drug Royalty Agreement and the GSK License Agreement, respectively).
Under the Drug Royalty Agreement, Drug Royalty USA has the right to receive royalties from
GlaxoSmithKline on sales of Abreva until December 2013. The Company retained the right to receive
50% of all royalties (a net of 4%) under the GSK License Agreement for annual net sales of Abreva
in the U.S. and Canada in excess of $62 million.
Revenues are recognized when earned, collection is reasonably assured and no additional
performance of services is required. The Company classified the proceeds received from Drug Royalty
USA as deferred revenue, to be recognized as revenue over the life of the license agreement because
of the Companys continuing involvement over the term of the Drug Royalty Agreement. Such
continuing involvement includes overseeing the performance of GlaxoSmithKline and its compliance
with the covenants in the GSK License Agreement, monitoring patent infringement, adverse claims or
litigation involving Abreva, and undertaking to find a new license partner in the event that
GlaxoSmithKline terminates the agreement. The Drug Royalty Agreement contains both covenants and
events of default that require such performance on the Companys part. Therefore, nonperformance on
the
15
Table of Contents
Companys part could result in default of the arrangement, and could give rise to additional rights
in favor of Drug Royalty USA under a separate security agreement with Drug Royalty USA, which could
result in loss of the Companys rights to share in future Abreva royalties if wholesale sales by
GlaxoSmithKline exceed $62 million a year. Because of the Companys continuing involvement, the
Company recorded the net proceeds of the transaction as deferred revenue, which is being recognized
as revenue using the units-of-revenue method over the life of the license agreement. Based on a
review of the Companys continuing involvement, the Company concluded that the sale proceeds did
not meet any of the rebuttable presumptions that would require classification of the proceeds as
debt.
8. COMPUTATION OF NET LOSS PER COMMON SHARE
Basic net loss per common share is computed by dividing net loss by the weighted-average
number of common shares outstanding during the period, excluding restricted stock that has been
issued but is not yet vested. Diluted net loss per common share is computed by dividing net loss by
the weighted-average number of common shares outstanding during the period plus additional
weighted-average common equivalent shares outstanding during the period. Common equivalent shares
result from the assumed exercise of outstanding stock options and warrants (the proceeds of which
are then presumed to have been used to repurchase outstanding stock using the treasury stock
method) and the vesting of restricted shares of common stock. In loss periods, certain of the
common equivalent shares are excluded from the computation of diluted net loss per share, because
their effect would have been anti-dilutive.
For the six month periods ended March 31, 2011 and 2010, the following options and warrants to
purchase shares of common stock and restricted stock units were excluded from the computation of
diluted net loss per share, as the inclusion of such shares would be anti-dilutive:
2011 | 2010 | |||||||
Stock options |
7,405,242 | 5,882,458 | ||||||
Stock warrants |
8,505,170 | 12,240,437 | ||||||
Restricted stock units (1) |
1,779,410 | 2,382,857 |
(1) | Includes 1,320,981 and 981,228 shares of restricted stock at March 31, 2011 and 2010, respectively, awarded to directors that have vested but are still restricted until the directors resign. |
9. STOCKHOLDERS EQUITY
On July 30, 2009, the Company entered into a Controlled Equity Offering Sales Agreement (the
Sales Agreement) with Cantor Fitzgerald & Co. (Cantor), providing for the sale of up to
12,500,000 shares of common stock from time to time into the open market at prevailing prices.
Pursuant to the Sales Agreement, sales of common stock will be made in such quantities and on such
minimum price terms as the Company may set from time to time. During the six month period ended
March 31, 2011, the Company issued 1,235,000 shares of common stock under the Sales Agreement
raising proceeds of approximately $5.3 million, net of offering costs, including commissions. As of
March 31, 2011, a total of 7,594,510 shares of common stock have been issued under the Sales
Agreement at an average price of $2.83 per share raising gross proceeds of approximately $21.5
million ($20.6 million, net of offering costs, including commissions). No shares have been sold
under this facility since November 2010.
In November 2010, the Company completed a common stock offering raising $88.0 million in gross
proceeds and approximately $83.0 million in net proceeds to the Company after deducting
underwriting discounts, commissions and offering expenses. In connection with the offering, 20
million shares of common stock were sold at a public offering price of $4.40 per share. The Company
intends to use the net proceeds for operating expenses. In addition, the net proceeds may be used
for further clinical, regulatory and commercial development of AVP-923, as well as business
development activities.
During the six months ended March 31, 2011, the Company received proceeds of approximately
$5.3 million from the exercise of warrants to purchase 3,735,267 shares of the Companys common
stock. The warrants had been issued in connection with the Companys registered securities offering
in April 2008 at an exercise price of $1.43 per share. As of March 31, 2011, warrants to purchase
8,505,170 shares of the Companys common stock at a weighted-average exercise price per share of
$1.43 remained outstanding, all of which are exercisable. The warrants outstanding at March 31,
2011, are callable by the Company when the Companys stock price reaches 400% of the warrants
exercisable price for at least twenty trading days during any consecutive sixty day period.
16
Table of Contents
During the six month period ended March 31, 2011, the Company issued 251,744 shares of common
stock in connection with the vesting of restricted stock units. During the six months ended March
31, 2011, restricted stock unit awards for a total of 162,843 shares awarded to directors vested,
but the issuance and delivery of these shares are deferred until the director resigns.
10. EMPLOYEE EQUITY INCENTIVE PLANS
The Company currently has five equity incentive plans under which awards are outstanding (the
Plans), two of which are currently in active use as described below. The Plans are: the 2005
Equity Incentive Plan (the 2005 Plan), the 2003 Equity Incentive Plan (the 2003 Plan), the 2000
Stock Option Plan (the 2000 Plan), the 1998 Stock Option Plan (the 1998 Plan) and the 1994
Stock Option Plan (the 1994 Plan), which are described in the Companys Annual Report on Form
10-K for the year ended September 30, 2010. All of the Plans were approved by the stockholders,
except for the 2003 Equity Incentive Plan, which was approved solely by the Board of Directors.
Share-based awards are subject to terms and conditions established by the Compensation Committee of
the Companys Board of Directors. The Companys policy is to issue new common shares upon the
exercise of stock options, conversion of share units/RSUs or purchase of restricted stock.
During the six month period ended March 31, 2011, the Company granted share-based awards under
the 2003 Plan and the 2005 Plan. During the six month period ended March 31, 2010, the Company
granted share-based awards under the 2003 Plan. Under the 2003 Plan and 2005 Plan, options to
purchase shares, restricted stock units, restricted stock and other share-based awards may be
granted to the Companys directors, employees and consultants. Pursuant to the provisions of annual
increases of the 2003 Plan and the 2005 Plan, the number of authorized shares of common stock for
issuance under the 2003 Plan and the 2005 Plan increased 4,255,003 effective February 7, 2011 and
325,000 effective November 10, 2010, respectively. Under the Plans, as of March 31, 2011, the
Company had an aggregate of 18,282,814 shares of its common stock reserved for future issuance. Of
those shares, 9,184,652 were subject to outstanding options and other awards and 9,098,162 shares
were available for future grants of share-based awards. As of March 31, 2011, 120,000 restricted
stock units were outstanding to consultants. The Company may also, from time to time, issue
share-based awards outside of the Plans to the extent permitted by NASDAQ rules. As of March 31,
2011, there were no options to purchase shares of the Companys common stock that were issued
outside of the Plans (inducement option grants) outstanding. None of the share-based awards are
classified as a liability as of March 31, 2011.
Stock Options. Stock options are granted with an exercise price equal to the current market
price of the Companys common stock at the grant date and have 10-year contractual terms. For
option grants to employees, generally 25% of the option shares vest and become exercisable on the
first anniversary of the grant date and the remaining 75% of the option shares vest and become
exercisable quarterly in equal installments thereafter over three years; for option grants to
non-employee directors, one-third of the option shares vest and become exercisable on the first
anniversary of the grant date and the remaining two-thirds of the option shares vest and become
exercisable daily or quarterly in equal installments thereafter over two years; and for certain
option grants to non-employee
directors, options have been granted as fully vested and exercisable at the date of grant.
Certain option awards provide for accelerated vesting if there is a change in control (as defined
in the Plans).
17
Table of Contents
Summaries of stock options outstanding and changes during the six month period ended
March 31, 2011 are presented below.
Weighted Average | ||||||||||||||||
Weighted Average | Remaining | Aggregate | ||||||||||||||
Number | Exercise Price per | Contractual Term | Intrinsic | |||||||||||||
of Shares | Share | (In Years) | Value | |||||||||||||
Outstanding October 1, 2010 |
6,364,265 | $ | 1.69 | |||||||||||||
Granted |
1,626,075 | $ | 4.08 | |||||||||||||
Exercised |
(558,983 | ) | $ | 0.76 | ||||||||||||
Forfeited |
(26,115 | ) | $ | 3.97 | ||||||||||||
Outstanding March 31, 2011 |
7,405,242 | $ | 2.28 | 8.2 | $ | 15,545,417 | ||||||||||
Vested and expected to vest in the future,
March 31, 2011 (1) |
6,917,254 | $ | 2.26 | 8.1 | $ | 14,790,371 | ||||||||||
Exercisable, March 31, 2011 |
2,361,812 | $ | 2.38 | 7.2 | $ | 6,127,242 | ||||||||||
(1) | Vested and expected to vest consists of exercisable options as of March 31, 2011 and options expected to vest as of March 31, 2011, calculated based on estimated forfeiture rates. |
The weighted average grant-date fair value of options granted during the six month
periods ended March 31, 2011 and 2010 was $3.34 and $1.40 per share, respectively. The total
intrinsic value of options exercised during the six month periods ended March 31, 2011 and 2010 was
approximately $1.9 million and $6,000, respectively, based on the differences in market prices on
the dates of exercise and the option exercise prices. As of March 31, 2011, the total unrecognized
compensation cost related to unvested options was approximately $8.3 million which is expected to
be recognized over the weighted-average period of 2.8 years, based on the vesting schedules. No tax
benefit was realized for the tax deductions from option exercise of the share-based payment
arrangements in the six month periods ended March 31, 2011 and 2010.
The fair value of each option award is estimated on the date of grant using the Black-Scholes
model, which uses the assumptions noted in the following table. Expected volatilities are based on
historical volatility of the Companys common stock and other factors. The expected term of options
granted is based on analyses of historical employee termination rates and option exercises. The
risk-free interest rate is based on the U.S. Treasury yield for a period consistent with the
expected term of the option in effect at the time of the grant.
Assumptions used in the Black-Scholes model for options granted during the six month period
ended March 31, 2011 were as follows:
Expected volatility |
104% 108 | % | ||
Weighted-average volatility |
108 | % | ||
Expected term in years |
5.8 | |||
Risk-fee interest rate (zero coupon U.S. Treasury Note) |
1.5% 2.5 | % | ||
Expected dividend yield |
0 | % |
18
Table of Contents
The following table summarizes information concerning outstanding and exercisable stock
options as of March 31, 2011:
Options Outstanding | Options Exercisable | |||||||||||||||||||
Weighted | ||||||||||||||||||||
Average | Weighted | Weighted | ||||||||||||||||||
Remaining | Average | Average | ||||||||||||||||||
Number | Contractual | Exercise | Number | Exercise | ||||||||||||||||
Range of Exercise Prices | Outstanding | Life in Years | Price | Exercisable | Price | |||||||||||||||
$0.47- $0.79 |
1,236,909 | 7.7 | $ | 0.53 | 527,839 | $ | 0.53 | |||||||||||||
$0.88 |
1,843,030 | 7.3 | $ | 0.88 | 815,924 | $ | 0.88 | |||||||||||||
$1.20- $1.74 |
1,641,460 | 8.4 | $ | 1.70 | 564,768 | $ | 1.63 | |||||||||||||
$1.80- $4.18 |
2,379,156 | 9.4 | $ | 3.56 | 148,594 | $ | 2.33 | |||||||||||||
$4.60- $19.38 |
304,687 | 4.3 | $ | 11.00 | 304,687 | $ | 11.00 | |||||||||||||
7,405,242 | 8.2 | $ | 2.28 | 2,361,812 | $ | 2.38 | ||||||||||||||
Restricted stock units (RSU). RSUs granted to employees generally vest based on three
years of continuous service from the date of grant. RSUs granted to non-employee directors
generally vest over the term of one year from the grant date and are not released until the
awardees termination of service. In fiscal 2010, vesting for non-employee director grants was
amended to allow for accelerated vesting of RSUs in the case of a non-employee directors
resignation where either: (i) he/she has served for at least four years as a member of the Board
and is in good standing at the time of resignation, or (ii) he/she resigns for reasons related to
health or family matters and is otherwise in good standing at the time of resignation.
The following table summarizes the RSU activities for the six months ended March 31, 2011:
Weighted Average | ||||||||
Grant Date | ||||||||
Number of Shares | Fair Value | |||||||
Unvested, October 1, 2010 |
521,203 | $ | 3.46 | |||||
Granted |
351,813 | $ | 4.12 | |||||
Vested |
(414,656 | ) | $ | 1.78 | ||||
Unvested, March 31, 2011 |
458,360 | $ | 5.48 | |||||
The grant-date fair value of RSUs granted during the six month periods ended March 31,
2011 and 2010 was approximately $1.5 million and $960,000, respectively. As of March 31, 2011, the
total unrecognized compensation cost related to unvested shares was approximately $1.4 million
which is expected to be recognized over a weighted-average period of 1.1 years, based on the
vesting schedules. The Company received no cash from restricted stock awards under all share-based
payment arrangements during the six month periods ended March 31, 2011 and 2010.
At March 31, 2011, there were 1,320,981 shares of restricted stock with a weighted-average
grant date fair value of $1.62 per share awarded to directors that have vested but are still
restricted until the director resigns.
In December 2010, the Company awarded performance-based RSUs (Performance RSUs) to purchase
up to 166,813 shares of the Companys common stock. The grant date fair value of these awards was
$4.18 per share. The RSUs have a performance goal that determines the actual number of shares to be
awarded up to 166,813 shares. If the goal is met by the target date, no shares are forfeited. If
the goal is met within two months after the target date, 25% of the shares will be forfeited and if
the goal is not met within two months after the target date, all shares will be forfeited. As of
March 31, 2011, the performance goal had been achieved and no shares were forfeited. The shares
vest 50% on the first anniversary of the grant date and the remaining 50% on the second anniversary
of the grant date.
In November 2009, the Companys compensation committee approved a modification to the vesting
schedule of RSUs originally granted on December 4, 2007 (Modified Awards). The Modified Awards
originally were to vest 50% upon the earlier of the completion of a Company milestone or December
4, 2010, and the remaining 50% on December 4, 2010. The awards vesting was modified to vest
equally over two specified dates, March 15, 2010 and
19
Table of Contents
December 4, 2010. The Modified Awards were for an aggregate of 480,785 RSUs held by eight employees, including officers. The modification did not
change the probability of vesting and did not result in any incremental
share-based compensation. At the date of modification, no RSUs were vested and the then
remaining unamortized share-based compensation expense was amortized over the remaining vesting
periods of the Modified Awards.
During the six month period ended March 31, 2010, the Company awarded an RSU representing the
right to acquire a total of 120,000 shares of common stock to a non-employee. The grant date fair
value of this award was $2.08 per share. The restricted stock units vest on the earlier of October
15, 2011 or the completion of a performance target, and are re-measured at each balance sheet date
until vested.
In addition, during the six month period ended March 31, 2010, the Company awarded a
Performance RSU to purchase up to 120,000 shares of the Companys common stock. The grant date fair
value of this award was $2.08 per share and it was exercisable at a price of $0.0001 per share. The
RSU had a performance goal that determined when vesting began and the actual number of shares to be
awarded up to 120,000 shares. For every quarter that the performance goal was not achieved through
September 30, 2010, 20,000 RSU shares were forfeited. For the six months ended March 31, 2010,
40,000 Performance RSU shares were forfeited. At September 30, 2010, the performance goal had not
been achieved and in accordance with the terms of the award, no shares were issued. For the six
months ended March 31, 2010, no share-based compensation expense was recognized related to this
award.
11. COMMITMENTS AND CONTINGENCIES
Center for Neurologic Study (CNS) The Company holds the exclusive worldwide marketing
rights to NUEDEXTA for certain indications pursuant to an exclusive license agreement with CNS.
In fiscal 2005, the Company paid $75,000 to CNS under the agreement for the submission of the
new drug application (NDA) for the PBA indication. Upon FDA approval of NUEDEXTA for the
treatment of PBA in the first quarter of fiscal 2011, the Company paid an additional $75,000
milestone. In addition, the Company is obligated to pay CNS a royalty ranging from approximately 5%
to 8% of net GAAP revenue generated by sales of NUEDEXTA. During the six month period ended March
31, 2011, the Company accrued a royalty of approximately $23,000 related to NUEDEXTA product
revenue. Under certain circumstances, the Company may have the obligation to pay CNS a portion of
net revenues received if it sublicenses NUEDEXTA to a third party.
Under the agreement with CNS, the Company is required to make payments on achievements of up
to a maximum of ten milestones, based upon five specific medical indications. Maximum payments for
these milestone payments could total approximately $1.1 million if the Company pursued the
development of NUEDEXTA for all five of the licensed indications. In general, individual milestones
range from $75,000 to $125,000 for each accepted NDA filing and a similar amount for each approved
NDA in addition to the royalty discussed above on net GAAP revenues. The Company does not have the
obligation to develop additional indications under the CNS license agreement.
Lease Commitment On February 1, 2011, the Company entered into a lease agreement for
approximately 30,000 square feet of office space commencing on July 1, 2011, for an initial lease
term of 65 months. The lease has scheduled increases each year. The aggregate minimum payments over
the initial lease term of the lease are expected to be approximately $3.8 million.
Legal Contingencies In the ordinary course of business, the Company may face various claims
brought by third parties and it may, from time to time, make claims or take legal actions to assert
the Companys rights, including intellectual property rights as well as claims relating to
employment and the safety or efficacy of its products. Any of these claims could subject the
Company to costly litigation and, while the Company generally believes that it has adequate
insurance to cover many different types of liabilities, the Companys insurance carriers may deny
coverage or the Companys policy limits may be inadequate to fully satisfy any damage awards or
settlements. If this were to happen, the payment of any such awards could have a material adverse
effect on the Companys operations, cash flows and financial position. Additionally, any such
claims, whether or not successful, could damage the Companys reputation and business. Management
believes the outcomes of currently pending claims and lawsuits are not likely to have a material
effect on the Companys operations or financial position.
20
Table of Contents
In addition, it is possible that the Company could incur termination fees and penalties if it
elected to terminate contracts with certain vendors.
Guarantees and Indemnities The Company indemnifies its directors and officers to the maximum
extent permitted under the laws of the State of Delaware, and various lessors in connection with
facility leases for certain claims arising from such facilities or leases. Additionally, the
Company periodically enters into contracts that contain indemnification obligations, including
contracts for the purchase and sale of assets, wholesale distribution agreements, clinical trials,
pre-clinical development work and securities offerings. These indemnification obligations provide
the contracting parties with the contractual right to have the Company pay for the costs associated
with the defense and settlement of certain claims, typically in circumstances where the Company has
failed to meet its contractual performance obligations in some fashion.
The maximum amount of potential future payments under such indemnifications is not
determinable. The Company has not incurred significant costs related to these guarantees and
indemnifications, and no liability has been recorded in the condensed consolidated financial
statements for guarantees and indemnifications as of March 31, 2011.
12. SEGMENT INFORMATION
The Company operates its business on the basis of a single reportable segment, which is the
business of discovery, development and commercialization of novel therapeutics for chronic
diseases. The Companys chief operating decision-maker is the Chief Executive Officer, who
evaluates the Company as a single operating segment.
The Company categorizes revenues by geographic area based on selling location. All the
Companys operations are currently located in the United States; therefore, total revenues for the
three and six month periods ended March 31, 2011 and 2010 are attributed to the United States. All
long-lived assets at March 31, 2011 and September 30, 2010 are located in the United States.
For the three month periods ended March 31, 2011 and 2010, the revenues from prior sale of
rights to royalties under the GSK license agreement were 48% of total net revenues in each period.
For the three month periods ended March 31, 2011 and 2010, royalty revenues from Azur were
approximately 20% and 52% of total revenue, respectively.
For the six month periods ended March 31, 2011 and 2010, the revenues from prior sale of
rights to royalties under the GSK license agreement were 70% and 79% of total net revenues,
respectively. For the six month periods ended March 31, 2011 and 2010, royalty revenues from Azur
were 16% and 21% of total net revenues, respectively.
13. SUBSEQUENT EVENTS
The Company has evaluated subsequent events through the filing date of this Form 10-Q, and
determined that no subsequent events have occurred that would require recognition in the condensed
consolidated financial statements or disclosure in the notes thereto other than discussed in the
accompanying notes.
From April 1, 2011 through May 5, 2011, 2,350,000 shares were issued pursuant to the
exercise of warrants that were outstanding at March 31, 2011, resulting in proceeds of
approximately $3.4 million to the Company.
21
Table of Contents
Item 2.
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q contains forward-looking statements concerning future
events and performance of the Company. When used in this report, the words intend, estimate,
anticipate, believe, plan or expect and similar expressions are included to identify
forward-looking statements. These forward-looking statements are based on our current expectations
and assumptions and many factors could cause our actual results to differ materially from those
indicated in these forward-looking statements. You should review carefully the factors identified
in this report in Part II, Item 1A. Risk Factors and in Part I, Item1A in our most recent Annual
Report on Form 10-K filed with the SEC. We disclaim any intent to update or announce revisions to
any forward-looking statements to reflect actual events or developments. Except as otherwise
indicated herein, all dates referred to in this report represent periods or dates fixed with
reference to the calendar year, rather than our fiscal year ending September 30. The three month
period ended March 31, 2011 is also referred to as the second quarter of fiscal 2011.
EXECUTIVE OVERVIEW
Avanir is a pharmaceutical company focused on acquiring, developing and
commercializing novel therapeutic products for the treatment of central nervous system disorders.
In October 2010, the U.S. Food and Drug Administration
(FDA) approved NUEDEXTA® (formally
referred to as AVP-923 or its previously proposed trade name Zenvia), a unique proprietary
combination of dextromethorphan/quinidine, for the treatment of pseudobulbar affect (PBA). We
commenced promotion of NUEDEXTA in February 2011.
We have filed an Investigational New Drug application (IND) with the FDA to begin a large
Phase II clinical trial of AVP-923, an investigational drug for the treatment of central
neuropathic pain in patients with multiple sclerosis. The FDA has acknowledged receipt of the
submission and we plan to enroll the first patient before the end of calendar 2011.
AVP-923 has also successfully completed a Phase III trial for the treatment of patients with
diabetic peripheral neuropathic pain (DPN pain).
In addition to our focus on products for the central nervous system, we also have partnered
programs in other therapeutic areas which may generate future income. Our first commercialized
product, docosanol 10% cream, (sold in the United States and Canada
as
Abreva®
by our marketing
partner GlaxoSmithKline Consumer Healthcare) is the only over-the-counter treatment for cold sores
that has been approved by the FDA. In 2008, we licensed all our monoclonal antibodies and remains
eligible to receive milestone payments and royalties related to the sale of these assets.
NUEDEXTA for the Treatment of PBA
NUEDEXTA is the first and only FDA-approved treatment for PBA. PBA occurs secondary to a
variety of otherwise unrelated neurological conditions, and is characterized by involuntary,
sudden, and frequent episodes of laughing and/or crying. PBA episodes typically occur out of
proportion or incongruent to the patients underlying emotional state.
NUEDEXTA is an innovative combination of two well-characterized components: dextromethorphan
hydrobromide (20 mg), the active ingredient in the central nervous system, and quinidine sulfate
(10 mg), a metabolic inhibitor enabling therapeutic dextromethorphan concentrations. NUEDEXTA acts
on sigma-1 and N-Methyl-D-aspartic acid, or NMDA, receptors in the brain, although the mechanism by
which NUEDEXTA exerts therapeutic effects in patients with PBA is unknown.
Studies to support the effectiveness of NUEDEXTA in PBA were performed in patients with
amyotrophic lateral sclerosis, or ALS, and multiple sclerosis, or MS. NUEDEXTA has not been shown
to be safe and effective in other types of emotional lability that can commonly occur, for example, in Alzheimers disease and
other dementias. The
22
Table of Contents
primary outcome measure, laughing and crying episodes, was significantly lower
in the NUEDEXTA cohort compared to placebo. The secondary outcome measure, the Center for
Neurologic Studies Lability Scale (CNS-LS), demonstrated a significantly greater mean decrease in
CNS-LS score from baseline for the NUEDEXTA cohort compared to placebo.
AVP-923 for the Potential Treatment of Neuropathic Pain
AVP-923 for the treatment of MS-related pain
Multiple Sclerosis (MS) is one of the most frequent chronic disease generating neurologic
disabilities in young adults. Among the many symptoms and types of disabilities associated with MS,
chronic pain has a significant impact on the daily life of patients with this disease.
According to different studies, the prevalence of chronic pain in the MS population ranges
between 30% and 80%. MS-related pain may be induced by different mechanisms including
musculoskeletal problems, spasms and trigeminal neuralgia, but central neuropathic pain due to the
involvement of the sensory pathways is the most frequent affecting about 50% of patients. This type
of MS-related pain is most frequently located in the limbs and lumbar region. Focal lesions of long
tracks in the spinal cord and brainstem or axonal lesions of long sensory fibers secondary to MS
relapse may affect the sensory pathways.
In September 2009, we reported on secondary efficacy endpoints from the double-blind phase of
the AVP-923 STAR trial in PBA, including an endpoint measuring reduction of MS-related pain.
AVP-923 30/10 mg demonstrated statistically significant relief of MS-related pain compared to
placebo in the subset of MS patients with moderate-to-severe pain.
We are also studying AVP-923 for use in different types of neuropathic pain. We filed an IND
application with the FDA to begin a Phase II clinical trial of AVP-923, an investigational drug for
the treatment of central neuropathic pain in patients with MS. The FDA has acknowledged receipt of
the submission and we plan to enroll the first patient before the end of calendar 2011.
The objectives of the study are to evaluate the safety, tolerability, and efficacy of three
dose levels of AVP-923 capsules for the treatment of central neuropathic pain in a population of
patients with MS. The trial is a multicenter, randomized, double-blind, placebo-controlled, 4-arm
parallel group study. Eligible patients will be randomized to receive one of the three dose levels
of AVP-923 containing either 45mg DM/10mg Q, 30mg DM/10mg Q, 20mg DM/10mg Q or placebo, daily for
12 weeks. The primary efficacy endpoint is the Pain Rating Scale obtained from daily patient
diaries. Secondary endpoints include measure of fatigue, disability, impact of MS on daily life,
sleep quality, cognition and depression. Safety will be assessed by monitoring adverse events,
clinical laboratory tests, ECGs, physical examinations, and vital signs. We expect to enroll
approximately 400 patients at 65 centers both in the U.S. and internationally.
AVP-923 for the treatment of diabetic neuropathic pain
Diabetic peripheral neuropathic pain (DPN pain), which arises from nerve injury, can result
in a chronic and debilitating form of pain that has historically been poorly diagnosed and treated.
It is often described as burning, tingling, stabbing, or pins and needles in the feet, legs, hands
or arms. An estimated 3.5 million people in the United States experience DPN pain according to the
American Diabetes Association. DPN pain currently is most commonly treated with antidepressants,
anticonvulsants, opioid analgesics and local anesthetics. Most of these treatments have limited
effectiveness or undesirable side effects resulting in a high degree of unmet medical need. The
neuropathic pain market is continuing to grow rapidly, and in 2006, was estimated to be worth $2.6
billion in sales among the seven largest markets, consisting of the United States, Japan, France,
Germany, Italy, Spain and the United Kingdom.
Avanir has successfully completed a Phase III clinical trial for AVP-923 in the
treatment of patients with DPN pain. In April 2007, we announced positive top-line data from our
first Phase III clinical trial of AVP-923 for the treatment of patients with DPN pain. The most
commonly reported adverse events from this Phase III study were dizziness, nausea, diarrhea, fatigue and somnolence, which were mild to moderate in nature.
Due to safety concerns raised by the FDA in our October 2006 approvable letter for AVP-923, we are
continuing to evaluate our options for this program and next steps.
23
Table of Contents
Docosanol 10% Cream Cold Sore Treatment
Docosanol 10% cream is a topical treatment for cold sores. In 2000, we received FDA approval
for marketing docosanol 10% cream as an over-the-counter product. Since that time, docosanol 10%
cream has been approved by regulatory agencies in Asia, North America, and Europe. In March 2000,
we granted a subsidiary of GlaxoSmithKline, SB Pharmco Puerto Rico, Inc. (GSK), the exclusive
rights under a license to market docosanol 10% cream in the United States and Canada (GSK License
Agreement). GSK markets the product under the name Abreva® in these markets. Under the terms of
the GSK License Agreement, GSK is responsible for all sales and marketing activities and the
manufacturing and distribution of docosanol 10% cream. Under the GSK
license agreement, we received a total of $25 million in
milestone payments from GSK and we were entitled to
receive an 8% royalty on net sales of Abreva by GSK.
In
November 2002, we sold to Drug Royalty USA an undivided interest
in our
rights to receive future Abreva royalties under the GSK License Agreement for $24.1 million (the
Drug Royalty Agreement). Under the Drug Royalty Agreement, Drug Royalty USA has the right to
receive royalties from GSK on sales of Abreva until
December 2013. We retained the right
to receive 50% of all royalties (a net of 4%) under the GSK License Agreement for annual net sales
of Abreva in the U.S. and Canada in excess of $62 million. From the effective date of the GSK
License Agreement up to the 2002 sale of our royalty rights to Drug Royalty USA, Inc.
(DRC) we received a total of approximately $5.9 million in royalty payments from GSK
attributed to the 8% royalty on net sales by GSK.
Under the terms of our docosanol license agreements, our partners are generally responsible
for all regulatory approvals, sales and marketing activities, and manufacturing and distribution of
the product in the licensed territories. The terms of the license agreements typically provide for
us to receive a data transfer fee, potential milestone payments and royalties on product sales. We
purchase the active pharmaceutical ingredient (API), docosanol, from a large supplier in Western
Europe and have, on occasion, sold material to our licensees. We currently store our API in the
United States. Any material disruption in manufacturing could cause a delay in shipments and
possible loss of sales.
Xenerex Human Antibody Technology Anthrax/Other Infectious Diseases
In March 2008, we entered into an Asset Purchase and License Agreement with Emergent
Biosolutions (Emergent) for the sale of our anthrax antibodies and license to use our proprietary
Xenerex Technology platform, which was used to generate fully human antibodies to target antigens.
Under the terms of the Agreement, we completed the remaining work under our NIH/NIAID grant (NIH
grant) and transferred all materials to Emergent. Under the terms of the agreement, we are
eligible to receive milestone payments and royalties on any product sales generated from this
program. In connection with the sale of the anthrax antibody program, we also ceased all ongoing
research and development work related to other infectious diseases on June 30, 2008.
In September 2008, we entered into an Asset Purchase Agreement with a San Diego based
biotechnology company for the sale of our non-anthrax related antibodies as well as the remaining
equipment and supplies associated with the Xenerex Technology platform. In connection with this
sale, we received an upfront payment and are eligible to receive future royalties on potential
product sales, if any.
General Information
Our principal executive offices are located at 101 Enterprise, Suite 300, Aliso Viejo,
California 92656. Our telephone number is (949) 389-6700 and our e-mail address is info@avanir.com.
Our Internet website address is www.avanir.com. We make our periodic and current reports available
on our Internet website, free of charge, as soon as reasonably practicable after such material is
electronically filed with, or furnished to, the SEC. No portion of our website is incorporated by
reference into this Quarterly Report on Form 10-Q. The public may read and copy the materials we
file with the SEC at the SECs Public Reference Room, located at 100 F Street, NE, Washington, D.C.
20549. The public may obtain information regarding the operation of the Public Reference Room
by calling the SEC at 1-800-SEC-0330. The public may also read and copy the materials we file with
the SEC by visiting the SECs website, www.sec.gov.
24
Table of Contents
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
To understand our financial statements, it is important to understand our critical accounting
policies and estimates. The preparation of our financial statements in conformity with accounting
principles generally accepted in the United States of America requires us to make estimates and
assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Significant estimates and assumptions are required in the
determination of revenue recognition and allowances, certain royalties and returns and losses.
Significant estimates and assumptions are also required in the appropriateness of amounts
recognized for inventories, income taxes, contingencies, and share-based compensation. Some of
these judgments can be subjective and complex, and, consequently, actual results may differ from
these estimates. For any given individual estimate or assumption made by us, there may also be
other estimates or assumptions that are also reasonable. Although we believe that our estimates and
assumptions are reasonable, they are based upon information available at the time the estimates and
assumptions are made. Actual results may differ significantly from our estimates.
A summary of significant accounting policies and a description of accounting policies that are
considered critical may be found in Part II, Item 7 of our Annual Report on Form 10-K for the year
ended September 30, 2010 in the Critical Accounting Policies and Estimates section, as updated
and amended in Note 2 of the Notes to our Condensed Consolidated Financial Statements included
herein.
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED MARCH 31, 2011 AND 2010
Revenues
Three months ended | ||||||||||||
March 31, | ||||||||||||
2011 | 2010 | $ Change | ||||||||||
REVENUES |
||||||||||||
Net product sales |
$ | 462,014 | $ | | $ | 462,014 | ||||||
Revenue from royalties |
974,489 | 994,494 | (20,005 | ) | ||||||||
Total revnues |
$ | 1,436,503 | $ | 994,494 | $ | 442,009 | ||||||
Total revenues were approximately $1.4 million for the three months ended March 31, 2011
compared to approximately $994,000 for the three months ended March 31, 2010. The increase in
revenues of approximately $442,000, or 44%, was primarily attributed to the product sales of
NUEDEXTA which we began commercial promotion for in February 2011.
Potential revenue-generating contracts that remained active as of March 31, 2011 include
licensing revenue from our agreement with GSK, potential royalties from our agreements with Azur
Pharma and Emergent Biosolutions, Inc. and modest potential revenue generated from various other
licensing agreements. Partnering, licensing and research collaborations have been, and may continue
to be, an important part of our business development strategy. We may continue to seek partnerships
with pharmaceutical companies that can help fund our operations in exchange for sharing in the
success of any licensed compounds or technologies.
Cost of Product Sales
Cost of product sales were approximately $114,000 for the three months ended March 31, 2011
compared to no cost of product sales in the same period of fiscal 2010. The increase in cost of
product sales is primarily attributable to a write-down of finished goods inventory of
approximately $82,000 for inventory manufactured as validation batches for FDA approval in fiscal
2010 and is not expected to be shipped prior to its expiration date.
25
Table of Contents
Operating Expenses
Three months ended | ||||||||||||
March 31, | ||||||||||||
2011 | 2010 | $ Change | ||||||||||
OPERATING EXPENSES |
||||||||||||
Research and development |
$ | 2,519,390 | $ | 3,815,613 | $ | (1,296,223 | ) | |||||
Selling, general and administrative |
13,278,773 | 3,622,704 | 9,656,069 | |||||||||
Total operating expenses |
$ | 15,798,163 | $ | 7,438,317 | $ | 8,359,846 | ||||||
Research and Development Expenses
Research and development expenses decreased by approximately $1.3 million from approximately
$3.8 million in the second quarter of fiscal 2010 to approximately $2.5 million for the second
quarter of fiscal 2011. The decrease is primarily due to a decrease in clinical study costs related
to the STAR trial that was completed in fiscal 2010, partially offset by an increase in costs
related to medical affairs activities for NUEDEXTA. We expect the quarterly expenditures for
research and development expenses to increase from the second quarter of fiscal 2011 level as we
develop a regulatory filing plan for NUEDEXTA in Europe and continue development of AVP-923 for
treatment of central neuropathic pain in patients with MS. Medical affairs initiatives related to
our marketed product, NUEDEXTA, are also included in research and development expenses and are
expected to increase in the coming months.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased by approximately $9.7 million from
approximately $3.6 million for the second quarter of fiscal 2010 compared to approximately $13.3
million for the second quarter of fiscal 2011. The increase is primarily attributed to costs
associated with preparation and execution of the commercial launch of NUEDEXTA, including increased
personnel costs of approximately $5.6 million resulting from the hiring of a sales force and other
key corporate and commercial headcount, which resulted in an increase of approximately 100
employees; increased marketing and market research costs of approximately $3.0 million; and
increased other corporate costs of approximately $1.1 million. We expect at least the same level of
quarterly expenditures for selling, general and administrative expenses for the remainder of fiscal
2011 as we incurred in the second fiscal quarter of 2011 as a result of the ongoing marketing of
NUEDEXTA.
Share-Based Compensation
Total share-based compensation expense in the three month periods ended March 31, 2011 and
2010 was approximately $951,000 and $665,000, respectively. Selling, general and administrative
expense in the three month periods ended March 31, 2011 and 2010 includes share-based compensation
expense of approximately $799,000 and $519,000, respectively. Research and development expense in
the three month periods ended March 31, 2011 and 2010 includes share-based compensation expense of
approximately $152,000 and $146,000, respectively. As of March 31, 2011, approximately $9.7 million
of total unrecognized compensation costs related to nonvested options and awards is expected to be
recognized over a weighted average period of 2.6 years. See Note 10, Employee Equity Incentive
Plans in the Notes to Condensed Consolidated Financial Statements (Unaudited) for further
discussion.
Other Income
For the three month period ended March 31, 2011, interest income increased to approximately
$10,000, compared to approximately $2,000 for the same period in the prior year.
Net Loss
Net loss was approximately $14.5 million, or $0.12 per share, in the three month period ended
March 31, 2011 compared to a net loss of approximately $6.4 million, or $0.08 per share, for the
three month period ended March 31, 2010.
26
Table of Contents
COMPARISON OF SIX MONTHS ENDED MARCH 31, 2011 AND 2010
Revenues
Six months ended | ||||||||||||
March 31, | ||||||||||||
2011 | 2010 | $ Change | ||||||||||
REVENUES |
||||||||||||
Net product sales |
$ | 462,014 | $ | | $ | 462,014 | ||||||
Revenue from royalties |
2,792,976 | 2,479,428 | 313,548 | |||||||||
Total revnues |
$ | 3,254,990 | $ | 2,479,428 | $ | 775,562 | ||||||
Total revenues were approximately $3.3 million for the six months ended March 31, 2011
compared to approximately $2.5 million for the six months ended March 31, 2010. The increase in
revenues of approximately $776,000, or 31%, was primarily attributed to NUEDEXTA product sales of
$462,000, which we commenced promotion for in February 2011. In addition, annual royalty revenue
from our license agreement with GSK increased approximately $273,000.
Cost of Product Sales
Cost of product sales were approximately $114,000 for the six months ended March 31, 2011
compared to no cost of product sales in the same period of fiscal 2010. The increase in cost of
product sales is primarily attributable to a write-down of finished goods inventory of
approximately $82,000 for inventory manufactured as validation batches for FDA approval in fiscal
2010 and is not expected to be shipped prior to its expiration date.
Operating Expenses
Six months ended | ||||||||||||
March 31, | ||||||||||||
2011 | 2010 | $ Change | ||||||||||
OPERATING EXPENSES |
||||||||||||
Research and development |
$ | 6,363,179 | $ | 7,262,503 | $ | (899,324 | ) | |||||
Selling, general and administrative |
23,372,211 | 6,489,182 | 16,883,029 | |||||||||
Total operating expenses |
$ | 29,735,390 | $ | 13,751,685 | $ | 15,983,705 | ||||||
Research and Development Expenses
Research and development expenses decreased by approximately $899,000 from approximately $7.3
million in the first half of fiscal 2010 to approximately $6.4 million for the first half of fiscal
2011. The decrease is primarily due to a decrease in clinical study costs related to the STAR trial
that was completed in fiscal 2010, partially offset by an increase in costs related to regulatory
and medical affairs activities for NUEDEXTA.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased by approximately $16.9 million from
approximately $6.5 million for the first half of fiscal 2010 compared to approximately $23.4
million for the first half of fiscal 2011. The increase is primarily attributed to costs associated
with preparation and execution of the commercial launch of NUEDEXTA, including increased personnel
costs of approximately $9.1 million resulting from the hiring of a sales force and other key
corporate and commercial headcount resulting in an increase of approximately 100 employees;
increased marketing and market research costs of approximately $5.5 million; and increased other
corporate costs of approximately $2.3 million.
27
Table of Contents
Share-Based Compensation
Total share-based compensation expense in the six month periods ended March 31, 2011 and 2010
was approximately $1.8 million and $1.4 million, respectively. Selling, general and administrative
expense in the six month periods ended March 31, 2011 and 2010 includes share-based compensation
expense of approximately $1.5 million and $1.0 million, respectively. Research and development
expense in the six month periods ended March 31, 2011 and 2010 includes share-based compensation
expense of approximately $299,000 and $328,000, respectively.
Other Income
For the six month period ended March 31, 2011, interest income increased to approximately
$17,000, compared to approximately $8,000 for the same period in the prior year.
Net Loss
Net loss was approximately $26.6 million, or $0.23 per share, in the six month period ended
March 31, 2011 compared to a net loss of approximately $11.3 million, or $0.14 per share, for the
six month period ended March 31, 2010.
LIQUIDITY AND CAPITAL RESOURCES
We assess our liquidity by our ability to utilize existing cash and to generate additional
cash to fund future operations. Key factors in the management of our liquidity are: cash required
to fund operating activities including expected operating losses and the levels of inventories,
accounts payable and capital expenditures; the timing and extent of cash received from milestone
payments under license agreements; ability to obtain adequate credit facilities; and financial
flexibility to attract long-term equity capital on favorable terms. Historically, cash required to
fund on-going business operations has been provided by financing activities and used to fund
operations, working capital requirements and investing activities.
Net cash provided by or used in operating, investing and financing activities, are summarized in
the table below.
Six months ended | ||||||||||||
March 31, | ||||||||||||
2011 | 2010 | $ Change | ||||||||||
Net cash used in operating activities |
$ | (27,967,624 | ) | $ | (11,187,869 | ) | $ | (16,779,755 | ) | |||
Net cash (used in) provided by investing activities |
(1,839,460 | ) | 18,316 | (1,857,776 | ) | |||||||
Net cash provided by (used in) financing activities |
94,082,662 | (11,652 | ) | 94,094,314 | ||||||||
Net increase (decrease) in cash and cash equivalents |
$ | 64,275,578 | $ | (11,181,205 | ) | $ | 75,456,783 | |||||
Operating activities. Net cash used in operating activities was approximately $28.0 million in
the first six months of fiscal 2011 compared to approximately $11.2 million in the first six months
of fiscal 2010. The increase is primarily due to expenses related to our regulatory and commercial
readiness activities.
Investing activities. Net cash used in investing activities was approximately $1.8 million in
the first six months of fiscal 2011, compared to net cash provided by investing activities of
approximately $18,000 in the first six months of fiscal 2010. The increase in cash used in
investing activities was primarily related to investments in securities and an increase in the
purchase of property and equipment.
Financing activities. Net cash provided by financing activities was approximately $94.1
million in the first six months of fiscal 2011 compared to net cash used in financing activities of
approximately $12,000 in the first six months of fiscal 2010. In the first quarter of fiscal 2011,
we raised approximately $83.0 million in proceeds, net of
offering costs, including commissions, from our public offering and approximately $5.3 million
in proceeds, net of offering costs, including commissions, from our at-the-market offering
facility. Additionally, we received proceeds of approximately $5.3 million from the exercise of
warrants.
28
Table of Contents
In April 2009, we filed a shelf registration statement on Form S-3 with the SEC to sell an
aggregate of up to $35.0 million in common stock, preferred stock, debt securities and warrants. As
of March 31, 2011, approximately $13.5 million remains available on this shelf registration
statement. On July 30, 2009 we entered into a financing facility with Cantor Fitzgerald & Co.,
providing for the sale of up to 12,500,000 shares of our common stock from time to time into the
open market at prevailing prices. As of March 31, 2011, approximately 7.6 million shares of common
stock had been sold under this facility for total gross proceeds of approximately $21.5 million. We
may or may not sell additional shares under this facility, depending on the volume and price of our
common stock, as well as our capital needs and potential alternative sources of capital, such as a
development partner for AVP-923.
In September 2009, we filed a shelf registration statement on Form S-3 with the SEC to sell an
aggregate of up to $75.0 million in common stock, preferred stock, debt securities and warrants. On
September 23, 2009, the registration statement was declared effective. Approximately $34.5 million
remains available on this shelf registration statement following the offerings completed in May and
November 2010 as discussed below.
In May 2010, we sold an aggregate of 10,000,000 shares of our common stock in an underwritten
public offering (the Offering). The shares in the Offering were sold at a public offering price
of $2.75 per share, resulting in $27.5 million in gross offering proceeds and approximately $26.6
million in net proceeds to us, after deducting underwriting discounts, commissions and
offering expenses.
In September 2010, we filed a shelf registration statement on Form S-3 with the SEC to sell an
aggregate of up to $75.0 million in common stock, preferred stock, debt securities and warrants.
Following the November 2010 offering discussed below, there were no funds remaining on this shelf
registration statement.
In November 2010, we completed an underwritten public offering of 20,000,000 shares of our
common stock offered at a public offering price of $4.40 per share. Gross offering proceeds
resulting from the offering were approximately $88.0 million, with net proceeds of approximately
$83.0 million, after deducting offering discounts, costs and commissions.
As of March 31, 2011 we have contractual obligations for long-term debt and operating lease
obligations, as summarized in the table that follows.
Payments Due by Period | ||||||||||||||||||||
Less than | More than | |||||||||||||||||||
Total | 1 year | 1-3 years | 3-5 years | 5 years | ||||||||||||||||
Operating lease obligations (1) |
$ | 6,110,772 | $ | 1,574,907 | $ | 2,426,708 | $ | 1,617,707 | $ | 491,450 | ||||||||||
Purchase obligations (2) |
2,440,995 | 2,440,995 | | | | |||||||||||||||
Total |
$ | 8,551,767 | $ | 4,015,902 | $ | 2,426,708 | $ | 1,617,707 | $ | 491,450 | ||||||||||
(1) | Operating lease obligations are exclusive of payments we expect to receive under subleases. | |
(2) | Purchase obligations consist of the total of trade accounts payable and trade related accrued expenses at March 31, 2011 which approximates our contractual commitments for goods and services in the normal course of our business. |
NUEDEXTA License Milestone Payments. We hold the exclusive worldwide marketing rights to
NUEDEXTA for certain indications pursuant to an exclusive license agreement with the Center for
Neurologic Study (CNS).
We paid a $75,000 milestone upon FDA approval of NUEDEXTA for the treatment of PBA in the
first quarter of fiscal 2011. In addition, we are obligated to pay CNS a royalty ranging from
approximately 5% to 8% of net GAAP
revenue generated by sales of NUEDEXTA. During the six month period
ended March 31, 2011, we accrued a royalty of approximately $23,000 related to NUEDEXTA product revenue. Under
certain circumstances, we may have the obligation to pay CNS a portion of net revenues received if
we sublicense NUEDEXTA to a third party.
29
Table of Contents
Under the agreement with CNS, we are required to make payments on achievements of up to a
maximum of ten milestones, based upon five specific clinical indications. Maximum payments for
these milestone payments could total approximately $1.1 million if we pursued the development of
NUEDEXTA for all five of the licensed indications. In general, individual milestones range from
$75,000 to $125,000 for each accepted new drug application (NDA) and a similar amount for each
approved NDA in addition to the royalty discussed above on net GAAP revenues. We do not have the
obligation to develop additional indications under the CNS license agreement.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements.
Management Outlook
We believe that cash and cash equivalents and restricted investments of approximately $105.1
million at March 31, 2011 will be sufficient to sustain our planned level of operations through the
end of fiscal 2012. However, we cannot provide assurances that our planned level of expenditures
will not change or will not result in the depletion of capital resources more rapidly than
anticipated.
For information regarding the risks associated with our need to raise capital to fund our
ongoing and planned operations, please see Part II, Item 1A, Risk Factors.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As described below, we are exposed to market risks related to changes in interest rates.
Because substantially all of our revenue, expenses and capital purchasing activities are transacted
in U.S. dollars, our exposure to foreign currency exchange rates is immaterial. However, in the
future we could face increasing exposure to foreign currency exchange rates as we expand
international distribution of docosanol 10% cream and purchase additional services from outside the
U.S. Until such time as we are faced with material amounts of foreign currency exchange rate risks,
we do not plan to use derivative financial instruments, which can be used to hedge such risks. We
will evaluate the use of derivative financial instruments to hedge our exposure as the needs and
risks should arise.
Interest rate sensitivity
The primary objective of our investments in securities is to preserve principal. We do not
purchase financial instruments for trading purposes. Our investment portfolio consists primarily of
cash fixed income instruments invested in government money market funds. We classify our restricted
investments, which are primarily certificates of deposit, as of March 31, 2011 as held-to-maturity.
These held-to-maturity securities are subject to interest rate risk. Based on our current low
yield, any decrease in interest rates is not likely to have a material effect on interest income.
As
of March 31, 2011, approximately $64.3 million of our cash and cash equivalents
were maintained in four separate money market mutual funds, and
approximately $38.7 million of our cash and cash equivalents were maintained at three major financial institutions in the
United States. At times, deposits held with the financial institution may exceed the amount of
insurance provided by the Federal Deposit Insurance Corporation (FDIC), which provides deposit
coverage with limits up to $250,000 per owner. In addition to the basic insurance deposit coverage,
the FDIC is providing temporary unlimited coverage for noninterest-bearing transaction accounts
from December 31, 2010 through December 31, 2012. At March 31, 2011, such uninsured deposits
totaled approximately $100.5 million. Generally, these deposits may be redeemed upon demand and,
therefore, are believed to bear minimal risk.
Financial instruments that potentially subject us to concentrations of credit risk consist of
cash and cash equivalents and trade receivables. However, we seek to mitigate the risk related to
cash and cash equivalents by placing our cash and cash equivalents in various money market mutual
funds and at financial institutions of high credit standing. To mitigate the risk related to trade
receivables, we perform ongoing credit evaluations of our customers financial condition and would
limit the amount of credit extended if necessary; however, we have usually required no collateral.
30
Table of Contents
Item 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We carried out an evaluation, under the supervision and with the participation of our
management, including our Chief Executive Officer and our Vice President, Finance (our principal
financial and accounting officer), of the effectiveness of our disclosure controls and procedures
as of the end of the period covered by this report, pursuant to Rules 13a-15(b) and 15d-15(b) under
the Securities Exchange Act of 1934, as amended.
In connection with that evaluation, our CEO and Vice President, Finance concluded that our
disclosure controls and procedures were effective and designed to provide reasonable assurance that
the information required to be disclosed is recorded, processed, summarized and reported within the
time periods specified in the Securities and Exchange Commission rules and forms as of March 31,
2011. For the purpose of this review, disclosure controls and procedures means controls and
procedures designed to ensure that information required to be disclosed by the Company in the
reports that we file or submit is recorded, processed, summarized and reported within the time
periods specified in the SECs rules and forms. These disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that information required to be
disclosed by the Company in the reports that we file or submit is accumulated and communicated to
management, including our principal executive officer and principal financial and accounting
officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and
evaluating the disclosure controls and procedures, our management recognized that any controls and
procedures, no matter how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, and our management necessarily was required to apply its
judgment in evaluating the cost-benefit relationship of possible controls and procedures.
Changes in Internal Controls over Financial Reporting
There has been no change in our internal control over financial reporting (as defined in Rule
13a-15(f) under the Exchange Act) during our second quarter ended March 31, 2011, that has
materially affected, or is reasonably likely to materially affect our internal control over
financial reporting.
PART II OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
In the ordinary course of business, we may face various claims brought by third parties. Any
of these claims could subject us to costly litigation. Management believes the outcome of currently
identified claims and lawsuits will not have a material adverse effect on our financial condition
or results of operations.
Item 1A. RISK FACTORS
This Quarterly Report on Form 10-Q contains forward-looking information based on our current
expectations. Because our actual results may differ materially from any forward-looking statements
that we make or that are made on our behalf, this section includes a discussion of important
factors that could affect our actual future results, including, but not limited to, our product
sales, capital resources, commercial market estimates, safety of NUEDEXTA, future development
efforts, patent protection, effects of healthcare reform, reliance on third parties, and other
risks set forth below. We disclaim any intent to update forward-looking statements to reflect
subsequent developments or actual results.
Risks Relating to Our Business
Our near-term prospects are dependent on NUEDEXTA. If we are unable to successfully
commercialize NUEDEXTA, including successfully maintaining adequate sales, marketing or
distribution capabilities or entering into agreements with third parties to perform some of these
functions, we will not be able to commercialize NUEDEXTA effectively and our ability to generate
significant revenue or achieve profitability will be adversely affected. For example, because
NUEDEXTA contains quinidine, which is a known pro-arrhythmic drug, it is possible that medical
information systems may incorrectly identify NUEDEXTA as contraindicated or otherwise inappropriate
for a patient, even in situations where the risks are substantially less than indicated.
31
Table of Contents
Although NUEDEXTA has been approved for marketing, our ability to generate significant revenue
in the near to medium term is entirely dependent upon our ability to commercialize NUEDEXTA. As we
continue to market NUEDEXTA, we may not be able to adequately build or maintain the necessary
sales, marketing, supply chain management or reimbursement capabilities on our own or enter into
arrangements with third parties to perform these functions in a timely manner or on acceptable
terms. Additionally, maintaining sales, marketing and distribution capabilities may be more
expensive than we anticipate, requiring us to divert capital from other intended purposes or
preventing us from building our sales, marketing and distribution capabilities to the desired
levels. To be successful we must continue to:
| recruit and retain adequate numbers of effective sales personnel; | ||
| effectively train our sales personnel on NUEDEXTA; | ||
| establish and maintain successful sales and marketing and education programs for our targeted physicians; | ||
| manage geographically dispersed sales and marketing operations | ||
| obtain adequate reimbursement for NUEDEXTA from a broad range of payors; and | ||
| maintain and defend our patent protection and maintain regulatory exclusivity for NUEDEXTA. |
Supplying the market for NUEDEXTA requires us to manage relationships with an increasing
number of collaborative partners, suppliers and third-party contractors. If we are unable to
successfully establish and maintain the required infrastructure, either internally or through third
parties, and successfully manage an increasing number of relationships, we will have difficulty
growing our business. In addition, pharmacies, institutions and prescribers may rely on third-party
medical information systems to interpret the NUEDEXTA approved product label and guide utilization
of NUEDEXTA. If these information systems load incorrect information or misinterpret the approved
product label, it may result in lower adoption or utilization than expected.
In addition, we may enter into co-promotion or out-licensing arrangements with other
pharmaceutical or biotechnology partners where necessary to reach customers in domestic or foreign
market segments and when deemed strategically and economically advisable. To the extent that we
enter into co-promotion or other licensing arrangements, our product revenues are likely to be
lower than if we directly marketed and sold NUEDEXTA, and some or all of the revenues we receive
will depend upon the efforts of third parties, which may not be successful. If we are unable to
develop and maintain adequate sales, marketing and distribution capabilities, independently or with
others, we may not be able to generate significant product revenue or become profitable.
We have a history of net losses and an accumulated deficit, and we may be unable to generate
sufficient revenue to achieve or maintain profitability in the future.
We have experienced significant net losses and negative cash flows from operations and we
expect our negative cash flow from operations to continue until we are able to generate significant
revenues from sales of NUEDEXTA. As of March 31, 2011, we had an accumulated deficit of
approximately $331.3 million. We have incurred these losses principally from costs incurred in
funding the research, development and clinical testing of our drug candidates, from our general and
administrative expenses and from our efforts to commercialize NUEDEXTA. We may continue incurring
net losses for the foreseeable future and we expect our operating losses to continue for at least
the short term as we continue to market NUEDEXTA.
Our ability to generate revenue and achieve profitability is dependent on our ability, alone
or with partners, to successfully manufacture and market NUEDEXTA for the treatment of patients
with PBA. We expect to continue to spend substantial amounts on the ongoing marketing of NUEDEXTA
for PBA domestically, as well as seeking regulatory approvals for use of NUEDEXTA in other
geographic markets and indications. As a result, we may never generate sufficient revenue from
product sales to become profitable or generate positive cash flows.
32
Table of Contents
PBA is a new market and estimates vary significantly over the potential market size and our
anticipated revenues over the near and long term.
Our drug is being made available to patients to treat PBA, an indication for which there is no
established pharmaceutical market. Industry sources and equity research analysts have a wide
divergence of estimates for the near- and long-term market potential of our product. A variety of
assumptions directly impact the estimates for our drugs market potential, including estimates of
underlying neurologic condition prevalence, severity of PBA prevalence among these conditions,
rates of physician adoption of our drug for treatment of PBA among these populations, drug pricing
assumptions, and patient adherence and compliance rates within each underlying neurologic
condition. Small differences in these assumptions can lead to widely divergent estimates of the
market potential of our product. Additionally, although our approved product label is indicated to
treat PBA, without regard for the underlying neurological condition, it is possible that
physicians, Division of Drug Marketing, Advertising and Communication (DDMAC) or others may
interpret the label more narrowly than the FDAs approving division and believe that PBA secondary
to certain conditions, such as Alzheimers disease, is not an indicated use. If such
interpretations are widespread, the actual market size may be smaller than we have estimated.
Accordingly, investors are cautioned not to place undue reliance on any particular estimates of
equity research analysts or industry sources.
Significant safety or drug interaction problems could arise with respect to NUEDEXTA, which
could result in restrictions in NUEDEXTAs label, recalls, withdrawal of NUEDEXTA from the market,
an adverse impact on potential sales of NUEDEXTA, or cause us to alter or terminate current or
future NUEDEXTA clinical development programs, any of which would adversely impact our future
business prospects.
Discovery of previously unknown safety or drug interaction problems with an approved product
may result in a variety of adverse regulatory actions. This risk may be increased as physicians, at
their own discretion, may prescribe NUEDEXTA for off-label uses which may result in unknown safety
or drug interactions. Under the Food and Drug Administration Amendments Act of 2007, the FDA has
broad authority to force drug manufacturers to take any number of actions if previously unknown
safety or drug interaction problems arise, including, but not limited to: (i) requiring
manufacturers to conduct post-approval clinical studies to assess known risks or signals of serious
risks, or to identify unexpected serious risks; (ii) mandating labeling changes to a product based
on new safety information; or (iii) requiring manufacturers to implement a Risk Evaluation
Mitigation Strategy, or REMS, where necessary to assure safe use of the drug. In addition,
previously unknown safety or drug interaction problems could result in product recalls,
restrictions on the products permissible uses, or withdrawal of the product from the market.
The combination of dextromethorphan and quinidine has never been marketed for the treatment of
any condition until the approval of NUEDEXTA. NUEDEXTA has only been studied in a limited number of
patients in clinical studies and the data submitted to the FDA as part of our New Drug Application
was obtained in controlled clinical trials of limited duration. In connection with the approval of
NUEDEXTA, the FDA has required that we conduct certain post-approval studies, which include both
non-clinical studies and a pediatric development plan. New safety or drug interaction issues may
arise from these studies or as NUEDEXTA is used over longer periods of time by a wider group of
patients. In addition, as we conduct other clinical trials for AVP-923 in other indications, new
safety problems may be identified which could negatively impact both our ability to successfully
complete these studies and the use and/or regulatory status of NUEDEXTA for the treatment of PBA.
New safety or drug interaction issues may result in product liability lawsuits and may require us
to, among other things, provide additional warnings and/or restrictions on the NUEDEXTA prescribing
information, including a boxed warning, directly alert healthcare providers of new safety
information, narrow our approved indications, or alter or terminate current or planned trials for
additional uses of AVP-923, any of which could have a significant adverse impact on potential sales
of NUEDEXTA.
In addition, if we are required to conduct additional post-approval clinical studies,
implement a REMS, or take other similar actions, such requirements or restrictions could have a
material adverse impact on our ability to generate revenues from sales of NUEDEXTA, or require us
to expend significant additional funds.
33
Table of Contents
We have limited capital resources and may need to raise additional funds to support our
operations.
We have experienced significant operating losses in funding the research, development,
clinical testing and commercialization of NUEDEXTA and our drug candidates. We expect to continue
to incur substantial operating losses for the foreseeable future as we commence commercial
operations. Although we had approximately $105.1 million in cash and cash equivalents and
restricted investments in marketable securities as of March 31, 2011, we currently do not have any
meaningful sources of recurring revenue or cash flow from operations and may not be able to achieve
profitability with our current capital resources.
In light of our substantial long-term capital needs, we may need to partner (either in the
U.S. or outside the U.S.) or raise additional capital in the future to finance our long-term
operations, until we expect to be able to generate meaningful amounts of revenue from product
sales. Based on our current loss rate and existing capital resources as of the date of this report,
we estimate that we have sufficient funds to sustain our operations at their current and
anticipated levels through fiscal 2012, which includes the costs associated with the ongoing
marketing of NUEDEXTA for PBA. Although we expect to be able to raise additional capital if needed,
there can be no assurance that we will be able to do so or that the available terms of any
financing would be acceptable to us. If we are unable to raise additional capital to fund future
operations, then we may be unable to fully execute our development and commercialization plans for
NUEDEXTA. This may result in significant delays or cutbacks in the commercialization of NUEDEXTA
and may force us to further curtail our operations or seek to raise additional capital.
If we raise additional capital, we may do so through various financing alternatives, including
licensing or sales of our technologies, drugs and/or drug candidates, selling shares of common or
preferred stock, through the acquisition of other companies, or through the issuance of debt. Each
of these financing alternatives carries certain risks. Raising capital through the issuance of
common stock may depress the market price of our stock. Any such financing will dilute our existing
stockholders and, if our stock price is relatively depressed at the time of any such offering, the
levels of dilution would be greater. In addition, debt financing, to the extent available, may
involve agreements that include covenants limiting or restricting our ability to take specific
actions, such as making capital expenditures or entering into licensing transactions. If we seek to
raise capital through licensing transactions or sales of one or more of our technologies, drugs or
drug candidates, as we have previously done with certain investigational compounds and docosanol
10% cream, then we will likely need to share a significant portion of future revenues from these
drug candidates with our licensees. Additionally, the development of any drug candidates licensed
or sold to third parties will no longer be in our control and thus we may not realize the full
value of any such relationships.
We have licensed or sold most of our non-core drug development programs and related assets and
these and other possible future dispositions carry certain risks.
We have entered into agreements for the licensing or sale of our non-core assets, including
FazaClo, our anthrax antibody program, and other antibodies in our infectious disease program, as
well as docosanol in the U.S. and other markets worldwide. As a result, we do not currently have a
diversified pipeline of product candidates and our long-term success is currently dependent on
NUEDEXTA. From time to time, we have been and will continue to be engaged in discussions with
potential licensing or development partners for NUEDEXTA for PBA and/or AVP-923 for other
indications and we may choose to pursue a partnership or license involving NUEDEXTA, if the terms
are attractive. However, these transactions involve numerous risks, including:
| diversion of managements attention from normal daily operations of the business; | ||
| disputes over earn-outs, working capital adjustments or contingent payment obligations; | ||
| insufficient proceeds to offset expenses associated with the transactions; and | ||
| the potential loss of key employees following such a transaction. |
Transactions such as these carry significant risks where a large portion of the total
consideration is contingent upon post-closing events, such as commercialization or sales
milestones. We may not exercise control over whether
34
Table of Contents
these milestones are met and, if they are not
met, then a potentially large portion of the value of the transaction may not be realized. Disputes
may also develop over these and other terms, such as representations and warranties, indemnities,
earn-outs, and other provisions in the transaction agreements. If disputes are resolved
unfavorably, our financial condition and results of operations may be adversely affected and we may
not realize the anticipated benefits from the transactions.
Disputes relating to these transactions can lead to expensive and time-consuming litigation
and may subject us to unanticipated liabilities or risks, disrupt our operations, divert
managements attention from day-to-day operations, and increase our operating expenses.
The FDAs safety concerns regarding our prior formulation of NUEDEXTA, known as AVP-923, for
the treatment of PBA extend to other clinical indications that we have been pursuing, including DPN
pain. Due to these concerns, any future development of AVP-923 for other indications, including
central neuropathic pain in patients with MS, is expected to use an alternative lower-dose
quinidine formulation, which may negatively affect efficacy.
We have successfully completed a single Phase III trial for AVP-923 in the treatment of DPN
pain. In communications regarding the continued development of AVP-923 for this indication, the FDA
has expressed that the safety concerns and questions raised in the PBA approvable letter
necessitate the testing of a low-dose quinidine formulation in the DPN pain indication as well.
Additionally, based on feedback we have received from the FDA on the proposed continued development
of AVP-923 for this indication, we believe it is likely that two large well-controlled Phase III
trials would be needed to support a supplemental NDA filing for this indication. Due to our limited
capital resources, we do not expect that we will be able to conduct the trials needed for this
indication without additional capital or a development partner for NUEDEXTA. Moreover, although we
achieved positive results in our initial Phase III trial, an alternative low-dose quinidine
formulation may not yield the same levels of efficacy as seen in the earlier trials or as predicted
based on our subsequent pharmacokinetic study. Any decrease in efficacy may be so great that the
drug does not demonstrate a statistically significant improvement over placebo or an active
comparator. Additionally, any alternative low-dose quinidine formulation that we develop may not
sufficiently satisfy the FDAs safety concerns. If this were to happen, we may not be able to
pursue the development of AVP-923 for other indications, including central neuropathic pain in
patients with MS, or may need to undertake significant additional clinical trials, which would be
costly and cause potentially substantial delays.
We rely on market research to evaluate the potential commercial acceptance of NUEDEXTA.
Based on the results of our market research, we believe that physicians are likely to support
the use and adoption of NUEDEXTA for the treatment of PBA. We conducted market research in
accordance with Good Marketing Research Practices; however, research findings may not be indicative
of the response we might receive from a broader sample of physicians. Moreover, these results are
based on physicians impressions formed from a description of the product, and not actual results
from prescription of the product, which could result in different responses from those same or
other physicians.
Our issued patents may be challenged and our patent applications may be denied. Either result
would seriously jeopardize our ability to compete in the intended markets for our proposed
products.
We have invested in an extensive patent portfolio and we rely substantially on the protection
of our intellectual property through our ownership or control of issued patents and patent
applications. Because of the competitive nature of the biopharmaceutical industry, we cannot assure
you that:
| the claims in any pending patent applications will be allowed or that patent applications will be granted; | ||
| competitors will not develop similar or superior technologies independently, duplicate our technologies, or design around the patented aspects of our technologies; | ||
| our technologies will not infringe on other patents or rights owned by others, including licenses to other intellectual property that may not be available to us; | ||
| any of our issued patents will provide us with significant competitive advantages; |
35
Table of Contents
| challenges will not be instituted against the validity or enforceability of any patent that we own or have licensed, and, if challenged, that we will be successful in defending ourselves against these challenges; or | ||
| we will be able to secure additional worldwide intellectual property protection for our NUEDEXTA patent portfolio. |
Even if we successfully secure our intellectual property rights, third parties, including
other biotechnology or pharmaceutical companies, may allege that our technology infringes on their
rights or that our patents are invalid or not enforceable. Intellectual property litigation is
costly, and even if we were to prevail in such a dispute, the cost of litigation could adversely
affect our business, financial condition, and results of operations. Litigation is also time
consuming and would divert managements attention and resources away from our operations and other
activities. If we were to lose any litigation, in addition to any damages we would have to pay, we
could be required to stop the infringing activity or obtain a license. Any required license might
not be available to us on acceptable terms, or at all. Some licenses might be non-exclusive, and
our competitors could have access to the same technology licensed to us. If we were to fail to
obtain a required license or were unable to design around a competitors patent, we would be unable
to sell or continue to develop some of our products, which would have a material adverse effect on
our business, financial condition and results of operations.
It is unclear whether we would be eligible for patent-term restoration in the U.S. under
applicable law and we therefore do not know whether our patent-term can be extended.
Some of our U.S. patents may be eligible for limited patent term extension under the Drug
Price Competition and Patent Term Restoration Act of 1984, referred to as the Hatch-Waxman
Amendments. Due to receipt of approval for NUEDEXTA, the Hatch-Waxman Amendments permit a patent
restoration term of up to five years for one of our patents covering NUEDEXTA as compensation for
the patent term lost during product development and the regulatory review process. The patent term
restoration period is generally one-half the time between the effective date of an IND and the
submission date of an NDA, plus the time between the submission date of an NDA and the approval of
that application with a maximum of five years. In addition, the patent term restoration cannot
extend the remaining term of a patent beyond a total of 14 years after the products approval date.
We intend to apply for patent term restoration. However, because NUEDEXTA is not a new chemical
entity, but is a combination of two previously approved products, it is uncertain whether NUEDEXTA
will be granted any patent term restoration under the U.S. Patent and Trademark Office guidelines.
Market exclusivity provisions under the Federal Food, Drug and Cosmetic Act, or the FDCA, may
also delay the submission or the approval of certain applications for competing product candidates.
The FDCA provides three years of non-patent marketing exclusivity for an NDA if new clinical
investigations, other than bioavailability studies, that were conducted or sponsored by the
applicant are deemed by the FDA to be essential to the approval of the application. This three-year
exclusivity covers only the conditions associated with the new clinical investigations and does not
prohibit the FDA from approving abbreviated NDAs (ANDA) for drugs containing the original active
agent.
Once the three-year FDCA exclusivity period has passed and after the patents (including the
patent restoration term, if any) that cover NUEDEXTA expire or have been invalidated, generic drug
companies would be able to introduce competing versions of the drug. If we are unsuccessful in
defending our patents against generic competition, our long-term revenues from NUEDEXTA sales may
be less than expected, we may have greater difficulty finding a development partner or licensee for
NUEDEXTA and the costs to defend the patents would be significant.
NUEDEXTA may face competition from lower cost generic or follow-on products.
NUEDEXTA is approved under the provisions of the FDCA, which renders it susceptible to
potential competition from generic manufacturers via the Hatch-Waxman Act and ANDA process. Generic
manufacturers pursuing ANDA approval are not required to conduct costly and time-consuming clinical
trials to establish the
safety and efficacy of their products; rather, they are permitted to rely on the innovators
data regarding safety and efficacy. Thus, generic manufacturers can sell their products at prices
much lower than those charged by the innovative pharmaceutical or biotechnology companies who have
incurred substantial expenses associated with the research and development of the drug product.
36
Table of Contents
The ANDA procedure includes provisions allowing generic manufacturers to challenge the
innovators patent protection by submitting Paragraph IV certifications to the FDA in which the
generic manufacturer claims that the innovators patent is invalid, unenforceable and/or will not
be infringed by the manufacture, use, or sale of the generic product. A patent owner who receives a
Paragraph IV certification may choose to sue the generic applicant for patent infringement. In
recent years, generic manufacturers have used Paragraph IV certifications extensively to challenge
the applicability of patents listed in the FDAs Approved Drug Products List with Therapeutic
Equivalence Evaluations, commonly referred to as the Orange Book, on a wide array of innovative
therapeutic products. We expect this trend to continue and to implicate drug products with even
relatively modest revenues. Because we have method of use patents covering NUEDEXTA, rather than
composition of matter patents, we could be particularly susceptible to receiving a generic
challenge.
If we receive a Paragraph IV challenge and file suit for patent infringement within 45 days,
the ANDA application will automatically be stayed (suspended) for up to thirty months. The
thirty-month stay will expire if a court issues a final order determining that our patents covering
NUEDEXTA are invalid, unenforceable or not infringed. If an ANDA filer were to receive approval to
sell a generic version of NUEDEXTA and/or prevail in any patent litigation, NUEDEXTA would become
subject to increased competition and our revenue would be adversely affected. Additionally, it is
possible that compounding pharmacies could formulate a generic version of NUEDEXTA in violation of
our patent rights, which could also adversely affect our revenues.
We may be unable to protect our unpatented proprietary technology and information.
In addition to our patented intellectual property, we also rely on trade secrets and
confidential information. We may be unable to effectively protect our rights to such proprietary
technology or information. Other parties may independently develop or gain access to equivalent
technologies or information and disclose it for others to use. Disputes may arise about
inventorship and corresponding rights to know-how and inventions resulting from the joint creation
or use of intellectual property by us and our corporate partners, licensees, scientific and
academic collaborators and consultants. In addition, confidentiality agreements and material
transfer agreements we have entered into with these parties and with employees and advisors may not
provide effective protection of our proprietary technology or information or, in the event of
unauthorized use or disclosure, may not provide adequate remedies.
If we fail to obtain regulatory approval in foreign jurisdictions, we would not be able to
market our products abroad and our revenue prospects would be limited.
We may seek to have our products or product candidates marketed outside the United States. In
order to market our products in the European Union and many other foreign jurisdictions, we must
obtain separate regulatory approvals and comply with numerous and varying regulatory requirements.
The approval procedure varies among countries and jurisdictions and can involve additional testing.
The time required to obtain approval may differ from that required to obtain FDA approval. The
foreign regulatory approval processes may include all of the risks associated with obtaining FDA
approval. We may not obtain foreign regulatory approvals on a timely basis, if at all. For example,
our development partner in Japan encountered significant difficulty in seeking approval of
docosanol in that country and was forced to abandon efforts to seek approval in that country.
Approval by the FDA does not ensure approval by regulatory authorities in other countries or
jurisdictions, and approval by one foreign regulatory authority does not ensure approval by
regulatory authorities in other foreign countries or jurisdictions or by the FDA. We may not be
able to file for regulatory approvals and may not receive necessary approvals to commercialize our
products in any market. The failure to obtain these approvals could materially adversely affect our
business, financial condition and results of operations.
We face challenges recruiting and retaining members of management and other key personnel.
The industry in which we compete has a high level of employee mobility and aggressive
recruiting of skilled employees. This type of environment creates intense competition for qualified
personnel, particularly in commercial, clinical and regulatory affairs, research and development
and accounting and finance. Because we have a relatively
37
Table of Contents
small management team, the loss of any executive officers, including the Chief Executive
Officer, key members of senior management or other key employees, could adversely affect our
operations. For example, if we were to lose one or more of the senior members of our sales and
marketing team, the success of the ongoing marketing of NUEDEXTA could be adversely affected.
Our operations might be interrupted by the occurrence of a natural disaster or other
catastrophic event.
Our principal operations are located in Aliso Viejo, California. We depend on our facilities
and on our partners, contractors and vendors for the continued operation of our business. Natural
disasters or other catastrophic events, interruptions in the supply of natural resources, political
and governmental changes, wildfires and other fires, floods, explosions, actions of animal rights
activists, earthquakes and civil unrest could disrupt our operations or those of our partners,
contractors and vendors. Even though we believe we carry commercially reasonable business
interruption and liability insurance, and our contractors may carry liability insurance that
protect us in certain events, we might suffer losses as a result of business interruptions that
exceed the coverage available under our and our contractors insurance policies or for which we or
our contractors do not have coverage. Any natural disaster or catastrophic event could have a
significant negative impact on our operations and financial results. Moreover, any such event could
impact the commercialization of NUEDEXTA and our research and development programs.
Future business development activity could disrupt our business and harm our financial
condition.
In order to augment our product pipeline or otherwise strengthen our business, we may decide
to acquire additional businesses, products and technologies. As we have limited experience in
evaluating and completing acquisitions, our ability as an organization to make such acquisitions is
unproven. Acquisitions could require significant capital infusions and could involve many risks,
including, but not limited to, the following:
| we may have to issue convertible debt or equity securities to complete business development activities, which would dilute our stockholders and could adversely affect the market price of our common stock; | |
| business development activity may negatively impact our results of operations because it may require us to amortize or write down amounts related to goodwill and other intangible assets, or incur or assume substantial debt or liabilities, or it may cause adverse tax consequences, substantial depreciation or deferred compensation charges; | |
| we may encounter difficulties in assimilating and integrating the business, products, technologies, personnel or operations of companies that we acquire; | |
| certain business development activities may impact our relationship with existing or potential partners who are competitive with the acquired business, products or technologies; | |
| business development activities may require significant capital infusions and the acquired businesses, products or technologies may not generate sufficient value to justify acquisition costs; | |
| business development activity may disrupt our ongoing business, divert resources, increase our expenses and distract our management; | |
| business development activities may involve the entry into a geographic or business market in which we have little or no prior experience; and | |
| key personnel of an acquired company may decide not to work for us. |
If any of these risks occurred, it could adversely affect our business, financial condition
and operating results. We cannot assure you that we will be able to identify or consummate any
future acquisitions on acceptable terms, or at all. If we do pursue any acquisitions, it is possible that we may not realize the anticipated benefits from such acquisitions or that the market
will not view such acquisitions positively.
38
Table of Contents
Risks Relating to Our Industry
The pharmaceutical industry is highly competitive and most of our competitors have larger
operations and have greater resources. As a result, we face significant competitive hurdles.
The pharmaceutical and biotechnology industries are highly competitive and subject to
significant and rapid technological change. We compete with hundreds of companies that develop and
market products and technologies in areas similar to those in which we are performing our research.
For example, we expect that NUEDEXTA will face competition from antidepressants, atypical
anti-psychotic agents and other agents in the treatment of PBA. Additionally, NUEDEXTA may face
challenges from generic drug companies, as described above.
Our competitors may have specific expertise and development technologies that are better than
ours and many of these companies, which include large pharmaceutical companies, either alone or
together with their research partners, have substantially greater financial resources, larger
research and development capabilities and substantially greater experience than we do. Accordingly,
our competitors may successfully develop competing products. We are also competing with other
companies and their products with respect to manufacturing efficiencies and marketing capabilities,
areas where we have limited or no direct experience.
If we fail to comply with regulatory requirements, regulatory agencies may take action against
us, which could significantly harm our business.
Marketed products, along with the manufacturing processes, post-approval clinical data,
labeling, advertising and promotional activities for these products, are subject to continual
requirements and review by the FDA and other regulatory bodies. In addition, regulatory authorities
subject a marketed product, its manufacturer and the manufacturing facilities to ongoing review and
periodic inspections. We will be subject to ongoing FDA requirements, including required
submissions of safety and other post-market information and reports, registration requirements,
current Good Manufacturing Practices (cGMP) regulations, requirements regarding the distribution
of samples to physicians and recordkeeping requirements.
The cGMP regulations also include requirements relating to quality control and quality
assurance, as well as the corresponding maintenance of records and documentation. We rely on the
compliance by our contract manufacturers with cGMP regulations and other regulatory requirements
relating to the manufacture of products. We are also subject to state laws and registration
requirements covering the distribution of our products. Regulatory agencies may change existing
requirements or adopt new requirements or policies. We may be slow to adapt or may not be able to
adapt to these changes or new requirements.
We face uncertainty related to healthcare reform, pricing and reimbursement, which could
reduce our revenue.
In the United States, President Obama signed in March 2010 the Patient Protection and
Affordable Care Act, as amended by the Health Care and Education Affordability Reconciliation Act
(collectively, PPACA), which is expected to substantially change the way health care is financed
by both governmental and private payors. PPACA provides for changes to extend medical benefits to
those who currently lack insurance coverage, encourages improvements in the quality of health care
items and services, and significantly impacts the U.S. pharmaceutical industry in a number of ways,
further listed below. By extending coverage to a larger population, PPACA may substantially change
the structure of the health insurance system and the methodology for reimbursing medical services,
drugs and devices. These structural changes, as well as other changes that may be made as part of
deficit and debt reduction efforts in Congress, could entail modifications to the existing system
of private payors and government programs, such as Medicare, Medicaid and State Childrens Health
Insurance Program, as well as the creation of a government-sponsored healthcare insurance source,
or some combination of both. Such restructuring of the coverage of medical care in the United
States could impact the extent of reimbursement for prescribed drugs, including our product
candidates, biopharmaceuticals, and medical devices. Some of the specific PPACA provisions, among
other things:
39
Table of Contents
| Establish annual, non-deductible fees on any entity that manufactures or imports certain branded prescription drugs and biologics, beginning in 2011; | ||
| Increase minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program; | ||
| Extend manufacturers Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations; | ||
| Establish a new Patient-Centered Outcomes Research Institute to oversee, identify priorities in and conduct comparative clinical effectiveness research; | ||
| Require manufacturers to participate in a coverage gap discount program, under which they must agree to offer 50 percent point-of-sale discounts off negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturers outpatient drugs to be covered under Medicare Part D, beginning in 2011; and | ||
| Increase the number of entities eligible for discounts under the Public Health Service pharmaceutical pricing program, effective January 2010. |
If future reimbursement for NUEDEXTA or any other approved product candidates, if any, is
substantially less than we project, or rebate obligations associated with them are substantially
increased, our business could be materially and adversely impacted.
Sales of NUEDEXTA for treatment of patients with PBA will depend in part on the availability
of coverage and reimbursement from third-party payors such as government insurance programs,
including Medicare and Medicaid, private health insurers, health maintenance organizations and
other health care related organizations. Accordingly, coverage and reimbursement may be uncertain.
Adoption of NUEDEXTA by the medical community may be limited if third-party payors will not offer
coverage. Cost control initiatives may decrease coverage and payment levels for NUEDEXTA and, in
turn, the price that we will be able to charge. We are unable to predict all changes to the
coverage or reimbursement methodologies that will be applied by private or government payors to
NUEDEXTA. Any denial of private or government payor coverage or inadequate reimbursement for
procedures performed using NUEDEXTA could harm our business and reduce our revenue.
In addition, both the federal and state governments in the United States and foreign
governments continue to propose and pass new legislation affecting coverage and reimbursement
policies, which are designed to contain or reduce the cost of health care. Further federal and
state proposals and healthcare reforms are likely, which could limit the prices that can be charged
for the product candidates that we develop and may further limit our commercial opportunity. There
may be future changes that result in reductions in current coverage and reimbursement levels for
our products, if commercialized, and we cannot predict the scope of any future changes or the
impact that those changes would have on our operations.
We rely on insurance companies to mitigate our exposure for business activities, including
developing and marketing pharmaceutical products for human use.
The conduct of our business, including the testing, marketing and sale of pharmaceutical
products, involves the risk of liability claims by consumers, stockholders, and other third
parties. Although we maintain various types of insurance, including product liability and director
and officer liability, claims can be high and our insurance may not sufficiently cover our actual
liabilities. If liability claims were made against us, it is possible that our insurance carriers
may deny, or attempt to deny, coverage in certain instances. If a lawsuit against us is successful,
then the lack or insufficiency of insurance coverage could materially and adversely affect our
business and financial condition. Furthermore, various distributors of pharmaceutical products
require minimum product liability insurance coverage before their purchase or acceptance of
products for distribution. Failure to satisfy these insurance requirements could impede our ability
to achieve broad distribution of our proposed products and the imposition of higher insurance
requirements could impose additional costs on us. Additionally, we are potentially at risk if our
insurance carriers become insolvent. Although we have historically obtained coverage through highly
rated and capitalized firms, the ongoing financial crisis may affect our ability to obtain coverage
under existing policies or purchase insurance under new policies at reasonable rates.
40
Table of Contents
If we market products in a manner that violates health care fraud and abuse laws, we may be
subject to civil or criminal penalties.
We are also subject to healthcare fraud and abuse regulation and enforcement by both the
federal government and the states in which we conduct our business. The laws that may affect our
ability to operate include:
| the federal healthcare programs Anti-Kickback Law, which prohibits, among other things, persons from knowingly and willfully soliciting, receiving, offering or paying remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual for, or the purchase, order or recommendation of, any good or service for which payment may be made under federal healthcare programs such as the Medicare and Medicaid programs; | ||
| federal false claims laws which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payors that are false or fraudulent; | ||
| the federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created federal criminal laws that prohibit executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; and | ||
| state law equivalents of each of the above federal laws, such as anti-kickback and false claims laws that may apply to items or services reimbursed by any third-party payor, including commercial insurers. |
If our operations are found to be in violation of any of the laws described above or any other
governmental regulations that apply to us, we may be subject to penalties, including civil and
criminal penalties, damages, fines, exclusion from governmental health care programs, and the
curtailment or restructuring of our operations, any of which could adversely affect our ability to
operate our business and our financial results. The risk of our being found in violation of these
laws is increased by the fact that many of them have not been fully interpreted by the regulatory
authorities or the courts, and their provisions are open to a variety of interpretations. Further,
the recently enacted PPACA, among other things, amends the intent requirement of the federal
anti-kickback and criminal health care fraud statutes. A person or entity no longer needs to have
actual knowledge of this statute or specific intent to violate it. In addition, the PPACA provides
that the government may assert that a claim including items or services resulting from a violation
of the federal anti-kickback statute constitutes a false or fraudulent claim for purposes of the
false claims statutes. Moreover, some states, such as California, Massachusetts and Vermont,
mandate implementation of commercial compliance programs to ensure compliance with these laws. Any
action against us for violation of these laws, even if we successfully defend against it, could
cause us to incur significant legal expenses and divert our managements attention from the
operation of our business.
In addition, there has been a recent trend of increased federal and state regulation of
payments made to physicians for marketing, including the tracking and reporting of gifts,
compensation, and other remuneration to physicians. The shifting commercial compliance environment
and the need to build and maintain robust and expandable systems to comply with multiple
jurisdictions with different compliance and/or reporting requirements increases the possibility
that a healthcare company may run afoul of one or more of the requirements.
The PPACA also imposes new reporting and disclosure requirements on drug manufacturers for any
transfer of value made or distributed to prescribers and other healthcare providers, effective
March 30, 2013. Such information will be made publicly available in a searchable format beginning
September 30, 2013. In addition, drug manufacturers will also be required to report and disclose
any investment interests held by physicians and their immediate family members during the preceding
calendar year. Failure to submit required information may result in civil monetary penalties of up
to an aggregate of $150,000 per year (and up to an aggregate of $1 million per year for knowing
failures), for all payments, transfers of value or ownership or investment interests not reported
in an annual submission. Finally, under PPACA, effective April 1, 2012, pharmaceutical
manufacturers and distributors must provide the U.S. Department of Health and Human Services with
an annual report on the drug samples they provide to physicians.
41
Table of Contents
We may incur significant liability if it is determined that we are promoting the off-label use
of drugs.
Companies may not promote drugs for off-label uses that is, uses that are not described
in the products labeling and that differ from those approved by the FDA, Therapeutic Products
Directorate, or TPD, or other applicable regulatory agencies. Physicians may prescribe drug
products for off-label uses, and such off-label uses are common across medical specialties.
Although the FDA, TPD and other regulatory agencies do not regulate a physicians choice of
treatments, the FDA, TPD and other regulatory agencies do restrict communications by pharmaceutical
companies or their sales representatives on the subject of off-label use. The FDA, TPD and other
regulatory agencies actively enforce regulations prohibiting promotion of off-label uses and the
promotion of products for which marketing clearance has not been obtained. A company that is found
to have improperly promoted off-label uses may be subject to significant liability, including civil
and administrative remedies as well as criminal sanctions. Notwithstanding the regulatory
restrictions on off-label promotion, the FDA, TPD and other regulatory authorities allow companies
to engage in truthful, non-misleading, and non-promotional speech concerning their products.
Although we believe that all of our communications regarding all of our products are in compliance
with the relevant regulatory requirements, the FDA, TPD or another regulatory authority may
disagree, and we may be subject to significant liability, including civil and administrative
remedies, as well as criminal sanctions. In addition, managements attention could be diverted from
our business operations and our reputation could be damaged. Our distribution partners may also be
the subject of regulatory investigations involving, or remedies or sanctions for, off-label uses of
products we have licensed to them, which may have an adverse impact on sales of such licensed
products, which may, in turn, have a material adverse effect on our business, financial condition
and results of operations and could cause the market value of our common shares to decline.
There are a number of difficulties and risks associated with clinical trials and our trials
may not yield the expected results.
There are a number of difficulties and risks associated with conducting clinical trials. For
instance, we may discover that a product candidate does not exhibit the expected therapeutic
results, may cause harmful side effects or have other unexpected characteristics that may delay or
preclude regulatory approval or limit commercial use if approved. It typically takes several years
to complete a late-stage clinical trial and a clinical trial can fail at any stage of testing. If
clinical trial difficulties or failures arise, our product candidates may never be approved for
sale or become commercially viable.
In addition, the possibility exists that:
| the results from earlier clinical trials may not be predictive of results that will be obtained from subsequent clinical trials, particularly larger trials; | ||
| institutional review boards or regulators, including the FDA, may hold, suspend or terminate our clinical research or the clinical trials of our product candidates for various reasons, including noncompliance with regulatory requirements or if, in their opinion, the participating subjects are being exposed to unacceptable health risks; | ||
| subjects may drop out of our clinical trials; | ||
| our preclinical studies or clinical trials may produce negative, inconsistent or inconclusive results, and we may decide, or regulators may require us, to conduct additional preclinical studies or clinical trials; | ||
| trial results derived from top-line data, which is based on a preliminary analysis of efficacy and safety data related to primary and secondary endpoints, may change following a more comprehensive review of the complete data set derived from a particular clinical trial or may change due to FDA requests to analyze the data differently; and | ||
| the cost of our clinical trials may be greater than we currently anticipate. |
42
Table of Contents
It is possible that earlier clinical and pre-clinical trial results may not be predictive of
the results of subsequent clinical trials. If earlier clinical and/or pre-clinical trial results
cannot be replicated or are inconsistent with subsequent results, our development programs may be
cancelled or deferred. In addition, the results of these prior
clinical trials may not be acceptable to the FDA or similar foreign regulatory authorities
because the data may be incomplete, outdated or not otherwise acceptable for inclusion in our
submissions for regulatory approval.
Additionally, the FDA has substantial discretion in the approval process and may reject our
data or disagree with our interpretations of regulations or draw different conclusions from our
clinical trial data or ask for additional information at any time during their review. For example,
the use of different statistical methods to analyze the efficacy data from our Phase III trial of
AVP-923 in DPN pain results in significantly different conclusions about the efficacy of the drug.
Although we believe we have legitimate reasons to use the methods that we have adopted as outlined
in our SPA with the FDA, the FDA may not agree with these reasons and may disagree with our
conclusions regarding the results of these trials.
Although we would work to be able to fully address any such FDA concerns, we may not be able
to resolve all such matters favorably, if at all. Disputes that are not resolved favorably could
result in one or more of the following:
| delays in our ability to submit an NDA; | ||
| the refusal by the FDA to accept for filing any NDA we may submit; | ||
| requests for additional studies or data; | ||
| delays in obtaining an approval; | ||
| the rejection of an application; or | ||
| the approval of the drug, but with adverse labeling claims that could adversely affect the commercial market. |
If we do not receive regulatory approval to sell our product candidates or cannot successfully
commercialize our product candidates, we would not be able to generate meaningful levels of
sustainable revenues.
Risks Related to Reliance on Third Parties
We depend on third parties to manufacture, package and distribute compounds for our drugs and
drug candidates. The failure of these third parties to perform successfully could harm our
business.
We have utilized, and intend to continue utilizing, third parties to manufacture, package and
distribute NUEDEXTA and the API for docosanol 10% cream and to provide clinical supplies of our
drug candidates. We have no experience in manufacturing and do not have any manufacturing
facilities. Currently, we have sole suppliers for the API for docosanol and NUEDEXTA, and a sole
manufacturer for the finished form of NUEDEXTA. In addition, these materials are custom and
available from only a limited number of sources. In particular, there may be a limited supply
source for APIs in NUEDEXTA. Although we maintain a significantly supply of APIs on hand, any
sustained disruption in this supply could adversely affect our operations and revenues. Any
material disruption in manufacturing could cause a delay in shipments and possible loss of sales.
We do not have any long-term agreements in place with our current docosanol supplier or NUEDEXTA
API suppliers. If we are required to change manufacturers, we may experience delays associated with
finding an alternate manufacturer that is properly qualified to produce supplies of our products
and product candidates in accordance with FDA requirements and our specifications. Any delays or
difficulties in obtaining APIs or in manufacturing, packaging or distributing NUEDEXTA could
negatively affect our sales revenues, as well as delay our clinical trials of this product
candidate for DPN pain, MS-related pain or other potential indications. The third parties we rely
on for manufacturing and packaging are also subject to regulatory review, and any regulatory
compliance problems with these third parties could significantly delay or disrupt our
commercialization activities. Additionally, the ongoing economic crisis creates risk for us if any
of these third parties suffer liquidity or operational problems. If a key third party vendor
becomes insolvent or is forced to lay off workers assisting with our projects, our results and
development timing could suffer.
43
Table of Contents
Because we depend on clinical research centers and other contractors for clinical testing and
for certain research and development activities, the results of our clinical trials and such
research activities are, to a certain extent, beyond our control.
The nature of clinical trials and our business strategy of outsourcing a substantial portion
of our research require that we rely on clinical research centers and other contractors to assist
us with research and development, clinical testing activities, patient enrollment and regulatory
submissions to the FDA. As a result, our success depends partially on the success of these third
parties in performing their responsibilities. Although we pre-qualify our contractors and we
believe that they are fully capable of performing their contractual obligations, we cannot directly
control the adequacy and timeliness of the resources and expertise that they apply to these
activities. Additionally, the current global economic slowdown may affect our development partners
and vendors, which could adversely affect their ability to timely perform their tasks. If our
contractors do not perform their obligations in an adequate and timely manner, the pace of clinical
development, regulatory approval and commercialization of our drug candidates could be
significantly delayed and our prospects could be adversely affected.
We generally do not control the development of compounds licensed to third parties and, as a
result, we may not realize a significant portion of the potential value of any such license
arrangements.
Under our typical license arrangement we have no direct control over the development of drug
candidates and have only limited, if any, input on the direction of development efforts. These
development efforts are made by our licensing partner, and if the results of their development
efforts are negative or inconclusive, it is possible that our licensing partner could elect to
defer or abandon further development of these programs. We similarly rely on licensing partners to
obtain regulatory approval for docosanol in foreign jurisdictions. Because much of the potential
value of these license arrangements is contingent upon the successful development and
commercialization of the licensed technology, the ultimate value of these licenses will depend on
the efforts of licensing partners. If our licensing partners do not succeed in developing the
licensed technology for whatever reason, or elect to discontinue the development of these programs,
we may be unable to realize the potential value of these arrangements. If we were to license
NUEDEXTA to a third party or a development partner, it is likely that much of the long-term success
of that drug will similarly depend on the efforts of the licensee.
We expect to rely entirely on third parties for international registration, sales and
marketing efforts.
In the event that we attempt to enter into international markets, we expect to rely on
collaborative partners to obtain regulatory approvals and to market and sell our product(s) in
those markets. We have not yet entered into any collaborative arrangement with respect to marketing
or selling NUEDEXTA, with the exception of one such agreement relating to Israel. We may be unable
to enter into any other arrangements on terms favorable to us, or at all, and even if we are able
to enter into sales and marketing arrangements with collaborative partners, we cannot assure you
that their sales and marketing efforts will be successful. If we are unable to enter into favorable
collaborative arrangements with respect to marketing or selling NUEDEXTA in international markets,
or if our collaborators efforts are unsuccessful, our ability to generate revenues from
international product sales will suffer.
Risks Relating to Our Stock
Our stock price has historically been volatile and we expect that this volatility will
continue for the foreseeable future.
The market price of our common stock has been, and is likely to continue to be, highly
volatile. This volatility can be attributed to many factors independent of our operating results,
including the following:
| comments made by securities analysts, including changes in their recommendations; | ||
| short selling activity by certain investors, including any failures to timely settle short sale transactions; |
44
Table of Contents
| announcements by us of financing transactions and/or future sales of equity or debt securities; | ||
| sales of our common stock by our directors, officers or significant stockholders, including sales effected pursuant to predetermined trading plans adopted under the safe-harbor afforded by Rule 10b5-1; | ||
| regulatory developments in the U.S. and foreign countries; | ||
| lack of volume of stock trading leading to low liquidity; and | ||
| market and economic conditions. |
If a substantial number of shares are sold into the market at any given time, particularly
following any significant announcements or large swings in our stock price (whether sales are under
our existing shelf registration statements, from an existing stockholder, or the result of
warrant or stock options exercised), there may not be sufficient demand in the market to purchase
the shares without a decline in the market price for our common stock. Moreover, continuous sales
into the market of a number of shares in excess of the typical trading volume for our common stock,
or even the availability of such a large number of shares, could depress the trading market for our
common stock over an extended period of time.
Additionally, our stock price has been volatile as a result of announcements of regulatory
actions and decisions relating to NUEDEXTA, and periodic variations in our operating results. We
expect that our operating results will continue to vary from quarter to quarter, particularly as we
continue to market NUEDEXTA and report initial sales results. Our operating results and prospects
may also vary depending on the status of our partnering arrangements.
As a result of these factors, we expect that our stock price may continue to be volatile and
investors may be unable to sell their shares at a price equal to, or above, the price paid.
Additionally, any significant drops in our stock price could give rise to stockholder lawsuits,
which are costly and time consuming to defend against and which may adversely affect our ability to
raise capital while the suits are pending, even if the suits are ultimately resolved in favor of
the Company. We have, from time to time, been a party to such suits and although none have been
material to date, there can be no assurance that any such suit will not have an adverse effect on
the Company.
If our internal controls over financial reporting are not considered effective, our business
and stock price could be adversely affected.
Section 404 of the Sarbanes-Oxley Act of 2002 requires us to evaluate the effectiveness of our
internal controls over financial reporting as of the end of each fiscal year, and to include a
management report assessing the effectiveness of our internal controls over financial reporting in
our annual report on Form 10-K for that fiscal year. Section 404 also requires our independent
registered public accounting firm to attest to, and report on, managements assessment of our
internal controls over financial reporting, and we again became subject to these requirements
starting with the year ended September 30, 2010.
Our management, including our chief executive officer and principal financial officer, does
not expect that our internal controls over financial reporting will prevent all errors and all
fraud. A control system, no matter how well designed and operated, can provide only reasonable, not
absolute, assurance that the control systems objectives will be met. Further, the design of a
control system must reflect the fact that there are resource constraints, and the benefits of
controls must be considered relative to their costs. Because of the inherent limitations in all
control systems, no evaluation of controls can provide absolute assurance that all control issues
and instances of fraud involving a company have been, or will be, detected. The design of any
system of controls is based in part on certain assumptions about the likelihood of future events,
and we cannot assure you that any design will succeed in achieving its stated goals under all
potential future conditions. Over time, controls may become ineffective because of changes in
conditions or deterioration in the degree of compliance with policies or procedures. Because of the
inherent limitations in a cost-effective control system, misstatements due to error or fraud may
occur and not be detected. We cannot assure you that we or our independent registered public
accounting firm will not identify a material weakness in our internal controls in the future. A
material weakness in our internal controls over financial reporting would require management and
our independent registered public accounting firm to consider our internal controls as ineffective.
If our internal controls over financial reporting are not considered effective, we may experience a
loss of public confidence, which could have an adverse effect on our business and on the market
price of our common stock.
45
Table of Contents
Because we do not expect to pay dividends in the foreseeable future, you must rely on stock
appreciation for any return on your investment.
We have paid no cash dividends on our common stock to date, and we currently intend to retain
our future earnings, if any, to fund the development and growth of our business. As a result, we do
not expect to pay any cash dividends in the foreseeable future, and payment of cash dividends, if
any, will also depend on our financial condition, results of operations, capital requirements and
other factors and will be at the discretion of our board of directors. Furthermore, we may in the
future become subject to contractual restrictions on, or prohibitions against, the payment of
dividends. Accordingly, the success of your investment in our common stock will likely depend
entirely upon any future appreciation. There is no guarantee that our common stock will appreciate
in value or even maintain the price at which you purchased your shares, and you may not realize a
return on your investment in our common stock.
Our corporate governance documents, rights agreement and Delaware law may delay or prevent an
acquisition of us that stockholders may consider favorable, which could decrease the value of our
common stock.
Our certificate of incorporation and bylaws and Delaware law contain provisions that could
make it more difficult for a third party to acquire us without the consent of our board of
directors. These provisions include restrictions on the ability of our stockholders to remove
directors and supermajority voting requirements for stockholders to amend our organizational
documents and a classified board of directors. In addition, our board of directors has the right to
issue preferred stock without stockholder approval, which could be used to dilute the stock
ownership of a potential hostile acquirer. Delaware law, for instance, also imposes some
restrictions on mergers and other business combinations between any holder of 15% or more of our
outstanding common stock and us. Although we believe these provisions protect our stockholders from
coercive or otherwise unfair takeover tactics and thereby provide for an opportunity to receive a
higher bid by requiring potential acquirers to negotiate with our board of directors, these
provisions apply even if the offer may be considered beneficial by some stockholders. We have also
adopted a stockholder rights agreement intended to deter hostile or coercive attempts to acquire
us. Under the agreement, if a person becomes an acquiring person, each holder of a right (other
than the acquiring person) will be entitled to purchase, at the then-current exercise price, such
number of shares of our preferred stock which are equivalent to shares of common stock having twice
the exercise price of the right. If we are acquired in a merger or other business combination
transaction after any such event, each holder of a right will then be entitled to purchase, at the
then-current exercise price, shares of the acquiring companys common stock having a value of twice
the exercise price of the right. Our stockholder rights agreement could make it more difficult for
a third party to acquire, or could discourage a third party from acquiring, us or a large block of
our common stock without the support of our board of directors. Therefore, the agreement makes an
acquisition much more costly to a potential acquirer.
Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not applicable.
Item 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
Item 4. REMOVED AND RESERVED
Item 5. OTHER INFORMATION
Not applicable.
46
Table of Contents
Item 6. EXHIBITS
Exhibits | ||
10.1
|
Summit Office Lease, dated as of February 1, 2011, by and between Aliso Viejo RP-V1, LLC and AVANIR Pharmaceuticals, Inc. | |
31.1
|
Certification of Principal Executive Officer Required Under Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended. | |
31.2
|
Certification of Principal Financial Officer Required Under Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended. | |
32.1
|
Certification of Principal Executive Officer and Principal Financial Officer Required Under Rule 13a-14(b) of the Securities Exchange Act of 1934, as amended, and 18 U.S.C. 1350. |
47
Table of Contents
SIGNATURES
Pursuant to the requirements 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.
Signature | Title | Date | ||
/s/ Keith A. Katkin
|
President and Chief Executive Officer | May 9, 2011 | ||
Keith A. Katkin
|
(Principal Executive Officer) | |||
/s/ Christine G. Ocampo
|
Vice President, Finance | |||
Christine G. Ocampo
|
(Principal Financial Officer and Principal Accounting Officer) | May 9, 2011 |
48