10-K 1 d441046d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-K

 

 

(Mark One)

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2012

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission File Number 0-15313

 

 

SAVIENT PHARMACEUTICALS, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Delaware   13-3033811

(State or Other Jurisdiction of

Incorporation or Organization)

 

(I.R.S. Employer

Identification Number)

400 Crossing Boulevard, 3rd Floor,

Bridgewater, New Jersey

  08807
(Address of Principal Executive Offices)   (Zip Code)

Registrant’s telephone number, including area code:

(732) 418-9300

Securities registered pursuant to Section 12(b) of the Act:

 

Common Stock, $.01 par value   Nasdaq Global Market
(Title of class)   (Name of each exchange on which registered)

Securities registered pursuant to Section 12(g) of the Act: None

(Title of each class)

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

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  x    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

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   ¨    Accelerated filer   ¨
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller reporting company   x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The aggregate market value of voting stock held by non-affiliates of the registrant on June 30, 2012, the last business day of the registrant’s most recently completed second quarter, was $38,412,000 based on the last reported sale price of the registrant’s Common Stock on the NASDAQ Global Select Market on that date of $0.54.

As of March 19, 2013, the number of shares of Common Stock outstanding was 74,400,580.

 

 

DOCUMENTS INCORPORATED BY REFERENCE:

Portions of the Registrant’s definitive proxy statement for its 2013 annual meeting of stockholders are incorporated by reference into Part III of this report.

 

 

 


Table of Contents

TABLE OF CONTENTS

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

   PART I   

ITEM 1.

   BUSINESS      2   
   OUR EXECUTIVE OFFICERS      23   

ITEM 1A.

   RISK FACTORS      25   

ITEM 1B.

   UNRESOLVED STAFF COMMENTS      50   

ITEM 2.

   PROPERTIES      50   

ITEM 3.

   LEGAL PROCEEDINGS      51   

ITEM 4.

   MINE SAFETY DISCLOSURES      51   
   PART II   

ITEM 5.

   MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES      52   

ITEM 6.

   SELECTED CONSOLIDATED FINANCIAL DATA      54   

ITEM 7.

   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS      55   

ITEM 7A.

   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      71   

ITEM 8.

   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA      72   

ITEM 9.

   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE      115   

ITEM 9A.

   CONTROLS AND PROCEDURES      115   

ITEM 9B.

   OTHER INFORMATION      115   
   PART III   

ITEM 10.

   DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE      116   

ITEM 11.

   EXECUTIVE COMPENSATION      116   

ITEM 12.

   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT      116   

ITEM 13.

   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE      116   

ITEM 14.

   PRINCIPAL ACCOUNTANT FEES AND SERVICES      117   
   PART IV   

ITEM 15.

   EXHIBITS, FINANCIAL STATEMENT SCHEDULES      118   

SIGNATURES

     122   


Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K and the documents incorporated by reference herein contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 21E of the Securities Exchange Act of 1934, as amended, that involve substantial risks and uncertainties. All statements, other than statements of historical fact, including statements regarding our strategy, future operations, future financial position, future results of operations, future cash flows, future actions, future performance, projected costs and expenses, financing plans, product development, commercialization of KRYSTEXXA, possible strategic alliances, projections for current alliances, co-promotes and partnership, competitive position, prospects, plans and objectives of management, are forward-looking statements. We often use words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe,” “may,” “predict,” “will,” “would,” “could,” “should,” “target” and similar expressions, to identify forward-looking statements. These forward-looking statements include, among others, statements relating to the success of our marketing efforts and our ability to commercialize KRYSTEXXA, market demand and our ability to gain market acceptance for KRYSTEXXA among physicians, patients, health care payors and others in the medical community, our market expansion plans in the European Union and the rest of the world, the potential for our entering into a partnering arrangement to commercially launch KRYSTEXXA in the European Union under the marketing authorization received from the European Commission, the ability of any partner we may have to gain market acceptance for KRYSTEXXA among physicians, patients, health care payors and others in the medical community within their territory, market acceptance of reimbursement risks with third-party payors generally and in particular following price increase actions, the risk that the market for KRYSTEXXA in the United States, European Union and other regions, is smaller than we have anticipated, our plans for the expansion of clinical utility for KRYSTEXXA, our ability to service our outstanding debt, fund our operations and raise additional capital needed to achieve our business objectives, our reliance on third parties to market, distribute and sell KRYSTEXXA outside the United States, our reliance on third parties to manufacture KRYSTEXXA, and our ability to meet the stringent regulatory requirements governing the biopharmaceutical industry.

We may not actually achieve the plans, intentions or expectations disclosed in our forward-looking statements, and you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions and expectations disclosed in the forward-looking statements that we make. We have included important factors in various cautionary statements in this Annual Report on Form 10-K, including in the “Risk Factors” section, that we believe could cause actual results or events to differ materially from the forward-looking statements that we make.

You should read this Annual Report on Form 10-K completely and with the understanding that our actual future results may be materially different from what we expect. We undertake no obligation to publicly update forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosures we make on related subjects in our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K.


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PART I

 

ITEM 1. BUSINESS

Overview

We are a specialty biopharmaceutical company focused on commercializing KRYSTEXXA throughout the world. KRYSTEXXA was approved for marketing by the U.S. Food and Drug Administration, or FDA, on September 14, 2010 and became commercially available in the United States by prescription on December 1, 2010, when we commenced sales and shipments to our network of specialty and wholesale distributors. On January 7, 2013, our wholly owned subsidiary, Savient Pharma Ireland Limited was granted a marketing authorization from the European Commission for KRYSTEXXA to be marketed in the European Union, or EU. KRYSTEXXA was approved in the EU for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. We continue to focus on our pre-launch activities for KRYSTEXXA in the EU, while we advance our examination of collaboration and partnership opportunities for the commercial launch of KRYSTEXXA in the EU. At this time, we cannot estimate the timeline for the consummation of any potential deal for EU commercialization, for which a transaction must be in place prior to a launch in that region. We see opportunity for KRYSTEXXA in other regions around the world and thus, we are also continuing to explore collaboration and partnership opportunities for the regulatory approval and commercialization of KRYSTEXXA outside of the United States and EU.

On February 19, 2013, we announced that we entered into an agreement with Swedish Orphan Biovitrum AB, or Sobi, an international specialty healthcare company dedicated to rare diseases, for the co-promotion of Kineret®, a treatment for rheumatoid arthritis, in the U.S. Under the terms of the agreement, Sobi has granted to us the exclusive right to co-promote the sale of Kineret with Sobi in the U.S. We will market and promote Kineret beginning April 1, 2013. We earn a co-promotion fee from this arrangement based upon fifty percent of incremental gross profit earned from Kineret in a year as compared to 2012 adjusted gross profit as the base year.

KRYSTEXXA is indicated in the United States for the treatment of chronic gout in adult patients refractory to conventional therapy, a condition that we refer to as refractory chronic gout, or RCG. RCG occurs in patients who have failed to normalize serum uric acid and whose signs and symptoms are inadequately controlled with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these drugs are contraindicated. KRYSTEXXA is not recommended for the treatment of asymptomatic hyperuricemia, an elevation of blood concentration of uric acid not associated with gout. The active pharmaceutical ingredient, or API, in KRYSTEXXA is a PEGylated uric acid specific enzyme that converts uric acid to allantoin, which is readily eliminated primarily through the kidney. We believe that treatment with KRYSTEXXA provides clinical benefits by eliminating uric acid in the blood and tissue deposits of urate.

During the first quarter of 2011, we worked together with a leading independent life science consulting firm to conduct a comprehensive market research study to determine the number of adult patients in the United States who are suffering from RCG, which we refer to as the KRYSTEXXA Market Study. The KRYSTEXXA Market Study was conducted using both secondary data sources and primary market research. The secondary data sources were used to quantify the diagnosed prevalent gout population and the treated gout population and included all available published literature, including the National Health and Nutrition Examination Survey, or NHANES, a program of studies sponsored by the United States Centers for Disease Control and Prevention designed to assess the health and nutritional status of adults and children in the United States, Medicare claims data and commercial insurance claims data. The market size for KRYSTEXXA is difficult to predict with accuracy and the KRYSTEXXA Market Study, completed in July 2011, indicated that there are approximately 120,000 RCG patients in the United States, or approximately 4.2% of the overall annual treated gout population in the United States. However, the actual number of adult patients with RCG in the United States market may be substantially lower than our estimate. Furthermore, not all of these patients may be engaged with the health care

 

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system and if engaged in the healthcare system, may not be seeking treatment with Rheumatologists which whom we currently concentrate most of our commercial efforts. Additionally, we believe we are presently only reaching a select portion of this overall market defined by our current approved labeling, as actual customer usage to date appears limited to the most severe RCG patients which we estimate as being between 20,000 and 40,000 patients in the United States. Ultimately, the total available market opportunity for KRYSTEXXA and our ability to penetrate that market will depend on, among other things, our patient and physician education programs, our marketing and sales efforts, reimbursement environment, market acceptance by physicians, infusion site personnel, healthcare payors and others in the medical community, and referrals by various specialty physicians to administering clinicians. We are also engaged in market sizing studies for KRYSTEXXA with respect to the EU and the rest of the world.

We believe that the clinical community and payors will continue to see the value of KRYSTEXXA and that there is a certain amount of price elasticity for the product. Over the past year, we increased the selling price of KRYSTEXXA by approximately 29% from the original list price of $2,300 per 8 mg vial to $2,962 per 8 mg vial and most recently, by an additional 30% to $3,850 per 8 mg vial, effective January 16, 2013.

On July 9, 2012, we initiated a reorganization plan which includes organizational changes designed to improve our operational efficiencies while ensuring continued focus on the commercialization of KRYSTEXXA and the advancement of our clinical development programs. As part of the initiative, we decreased our work-force by approximately 35%, including vacancies, effective September 10, 2012. Following the reduction in force, we have a U.S. sales force consisting of 38 key account managers, three regional directors, four managed care executives and four area business specialists. To support the safe and effective use of KRYSTEXXA in the commercial setting, we have a field-based medical affairs function consisting of 8 regional medical scientists, or RMSs, in the U.S., coupled with an additional 5 RMSs in the EU, who educate clinicians through reactive presentations of the clinical data. As we proceed forward with the commercialization of KRYSTEXXA, we may adjust the size of our organization as necessary. Our sales force targets rheumatologists and nephrologists with access to infusion centers and healthcare institutions, each of which treat adult patients suffering from RCG, as well as podiatrists who may also refer patients with RCG. Our reorganization plan is expected to generate approximately $50 to $55 million in annual operating expense savings during the 2013 fiscal year, by reducing non-workforce related operating expenses across all functional areas and by reducing salary, bonus and benefit related operating costs. Partially offsetting these operating cost savings are approximately $10 to $15 million in higher expenses to be incurred during 2013 due to EU pre-launch marketing activities and U.S. clinical trial costs.

To date, our U.S. sales force has reached the majority of key rheumatologists and nephrologists located in private practices, infusion centers, hospitals, academic institutions and U.S. Department of Veterans Affairs, or the VA, medical centers. However, we believe that sales of KRYSTEXXA have been hampered by the lack of information that was available to prescribers at the time of the commercial launch of KRYSTEXXA and concerns over Medicare Part B reimbursement. In an effort to address the lack of information available to prescribers, in August 2011, we published data from our two pivotal KRYSTEXXA Phase 3 clinical trials in patients with RCG in the Journal of the American Medical Association, or JAMA. The data published in JAMA demonstrated that treatment with KRYSTEXXA resulted in significant and sustained reductions in uric acid levels along with clinical improvements in a substantial percentage of RCG patients for six months, a timeframe for demonstrating clinical improvement that is unique in randomized controlled studies of urate-lowering therapies. In addition, 40% of patients with gouty tophi at the commencement of the study receiving KRYSTEXXA experienced complete resolution of one or more tophi by the final study visit, compared to 7% of patients on placebo. The datum published also included a summary of adverse events that occurred in at least 5% of the patients in the trial, including gout flares, infusion reactions, nausea, contusion or ecchymosis, nasopharyngitis, constipation, chest pain, anaphylaxis and vomiting. In addition, a manuscript showing the improvement in patient reported outcomes following treatment with KRYSTEXXA was published in the June 27, 2012 Journal of Rheumatology. Unlike the objective end points of a clinical trial, such as the lowering of serum uric acid, patient reported outcomes measure subjective aspects, such as reduction in pain, or improvement in the patient’s quality of life.

 

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During the first quarter of 2012, we updated our clinical development plan for KRYSTEXXA and are undertaking a targeted and focused approach to expanding the clinical utility of KRYSTEXXA into populations beyond RCG. For example, a significant number of severe gout patients have underlying chronic renal disease that can affect treatment options. Clinicians are reluctant to use conventional urate lowering agents in patients with significant renal disease and when they do use them, it is often in doses that have little effect on serum uric acid levels. Further, in patients with gout who have undergone solid organ transplantation, including renal transplantation, the use of conventional urate lowering treatments is actually contraindicated in many of those patients receiving certain types of immunosuppressive agents. Certain results observed in the Phase 3 clinical trials for KRYSTEXXA support effective treatment with KRYSTEXXA in these circumstances. In view of these findings, a key area of focus for our clinical development plan will be to confirm whether KRYSTEXXA is dialyzable. A study looking at the use of KRYSTEXXA in patients undergoing renal dialysis has completed enrollment and we expect data in mid-2013. We will also explore whether KRYSTEXXA can be used safely and effectively in patients with gout who have undergone solid organ transplantation. We believe these are areas of significant unmet medical needs in view of the difficulties with conventional uric lowering therapies, or ULTs, in these populations.

We are also exploring methods to mitigate the antibody formation that occurs to the molecule via the immunogenicity trial due to begin in the third quarter of 2013. This trial will test a new dosing schedule designed to induce a high zone tolerance. We believe that it will further reduce the incidence of infusion reactions and increase the number of patients who maintain their response to KRYSTEXXA over the long term. In the Phase 3 clinical development program, 42% of patients maintained their response to KRYSTEXXA over the six-month period of the trials. Many of the patients who discontinued from these trials lost their therapeutic response due to the development of high-titer antibodies. If the immunogenicity trial is successful, we believe fewer patients will develop high-titer antibodies and thereby better able to maintain their therapeutic response over a longer period of time.

In addition, there is a large pool of patients who have severe tophaceous gout who fall outside of the RCG population primarily because their conventional ULT therapy is not at a maximum dose. The KRYSTEXXA Market Study indicated that approximately 500,000 to 700,000 patients in the U.S. currently have tophaceous gout and uncontrolled uric acid levels but were not considered in the RCG market because their conventional ULT therapy is not at a maximum dose. However, because of the size and/or location of their tophi, their physical functioning is impaired. Because KRYSTEXXA rapidly lowers serum uric acid levels and has a significant and rapid effect on reducing tophi and total body urate stores, we believe these patients can benefit from an induction/maintenance therapy with KRYSTEXXA. A Phase 4 clinical study to examine the use of KRYSTEXXA as an induction (debulking) therapy in patients with severe tophaceous gout is a possible future strategy for expanding the market opportunity for KRYSTEXXA. Because the immunogenicity trial may result in a different dosing schedule for KRYSTEXXA and higher response rates, we decided to push back the start of the induction/maintenance trials until the data from the immunogenicity trial is available. We believe this would allow us to conduct the induction/maintenance trials with fewer patients and at less cost, while further lessening the risk of infusion reactions for the patients.

Data from our open label long term extension trial was published in Annals of Rheumatic Disease on-line on November 10, 2012. This article provides key clinical data on patients who have been receiving KRYSTEXXA for an additional 30 months and is critical for clinicians as they better understand the clinical benefits of long-term KRYSTEXXA use for their patients and how to manage possible side effects. Additionally, a review article on RCG and the use of pegloticase was published in the April 2012 issue of the International Journal of Clinical Rheumatology. Furthermore, an appraisal of the role of pegloticase in the management of gout was published in the 2012 issue of Open Access Rheumatology: Research and Reviews. Finally, a review article on the evaluation and treatment of gout as a chronic disease was published on-line in the journal Advances in Therapy in October 2012. This article describes the population with refractory chronic gout and the role pegloticase plays in the treatment of this condition.

 

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In June 2012, we presented data at an oral session conducted by the European League Against Rheumatism, or EULAR, congress that demonstrated that patients with RCG who also suffer from chronic kidney disease, or CKD, stages one through four, responded to treatment with KRYSTEXXA. We believe this is a significant finding as there are currently limited treatment options available for refractory chronic patients with CKD because impaired kidney function can reduce the ability of conventional gout treatments to lower uric acid and decrease a patient’s threshold for treatment-related toxicity. Six additional abstracts, including a study measuring the impact of gout pain on quality of life in Western Europe, were accepted for presentation or publication at EULAR.

In November 2012, we presented the following eight posters related to KRYSTEXXA at the American College of Rheumatology, or ACR:

 

   

Complete Tophus Response in Patients with Chronic Gout Initiating Pegloticase Treatment;

 

   

Clinical Efficacy Outcomes with Up to 3 Years of Pegloticase Treatment for Refractory Chronic Gout;

 

   

Improvements in Long-Term Health-Related Quality of Life in Chronic Gout Patients Refractory to Conventional Therapies Treated with Pegloticase: Results from Responder Cohort;

 

   

Patterns of Gout Treatment and Related Outcomes in US Community Rheumatology Practices: the Relation Between Gout Flares, Time in Treatment, Serum Uric Acid Level and Urate Lowering Therapy;

 

   

Pegloticase Long-Term Safety: Data from the Open Label Extension Trial;

 

   

Post-Marketing Safety Surveillance Data Reveals Patterns of Use for Pegloticase in Refractory Chronic Gout;

 

   

Relative Risk of Infusion Reactions with KRYSTEXXA® (pegloticase) from Post-Approval Safety Data: Results from Sept 2010 to June 2012; and

 

   

Serum Uric Acid as a Biomarker for Mitigation of Infusion Reactions in Patients Treated with Pegloticase for Refractory Chronic Gout.

On January 1, 2012, KRYSTEXXA received a permanent J Code, which facilitates reimbursement to providers who treat patients suffering with RCG and who rely on Medicare and Medicaid. We were also awarded a contract from the VA which covered KRYSTEXXA reimbursement for VA member patients as of April 1, 2011 at an approximate 24% discount to our original list selling price of $2,300 per 8 mg vial. On January 16, 2013, we increased the list selling price of KRYSTEXXA to $3,850 per 8 mg vial and VA member patients now receive an approximate 59% discount to our list price. We expect that this discount will remain the same or increase in the future contingent on price actions that we may take. The VA has also recently issued a KRYSTEXXA monograph and criteria for use. In addition, KRYSTEXXA currently enjoys broad coverage for RCG patients through managed care and private payor organizations. Also, ACR published their treatment guidelines for gout and KRYSTEXXA was included in these guidelines. In six of nine case scenarios defined by ACR, KRYSTEXXA is considered an appropriate therapeutic option for treatment of refractory disease.

In June 2011, we implemented the KRYSTEXXA Patient Initiation Program, or KPIP, which provided RCG patients with two free doses of KRYSTEXXA. We believe that this initiative allows patients to begin therapy and experience the potential benefits of KRYSTEXXA with no or minimal out of pocket expense.

We have built an inventory of finished KRYSTEXXA product at December 31, 2012, that is packaged and labeled for distribution, and additional supplies of bulk API drug substance that are scheduled to be packaged and labeled as part of our ongoing FDA approved commercial manufacturing process. Based on our inventory on hand and in process, we believe we have sufficient inventory to meet our internal market estimates until at least the second quarter of 2015.

 

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On October 19, 2012, we were notified that the European Medicine Agency’s Committee for Medical Products for Human Use, or CHMP, completed its scientific assessment of our Marketing Authorization Application, or MAA, for KRYSTEXXA and issued a positive opinion recommending approval of the MAA for KRYSTEXXA for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. The positive CHMP opinion was based upon a detailed evaluation of the MAA, which included safety and efficacy data from our two pivotal Phase III studies, and a long-term open label extension study of KRYSTEXXA, as well as non-clinical and chemistry, manufacturing and control information. This opinion was transmitted to the European Commission, which has the authority for granting marketing authorizations in the EU. On January 7, 2013, our wholly owned subsidiary, Savient Pharma Ireland Ltd. was granted a marketing authorization from the European Commission for KRYSTEXXA in the EU, for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. As part of the marketing authorization received from the European Commission, we will be responsible for post-marketing commitment clinical trials to primarily further examine the safety of KRYSTEXXA. The post-marketing commitment clinical trials are estimated to cost between $25.0 million and $30 million over approximately the next seven years.

In March 2012, KRYSTEXXA was made available in the EU to healthcare professionals through a Named Patient Program. The program was initially offered on a for-fee basis but has since been offered free of charge since July 2012. This program is sponsored by our wholly-owned subsidiary, Savient Pharma Ireland Limited and managed by a third-party service provider.

In further support of our launch planning activities for KRYSTEXXA in Europe, we have advanced the development of reimbursement and pricing plans for the region and engaged RMSs for our key markets and commenced Key Opinion Leader, or KOL, interactions. We currently have a total of 5 RMSs across the UK, Germany and France. The RMSs are responsible for disease state awareness and education surrounding severe debilitating chronic tophaceous gout. By the end of December 2012, the RMSs have called on greater than 300 KOLs with an average frequency of 2 visits per KOL in Europe.

We also sell and distribute branded and generic versions of oxandrolone, a drug used to promote weight gain following involuntary weight loss. We launched our authorized generic version of oxandrolone in December 2006 in response to the approval and launch of generic competition to our branded product, Oxandrin®. The introduction of oxandrolone generics has led to significant decreases in demand for Oxandrin and our authorized generic version of oxandrolone. We believe that revenues from Oxandrin and our authorized generic version of oxandrolone will continue to decrease in future periods primarily as a result of the expiration of our contract agreement with our third-party manufacturer. We do not actively market and do not plan on seeking a new third-party manufacturer of Oxandrin or oxandrolone. We have and will continue to explore divestiture or out-license opportunities for these products.

On May 9, 2012, certain holders of our currently outstanding 2018 Convertible Notes exchanged approximately $108.0 million (principal amount) of such notes for Units, comprised of 2019 Notes, having a principal amount upon full accretion equivalent to the principal amount of the corresponding exchanged 2018 Convertible Notes, and warrants to purchase approximately 4.0 million shares of our common stock at an exercise price of $1.863 per share. The 2019 Notes were recorded at a 26.22% discount to par. In addition to the accretion of principal, the 2019 Notes have a cash coupon interest rate of 3% in the first three years and a cash coupon interest rate of 12% per year thereafter until their maturity date. The 2019 Notes contractually reach their fully accreted principal amount on May 9, 2015, and will mature on May 9, 2019. Simultaneously, the holders of the 2018 Convertible Notes which were exchanged also purchased additional Units, comprised of 2019 Notes and warrants, the purchase price of which was $46.8 million. The principal amount of the 2019 Notes issued upon the exchange of the 2018 Convertible Notes, plus the 2019 Notes issued to the holders upon purchase of the

 

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additional Units, is $170.9 million. The 2019 Notes are secured by substantially all of our assets and by the assets and securities of certain of our subsidiaries. We received net cash proceeds after expenses from this financing transaction of $42.6 million.

We currently operate within one “Specialty Pharmaceutical” segment, which includes the sales and research and development activities of KRYSTEXXA and the sales of Oxandrin and oxandrolone. Total revenues were $18.0 million for year ended December 31, 2012, an increase of $8.4 million, or 88%, from $9.6 million for year ended December 31, 2011.

KRYSTEXXA® (pegloticase)

The API in KRYSTEXXA is a PEGylated uric acid specific enzyme that converts uric acid into allantoin, which is readily eliminated primarily through the kidney. KRYSTEXXA is indicated for the treatment of chronic gout in adult patients refractory to conventional therapy, a condition referred to as Refractory Chronic Gout, or RCG. We produce the uric acid degrading enzyme uricase using a third-party manufacturer, through a recombinant process in which genetically engineered bacteria produce uricase. We then produce the API, pegloticase, by PEGylating the purified uricase in order to decrease the rate at which the human body would otherwise clear the uricase. PEGylation refers to a process in which a polyethylene glycol polymer is attached to a molecule. The KRYSTEXXA uricase is PEGylated by attaching methoxypolyethylene glycol, or mPEG, to it.

KRYSTEXXA received “orphan drug” designation from the FDA in 2001. Orphan drug designation does not convey any advantage in, or shorten the duration of, the regulatory review and approval process; however, it does make the product eligible for orphan drug exclusivity for a defined period and offers some financial benefits, including specific tax credits in the United States. Generally, if a product with an orphan drug designation subsequently receives the first marketing approval for the use for which it has such designation, the product is entitled to orphan drug exclusivity. In such a case, later applications by other companies to market the same drug for the same use may not be approved in the United States for a period of seven years from the date of approval of the orphan drug by the FDA, except in limited circumstances, such as if a competitive product is shown to be clinically superior to the original product. Orphan drug designation of KRYSTEXXA does not prevent competitors from introducing different competing drugs for the same orphan indication that is covered by KRYSTEXXA’s orphan designation or the same drug for a different indication. KRYSTEXXA does not have orphan drug designation in the EU or other regions of the world.

Regulatory Approval History

On September 14, 2010, the FDA approved KRYSTEXXA for marketing for the treatment of chronic gout in adult patients refractory to conventional therapy. The approved United States full prescribing information, or labeling, for KRYSTEXXA contains safety information, including a prominent warning on the full prescription information, or package insert, referred to as a “black box warning,” regarding anaphylaxis and infusion reactions, as well as contraindications, warnings and precautions. The black box warning and other precautions are based on the clinical trials experience in which anaphylaxis and infusion reactions in patients were reported to occur during and after administration of KRYSTEXXA. In the Phase 3 trial for KRYSTEXXA, anaphylactic reactions were reported in 6.5% of patients treated with KRYSTEXXA, compared to 0% with placebo, and infusion reactions were reported to occur in 26% of patients treated with KRYSTEXXA, compared to 5% of patients treated with placebo.

As part of our approval we are also required to implement a risk evaluation and mitigation strategy, or REMS, program to minimize the potential risks of KRYSTEXXA treatment. The REMS program includes a Medication Guide for patients, a Communication Plan to healthcare providers and an Assessment Plan to survey

 

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patients’ and providers’ understanding of the serious risks of KRYSTEXXA. The FDA is also requiring that we conduct an observational trial in 500 patients treated with KRYSTEXXA for one year to further evaluate and identify if there are any other serious adverse events associated with the administration of KRYSTEXXA.

On October 19, 2012, CHMP completed its scientific assessment of our MAA for KRYSTEXXA, and issued a positive opinion recommending approval of the MAA for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. This opinion was transmitted to the European Commission, which has the authority for granting marketing authorizations in the EU.

On January 7, 2013, our wholly owned subsidiary, Savient Pharma Ireland Limited, was granted a marketing authorization from the European Commission for KRYSTEXXA in the EU, for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated.

As part of our EU approval, in order to further evaluate and identify if there are any other serious adverse events associated with the administration of KRYSTEXXA, we are required to conduct an observational trial in 500 patients treated with KRYSTEXXA for as long as they are on treatment plus three months post treatment with KRYSTEXXA. Additionally, we are required to perform a clinical study to verify the appropriate dosing in patients weighing greater than 100kg and a clinical study looking at an alternate dosing regimen which could reduce the frequency of gout flares seen with the onset of treatment with KRYSTEXXA.

Manufacturing

We do not own or operate our own manufacturing facilities and use third-party contract manufacturers to manufacture our products under the oversight and supervision of our technical operations and quality personnel. We intend to continue to rely on contract manufacturers to produce our products, and we have recruited personnel with manufacturing and quality assurance experience to oversee the production and release of KRYSTEXXA.

The manufacturing process for pegloticase, which is the drug substance of KRYSTEXXA, consists of the production through a recombinant process in which a genetically-engineered bacteria produces uricase, followed by its purification, PEGylation, further purification and formulation to produce the bulk pegloticase, which we also refer to as pegloticase drug substance. Pegloticase is aseptically filtered and filled into sterile, single dose vials to produce the KRYSTEXXA drug product. The manufacturing process and the analytical methods used to test KRYSTEXXA and its intermediates have been validated as required by regulatory agencies. We have commercially launched KRYSTEXXA produced at our third-party drug substance manufacturer, Bio-Technology General (Israel) Ltd, or BTG, and drug product manufacturer, Sigma-Tau PharmaSource, Inc., or Sigma-Tau (formerly known as Enzon Pharmaceuticals, Inc., which was acquired by Sigma-Tau in January 2010). In support of our commercialization of KRYSTEXXA, we have entered into agreements with BTG and Sigma-Tau for the supply of commercial materials and with NOF Corporation of Japan, or NOF, for supply of the PEGylation reagent mPEG-NPC.

The production of the pegloticase drug substance is based on a recombinant micro-organism, the subject of an issued patent owned by Duke University, or Duke, and licensed exclusively to us, as well as published patent applications owned directly by us. The manufacturing processes used in the production of the pegloticase drug substance consist in most part of standard biotechnological techniques, except for the PEGylation step. The manufacturing process steps are covered by published patent applications owned directly by us and by an issued patent exclusively licensed to us by Mountain View Pharmaceuticals, Inc., or MVP.

 

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We are continuing our efforts to qualify a second contract manufacturing organization for the pegloticase drug substance. However, we will continue to rely on a single source of supply, BTG, for the manufacture of pegloticase drug substance and NOF for mPEG-NPC, the PEGylation reagent. We also plan to engage a secondary fill and finish manufacturer for pegloticase drug substance, but at this time, no contract agreement is in place for this function. As such, we will continue to rely on a single provider of fill and finish services, Sigma-Tau, for the foreseeable future.

For more information on our agreements with BTG, Fujifilm, NOF and Sigma-Tau, please see “Manufacturing, Supply, Distribution and Other Arrangements.”

Sales and Marketing

KRYSTEXXA became commercially available in the United States by prescription on December 1, 2010, when we commenced sales and shipments to our network of specialty and wholesale distributors. We completed a full promotional launch of KRYSTEXXA in the United States during the first quarter of 2011 with our sales force commencing field promotion to physicians on February 28, 2011. We are continuing our EU preparation to ensure that we can successfully commercialize KRYSTEXXA in the EU, with a potential partner in the future. The key focus areas of this pre-launch preparation were KOL development, KOL disease area education, increasing clinical experience, market access preparation and ensuring product supply and distribution of KRYSTEXXA in the EU.

We currently have a U.S. sales force consisting of 38 key account managers, three regional directors, four managed care executives and four regional account managers. To support the safe and effective use of KRYSTEXXA in the commercial setting, we have a field-based medical affairs function consisting of 8 regional medical scientists, or RMSs, in the U.S., coupled with an additional 5 RMSs in the EU, who educate clinicians through reactive presentations of the clinical data. As we proceed forward with the commercialization of KRYSTEXXA, we may adjust the size of our organization as necessary.

Our sales force targets rheumatologists and nephrologists with access to infusion centers and healthcare institutions, each of which treat adult patients suffering from RCG, as well as podiatrists who may also treat patients with RCG. Although the majority of gout patients are seen in primary care settings, many patients prefer specialized care by the rheumatologists. To date, our sales force has reached the vast majority of key rheumatologists and nephrologists located in private practices, infusion centers, hospitals, academic institutions and VA medical centers. Administration of biologic therapy via intravenous infusion is well-established in clinical practice in the rheumatology setting as there are four widely used pharmaceutical products for the treatment of rheumatoid arthritis that are administered via intravenous infusion. The KOLs in the gout field are rheumatologists, many of whom have been involved in the clinical development program for KRYSTEXXA.

In March 2012, KRYSTEXXA was made available in the EU to healthcare professionals through a Named Patient Program. The program was initially offered on a for-fee basis but has since been offered free of charge since July 2012. This program is sponsored by our wholly-owned subsidiary, Savient Pharma Ireland Limited and managed by a third-party service provider.

In June 2011, we implemented the KRYSTEXXA Patient Initiation Program, or KPIP, which provided RCG patients with two free doses of KRYSTEXXA. We believe that this initiative allows patients to begin therapy and experience the potential benefits of KRYSTEXXA with no or minimal out of pocket expense. We have always strived to ensure availability of KRYSTEXXA to all RCG patients who are in need of this transformational drug. Through partnerships with experienced third-party vendors, we launched our reimbursement and pharmacovigilance hotline services for the benefit and use of prescribers and patients. To support the payors, physicians and patients, we have also contracted for reimbursement services with an external organization that specializes in providing telephonic and web-based services in the area of insurance coverage and patient reimbursement. We offer a Patient Assistance Program, which we refer to as PAP, in which patients without

 

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insurance or insured patients whose health insurer does not cover KRYSTEXXA can gain access to free product. We also offer a co-pay assistance program where eligible patients can receive financial support to assist with the out of pocket costs for KRYSTEXXA.

Medical Affairs & Clinical Development

Currently the primary focus of our medical affairs function is to support the safe and effective use of KRYSTEXXA. This is accomplished by focusing on the scientific communication of existing clinical data and the generation of new clinical data through our post-marketing trials. Our group of 8 field-based RMSs in the U.S. and 5 RMSs in the EU further educate clinicians through reactive presentations of the clinical data. Costs within the Medical Affairs function, such as investigator grants that could potentially expand the clinical utility of KRYSTEXXA, are recorded as research and development.

In a commercial setting, safety data collection involves some degree of uncertainty since adverse events are not required to be reported as they are in clinical trials. Also, when adverse events are reported, they may be reported to us or directly to the FDA without copying us, resulting in some level of uncertainty as to whether the data available to us at the time of an assessment of the incidence of adverse events reflects the total number of adverse event occurrences. Within that context, we believe that the safety profile of KRYSTEXXA during its first two years of commercial availability has been consistent with what was seen during the clinical trial period and no new safety signals have been noted to date.

During the first quarter of 2012, we updated our clinical development plan for KRYSTEXXA and are undertaking a targeted and focused approach to expanding the clinical utility of KRYSTEXXA into populations beyond RCG. For example, a significant number of severe gout patients have underlying chronic renal disease that can affect treatment options. Clinicians are reluctant to use conventional urate lowering agents in patients with significant renal disease, and when they do use them, it is often in doses that have little effect on serum uric acid levels. Further, in patients with gout who have undergone solid organ transplantation, including renal transplantation, the use of conventional urate lowering treatments is actually contraindicated in many of those patients receiving certain types of immunosuppressive agents. Certain results observed in the Phase 3 clinical trials for KRYSTEXXA support effective treatment with KRYSTEXXA in these circumstances. In view of these findings, a key area of focus for our clinical development plan will be to confirm whether KRYSTEXXA is dialyzable. A study looking at the use of KRYSTEXXA in patients undergoing renal dialysis has completed enrollment and we expect data in mid-2013. We will also explore whether KRYSTEXXA can be used safely and effectively in patients with gout who have undergone solid organ transplantation. We believe these are areas of significant unmet medical needs in view of the difficulties with conventional uric lowering therapies, or ULTs, in these populations.

We are also exploring methods to mitigate the antibody formation that occurs to the molecule via the immunogenicity trial due to begin in the third quarter of 2013. This trial will test a new dosing schedule designed to induce a high zone tolerance. We believe that it will further reduce the incidence of infusion reactions and increase the number of patients who maintain their response to KRYSTEXXA over the long term. In the Phase 3 clinical development program, 42% of patients maintained their response to KRYSTEXXA over the six-month period of the trials. Many of the patients who discontinued from these trials lost their therapeutic response due to the development of high-titer antibodies. If the immunogenicity trial is successful, we believe fewer patients will develop high-titer antibodies and thereby better able to maintain their therapeutic response over a longer period of time.

In addition, there is a large pool of patients who have severe tophaceous gout who fall outside of the RCG population primarily because their conventional ULT therapy is not at a maximum dose. The KRYSTEXXA Market Study indicated that approximately 500,000 to 700,000 patients in the U.S. currently have tophaceous gout and uncontrolled uric acid levels but were not considered in the RCG market because their conventional

 

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ULT therapy is not at a maximum dose. However, because of the size and/or location of their tophi, their physical functioning is impaired. Because KRYSTEXXA rapidly lowers serum uric acid levels and has a significant and rapid effect on reducing tophi and total body urate stores, we believe these patients can benefit from an induction/maintenance therapy with KRYSTEXXA. A Phase 4 clinical study to examine the use of KRYSTEXXA as an induction (debulking) therapy in patients with severe tophaceous gout is a possible future strategy for expanding the market opportunity for KRYSTEXXA. Because the immunogenicty trial may result in a different dosing schedule for KRYSTEXXA and higher response rates, we decided to push back the start of the induction/maintenance trials until the data from the immunogenicity trial is available. We believe this would allow us to conduct the induction/maintenance trials with fewer patients and at less cost, while further lessening the risk of infusion reactions for the patients.

Oxandrin and oxandrolone

Oxandrin is an oral synthetic derivative of testosterone used to promote weight gain following involuntary weight loss related to disease or medical condition. We sell Oxandrin in both 2.5 mg and 10 mg tablets. We first introduced Oxandrin in the 2.5 mg strength in December 1995 and followed with the 10 mg tablet in October 2002. We introduced the 10 mg strength to reduce the number of tablets required to be taken by patients taking 20 mg a day, which is a common dosage.

Our financial results have been partially dependent on sales of Oxandrin since its launch in December 1995. Generic competition for Oxandrin began in December 2006. In response to such competition, we, through our distribution partner Actavis, formerly Watson Pharmaceuticals, or Watson, began distributing an authorized generic version of oxandrolone tablets, USP C-III, an Oxandrin brand equivalent product. The authorized generic version of oxandrolone tablets has met all quality control standards of the Oxandrin brand and contains the same active and inactive pharmaceutical ingredients. We have a supply and distribution agreement in effect with Watson which provides for us to receive a significant portion of the gross margin earned by Watson on sales of oxandrolone.

The introduction of generic products has caused a significant decrease in our Oxandrin revenues, which has had an adverse effect on our financial results and cash flow. In response to the generic competition, we scaled back some of our business activities and eliminated our sales force related to the product. As a result, Oxandrin has become a less significant product for our future operating results. We believe that revenues from Oxandrin and our authorized generic version of oxandrolone will continue to decrease in future periods primarily as a result of the expiration of our contract agreement with our third-party manufacturer. We do not plan on seeking a new third-party manufacturer of Oxandrin and oxandrolone and we are not actively marketing these products. We have and will continue to explore divestiture or out-license opportunities for these products. Based on our current demand for these products, we anticipate that our oxandrolone inventory will be sufficient to meet market demand until the second quarter of 2013 and our Oxandrin inventory will be sufficient to meet demand until the third quarter of 2015.

Sales of Oxandrin and our authorized generic version of oxandrolone accounted for 10.0%, 35.2% and 99.6% of our 2012, 2011 and 2010 revenues, respectively.

Manufacturing, Supply, Distribution and Other Arrangements

KRYSTEXXA

Bio-Technology General (Israel) Ltd. (a subsidiary of Ferring Pharmaceuticals)

In 2007, we entered into commercial supply and development agreements with BTG, pursuant to which BTG serves as the manufacturer and commercial supplier of the pegloticase drug substance for KRYSTEXXA and provides development, manufacturing and other services in relation to the product. Under the agreements, BTG also provided support with respect to our biologics license application, or BLA, for KRYSTEXXA. Pursuant to its terms, the development agreement automatically expired upon the FDA’s approval for marketing

 

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of KRYSTEXXA in the United States. Under the commercial supply agreement with BTG, as amended, BTG is obligated to manufacture our firmly forecasted commercial supply of KRYSTEXXA and we are obligated to purchase from BTG at least 80% of our worldwide requirements of pegloticase drug substance. However, if BTG produces specified numbers of failed batches of pegloticase drug substance within one or more calendar quarters, then we may purchase all of our KRYSTEXXA requirements from other suppliers until BTG demonstrates to our reasonable satisfaction that it has remedied its supply failure. In addition, if our product forecasts are reasonably anticipated to exceed BTG’s processing capacity, then we may purchase from other suppliers the KRYSTEXXA requirements that exceed BTG’s capacity. We are obligated to provide BTG with a rolling forecast on a monthly basis setting forth the total quantity of pegloticase drug substance we expect to require for commercial supply in the following 18 months. The first six months of each forecast represent a rolling firm irrevocable order, and we may only increase or decrease our forecast for the next 12 months within specified limits. Beginning in December 2015, which is the seventh anniversary of BTG’s first delivery of pegloticase drug substance under the commercial supply agreement, either we or BTG may provide three years advance notice to terminate the commercial supply agreement, effective not earlier than December 2018. The commercial supply agreement may also be terminated in the event of insolvency or uncured material breach by either party.

Fujifilm Diosynth Biotechnologies USA LLC

In 2007, we entered into a services agreement with Fujifilm, pursuant to which Fujifilm is preparing to serve as our secondary source supplier in the United States of pegloticase drug substance for KRYSTEXXA. Under the agreement, we were obligated to make specified milestone payments related to the technology transfer, and subsequent performance, of the manufacturing and supply process, which was initiated in August 2007 with BTG’s cooperation. In November 2009, we entered into a revised services agreement with Fujifilm, pursuant to which we delayed the 2009 conformance batch production campaign until 2010. During the first quarter of 2010, the conformance batch production campaign at Fujifilm commenced. As a result of batch failures at Fujifilm based on one manufacturing specification, the 2010 conformance batch production campaign was terminated in December 2010. We renegotiated the agreement with Fujifilm in June 2011. Either we or Fujifilm may terminate the services agreement in the event of an uncured material breach by the other party. In addition, we may terminate the agreement at any time upon 45 days advance notice. If we terminate the agreement other than for Fujifilm’s breach, or if Fujifilm terminates the agreement for our breach, we must pay Fujifilm a termination fee based on the value of the remaining unbilled activities under the agreement. Either party may also terminate the agreement within 30 days after any written notice from Fujifilm that, in its reasonable judgment and based on a change in the assumptions or objectives for the project, it cannot continue to perform its obligations without a change in the scope, price or payment schedule for the project. We are continuing our re-evaluation of whether to continue our efforts to validate Fujifilm Diosynth Biotechnologies USA LLC, or Fujifilm, as a potential secondary source supplier of the pegloticase drug substance used in the manufacture of KRYSTEXXA.

NOF Corporation (Japan)

In 2007, we entered into a supply agreement with NOF pursuant to which NOF serves as our exclusive supplier of mPEG-NPC, which is used in the PEGylation process to produce the pegloticase drug substance for KRYSTEXXA. We must purchase our entire supply of mPEG-NPC from NOF unless NOF fails to supply at least 75% of our firm orders, in which case we may obtain mPEG-NPC from a third party until NOF’s supply failure is remedied to our reasonable satisfaction. Under the agreement, we are obligated to make specified minimum purchases of mPEG-NPC from NOF. We must provide NOF with a rolling forecast on a quarterly basis setting forth the total quantity of mPEG-NPC that we expect to require in the following 18 months. The first six months of each forecast represents a rolling firm irrevocable order, and we may only increase or decrease the forecast for the next 12 months within specified limits. For any given year, upon three months advance notice, we may terminate our minimum purchase obligation for the entire year or the remainder of that year by paying NOF 50% of the minimum purchase obligation for that year or the remainder of that year. NOF is obligated under the supply agreement to use commercially reasonable efforts to submit a Type II Drug Master File, or its equivalent, to the appropriate regulatory agency in one country outside of the United States or in the EU. Our agreement with NOF has an initial term ending in May 2017 and may be extended for an additional

 

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10 years by mutual agreement of the parties at least 12 months before the expiration of the initial term. Prior to the expiration of the term, either we or NOF may terminate the agreement for convenience upon 24 months advance notice. Either we or NOF may terminate the agreement in the event of the other party’s insolvency or uncured material breach. In the event that NOF terminates the agreement for convenience or if we terminate the agreement for NOF’s breach or bankruptcy, we may require NOF to continue to supply mPEG-NPC for up to two years following the termination date. If we terminate the agreement for convenience or if NOF terminates the agreement for our breach, we must pay NOF 50% of the minimum purchase obligation for the period from the termination date until the date on which the agreement would have expired. In January 2013, we re-negotiated our supply agreement with NOF. Pursuant to the amended agreement, we prepaid the 50% minimum purchase obligation for 2013 in January 2013 and in return, our 2014 minimum purchase obligation was forgiven by NOF. Our minimum purchase obligation with NOF through 2017 is approximately $4.8 million and is fully accrued as of December 31, 2012.

Sigma-Tau PharmaSource, Inc.

In 2008, we entered into a non-exclusive commercial supply agreement with Sigma-Tau. Under the terms of the commercial supply agreement, Sigma-Tau has agreed to fill, label, package, test and provide specified product support services for the final KRYSTEXXA product. In return, we agreed that once KRYSTEXXA received FDA marketing approval, we would purchase product support services from Sigma-Tau. These purchase obligations are based on a rolling forecast that we have agreed to provide to Sigma-Tau on a quarterly basis setting forth the total amount of final product that we expect to require in the following 24 months. The first six months of each forecast will represent a rolling firm irrevocable order, and we may only increase or decrease our forecast for the next 18 months within specified limits. If we cancel batches subject to a firm order, we must pay Sigma-Tau a fee. Under the agreement, we are also obligated to pay Sigma-Tau a rolling, non-refundable capacity reservation fee, which may be credited against the fees for Sigma-Tau’s production of the final product. Either we or Sigma-Tau may terminate the agreement upon 24 months advance notice given 30 days before each year’s anniversary date of the agreement. If we terminate the agreement, we would be obligated to pay Sigma-Tau a fee based on the previously submitted rolling forecasts. Either we or Sigma-Tau may also terminate the agreement in the event of insolvency or uncured material default in performance by either party.

We believe that our current arrangements for the supply of clinical and commercial quantities of pegloticase drug substance and finished form KRYSTEXXA will be adequate to satisfy our currently forecasted commercial requirements of KRYSTEXXA and any currently planned future clinical studies.

Mountain View Pharmaceuticals, Inc. and Duke University

We are party to an exclusive royalty bearing license agreement with MVP and Duke, originally entered into on August 12, 1998 and amended in 2001, granting us rights under technology relating to mammalian and non-mammalian uricases, and MVP’s technology relating to mPEG conjugates of these uricases, as well as patents and pending patent applications covering this technology, to make, use and sell, for human treatment, products that use this technology. These patents and pending patent applications constitute the fundamental composition of matter and underlying manufacturing patents for KRYSTEXXA. Under the agreement, we are required to use our best efforts to diligently market products that use the licensed technology.

The agreement requires us to pay to MVP and Duke quarterly royalty payments within 60 days after the end of each quarter based on KRYSTEXXA net sales made in that quarter by us. The royalty rate for a particular quarter ranges between 8% and 12% of net sales based on the amount of cumulative net sales made by us. In addition, and pursuant to the agreement, we are required to make potential separate milestone payments to MVP and Duke if we successfully commercialize KRYSTEXXA and attain specified KRYSTEXXA sales targets. Also under the agreement, for sales made by sub-licensees and not by us, we are required to pay royalties of 20% on any revenues or other consideration we receive from sub-licensees during any quarter. We record the royalty and sales-based milestone payments pursuant to the MVP and Duke agreement as a component of cost of goods sold in our consolidated statements of operations.

 

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The agreement remains in effect, on a country-by-country basis, for the longer of 10 years from the date of first sale of KRYSTEXXA in such country, or the date of expiration of the last-to-expire patent covered by the agreement in such country. We may terminate this agreement in one or more countries with six months prior notice, and we may also terminate the agreement with respect to any country in which the licensed patents are infringed by a third party or in which the manufacture, use or sale of KRYSTEXXA infringes a third party’s intellectual property rights. Either we or the licensors may also terminate the agreement, with respect to the countries affected, upon the other party’s material breach, if not cured within a specified period of time, or immediately upon the other party’s third or subsequent material breach of the agreement or the other party’s fraud, willful misconduct or illegal conduct. Either party may also terminate the agreement for the other party’s bankruptcy or insolvency. Upon a termination of the agreement in one or more countries, all intellectual property rights conveyed to us with respect to the terminated countries under the agreement, including regulatory applications and pre-clinical and clinical data, revert to MVP and Duke and we are permitted to sell off any remaining inventory of KRYSTEXXA for such countries.

Research and Development Grants

We have received financial grants in support of research and development from the Office of the Chief Scientist of the State of Israel or OCS, and the Israel-United States Bi-national Industrial Research and Development Foundation, or BIRD, of approximately $2.0 million and $0.6 million, respectively, for the development of KRYSTEXXA. These grants plus interest are subject to repayment through royalties on the commercial sale of KRYSTEXXA. The OCS grants were received by our former subsidiary, BTG, and upon the divestiture of BTG to Ferring, we agreed to remain obligated to reimburse BTG for its repayments to OCS that relate to the KRYSTEXXA financial grants. In addition, under the Israeli Law of Encouragement of Research and Development in Industry, as amended, as a result of the funding received from OCS, if we do not manufacture 100% of our annual worldwide bulk product requirements in Israel, we may be subject to total payments, based upon the percentage of manufacturing that does not occur in Israel. As of December 31, 2012, our $0.6 million obligation to BIRD has been met and therefore, we will not be required to make any future royalty payments to BIRD.

Oxandrin

Gedeon Richter Ltd.

In February 1999, we entered into a supply agreement for oxandrolone bulk API with Gedeon Richter Ltd., or GRL, pursuant to which GRL served as our exclusive manufacturer and distributor of oxandrolone bulk API in the United States. Under the agreement, we were required to make specified minimum purchases. In April 2007, in response to the introduction of generic forms of oxandrolone tablets by competitors, we and GRL mutually agreed to amend the supply agreement. Under the terms of the amended agreement, we and GRL jointly agreed to eliminate our future purchase commitment obligations and the provisions for supply exclusivity, and we purchased GRL’s remaining inventory of oxandrolone bulk API. The initial term of the amended agreement expired in December 2010 and automatically renewed for a successive one-year period. The Agreement will continue to renew for successive one-year periods until such time as we or GRL terminate the agreement with advance notice of one-year.

DSM Pharmaceuticals, Inc.

In December 2002, we entered into a supply agreement with DSM Pharmaceuticals, Inc., or DSM, for the manufacture of 2.5 mg and 10 mg Oxandrin and our authorized generic oxandrolone tablets. Under the agreement, which was amended in April 2007, we are obligated to supply DSM with sufficient quantities of oxandrolone bulk API, which we acquire from GRL, for DSM’s production of the Oxandrin and authorized generic oxandrolone tablets. We are obligated to submit a rolling forecast to DSM on a monthly basis setting forth the total quantity of Oxandrin and authorized generic oxandrolone tablets that we expect to require in the following 18 months. The first six months of each forecast represent a rolling firm irrevocable order. Our agreement with DSM expired in December 2010.

 

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At this time, we do not intend to seek an alternative manufacturer for Oxandrin and authorized generic oxandrolone tablets. DSM has manufactured sufficient quantities of Oxandrin and authorized generic oxandrolone during 2010 prior to the termination of the supply agreement to adequately supply the products to our customers until the third quarter of 2015 and second quarter of 2013, respectively.

Oxandrolone

Actavis, Inc.

In June 2006, we entered into a supply and distribution agreement with Actavis, formerly Watson Pharmaceuticals, Inc., pursuant to which Actavis serves as the exclusive United States distributor of our authorized generic version of oxandrolone, an Oxandrin-brand equivalent product that we supply to Actavis. Under the agreement, we began providing oxandrolone to Actavis for United States distribution in December 2006. We receive a significant portion of the gross margin earned by Watson on the sale of the product.

The agreement has an initial term ending in June 2016, and either we or Watson may terminate the agreement upon one year’s advance notice. Additionally, either we or Actavis may terminate the agreement at any time in the event of insolvency or uncured material breach by the other party.

Sales and Distribution

We sell our products to three drug wholesaler customers and various specialty distributors. See Note 15 to our consolidated financial statements for the percentage of gross sales and the approximate percentage of aggregate accounts receivable for these wholesalers and specialty distributors for each of the years ended December 31, 2012, 2011 and 2010.

Research and Development

Our research and development includes costs associated with the research and development of our KRYSTEXXA product prior to FDA approval and FDA-related post-marketing commitments for approved products (KRYSTEXXA post-approval). These costs primarily include pre-clinical and clinical studies and trials, personnel costs including compensation, consultants and contract research organizations, or CROs, quality control and assurance costs, regulatory costs and costs related to the development of commercial scale manufacturing capabilities for KRYSTEXXA, which also includes the costs of preparing Fujifilm to serve as our secondary source supplier of pegloticase drug substance for KRYSTEXXA in the United States. In addition, costs within the Medical Affairs function, such as investigator grants that could potentially expand the clinical utility of KRYSTEXXA, are recorded as research and development. We also include the legal costs associated with patents for products (KRYSTEXXA) that have not yet been approved in countries outside the United Sates as research and development. Research and development costs are expensed as incurred.

Prior to FDA approval of KRYSTEXXA, manufacturing costs associated with third-party contractors for validation and commercial batch production, process technology transfer, quality control and stability testing, raw material purchases, overhead expenses and facilities costs were recorded as research and development and expensed as incurred as future use could not be determined, and there was uncertainty surrounding FDA approval of KRYSTEXXA for marketing in the United States. Following regulatory approval of KRYSTEXXA by the FDA, we capitalize certain manufacturing costs as inventory in cases where the manufacturing costs meet the definition of an inventoriable asset.

Clinical trial costs have been another significant component of research and development expenses and most of our clinical studies are performed by third-party CROs. We accrue costs for clinical studies performed by CROs that are milestone or event driven in nature and based on reports and invoices submitted by the CRO. These expenses are based on patient enrollment as well as costs consisting primarily of payments made to the CRO, clinical sites, investigators, testing facilities and patients for participating in our clinical trials.

 

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Governmental Regulation

Regulatory Compliance

Regulation by United States and foreign governmental authorities is a significant factor affecting our ability to commercialize KRYSTEXXA, as well as the timing of such commercialization and our ongoing research and development activities. The commercialization of KRYSTEXXA requires regulatory approval by governmental agencies prior to commercialization. Various laws and regulations govern or influence the research and development, non-clinical and clinical testing, manufacturing, processing, packing, validation, safety, labeling, storage, record keeping, registration, listing, distribution, advertising, sale, marketing, and post-marketing commitments of our products. The lengthy process of seeking these approvals, and the subsequent compliance with applicable laws and regulations, require expending substantial resources. Any failure to obtain or maintain, or any delay in obtaining or maintaining, regulatory approvals could materially adversely affect our business.

Pharmaceutical products such as KRYSTEXXA may not be commercially marketed without prior approval from the FDA and comparable regulatory agencies in other countries. In the United States, the process for obtaining FDA approval for products like KRYSTEXXA typically includes pre-clinical studies, the filing of an Investigational New Drug application, or IND, human clinical trials and filing and approval of either a New Drug Application, or NDA, for chemical pharmaceutical products, or a BLA for biological pharmaceutical products. KRYSTEXXA was reviewed by FDA under the BLA requirements. The results of pre-clinical testing, which include laboratory evaluation of product chemistry and formulation, animal studies to assess the potential safety and efficacy of the product and its formulations, details concerning the drug manufacturing process and its controls, and a proposed clinical trial protocol and other information must be submitted to the FDA as part of an IND that must be reviewed and become effective before clinical testing can begin. The study protocol and informed consent information for patients in clinical trials must also be submitted to an independent Institutional Review Board, or IRB, for approval covering each institution at which the clinical trial will be conducted. Once a sponsor submits an IND, the sponsor must wait 30 calendar days before initiating any clinical trials. If the FDA has comments or questions within this 30-day period, the issue(s) must be resolved to the satisfaction of the FDA before clinical trials can begin. In addition, the FDA, an IRB or Savient may impose a clinical hold on ongoing clinical trials due to safety concerns. If the FDA imposes a clinical hold, clinical trials can only proceed under terms authorized by the FDA. Our non-clinical and clinical studies must conform to the FDA’s Good Laboratory Practice, or GLP, and Good Clinical Practice, or GCP, requirements, respectively, which are designed to ensure the quality and integrity of submitted data and protect the rights and well-being of study patients. Information for certain clinical trials also must be publicly disclosed within certain time limits on the clinical trial registry and results databank maintained by the National Institutes of Health, or NIH.

Typically, clinical testing involves a three-phase process; however, the phases may overlap or be combined:

 

   

Phase 1 clinical trials typically are conducted in a small number of volunteers or patients to assess the early tolerability and safety profile, and the pattern of drug absorption, distribution and metabolism,

 

   

Phase 2 clinical trials typically are conducted in a limited patient population with a specific disease in order to assess appropriate dosages and dose regimens, expand evidence of the safety profile and evaluate preliminary efficacy, and

 

   

Phase 3 clinical trials typically are larger scale, multicenter, well-controlled trials conducted on patients with a specific disease to generate enough data to statistically evaluate the efficacy and safety of the product establish the overall benefit-risk relationship of the drug and to provide adequate information for the registration of the drug.

The results of the pre-clinical and clinical testing, chemistry, manufacturing and control information proposed labeling and other information are then submitted to the FDA in the form of either an NDA or BLA for review and potential approval to commence commercial sales. In responding to an NDA or BLA, the FDA may grant marketing approval, request additional information in a Complete Response Letter, or CRL, or deny the approval if it determines that the NDA or BLA does not provide an adequate basis for approval. A CRL generally

 

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contains a statement of specific conditions that must be met in order to secure final approval of an NDA or BLA and may require additional testing. If and when those conditions have been met to the FDA’s satisfaction, the FDA will typically issue an approval letter, which authorizes commercial marketing of the product with specific prescribing information for specific indications, and sometimes with specified post-marketing commitments and/or distribution and use restrictions imposed under a REMS program. Any approval required from the FDA might not be obtained on a timely basis, if at all. KRYSTEXXA was approved for marketing by the FDA on September 14, 2010 with a REMS and other post approval commitment, and became commercially available in the United States by prescription on December 1, 2010, when we commenced sales and shipments to our network of specialty and wholesale distributors.

Among the conditions for an NDA or BLA approval is the requirement that the manufacturing operations conform on an ongoing basis with current Good Manufacturing Practice, or cGMP. In complying with cGMP, we must expend time, money and effort in the areas of training, production and quality control within our own organization and at our contract manufacturing facilities. A successful inspection of the manufacturing facility by the FDA is usually a prerequisite for final approval of a biological product like KRYSTEXXA. Following approval of the NDA or BLA, we and our third-party manufacturers remain subject to periodic inspections by the FDA to assess compliance with cGMP requirements and the conditions of approval. We also face similar inspections coordinated by the European Medicines Agency, or EMA and from other foreign regulatory authorities. Any determination by the FDA or other regulatory authorities of manufacturing or other deficiencies could materially adversely affect our business.

Orphan Drug Designation

Under the Orphan Drug Act, the FDA may grant orphan drug designation to drugs intended to treat a “rare disease or condition,” which generally is a disease or condition that affects fewer than 200,000 individuals in the United States. Orphan drug designation must be requested before submitting a BLA or supplemental BLA. After the FDA grants orphan drug designation, the generic identity of the therapeutic agent and its potential orphan use are publicly disclosed by the FDA. Orphan drug designation does not convey any advantage in, or shorten the duration of, the regulatory review and approval process. If a product which has an orphan drug designation subsequently receives the first FDA approval for the indication for which it has such designation, the product is entitled to an orphan exclusivity period, in which the FDA may not approve any other applications to market the same drug for the same indication for seven years, except in limited circumstances.

Regulatory requirements and approval processes in EU member countries are similar in principle to those in the United States and can be at least as costly and uncertain. The EU has established a unified centralized filing and approval system administered by CHMP designed to reduce the administrative burden of processing applications for pharmaceutical products derived from new technologies. In addition to obtaining regulatory approval of products, it is generally necessary to obtain regulatory approval of the facility in which the product will be manufactured.

We use and plan to continue to use third-party manufacturers to produce our products in clinical and commercial quantities. Future Health Authority, or HA, inspections may identify compliance issues at the facilities of our contract manufacturers that may disrupt production or distribution, or require substantial resources to correct. In addition, discovery of problems with a product, including new safety risks, or the failure to comply with requirements may result in restrictions on a product, manufacturer or holder of an approved NDA, BLA or other HA application, including withdrawal or recall of the product from the market or other voluntary or HA-initiated action that could delay further marketing. Newly discovered or developed safety or efficacy data may require changes to a product’s approved labeling, including the addition of new warnings and contraindications, the imposition of additional mandatory post-market studies or clinical trials, or the imposition of or revisions to a REMS program, including distribution and/or use restrictions. Also, new government requirements may be established that could affect the regulatory approval of KRYSTEXXA.

 

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Once an NDA, BLA or other HA application is approved, a product will be subject to certain post-approval requirements, including requirements for adverse event reporting and submission of periodic reports to the FDA, recordkeeping, product sampling and distribution, and, as discussed above, may be subject to mandatory post-market study and REMS requirements. In addition, the FDA strictly regulates the promotional claims that may be made about prescription drug products and biologics. In particular, a drug or biologic may not be promoted for uses that are not approved by the FDA and EMA as reflected in the product’s approved labeling. The FDA and other agencies actively enforce the laws and regulations prohibiting the promotion of off-label uses, and a company that is found to have improperly promoted off-label uses may be subject to significant liability. The FDA also requires substantiation of any claims of superiority of one product over another, including the requirement that such claims be proven by adequate and well-controlled head-to-head clinical trials. The FDA also requires all promotional materials that discuss the use or effectiveness of a prescription drug or biologic to disclose in a balanced manner the risks and safety profile of the product.

In addition, the distribution of prescription pharmaceutical products in the United States is subject to the Prescription Drug Marketing Act, or PDMA, which regulates the distribution and recordkeeping requirements for drugs and drug samples at the federal level, and sets minimum standards for the registration and regulation of drug distributors by the states. Both the PDMA and state laws limit the distribution of prescription pharmaceutical product samples and impose requirements to ensure accountability in distribution.

We are also subject to various federal and state laws pertaining to health care “fraud and abuse” issues, including anti-kickback laws and false claims laws. Anti-kickback laws make it illegal for a prescription drug manufacturer to solicit, offer, receive, or pay any remuneration in exchange for, or to induce, the referral of business, including the purchase or prescribing of a particular drug. False claims laws prohibit anyone from knowingly and willfully presenting, or causing to be presented for payment to the United States government, including Medicare and Medicaid, claims for reimbursed drugs or services that are false or fraudulent, claims for items or services not provided as claimed, or claims for medically unnecessary items or services. We have adopted the Pharmaceutical Research and Manufacturers of America Code on Interactions with Healthcare Professionals, which is a voluntary industry code developed to establish standards for interactions with and communications to healthcare professionals and we have adopted processes that we believe enhance compliance with this code and applicable federal and state laws.

We are also subject to various laws and regulations relating to safe working conditions, clinical, laboratory and manufacturing practices, the experimental use of animals and the use and disposal of hazardous or potentially hazardous substances, including radioactive compounds and infectious disease agents, used in connection with our research and development activities.

On September 14, 2010, the FDA approved KRYSTEXXA for marketing for the treatment of chronic gout in adult patients refractory to conventional therapy. We also received acceptance by the EMA of the trade name KRYSTEXXA for the EU.

In support of our efforts to obtain regulatory approval for KRYSTEXXA outside of the United States, in May 2011 we submitted an MAA for the approval of KRYSTEXXA for the treatment of RCG in adult patients to the EMA for centralized review in the EU. Also in May 2011, we received validation of the MAA, which resulted in the initiation of the EMA’s regulatory review process. We received EU marketing approval for KRYSTEXXA in January 2013 from the European Commission as a treatment for severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated.

Reimbursement and Pricing Controls

In many markets today, including the United States as well as other markets in which we or any potential collaborator would commercialize KRYSTEXXA if we obtain marketing approval to do so, the prices of

 

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pharmaceuticals are constantly being subjected to direct and indirect price controls by a multitude of laws and reimbursement programs with varying price control mechanisms. In addition, where pricing of a pharmaceutical product varies from jurisdiction to jurisdiction, parallel importing in which product sold at a lower price in one jurisdiction may be legally or illegally imported into higher priced jurisdictions may undercut pricing in that higher priced jurisdiction.

As of January 16, 2013, the current price for KRYSTEXXA is set at $3,850 per 8 mg vial. Accordingly, private and public payors are determining their interest in providing access to KRYSTEXXA. They are also determining what requirements or hurdles, such as prior authorization, to put in place for patients to qualify for therapy and ultimately what level of reimbursement they will provide, as well as the level of contribution required from the patient. These access decisions are closely linked to the price of KRYSTEXXA and our ability to demonstrate clinical and economic benefits for a payor’s covered populations.

Given that KRYSTEXXA is an orphan drug targeting a relatively small patient population without alternative approved therapies, we expect that KRYSTEXXA will be reimbursed by most major plans. However, we anticipate usage to be restricted to approved labeling or any relevant published treatment guidelines. In the United States, we expect limitations to be imposed through prior authorization and possibly through step therapy, by which patients would be required to fail both allopurinol and febuxostat before KRYSTEXXA would be reimbursed. We expect KRYSTEXXA to be covered mainly as a medical benefit as it will be administered by healthcare professionals in medical specialist offices, hospital infusion suites and independent infusion centers.

In the EU, governments influence the price of pharmaceutical products through their pricing and reimbursement rules and control of national health care systems that fund a large part of the cost of those products to consumers. Some jurisdictions operate positive and negative list systems under which products may only be marketed once a reimbursement price has been agreed. Other member states allow companies to fix their own prices for medicines, but monitor and control company profits. The downward pressure on health care costs, particularly prescription drugs, has become very intense. As a result, increasingly high barriers are being erected to the entry of new products.

Patents and Proprietary Rights

Our scientific staff, contract manufacturing partners and consultants continually work to develop proprietary techniques, processes and products. We protect our intellectual property rights in this work by a variety of means, including assignments of inventions from our scientific staff, contract manufacturing partners and consultants, and filing patent and trademark applications in the United States, Europe and other major industrialized countries. We also rely upon trade secrets and improvements, unpatented proprietary know-how and continuing technological innovation to develop and maintain our competitive position.

As of March 7, 2013, we owned or have exclusively licensed to us, 14 issued U.S. patents, 11 pending U.S. patent applications, 154 issued foreign patents and 109 pending foreign patent applications in a number of jurisdictions in support of KRYSTEXXA. However, our patent applications might not result in issued patents and issued patents might be circumvented or invalidated. The expiration or loss of patent protection resulting from legal challenge normally results in significant competition from generic products against the originally patented product and can result in significant reduction in sales of that product in a very short time. For example, generic competition for Oxandrin began in December 2006 and the introduction of generic products has caused a significant decrease in our Oxandrin revenues, which has had an adverse effect on our financial results and cash flow. We believe that important legal issues remain to be resolved as to the extent and scope of patent protection, and we expect that in certain cases litigation may be necessary to determine the validity and scope of our and others proprietary rights. Such litigation may consume substantial amounts of our resources.

We are aware of patents and patent applications issued to and filed by other companies with respect to technology that is potentially useful to us and, in some cases, related to products and processes being developed by us. We cannot currently assess the effect, if any, that these patents may have on our operations.

 

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In the aggregate, our patents, patent applications and related rights are of material importance to our business. We have exclusively licensed from MVP and Duke, issued patents and pending patent applications directed to PEGylated urate oxidase in numerous countries worldwide, including the United States, all of the countries included in Europe, China and Japan, as well as methods for making and using PEGylated urate oxidase. We have also jointly filed United States patent applications with Duke directed to administration of PEGylated urate oxidase. In addition, we are the sole owner of several pending patent applications directed to urate oxidase filed in numerous countries worldwide, including the United States, all of the countries included in Europe, China and Japan. Our licensed, co-owned and solely-owned issued patents and pending patent applications relating to PEGylated urate oxidase, if issued, would expire between 2019 and 2026, not including any possible patent term extensions that may be available as a result of FDA approval on September 14, 2010 of KRYSTEXXA for marketing in the United States.

Trademarks

We currently own U.S. and several foreign registrations or applications for trademarks for Savient, KRYSTEXXA, Oxandrin and URIXIV, which are used or proposed for use in connection with pharmaceutical products containing the drugs oxandrolone and PEG-uricase. All of these trademarks are covered by registrations or pending applications for registration in the U.S. Patent and Trademark Office and in the patent and trademark offices of many other countries. The U.S. registrations for issued trademarks will be valid and will not expire for so long as we continue to use and properly maintain the registrations, for example, by obtaining renewals at the appropriate times and paying appropriate fees, and provided they are not otherwise successfully challenged.

Competition

In general, the pharmaceutical and biotechnology industries are intensely competitive. The technological areas in which we work continue to evolve at a rapid pace. Competition from pharmaceutical, chemical and biotechnology companies, universities and research institutions is intense and we expect it to increase. Many of these competitors are substantially larger than we are and have substantially greater capital resources, research and development capabilities and experience, manufacturing, marketing, financial and managerial resources than we do. Acquisitions of competing companies by large pharmaceutical companies or other companies could enhance the financial, marketing and other resources available to these competitors.

An important factor in our ability to compete will be the timing of market introduction of competitive products. Accordingly, the relative speed with which we and competing companies can develop products, complete the clinical testing and approval processes, and supply commercial quantities of the products to the market will be an important element of market success. Other significant competitive factors include:

 

   

product safety and efficacy,

 

   

timing and scope of regulatory approval,

 

   

product availability,

 

   

marketing and sales capabilities,

 

   

reimbursement coverage from insurance companies and others,

 

   

the extent of clinical benefits and side effects of our products relative to their cost,

 

   

the method of administering a product,

 

   

price,

 

   

patent protection, and

 

   

capabilities of partners with whom we may collaborate.

 

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On September 14, 2010, we received FDA approval for marketing of KRYSTEXXA in the United States as a treatment for chronic gout in adult patients refractory to conventional therapy. On January 7, 2013, our wholly owned subsidiary, Savient Pharma Ireland Limited was granted a marketing authorization from the European Commission for KRYSTEXXA to be marketed in the European Union, or EU. KRYSTEXXA was approved in the EU for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. There is no other drug or biologic approved for this patient population in either the U.S. or the EU. Currently, by far the most prevalent conventional treatment for patients with gout is allopurinol, which can lower uric acid levels by inhibiting uric acid formation. Additionally, a small number of gout patients are treated with probenecid, which can lower uric acid levels by increasing excretion of uric acid. Febuxostat is another treatment for gout that received FDA approval in February 2009 and was launched in the United States market in March 2009 under the trade name Uloric®. Febuxostat can lower uric acid levels by inhibiting uric acid formation through the same mechanism of action as allopurinol. Although febuxostat at the 80 mg dose has demonstrated superior uric acid control as compared to the most commonly used dose of allopurinol in randomized head-to-head clinical trials, febuxostat has not demonstrated superior clinical benefits in comparison to allopurinol. If febuxostat is able to adequately treat some gout patients who are unable to be adequately treated by allopurinol, it will reduce the population of patients with chronic gout that is refractory to conventional therapy and therefore our target market. Febuxostat was developed by Teijin Pharma Limited in Japan and licensed to Takeda Pharmaceuticals North America, Inc. in the United States and to Ipsen Pharmaceuticals, or Ipsen, in Europe. In October 2009, Ipsen subsequently granted exclusive license rights in 41 countries to the Menarini Group.

In addition to the drugs which are currently on the market that treat patients with gout, there are companies who are developing new medications for the gout market. Ardea Biosciences, who was recently purchased by AstraZeneca PLC., is currently developing RDEA594 for the treatment of hyperuricemia and gout. This product candidate generated positive results from a Phase 2a study showing normalization of serum uric acid in gout patients previously classified as under-excretors. As this product is still in mid-stage development, it is uncertain if this drug candidate will be approved for marketing by the FDA alone, or in combination with other products, in the future.

Legislation has been introduced in the U.S. Congress that, if enacted or implemented, would permit more widespread reimportation of drugs and biologics from foreign countries into the United States. This may include reimportation from foreign countries where the drugs are sold at lower prices than in the United States. Such legislation, or similar regulatory changes, if enacted, could be an additional competitive factor for any approved products that we market. Moreover, in 2010, the Patient Protection and Affordable Care Act, or the PPACA, was enacted that, among other things, permits the FDA to approve biosimilar or interchangeable versions of biological products like KRYSTEXXA through an abbreviated approval pathway following periods of data and marketing exclusivity. The approval of such versions could result in the earlier entry of similar, competing, and less costly products by our foreign and domestic competitors, including products that may be interchangeable with our own approved biological products. In the United States, Oxandrin and our authorized generic version of oxandrolone compete against several other anabolic agents and appetite stimulants. Each of these competing products has different strategies and resources allocated to its promotion as compared to Oxandrin and oxandrolone. In addition, Oxandrin faces competition from oxandrolone generics, including our authorized generic version of oxandrolone. Generic competition for Oxandrin began in December 2006. Our generic competitors are Sandoz Pharmaceuticals, Upsher-Smith Laboratories, Par Pharmaceuticals and Roxane Laboratories.

 

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Working Capital

The following is a discussion of our working capital:

 

     2012      2011      Increase
(Decrease)
 
     (In thousands)  

Cash, cash equivalents and short-term investments

   $ 96,281       $ 169,788       $ (73,507 )

Working capital(1)

   $ 77,698       $ 159,570       $ (81,872 )

 

(1) Our working capital includes cash, cash equivalents and short-term investments, accounts receivable, net of allowances, inventory and other current assets, less accounts payable, accrued expenses, and other current liabilities.

The decrease in working capital of $81.9 million from December 31, 2011 to December 31, 2012 was mainly due to cash used to fund operations as we continue to commercialize KRYSTEXXA.

Our Employees

As of March 18, 2013, we had 122 employees. There are 30 employees engaged in research and development activities including clinical, regulatory, quality assurance and control, and manufacturing or production activities; 35 employees are engaged in general and administrative activities including executive, finance, legal, human resources, investor relations, information technology, and operations; and 57 employees are engaged in sales and marketing activities including commercial operations, sales operations and marketing.

Our Corporate Information

We were incorporated as Bio-Technology General Corp. under the laws of Delaware in 1980 and changed our name to Savient Pharmaceuticals, Inc. in June 2003. Our principal executive offices are located at 400 Crossing Boulevard, Third Floor, Bridgewater, New Jersey, 08807 and our telephone number is (732) 418-9300.

Available Information

We file annual, quarterly, current reports, proxy statements and other documents with the Securities and Exchange Commission, or SEC, under the Securities Exchange Act of 1934, as amended, or the Exchange Act. The SEC maintains an Internet web site that contains reports, proxy and information statements, and other information regarding issuers, including us, that file electronically with the SEC. The public can obtain any documents that we file with the SEC at http://www.sec.gov.

Our Internet website is http://www.savient.com. We make available free of charge through our website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Sections 13(a) and 15(d) of the Exchange Act. We have made these reports available through our website as soon as reasonably practicable after these forms are filed with, or furnished to, the SEC.

Our corporate governance guidelines, code of ethics and whistleblower policy, and the charters of our Audit and Finance Committee, Compensation and Human Resources Committee and Nominating and Corporate Governance Committee are each available on the corporate governance section of our website. Stockholders may request a free copy of any of these documents by writing to Investor Relations, Savient Pharmaceuticals, Inc. 400 Crossing Boulevard, Third Floor, Bridgewater, New Jersey, 08807.

The information on our Internet website is not part of or incorporated by reference into this Annual Report on Form 10-K.

 

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OUR EXECUTIVE OFFICERS

Our current executive officers are as follows:

 

Name

   Age   

Positions

Louis Ferrari    60    Chief Executive Officer and President
Richard Crowley    56    Executive Vice President and Chief Operating Officer
Dr. Kenneth M. Bahrt    60    Senior Vice President and Chief Medical Officer
John P. Hamill    48    Senior Vice President, Chief Financial Officer and Treasurer
Philip K. Yachmetz    56    Senior Vice President, General Counsel and Secretary
David Veitch    48    President Savient Pharma Ireland Limited

Louis Ferrari was appointed as our Executive Vice President, President North American Commercial Operations on February 1, 2012, having previously served as our Senior Vice President, North America Commercial since February 2011. Mr. Ferrari previously served as Vice President of Oncology and Nephrology, Sales and Marketing at Centocor Ortho Biotech. Prior to that, he served as Vice President of Clinical Affairs and Executive Director of Clinical Affairs at Centocor Ortho Biotech. Mr. Ferrari has also held positions at Johnson and Johnson, Oxford GlycoSciences, Ortho-McNeil Pharmaceutical and Eli Lilly. Mr. Ferrari earned his Bachelor of Science in Pharmacy from the Brooklyn College of Pharmacy and a Masters of Business Administration from Adelphi University.

Richard Crowley, was appointed as our Executive Vice President and Chief Operating Officer on April 1, 2013. Prior to this appointment Mr. Crowley served as our Executive Vice President of Biopharmaceutical Operations, since April of 2011. Mr. Crowley leads the overall management of the Company’s manufacturing, regulatory, quality, and project management teams. From 2006 to 2011, Mr. Crowley served as Senior Vice President of Biopharmaceutical Operations at ImClone Systems, a wholly-owned subsidiary of Eli Lilly and Company where he was responsible for clinical and commercial manufacturing, supply chain logistics, process and analytical development, engineering and facility management and project management. From 2000 to 2006, Mr. Crowley served as Vice President of Manufacturing and General Manager at ImClone Systems. Mr. Crowley has also held positions at BASF Bioresearch Corporation, Genencor International, Eastman Kodak Company and Monsanto Company.

Dr. Kenneth M. Bahrt was appointed as our Senior Vice President and Chief Medical Officer on July 31, 2011. Dr. Bahrt leads the overall management of Savient’s clinical development, drug safety and medical affairs teams. From 2009 to 2011, Dr. Bahrt served as Therapeutic Area Head for US Medical Affairs (Immunology) at Genentech, a wholly owned subsidiary of F. Hoffmann-LaRoche, Inc. From 2007 to 2009, he served as Global Medical Director (Inflammation and Immunology) for F. Hoffmann—La Roche, Inc, a pharmaceutical and diagnostics company. Additionally, from 2004 to 2007, Dr. Bahrt worked in leadership positions of increasing breadth and responsibility at Bristol Meyers Squibb Co., a global biopharmaceutical company, where he was the Executive Director of Global Medical Affairs (Immunology). Prior to that, from 2000-2004, he worked at Pfizer, a biopharmaceutical company, where he served as Medical Director and Team Leader for rheumatology portfolio products. From 1999 to 2000, Dr. Bahrt was employed at Daiichi Pharmaceuticals, Inc. as Director of Clinical Development. Prior to joining the pharmaceutical industry, Dr. Bahrt had a rheumatology practice for 15 years. Dr. Bahrt is a board certified rheumatologist.

John P. Hamill was appointed as our Senior Vice President, Chief Financial Officer & Treasurer and principal financial officer on September 24, 2012. Mr. Hamill served as the Chief Financial Officer of PharmaNet Development Group, a global drug development services company, and its wholly owned subsidiary, PharmaNet, Inc., from 2004 through August 2009, and has held positions of increasing responsibility within PharmaNet since 2001. Prior to joining PharmaNet, Mr. Hamill held senior financial management positions of increasing responsibility and breadth at Omnicare Clinical Research, and financial management positions at Rhone-Poulenc, Freedom Chemical Company, International Paper and Johnson & Johnson.

 

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Philip K. Yachmetz has been our Senior Vice President, General Counsel and Secretary since November 2008, having previously served as our Executive Vice President and Chief Business Officer from February 2006 through November 2008 and as our Senior Vice President—Corporate Strategy, General Counsel and Secretary from May 2004 until February 2006. From 2000 until 2004, Mr. Yachmetz was Vice President, General Counsel and Secretary of Progenics Pharmaceuticals. From 1998 to 2000, he was Senior Vice President, Business Development, General Counsel and Secretary at CytoTherapeutics (now StemCells), a stem cell therapeutics discovery company. Mr. Yachmetz founded and served from 1997 to 1998 as Managing Director of Millennium Venture Management, a business consulting and advisory firm to the pharmaceutical, healthcare and high technology industries. From 1989 to 1996, he held legal positions of increasing responsibility at Hoffmann-La Roche, a pharmaceutical company. Mr. Yachmetz is an attorney admitted to the bar in New Jersey and New York.

David Veitch, was appointed as our President of our subsidiary, Savient Pharma Ireland Limited in January 2012. Mr. Veitch is responsible for establishing, building and leading the Company’s European regional organization to commercially launch and drive the future growth of KRYSTEXXA. Prior to joining Savient, Mr. Veitch had over 24 years of pharmaceutical industry experience at Bristol-Myers Squibb and SmithKline Beecham Pharmaceuticals, and has extensive knowledge across many therapy areas including: oncology, virology, CV-Metabolism, CNS and Immunology. Most recently, he served as Senior Vice President of European Marketing & Brand Commercialization at Bristol-Myers Squibb, where he was responsible for leading the brand commercial organization for Europe across all disease areas and generating sales of $4 to $5 billion. Prior to that, Mr. Veitch spent ten years serving in a number of leadership positions at Bristol-Myers Squibb. Before his time at Bristol, Mr. Veitch spent ten years in a variety of managerial roles at SmithKline Beecham Pharmaceuticals. He received his Bachelor of Science degree from Bristol University in Bristol, England.

 

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ITEM 1A. RISK FACTORS

Risks relating to the commercialization and further development of KRYSTEXXA® and our ability to accomplish our future business objectives

Our business focuses primarily on the commercialization of KRYSTEXXA in the United States. Commercializing KRYSTEXXA in the United States is complex and requires substantial capital resources. If our U.S. commercialization strategy is unsuccessful, market acceptance of KRYSTEXXA may be harmed, and we will not achieve the revenues that we anticipate and may need additional funding.

Our business focuses primarily on the commercialization of KRYSTEXXA in the United States. We do not have any material assets other than KRYSTEXXA. As a result of our reliance on this single product and our primary focus on the U.S. market in the near-term, much of our near-term results and value as a company depend on our ability to execute our commercial strategy for KRYSTEXXA in the United States. The successful execution of our commercial strategy continues to be a complex and ongoing process and requires substantial capital resources. We have no prior experience commercializing a biologic drug product. If we are not successful in executing our commercialization strategy, market acceptance of KRYSTEXXA may be harmed, we will not achieve the revenues that we anticipate and we may need additional funding.

We do not plan to commercially launch KRYSTEXXA on our own in Europe or other markets and are instead exploring partnership opportunities in those regions. However, we may be unsuccessful in identifying such partnerships on favorable terms or consummating such partnerships. If we are not successful in these efforts, we may fail to meet our business objectives.

On January 7, 2013, the European Commission approved the marketing authorization for KRYSTEXXA as a treatment for severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. We do not plan to launch KRYSTEXXA on our own in Europe or other markets and are instead exploring partnership opportunities in those regions for the development and commercialization of KRYSTEXXA outside the United States. We face significant competition in seeking appropriate partners. In addition, such arrangements may not be scientifically or commercially successful or we may not be able to enter into such partnerships on favorable terms. If we are unable to reach agreement with a development and commercialization partner on favorable terms, or if such an arrangement is terminated, our ability to develop, commercialize and market KRYSTEXXA may be harmed and we may fail to meet our business objectives for KRYSTEXXA.

The success of any collaboration arrangement will depend heavily on the efforts and activities of our potential collaborators, who will have significant discretion in determining the efforts and resources that they will apply to such collaborations. The risks that we face in connection with potential collaborations include the following:

 

   

our collaborator may fail to gain adequate market acceptance for KRYSTEXXA among physicians, patients, health care payors and others in the medical community within their territory and fail to achieve the revenues we anticipate in those territories,

 

   

collaboration agreements are generally for fixed terms and subject to termination under various circumstances, including, in many cases, on short notice without cause,

 

   

we expect that any collaboration agreement will require that we not conduct specified types of research and development in the field that is the subject of the collaboration, which may have the effect of limiting the areas of research and development that we may pursue, either alone or in cooperation with third parties,

 

   

collaborators may develop and commercialize, either alone or with others, products and services that are similar to or competitive with our products that are the subject of the collaboration with us, and

 

   

collaborators may change the focus of their development and commercialization efforts.

 

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Pharmaceutical and biotechnology companies historically have re-evaluated their priorities following mergers and consolidations, which have been common in recent years in our industry. Should our potential collaborator be the subject of a merger or consolidation, the ability of KRYSTEXXA to reach its potential could be limited if our potential collaborator decreases or fails to increase spending related to any collaboration. Collaborations with pharmaceutical companies and other third parties often are terminated or allowed to expire by the other party. Such terminations or expirations can adversely affect us financially as well as harm our business reputation.

Further, entering into collaborative arrangements for the commercialization of KRYSTEXXA in the EU and other foreign jurisdictions may also be time consuming, and may not be on terms favorable to us, if we are successful in entering into such arrangements at all. The commercialization of KRYSTEXXA outside the United States would subject us to additional risks, including:

 

   

potentially reduced protection for intellectual property rights,

 

   

unexpected changes in tariffs, trade barriers and regulatory requirements,

 

   

economic weakness, including inflation, or political instability in particular foreign economies and markets,

 

   

compliance with tax, employment, immigration and labor laws for employees traveling abroad,

 

   

foreign taxes,

 

   

foreign currency fluctuations, which could result in increased operating expenses and reduced revenues, and other obligations incident to doing business in another country,

 

   

workforce uncertainty in countries where labor unrest is more common than in the United States, and

 

   

business interruptions resulting from geo-political actions, including war and terrorism, or natural disasters, including earthquakes, volcanoes, typhoons, floods, hurricanes and fires.

These and other risks may materially adversely affect our ability to attain or sustain profitable operations or collaborations in jurisdictions outside of the United States.

Our business also focuses on the clinical development and commercialization of KRYSTEXXA outside of the United States and the EU. If we fail to achieve regulatory approval for KRYSTEXXA in other jurisdictions outside of the United States and the EU, or if regulatory approval in those jurisdictions is delayed, we will not achieve the revenues that we anticipate.

We intend to market KRYSTEXXA outside the United States and the EU through the use of partners or collaborators. In order to market KRYSTEXXA in these other foreign jurisdictions, we or our partner must obtain separate regulatory approvals and comply with numerous and varying regulatory requirements. The procedures for obtaining foreign marketing approvals vary among countries and can involve additional clinical trials or other pre-filing requirements. The time required to obtain foreign regulatory approval may differ from that required to obtain U.S. Food and Drug Administration, or FDA, approval. The foreign regulatory approval process may include all the risks associated with obtaining FDA approval, or different or additional risks, and we may not obtain foreign regulatory approvals on a timely basis, if at all. Approval by the FDA and the EMA does not ensure approval by regulatory authorities in other countries, and approval by one foreign regulatory authority does not ensure approval by regulatory authorities in other foreign countries. We expect to pursue the commercialization of KRYSTEXXA outside the United States through development and commercialization collaborations, pursuant to which third parties may be responsible for obtaining such foreign regulatory approvals. We and our collaborators may not be able to file for regulatory approvals until after the completion of additional clinical studies and may not receive necessary approvals to commercialize KRYSTEXXA in any foreign market. If we fail to receive approval in these jurisdictions, or if such approvals are delayed, we will not generate revenue from sales of KRYSTEXXA in these jurisdictions and we will not achieve the revenues that we anticipate.

 

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If we are not successful in retaining our existing sales and marketing personnel and maintaining an appropriate sales and marketing infrastructure in the United States, our ability to commercialize KRYSTEXXA, generate product sales in the United States and fulfill our co-promotion obligations will be impaired.

Our efforts to establish and maintain an internal sales, marketing and commercialization infrastructure and capabilities directed toward our commercialization of KRYSTEXXA in the United States have been and will continue to be difficult, expensive and time consuming. We have also recently entered into a Co-Promotion Agreement with Swedish Orphan Biovitrum AB to co-promote their product Kineret® in the United States, pursuant to which we are obligated to perform an agreed upon sales call plan utilizing our sales representatives. We may not have accurately estimated the size or capabilities of the sales force necessary to successfully commercialize KRYSTEXXA in the U.S. and fulfill our obligations under the Kineret Co-Promotion Agreement. We may not be able to attract, hire, train and retain the qualified sales and marketing personnel necessary to achieve or maintain an effective sales and marketing force for the sale of KRYSTEXXA in the U.S., as well as fulfill our obligations under the Kineret Co-Promotion Agreement, or we may have underestimated the time and expense to achieve these objectives. Similarly, we may not be successful in establishing necessary commercial infrastructure and capabilities, including managed care, medical affairs and pharmacovigilance teams. If our internal sales, marketing, and commercialization infrastructure proves to be inadequate, our ability to market and sell KRYSTEXXA, generate revenue from sales to customers in the U.S. and fulfill our obligations under the Kineret Co-Promotion Agreement will be impaired and result in lower than expected revenues.

Our business and ability to repay our obligations may be harmed if we have inaccurately predicted the market size for KRYSTEXXA, if we fail to appropriately penetrate the market or if we do not price KRYSTEXXA at an appropriate level.

The market size for KRYSTEXXA is difficult to predict with accuracy. The KRYSTEXXA Market Study, completed in July 2011, indicated that there are approximately 120,000 RCG patients in the United States, or approximately 4.2% of the overall annual treated gout population in the United States. However, the actual number of adult patients with RCG in the United States market may be substantially lower than our estimate. Furthermore, not all of these patients may be engaged with the health care system and if engaged in the healthcare system, may not be seeking treatment with Rheumatologists which whom we currently concentrate most of our commercial efforts. Additionally, we believe we are presently only reaching a select portion of this overall market defined by our current approved labeling, as actual customer usage to date appears limited to the most severe RCG patients which we estimate as being between 20,000 and 40,000 patients in the United States. Ultimately, the total available market opportunity for KRYSTEXXA and our ability to penetrate that market will depend on, among other things our patient and physician education programs, our marketing and sales efforts, reimbursement environment, market acceptance by physicians, infusion site personnel, healthcare payors and others in the medical community, and referrals by various specialty physicians to administering clinicians. We are also engaged in market sizing studies for KRYSTEXXA with respect to the EU and the rest of the world.

The commercial success of KRYSTEXXA in the EU will, in particular, depend upon the pricing and reimbursement achieved and the number of patients placed on treatment. While the number of patients put on treatment will depend on many of the factors that also could affect the US market, namely; degree of market acceptance by RCG patients, physicians, infusion site personnel and others in the medical community. It is additionally in particular the payor acceptance that could adversely affect the market share and revenues.

There are many mechanisms in the EU at the National, Regional and Local levels that serve to present barriers to use of products. Our Market Size calculations by country and our ability to prove that KRYSTEXXA is an effective, safe and cost-effective treatment for the indicated treatment population carries the risk that not all countries and parts of countries agree with our assessment and therefore do not reimburse/fund it for the indicated patients. While the population of patients in the EU appears more restrictive than the US labeling we believe that it is in fact a similar patient population. We believe the majority of our potential patients are

 

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presently treated by the Rheumatologist in the hospital setting. To the extent that this assumption is wrong and that some of our potential patients are in fact treated by other hospital specialists and outside of the hospital setting, this may affect our ability to access these patients and thus reduce the forecast.

If we have overestimated the market size for KRYSTEXXA or fail to effectively penetrate the existing market, we could incur significant unrecoverable costs from creating excess manufacturing capacity or commercial sales and marketing capabilities and commercial infrastructure, and our revenues will be lower than expected, possibly materially so. Alternatively, if we underestimated the market size for KRYSTEXXA, we may not be able to manufacture sufficient quantities of KRYSTEXXA to enable us to realize full revenue potential from sales of KRYSTEXXA. Any of these results could materially harm our business.

Moreover, our revenues may be harmed if we do not appropriately price KRYSTEXXA in that revenues will be lower if the list price for KRYSTEXXA is too low and sales may be harmed if it is too high.

The commercial success of KRYSTEXXA will depend upon the degree of its market acceptance by RCG patients, physicians, infusion site personnel, healthcare payors and others in the medical community. If KRYSTEXXA does not achieve an adequate level of market acceptance, we may not generate sufficient revenues to achieve or maintain profitability.

Those patients who suffer from RCG comprise a patient population that has previously failed other treatments. However, KRYSTEXXA may not gain or maintain market acceptance by these RCG patients, or by physicians, infusion site personnel, healthcare payors or others in the medical community. Additionally, we believe that a significant number of potential patients for KRYSTEXXA may be treated by nephrologists and podiatrists whom we have recently begun to educate about KRYSTEXXA. While some of these specialists may directly initiate KRYSTEXXA therapy we believe that the majority of these specialists will refer RCG patients to Rheumatologists. Thus our efforts are directed towards facilitating referrals by these specialists of patients to rheumatologists or other infusion providers who will administer KRYSTEXXA. If we are unsuccessful in educating these specialists about KRYSTEXXA, or if they do not refer patients to sites of care, then market acceptance for KRYSTEXXA will be reduced. We could incur substantial and unanticipated additional expense in an effort to increase market acceptance, which would increase the cost of commercializing KRYSTEXXA and could limit its commercial success and result in lower than expected revenues. We believe the degree of market acceptance of KRYSTEXXA will depend on a number of factors, including:

 

   

its efficacy and potential advantages over other treatments,

 

   

the extent to which physicians are successful in treating patients with other products or treatments, such as allopurinol and Uloric® (febuxostat), which, because they are pills, offer greater convenience and ease of administration and are substantially less expensive compared to KRYSTEXXA,

 

   

whether patients remain on KRYSTEXXA or are able to be successfully managed with allopurinol or Uloric following treatment with KRYSTEXXA,

 

   

the extent to which physicians and patients experience similar or improved clinical results to that reported on the approved product labeling,

 

   

market acceptance of the per vial cost at which we sell KRYSTEXXA in the United States,

 

   

the extent to which sales of KRYSTEXXA are limited by concern among physicians and patients over the boxed warning on the approved product label for KRYSTEXXA warning of anaphylaxis and infusion reactions,

 

   

the prevalence and severity of other side effects that we have observed to date or that we may observe in the future,

 

   

the timing of the release of competitive products or treatments,

 

   

our marketing and sales resources, the quantity of our supplies of KRYSTEXXA and our ability to establish a distribution infrastructure for KRYSTEXXA in available markets,

 

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whether third-party and government payors cover or reimburse for KRYSTEXXA, and if so, to what extent and in what amount, and

 

   

the willingness of the target patient population to be referred by primary care physicians to rheumatologists, nephrologists or infusion centers.

If market acceptance of KRYSTEXXA is adversely affected by any of these or other factors, then sales of KRYSTEXXA may be reduced and our business will be materially harmed.

The FDA approved our BLA with a final label that prescribes safety limits and warnings, including a boxed warning, and we are required to implement post-approval commitments and a REMS program to minimize the potential risks of the treatment of KRYSTEXXA. Such additional obligations and commitments may increase the cost of commercializing KRYSTEXXA, limit the commercial success of KRYSTEXXA and result in lower than expected future earnings.

In clinical trials of KRYSTEXXA, anaphylaxis and infusion reactions in patients were reported to occur during and after administration of KRYSTEXXA. In the Phase 3 trial for KRYSTEXXA, anaphylactic reactions were reported in 6.5% of patients treated with KRYSTEXXA, compared to 0% with placebo, and infusion reactions were reported to occur in 26% of patients treated with KRYSTEXXA, compared to 5% of patients treated with placebo. Physicians may be reluctant to treat patients with KRYSTEXXA because of concern regarding the occurrence of these anaphylactic and infusion reactions. In addition, the approved United States full prescribing information, or labeling, for KRYSTEXXA contains safety information, including a prominent warning on the full prescription information, or package insert, referred to as a “black box warning,” regarding anaphylaxis and infusion reactions, as well as contraindications, warnings and precautions. The prevalence and severity of these adverse reactions and the related labeling for KRYSTEXXA may reduce the market for the product and increase the costs associated with the marketing, sale and use of the product.

We are also required to implement a REMS program to minimize the potential risks of KRYSTEXXA treatment. The current REMS program includes a Communication Plan to healthcare providers and an Assessment Plan to survey patients’ and providers’ understanding of the serious risks of KRYSTEXXA. The FDA may further revise the REMS program at any time, which could impose significant additional obligations and commitments on us in the future or may require post-approval clinical or non-clinical studies. The FDA is also requiring that we conduct an observational trial, which is currently underway, in 500 patients treated with KRYSTEXXA for one-year to further evaluate and identify if there are any other serious adverse events associated with the administration of KRYSTEXXA. In addition, the FDA is requiring us to conduct several post-approval non-clinical and CMC studies currently underway. Such additional obligations and commitments may increase the cost of commercializing KRYSTEXXA, limit the commercial success of KRYSTEXXA, result in revised safety labeling or REMS requirements and result in lower than expected future revenues.

Although a number of private managed care organizations and government payors have added medical benefits coverage for KRYSTEXXA, we are continuing to seek reimbursement arrangements with them and additional third-party payors. If we are unable to obtain adequate reimbursement from third-party payors, or acceptable prices, for KRYSTEXXA, our revenues and prospects for profitability will suffer.

Our future revenues and ability to become profitable will depend heavily upon the availability of adequate reimbursement for the use of KRYSTEXXA from government-funded and private third-party payors. Reimbursement by a third-party payor depends on a number of factors, including the third-party payor’s determination that use of a product is:

 

   

a covered benefit under its health plan,

 

   

safe, effective and medically necessary,

 

   

appropriate for the specific patient,

 

   

cost effective, and

 

   

neither experimental nor investigational.

 

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Obtaining reimbursement approval for KRYSTEXXA from each government-funded and private third-party payor is a time-consuming and costly process, which in some cases requires us to provide to the payor supporting scientific, clinical and cost-effectiveness data for KRYSTEXXA’s use. We may not be able to provide data sufficient to gain acceptance with respect to reimbursement.

For instance, if state-specific Medicaid programs do not provide adequate, or any, coverage and reimbursement for KRYSTEXXA, it may have a negative impact on our operations. Recently enacted legislation has increased the amount that pharmaceutical manufacturers are required to rebate to Medicaid and this may have a negative effect on our revenues. Specifically, the minimum rebate for single-source covered outpatient drugs in the Medicaid program was increased from 15.1% to 23.1% of average manufacturer price on January 1, 2010.

We were awarded a contract from the VA which covered KRYSTEXXA reimbursement for VA member patients as of April 1, 2011 at an approximate 24% discount to our original list selling price of $2,300 per 8 mg vial. On January 16, 2013, the list selling price of KRYSTEXXA was increased to $3,850 per 8 mg vial and VA member patients now receive an approximate 59% discount to our list price. We expect that this discount will remain the same or increase contingent on price actions that we may take in the future. If we are unable to negotiate smaller discounts to the list price for KRYSTEXXA with other third-party payors, our profitability will be materially and adversely affected.

Even when a third-party payor determines that a product is generally eligible for reimbursement, third-party payors may impose coverage limitations that preclude payment for some product uses that are approved by the FDA or similar authorities or impose patient co-insurance or co-pay amounts that may result in lower market acceptance, which would lower our revenues. Where third-party payors require substantial co-insurance or co-pay amounts, we subsidize these amounts for some economically disadvantaged patients, which reduces our profit margin on KRYSTEXXA for those patients. Some payors establish prior authorization programs and procedures requiring physicians to document several different parameters, which may impede patient access to therapy. Moreover, eligibility for coverage does not necessarily mean that KRYSTEXXA will be reimbursed in all cases or at a rate that allows us to sell KRYSTEXXA at a price adequate to make a profit or even cover our costs. If we are not able to obtain coverage and adequate reimbursement promptly from third-party payors for KRYSTEXXA, our ability to generate revenues and become profitable will be compromised.

The scope of coverage and payment policies varies among private third-party payors, including indemnity insurers, employer group health insurance programs and managed care plans. These third-party payors may base their coverage and reimbursement on the coverage and reimbursement rate paid by carriers for Medicare beneficiaries, which are traditionally at a substantially discounted rate. Furthermore, many such payors are investigating or implementing methods for reducing healthcare costs, such as the establishment of capitated or prospective payment systems. Cost containment pressures have led to an increased emphasis on the use of cost-effective products by healthcare providers. If third-party payors do not provide adequate coverage or reimbursement for KRYSTEXXA, it could have a negative effect on our revenues, results of operations and liquidity.

Current and future legislation may increase the difficulty and cost of commercializing KRYSTEXXA, affect the prices we may obtain and limit reimbursement amounts.

In the United States and some foreign jurisdictions, there have been a number of legislative and regulatory changes and proposed changes regarding the healthcare system that could restrict or regulate post-approval activities and affect our ability to profitably sell KRYSTEXXA.

The Medicare Modernization Act, or MMA, enacted in December 2003, has altered the way in which some physician-administered drugs and biologics, such as KRYSTEXXA, are reimbursed by Medicare Part B. Under this reimbursement methodology, physicians are reimbursed based on a product’s “average sales price.” This

 

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reimbursement methodology has generally led to lower reimbursement levels. This legislation also added an outpatient prescription drug benefit to Medicare, which went into effect in January 2006. These benefits are provided primarily through private entities, which we expect will attempt to negotiate price concessions from pharmaceutical manufacturers.

The Patient Protection and Affordable Care Act of 2010, or the PPACA, may have a significant impact on the healthcare system. As part of this legislative initiative, Congress enacted a number of provisions that are intended to reduce or limit the growth of healthcare costs, which could significantly change the market for pharmaceuticals and biological products. The provisions of the PPACA could, among other things, increase pressure on drug pricing or make it more costly for patients to gain access to prescription drugs like KRYSTEXXA at affordable prices. This could lead to fewer prescriptions for KRYSTEXXA and could force individuals who are prescribed KRYSTEXXA to pay significant out-of-pocket costs or pay for the prescription entirely by themselves. As a result of such initiatives, market acceptance and commercial success of our product may be limited and our business may be harmed.

While Medicaid coverage for KRYSTEXXA is available, if state-specific Medicaid programs do not provide adequate coverage and reimbursement, if any, for KRYSTEXXA, it may have a negative impact on our operations.

If we fail to comply with regulatory requirements or experience unanticipated problems with KRYSTEXXA, the product could be subject to restrictions and be withdrawn from the countries where is has been granted marketing approval and we may be subject to penalties, which would materially harm our business.

The marketing approval for KRYSTEXXA in the United States, along with the manufacturing processes, reporting of safety and adverse events, post-approval commitments, product labeling, advertising and promotional activities, and REMS program, are subject to continual requirements of, and review by, the FDA, including thorough inspections of third-party manufacturing and testing facilities. Similar requirements are in place for the EU approval and will require equal diligence on the part of the Company.

These requirements include submission of safety and other post-marketing information and reports, registration requirements, cGMP relating to quality control, quality assurance and corresponding maintenance of records and documents, and recordkeeping. The Health Authorities enforce compliance with cGMP and other requirements through periodic unannounced inspections of manufacturing and laboratory facilities. The Health Authorities are authorized to inspect manufacturing and testing facilities, marketing literature, records, files, papers, processes, and controls at reasonable times and within reasonable limits and in a reasonable manner, and we cannot refuse to permit entry or inspection.

If, in connection with any future inspection, the Health Authority finds that we or any of our third-party manufacturers or testing laboratories are not in substantial compliance with cGMP requirements, the Health Authority may undertake enforcement action against us.

In addition, the approval of KRYSTEXXA is subject to limitations on the indicated uses for which it may be marketed. The approval of KRYSTEXXA also contains requirements for post-marketing testing and surveillance to monitor KRYSTEXXA’s safety and/or efficacy, as well as a commitment to the FDA for an observational trial in 500 patients treated with KRYSTEXXA for one year and a commitment to the EMA for an observational trial in 500 patients treated with KRYSTEXXA for as long as they are on treatment plus three months post treatment with the last dose of KRYSTEXXA to further evaluate and identify if there are any other serious adverse events associated with the administration of KRYSTEXXA. Additionally, we are required by the EMA to perform a clinical study to verify the appropriate dosing in patients weighing greater than 100kg and a clinical study looking at an alternate dosing regimen which could reduce the frequency of

 

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gout flares seen with the onset of treatment with KRYSTEXXA. Subsequent discovery of previously unknown problems with KRYSTEXXA or its manufacturing processes, such as known or unknown safety or adverse events, or failure to comply with regulatory requirements, may result in, for example:

 

   

revisions of or adjustments to the product labeling,

 

   

warning letters,

 

   

imposition of new or revised REMS requirements, including distribution and use restrictions,

 

   

costly corrective advertising,

 

   

voluntary or mandatory product recall,

 

   

public notice of regulatory violations,

 

   

restrictions on the marketing or manufacturing of KRYSTEXXA,

 

   

refusal to approve pending applications or supplements to approved applications,

 

   

imposition of post-marketing study or post-marketing clinical trial requirements,

 

   

product seizure,

 

   

shutdown or substantial limitations on the operations of manufacturing facilities,

 

   

fines or disgorgement of profits or revenue,

 

   

refusal to permit the import or export of products,

 

   

suspension or withdrawal of regulatory approvals, including license revocation,

 

   

withdrawal of KRYSTEXXA from the market,

 

   

debarment from submitting certain abbreviated applications, and

 

   

injunctions or the imposition of civil or criminal penalties.

If any of these events were to occur, our business would be materially harmed.

We face substantial competition and our competitors may develop or commercialize alternative technologies or products more successfully than we do.

The pharmaceutical and biotechnology industries are intensely competitive. We face competition with respect to KRYSTEXXA from major pharmaceutical companies and biotechnology companies worldwide. Potential competitors also include academic institutions and other public and private research institutions that conduct research, seek patent protection and establish collaborative arrangements for research, development, manufacturing and commercialization. Our competitors may develop products that are safer, are more effective, have fewer side effects, are more convenient or are less costly than KRYSTEXXA.

KRYSTEXXA is approved in the United States for the treatment of chronic gout in adult patients suffering from RCG and recently was approved in the EU as a treatment for severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. By far, the most prevalent current treatment for gout is allopurinol, which can lower uric acid levels by inhibiting uric acid formation. Allopurinol is a generic and inexpensive treatment which has achieved widespread acceptance by payors, physicians and patients. A small number of patients with gout are treated with probenecid, which can lower uric acid levels by promoting excretion of uric acid. In addition, Uloric (febuxostat) was approved by the FDA in early 2009 for the chronic management of hyperuricemia in patients with gout. Febuxostat lowers uric acid levels by inhibiting uric acid formation through a similar mechanism of action as allopurinol. Although febuxostat, is labeled for the chronic management of hyperuricemia in patients with gout,

 

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febuxostat is also used in patients who cannot tolerate allopurinol or where allopurinol is contraindicated, if patients are given febuxostat prior to treatment with KRYSTEXXA, the market demand for KRYSTEXXA may be affected. Each of these approved treatments is both less expensive than KRYSTEXXA and available as a pill. Pills are significantly more convenient for patients than KRYSTEXXA, which requires a visit to an infusion center, hospital or doctor’s office that has infusion capabilities. If KRYSTEXXA does not achieve an adequate level of market acceptance, we may not generate sufficient additional revenues to achieve or maintain profitability. As a result of our recent approval in the EU, we face completion from Allopurinol and Uloric as well as Benzbromorone.

There are also a number of companies developing new treatments for gout. Some of these development stage treatments are currently in late stage clinical trials. Depending on their cost, safety, efficacy and convenience, one or more of these new therapies, if approved, could provide substantial competition for KRYSTEXXA.

Moreover, the PPACA permits the FDA to, among other things, approve biosimilar or interchangeable versions of biological products like KRYSTEXXA through an abbreviated approval pathway following periods of data and marketing exclusivity. The approval of such versions could result in the earlier entry of similar, competing, and less costly products by our foreign and domestic competitors, including products that may be interchangeable with our own approved biological products. The market entry of these competing products could decrease the revenue we receive for any approved products, which, in turn, could adversely affect our operating results, our overall financial condition and liquidity.

Many of our competitors have significantly greater financial resources and expertise in research and development, manufacturing, pre-clinical testing, conducting clinical trials, obtaining regulatory approvals and marketing and distributing approved products than we do. Smaller or early stage companies may also prove to be significant competitors, particularly through collaborative arrangements with large and established companies. These competitors also compete with us in recruiting and retaining qualified scientific, commercial and management personnel, as well as in acquiring products, product candidates and technologies complementary to, or necessary for, our programs or advantageous to our business.

If we are unable to maintain orphan drug exclusivity for KRYSTEXXA in the United States, we may face increased competition.

Under the Orphan Drug Act of 1983, the FDA may designate a product as an orphan drug if it is a drug intended to treat a rare disease or condition affecting fewer than 200,000 people in the United States. A company that first obtains FDA approval for a designated orphan drug for the specified rare disease or condition receives orphan drug marketing exclusivity for that drug for a period of seven years from the date of its approval. This orphan drug exclusivity prevents the approval of another drug containing the same active ingredient and used for the same orphan indication except in very limited circumstances, based upon the FDA’s determination that a subsequent drug is safer, more effective or makes a major contribution to patient care, or if the orphan drug manufacturer is unable to assure that a sufficient quantity of the orphan drug is available to meet the needs of patients with the rare disease or condition. Orphan drug exclusivity may also be lost if the FDA later determines that the initial request for designation was materially defective.

KRYSTEXXA was granted orphan drug designation by the FDA in 2001, which we expect will provide the drug with orphan drug marketing exclusivity in the United States until September 2017, seven years from the date of its approval. However, such exclusivity may not effectively protect the product from competition if the FDA determines that a subsequent PEGylated uricase drug for the same indication is safer, more effective or makes a major contribution to patient care, or if we are unable to assure the FDA that sufficient quantities of KRYSTEXXA are available to meet patient demand. In addition, orphan drug exclusivity does not prevent the FDA from approving competing drugs for the same or similar indication containing a different active

 

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ingredient. If a subsequent drug is approved for marketing for the same or similar indication we may face increased competition, and our revenues from the sale of KRYSTEXXA will be adversely affected. KRYSTEXXA does not have orphan drug status in the EU or other regions of the world.

If we do not obtain protection under the PPACA by obtaining data and marketing exclusivity for KRYSTEXXA, our business may be materially harmed.

The PPACA permits the FDA to, among other things, approve biosimilar or interchangeable versions of biological products like KRYSTEXXA through an abbreviated approval pathway following periods of data and marketing exclusivity. Biological products that are considered to be “reference products” are granted two overlapping periods of data and marketing exclusivity: a four-year period during which no abbreviated BLA relying upon the reference product may be submitted, and a 12-year period during which no abbreviated BLA relying upon the reference product may be approved by the FDA. For purposes of the PPACA, a reference product is defined as the single biological product licensed under a full BLA against which a biological product is evaluated in an application submitted under an abbreviated BLA.

We believe that KRYSTEXXA is a “reference product” that is entitled to both four-year and 12-year exclusivity under the PPACA. The FDA, however, has not issued any regulations or final guidance explaining how it will implement the PPACA, including the exclusivity provisions for reference products. In February 2012, the FDA issued three draft guidance documents that provide its preliminary thoughts on how to interpret and implement the abbreviated BLA provisions of the PPACA. The FDA has requested public comments on these draft guidance documents, including the proper interpretation of PPACA’s exclusivity provisions for reference. It is thus possible that the FDA will decide to interpret the PPACA in such a way that KRYSTEXXA is not considered to be a reference product for purposes of the PPACA or be entitled to any period of data or marketing exclusivity. Even if KRYSTEXXA is considered to be a reference product and obtains exclusivity under the PPACA, another company nevertheless could also market another version of the biologic if such company can complete, and the FDA permits the submission of and approves, a full BLA with a complete human clinical data package. Although protection under the PPACA will not prevent the submission or approval of another “full” BLA, the applicant would be required to conduct its own pre-clinical and adequate and well-controlled clinical trials to demonstrate safety, purity, and potency (i.e., effectiveness). The market entry of such competing products could decrease the revenue we receive for KRYSTEXXA, which, in turn, could adversely affect our operating results and our overall financial condition.

We will need to raise additional capital to execute upon our commercial strategy for KRYSTEXXA. Such financing may only be available on terms unacceptable to us, or not at all. If we are unable to obtain financing on favorable terms, our business, results of operations and financial condition may be materially adversely affected.

At December 31, 2012, we had $96.3 million in cash, cash equivalents and short-term investments, as compared to $169.8 million at December 31, 2011. At December 31, 2012, we had an accumulated deficit of $535.9 million.

The development and commercialization of pharmaceutical products requires substantial funds and we currently have no committed external sources of capital. Historically, we have satisfied our cash requirements primarily through equity and debt offerings, product sales and the divestiture of assets that were not core to our strategic business plan. Most recently, in May 2012, we increased our cash position through the net proceeds received from the sale of Units comprised of our 2019 Notes and accompanying warrants and in February 2011 from the offer and sale of our 2018 Convertible Notes, a portion of which were exchanged by their holders for Units. We have been less successful in increasing our cash position in recent years through product sales of Oxandrin® and our authorized generic Oxandrin brand equivalent product, oxandrolone, due to a substantial decline in sales. Although we may consider divesting Oxandrin and oxandrolone, any proceeds of that divestiture would not significantly improve our cash position and we do not have further non-core assets to divest.

 

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Although our Board of Directors may from time-to-time evaluate strategic alternatives available to us to maximize value, we are proceeding with our commercialization of KRYSTEXXA in the United States, and with the European Commission marketing authorization approval in hand we are continuing to explore partnership opportunities in the EU and other foreign jurisdictions. Our future capital requirements will depend on many factors, including:

 

   

the cost of commercialization activities, including product marketing, sales and distribution,

 

   

the cost of clinical development activities directed to potential label expansion for KRYSTEXXA in the United States, EU and other foreign countries,

 

   

the cost and results of our post-approval commitments to the FDA and European Medicines Agency,

 

   

our ability to establish and maintain additional collaborative arrangements relating to the commercialization of KRYSTEXXA in the EU or in other jurisdictions outside of the United States, and

 

   

the cost of manufacturing activities.

Based on our current commercialization plans for KRYSTEXXA, including, among other things, our anticipated expenses relating to sales and marketing activities and the cost of clinical development activities directed to potential label expansion for KRYSTEXXA in the United States, and assuming that we are able to generate KRYSTEXXA revenues at the level that we are currently expecting, we believe that our existing cash, cash equivalents and short-term investments will be sufficient to fund our anticipated operations into the second quarter of 2014.

We expect that the cash needed to successfully commercialize KRYSTEXXA in the United States and the EU and seek regulatory approvals in other foreign countries will be substantial, and we may need to seek additional funding through customary methods or explore a strategic licensing or co-promotion transaction in certain territories as a means of raising additional funding. Should we elect to seek additional funding through customary methods, we may not be able to obtain additional financing or, if such financing is available, such financing may not be on terms that are acceptable to us. If we raise additional funds by issuing equity securities, dilution to our then-existing stockholders will result. If we issue preferred stock, it would likely include a liquidation preference and other terms that would adversely affect our common stockholders. If we raise additional funds through the issuance of debt securities or borrowings, we may incur substantial interest expense and could become subject to financial and other covenants that could restrict our ability to take specified actions, such as incurring additional debt or making capital expenditures. If we pursue a strategic licensing or co-promotion transaction, one may not be available to us or may only be available on terms that are not acceptable to us. There are substantial limitations in the indenture governing the 2019 Notes on our ability to issue additional debt securities. If additional funds are not available on favorable terms, or at all, our business, results of operations and financial condition may be materially adversely affected, and we may be required to curtail or cease operations.

Current economic conditions may adversely affect our liquidity and financial condition.

The economies of the United States and other countries, particularly in the EU, continue to be affected by the economic conditions that began with the financial and credit liquidity crisis in late 2008. Although economic conditions began to improve during 2011 and continued to improve into 2012 and 2013, there continues to be significant uncertainty as to whether this improvement is sustainable. Furthermore, energy costs, geopolitical issues, sovereign debt issues, and the depressed state of global real estate markets have contributed to increased market volatility. Continued market volatility could adversely affect our stock price, liquidity and overall financial condition.

Our business partners, including the suppliers on which we depend, may be adversely affected by a worsening of the current economic conditions. We cannot fully predict to what extent our business partners and suppliers may be negatively affected and thus to what extent our operations would in turn be affected. We invest

 

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our cash, cash equivalents and short-term investments primarily in demand deposits and other short-term instruments with maturities of one year or less at the date of purchase. Since the advent of the global financial crisis in the first calendar quarter of 2008, we have maintained a balance in our investment strategy between objectives of safety of principal, liquidity and return by investing primarily in short-term United States Treasury obligations.

If we market KRYSTEXXA in a manner that violates US healthcare fraud and abuse laws, or if we violate false claims laws or fail to comply with our reporting and payment obligations under the Medicaid Rebate Program or other US governmental pricing programs, we may be subject to civil or criminal penalties or additional reimbursement requirements and sanctions, which could have a material adverse effect on our business, financial condition, results of operations and growth prospects.

The FDA enforces laws and regulations which require that the promotion of pharmaceutical products be consistent with the approved prescribing information. While physicians may prescribe an approved product for a so-called “off label” use, it is unlawful for a pharmaceutical company to promote its products in a manner that is inconsistent with its approved label and any company which engages in such conduct can subject that company to significant liability. Similarly, industry codes in the EU prohibit companies from engaging in off-label promotion and regulatory agencies in various countries enforce violations of the code with civil penalties. While we use both internal and external resources to ensure that our promotional materials are consistent with our label, regulatory agencies may disagree with our assessment and may issue untitled letters, warning letters or may institute other civil or criminal enforcement proceedings. In addition to FDA restrictions on the marketing of pharmaceutical products, several other types of state and federal healthcare fraud and abuse laws have been applied in recent years to restrict certain marketing practices in the pharmaceutical industry. These laws include anti-kickback statutes and false claims statutes. Because of the breadth of these laws and the narrowness of the safe harbors, it is possible that some of our business activities could be subject to challenge under one or more of these laws.

The federal healthcare program anti-kickback statute prohibits, among other things, knowingly and willfully offering, paying, soliciting or receiving remuneration to induce, or in return for, purchasing, leasing, ordering or arranging for the purchase, lease or order of any healthcare item or service reimbursable, in whole or in part, under Medicare, Medicaid or other federally financed healthcare program. This statute has been interpreted to apply to arrangements between pharmaceutical manufacturers on the one hand and prescribers, purchasers and formulary managers on the other. Although there are several statutory exemptions and regulatory safe harbors protecting certain common activities from prosecution, the exemptions and safe harbors are drawn narrowly and practices that involve remuneration intended to induce prescribing, purchasing or recommending such healthcare items or services may be subject to scrutiny if they do not qualify for an exemption or safe harbor. Our practices may not in all cases meet all of the criteria for safe harbor protection from anti-kickback liability.

Federal false claims laws prohibit any person from knowingly presenting, or causing to be presented, a false claim for payment to the federal government or knowingly making, or causing to be made, a false statement in order to have a claim paid. In recent years, several pharmaceutical and other healthcare companies have been prosecuted under these laws for a variety of alleged promotional and marketing activities, such as providing free trips, free goods, sham consulting fees and grants and other monetary benefits to prescribers, reporting inflated average wholesale prices to pricing services that were then used by federal programs to set reimbursement rates and engaging in off-label promotion that caused claims to be submitted to Medicaid for non-covered, off-label uses. Such activities have been alleged to cause the resulting claims for reimbursement to be “false” claims. Most states also have statutes or regulations similar to the federal anti-kickback and false claims laws, which apply to items and services reimbursed under Medicaid and other state programs, or, in several states, apply regardless of the payor.

We participate in the federal Medicaid Rebate Program established by the Omnibus Budget Reconciliation Act of 1990, as well as several state supplemental rebate programs. Under the Medicaid Rebate Program, we pay a rebate to each state Medicaid program for our products that are reimbursed by those programs. Federal law

 

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requires that any company that participates in the Medicaid Rebate Program extend comparable discounts to qualified purchasers under the Public Health Service Act pharmaceutical pricing program, which requires us to sell our products to certain customers at prices lower than we otherwise might be able to charge. If products are made available to authorized users of the Federal Supply Schedule, additional pricing laws and requirements apply. Pharmaceutical companies have been prosecuted under federal and state false claims laws in connection with allegedly inaccurate information submitted to the Medicaid Rebate Program, for knowingly submitting or using allegedly inaccurate pricing information in connection with federal pricing and discount programs or for failing to file or timely file periodic drug pricing reports to the Medicaid Rebate Program.

Pricing and rebate calculations vary among products and programs. The calculations are complex and are often subject to interpretation by us or our contractors, governmental or regulatory agencies and the courts. Our methodologies for calculating these prices could be challenged under false claims laws or other laws. We or our contractors could make a mistake in calculating reported prices and required discounts, revisions to those prices and discounts, determining whether a revision is necessary or we or our contractors may fail to timely file such calculations which could result in retroactive rebates (and interest and penalties, if any). Governmental agencies may also make changes in program interpretations, requirements or conditions of participation, some of which may have implications for amounts previously estimated or paid. If this were to occur or if we were to fail to file or timely file periodic drug pricing reports as required, we could face, in addition to prosecution under federal and state false claims laws, substantial liability and civil monetary penalties, exclusion of our products from reimbursement under government programs, criminal fines or imprisonment or the entry into a Corporate Integrity Agreement, Deferred Prosecution Agreement, or similar arrangement.

In addition, federal legislation now imposes additional requirements. For example, as part of the PPACA, a federal physician payment disclosure provision based on the Physician Payments Sunshine Act was enacted, which requires pharmaceutical manufacturers to report certain gifts and payments to physicians beginning in 2013. These reports will then be placed on a public database. Failure to so report could subject companies to significant financial penalties.

Efforts to ensure that our business arrangements with third parties will comply with applicable healthcare laws and regulations could be costly. It is possible that governmental authorities will conclude that our business practices may not comply with current or future statutes, regulations or case law involving applicable fraud and abuse or other healthcare laws and regulations. If our operations, including anticipated activities conducted by our sales team in the sale of KRYSTEXXA, are found to be in violation of any of these laws or any other governmental regulations that may apply to us, we may be subject to significant civil, criminal and administrative penalties, damages, fines, exclusion from government funded healthcare programs, such as Medicare and Medicaid, and the curtailment or restructuring of our operations. If any of the physicians or other providers or entities with whom we expect to do business are found to be not in compliance with applicable laws, they may be subject to criminal, civil or administrative sanctions, including exclusions from government funded healthcare programs.

Our conduct of the U.S. observational study in a commercial patient population contemplates that participating clinical sites will bill third-party payors for the cost of KRYSTEXXA and physician and infusion services which are incidental to the normal and ordinary therapeutic use of KRYSTEXXA. The clinical trial sites will separately bill us, and we will pay for, any additional tests and services which are required by the study protocol and not incidental to the normal and ordinary use of KRYSTEXXA. Under certain circumstances, a payment being made to a physician or other healthcare provider who is using a commercially available product and billing third parties for its use may be found to be in violation of the federal Anti-Kickback Statute, the federal False Claims Act, and various other federal and state laws. If our conduct of the observational study for KRYSTEXXA is found to be in violation of these laws or any other governmental regulations, we may be subject to significant civil, criminal and administrative penalties, damages, fines, or exclusion from government funded healthcare programs, such as Medicare and Medicaid, which could result in the curtailment or restructuring of our operations.

 

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Foreign governments tend to impose strict price controls, which may adversely affect our revenues.

In some foreign countries, particularly the countries of the EU and Canada, the pricing of prescription pharmaceuticals is subject to governmental control. In these countries, pricing negotiations with governmental authorities can take, at a minimum, an additional six to 12 months after the receipt of marketing approval for a product. To obtain reimbursement or pricing approval for KRYSTEXXA in some countries, we may be required to conduct a clinical trial that compares the cost-effectiveness of our product candidate to other available therapies. The conduct of such a clinical trial would be expensive and result in delays in commercialization of KRYSTEXXA in such markets. If reimbursement is unavailable or limited in scope or amount, or if pricing is set at unsatisfactory levels, our business could be adversely affected.

Moreover, the MMA contains provisions that may change United States importation laws and expand pharmacists’ and wholesalers’ ability to import lower priced versions of certain drugs from Canada, where there are government price controls. Controlled substances, biological products and certain other drugs that are infused, inhaled or intravenously injected are exempt from these provisions, but it is possible that changes to the law could be made that would impact the ability to import these types of products. These changes to United States importation laws will not take effect unless and until the Secretary of Health and Human Services, or HHS, certifies that the changes will pose no additional risk to the public’s health and safety and will result in a significant reduction in the cost of products to consumers. This certification has not yet been made, and the Secretary of HHS has not announced any plans to do so. Even if the importation provisions of the MMA do not become effective, a number of other federal legislative proposals have been offered to implement similar changes to United States importation laws and to broaden permissible imports in other ways, such as expanding the number of countries from which importation is allowed. If the MMA importation provisions become effective, or if similar legislation or regulatory changes are enacted, this could permit more widespread importation of drugs from foreign countries into the United States. This may include re-importation from foreign countries where the drugs are sold at lower prices than in the United States. Such legislation, or similar regulatory changes, could decrease the revenue we receive for any approved products, which, in turn, could adversely affect our operating results, our overall financial condition and liquidity.

As part of the European Commission’s approval of our marketing authorization for KRYSTEXXA, we are required to undertake post-marketing commitments, including certain clinical trials primarily focused on further examining safety aspects of treatment with KRYSTEXXA. These clinical studies are costly and will be required to be conducted regardless of whether we consummate a partnership for EU commercialization and thus may adversely affect our liquidity and financial condition. If we fail to conduct these post-marketing commitments, maintenance of our marketing authorization could be at risk and if lost this could have a material adverse effect on our business, financial condition, results of operations and growth prospects.

As part of our EU approval, in order to further accumulate and evaluate additional safety data associated with the administration of KRYSTEXXA, we are required to conduct an observational trial in 500 patients treated with KRYSTEXXA for as long as they are on treatment plus three months post treatment with KRYSTEXXA. Additionally, we are required to perform a clinical study to verify the appropriate dosing in patients weighing greater than 100kg and a clinical study looking at an alternate dosing regimen which could reduce the frequency of gout flares seen with the onset of treatment with KRYSTEXXA. The cost of these post-marketing commitment clinical trials is estimated to be $25 to $30 million over the next seven years. As previously stated, we do not plan to launch KRYSTEXXA on our own in Europe and are instead exploring collaboration and partnership opportunities in the EU, pursuant to the terms of which the cost of these post-marketing commitment clinical trials could either be absorbed by the partner or funded by payments that we receive. If we are unable to consummate a collaboration or partnership for the EU, or if such an arrangement is terminated, our ability to fund our post-marketing commitments may be harmed, or our liquidity and financial condition could be adversely affected. If we fail to conduct these post-marketing commitments or obtain modification or relief from these commitments from the European Commission, maintaining our marketing authorization for KRYSTEXXA in the EU could be at risk and if lost our business, results of operations, growth prospects and financial condition may be materially adversely affected.

 

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We may elect or be required to perform additional clinical trials for other indications or in support of applications for regulatory marketing approval of KRYSTEXXA in jurisdictions outside the United States and EU. These additional trials could be costly and could result in findings inconsistent with or contrary to the data from the clinical trials that supported our United States filings with the FDA, which could restrict our marketing approval of KRYSTEXXA.

Before obtaining regulatory approval for the sale of KRYSTEXXA in their respective jurisdictions, we must provide foreign regulatory authorities with clinical data to demonstrate that KRYSTEXXA is safe and effective. We may also be required, or we may elect, to conduct additional clinical trials or pre-clinical animal studies for or in support of our applications for regulatory marketing approval in jurisdictions outside the United States and EU. Regulatory authorities in jurisdictions outside the United States and EU may require us to submit data from supplemental clinical trials, or pre-clinical animal studies, in addition to data from the clinical trials that supported our United States filings with the FDA. For example, in December 2010, the Pediatric Committee of the EMA approved our pediatric investigation plan for the treatment and prevention of hyperuricemia, which was a condition to our ability to file for marketing approval in the EU. Further, we may decide, or be required by regulators, to conduct additional clinical trials or testing of KRYSTEXXA following its approval in other jurisdictions. For example, we have made a post-approval commitment to the FDA that we will conduct the observational trial to further evaluate and identify any serious adverse events associated with the administration of KRYSTEXXA therapy. Finally, we may conduct additional clinical trials in connection with our efforts to expand the clinical utility of KRYSTEXXA into populations beyond RCG. Clinical trials of KRYSTEXXA must comply with the regulatory requirements of by numerous regulatory agencies in other countries. Clinical testing is expensive and difficult to design and implement. Clinical testing can also take many years to complete and the outcome of such testing is uncertain. Success in pre-clinical testing and early clinical trials does not ensure that later clinical trials will be successful and interim results of a clinical trial do not necessarily predict final results.

Any requirements to conduct supplemental trials would add to the cost of further developing KRYSTEXXA, and we may not be able to complete such supplemental trials. Additional trials could also produce findings that are inconsistent with the data results we have previously submitted to the FDA and EMA, in which case we would be obligated to report those findings to both. This could result in additional restrictions on the marketing approval of KRYSTEXXA, including new safety labeling. Inconsistent trial results could also lead to delays in obtaining marketing approval in the United States for other indications for KRYSTEXXA and could cause regulators to impose restrictive conditions on marketing approvals, including but not limited to the expansion of our REMS program to include distribution and use restrictions, and could even cause our marketing approval to be revoked. Any of these results would materially harm our business and impair our ability to generate revenues and achieve or maintain profitability and adversely affect our liquidity.

If we fail to attract and retain senior management and key personnel, we may not be able to complete the development of or execute upon our commercial and worldwide strategy for KRYSTEXXA.

We depend on key members of our management team. In addition, in recent years, due to challenges we have faced and changes in our senior management, we have relied at various times more heavily on our Board of Directors, particularly our Chairman, Stephen O. Jaeger. The loss of the services of Mr. Jaeger, our President & Chief Executive Officer Louis Ferrari, or any member of our senior management team, could harm our ability to complete the development of and execute our commercial strategy for KRYSTEXXA and the strategic objectives for our company. We have employment agreements with key members of our management team, but these agreements are terminable by the individuals on short or no notice at any time without penalty. In addition, we do not maintain, and have no current intention of obtaining, “key man” life insurance on any member of our management team.

Recruiting and retaining qualified scientific and commercial personnel, including clinical development, regulatory, sales and marketing executives and field personnel, is also critical to our success. We may not be able to attract and retain these personnel on acceptable terms given the competition among numerous pharmaceutical

 

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and biotechnology companies for similar personnel and based on our company profile. We also experience competition for the hiring of scientific personnel from universities and research institutions. If we fail to recruit and then retain these personnel, we may not be able to effectively pursue the development of and execute our commercial strategy for KRYSTEXXA.

As we expand our development and commercialization activities outside of the United States, we will be subject to an increased risk of inadvertently conducting activities in a manner that violates the U.S. Foreign Corrupt Practices Act and United Kingdom’s Bribery Act of 2010. If that occurs, we may be subject to civil or criminal penalties that could have a material adverse effect on our business, financial condition, results of operations and growth prospects.

We are subject to the U.S. Foreign Corrupt Practices Act, or FCPA, which prohibits corporations and individuals from paying, offering to pay, or authorizing the payment of anything of value to any foreign government official, government staff member, political party, or political candidate in an attempt to obtain or retain business or to otherwise influence a person working in an official capacity. Additionally, because we conduct business in the United Kingdom, or UK, we are subject to the provisions of the UK Bribery Act of 2010, or UKBA, which prohibits engaging in conduct that results in a bribing a third party in exchange for that person improperly performing a relevant function or activity for purposes of gaining a financial advantage.

In the course of establishing and expanding our commercial operations and seeking regulatory approvals outside of the United States, we will need to establish and expand business relationships with various third parties, such as consultants, advocacy groups and physicians, and we will interact more frequently with foreign officials, including regulatory authorities and physicians employed by state-run healthcare institutions who may be deemed to be foreign officials under the FCPA. Similarly, our interactions with such third parties could be construed as creating potential liability under the UKBA. Any interactions with any such parties or individuals where compensation is provided which are found to be in violation of the FCPA or UKBA could result in substantial fines and penalties and could materially harm our business. If our business practices outside the United States are found to be in violation of the FCPA or the UKBA, we may be subject to significant civil and criminal penalties which could have a material adverse effect on our business, financial condition, results of operations, liquidity and growth prospects.

Risks relating to our reliance on third parties

We have no manufacturing capabilities and limited manufacturing personnel. We depend on third parties to manufacture KRYSTEXXA. If these manufacturers fail to meet our manufacturing requirements at acceptable quality levels and at acceptable cost, and if we are unable to identify suitable replacements, our commercialization efforts may be materially harmed.

We have limited personnel with experience in, and we do not own facilities for, the manufacturing of any of our products. We depend on third parties to manufacture KRYSTEXXA. We have entered into commercial supply agreements with third-party manufacturers, including:

 

   

Bio-Technology General (Israel) Ltd., or BTG, for the production of the pegloticase drug substance,

 

   

NOF Corporation of Japan, or NOF, for the supply of mPEG-NPC, a key raw material in the manufacture of the pegloticase drug substance, or drug substance, and

 

   

Sigma-Tau PharmaSource, Inc., or Sigma-Tau, for the filling and packaging functions to finish the KRYSTEXXA drug product.

These companies are our sole source suppliers for the mPEG-NPC, the drug substance and the KRYSTEXXA drug product.

Our third-party manufacturers have limited experience manufacturing KRYSTEXXA on a sustained basis. In addition, based on our current long-range forecast of market demand, our contract manufacturers will need to

 

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only periodically run manufacturing campaigns to produce drug substance as well as finished product to meet market demand. If our contract manufacturers experience difficulties in maintaining competency to manufacture KRYSTEXXA drug substance and finished product on this periodic schedule, or if the cost of these periodic manufacturing campaign is uneconomical to us, we may not be able to produce KRYSTEXXA in a sufficient quantity to meet future demand, or at a satisfactory cost, either of which would adversely affect our projected revenues and gross margins.

Moreover, the FDA has previously identified manufacturing deficiencies and violations of cGMP at one of our manufacturers. Some of these deficiencies were significant and required substantial capital to remediate. Although we believe that these violations and deficiencies have since been remediated, the FDA may identify further violations or deficiencies in future inspections of our manufacturers’ facilities, which may impede their ability to timely provide us with product, if they are able to do so at all.

In addition, BTG is located in Israel. Future hostilities in the Middle East could harm BTG’s ability to supply us with drug substance and could harm our commercialization efforts. Reliance on third-party manufacturers entails risks to which we would not be subject if we manufactured products ourselves, including:

 

   

reliance on the third party for regulatory compliance, quality assurance and adequate training in management of manufacturing staff,

 

   

the possible breach of the manufacturing agreement by the third party because of factors beyond our control, and

 

   

the possibility of termination or non-renewal of the agreement by the third party, based on its own business priorities, at a time that is costly or inconvenient for us.

Any of these risks could cause us to be unable to obtain sufficient quantities of KRYSTEXXA to meet future demand, which would adversely affect our projected revenues and gross margins.

In the past, we experienced some batch failures of KRYSTEXXA based on one manufacturing specification. If we experience additional batch failures in the future, our gross margin in selling KRYSTEXXA will decrease and we may not have enough product to meet demand and the FDA may require us to take further steps to address issues related to our manufacturing process, any of which could materially harm our commercialization efforts.

In the second half of 2010, we experienced some batch failures of KRYSTEXXA based on one manufacturing specification. Although we believe that these batch failures are within normal industry failure rates experienced for the commencement of biologic commercial manufacturing, this failure rate is nonetheless above the level that we believe to be acceptable for normal ongoing operations. With the assistance of an outside manufacturing and quality consulting firm, we completed a review of these batch failures. Although we believe that we identified the root cause of the batch failures, we may experience further batch failures. Under our direction, our third-party contract manufacturers have implemented remediation steps that we believe will continue to minimize or eliminate these failures in the future. However, the remediation steps that we have implemented may fail to minimize or eliminate future batch failures.

If we again experience rates of batch failures above levels that are acceptable for normal ongoing manufacturing operations, then our cost of producing KRYSTEXXA will increase and our gross margin in selling KRYSTEXXA will decrease. We may also have insufficient product to meet demand, and our revenues would suffer. If we are unable to meet demand for an extended period of time we may also experience a decrease in market demand. In addition, the FDA could require us to take further steps to reduce this batch failure rate, which could be costly and could require us to stop manufacturing KRYSTEXXA in order to implement these further remediation steps. Any reduction in our gross margin, inability to meet demand or FDA requirement to implement further remediation steps could materially harm our commercialization efforts.

 

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The manufacture and packaging of pharmaceutical products such as KRYSTEXXA are subject to the requirements of the FDA and similar foreign regulatory bodies. If we, or our third-party manufacturers, fail to satisfy these requirements, our product development and commercialization efforts may be materially harmed.

The manufacture and packaging of pharmaceutical products, such as KRYSTEXXA, are regulated by the FDA and similar foreign regulatory bodies and must be conducted in accordance with the FDA’s cGMPs and comparable requirements of foreign regulatory bodies. Our third-party manufacturers, including BTG, Sigma-Tau and NOF, are subject to periodic inspection by the FDA and similar foreign regulatory bodies. If our third-party manufacturers do not pass such periodic FDA or other regulatory inspections for any reason, including equipment failures, labor difficulties, failure to meet stringent manufacturing, quality control or quality assurance practices, or natural disaster, our ability to execute upon our commercial strategy for KRYSTEXXA will be jeopardized. Failure by us, or our third-party manufacturers, to comply with applicable regulations, requirements, or guidelines could result in sanctions being imposed on us, including fines, injunctions, civil penalties, failure of regulatory authorities to grant approval of pending marketing applications for our product, delays, suspension or withdrawal of approvals, license revocation, seizures or recalls of product, operating restrictions and criminal prosecutions, any of which could significantly and adversely affect our business.

A significant disruption at our manufacturing facility based in Israel could materially and adversely affect our business, financial position and results of operations.

We have concentrated third-party manufacturing facilities in Israel. A significant disruption resulting from, but not limited to, fire, tornado, storm, flood, cyber-attacks, geopolitical unrest, terror attacks, acts of war or pandemic could impair the facilities’ abilities to develop, produce and/or ship products on a timely basis, which could have a material adverse effect on our business, financial position, liquidity and operating results.

Qualifying a global secondary source supplier of drug substance, any other change to any of our third-party manufacturers for KRYSTEXXA or any change in the location where KRYSTEXXA is manufactured requires prior FDA review, approval of the manufacturing process and procedures for KRYSTEXXA manufacture. This qualification and FDA review and approval will be costly and time consuming and could delay or prevent the manufacture of KRYSTEXXA at such facility.

We are continuing our re-evaluation of whether to continue our efforts to validate Fujifilm Diosynth Biotechnologies USA LLC, or Fujifilm, as a potential secondary source supplier of the pegloticase drug substance used in the manufacture of KRYSTEXXA. Should we proceed, this supplier is required to produce validation batches of the drug substance to demonstrate to the FDA, in connection with its consideration of Fujifilm as a secondary source supplier, that the materials produced by this supplier are comparable to those produced at BTG. If we do not establish to the satisfaction of the FDA that the drug substance manufactured by the potential secondary source supplier is comparable to the drug substance manufactured at BTG, we will not be permitted to use the drug substance manufactured by the secondary source supplier in the formulation of KRYSTEXXA for marketing in the United States. During the first quarter of 2010, the conformance batch production campaign commenced, and as a result of batch failures, based on one manufacturing specification, the campaign was terminated in December 2010. We renegotiated the agreement with Fujifilm in June 2011.

If the FDA requires that we conduct clinical or non-clinical trials to demonstrate that the drug substance manufactured by Fujifilm is equivalent to the drug substance manufactured by BTG, we would incur significant additional costs and delays in qualifying Fujifilm for the drug substance. If we elect to manufacture the drug substance used in KRYSTEXXA at the facility of another third-party supplier, if we elect to utilize a new facility to fill and finish KRYSTEXXA or if we change the location where KRYSTEXXA is manufactured, we would need to ensure that the new facility and the manufacturing process are in substantial compliance with the FDA’s cGMPs and obtain prior FDA approval. Any such new facility could also be subject to a pre-approval inspection by the FDA, and a successful technology transfer and subsequent validation of the manufacturing process would

 

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be required by the FDA, all of which are expensive and time-consuming endeavors. Any delays or failures in satisfying these requirements could delay our ability to manufacture KRYSTEXXA in quantities sufficient to satisfy market demand and our needs for any future clinical trials or other development purposes.

If the company from which we source our mPEG-NPC is unable to supply us with product, our business may suffer.

We procure mPEG-NPC, a key raw material in the manufacture of drug substance, from a single supplier, NOF, whose manufacturing facilities are in Japan. Our contract with NOF requires us to purchase this material on an exclusive basis from NOF. Although we have a contractual right to procure this material from another supplier in the event of a supply failure, procuring this material from another source would require time and effort which may interrupt the supply of mPEG-NPC and thereby cause an interruption of the supply of drug substance and KRYSTEXXA to the marketplace and for any future clinical trials or other development purposes. For example, the FDA could require that we conduct additional clinical or non-clinical trials in support of the change to a new manufacturer, which could result in significant additional costs or delays. Any interruption of supply of mPEG-NPC could cause harm to our business.

If the company on which we rely for fill and finish services for KRYSTEXXA is unable to perform these services for us, our business may suffer.

We have outsourced the operation for KRYSTEXXA fill and finish services to a single approved company, Sigma-Tau. Until we determine our path forward with a potential secondary source manufacturing facility, we have placed on hold our efforts to engage a secondary third-party fill and finish manufacturer for KRYSTEXXA and plan to continue to rely on Sigma-Tau for fill and finish services for the foreseeable future. At this time, we do not have redundancy in our supply chain for these fill and finish functions and currently have no substitute that can provide these services. If Sigma-Tau is unable to perform these services for us, we would need to identify and engage an alternative company or develop our own fill and finish capabilities. Any new contract fill and finish manufacturer or capabilities that we acquire or develop will need to obtain FDA approval. Identifying and engaging a new contract fill and finish manufacturer or developing our own capabilities and obtaining FDA approval could involve significant cost and delay. As a result, we might not be able to deliver KRYSTEXXA orders on a timely basis, and we might not have sufficient supply to meet our needs for any future clinical trials or other development purposes, any of which would harm our business.

We rely on third parties to conduct our clinical activities and non-clinical studies for KRYSTEXXA and those third parties may not perform satisfactorily, which could impair our ability to satisfy our post-approval commitments to the FDA and any clinical development activities that we may undertake in the future.

We do not independently conduct clinical activities for KRYSTEXXA. We rely on third parties, such as CROs, clinical data management organizations, medical institutions and clinical investigators to perform these activities, including the observational study for serious adverse events associated with the administration of KRYSTEXXA therapy that the FDA is requiring that we implement as part of its approval of KRYSTEXXA, any additional clinical trials that may be required in the future by the FDA or similar foreign regulatory bodies, and any other clinical studies that we may elect to conduct. We also will rely on these third parties to perform the post-approval non-clinical studies that the FDA is requiring us to conduct for KRYSTEXXA. We use multiple CROs to coordinate the efforts of our clinical investigators and to accumulate the results of our trials. Our reliance on these third parties for clinical activities and non-clinical studies reduces our control over these activities. We are responsible for ensuring that each of our clinical trials is conducted in accordance with the general investigational plan and protocol for the trial and in accordance with agreed upon deadlines. Moreover, the FDA requires us and third parties acting on our behalf to comply with good clinical practices, or cGCPs, for conducting, recording and reporting the results of clinical trials to ensure that data and reported results are credible and accurate and that the rights, integrity and confidentiality of trial participants are protected. Our reliance on third parties that we do not control does not relieve us of these responsibilities and requirements. Furthermore, these third parties may also have relationships with other entities, some of which may be our competitors.

 

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If these third parties do not successfully carry out their contractual obligations, meet expected deadlines or conduct our clinical development activities in accordance with regulatory requirements or our stated protocols, we may not be able to, or may be delayed in our efforts to, successfully execute upon our commercial strategy, and obtain additional regulatory approvals, for KRYSTEXXA. We also may be subject to fines and other penalties for failure to comply with requirements applicable to the conduct and completion of post-marketing studies and clinical trials within specified timeframes and to the public reporting of clinical trial information on the registry and results database maintained by NIH.

We also rely on third parties to store and distribute drug supplies for our clinical development activities. Any performance failure on the part of such third parties could delay the commercialization of KRYSTEXXA, causing us to incur additional expenses and harming our ability to generate additional revenue.

Risks relating to intellectual property

If we fail to comply with our obligations in our intellectual property licenses with third parties, we could lose license rights that are important to our business.

We are party to various license agreements and we may enter into additional license agreements in the future. For example, we license exclusive worldwide rights to patents and pending patent applications that constitute the fundamental composition of matter and underlying manufacturing patents for KRYSTEXXA from Mountain View Pharmaceuticals, Inc., or MVP, and Duke University, or Duke. Under the agreement, we are required to use best efforts to bring to market and diligently market products that use the licensed technology.

The agreement requires us to pay to MVP and Duke quarterly royalty payments within 60 days after the end of each quarter based on KRYSTEXXA net sales made in that quarter by us. The royalty rate for a particular quarter ranges between 8% and 12% of net sales based on the amount of cumulative net sales made by us. In addition, and pursuant to the agreement, we are required to make potential separate milestone payments to MVP and Duke if we successfully commercialize KRYSTEXXA and attain specified KRYSTEXXA sales targets. Also under the agreement, for sales made by sub-licensees and not by us, we are required to pay royalties of 20% on any revenues or other consideration we receive from sub-licensees during any quarter. We record the royalty and sales-based milestone payments pursuant to the MVP and Duke agreement as a component of cost of goods sold in our consolidated statements of operations.

The agreement with MVP and Duke remains in effect, on a country-by-country basis, for the longer of 10 years from the date of first sale of KRYSTEXXA in such country or the date of expiration of the last-to-expire patent covered by the agreement in such country. The licensors may terminate the agreement with respect to the countries affected upon our material breach, if not cured within a specified period of time, immediately after our third or subsequent material breach of the agreement or our fraud, willful misconduct or illegal conduct. The licensors may also terminate the agreement in the event of our bankruptcy or insolvency. Upon a termination of the agreement in one or more countries, all intellectual property rights conveyed to us under the agreement with respect to the terminated countries, including regulatory applications and pre-clinical and clinical data, revert to MVP and Duke and we are permitted to sell off any remaining inventory of KRYSTEXXA for such countries.

In addition, we could have disputes with our current and future licensors regarding, for example, the interpretation of terms in our agreements. Any such disagreements could lead to delays in the development or commercialization of any potential products or could result in time-consuming and expensive litigation or arbitration, which may not be resolved in our favor.

If we fail to comply with our obligations under these agreements, we could lose the ability to commercialize KRYSTEXXA, which could require us to curtail or cease our operations.

 

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If we are unable to obtain and maintain protection for the intellectual property relating to our technology and products, the value of our technology and products will be adversely affected.

Our success will depend in large part on our ability to obtain and maintain protection in the United States and other countries for the intellectual property covering or incorporated into our technology and products. The patent situation in the field of biotechnology and pharmaceuticals is highly uncertain and involves complex legal and scientific questions. We may not be able to obtain additional issued patents relating to our technology or products. Even if issued, patents may be challenged, narrowed, invalidated or circumvented, which could limit our ability to stop competitors from marketing similar products or limit the length or term of patent protection we may have for our products. Generic forms of our product Oxandrin were introduced to the market in late 2006. As a result, our results of operations have been harmed. The composition of matter, methods of manufacturing and methods of use patents expire and, if issued, patent applications relating to KRYSTEXXA would expire between 2019 and 2026. Changes in either patent laws or in the interpretations of patent laws in the United States or other countries may diminish the value of our intellectual property or narrow the scope of our patent protection. For example, the PPACA allows applicants seeking approval of biosimilar or interchangeable versions of biological products like KRYSTEXXA to initiate a process for challenging some or all of the patents covering the innovator biological product used as the reference product. This process is complicated and could result in the limitation or loss of certain patent rights. In addition, such patent litigation is costly and time-consuming and may adversely affect our overall financial condition and liquidity.

Our patents also may not afford us protection against numerous competitors with similar technology. Patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing and in some cases not at all. Therefore, because publications of discoveries in the scientific literature often lag behind actual discoveries, neither we nor our licensors can be certain that we or they were the first to develop the inventions claimed in issued patents or pending patent applications, or that we or they were the first to file for protection of the inventions set forth in these patent applications. Even in the event that our patents are upheld as valid and enforceable, they may not foreclose potential competitors from developing new technologies or “workarounds” that circumvent our patent rights. This means that our patent portfolio may not prevent the entry of a competitive product into the market. In addition, patents generally expire, regardless of their date of issue, 20 years from the earliest claimed non-provisional filing date. As a result, the time required to obtain regulatory approval for a product candidate may consume part or all of the patent term. We are not able to accurately predict the remaining length of the applicable patent term following regulatory approval of any of our product candidates.

If we are unable to protect the confidentiality of our proprietary information and know-how, the value of our technology and products could be adversely affected.

In addition to patented technology, we rely upon unpatented proprietary technology, processes and know-how. We seek to protect this information in part through confidentiality agreements with our employees, consultants and third parties. If any of these agreements are breached, we may not have adequate remedies for any such breach. In addition, any remedies we may seek may prove costly. Furthermore, our trade secrets may otherwise become known or be independently developed by competitors. If we are unable to protect the confidentiality of our proprietary information and know-how, competitors may be able to use this information to develop products that compete with our products, which could adversely affect our business.

If we infringe or are alleged to infringe intellectual property rights of third parties, our business may be adversely affected.

Our development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be claimed to infringe patents or patent applications under which we do not hold licenses or other rights. We are aware of patent applications filed by, and patents issued to, other entities with respect to technology potentially useful to us and, in some cases, related to products and processes being developed by us. Third parties may own or control these patents and patent applications in the United States and

 

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abroad. These third parties could bring claims against us, our licensors or our collaborators that would cause us to incur substantial expenses. If such third-party claims are successful, we could be liable for substantial damages. Further, if a patent infringement suit were brought against us, our licensors or our collaborators, we or they could be forced to stop or delay research, development, manufacturing or sales of the product or product candidate that is the subject of the suit.

As a result of patent infringement claims, or in order to avoid potential claims, we, our licensors or our collaborators may choose or be required to seek a license from the third party and be required to pay license fees, royalties or both. These licenses may not be available on acceptable terms or at all. Even if we, our licensors or our collaborators were able to obtain a license, our rights may be non-exclusive, which could result in our competitors gaining access to the same intellectual property. Ultimately, we could be prevented from commercializing a product, or be forced to cease some aspect of our business operations if, as a result of actual or threatened patent infringement claims, we or our collaborators are unable to enter into licenses on acceptable terms. This could harm our business significantly.

The pharmaceutical and biotechnology industries have experienced substantial litigation and other proceedings regarding patent and other intellectual property rights. In addition to infringement claims against us, we may become a party to other patent litigation and other proceedings, including interference proceedings declared by the U.S. Patent and Trademark Office and opposition proceedings in the European Patent Office or in another patent office, regarding intellectual property rights with respect to our products and technology. The costs to us of any patent litigation or other proceeding, even if resolved in our favor, could be substantial. Some of our competitors may be able to sustain the costs of such litigation or proceedings more effectively than we can because of their substantially greater financial resources.

Uncertainties resulting from the initiation and continuation of patent litigation or other proceedings could adversely affect our ability to compete in the marketplace. Patent litigation and other proceedings may also absorb significant management time.

In the future, we may be involved in costly legal proceedings to enforce or protect our intellectual property rights or to defend against claims that we infringe the intellectual property rights of others.

Litigation is inherently uncertain and an adverse outcome could subject us to significant liability for damages or invalidate our proprietary rights and adversely impact our ability to market and further develop KRYSTEXXA. Legal proceedings that we initiate to protect our intellectual property rights could also result in counterclaims or countersuits against us. Any litigation, regardless of its outcome, could be time consuming and expensive to resolve and could divert our management’s time and attention. Any intellectual property litigation also could force us to take specific actions, including any of the following:

 

   

cease selling products or undertaking processes that are claimed to be infringing a third party’s intellectual property,

 

   

obtain licenses to make, use, sell, offer for sale or import the relevant technologies from the intellectual property’s owner, which licenses may not be available on reasonable terms or at all,

 

   

redesign products or processes that are claimed to be infringing a third party’s intellectual property, or

 

   

pursue legal remedies with third parties to enforce our indemnification rights, which may not adequately protect our interests.

We have been involved in several lawsuits and disputes regarding intellectual property in the past. We could be involved in similar disputes or litigation in the future. An adverse decision in any intellectual property litigation could have a material adverse effect on our business, results of operations, financial condition and liquidity.

 

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Risks relating to our results of operations, common stock and indebtedness

We have incurred operating losses since 2004 and we have incurred and anticipate that we will continue to incur substantial expenses in connection with our commercial launch of KRYSTEXXA in the United States and further development and efforts to obtain regulatory approval for KRYSTEXXA outside of the United States. If we do not generate significant revenues from the sale of KRYSTEXXA, we will not be able to achieve profitability.

Our ability to achieve operating profitability in the future depends on the successful commercialization and further development of KRYSTEXXA. We have incurred and expect to continue to incur significant expenditures in connection with the commercialization of KRYSTEXXA in the United States and further development and effort to seek regulatory approval for KRYSTEXXA outside of the United States. If sales revenue from KRYSTEXXA is insufficient, we may never achieve operating profitability. Even if we do become profitable, we may not be able to sustain or increase our profitability on a quarterly or annual basis.

We have substantial indebtedness that may adversely affect our cash flow and otherwise negatively affect our operations.

We have $293.4 million in principal amount of outstanding secured and unsecured notes, consisting of our 2018 Convertible Notes and our 2019 Notes. The 2018 Convertible Notes bear interest at a rate of 4.75% per year. The 2019 Notes were issued in an original principal amount equal to 73.78% of their fully accreted principal amount. In addition to the accretion of principal, the 2019 Notes have a cash coupon interest rate of 3% in the first three years and a cash coupon interest rate of 12% per year thereafter. The 2019 Notes will reach their contractually accreted principal amount on May 9, 2015, and will mature on May 9, 2019.

We may in the future incur additional indebtedness, including long-term debt, credit lines and property and equipment financings to finance capital expenditures. We intend to satisfy our current and future debt service obligations from cash generated by our operations, our existing cash and investments and, in the case of principal payments at maturity, funds from external sources. We may not have sufficient funds and we may be unable to arrange for additional financing to satisfy our principal or interest payment obligations when those obligations become due. Funds from external sources may not be available on acceptable terms, or at all.

Our indebtedness could have significant additional negative consequences, including:

 

   

increasing our vulnerability to general adverse economic and industry conditions,

 

   

limiting our ability to obtain additional financing,

 

   

requiring the dedication of a substantial portion of our cash flow from operations to service our indebtedness, thereby reducing the amount of our expected cash flow available for other purposes, including funding our commercial operations, capital expenditures and research and development,

 

   

limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we compete, and

 

   

placing us at a possible competitive disadvantage to less leveraged competitors and competitors that have better access to capital resources.

Moreover, the indentures governing both series of our notes provide for repurchase by us, at the note-holders’ option, under certain circumstances. In the event we are required to repurchase all or a substantial portion our outstanding indebtedness, our business will be materially adversely affected.

In addition, the indenture governing our 2019 Notes contains a number of restrictive covenants that impose significant operating and financial restrictions on us and may limit our ability to engage in acts that may be in our long-term best interest, including restrictions on our ability to:

 

   

incur additional indebtedness and guarantee indebtedness,

 

   

pay dividends or make other distributions or repurchase or redeem capital stock,

 

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prepay, redeem or repurchase certain debt,

 

   

issue certain preferred stock or similar equity securities,

 

   

make loans and investments,

 

   

sell assets,

 

   

incur liens,

 

   

enter into transactions with affiliates,

 

   

alter the businesses we conduct,

 

   

enter into agreements restricting our subsidiaries’ ability to pay dividends, and

 

   

consolidate, merge or sell all or substantially all of our assets.

However, while the indenture governing the 2019 Notes places limitations on our ability to pay dividends or make other distributions, repurchase or redeem capital stock, and make loans and investments, these limitations are subject to significant qualifications and exceptions. You should read our more detailed descriptions of indebtedness and the indenture governing our 2019 Notes in our filings with the SEC, as well as the documents themselves, for further information about these covenants.

We expect sales of Oxandrin and oxandrolone to continue to decrease, which may continue to harm our results of operations.

Sales of Oxandrin and oxandrolone have declined substantially in recent years due to generic competition. Our sales of Oxandrin and oxandrolone in the United States are also affected by fluctuations in the buying patterns of the three major drug wholesalers to which we principally sell these products. In the past, wholesalers have reduced their inventories of Oxandrin and oxandrolone. We expect that wholesalers will keep their inventory levels flat or continue to reduce them as a result of generic competition, which could further decrease our revenues from these products.

Sales of Oxandrin and oxandrolone have also decreased as a result of the elimination of reimbursement, or limited reimbursement practices, by some states under their AIDS Drug Assistance Programs via their state Medicaid programs for HIV/AIDS prescription drugs, including Oxandrin and oxandrolone. Other state formularies may follow suit.

In addition, we no longer have an effective agreement with a third-party manufacturer to produce Oxandrin and oxandrolone tablets and therefore our ability to supply the market with Oxandrin and oxandrolone will be materially diminished and our existing market share will decrease.

An event of default under our outstanding indebtedness would irreparably harm our business.

An uncured event of default or cross-default under our 2018 Convertible Notes or our 2019 Senior Notes would result in the acceleration of this indebtedness. In such an event, unless we were able to find alternative means to refinance our outstanding indebtedness or to agree with other holders of our indebtedness not to demand immediate payment of our indebtedness, our business and financial condition would be materially and irreparably harmed.

Our stock price is volatile, which could adversely affect your investment.

Our stock price has been, and will likely continue to be, volatile. The stock market in general and the market for biotechnology companies in particular has experienced extreme volatility that has often been unrelated to the operating performance of particular companies. The market price of our common stock may be influenced by many factors, including:

 

   

the cost of commercialization activities, including product marketing, sales and distribution,

 

   

whether we are successful in marketing and selling KRYSTEXXA,

 

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market acceptance of KRYSTEXXA by physicians and patients in this largely previously untreated patient population,

 

   

the cost of our post-approval commitments to the FDA, including an observational study and a REMS program,

 

   

the price that we charge for KRYSTEXXA and under what conditions private and public payors will reimburse patients for KRYSTEXXA,

 

   

whether and when we face generic or other competition with respect to KRYSTEXXA,

 

   

our ability to maintain a sufficient inventory of KRYSTEXXA to meet commercial demand,

 

   

the timing and costs of regulatory approval for KRYSTEXXA in any countries other than the United States and EU,

 

   

the timing of any future capital raising transactions by us, and the structure of such transactions and amount of capital raised,

 

   

our ability to conclude collaborations and partnerships in the EU and other regions of the world on terms favorable to us,

 

   

our ability to successfully obtain a complete dismissal of the remaining claims of the creditor derivative action brought by one of the holders of our Senior Notes,

 

   

announcements of technological innovations or developments relating to competitive products or product candidates,

 

   

market conditions in the pharmaceutical and biotechnology industries and the issuance of new or revised securities analyst reports or recommendations,

 

   

period-to-period fluctuations in our financial results,

 

   

legal and regulatory developments in the United States and foreign countries, and

 

   

other factors described in this “Risk Factors” section.

This volatility may impose a greater risk of capital losses for our stockholders than a less volatile stock, and may make it difficult to ascribe a stable valuation to a stockholder’s holdings of our common stock. This volatility may affect the price at which our investors may sell their common stock, and any sale of substantial amounts of our common stock could adversely affect the market price of our common stock.

Effecting a change of control of our company could be difficult, which may discourage offers for shares of our common stock.

Our certificate of incorporation and the Delaware General Corporation Law, or the DGCL, contain provisions that may delay or prevent a merger, acquisition or other change of control that stockholders may consider favorable, including transactions in which stockholders might otherwise receive a premium for their shares. These provisions include the requirements of Section 203 of the DGCL. Section 203 prohibits a publicly held Delaware corporation from engaging in a business combination with an “interested stockholder,” generally deemed a person that, together with its affiliates, owns or within the last three years has owned 15% of our voting stock, for a period of three years after the date of the transaction in which the person became an interested stockholder, unless:

 

   

our Board of Directors approves the transaction before the third party acquires 15% of our stock,

 

   

the third party acquires at least 85% of our stock at the time its ownership exceeds the 15% level, or

 

   

our Board of Directors and the holders of two-thirds of the shares of our common stock not held by the third-party vote in favor of the transaction.

 

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We have also adopted a stockholder rights plan intended to deter hostile or coercive attempts to acquire us. Under the plan, which expires in August 2013 at the earliest, if any person or group acquires more than 15% of our common stock without approval of our board of directors under specified circumstances, our other stockholders have the right to purchase shares of our common stock, or shares of the acquiring company, at a substantial discount to the public market price. As a result, the plan makes an acquisition much more costly to a potential acquirer.

Our certificate of incorporation also authorizes us to issue up to 4,000,000 shares of preferred stock in one or more different series with terms fixed by our Board of Directors. Stockholder approval is not necessary to issue preferred stock in this manner. Issuance of these shares of preferred stock could have the effect of making it more difficult for a person or group to acquire control of our company. No shares of our preferred stock are currently outstanding. Although our Board of Directors has no current intention or plan to issue any preferred stock, issuance of these shares could be used as an anti-takeover device.

Product liability lawsuits could cause us to incur substantial liabilities.

We face an inherent risk of product liability exposure related to product sales of Oxandrin, oxandrolone and KRYSTEXXA. We also face the risk of product liability exposure related to the testing of KRYSTEXXA. If we cannot successfully defend ourselves against claims that our products caused injuries, we will incur substantial liabilities. Regardless of merit or eventual outcome, liability claims may result in:

 

   

decreased demand for KRYSTEXXA,

 

   

injury to our reputation,

 

   

withdrawal of clinical trial participants,

 

   

withdrawal or recall of a product from the market,

 

   

modification to product labeling that may be unfavorable to us,

 

   

costs to defend the related litigation,

 

   

substantial monetary awards to trial participants or patients, and

 

   

loss of revenue.

We currently have product liability insurance coverage in place, which is subject to coverage limits and deductibles. The amount of insurance that we currently hold may not be adequate to cover all liabilities that may occur. Product liability insurance is difficult to obtain and increasingly expensive. We may not be able to maintain insurance coverage at a reasonable cost and we may not be able to obtain insurance coverage with policy limits that will be adequate to satisfy any liability that may arise.

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

ITEM 2. PROPERTIES

Our corporate headquarters are located in Bridgewater, New Jersey, where we lease approximately 48,469 square feet of office space. The term of the lease is 123 months, and we have a right to extend the term for two additional five year lease terms at fair market value subject to specified terms and conditions. The aggregate minimum lease commitment over the 123 month term of the lease is approximately $15.2 million. The landlord has provided us with a tenant improvement allowance of up to $2.0 million. In addition, we have provided the landlord a letter of credit of $1.5 million, which is secured by a cash deposit and is reflected in other assets (as restricted cash) on our consolidated balance sheets at December 31, 2012.

 

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Our former corporate headquarters are located in East Brunswick, New Jersey, where we lease approximately 53,000 square feet of office space that will expire in March of 2013, which we do not intend to renew. The lease has a base average annual rental expense of approximately $1.9 million.

ITEM 3. LEGAL PROCEEDINGS

On April 30, 2012, a creditor derivative action complaint was filed by one of the holders of our 2018 Convertible Notes, Tang Capital Partners, LP, against us and certain of our current directors and three former directors in the Court of Chancery of the State of Delaware. On May 21, 2012, Tang Capital amended its complaint to add new claims against us and our current and former directors and also to add additional note-holders as plaintiffs. On June 29, 2012, the plaintiffs amended their complaint for a second time to add claims against us relating to an alleged event of default under the 2018 Indenture. As with the April 30 and May 21 complaints, the June 29 complaint also alleges, among other things, that we are insolvent, and seeks the appointment of a receiver. We filed a motion to dismiss the receiver claim in the June 29 complaint on the grounds that the note-holders did not have standing to bring that claim and a motion for summary judgment that an event of default has not occurred under our convertible notes. On July 23, 2012, the Delaware Court of Chancery issued a memorandum opinion granting both of our motions. Specifically, the Court determined that the note-holders do not have standing to bring an action to appoint a receiver for us and that an event of default has not occurred under our convertible notes. We have moved to dismiss the remaining claims in the June 29 complaint, but that motion has not yet been decided. On June 8, 2012, we filed a cross-complaint against Tang Capital, which was subsequently amended on August 31, 2012. The amended complaint alleges a claim for breach of a non-disclosure agreement between us and Tang and for tortious interference with our business and contractual relations. Our amended complaint remains outstanding.

From time to time, we are subject to other legal proceedings and claims in the ordinary course of business. Such claims, even if without merit, could result in significant expenditure of our financial and managerial resources. We are not aware of any legal proceedings or claims that we believe will, individually or in the aggregate, materially harm our business, results of operations, financial condition, liquidity or cash flows.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable

 

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PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock is quoted on The NASDAQ Global Market under the symbol “SVNT”. The following table sets forth, for the periods indicated, the high and low sales prices per share of our common stock from January 1, 2011 through December 31, 2012 as reported by The NASDAQ Global Market.

 

     High      Low  

2011

     

First Quarter

   $ 11.60       $ 9.06   

Second Quarter

     11.91         6.56   

Third Quarter

     8.03         3.53   

Fourth Quarter

     4.20         2.04   

2012

     

First Quarter

   $ 2.65       $ 1.82   

Second Quarter

     2.42         0.52   

Third Quarter

     2.95         0.48   

Fourth Quarter

     2.64         1.04   

The number of stockholders of record of our common stock on March 18, 2013 was approximately 668.

We have never declared or paid a cash dividend on our common stock, and we do not expect to pay cash dividends to the holders of our common stock in the foreseeable future. The Company’s ability to pay dividends is restricted by covenants in the indenture governing the 2019 Notes.

 

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STOCK PERFORMANCE GRAPH

The following graph compares the cumulative total return of our common stock with the cumulative total returns on the (i) NASDAQ Composite, (ii) Nasdaq Pharmaceutical and (iii) Nasdaq Biotechnology indices for the period from December 31, 2007 through December 31, 2012. The graph assumes (a) $100 was invested on December 31, 2007 in our common stock and the stocks in each of the indices and (b) the reinvestment of dividends. The comparisons in the graph below are based on historical data and are not indicative of, or intended to forecast, possible future performance of our common stock.

 

LOGO

Fiscal year ending December 31,

 

     2007      2008      2009      2010      2011      2012  

Savient Pharmaceuticals, Inc.

     100.00         25.21         59.25         48.50         9.71         4.57   

NASDAQ Composite

     100.00         59.08         82.32         97.50         98.93         111.10   

NASDAQ Pharmaceutical

     100.00         97.66         104.97         111.73         123.23         165.09   

NASDAQ Biotechnology

     100.00         93.40         103.19         113.89         129.12         163.33   

 

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ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA

The consolidated statements of operations data for each of the years in the five-year period ended December 31, 2012 and the consolidated balance sheet data as of December 31, 2012, 2011, 2010, 2009 and 2008 are derived from our audited consolidated financial statements. The selected consolidated financial data should be read in conjunction with our consolidated financial statements and the Notes to the consolidated financial statements and “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.

 

    Year Ended December 31,  
    2012     2011     2010     2009     2008  
    (In thousands, except per share data)  

Statement of Operations Data:

         

Product sales, net

  $ 18,023      $ 9,565      $ 4,028      $ 2,956      $ 3,028   

Other revenues

    —          —          —          4        153   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

    18,023        9,565        4,028        2,960        3,181   

Cost of goods sold and expenses

    137,121        125,001        60,012        84,122        92,192   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss from continuing operations

    (119,098     (115,436     (55,984     (81,162     (89,011

Other income (expense), net and investment income

    2,878        2,978        (17,134 )     (11,762     753   

Interest expense on debt

    (23,892     (16,357     —          —          —     

Gain on extinguishment of debt

    21,800        —          —          —          —     

Income tax benefit

    —          (26,788     (9     (2,071     (5,017 )
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss from continuing operations

    (118,312     (102,027     (73,109     (90,853     (83,241

Loss from discontinued operations

    —          —          —          —          (928
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

  $ (118,312   $ (102,027   $ (73,109   $ (90,853   $ (84,169 )
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss per common share from continuing operations:

         

Basic and diluted

  $ (1.67   $ (1.46   $ (1.08   $ (1.51   $ (1.55
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss per common share from discontinued operations:

         

Basic and diluted

  $ —        $ —        $ —        $ —        $ (0.02
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss per common share:

         

Basic and diluted

  $ (1.67   $ (1.46   $ (1.08   $ (1.51   $ (1.57 )
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Weighted-average number of common and common equivalent shares:

         

Basic and diluted

    70,819        70,117        67,435        59,997        53,533   
    As of December 31,  
    2012     2011     2010     2009     2008  
    (In thousands)  

Balance Sheet Data:

         

Cash, cash equivalents and short-term investments.

  $ 96,281      $ 169,788      $ 64,861      $ 108,175      $ 78,597   

Accounts receivable, net

    4,341        4,737        909        352        822   

Inventories, net

    4,325        10,924        3,140        585        1,892   

Total current assets

    109,314        189,635        71,325        112,520        89,619   

Total assets

    119,206        197,116        73,418        114,808        94,022   

Total current liabilities

    31,616        30,065        18,052        44,700        24,989   

Long-term debt

    222,914        175,458        —          —          —     

Other long-term liabilities

    2,973        3        6,099        5,909        5,609   

Accumulated deficit

    (535,915     (417,603     (315,576     (242,467     (151,614

Stockholders’ equity (deficit)

    (138,297     (8,410     49,267        64,199        63,424   

 

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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This management’s discussion and analysis of financial condition and results of operations contains forward-looking statements that involve risks, uncertainties and assumptions. You should read the following discussion in conjunction with our consolidated financial statements and the related notes. The results of operations for the periods reflected herein are not necessarily indicative of results that may be expected for future periods, and our actual results may differ materially from those discussed in the forward-looking statements as a result of various factors, including but not limited to those listed under “Risk Factors” included elsewhere in this report.

Overview

We are a specialty biopharmaceutical company focused on commercializing KRYSTEXXA throughout the world. KRYSTEXXA was approved for marketing by the U.S. Food and Drug Administration, or FDA, on September 14, 2010 and became commercially available in the United States by prescription on December 1, 2010, when we commenced sales and shipments to our network of specialty and wholesale distributors. On January 7, 2013, our wholly owned subsidiary, Savient Pharma Ireland Limited, was granted a marketing authorization from the European Commission for KRYSTEXXA to be marketed in the European Union, or EU. KRYSTEXXA was approved in the EU for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. We continue to focus on our pre-launch activities for KRYSTEXXA in the EU, while we advance our examination of collaboration and partnership opportunities for the commercial launch of KRYSTEXXA in the EU. At this time, we cannot estimate the timeline for the consummation of any potential deal for EU commercialization, for which a transaction must be in place prior to a launch in that region. We see opportunity for KRYSTEXXA in other regions around the world and thus, we are also continuing to explore collaboration and partnership opportunities for the regulatory approval and commercialization of KRYSTEXXA outside of the United States and EU.

On February 19, 2013, we announced that we entered into an agreement with Swedish Orphan Biovitrum AB, or Sobi, an international specialty healthcare company dedicated to rare diseases, for the co-promotion of Kineret®, a treatment for rheumatoid arthritis, in the U.S. Under the terms of the agreement, Sobi has granted to us the exclusive right to co-promote the sale of Kineret with Sobi in the U.S. We will market and promote Kineret beginning April 1, 2013. We earn a co-promotion fee from this arrangement based upon fifty percent of incremental gross profit earned from Kineret in a year as compared to 2012 adjusted gross profit as the base year.

KRYSTEXXA is indicated in the United States for the treatment of chronic gout in adult patients refractory to conventional therapy, a condition that we refer to as refractory chronic gout, or RCG. RCG occurs in patients who have failed to normalize serum uric acid and whose signs and symptoms are inadequately controlled with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these drugs are contraindicated. KRYSTEXXA is not recommended for the treatment of asymptomatic hyperuricemia, an elevation of blood concentration of uric acid not associated with gout. The active pharmaceutical ingredient, or API, in KRYSTEXXA is a PEGylated uric acid specific enzyme that converts uric acid to allantoin, which is readily eliminated primarily through the kidney. We believe that treatment with KRYSTEXXA provides clinical benefits by eliminating uric acid in the blood and tissue deposits of urate.

During the first quarter of 2011, we worked together with a leading independent life science consulting firm to conduct a comprehensive market research study to determine the number of adult patients in the United States who are suffering from RCG, which we refer to as the KRYSTEXXA Market Study. The KRYSTEXXA Market Study was conducted using both secondary data sources and primary market research. The secondary data sources were used to quantify the diagnosed prevalent gout population and the treated gout population and included all available published literature, including the National Health and Nutrition Examination Survey, or

 

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NHANES, a program of studies sponsored by the United States Centers for Disease Control and Prevention designed to assess the health and nutritional status of adults and children in the United States, Medicare claims data and commercial insurance claims data. The market size for KRYSTEXXA is difficult to predict with accuracy and the KRYSTEXXA Market Study, completed in July 2011, indicated that there are approximately 120,000 RCG patients in the United States, or approximately 4.2% of the overall annual treated gout population in the United States. However, the actual number of adult patients with RCG in the United States market may be substantially lower than our estimate. Furthermore, not all of these patients may be engaged with the healthcare system and if engaged in the healthcare system, may not be seeking treatment with Rheumatologists which whom we currently concentrate most of our commercial efforts. Additionally, we believe we are presently only reaching a select portion of this overall market defined by our current approved labeling, as actual customer usage to date appears limited to the most severe RCG patients which we estimate as being between 20,000 and 40,000 patients in the United States. Ultimately, the total available market opportunity for KRYSTEXXA and our ability to penetrate that market will depend on, among other things, our patient and physician education programs, our marketing and sales efforts, reimbursement environment, market acceptance by physicians, infusion site personnel, healthcare payors and others in the medical community, and referrals by various specialty physicians to administering clinicians. We are also engaged in market sizing studies for KRYSTEXXA with respect to the EU and the rest of the world.

We believe that the clinical community and payors will continue to see the value of KRYSTEXXA and that there is a certain amount of price elasticity for the product. Over the past year, we increased the selling price of KRYSTEXXA by approximately 29% from the original list price of $2,300 per 8 mg vial to $2,962 per 8 mg vial and most recently, by an additional 30% to $3,850 per 8 mg vial, effective January 16, 2013.

On July 9, 2012, we initiated a reorganization plan which includes organizational changes designed to improve our operational efficiencies while ensuring continued focus on the commercialization of KRYSTEXXA and the advancement of our clinical development programs. As part of the initiative, we decreased our work-force by approximately 35%, including vacancies, effective September 10, 2012. Following the reduction in force, we have a U.S. sales force consisting of 38 key account managers, three regional directors, four managed care executives and four area business specialists. To support the safe and effective use of KRYSTEXXA in the commercial setting, we have a field-based medical affairs function consisting of 8 regional medical scientists, or RMSs, in the U.S., coupled with an additional 5 RMSs in the EU, who educate clinicians through reactive presentations of the clinical data. As we proceed forward with the commercialization of KRYSTEXXA, we may adjust the size of our organization as necessary. Our sales force targets rheumatologists and nephrologists with access to infusion centers and healthcare institutions, each of which treat adult patients suffering from RCG, as well as podiatrists who may also refer patients with RCG. Our reorganization plan is expected to generate approximately $50 to $55 million in annual operating expense savings during the 2013 fiscal year, by reducing non-workforce related operating expenses across all functional areas and by reducing salary, bonus and benefit related operating costs. Partially offsetting these operating cost savings are approximately $10 to $15 million in higher expenses to be incurred during 2013 due to EU pre-launch marketing activities and U.S. clinical trial costs.

To date, our U.S. sales force has reached the majority of key rheumatologists and nephrologists located in private practices, infusion centers, hospitals, academic institutions and U.S. Department of Veterans Affairs, or the VA, medical centers. However, we believe that sales of KRYSTEXXA have been hampered by the lack of information that was available to prescribers at the time of the commercial launch of KRYSTEXXA and concerns over Medicare Part B reimbursement. In an effort to address the lack of information available to prescribers, in August 2011, we published data from our two pivotal KRYSTEXXA Phase 3 clinical trials in patients with RCG in the Journal of the American Medical Association, or JAMA. The data published in JAMA demonstrated that treatment with KRYSTEXXA resulted in significant and sustained reductions in uric acid levels along with clinical improvements in a substantial percentage of RCG patients for six months, a timeframe for demonstrating clinical improvement that is unique in randomized controlled studies of urate-lowering therapies. In addition, 40% of patients with gouty tophi at the commencement of the study receiving

 

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KRYSTEXXA experienced complete resolution of one or more tophi by the final study visit, compared to 7% of patients on placebo. The datum published also included a summary of adverse events that occurred in at least 5% of the patients in the trial, including gout flares, infusion reactions, nausea, contusion or ecchymosis, nasopharyngitis, constipation, chest pain, anaphylaxis and vomiting. In addition, a manuscript showing the improvement in patient reported outcomes following treatment with KRYSTEXXA was published in the June 27, 2012 Journal of Rheumatology. Unlike the objective end points of a clinical trial, such as the lowering of serum uric acid, patient reported outcomes measure subjective aspects, such as reduction in pain, or improvement in the patient’s quality of life.

During the first quarter of 2012, we updated our clinical development plan for KRYSTEXXA and are undertaking a targeted and focused approach to expanding the clinical utility of KRYSTEXXA into populations beyond RCG. For example, a significant number of severe gout patients have underlying chronic renal disease that can affect treatment options. Clinicians are reluctant to use conventional urate lowering agents in patients with significant renal disease and when they do use them, it is often in doses that have little effect on serum uric acid levels. Further, in patients with gout who have undergone solid organ transplantation, including renal transplantation, the use of conventional urate lowering treatments is actually contraindicated in many of those patients receiving certain types of immunosuppressive agents. Certain results observed in the Phase 3 clinical trials for KRYSTEXXA support effective treatment with KRYSTEXXA in these circumstances. In view of these findings, a key area of focus for our clinical development plan will be to confirm whether KRYSTEXXA is dialyzable. A study looking at the use of KRYSTEXXA in patients undergoing renal dialysis has completed enrollment and we expect data in mid-2013. We will also explore whether KRYSTEXXA can be used safely and effectively in patients with gout who have undergone solid organ transplantation. We believe these are areas of significant unmet medical needs in view of the difficulties with conventional uric lowering therapies, or ULTs, in these populations.

We are also exploring methods to mitigate the antibody formation that occurs to the molecule via the immunogenicity trial due to begin in the third quarter of 2013. This trial will test a new dosing schedule designed to induce a high zone tolerance. We believe that it will further reduce the incidence of infusion reactions and increase the number of patients who maintain their response to KRYSTEXXA over the long term. In the Phase 3 clinical development program, 42% of patients maintained their response to KRYSTEXXA over the six-month period of the trials. Many of the patients who discontinued from these trials lost their therapeutic response due to the development of high-titer antibodies. If the immunogenicity trial is successful, we believe fewer patients will develop high-titer antibodies and thereby better able to maintain their therapeutic response over a longer period of time.

In addition, there is a large pool of patients who have severe tophaceous gout who fall outside of the RCG population primarily because their conventional ULT therapy is not at a maximum dose. The KRYSTEXXA Market Study indicated that approximately 500,000 to 700,000 patients in the U.S. currently have tophaceous gout and uncontrolled uric acid levels but were not considered in the RCG market because their conventional ULT therapy is not at a maximum dose. However, because of the size and/or location of their tophi, their physical functioning is impaired. Because KRYSTEXXA rapidly lowers serum uric acid levels and has a significant and rapid effect on reducing tophi and total body urate stores, we believe these patients can benefit from an induction / maintenance therapy with KRYSTEXXA. A Phase 4 clinical study to examine the use of KRYSTEXXA as an induction (debulking) therapy in patients with severe tophaceous gout is a possible future strategy for expanding the market opportunity for KRYSTEXXA. Because the immunogenicity trial may result in a different dosing schedule for KRYSTEXXA and higher response rates, we decided to push back the start of the induction/maintenance trials until the data from the immunogenicity trial is available. We believe this would allow us to conduct the induction/maintenance trials with fewer patients and at less cost, while further lessening the risk of infusion reactions for the patients.

Data from our open label long term extension trial was published in Annals of Rheumatic Disease on-line on November 10, 2012. This article provides key clinical data on patients who have been receiving KRYSTEXXA

 

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for an additional 30 months and is critical for clinicians as they better understand the clinical benefits of long-term KRYSTEXXA use for their patients and how to manage possible side effects. Additionally, a review article on RCG and the use of pegloticase was published in the April 2012 issue of the International Journal of Clinical Rheumatology. Furthermore, an appraisal of the role of pegloticase in the management of gout was published in the 2012 issue of Open Access Rheumatology: Research and Reviews. Finally, a review article on the Evaluation and treatment of gout as a chronic disease was published on-line in the journal Advances in Therapy in October 2012. This article describes the population with refractory chronic gout and the role pegloticase plays in the treatment of this condition.

In June 2012, we presented data at an oral session conducted by the European League Against Rheumatism, or EULAR, congress that demonstrated that patients with RCG who also suffer from chronic kidney disease, or CKD, stages one through four, responded to treatment with KRYSTEXXA. We believe this is a significant finding as there are currently limited treatment options available for refractory chronic patients with CKD because impaired kidney function can reduce the ability of conventional gout treatments to lower uric acid and decrease a patient’s threshold for treatment-related toxicity. Six additional abstracts, including a study measuring the impact of gout pain on quality of life in Western Europe, were accepted for presentation or publication at EULAR.

In November 2012, we presented the following eight posters related to KRYSTEXXA at the American College of Rheumatology, or ACR:

 

   

Complete Tophus Response in Patients with Chronic Gout Initiating Pegloticase Treatment,

 

   

Clinical Efficacy Outcomes with Up to 3 Years of Pegloticase Treatment for Refractory Chronic Gout,

 

   

Improvements in Long-Term Health-Related Quality of Life in Chronic Gout Patients Refractory to Conventional Therapies Treated with Pegloticase: Results from Responder Cohort,

 

   

Patterns of Gout Treatment and Related Outcomes in US Community Rheumatology Practices: the Relation Between Gout Flares, Time in Treatment, Serum Uric Acid Level and Urate Lowering Therapy,

 

   

Pegloticase Long-Term Safety: Data from the Open Label Extension Trial,

 

   

Post-Marketing Safety Surveillance Data Reveals Patterns of Use for Pegloticase in Refractory Chronic Gout,

 

   

Relative Risk of Infusion Reactions with KRYSTEXXA® (pegloticase) from Post-Approval Safety Data: Results from Sept 2010 to June 2012, and

 

   

Serum Uric Acid as a Biomarker for Mitigation of Infusion Reactions in Patients Treated with Pegloticase for Refractory Chronic Gout.

On January 1, 2012, KRYSTEXXA received a permanent J Code, which facilitates reimbursement to providers who treat patients suffering with RCG and who rely on Medicare and Medicaid. We were also awarded a contract from the VA which covered KRYSTEXXA reimbursement for VA member patients as of April 1, 2011 at an approximate 24% discount to our original list selling price of $2,300 per 8 mg vial. On January 16, 2013, we increased the list selling price of KRYSTEXXA to $3,850 per 8 mg vial and VA member patients now receive an approximate 59% discount to our list price. We expect that this discount will remain the same or increase in the future contingent on price actions that we may take. The VA has also recently issued a KRYSTEXXA monograph and criteria for use. In addition, KRYSTEXXA currently enjoys broad coverage for RCG patients through managed care and private payor organizations. Also, ACR published their treatment guidelines for gout and KRYSTEXXA was included in these guidelines. In six of nine case scenarios defined by ACR, KRYSTEXXA is considered an appropriate therapeutic option for treatment of refractory disease.

 

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In June 2011, we implemented the KRYSTEXXA Patient Initiation Program, or KPIP, which provided RCG patients with two free doses of KRYSTEXXA. We believe that this initiative allows patients to begin therapy and experience the potential benefits of KRYSTEXXA with no or minimal out of pocket expense.

We have built an inventory of finished KRYSTEXXA product at December 31, 2012, that is packaged and labeled for distribution, and additional supplies of bulk API drug substance that are scheduled to be packaged and labeled as part of our ongoing FDA approved commercial manufacturing process. Based on our inventory on hand and in process, we believe we have sufficient inventory to meet our internal market estimates until at least the second quarter of 2015.

On October 19, 2012, we were notified that the European Medicine Agency’s Committee for Medical Products for Human Use, or CHMP, completed its scientific assessment of our Marketing Authorization Application, or MAA, for KRYSTEXXA and issued a positive opinion recommending approval of the MAA for KRYSTEXXA for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. The positive CHMP opinion was based upon a detailed evaluation of the MAA, which included safety and efficacy data from our two pivotal Phase III studies, and a long-term open label extension study of KRYSTEXXA, as well as non-clinical and chemistry, manufacturing and control information. This opinion was transmitted to the European Commission, which has the authority for granting marketing authorizations in the EU. On January 7, 2013, our wholly owned subsidiary, Savient Pharma Ireland Ltd. was granted a marketing authorization from the European Commission for KRYSTEXXA in the EU, for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated. As part of the marketing authorization received from the European Commission, we will be responsible for post-marketing commitment clinical trials to primarily further examine the safety of KRYSTEXXA. The post-marketing commitment clinical trials are estimated to cost between $25.0 million and $30 million over the next seven years.

In March 2012, KRYSTEXXA was made available in the EU to healthcare professionals through a Named Patient Program. The program was initially offered on a for-fee basis but has since been offered free of charge since July 2012. This program is sponsored by our wholly-owned subsidiary, Savient Pharma Ireland Limited and managed by a third-party service provider.

In further support of our launch planning activities for KRYSTEXXA in Europe, we have advanced the development of reimbursement and pricing plans for the region and engaged RMSs for our key markets and commenced Key Opinion Leader, or KOL, interactions. We currently have a total of 5 RMSs across the UK, Germany and France. The RMSs are responsible for disease state awareness and education surrounding severe debilitating chronic tophaceous gout. By the end of December 2012, the RMSs have called on greater than 300 KOLs with an average frequency of 2 visits per KOL in Europe

We also sell and distribute branded and generic versions of oxandrolone, a drug used to promote weight gain following involuntary weight loss. We launched our authorized generic version of oxandrolone in December 2006 in response to the approval and launch of generic competition to our branded product, Oxandrin®. The introduction of oxandrolone generics has led to significant decreases in demand for Oxandrin and our authorized generic version of oxandrolone. We believe that revenues from Oxandrin and our authorized generic version of oxandrolone will continue to decrease in future periods primarily as a result of the expiration of our contract agreement with our third-party manufacturer. We do not actively market and do not plan on seeking a new third-party manufacturer of Oxandrin or oxandrolone. We have and will continue to explore divestiture or out-license opportunities for these products.

On May 9, 2012, certain holders of our currently outstanding 2018 Convertible Notes exchanged approximately $108.0 million (principal amount) of such notes for Units, comprised of 2019 Notes, having a

 

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principal amount upon full accretion equivalent to the principal amount of the corresponding exchanged 2018 Convertible Notes, and warrants to purchase approximately 4.0 million shares of our common stock at an exercise price of $1.863 per share. The 2019 Notes were recorded at a 26.22% discount to par. In addition to the accretion of principal, the 2019 Notes have a cash coupon interest rate of 3% in the first three years and a cash coupon interest rate of 12% per year thereafter until their maturity date. The 2019 Notes contractually reach their fully accreted principal amount on May 9, 2015, and will mature on May 9, 2019. Simultaneously, the holders of the 2018 Convertible Notes which were exchanged also purchased additional Units, comprised of 2019 Notes and warrants, the purchase price of which was $46.8 million. The principal amount of the 2019 Notes issued upon the exchange of the 2018 Convertible Notes, plus the 2019 Notes issued to the holders upon purchase of the additional Units, is $170.9 million. The 2019 Notes are secured by substantially all of our assets and by the assets and securities of certain of our subsidiaries. We received net cash proceeds after expenses from this financing transaction of $42.6 million.

We currently operate within one “Specialty Pharmaceutical” segment, which includes the sales and research and development activities of KRYSTEXXA and the sales of Oxandrin and oxandrolone. Total revenues were $18.0 million for year ended December 31, 2012, an increase of $8.4 million, or 88%, from $9.6 million for year ended December 31, 2011.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which we have prepared in accordance with generally accepted accounting principles, or GAAP, in the United States. Our consolidated financial statements include certain amounts that are based on management’s best estimates and judgments. Estimates are used when accounting for amounts recorded in connection with fair value determinations of assets and liabilities including the provisions for sales discounts and returns, depreciable and amortizable lives, recoverability of inventories, amounts recorded for contingencies, share-based compensation assumptions, impairments of long-lived assets and investments, and taxes on income. Because of the uncertainty inherent in such estimates, actual results may differ from these estimates. While our accounting policies are more fully described in Note 1 to our consolidated financial statements included in Item 8 of this Annual Report on Form 10-K, we believe that the application of the following accounting policies result in accounting estimates having the potential for the most significant impact on the financial statements.

Product revenue recognition. We generate revenue from product sales. Revenue is not recognized until it is realized or realizable and earned. Revenue is realized or realizable and earned when all of the following criteria are met: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred or services have been rendered, (iii) our price to the buyer is fixed and determinable, and (iv) collectability is reasonably assured.

Revenue from sales transactions where the buyer has the right to return the product is recognized at the time of sale only if (i) the seller’s price to the buyer is substantially fixed or determinable at the date of sale, (ii) the buyer has paid the seller, or the buyer is obligated to pay the seller and the obligation is not contingent on resale of the product, (iii) the buyer’s obligation to the seller would not be changed in the event of theft or physical destruction or damage of the product, (iv) the buyer acquiring the product for resale has economic substance apart from that provided by the seller, (v) the seller does not have significant obligations for future performance to directly bring about resale of the product by the buyer, and (vi) the amount of future returns can be reasonably estimated.

Given our limited sales history for KRYSTEXXA coupled with the product being a new entry into its market, we believe that we are currently unable to reasonably estimate future product returns. Therefore, we have determined that the shipments of KRYSTEXXA made to specialty distributors do not meet the criteria for revenue recognition at the time of shipment, and, accordingly, such shipments are accounted for using the sell-through method. Under the sell-through method, we do not recognize revenue upon shipment of KRYSTEXXA to specialty distributors. For these product sales, we invoice the specialty distributor and record

 

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deferred revenue equal to the gross invoice price. We then recognize revenue when KRYSTEXXA is sold through, or upon shipment of the product from the specialty distributors to their customers, including doctors and infusion sites. Because of the price of KRYSTEXXA, the short period from sale of product to patient infusion and limited product return rights, KRYSTEXXA distributors and their customers generally carry limited inventory. We are also selling KRYSTEXXA to wholesalers whereby we drop ship the product directly to hospitals. As there is limited risk of returns from hospitals as infusions will be taking place in their facilities, we are recording revenue when KRYSTEXXA has been received at the hospital and title has transferred in accordance with the terms of sale.

Oxandrin product sales are generally recognized when title to the product has transferred to our customers in accordance with the terms of the sale. We ship our authorized generic oxandrolone to our distributor and account for these shipments on a consignment basis until product is sold into the retail market. We defer the recognition of revenue related to these shipments until we confirm that the product has been sold into the retail market and all other revenue recognition criteria have been met.

Gross to Net Sales Accruals. Our net product revenues represent gross product revenues less allowances for returns, Medicaid rebates, other government rebates and chargebacks, discounts, and distribution fees.

Allowance for Product returns. In general, it is our policy to provide credit for product returns for KRYSTEXXA that are returned six months after the product expiration date and for Oxandrin and generic oxandrolone that are returned six months prior to the product expiration date and twelve months after the product expiration date. As noted above in our revenue recognition discussion, given our limited sales history for KRYSTEXXA coupled with the product being a new entry into its market, we are currently unable to reasonably estimate future product returns.

Upon sale of Oxandrin and oxandrolone, the Company estimates an allowance for future returns. In order to reasonably estimate future returns, the Company analyzes both quantitative and qualitative information including, but not limited to, actual return rates by lot productions, the level of product manufactured by the Company, the level of product in the distribution channel, expected shelf life of the product, current and projected product demand, the introduction of new or generic products that may erode current demand, and general economic and industry-wide indicators.

The aggregate net product return allowance reserve for Oxandrin and oxandrolone was $0.5 million, $0.9 million and $0.5 million at December 31, 2012, 2011 and 2010, respectively. A tabular roll-forward of the activity related to the allowance for product returns is as follows:

 

            Expense Provisions     Actual Deductions               

Description

   Balance at
Beginning
of Period
     Related to
Current
Year
Sales
     Related to
Prior
Period
Sales
    Related to
Current
Year
Sales
    Related to
Prior
Period
Sales
    Other
Deductions
     Balance at
End
of Period
 
     (In thousands)  

Allowance for sales returns:

                 

2012

   $ 852         259         (53     (84     (449     —         $ 525   

2011

   $ 469         132         268        —          (17     —         $ 852   

2010

   $ 1,033         128         (363     —          (329     —         $ 469   

Allowances for Medicaid, other government rebates and other rebates. The Company’s contracts with the Center for Medicaid and Medicare Services, or CMS, and other government agencies such as the Federal Supply System commit the Company to providing those agencies with its most favorable pricing. This ensures that the Company’s products remain eligible for purchase or reimbursement under these government-funded programs. Based upon the Company’s contracts and the most recent experience with respect to sales of KRYSTEXXA, Oxandrin and oxandrolone through each of these channels, the Company provides an allowance for rebates. The Company monitors the sales trends and adjusts the rebate percentages on a regular basis to reflect the most recent rebate experience.

 

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Chargeback Accruals. Chargeback accruals are based on two types of transactions. The first type of chargeback accrual would be reflective of the difference between product acquisition prices paid by wholesalers and lower government contract pricing paid by eligible customers covered under federally qualified programs. Additionally, we record chargeback accruals relating to special distributors, to price protect doctors and infusion suites who administer in office infusions of KRYSTEXXA to Medicare patients, due to the delay in governmental reporting of KRYSTEXXA price increases which impacts reimbursement.

A tabular roll-forward of the activity related to the allowances for Medicaid and other government and other rebates, for the years ended December 31, 2012, 2011 and 2010 is as follows:

 

            Expense Provisions     Actual Deductions               

Description

   Balance at
Beginning
of Period
     Related to
Current
Year
Sales
     Related to
Prior
Period
Sales
    Related to
Current
Year
Sales
    Related to
Prior
Period
Sales
    Other
Deductions
     Balance at
End
of Period
 
     (In thousands)  

Allowance for rebates:

                 

2012

   $ 339         2,879         (39 )     (2,452     (488     —         $ 239   

2011

   $ 295         617         (66 )     (278     (229     —         $ 339   

2010

   $ 261         561         —          (266     (261     —         $ 295   

Sales Discount Accruals. Sales discount accruals are based on payment terms extended to customers.

Distributor Fee Accruals. Distributor service fee accruals are based on contractual fees to be paid to the wholesale distributor for services provided.

Inventory valuation. We state inventories at the lower of cost or market. Cost is determined based on actual cost. An allowance is established when management determines that certain inventories may not be saleable. If inventory costs exceed expected market value due to obsolescence or quantities in excess of expected demand, we record reserves for the difference between the cost and the market value. These reserves are recorded based upon various factors for our products, including the level of product manufactured by the Company, the level of product in the distribution channel, current and projected product demand, the expected shelf life of the product and firm inventory purchase commitments.

Share-Based Compensation. We have share-based compensation plans in place and record the associated share-based compensation expense over the requisite service period. The share-based compensation plans and related compensation expense are discussed more fully in Note 11 to the consolidated financial statements.

Compensation expense for service-based stock options is charged against operations on a straight-line basis between the grant date for the option and the vesting period, which is generally four years. We estimate the fair value of all service-based stock option awards as of the grant date by applying the Black-Scholes option pricing valuation model. The application of this valuation model involves assumptions that are highly subjective, judgmental and sensitive in the determination of compensation cost. Compensation cost is adjusted for estimated pre-vesting forfeitures. Options granted have a term of 10 years from the grant date.

Restricted stock and restricted stock units, or RSU’s, that are service-based are recorded as deferred compensation and amortized into compensation expense on a straight-line basis over the vesting period, which ranges from three to four years in duration. Compensation cost for service-based restricted stock and RSU’s is based on the grant date fair value of the award, which is the closing market price of our common stock on the grant date multiplied by the number of shares awarded.

Compensation expense for restricted stock and stock option awards that contain performance conditions, the vesting of which is contingent upon the achievement of various sales and other specific strategic objectives for senior management, is based on the grant date fair value of the award. The grant date fair value of restricted stock

 

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awards that contain performance conditions is equal to the closing market price of our common stock on the grant date multiplied by the number of shares awarded. Compensation expense for restricted stock and stock option awards that contain performance conditions is recorded over the implicit or explicit requisite service period based on management’s assumptions of when the awards are expected to vest. Previously recognized compensation expense for restricted stock and stock option awards that contain performance conditions is fully reversed if performance targets are not satisfied. We continually assess the probability of the attainment of performance conditions and adjust compensation expense accordingly over the remainder of the requisite service period.

Compensation cost for restricted stock and stock option awards that contain a market condition is based on the grant date fair value of the award. We utilize a Monte Carlo simulation model to estimate the grant date fair value. Compensation expense is recorded over the implicit, explicit or derived service period.

Income taxes. Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis and net operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in operations in the period that includes the enactment date. We regularly review our deferred tax assets for recoverability and establish a valuation allowance based on historical taxable income, projected future taxable income, applicable tax strategies, and the expected timing of the reversals of existing temporary differences. A valuation allowance is provided when it is more likely than not that some portion or all of the deferred tax assets will not be realized. In 2012, based on the net operating loss generated in 2012 and historical losses and the uncertainty of profitability in the near future, we concluded that we would maintain a full valuation allowance on all of our deferred tax assets net of deferred tax liabilities and those assets that are reserved by a liability for unrecognized tax benefits. We use judgment in determining income tax provisions and in evaluating our tax positions. Additional provisions for income taxes are established when, despite the belief that tax positions are fully supportable, there remain certain positions that do not meet the minimum probability threshold, which is a tax position that is more-likely-than-not to be sustained upon examination by the applicable taxing authority. We are examined by Federal and state tax authorities. We regularly assess the potential outcomes of these examinations and any future examinations for the current or prior years in determining the adequacy of our provision for income taxes. We continually assess the likelihood and amount of potential adjustments and adjust the income tax provision, the current tax liability and deferred taxes in the period in which the facts that give rise to a revision become known. Under the State of New Jersey Net Operating Loss, or NOL, Transfer Program for small businesses, we were eligible to sell the benefits related to a portion of our New Jersey State NOL carryforwards and have received a net cash payment in the amount of $2.2 million on March 7, 2013 from the sale.

Results of Operations

During 2012, 2011 and 2010, our operating results were substantially driven by expenses related to the commercialization of KRYSTEXXA. We anticipate net operating losses for 2013 and the foreseeable future as we continue to commercialize and develop KRYSTEXXA. Our expenses relating to the commercialization and development of KRYSTEXXA will depend on many factors, including:

 

   

the cost of commercialization activities, including product marketing, sales and distribution,

 

   

the cost of our post-approval commitments to the FDA and European Commission, including observational studies in the EU and U.S. and a REMS program in the U.S.,

 

   

the timing of, and the costs involved in, obtaining regulatory approvals for KRYSTEXXA in countries other than the U.S. and EU,

 

   

the cost of manufacturing activities, and

 

   

clinical development for label expansion.

 

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Our net revenues of $18.0 million for 2012 were derived primarily from product sales of KRYSTEXXA. Following the full commercial launch of KRYSTEXXA in February 2011, sales levels have increased and we expect continued sales momentum into 2013 as a result of our commercialization efforts.

Our future revenues depend on our success in the commercialization of KRYSTEXXA including:

 

   

whether we are successful in executing our commercial strategy for KRYSTEXXA,

 

   

market acceptance of KRYSTEXXA by physicians and patients in the largely previously untreated RCG patient population,

 

   

market acceptance of the price that we charge for KRYSTEXXA and under what conditions private and public payors will reimburse patients for KRYSTEXXA,

 

   

whether and to what extent our label expansion activities for KRYSTEXXA are successful,

 

   

whether and when we face generic or other competition with respect to KRYSTEXXA,

 

   

the timing and costs of regulatory approval for KRYSTEXXA in any countries other than the U.S. and EU, and

 

   

our ability to expand our product offerings.

The following table summarizes net product sales of our commercialized products and their percentage of total net product sales for the periods indicated:

 

     Year Ended December 31,  
     2012     2011     2010  
     (Dollar amounts in thousands)  

KRYSTEXXA

   $ 16,223         90.0   $ 6,199         64.8   $ 18         0.4

Oxandrolone

     1,430         7.9        3,027         31.7        2,686         66.7   

Oxandrin

     370         2.1        339         3.5        1,324         32.9   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
   $ 18,023         100.0   $ 9,565         100.0   $ 4,028         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

The following table summarizes our costs and expenses and indicates the significance of selling, general and administrative costs related to our commercialization of KRYSTEXXA, as well as percentage of total cost of expenses for the periods indicated:

 

     Year Ended December 31,  
     2012     2011     2010  
     (Dollar amounts in thousands)  

Cost of goods sold

   $ 22,382         16.3   $ 9,313         7.5   $ 2,673         4.5

Research and development

     26,238         19.1        24,790         19.8        32,358         53.9   

Selling, general and administrative

     88,501         64.6        90,898         72.7        24,981         41.6   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total costs and expenses

   $ 137,121         100.0   $ 125,001         100.0   $ 60,012         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Results of Operations for the Years Ended December 31, 2012 and December 31, 2011

Revenues

Total revenues increased $8.4 million, or 88%, to $18.0 million for the year ended December 31, 2012, from $9.6 million for the year ended December 31, 2011. The increase is primarily due to incremental KRYSTEXXA sales of $10.0 million as a result of our continued commercialization efforts from the full commercial launch of KRYSTEXXA, which began in February of 2011, and to a lesser extent, the impact of our price increases. During 2012, we increased the selling price of KRYSTEXXA by approximately 29% from the original list price of $2,300 per 8 mg vial to $2,962 per 8 mg vial.

 

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Sales of oxandrolone, our authorized generic version of Oxandrin, decreased $1.6 million, or 53%, to $1.4 million for the year ended December 31, 2012, as compared to $3.0 million for the year ended December 31, 2011, largely due to lower overall demand for the product as a result of increased generic competition. Sales of our branded product, Oxandrin, were consistent with the prior year. We expect that sales of Oxandrin and oxandrolone will continue to decline in future periods due to the impact of generic competition coupled with the expiration of our agreement with our third-party manufacturer of these products. We do not plan on seeking a new third-party manufacturer of Oxandrin and oxandrolone and we are not actively marketing these products. We have and will continue to explore divestiture or out-license opportunities for these products. Based on our current demand for these products, we anticipate that our oxandrolone inventory will run off in the second quarter of 2013 and our Oxandrin inventory will be sufficient to meet demand until expiration, which is the third quarter of 2015.

Cost of goods sold

Cost of goods sold increased $13.1 million, or 140%, to $22.4 million for the year ended December 31, 2012, from $9.3 million for the year ended December 31, 2011. The increase is primarily driven by the year-over-year variance related to charges for inventory and raw materials commitments. For the year ended December 31, 2012 and 2011, we recorded charges of $15.7 million and $4.7 million, respectively, against operations, resulting in a year-over-year increase in cost of goods sold of $11.0 million. These charges, relate to raw material inventory and commitments, and finished goods KRYSTEXXA inventory that we do not believe will be able to sell through to commerce prior to expiration, as a result of lower sales demand forecasts for KRYSTEXXA in future years. The lower sales demand forecasts are primarily due to actual historical experience of our sales trends in the U.S. since launch and delays in certain label expansion clinical studies for KRYSTEXXA, as a result of the re-prioritization and timing of project activities within our strategic plan. Additionally, the sales demand forecast for KRYSTEXXA has been pushed back in the EU as we continue to pursue a partnership opportunity for the commercial launch of KRYSTEXXA.

As a result of the commercialization and commencement of sales of KRYSTEXXA in 2011, we are required to make royalty and sales-based milestone payments under our third-party supply and license and agreements. Royalty and sales-based milestone payments pursuant to these agreements resulted in approximately $1.2 million of additional expense for the year ended December 31, 2012 as compared to the prior year.

Research and development expenses

Research and development expenses increased by $1.4 million, or 6%, to $26.2 million for the year ended December 31, 2012, from $24.8 million for the year ended December 31, 2011. The increase is primarily due to expenses related to the support of our MAA filing and launch activities for KRYSTEXXA in the EU, whereby we have engaged RMSs in our key EU markets to commence KOL interactions. Additionally, we have incurred increased expenses relating to the ramp up of the U.S. patient observation study which is a post-marketing commitment to the FDA.

Selling, general and administrative expenses

Selling, general and administrative expenses decreased $2.4 million, or 3%, to $88.5 million for the year ended December 31, 2012, from $90.9 million for the year ended December 31, 2011, primarily due to a reduction in selling and promotion activities for KRYSTEXXA as the prior year included commercial launch related activities. These launch related activities included significant investments in advisory boards, exhibit booths at rheumatology conferences and market research. Additionally, the lower expenses were due to cost containment activities resulting from our reorganization plan initiated in July 2012.

 

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Interest expense on Convertible Notes

Total interest expense increased by $7.5 million, or 46%, to $23.9 million for the year ended December 31, 2012, from $16.4 million for the year ended December 31, 2011, due to our 2019 Notes that were issued on May 9, 2012. Interest expense for the year ended December 31, 2012 reflects $10.8 million of cash interest expense and $13.1 million of non-cash interest expense.

Gain on extinguishment of debt

On May 9, 2012, we completed the closing of transactions contemplated by certain Exchange and Purchase Agreements, dated May 7, 2012, between us and certain holders of our 2018 Notes. Pursuant to the terms of the Purchase and Exchange Agreements, the Holders exchanged their 2018 Notes, having an aggregate outstanding principal amount equal to approximately $108.0 million, for Units comprised of the new 2019 Notes, having an equivalent aggregate principal amount at maturity, and warrants to purchase an aggregate of 4.0 million shares of our common stock at an exercise price equal to $1.863 per share. The Holders also agreed to purchase simultaneously, additional Units, the aggregate purchase price of which resulted in net proceeds to us of approximately $42.6 million. The aggregate principal amount at maturity of the 2019 Notes issued upon the exchange of the 2018 Notes plus the 2019 Notes issued to the Holders upon purchase of the additional Units is approximately $170.9 million. In accordance with the authoritative accounting guidance described more fully in Note 7 to our consolidated financial statements, we recorded a gain of approximately $21.8 million upon the extinguishment of debt, as a result of exchanging a significant portion of the 2018 Notes for the 2019 Notes that were issued at a discount. The gain arose as the fair value of the 2018 Notes was less than its carry value at the time of the transaction.

Other income (expense), net

Other income (expense), net reflects $2.7 million of income for the year ended December 31, 2012 as compared to $2.8 million of income for the year ended December 31, 2011. Other income, net for the year ended December 31, 2012 reflects a gain of $2.3 million related to the decrease in the fair value of our warrant liability as a result of the mark-to-market valuation adjustment in the current year, as a result of the lower underlying price of our common stock since the date of issuance of the warrants. Other income, net for the year ended December 31, 2011 reflects a $2.0 million benefit for accrued interest and penalties relating to the reversal of an unrecognized tax benefit liability and a $0.8 million reversal of a liability for accrued interest and penalties relating to a state sales and use tax audit.

Income tax benefit

There was no income tax expense or benefit recorded during the year ended December 31, 2012 as we have a full valuation allowance on our NOLs and other tax attributes. The income tax benefit of $26.8 million for the year ended December 31, 2011 was primarily comprised of a $22.7 million income tax benefit that was the result of the recognition of a deferred tax asset equal to the deferred tax liability associated with the issuance of the 2018 Convertible Notes. The balance of the income tax benefit was the result of a reduction in a liability for unrecognized state tax benefits of $3.6 million, which was considered effectively settled due to the completion of a state corporate income tax audit in the first quarter of 2011 and a liability reduction of $0.5 million for other related state tax matters. The $26.8 million tax benefit recorded did not result in additional cash flow for us.

Results of Operations for the Years Ended December 31, 2011 and December 31, 2010

Revenues

Total revenues increased $5.6 million, or 137%, to $9.6 million for the year ended December 31, 2011, from $4.0 million for the year ended December 31, 2010. The increase is primarily due to incremental KRYSTEXXA sales of $6.2 million resulting from the full commercial launch of KRYSTEXXA in February of 2011.

 

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Sales of oxandrolone, our authorized generic version of Oxandrin, increased $0.3 million, or 13%, to $3.0 million for the year ended December 31, 2011, as compared to $2.7 million for the year ended December 31, 2010. The higher sales of oxandrolone were offset by a $1.0 million decrease in net sales of our branded product Oxandrin as compared to the prior year, due to lower overall demand for the product as a result of increased generic competition.

Cost of goods sold

Cost of goods sold increased $6.6 million, or 248%, to $9.3 million for the year ended December 31, 2011, from $2.7 million for the year ended December 31, 2010. The increase in cost of goods sold is primarily due to a $4.7 million charge to reserve for KRYSTEXXA inventory that we do not currently believe we will be able to sell prior to its expiration. In addition, as a result of the commercialization and commencement of sales of KRYSTEXXA in 2011, we are required to make royalty and sales-based milestone payments under our third-party supply and license and agreements. Royalty and sales-based milestone payments pursuant to these agreements resulted in approximately $2.3 million of incremental expense for the year ended December 31, 2011.

Research and development expenses

Research and development expenses decreased by $7.6 million, or 23%, to $24.8 million for the year ended December 31, 2011, from $32.4 million for the year ended December 31, 2010. The decrease is primarily because of the non-recurrence of the $6.8 million in costs resulting from our conformance batch campaign at our potential secondary source supplier of pegloticase drug substance that we incurred in the year ended December 31, 2010. Partially offsetting the above decreases in costs are higher expenses associated with our KRYSTEXXA FDA post-marketing commitment studies.

Selling, general and administrative expenses

Selling, general and administrative expenses increased $65.9 million, or 265%, to $90.9 million for the year ended December 31, 2011, from $25.0 million for the year ended December 31, 2010. The increase was primarily due to increased selling and marketing expenses associated with the commercial launch of KRYSTEXXA as we continue our marketing efforts for the product. Also contributing to the increase in costs is higher headcount compared to the prior year primarily as a result of the hiring of our KRYSTEXXA sales force, reimbursement specialists, nurse educators and managed care specialists.

Interest expense on Convertible Notes

Total interest expense was $16.4 million for the year ended December 31, 2011, consisting of $10.0 million of interest expense from the 4.75% coupon on our Senior Convertible Notes due 2018 and $6.4 million of non-cash interest expense.

Other income (expense), net

Other income (expense), net reflects $2.8 million of income for the year ended December 31, 2011 as compared to $17.3 million of expense for the year ended December 31, 2010, a net positive change of $20.1 million. Other income, net for the year ended December 31, 2011 reflects a current year benefit to income as a result of a $2.0 million benefit for accrued interest and penalties relating to the reversal of an unrecognized tax benefit liability and a $0.8 million reversal of a liability for accrued interest and penalties relating to a state sales and use tax audit. The $17.3 million of expense for the year ended December 31, 2010 substantially represents the mark-to-market adjustment on our previous warrant liability, which was settled in its entirety via warrant exercises during the fourth quarter of 2010.

 

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Income tax benefit

The income tax benefit of $26.8 million for the year ended December 31, 2011 as compared to approximately zero for the year ended December 31, 2010, was primarily comprised of a $22.7 million income tax benefit that was the result of the recognition of a deferred tax asset equal to the deferred tax liability associated with the issuance of the 2018 Convertible Notes. The balance of the income tax benefit was the result of a reduction in a liability for unrecognized state tax benefits of $3.6 million, which was considered effectively settled due to the completion of a state corporate income tax audit in the first quarter 2011 and a liability reduction of $0.5 million for other related state tax matters. The $26.8 million tax benefit recorded did not result in additional cash flow for the Company.

Liquidity and Capital Resources

At December 31, 2012, we had $96.3 million in cash, cash equivalents and short-term investments as compared to $169.8 million at December 31, 2011. We primarily invest our cash equivalents and short-term investments in highly liquid, interest-bearing, U.S. Treasury money market funds and bank certificates of deposit in order to preserve principal.

In February 2011, the Company issued its 2018 Convertible Notes at par ($230.0 million) that become due on February 1, 2018. The Company received cash proceeds from the sale of the 2018 Convertible Notes of $222.7 million, net of expenses. On May 9, 2012, the Company issued its 2019 Notes and warrants (as discussed below) in exchange for a portion of the existing 2018 Convertible Notes and $46.8 million in cash. We received net cash proceeds after expenses from this financing transaction of $42.6 million. Certain holders exchanged their 2018 Convertible Notes, having an outstanding principal amount of $107.6 million, for Units comprised of the 2019 Notes, having a principal amount at maturity of $107.9 million and warrants to purchase 4.0 million shares of the Company’s common stock at an exercise price of $1.863 per share. A Unit consists of $1,000 principal amount of 2019 Notes and warrants to purchase 23.4 shares of common stock. The 2019 Notes are senior to the 2018 Convertible Notes. In connection with the debt exchange discussed above, certain income tax deductions for discount amortization and interest will be permanently disallowed for income tax purposes over the life of the 2019 Notes.

We have used and will continue to use in the future, the net proceeds from the issuance of our debt to commercialize KRYSTEXXA in the United States, including for marketing activities, to fund post-marketing commitments to the FDA and European Commission, to move forward with potential clinical development activities directed to possible label expansion for KRYSTEXXA in the U.S. and EU, to further develop and seek regulatory approval for KRYSTEXXA in jurisdictions outside the U.S. and EU, and for general corporate purposes, including working capital. As a result, our management has broad discretion to use the net proceeds from our debt issuances. Pending the application of the net proceeds, we invest the net proceeds in short-term U.S. Treasury money market funds and bank certificates of deposit.

We have sustained recurring losses and negative cash flows from operations. Over the past year, our operations have been funded through our debt, and to a lesser extent, sales of KRYSTEXXA. Based on our current commercialization plans for KRYSTEXXA, including our anticipated expenses relating to sales and marketing activities after giving effect to our reorganization plan, the cost of purchasing additional inventory, the cost of post-marketing commitments to the FDA and European Commission, the cost of potential clinical development activities directed to potential label expansion for KRYSTEXXA in the U.S. and EU, and the cost of reimbursement and KOL development activities in the EU, and assuming that we are able to generate KRYSTEXXA revenues at the level that we are currently expecting but excluding any cash which may be generated from the consummation of a partnership transaction for the EU or other markets, we believe that our available cash, cash equivalents and short-term investments will be sufficient to fund anticipated levels of operations into the second quarter of 2014. However, we have experienced and continue to experience negative operating margins and negative cash flows from operations. We expect that we will need to raise substantial additional capital to accomplish our business plan over the next several years.

 

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Funding Requirements

We continue to focus our efforts on commercializing KRYSTEXXA, supporting our development activities and exploring partnership opportunities while seeking regulatory approval outside of the U.S. and EU for KRYSTEXXA undertaking clinical trials and other research and development activities to comply with our post-marketing commitments to the FDA and European Commission, and to pursue label expansion for KRYSTEXXA:

Our future capital requirements will depend on many factors, including:

 

   

whether we are successful in executing our commercial strategy for KRYSTEXXA,

 

   

the cost of our post-approval commitments to the FDA and European Commission, including observational studies in both the U.S. and the EU and a REMS program in the U.S.,

 

   

the cost of clinical trials directed to potential expansion of clinical utility opportunities for KRYSTEXXA,

 

   

the cost of commercialization activities, including product marketing, sales and distribution,

 

   

the cost of manufacturing activities,

 

   

market acceptance of KRYSTEXXA by physicians and patients in this largely previously untreated patient population,

 

   

market acceptance of the price that we charge for KRYSTEXXA and under what conditions private and public payors will reimburse patients for KRYSTEXXA, and

 

   

the timing and cost involved in obtaining regulatory approvals for KRYSTEXXA in countries other than the U.S. and EU.

As we continue to commercialize KRYSTEXXA, we expect that our cash needs will increase, and we may need to seek additional funding through customary methods, or to explore a strategic licensing or co-promotion transaction in certain territories as a means of raising additional funding. Should we elect to seek additional funding through customary methods, we may not be able to obtain additional funds or, if such funds are available, such funding may not be on terms that are acceptable to us. If we raise additional funds by issuing equity securities, dilution to our then-existing stockholders will result. If we issue preferred stock, it would likely include a liquidation preference and other terms that would adversely affect our common stockholders. Our ability to raise additional funds through the issuance of debt securities or borrowings is limited by our current indebtedness, and any new indebtedness we may incur could become subject to substantial interest expense and financial and other covenants that could restrict our ability to take specified actions, such as incurring additional debt or making capital expenditures. If we explore a strategic licensing or co-promotion transaction, one may not be available to us or may only be available on terms that are not acceptable to us. If funds are not available on favorable terms, or at all, our business, results of operations and financial condition may be materially adversely affected and we may be required to curtail or cease operations.

Cash Flows

Cash used in operating activities for the year ended December 31, 2012 was $114.7 million, which substantially reflects our $118.3 million net loss for the period. Cash provided by investing activities of $8.2 million for the year ended December 31, 2012 reflects the excess of maturities of held-to-maturity securities consisting of bank certificates of deposit partially offset by purchases of these securities. Cash provided by financing activities of $43.1 million for the year ended December 31, 2012 primarily reflects net cash proceeds received from our May 2012 debt exchange financing transaction.

Cash used in operating activities of $116.8 million for the year ended December 31, 2011 primarily reflects our net loss for the period of $102 million. Cash used in investing activities of $37.3 million during the year

 

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ended December 31, 2011 reflects the purchase of held-to-maturity securities consisting of bank certificates of deposit. Cash provided by financing activities for the year ended December 31, 2011 was $223.5 million mainly due to the cash proceeds received from the issuance of our 2018 Convertible Notes of $222.7 million.

Contractual Obligations

Below is a table that presents our contractual obligations and commitments as of December 31, 2012:

 

     Payments Due by Period  

Contractual Obligations

   Total      Less
Than
One Year
     1-3
Years
     3-5
Years
     More
Than

5 Years
 
     (In thousands)  

Long-term debt obligations

   $ 293,382       $ —        $ —        $ —        $ 293,382   

Interest on long-term debt obligations

     123,710         10,944         31,760         52,658         28,348   

Post marketing commitments(1)

     55,800         8,800         32,100         11,400         3,500   

Purchase commitment obligations(2)

     23,562         16,292         2,913         4,357         —    

Operating lease obligations

     14,858         1,855         2,839         2,936         7,228   

Capital lease obligations

     233         60         127         46         —    

Other commitments(3)

     4,360         3,547         813        —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 515,905       $ 41,498       $ 70,552       $ 71,397       $ 332,458   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) Post marketing commitments represents our current cost estimates for our U.S. and EU post marketing commitments to the FDA and the European Commission, respectively. Our U.S. post marketing commitments are estimated to be approximately $28.6 million and include our U.S. observation study and Dialysis, Canine and immunogenicity studies. Our EU post marketing commitments are estimated to be approximately $27.2 million and include our EU observation study and Cohort database, weight, flare and registries studies.

 

(2) Purchase commitment obligations represent our contractually obligated minimum purchase requirements based on our current manufacturing and supply and other agreements in place with third parties. Our obligation to pay certain of these amounts may be reduced or eliminated based on future events.

 

(3) Other commitments include an aggregate of approximately $1.0 million in sales-based milestone payments that we achieved during the fourth quarter of 2012 and which were paid in cash to Duke and MVP in the first quarter of 2013. Other commitments also reflects the following severance and employee retention arrangements:

 

  i. As a part of the reorganization plan, we have committed to cash retention payments to certain key employees during 2013. Our potential commitment, if all recipients are employed at the time of payment, would be approximately $1.1 million during the second quarter of 2013.

 

  ii. In addition, in order to secure the retention of our senior executives key to the successful operations of our company and to prevent any disruption to the strategic development of our business, we granted cash and stock retention awards to our senior executives which vest as to 50% of the award on specific dates over a two-year period. Our potential commitment, if all of the executives are employed at the time of vesting, is $0.8 million during the first quarter of 2013 and $0.8 million during the first quarter of 2014.

 

  iii. Also included in other commitments is a $0.7 million severance commitment, for two former members of our senior management team which will conclude during 2013.

Excluded from the above table are employment agreements with eight senior officers. Under these agreements, the Company has committed to total aggregate base compensation per year of approximately $3.1 million plus other benefits and bonuses. These employment agreements generally have an initial-term of three years and are automatically renewed thereafter for successive one-year period unless either party gives the other notice of non-renewal.

 

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Also excluded from the above table are sales-based royalty payments to Duke and MVP due to the contingent nature of such obligations as the amounts and timing of these payments cannot be reasonably predicted. The royalty rate owed to Duke and MVP for any particular quarter ranges between 8% and 12% of net sales based on the amount of cumulative net sales made by us. We are also required to pay royalties of 20% of any milestones, revenues or other consideration we receive from sub-licensees during any quarter.

In addition, we have previously received financial support of research and development from OCS, and BIRD, of approximately $2.6 million for the development of KRYSTEXXA. As of December 31, 2012, our $0.6 million obligation to BIRD has been met and therefore, we will not be required to make any future royalty payments to BIRD.

We have a liability for unrecognized tax benefits of $2.7 million at December 31, 2012. We are unable to estimate the timing of any future payments for this liability, if any.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.

Recently Issued Accounting Pronouncements

There were no recently issued accounting standards that had or are expected to have a material impact on our results of operations, overall financial position, liquidity or cash flows.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk is the exposure to loss resulting from changes in interest rates, foreign currency exchange rates, commodity prices and equity prices. To date, our exposure to market risk has been limited. We do not currently hedge any market risk, although we may do so in the future. We do not hold or issue any derivative financial instruments for trading or other speculative purposes.

Interest Rate Risk

Our interest bearing assets consist of cash and cash equivalents and short-term investments which primarily consist of U.S. Treasury only money market funds and bank certificates of deposit. Our interest income is sensitive to changes in the general level of interest rates primarily in the United States, and other market conditions.

On May 9, 2012, we issued our 2019 Notes and warrants as discussed in Note 7 to our consolidated financial statements. The 2019 Notes have a cash coupon interest rate of 3% in the first three years and 12% per year thereafter.

In February 2011, we completed the sale of $230 million aggregate principal amount of 4.75% Senior Convertible Notes due 2018 as discussed in Note 7 to our consolidated financial statements.

Our interest rate exposure is isolated to the increase in the interest rate on our 2019 Notes from 3% to 12%, which occurs in 2015. Our 2018 Convertible Notes bear interest at a fixed rate of 4.75%, and as such, we have limited exposure to changes in interest rates.

 

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Index to Consolidated Financial Statements

 

     Page  

Report of Management

     73   

Reports of Independent Registered Public Accounting Firms

     74   

Consolidated Financial Statements:

  

Consolidated Balance Sheets as of December 31, 2012 and 2011

     76   

Consolidated Statements of Operations for the years ended December 31, 2012, 2011 and 2010

     77   

Consolidated Statements of Comprehensive Loss for the years ended December 31, 2012, 2011 and 2010

     78   

Consolidated Statements of Changes in Stockholders’ Equity (Deficit) for the years ended December 31, 2012, 2011 and 2010

     79   

Consolidated Statements of Cash Flows for the years ended December 31, 2012, 2011 and 2010

     80   

Notes to Consolidated Financial Statements

     81   

Schedule II—Valuations and Qualifying Accounts

     114   

 

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Report of Management

Management’s Report on Internal Control Over Financial Reporting

Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rule 13a-15(f) and 15d-15(f) promulgated under the Securities Exchange Act of 1934, as amended, as a process designed by, or under the supervision of, the Company’s principal executive and principal financial officers and effected by the Company’s board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles (GAAP) and includes those policies and procedures that:

 

   

Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the Company,

 

   

Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company, and

 

   

Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.

A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are 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 a cost-effective control system, no evaluation of internal control over financial reporting can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within our Company have been detected. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Management does not expect that the Company’s disclosure controls and procedures or its internal control over financial reporting will prevent or detect all errors and all fraud.

These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.

Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2012 based on the criteria described in the Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

Based on this assessment under the framework in the Internal Control—Integrated Framework, management, including the Company’s Chief Executive Officer and Chief Financial Officer, concluded that the Company’s internal control over financial reporting was effective as of December 31, 2012.

 

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Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders

Savient Pharmaceuticals, Inc.:

We have audited the accompanying consolidated balance sheets of Savient Pharmaceuticals, Inc. and subsidiaries (the Company) as of December 31, 2012 and 2011, and the related consolidated statements of operations, comprehensive loss, stockholders’ equity (deficit) and cash flows for the years ended December 31, 2012 and 2011. In connection with our audit of the consolidated financial statements, we have also audited the consolidated financial statement schedule, “Schedule II—Valuation and Qualifying Accounts,” for the years ended December 31, 2012 and 2011. These consolidated financial statements and consolidated financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Savient Pharmaceuticals, Inc. and subsidiaries as of December 31, 2012 and 2011, and the results of their operations and their cash flows for the years ended December 31, 2012 and 2011, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related consolidated financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein for the years ended December 31, 2012 and 2011.

/s/ KPMG LLP

Short Hills, New Jersey

April 1, 2013

 

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Report of Independent Registered Public Accounting Firm

To the Board of Directors and Stockholders

Savient Pharmaceuticals, Inc.

We have audited the accompanying consolidated statements of operations, comprehensive loss, stockholders’ equity, and cash flows for the year ended December 31, 2010 of Savient Pharmaceuticals, Inc. and subsidiaries. Our audit also included the financial statement schedule of Savient Pharmaceuticals, Inc. listed in Item 15(a) for the year ended December 31, 2010. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of operations of Savient Pharmaceuticals, Inc and subsidiaries and their cash flows for the year ended December 31, 2010, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule for the year ended December 31, 2010, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

/s/ McGladrey LLP

New York, NY

March 1, 2011

 

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SAVIENT PHARMACEUTICALS, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

 

     December 31,
2012
    December 31,
2011
 
ASSETS     

Current Assets:

    

Cash and cash equivalents

   $ 50,332      $ 114,094   

Short-term investments

     45,949        55,694   

Accounts receivable, net

     4,341        4,737   

Inventories, net

     4,325        10,924   

Prepaid expenses and other current assets

     4,367        4,186   
  

 

 

   

 

 

 

Total current assets

     109,314        189,635   
  

 

 

   

 

 

 

Property and equipment, net

     2,050        833   

Deferred financing costs, net

     4,969        4,068   

Restricted cash and other assets

     2,873        2,580   
  

 

 

   

 

 

 

Total assets

   $ 119,206      $ 197,116   
  

 

 

   

 

 

 
LIABILITIES AND STOCKHOLDERS’ DEFICIT     

Current Liabilities:

    

Accounts payable

   $ 3,435      $ 7,046   

Deferred revenues

     580        414   

Warrant liability

     2,935        —    

Accrued interest

     3,150        4,643   

Other current liabilities

     21,516        17,962   
  

 

 

   

 

 

 

Total current liabilities

     31,616        30,065   
  

 

 

   

 

 

 

Convertible notes, net of discount of $25,354 at December 31, 2012 and $54,542 at December 31, 2011

     97,087        175,458   

Senior secured notes, net of discount of $45,114 at December 31, 2012

     125,827        —    

Other liabilities

     2,973        3   

Stockholders’ Deficit:

    

Preferred stock—$.01 par value 4,000,000 shares authorized; no shares issued

     —         —    

Common stock—$.01 par value 150,000,000 shares authorized; 73,083,000 shares issued and outstanding at December 31, 2012 and 71,502,000 shares issued and outstanding at December 31, 2011

     731        715   

Additional paid-in-capital

     397,191        408,463   

Accumulated deficit

     (535,915     (417,603

Accumulated other comprehensive (loss) income

     (304 )     15   
  

 

 

   

 

 

 

Total stockholders’ deficit

     (138,297     (8,410
  

 

 

   

 

 

 

Total liabilities and stockholders’ deficit

   $ 119,206      $ 197,116   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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SAVIENT PHARMACEUTICALS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 

     Year Ended December 31,  
     2012     2011     2010  

Revenues:

      

Product sales, net

   $ 18,023      $ 9,565      $ 4,028   
  

 

 

   

 

 

   

 

 

 

Cost and expenses:

      

Cost of goods sold

     22,382        9,313        2,673   

Research and development

     26,238        24,790        32,358   

Selling, general and administrative

     88,501        90,898        24,981   
  

 

 

   

 

 

   

 

 

 
     137,121        125,001        60,012   
  

 

 

   

 

 

   

 

 

 

Operating loss

     (119,098     (115,436     (55,984

Investment income, net

     164        150        116   

Interest expense on debt

     (23,892 )     (16,357 )     —     

Gain on extinguishment of debt

     21,800        —          —     

Other income (expense), net

     2,714        2,828        (17,250
  

 

 

   

 

 

   

 

 

 

Loss before income taxes

     (118,312     (128,815     (73,118

Income tax benefit

     —          (26,788     (9
  

 

 

   

 

 

   

 

 

 

Net loss

   $ (118,312   $ (102,027   $ (73,109
  

 

 

   

 

 

   

 

 

 

Loss per common share:

      

Basic and diluted

   $ (1.67   $ (1.46   $ (1.08
  

 

 

   

 

 

   

 

 

 

Weighted-average number of common shares:

      

Basic and diluted

     70,819        70,117        67,435   

The accompanying notes are an integral part of these consolidated financial statements.

 

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SAVIENT PHARMACEUTICALS, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(In thousands)

 

     Year Ended December 31,  
     2012     2011     2010  

Net loss

   $ (118,312 )   $ (102,027 )   $ (73,109 )

Other comprehensive (loss) income:

      

Unrealized loss on securities

     —          (1 )     (2 )

Foreign currency translation, net

     (319 )     15        —     
  

 

 

   

 

 

   

 

 

 

Other comprehensive (loss) income, net

     (319 )     14        (2 )
  

 

 

   

 

 

   

 

 

 

Comprehensive loss

   $ (118,631 )   $ (102,013 )   $ (73,111 )
  

 

 

   

 

 

   

 

 

 

 

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SAVIENT PHARMACEUTICALS, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (Deficit)

(In thousands)

 

     Common Stock     Accumulated
Deficit
    Accumulated
Other
Comprehensive
Income (Loss)
    Total
Stockholders’
Equity
(Deficit)
 
     Shares     Par
Value
    Additional
Paid-in-
Capital
                   

Balance, December 31, 2009

     66,933      $ 669      $ 305,994      $ (242,467   $ 3      $ 64,199   

Net loss

     —          —          —          (73,109     —          (73,109

Restricted stock grants

     69        1        —          —          —          1   

Amortization of restricted stock

     —          —          4,374        —          —          4,374   

Forfeiture of restricted stock grants

     (6     —          —          —          —          —     

Shares repurchased and cancelled

     (80     (1     (1,281 )     —          —          (1,282 )

Issuance of common stock

     30        —          326        —          —          326   

ESPP compensation expense

     —          —          341        —          —          341   

Stock option compensation expense

     —          —          3,069        —          —          3,069   

Warrant exercise

     3,040        31        49,516        —          —          49,547   

Exercise of stock options

     273        3        1,800        —          —          1,803   

Other comprehensive loss

     —          —          —          —          (2     (2 )
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2010

     70,259      $ 703      $ 364,139      $ (315,576   $ 1      $ 49,267   

Net loss

     —           —          —          (102,027 )     —          (102,027

Restricted stock grants

     1,174        11        (11 )     —          —          —     

Amortization of restricted stock

     —          —          3,317        —          —          3,317   

Forfeiture of restricted stock grants

     (119 )     —          1        —          —          1   

Issuance of common stock

     155        1        631        —          —          632   

ESPP compensation expense

     —          —          795        —          —          795   

Stock option compensation expense

     —          —          3,788        —          —          3,788   

Exercise of stock options

     33        —          169        —          —          169   

Convertible note conversion option, net of tax of $22,717

     —          —          35,634        —          —          35,634   

Other comprehensive income

     —          —          —          —          14        14   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2011

     71,502      $ 715      $ 408,463      $ (417,603 )   $ 15      $ (8,410 )

Net loss

     —          —          —          (118,312     —          (118,312 )

Restricted stock grants

     1,855        19        (19     —          —          —     

Amortization of restricted stock

     —          —          1,980        —          —          1,980   

Forfeiture of restricted stock grants

     (764     (8 )     8        —          —          —     

Issuance of common stock

     490        5        497        —          —          502   

ESPP compensation expense

     —          —          923        —          —          923   

Stock option compensation expense

     —          —          4,029        —          —          4,029   

Consideration for equity option component of extinguished convertible debt

     —          —          (18,690     —          —          (18,690

Other comprehensive loss

     —          —          —          —          (319 )     (319 )
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2012

     73,083      $ 731      $ 397,191      $ (535,915   $ (304 )   $ (138,297
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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SAVIENT PHARMACEUTICALS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

     Year Ended December 31,  
     2012     2011     2010  

Cash flows from operating activities:

      

Net loss

   $ (118,312   $ (102,027   $ (73,109

Adjustments to reconcile net loss to net cash used in operating activities:

      

Depreciation and amortization

     448        392        418   

Accretion of debt discount

     12,312        5,722        —     

Gain on extinguishment of debt

     (21,800     —          —     

Valuation change in warrant liability

     (2,347 )     —          16,807   

Amortization of deferred financing costs

     770        620        —     

Stock compensation expense

     6,932        7,900        7,784   

Deferred income taxes

     —          (22,717     —     

Other

     (2     —          —     

Changes in:

      

Accounts receivable, net

     396        (3,828 )     (557

Inventories, net

     6,599        (7,784 )     (2,555

Recoverable income taxes

     —          —          2,006   

Prepaid expenses and other current assets

     (6 )     (1,079 )     (1,013

Other assets

     (443 )     4        11   

Accounts payable

     (3,611 )     5,445        (6,314

Accrued interest on debt

     (1,493 )     4,643        —     

Other current liabilities

     3,633        1,939        3,550   

Deferred revenues

     166        (14     355   

Other liabilities

     2,013        (6,096     190   
  

 

 

   

 

 

   

 

 

 

Net cash used in operating activities

     (114,745     (116,880     (52,427
  

 

 

   

 

 

   

 

 

 

Cash flows from investing activities:

      

Proceeds from maturities of held-to-maturity securities

     66,450        30,413        13,348   

Purchases of held-to-maturity securities

     (56,705 )     (66,038 )     (33,417

Capital expenditures

     (1,678     (416     (234

Changes in restricted cash

     150        (1,300     —     
  

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) investing activities

     8,217        (37,341 )     (20,303
  

 

 

   

 

 

   

 

 

 

Cash flows from financing activities:

      

Proceeds from issuance of debt

   $ 42,647      $ 222,697      $ —     

Proceeds from issuance of common stock

     502        803        2,130   

Proceeds from warrant exercises

     —          —          8,501   

Repurchase and retirement of common stock

     —          —          (1,282
  

 

 

   

 

 

   

 

 

 

Net cash provided by financing activities

     43,149        223,500        9,349   

Effect of exchange rate changes

     (383 )     24        —     
  

 

 

   

 

 

   

 

 

 

Net (decrease) increase in cash and cash equivalents

     (63,762     69,303        (63,381

Cash and cash equivalents at beginning of period

     114,094        44,791        108,172   
  

 

 

   

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 50,332      $ 114,094      $ 44,791   
  

 

 

   

 

 

   

 

 

 

Supplementary Information

      

Other information:

      

Income tax paid

   $ —        $ —        $ —     
  

 

 

   

 

 

   

 

 

 

Interest paid

   $ 12,330      $ 5,395      $ 79   
  

 

 

   

 

 

   

 

 

 

Reclassification from warrant liability to APIC on exercise of warrants

   $ —        $ —        $ 41,046   
  

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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SAVIENT PHARMACEUTICALS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1—Organization and Summary of Significant Accounting Policies

Savient Pharmaceuticals, Inc., and its wholly-owned Subsidiaries (“Savient” or “the Company”), is a specialty biopharmaceutical company focused on commercializing KRYSTEXXA® (pegloticase) in and outside of the United States, including the European Union. KRYSTEXXA was approved for marketing by the U.S. Food and Drug Administration (the “FDA”) on September 14, 2010 and became commercially available in the United States by prescription on December 1, 2010, when the Company commenced sales and shipments to its network of specialty and wholesale distributors. The Company completed a promotional launch of KRYSTEXXA in the United States during the first quarter of 2011 with its sales force commencing field promotion to health care providers on February 28, 2011. On January 7, 2013, the Company’s wholly owned subsidiary, Savient Pharma Ireland Ltd., announced that the European Commission granted a marketing authorization for KRYSTEXXA in the European Union (“EU”), for the treatment of severe debilitating chronic tophaceous gout in adult patients who may also have erosive joint involvement and who have failed to normalize serum uric acid with xanthine oxidase inhibitors at the maximum medically appropriate dose or for whom these medicines are contraindicated.

The Company also sells and distributes branded and generic versions of oxandrolone, a drug used to promote weight gain following involuntary weight loss. The Company launched its authorized generic version of oxandrolone in December 2006 in response to the approval and launch of generic competition to Oxandrin®. The introduction of oxandrolone generics has led to significant decreases in demand for Oxandrin and the Company’s authorized generic version of oxandrolone. In response to the generic competition, the Company has scaled back its business activities and eliminated its sales force related to these products. As a result, Oxandrin has become a less significant product for the Company’s operating results. In addition, the Company’s contract agreement with its third-party manufacturer has expired and the Company no longer actively markets these products. The Company has and will continue to explore divestiture or out-license opportunities for these products.

Savient was founded in 1980 to develop, manufacture and market products through the application of genetic engineering and related biotechnologies.

The Company currently operates within one “Specialty Pharmaceutical” segment which includes sales of KRYSTEXXA, Oxandrin and oxandrolone, and the research and development activities of KRYSTEXXA. The Company conducts its administration, finance, business development, clinical development, sales, marketing, quality assurance and regulatory affairs activities primarily from its corporate headquarters in Bridgewater, New Jersey.

Basis of consolidation

The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Savient Pharma Holdings, Inc., Savient Pharma Ireland Limited and Savient International Limited.

Reclassifications

Certain prior period amounts have been reclassified to conform to current year presentations.

Use of estimates in preparation of financial statements

The preparation of financial statements in conformity with generally accepted accounting principles (“GAAP”) requires management 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

 

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SAVIENT PHARMACEUTICALS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 1—Organization and Summary of Significant Accounting Policies—continued

 

reported amounts of revenues and expenses during the reporting period. On an ongoing basis, the Company evaluates its estimates, including those related to investments, accounts receivable, reserve for product returns, inventories, rebates, property and equipment, share-based compensation and income taxes. The estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities. Results may differ from these estimates due to actual outcomes differing from those on which the Company bases its assumptions.

Cash and cash equivalents

Cash and cash equivalents are highly liquid investments, which include cash on hand and money market funds with weighted-average maturities at the date of purchase of 90 days or less. The Company invests its excess cash in short-term investments primarily in highly liquid, interest-bearing, U.S. Treasury money market funds and bank certificates of deposit with maturities of less than one year, in order to preserve principal.

Restricted cash

The Company’s restricted cash of $2.4 million and $2.6 million at December 31, 2012 and 2011, respectively, represents required security deposits in connection with the Company’s lease arrangements for its administrative offices.

Fair value of financial instruments

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Company is required by U.S. GAAP to disclose the fair value of certain financial instruments including those that are not carried at fair value. See Note 3 to the consolidated financial statements for further discussion of the fair value of financial instruments.

Investments

The Company classifies investments as “available-for-sale securities,” “held-to-maturity securities” or “trading securities.” Investments that are purchased and held principally for the purpose of selling them in the near-term are classified as trading securities and marked to fair value through earnings. Investments in debt securities that the Company has the positive intent and ability to hold to maturity are carried at amortized cost and classified as held-to-maturity. Investments not classified as trading securities or held-to-maturity securities are considered to be available-for-sale securities. Changes in the fair value of available-for-sale securities are reported as a component of accumulated other comprehensive income (loss) in the consolidated statements of stockholders’ equity and are not reflected in the consolidated statements of operations until a sale transaction occurs or when declines in fair value are deemed to be other-than-temporary (“OTT”). The Company did not carry any available-for-sale securities at December 31, 2012 and 2011. The Company’s held-to-maturity securities presented in the Company’s consolidated balance sheets as short-term investments at December 31, 2012 and 2011, consist of certificates-of-deposit of $45.9 million and $55.7 million, respectively. The Company’s held-to-maturity securities had maturity dates of less than one year at December 31, 2012 and 2011. Cost is equal to estimated fair value. There were no sales of investments for the years ended December 31, 2012, 2011 and 2010.

 

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SAVIENT PHARMACEUTICALS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 1—Organization and Summary of Significant Accounting Policies—continued

 

Other-Than-Temporary Impairment Losses on Investments

The Company regularly monitors its available-for-sale portfolio to evaluate the necessity of recording impairment losses for OTT declines in the fair value of investments. The impairment of a debt security is considered OTT if an entity concludes that it intends to sell the impaired security, that it is more likely than not that it will be required to sell the security before the recovery of its cost basis or that it does not otherwise expect to recover the entire cost basis of the security. Management makes this determination through the consideration of various factors such as management’s intent and ability to retain an investment for a period of time sufficient to allow for any anticipated recovery in market value. OTT impairment losses result in a permanent reduction of the cost basis of an investment.

Accounts receivable, net

The Company extends credit to customers based on its evaluation of the customer’s financial condition. The Company generally does not require collateral from its customers when credit is extended. Accounts receivable are usually due within 30 days and are stated at amounts due from customers net of an allowance for doubtful accounts. Accounts outstanding longer than the contractual payment terms are considered past due. The Company assesses the need for an allowance by considering a number of factors, including the length of time trade accounts receivable are past due, previous loss history, the customer’s current ability to pay its obligation and the condition of the general economy and the industry as a whole. The Company will write-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to recovery of accounts written off. In general, the Company has experienced minimal collection issues with its large customers. At December 31, 2012 and 2011, the balance of the Company’s allowance for doubtful accounts was zero and $28,000, respectively.

Inventories, net

The Company states inventories at the lower of cost or market. Cost is determined based on actual cost. The Company reviews the composition of inventory at each reporting period in order to identify obsolete, slow-moving, quantities in excess of expected demand, or otherwise non-saleable items. If non-saleable items are observed and there are no alternate uses for the inventory, the Company will record a write-down to net realizable value in the period that the decline in value is first recognized. These valuation adjustments are recorded based upon various factors for the Company’s products, including the level of product manufactured by the Company, the level of product in the distribution channel, current and projected product demand, the expected shelf life of the product and firm inventory purchase commitments.

Property and equipment, net of accumulated depreciation and amortization

Property and equipment are stated at cost. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets, ranging from three to ten years. Leasehold improvements are amortized over the lives of the respective leases, which are shorter than the useful lives. Maintenance and repairs are charged to operations as incurred, while expenditures for improvements which extend the life of an asset are capitalized.

Impairment of Long-Lived Assets

The Company assesses changes in economic, regulatory and legal conditions and makes assumptions regarding estimated future cash flows in evaluating the value of its property, plant and equipment. The Company periodically evaluates whether current facts or circumstances indicate that the carrying values of its long-lived

 

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Note 1—Organization and Summary of Significant Accounting Policies—continued

 

assets to be held and used may not be recoverable. If such circumstances are determined to exist, an estimate of the undiscounted future cash flows of these assets, or appropriate asset groupings, is compared to the carrying value to determine whether impairment exists. If the asset is determined to be impaired, the loss is measured based on the difference between the asset’s fair value and its carrying value.

Long-Term Obligations

The Company accounts for its senior secured notes due 2019 (the “2019 Notes”) and its 4.75% convertible notes due 2018 (the “2018 Convertible Notes”) in accordance with the guidance as set forth in FASB ASC 470, Debt and ASC 815 Derivatives and Hedging. On May 9, 2012, holders of the Company’s currently outstanding 2018 Convertible Notes exchanged approximately $108.0 million (principal amount) of such notes for Units, comprised of 2019 Notes, having a principal amount upon full accretion equivalent to the principal amount of the corresponding exchanged 2018 Convertible Notes, and warrants to purchase approximately 4.0 million shares of our common stock at an exercise price of $1.863 per share. Accordingly, the Company recorded a gain of $21.8 million upon the extinguishment of the 2018 Convertible Notes. The gain results from the carrying value of the 2018 Convertible Notes exceeding its fair value. The debt issuance costs related to the 2018 Convertible Notes that were exchanged in the amount of approximately $2.2 million are netted against the gain. The 2019 Notes were recorded at fair value and contain certain redemption features that are considered to be embedded derivatives under ASC 815 and require bifurcation from the host debt. In accordance with FASB ASC 815, Derivatives and Hedging, the Company has separately accounted for the redemption features as embedded derivatives, which are measured at fair value and included as a component of other liabilities on the Company’s consolidated balance sheets. Changes in the fair value of the embedded derivatives are recognized in earnings. See Note 7 to the consolidated financial statements for further discussion of the Company’s 2019 Notes.

The debt and equity components of the Company’s 2018 Convertible Notes are bifurcated and accounted for separately based on the authoritative accounting guidance as set forth in ASC 470-20, Debt with Conversion and Other Options, as the 2018 Convertible Notes can be cash settled upon the occurrence of specific corporate events. The debt component of the 2018 Convertible Notes, which excludes the associated equity conversion feature, was recorded at fair value on the issuance date. The equity component, representing the difference between the amount allocated to the debt component and the proceeds received upon issuance of the 2018 Convertible Notes, is recorded in additional paid-in-capital in the consolidated balance sheets. The discounted carrying value of the 2018 Convertible Notes resulting from the bifurcation is subsequently accreted back to its principal amount through the recognition of non-cash interest expense. See Note 7 to the consolidated financial statements for further discussion of the Company’s 2018 Convertible Notes.

Debt Issuance Costs, net

Debt issuance costs are capitalized as incurred and amortized using the effective interest method over the expected life of the Company’s debt. The amortization of debt issuance costs is included in interest expense (see note 7). The unamortized debt issuance costs balance at December 31, 2012 and 2011 was $5.8 million and $4.8 million, respectively.

Revenue recognition

The Company generates revenue from product sales. Revenue is not recognized until it is realized or realizable and earned. Revenue is realized or realizable and earned when all of the following criteria are met: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred or services have been rendered, (iii) the price to the buyer is fixed and determinable, and (iv) collectability is reasonably assured.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 1—Organization and Summary of Significant Accounting Policies—continued

 

Given the Company’s limited sales history for KRYSTEXXA coupled with the product being a new entry into its market, the Company has determined that the shipments of KRYSTEXXA made to specialty distributors do not meet the criteria for revenue recognition at the time of shipment, and, accordingly, such shipments are accounted for using the sell-through method. Under the sell-through method, the Company does not recognize revenue upon shipment of KRYSTEXXA to specialty distributors. For these product sales, the Company invoices the specialty distributor and records deferred revenue equal to the gross invoice price. The Company then recognizes revenue when KRYSTEXXA is sold through, or upon shipment of the product from the specialty distributors to their customers, including doctors and infusion sites. Because of the price of KRYSTEXXA, the short period from sale of product to patient infusion and limited product return rights, KRYSTEXXA distributors and their customers generally carry limited inventory. The Company also sells KRYSTEXXA to wholesalers whereby the Company drop ships the product directly to hospitals. As there is limited risk of returns from hospitals as infusions will be taking place in their facilities, revenue is recorded when KRYSTEXXA has been received at the hospital and title has transferred in accordance with the terms of sale.

Oxandrin product sales are generally recognized when title to the product has transferred to customers in accordance with the terms of the sale. The Company ships its authorized generic, oxandrolone, to its distributor and accounts for these shipments on a consignment basis until product is sold into the retail market. The Company defers the recognition of revenue related to these shipments until it confirms that the product has been sold into the retail market and all other revenue recognition criteria have been met.

Gross to Net Sales Accruals.

The Company’s net product revenues represent gross product revenues less allowances for returns, Medicaid rebates, other government rebates and chargebacks, discounts, and distribution fees.

Allowance for Product returns

Upon sale of Oxandrin and oxandrolone, the Company estimates an allowance for future returns. In order to reasonably estimate future returns, the Company analyzes both quantitative and qualitative information including, but not limited to, actual return rates by lot productions, the level of product manufactured by the Company, the level of product in the distribution channel, expected shelf life of the product, current and projected product demand, the introduction of new or generic products that may erode current demand, and general economic and industry-wide indicators.

Allowances for Medicaid, other government rebates and other rebates

The Company’s contracts with Medicaid and other government agencies such as the Federal Supply System commit the Company to providing those agencies with its most favorable pricing. This ensures that the Company’s products remain eligible for purchase or reimbursement under these government-funded programs. Based upon the Company’s contracts and the most recent experience with respect to sales of KRYSTEXXA, Oxandrin and oxandrolone through each of these channels, the Company provides an allowance for rebates. The Company monitors the sales trends and adjusts the rebate percentages on a regular basis to reflect the most recent rebate experience.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 1—Organization and Summary of Significant Accounting Policies—continued

 

Chargeback Accruals

Chargeback accruals are based on two types of transactions. The first type of chargeback accrual would be reflective of the difference between product acquisition prices paid by wholesalers and lower government contract pricing paid by eligible customers covered under federally qualified programs. Additionally, we record chargeback accruals relating to special distributors, to price protect doctors and infusion suites who administer in office infusions of KRYSTEXXA to Medicare patients, due to the delay in governmental reporting of KRYSTEXXA price increases which impacts reimbursement.

Sales Discount Accruals

Sales discount accruals are based on prompt pay incentive discounts extended to customers.

Distributor Fee Accruals

Distributor service fee accruals are based on contractual fees to be paid to Company’s wholesale distributors for services provided.

Free Goods

The Company records the cost of free goods relating to its Patient Assistance Program (“PAP”) in Cost of Goods Sold.

Research and Development

The Company’s research and development expense includes costs associated with the research and development of the Company’s KRYSTEXXA product prior to regulatory approval and regulatory authority-related post-marketing commitments for approved products (KRYSTEXXA post-approval).

Prior to the regulatory approval of KRYSTEXXA, manufacturing costs associated with third-party contractors for validation and commercial batch production, process technology transfer, quality control and stability testing, raw material purchases, overhead expenses and facilities costs were recorded as research and development and expensed as incurred as future use could not be determined, and there was uncertainty surrounding regulatory approval. Following regulatory approval of KRYSTEXXA by the FDA and European Commission, the Company capitalizes certain manufacturing costs as inventory.

Clinical trial costs have been another significant component of research and development expenses and all of the Company’s clinical studies are performed by third-party contract research organizations (“CROs”). The Company accrues costs for clinical studies performed by CROs that are milestone or event driven in nature and based on reports and invoices submitted by the CRO. These expenses are based on patient enrollment and include other costs relating to the administration of the clinical trials including s CRO services, clinical sites, investigators, testing facilities and patients for participating in the Company’s clinical trials.

Non-refundable advance payments for future research and development activities are deferred and capitalized. Such amounts are recognized as an expense as the goods are delivered or the related services are performed.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 1—Organization and Summary of Significant Accounting Policies—continued

 

Selling, General and Administrative

The Company’s selling, general and administrative expense primarily includes expenses associated with the commercialization of approved products (primarily KRYSTEXXA) and general and administrative costs to support the Company’s operations.

Share-based compensation

The Company has share-based compensation plans in place and records the associated stock-based compensation expense over the requisite service period. These share-based compensation plans and related compensation expense are discussed more fully in Note 11 to the consolidated financial statements.

Compensation expense for service-based stock options is charged against operations on a straight-line basis between the grant date for the option and the vesting period, which is generally four years. The Company estimates the fair value of all service-based stock option awards as of the grant date by applying the Black-Scholes option pricing valuation model. The application of this valuation model involves assumptions that are highly subjective, judgmental and sensitive in the determination of compensation cost. Compensation cost is adjusted for estimated pre-vesting forfeitures. Options granted have a term of 10 years from the grant date.

Restricted stock and restricted stock units (“RSU’s”) that are service-based are recorded as deferred compensation and amortized into compensation expense on a straight-line basis over the vesting period, which ranges from three to four years in duration. Compensation cost for service-based restricted stock and RSU’s is based on the grant date fair value of the award, which is the closing market price of the Company’s common stock on the grant date multiplied by the number of shares awarded.

Compensation expense for restricted stock and stock option awards that contain performance conditions, the vesting of which is contingent upon the achievement of various sales and other specific strategic objectives for senior management, is based on the grant date fair value of the award. The grant date fair value of restricted stock awards that contain performance conditions is equal to the closing market price of the Company’s common stock on the grant date multiplied by the number of shares awarded. Compensation expense for restricted stock and stock option awards that contain performance conditions is recorded over the implicit or explicit requisite service period based on management’s assumptions of when the awards are expected to vest. Previously recognized compensation expense for restricted stock and stock option awards that contain performance conditions is fully reversed if performance targets are not satisfied. The Company continually assesses the probability of the attainment of performance conditions and adjusts compensation expense accordingly over the remainder of the requisite service period.

Compensation cost for restricted stock awards and stock options that contain a market condition is based on the grant date fair value of the award. The Company utilizes a Monte Carlo simulation model to estimate the grant date fair value of these awards. Compensation expense is recorded over the implicit, explicit requisite or derived service period.

Income taxes

Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis and net operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable

 

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Note 1—Organization and Summary of Significant Accounting Policies—continued

 

income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in operations in the period that includes the enactment date. The Company regularly reviews its deferred tax assets for recoverability and establishes a valuation allowance based on historical taxable income, projected future taxable income, applicable tax strategies, and the expected timing of the reversals of existing temporary differences. A valuation allowance is provided when it is more likely than not that some portion or all of the deferred tax assets will not be realized. As of December 31, 2012, based on the net operating loss generated in 2012 and historical losses and the uncertainty of profitability in the near future, the Company concluded that it would maintain a full valuation allowance on its deferred tax assets net of deferred tax liabilities and those assets that are reserved by a liability for unrecognized tax benefits. The Company maintained a valuation allowance as of December 31, 2012 of $227.8 million. The increase in valuation allowance in 2012 compared to 2011 of $46.3 million is primarily due to an increase in net operating loss carry forwards and tax credits and the uncertainty that these additional deferred tax assets will be realized.

The Company uses judgment in determining income tax provisions and in evaluating its tax positions. Additional provisions for income taxes are established when, despite the belief that tax positions are fully supportable, there remain certain positions that do not meet the minimum probability threshold, which is a tax position that is more-likely-than-not to be sustained upon examination by the applicable taxing authority. The Company is examined by Federal and state tax authorities. The Company regularly assesses the potential outcomes of these examinations and any future examinations for the current or prior years in determining the adequacy of its provision for income taxes. The Company continually assesses the likelihood and amount of potential adjustments and adjusts the income tax provision, the current tax liability and deferred taxes in the period in which the facts that give rise to a revision become known.

Earnings (loss) per common share

The Company accounts for and discloses net earnings (loss) per share using the treasury stock method. Net earnings (loss) per common share, or basic earnings (loss) per share, is computed by dividing net earnings (loss) by the weighted-average number of common shares outstanding. Net earnings (loss) per common share assuming dilutions, or diluted loss per share, is computed by reflecting the potential dilution from the exercise of in-the-money stock options and non-vested restricted stock and restricted stock units. See Note 10 to the Company’s consolidated financial statements for further discussion of the Company’s earnings (loss) per common share.

Concentration of credit risk

Financial instruments that potentially subject us to concentrations of credit risk consist principally of cash and cash equivalents, short-term and long-term investments and accounts receivable. We place our cash and cash equivalents and short-term investments with high quality financial institutions, which limits the amount of credit exposure to any one institution. In addition, the Company’s cash balances held at any one institution are within the insured and guaranteed Federal Deposit Insurance Corporation (“FDIC”) limits. A portion of our cash is held outside the United States. As a result, we are subject to limited market risk associated with changes in foreign exchange rates. The cash maintained in foreign based commercial banks is insured by the governments where the foreign banking institutions are based and within insurable limits. At December 31, 2012 and 2011, cash held by our foreign subsidiary located in Ireland totaled approximately $1.0 million and $0.5 million, respectively. This cash is included in total cash and cash equivalents in our consolidated balance sheets. Consequently, it is not available for United States activities.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 1—Organization and Summary of Significant Accounting Policies—continued

 

Generally, we do not require collateral from our customers; however, collateral or other security for accounts receivable may be obtained in certain circumstances when considered. Concentration of credit risk with respect to accounts receivable is discussed further in Note 15 to our consolidated financial statements.

Foreign Currency Translation/Transactions

The Company has determined that the functional currency for its Irish foreign subsidiary is the local currency which is the Euro. For financial reporting purposes, assets and liabilities denominated in foreign currencies are translated at current exchange rates and profit and loss accounts are translated at weighted-average exchange rates. Resulting translation gains and losses are included as a separate component of stockholders’ equity as accumulated other comprehensive income or loss. Gains or losses resulting from transactions entered into in other than the functional currency are recorded as foreign exchange gains and losses in the consolidated statements of operations.

Note 2—Recently Issued Accounting Pronouncements

The Company believes that there were no recently issued accounting standards that had or are expected to have a material impact on the Company’s results of operations, overall financial position, liquidity or cash flows.

Note 3—Fair Value of Financial Instruments

The Company categorizes its financial instruments into a three-level fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). If the inputs used to measure fair value fall within different levels of the hierarchy, the category level is based on the lowest priority level input that is significant to the fair value measurement of the instrument.

Financial assets recorded at fair value on the Company’s consolidated balance sheets are categorized as follows:

Level 1: Unadjusted quoted prices for identical assets in an active market.

Level 2: Quoted prices in markets that are not active or inputs that are observable either directly or indirectly for substantially the full-term of the asset. Level 2 inputs include the following:

 

   

quoted prices for similar assets in active markets,

 

   

quoted prices for identical or similar assets in non-active markets,

 

   

inputs other than quoted market prices that are observable, and

 

   

inputs that are derived principally from or corroborated by observable market data through correlation or other means.

Level 3: Prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. They reflect management’s own assumptions about the assumptions a market participant would use in pricing the asset.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 3—Fair Value of Financial Instruments—continued

 

The following table presents the Company’s cash and cash equivalents, investments, embedded derivatives and warrant liability including the hierarchy for its financial instruments measured at fair value on a recurring basis at December 31, 2012 and 2011:

 

December 31, 2012

   Carrying
Amount
     Estimated
Fair Value
     Level 1      Level 2      Level 3  
     (In thousands)  

Assets:

              

Cash and cash equivalents:

              

Cash

   $ 14,221       $ 14,221       $ 14,221       $ —        $ —    

Money market funds

     36,111         36,111         36,111         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total cash and cash equivalents

     50,332         50,332         50,332         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Short-term investments:

              

Certificates of deposit

     45,949         45,949         45,949         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Restricted cash:

              

Certificates of deposit

     2,430         2,430         2,430         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 98,711       $ 98,711       $ 98,711       $ —        $ —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Liabilities:

              

Embedded derivatives:

              

Debt redemption features

   $ 848       $ 848       $ —        $ —        $ 848   

Warrant liability

     2,935         2,935         —          —          2,935   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 3,783       $ 3,783       $ —        $ —        $ 3,783   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

December 31, 2011

   Carrying
Amount
     Estimated
Fair Value
     Level 1      Level 2      Level 3  
     (In thousands)  

Assets:

              

Cash and cash equivalents:

              

Cash

   $ 8,680       $ 8,680       $ 8,680       $ —        $ —    

Money market funds

     105,414         105,414         105,414         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total cash and cash equivalents

     114,094         114,094         114,094         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Short-term investments:

              

Certificates of deposit

     55,694         55,694         55,694         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Restricted cash:

              

Certificates of deposit

     2,580         2,580         2,580         —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 172,368       $ 172,368       $ 172,368       $ —        $ —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

There were no transfers between levels in the fair value hierarchy during any of the periods presented herein.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 3—Fair Value of Financial Instruments—continued

 

Level 3 Valuation

Financial assets or liabilities are considered Level 3 when their fair values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable. The following table provides a summary of the changes in fair value of the Company’s financial liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the year ended December 31, 2012:

 

     Warrant
Liability
     Debt
Redemption
Features
 
     (In thousands)  

Level 3

     

Balance at December 31, 2011

   $ —        $ —    

Valuation on May 9, 2012 (date of debt exchange transaction, see Note 7)

     5,282         948   

Unrealized gain

     2,347         100  
  

 

 

    

 

 

 

Balance at December 31, 2012

   $ 2,935       $ 848   
  

 

 

    

 

 

 

The Company determines the fair value of its warrant liability based on the Black-Sholes pricing model. Historical information is the primary basis for the selection of the expected volatility. The risk-free interest rate is selected based upon yields of United States Treasury issues with a term equal to the expected term of the warrants. The expected term is derived from the remaining contractual term of the warrant. The warrant liability is marked-to-market each reporting period with the change in fair value recorded as a gain or loss within other expense or income, net on the Company’s consolidated statements of operations.

In accordance with FASB ASC 815, Derivatives and Hedging, the Company has separately accounted for certain contingent debt features of its senior secured 2019 Notes, as described more fully in Note 7, as embedded derivative instruments, which are measured at fair value. Changes in the fair value of these embedded derivatives are recognized in earnings. Key inputs into the valuation model are interest rate volatility, risk-free interest rates, bond yields, credit spreads and certain probabilities determined by management.

Disclosure of Fair Value of Financial Instruments

The Company’s financial instruments mainly consist of cash and cash equivalents, accounts receivable, accounts payable, other current liabilities and debt obligations. The carrying amounts of the Company’s cash equivalents, accounts receivable, current liabilities and accounts payable approximate their fair value due to the short-term nature of these instruments.

At December 31, 2012, $170.9 million in principal amount of the 2019 Notes remained outstanding, which had a carrying value of $125.8 million and a fair value of $118.2 million.

At December 31, 2012, $122.4 million in principal amount of the 2018 Convertible Notes remained outstanding, which had a carrying value of $97.1 million and a fair value of $22.0 million. At December 31, 2011, $230.0 million principal amount of the 2018 Convertible Notes was outstanding, which had a carrying value of $175.5 million and a fair value of $116.4 million. The fair value of the 2018 Convertible Notes at December 31, 2012 and December 31, 2011 was based upon the quoted market prices (Level 1) at December 31, 2012 and December 30, 2011, respectively, which was the last trading day of the each respective period ended.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 3—Fair Value of Financial Instruments—continued

 

See Note 7 to the Company’s Consolidated Financial Statements for further discussion of the 2018 Convertible Notes, and the 2019 Notes and the exchange agreement.

Note 4—Inventories, Net

At December 31, 2012 and 2011, the Company’s inventories at cost, net of reserves, were as follows:

 

     Year Ended
December 31,
 
     2012     2011  
     (In thousands)  

Raw materials

   $ 2,949      $ 3,146   

Work in progress

     7,331        10,828   

Finished goods

     1,282        1,621   
  

 

 

   

 

 

 

Inventory at cost

     11,562        15,595   

Inventory reserves

     (7,237     (4,671
  

 

 

   

 

 

 

Total

   $ 4,325      $ 10,924   
  

 

 

   

 

 

 

Note 5—Property and Equipment, Net

At December 31, 2012 and 2011, the Company’s property and equipment, net of accumulated depreciation and amortization was as follows:

 

     December 31,  
     2012     2011  
     (In thousands)  

Office equipment

   $ 3,071      $ 3,044   

Office equipment—capital leases

     231        332   

Leasehold improvements

     3,015        1,546   
  

 

 

   

 

 

 
     6,317        4,922   

Accumulated depreciation and amortization

     (4,267     (4,089
  

 

 

   

 

 

 

Total

   $ 2,050      $ 833   
  

 

 

   

 

 

 

Depreciation and amortization expense was $0.4 million for each of the years ended December 31, 2012, 2011 and 2010, respectively.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Note 6—Other Current Liabilities